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HDFC: Extraordinary buoys bottomline - Views on News from Equitymaster

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HDFC: Extraordinary buoys bottomline

Jan 18, 2008

Performance summary
  • Interest income grows 46% YoY on the back of 27% YoY growth in advances
  • Net interest margin improves to 3.9%, from 3.7% in 9mFY07.

  • Cash surpluses and returns on them keep other income stable.

  • Bottomline grows by a whopping 82% YoY buoyed by extraordinary income due to profit on sale of part of the stake in HDFC Standard Life to Standard Life Group. Excluding the extraordinary item, the bottomline has grown by 49% YoY in 3QFY08.

(Rs m) 3QFY07 3QFY08 Change 9mFY07 9mFY08 Change
Interest income 13,576 19,815 46.0% 37,865 55,437 46.4%
Interest Expense 9,467 13,159 39.0% 26,618 37,830 42.1%
Net Interest Income 4,109 6,656 62.0% 11,247 17,607 56.5%
Net interest margin       3.7% 3.9%  
Other Income 1,001 1,732 73.0% 3,430 3,321 -3.2%
Other Expense 615 741 20.5% 1,967 2,330 18.5%
Provisions and contingencies 47 44 -6.4% 123 121 -1.6%
Profit before tax 4,448 7,603 70.9% 12,587 18,477 46.8%
Extraordinary items - 1,209   329 4,342 1219.8%
Tax 893 2,322 160.0% 2,713 6,137 126.2%
Effective tax rate 20.1% 30.5%   21.6% 33.2%  
Profit after tax/ (loss) 3,555 6,490 82.6% 10,203 16,682 63.5%
Net profit margin (%) 26.2% 32.8%   26.9% 30.1%  
No. of shares (m) 250.5 281.6   250.5 281.6  
Book value per share (Rs)*         416.2  
P/BV (x)         6.8  
* (Standalone book value as on 31st December 2007)

What has driven performance in 3QFY08?
  • Ingenuity in operations: HDFC remains unscathed from the subprime mortgage woes that lenders across the world are bearing the brunt of. The ingenuity of keeping a strict vigil on the EMI to monthly income ratio (benchmark 30% maintained by the HFC) has helped it tide over the crisis so far. Having said that, with a host of foreign banks and NBFCs beginning to offer home loans these days, competition for the HFC will only increase. HDFC’s proactive moves in the last 9 months has saved it from any blushes on NIMs that have improved marginally in this quarter despite the pressure on borrowing costs.

    The spike in home loan interest rates during this period, which has not been commensurate to the rise in income levels, has had a lagged impact on the institution’s incremental approvals which have grown by 30% YoY. The disbursal to sanction ratio has also slowed down to 76% from 77% in 9mFY07, possibly due to higher propensity for slippages in a high interest rate scenario. The mix of individual and corporate loans has been retained by the HFC at 67:33.

    Loan book break up…
    (Rs m) 9mFY07 9mFY08 Change
    Approvals 226,660 293,760 29.6%
    Disbursements 174,650 222,850 27.6%
    D/A ratio 77% 76%  
    Individuals 366,567 446,259 21.7%
    % of total 69.5% 66.6%  
    Corporate Bodies 150,488 206,596 37.3%
    % of total 28.5% 30.8%  
    Others 10,431 16,903 62.0%
    % of total 2.0% 2.5%  
    Total loans 527,486 669,758 27.0%

  • Other income – Reliant on cash surpluses: HDFC’s other income grew by 30% in 1HFY08 over that in 1HFY07, due to the doubling of surplus cash deployed with the mutual funds. The same may, however, not be sustainable going forward. The unrealised gains on its listed investments at the end of the December quarter stood at Rs 509 per share of HDFC. It must also be noted that the profits earned on the sale of part of the stake in HDFC Standard Life in 3QFY08 has been shown as extraordinary income in the income statement.

    Breakup of other income
    (Rs m) 9mFY07 % of total 9mFY08 % of total Change
    Fee income 357 24.5% 271 14.3% -24.1%
    Surplus from deployment in MFs 297 20.4% 903 47.6% 204.0%
    Income from leases 154 10.6% 115 6.1% -25.3%
    Dividend & other incomes 651 44.6% 607 32.0% -6.8%
    Total other income 1,459   1,896   30.0%

  • FCCB conversion: HDFC’s capital adequacy ratio (CAR) stood at 17.6% in 9mFY08. The corporation has received an amount of Rs 31 bn through the preferential allotment of equity shares to Carlyle Group and Citigroup Strategic Holdings, Mauritius, which has further strengthened its balance sheet. The gradual allotment of shares due to the conversion of FCCBs of US$ 500 m issued in 2005 has also increased the paid up capital. The outstanding FCCBs in HDFC’s books at the end of December 2007 were US$ 170 m (Rs 6.8 bn). Also, gross NPAs of 0.9% and net NPAs of 0.2% keep the asset quality provisioning requirements low for the institution.

What to expect?
At the current price of Rs 2,825, the stock is trading at 5.9 times our estimated FY10 adjusted book value. HDFC’s unique business model (sales through direct selling agents and arrangement with HDFC Bank) enables it to sustain the lowest cost to income ratio (8.8% in 9mFY08) and enjoy operating leverage. The management has indicated that the timely lending rate hikes will ensure that its spreads are protected. However, this may have an impact on its asset growth.

In search for new avenues of growth, the institution is now targeting smaller cities, where real estate prices have risen, but not as much as the rise witnessed in metros and other large cities. HDFC's ability to profitably sustain market share in mortgage portfolio and enhance its fee income share will determine its growth going forward. Notwithstanding the fact that our concerns with respect to quality of real estate loans were vindicated in FY07, we see improving prospects for the HFC, given its risk averseness, in the medium to long term. Having said that, the current valuations of the HFC warrant caution.

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