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HDFC Bank: Investor meet extracts - Views on News from Equitymaster
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HDFC Bank: Investor meet extracts
Sep 5, 2005

In Equitymaster's second investor meet at Pune, Mr. Sameer Bhatia, Country Head - Corporate Banking, HDFC Bank, gave a presentation on HDFC Bank's past and future key result areas. The presentation also gave details as to what differentiates HDFC Bank's strategies from that of other banking entities and what business initiatives it is taking to forge ahead of its peers. Following are key excerpts of the presentation. Differentiating factor: The bank differentiated itself on the contention that as against other private banks that are largely relying on the retail segment for the growth of their credit book, HDFC Bank witnessed a healthy growth in the retail as well as corporate credit segments. The bank also attributed its success in ‘wholesale banking’ to robust growth in agriculture, SME (small and medium enterprises) financing and government related business, besides credit offtake from rated corporates.

Wholesale credit contributed 30% of revenue growth in FY05, while contribution from treasury exposure remained lower (8% to 9% of revenues) due to upward movement in interest rates. The bank expects a 60:30:10 (retail: wholesale: treasury) mix going forward, with the retail and corporate segments growing at 30% and 20% respectively. While we agree with the bank’s contention of strong focus on the wholesale segment, we believe that competition from the larger PSU banks poses a considerable entry barrier in this segment.

Retail segment: Although HDFC Bank positions itself amongst the top three players across product segments in the retail category, the bank believes in capping its market share (in each product) at a point beyond which the asset yields and quality do not justify the business premise. Also, the bank, that earlier had 60% of its retail credit portfolio in the auto loans segment, has brought it down to 40% through introduction of new products. The bank now originates home loans to the tune of Rs 1.8 bn per month for HDFC (70% of which are bought back) and is increasing its share in personal loans and credit cards. The bank is also garnering substantial fee revenue through its point of sales (POS) terminals (involving use of credit cards in merchandising and food outlets) and has added 15,000 terminals in FY05. Third party product distribution (sale of mutual fund and insurance products) accounted for 15% of the bank’s total fee income in FY05 and the bank considers this business to be very profitable due to its high ROE nature.

Another factor, which the bank claims differentiates itself, is the proactive provisioning of 0.5% which HDFC Bank provides on all retail products irrespective of whether they are standard assets (not NPAs). We believe that this puts HDFC Bank on a better standing as compared to its peers.

Wholesale segment: Growth in government banking and cash management services (CMS) has helped HDFC Bank scale new heights in “wholesale banking “. Besides being the first private sector bank in the country to undertake collection of government taxes, the bank was also amongst the top 3 banks in this segment in FY05 and expects higher fee revenue from the same going forward. Also, cash management services (HDFC Bank’s market share is 50%) has helped HDFC Bank’s “stickiness” with corporate customers and created a new business opportunity for asset creation. Since a large proportion of the CMS clients are SMEs, the bank attracts a higher yield on the loans advanced to them, thereby increasing margins.

Deposits: Besides quantity, HDFC Bank has also successfully maintained quality in its deposit mobilisation by garnering 69% of the deposits from retail customers (lower cost of funds). The bank has one of the highest proportions of CASA (current and savings accounts) in the sector and has historically sustained it over 40% of total deposits. Even in the wholesale segment, the bank garners most of its deposits from cash management services and stock exchange clearing businesses and abstains from attracting large corporate deposits at premium rates. Given this, we believe that HDFC Bank has a reasonable cushion in the wake of higher interest rates due to lower cost of funds. However, given the lower rate of deposit mobilisation, HDFC Bank sees an upside of 50 basis points in interest rates in the next 4 to 6 months.

Technology initiatives: The bank believes that technology initiatives have not only helped it service its customers (close to 80 m) better but also enabled it to improve its cost efficiency. This is because, as compared to 43% of the transaction banking being executed through branches in FY01, only 27% was executed through branches in FY05. This augurs well for the bank as branch banking is a higher cost business as compared to technology aided one (e.g. ATM, net banking etc.)

Sector prospects: As against mortgage to GDP ratio of 100% in USA and UK and 20% in China, the retail credit penetration in India remains abysmally low with a retail loans to GDP ratio of 7%. This is the prime rationale that the bank believes will continue to propel growth in retail credit going forward. Also, it is interesting to note that while the average level of gross NPAs in the sector has fallen to 3.6% in FY05 (against 7% in FY00), the bank believes that higher proportion of high-risk assets will not pose a problem going forward (due to higher yields). This is on the contention that NPAs must not be seen in isolation, but in relation to yields. To put things into perspective, if an asset yielding 30% has gross NPAs of 7%, it means that the cost of the NPA is already factored in the yields.

Also, the bank believes that despite the fact that most of the PSU banks (these have 80% of total market share) are gearing up for technology-based operations, approximately 30% of the market share will be up for grabs to the private players once the sector opens up (post FY09).

Our view
At the current price of Rs 643, HDFC Bank is trading at a rich valuation of 3.2 times our FY08 estimated adjusted book value. We continue to have faith in HDFC Bank’s business proposition and ‘low risk – high growth’ strategy. However, we believe that with an upward movement in interest rates, not only will the bank have to take a hit on margins but will also face pressure on the treasury side (only 45% of investments are in the HTM basket). Keeping in mind the above factors, we believe that HDFC Bank does not justify its valuations at the current levels.

  • To view the investor meet slide show, click here

  • To download the HDFC Bank presentation, click here.

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