Is the HDFC Bank dream run over?

Analysts estimate limited downside risk from current levels, though valuation expansion or earnings surprises look unlikely.

Investors had become used to a 30 per cent growth every quarter from HDFC Bank for nearly a decade. But since the quarter of September 2013, the bank is posting lower profit growth. During that quarter the bank had posted a profit growth of 27 per cent, marginally lower than the ten year average of 30 per cent. But there were enough tell-tale signs then that the bank might be facing difficulty in maintaining its growth rate. In September 2013 quarter,the bank registered lower profits due to losses in its investment portfolio, higher operating expenses and worsening asset quality.

 

In the recently announced June 2014 quarter, HDFC Bank’s growth rate has fallen down to 21 per cent. Moreover, the quality of growth is not very encouraging. This growth has been achieved mainly due to cost cutting and lower provisioning. Kotak Securities, which has a ‘Reduce’ recommendation on HDFC Bank said in its report that in the first quarter of FY15, a muted earnings growth of 21 per cent was led by strong cost control of 5 per cent YoY and a 8 per cent lower provision, rather than revenue growth.

 

According to Kotak Securities, revenue growth at 11 per cent year-on-year remains a big challenge as non-interest income declined by 4 per cent year-on-year. Loan growth was higher at 21 per cent, but retail segment grew by only 7 per cent year-on-year. Cost control resulted in a cost to income of 45.3 per cent, which is the lowest in the last 13 quarters as per a report by BNP Paribas.  

 

Unlike public sector banks, asset quality was least of the worry for HDFC Bank. Its gross NPAs were almost at the same level as previous quarter but coverage ratio decline from 73 per cent in March 2014 quarter to 70 per cent.

 

Even from the perspective of last six months, HDFC Bank has been an underperformer in the markets, with both ICICI Bank and Axis Bank being the preferred choice of investors. Kotak Securities believes that its underperformance is expected to continue as both ICICI Bank and Axis Bank have been progressing well on retail loan strategy, reduced/slowed exposure in select corporate sectors, a diversified fee income and a well-capitalised tier I ratio of greater than 12 per cent.

 

BNP Paribas believes that in the near term, HDFC Bank’s share price movement is capped on account of a Rs 10,000 crore capital raising program, to shore up its tier I capital which stands at 11.1 per cent (ex-profit for 1QFY15). However, it believes it is a good stock pick over the longer term. Kotak Securities on the other hand feels that the bank is trading closer to the fair value estimated by them (which does not take into account the expected dilution). It implies that there is limited downside risk from current levels, though valuation expansion or earnings surprises look unlikely.