The worst is behind

HDFC Bank and Axis Bank delivered another quarter of robust profit growth that was in line with expectations and was partly helped by other income.

With the September 2009 quarter results of two of three biggest private banks, HDFC Bank and Axis Bank, out last week, the trend looks quite evident. The growth in net interest income (NII) was low, with lending volumes as well as lending rates coming off, compared to the September quarter a year ago. However, other income came to rescue, especially treasury income thus, boosting overall profits. With the economy showing signs of a recovery, asset quality stood ground with no major increase in the gross non-performing loans (NPLs). Going ahead, expect the lending volumes to increase, which should push up growth rates in the future.

Slowdown effects
Both, HDFC Bank and Axis Bank have been able to grow their balance-sheet at a fast pace in the last five years up to 2008, at a time when the business climate was conducive and suited aggressive lending. In the recent quarters though, a slowdown in the economic activity pulled down lending and put pressure on margins and asset quality. The concerns on asset quality also saw the private sector banks including HDFC Bank and Axis Bank turn cautious while lending.

Thus, between September 2008 and June 2009, cumulative loan book of HDFC Bank stagnated. The retail segment that constitutes around three-fifth of the overall loan book for HDFC Bank saw a major slow down in loan disbursals, as they were perceived to be risky. Conservative lending meant that retail proportion has reduced to 55 per cent in the September 2009 quarter. However, the auto and property mortgage loans have started to pick-up; other-wise the retail book growth at 7 per cent y-o-y in the September 2009 quarter would have been even lower. However, the bank lent more to corporates, leading to a 20 per cent y-o-y growth in disbursals to this segment.

Things aren’t significantly different for Axis Bank, which is usually seen as more aggressive than its larger peer HDFC Bank. Axis, which saw its loans grow at 52 per cent on average in the last five years, saw this growth slump to a third of the long-term average in the September 2009 quarter due to moderate credit off-take. For Axis, retail accounts for a fifth of total loans. The bank has also been slowing down lending to commercial vehicle, personal loans and credit cards segments. However, in the recent quarter good traction was visible in the car loans, SME and home loans; most of these saw a growth of 20-30 per cent.

Going ahead, both the banks are expected to outgrow the industry. Axis and HDFC Bank are expected to report a growth of about 25 per cent and 20 per cent, respectively in lending volumes.

Other income boost
While lending slowed down, other income has boosted the overall profitability for both the banks in the recent past. For HDFC Bank, treasury profits as a proportion of total operating income ranged 5.5-9 per cent in the first two quarters of 2009-10, more than double the 2.5-3 per cent that was observed over the last two years. The strong 57 per cent growth in other income in the September quarter cushioned the meagre NII (interest income earned minus expended) growth, which has been stagnant since the Q2 of 2008-09. Along with a tab on expenses, HDFC Bank maintained the growth in net profits at over 30 per cent.
 

ON A GROWTH CURVE
in Rs crore	Axis Bank			HDFC Bank
	FY09	FY10E	FY11E	FY09	FY10E	FY11E
Net interest income	3,686	4,831	6,179	7,421	8,578	10,824
Other income	2,896	3,796	4,289	3,291	4,183	4,878
Operating profit	3,725	5,003	5,889	5,179	6,632	8,254
Net profit	1,815	2,280	2,880	2,245	3,007	3,957
P/E (x)	19.9	17.7	14.0	32.7	25.9	19.7
P/BV (x)	3.5	2.6	2.2	4.9	3.6	3.2
E: Analysts' estimates

Axis Bank, too, saw its other income jump 54 per cent y-o-y compared to the 27 per cent increase in the NII, mainly due to higher treasury profits. Going ahead, both the banks may not be able to sustain higher trading gains as yields have started firming up. Nevertheless, expect both the banks to deliver net profit growth of 25-30 per cent per annum in the next two years.

Conclusion
The two banks are adequately capitalised with their capital adequacy ratio at over 15.5 per cent, which gives them the fuel to lend more as demand for credit picks up. However, the return on net-worth (RoE) ratio would come-off for both the banks, as they would be raising funds through the equity route in 2009-10.

Importantly, high-cost deposits are getting re-priced at lower levels and new funds coming at lower interest rates (including an expected rise in low-cost CASA deposits). Not surprisingly, NIMs were higher by about 10-20 bps for both the banks compared to the June 2009 quarter. Going ahead, expect the net interest margins (NIMs) of HDFC Bank and Axis Bank, which are among the best in the industry currently, to improve from the levels of 4.10-4.30 and 3.10-3.50, respectively seen in the previous four quarters. The stock of HDFC Bank and Axis Bank trade at 3.2 times and 2.2 times, respectively of their estimated 2010-11 book value, and can be added on dips.