HDFC Bank: A job well done

Loan losses have risen slightly requiring more provisions but the bank’s profits stay strong.

A 30 basis points sequential rise in the gross non-performing loans (npls) to 0.6 per cent, marred an otherwise reasonably good performance from HDFC Bank for the December 2008 quarter.The stock lost about a per cent in value because the Street is not accustomed to seeing a deterioration in the bank’s delinquencies. More than half the rise is attributable to the loan portfolio of Centurion Bank of Punjab, which was merged with HDFC Bank in 2008, but it’s evident that the worsening economic environment is starting to hurt retail and SME assets.

HDFC Bank has promptly upped provisions by 53 per cent sequentially, pushing up the the loan loss coverage by a good 240 basis points to just under 68 per cent, a very safe level.

In fact, even in a difficult quarter, when the cost of money soared, the bank was able to post a rise in the net interest margin of 10 basis points to 4.3 per cent. With customers preferring to park their money in fixed deposit, the bank’s complement of cheaper current and savings accounts (CASA) fell a sharp 400 basis to 40 per cent pushing up the weighted average cost of funds by close to 100 basis points. However, the yields on the loans were high enough to offset the higher cost of funds and as a result the net interest income rose 38 per cent.

Besides, the bank earned a fairly large amount from fees and commissions — up 40 per cent y-o-y — and also benefited from the higher profit on revaluation and sale of investments which is how it was able to post a 37 per cent increase in the pre-provisioning profit to Rs 1,458 crore. The best part about the bank’s business model is that the fee income has little correlation — just 10 per cent — with the loan book; that means even if loan growth tapers off, the fee income should stay robust.

If the bank manages to grow the loan book at a rate slightly higher than that of the system in 2009-10 — estimated at 18-19 per cent — it should be fine. At Rs 977, the stock trades at around 2.7 times estimated 2008-09 book value and remains, without doubt, the best play in the sector.