>HDFC BANK (ICICI SECURITIES)

CLEARER SKIES

We raise our FY10E & FY11E earnings estimates for HDFC Bank 5.3% and 8.2% respectively to factor in better operating environment than envisaged earlier, high capital owing to HDFC’s warrant conversion and NIM traction due to improving CASA. We believe asset quality stress will persist; however, it is likely to be lower than expected going forward. Despite earnings traction and likely warrant conversion, upside from the current levels is limited in our view. We value HDFC Bank at 18x FY11E EPS (implied P/BV of 2.74x), which implies Rs1,453/share fair
value. The stock trades at FY11E P/E & P/BV of 18.1x & 2.8x respectively. HOLD.

■ Earnings growth to be led by higher credit growth, steady NIMs. We estimate 27.5% credit CAGR through FY11E to drive margins and hence earnings growth. Low systemic term deposits rates and improving branch productivity in the erstwhile Centurion Bank of Punjab (eCBoP) are likely to lead to CASA improving to ~46% by FY11E from 44% in FY09, helping sustain margins ~4%. We expect 28.3% NII CAGR through FY11E. HDFC Bank is likely to continue purchasing mortgage portfolios originated by it for HDFC in our view as the repurchased portfolio is AAArated and most of the loans repurchased fulfil priority sector lending requirements.

■ Fee income likely to be buoyant; costs to remain high. Fee income is likely to see strong traction, with pick-up in core fee income and third-party sales likely to drive 27.8% other income (ex-treasury) CAGR through FY11E. Given the retail oriented business model, we expect cost-to-income to stabilise at ~50% by FY11E.

■ Asset quality deterioration likely to be manageable. Despite threats to asset quality having declined significantly, we believe there is some stress from the eCBoP book. As per the management, the two-wheeler book from eCBoP is likely to run-off completely in the short term. We expect manageable deterioration in asset quality and envisage GNPAs to peak at ~2.65% in FY10E. We maintain our loan loss provision assumptions at 180bps through FY11E.

■ Valuations offer little upside despite strong fundamentals. Improved fundamentals – economic outlook and reduced NPA threat – are likely to drive higher credit growth and earnings traction. Based on these, we upgrade FY10E & FY11E earnings 5.3% and 8.2% respectively. Capital infusion by conversion of warrants is likely to strengthen tier 1 capital further. We value HDFC Bank at 18x FY11E EPS (implied P/BV of 2.74x), implying Rs1,453/share target price. The stock is currently trading at FY11E P/E and P/BV of 18.1x and 2.8x respectively. HOLD.

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