Hubris among HDFC Bank investors needs a reality check

HDFC Bank reported a 20% rise in net profit to Rs4,642.6 crore for the December quarter, but its NPA stock also rose 57% from the year-ago period. Photo: Bloomberg

HDFC Bank reported a 20% rise in net profit to Rs4,642.6 crore for the December quarter, but its NPA stock also rose 57% from the year-ago period. Photo: Bloomberg

The hubris among investors of HDFC Bank Ltd is evident. After all, India’s most valued lender has delivered another stellar quarter in terms of profitability and growth.

The bank reported a 20% rise in net profit to Rs4,642.6 crore for the December quarter backed by an impressive 24.1% growth in net interest income and an eye-popping 27.5% expansion in advances.

If that doesn’t dazzle, the 4.3% net interest margin will surely do. Deposits grew at 10% despite it being over the bloated base of demonetisation a year ago.

Let’s rewind again to advances. The surge in loans is also because HDFC Bank didn’t lend much in the December quarter. To its credit, the management of the bank mentioned that, but said that quarterly momentum in loan growth is still intact.

Notwithstanding the base effect from demonetisation, a 27% loan growth should not be sneezed at.

It would be futile to question why HDFC Bank is the only lender and also only the third Indian company to cross a market capitalization of Rs5 trillion (read more here). The love from investors is indeed evident. Add a gross bad loan ratio of 1.29% and it looks like there’s reason enough for this love.

But perhaps investors are getting blindsided by these percentages. HDFC Bank’s gross non-performing assets (NPAs) stock rose 57% from a year ago period. What used to be an accretion of just about 20% two years back is now almost 60%. For a lender of HDFC Bank’s size, this is disturbing.

Also, notwithstanding the base effect on loan growth, as a percentage of the loan book, bad loans have increased sharply. In the September 2017 quarter, the gross NPA ratio was 1.26% while in December the previous year, the bad loan ratio was 1.05%.

Another fact that cannot be ignored is that the bank under-reported its bad loans for fiscal year 2017 by about 25%. To its credit, the lender has made adequate provisioning towards all risky assets including those thrown up by the Reserve Bank of India’s inspection.

HDFC Bank investors are used to consistent double-digit profit growth, industry-beating credit growth and margins that put even some non-banking finance companies to shame. What they haven’t seen before is a faster increase in bad loans and that is yet to reflect into the bank’s valuations. After all future profits are projected based on benchmarking the past. The stock trades at a rich multiple of 4.1 times its estimated book value for fiscal year 2019.

HDFC Bank is no longer what it was in the past as far as bad loans are concerned. The hubris needs to be tempered.

The writer does not hold a position in the company discussed here.

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