1 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

1

HDFC BANK : FUNDAMENTAL ANALYSIS

Submitted to Prof (Dr) Anuj Verma By Group No 4

INTRODUCTION

0.1 Aim This paper aims at carrying out a detailed analysis of HDFC Bank from a perspective that tends to focus on various issues ranging from macro-economic issues financial health of the company. 0.2 Scope & Layout The paper would cover macro-economic outlook of the country as such before narrowing its focus on the overall outlook of banking industry and then down to the company, ie HDFC, itself. The paper is laid out in the following parts:- (a) Part 1 – Macro-economic outlook. (b) Part 2 – Banking Industry in India. (c) Part 3 – Financial health of HDFC. (d) Part 4 – Conclusions. (e) References.

PART 1- MACRO-ECONOMIC OUTLOOK

1.1 International Linkages In the present age of globalisation and fluid international linkages, it would be improper if the economy of a developing nation like India is studied in isolation. To many, the simple fact, that when many world economies went into a tail spin in 2008 and yet India could keep her neck above the water line, may appear to be a reason enough to study our economy in isolation. But reality is far from such a belief. Just to illustrate the point, we do not have to go too far. A simple statement made by Chairman of American Fed on 22 May 2013 sent ripples across the globe and what happened to many economies, India included, is all to see. The irony of the situation is that whatever was ‘thought loudly’ by USA central bank chairman, did not happen

2 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

2

at all and when news came out on 18th September 2013 that Fed was not going to implement those policy changes, stock markets soared all over the globe (and so did the banking stocks). It is evident that Fed would ultimately get into tapering mode as far as Quantitative Easing is concerned and such happiness may be short-lived. The aim of looking at this aspect is simply to highlight the fact that while our domestic economy would dictate industrial/sector specific agendas, the effects from points of origin that lay well beyond our international borders, cannot be simply wished away. The fundamental analysis being carried out in this paper, therefore, is based on prevailing global and domestic financial scenarios. How long such input would remain relevant, would be anybody’s guess.

1.2 Indian Economic Outlook Different analysts and scholars have different take on our economy in prevailing times of uncertainty and volatility and rightfully so. Agreeing with anyone or quoting any one particular school of thought, therefore, would not be the right way forward. For the purpose of this analysis, the group has decided to follow official figures as quoted by governmental agencies like Planning Commission, RBI and PM Office. It is felt and believed that data from such agencies have the official backing and the sanctity that comes along with such a credence. Also, due weightage has been given to certain studies that have attempted to lay bare facts about our economy without playing the blame games.

Earlier this month, the Economic Advisory Council to the Prime Minister (PMEAC) released the document Economic Outlook 2013-14. As per the document, the economic growth forecast of India for the current fiscal has been lowered to 5.3% (a huge drop from 6.4% projected earlier and 9% as envisaged during 12th Plan). RBI, however, appears to be more pessimistic with its revised figures of 5.5% vis-à-vis earlier figures of 5.7%. The mood, therefore, is dismal. When read in conjunction with a volatile exchange rate, depleted FOREX reserves and Current Account as well as Fiscal deficits, the scene looks more gloomy.

But there are certain silver linings too. Finance Ministry is confident of bringing

down Fiscal Deficit to manageable range of less than 4.5% and CAD has also started to show some recovery after restrictions of gold and non-essentials were put in place. As if to boost the sagging morale, PMEAC has listed out host of measures to address the issue and restore the confidence. Some of the important suggestions/assessments are as under:-

(a) With great Monsoons, the agriculture sector is expected to grow by 4.8% in the current fiscal. That would be a huge leap from 1.9 %. (b) Industrial growth has been pegged at 2.7 % as against 2.1 % in 2012-13. (c) On a negative side, growth of services sector is projected to

3 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

3

decelerate to 6.6% in current fiscal from 7.1 % a year ago. (d) The government should liberalise FDI investment norms, resolve tax concerns of the industry, fast track public sector investment and initiate measures to contain fiscal deficit. (e) Referring to the external sector, CAD in 2013-14 is likely to come down to 70 billion US dollars or 3.8% of GDP, from 88.2 billion US dollars or 4.8% a year ago. (f) Rupee appears to well corrected at the current level it is well corrected. Stability is expected to return to the foreign exchange market. As capital flows return and as CAD begins to fall, this tendency will strengthen. (g) The expected WPI inflation by end March 2014 will be around 5.5% as against the average of 7.4% in 2012-13 and 5.7 % for March end 2013. However, the wide range of 4% between WPI and CPI would continue for the time being. (h) The trade deficit should come down to around 185 billion US dollars in 2013-14, against an estimated 195.7 billion US dollars in 2012-13. (j) Between 2010-11 and 2012-13, the combined impact of higher net oil and net gold imports on the CAD was almost 57 billion US dollars or 3% of GDP. The CAD may go even below 70 billion US dollars in 2013-14 if the recent trends in exports and imports are maintained through the year. (k) Net Capital flows are projected to fall to 61.4 billion US dollars in 2013-14 against an estimated 89.4 billion US dollars in 2012-13 putting pressure on the country's forex reserves.

RBI, during its September/mid quarter review of Monetary Policy, did increase policy repo rate under the liquidity adjustment facility (LAF) by 25 basis points from 7.25% to 7.5% while reducing the marginal standing facility (MSF) rate by 75 basis points from 10.25% to 9.5% as also the minimum daily maintenance of the cash reserve ratio (CRR) from 99% of the requirement to 95%. However, CRR was left unchanged at 4.0 per cent. Needless to say, all such measures and forecasts have corresponding effects on the banking sector. 1.3 Macro-economic Issues Concerning Banking Since mid-July, the RBI has put in place a number of exceptional measures to tighten liquidity with a view to dampening volatility in the foreign exchange market. These measures have raised the effective policy rate for monetary policy operations to 10.25 per cent, aligned to the re-calibrated MSF rate. The intent has been to maintain tight liquidity conditions at the short end of the term structure until the measures designed to alter the path of the CAD and improve prospects for its stable

4 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

4

funding take effect.

As a number of these measures are now in place and because the external environment has improved, it is now possible for the RBI to contemplate easing these exceptional measures in a calibrated manner. As a first step, therefore, the MSF rate was reduced by 75 basis points. Furthermore, the minimum daily maintenance of the CRR prescribed by the RBI was brought down as mentioned earlier. The timing and direction of further actions on exceptional measures will be contingent upon exchange market stability, and can be two-way.

As the measures are unwound, the objective of the RBI would be to normalise the conduct and operations of monetary policy so as to allow the LAF repo rate to resume its role as the operational policy interest rate. However, inflation is high and household financial saving is lower than desirable. As the inflationary consequences of exchange rate depreciation and hitherto suppressed inflation play out, they will offset some of the disinflationary effects of a better harvest and the negative output gap.

In the current scenario, banks are constantly pushing the frontiers of risk

management. Compulsions arising out of increasing competition, as well as agency problems between management, owners and other stakeholders are inducing banks to look at newer avenues to augment revenues, while trimming costs. Consolidation, competition and risk management are no doubt critical to the future of banking but it is believed that governance and financial inclusion would also emerge as the key issues for a country like India, at this stage of socio-economic development. As a step towards technical environment that affects banking sector in our country, we need to have a look at Porter’s Five Forces Model. The diagrammatic representation of the model is as follows:-

Threat of New Entrants. As part of on-going banking sector reforms, new

licenses would be issued to a few new players shortly. And yet the fact remains that

5 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

5

anyone and everyone cannot start up a bank. Nevertheless, there are services, such as internet bill payment, on which entrepreneurs can capitalise. Banks are fearful of being squeezed out of the payments business, because it is a good source of fee-based revenue. Another drift that poses a threat is companies offering other financial services eg an insurance company offering mortgage and loan services. As far as regional banks are concerned, the possibility of a mega bank entering into the market poses a real threat.

Power of Suppliers. The providers of capital might not posture a gigantic

hazard, but the threat of suppliers luring away human capital does. Retention of talent becomes difficult in a situation wherein a talented individual working in a smaller regional bank, may be stolen away by bigger banks, investment firms, etc.

Power of Buyers. One single retail customer may not really pose much of a

threat to the banking industry, but one major factor affecting the power of buyers is relatively high switching costs. If a person has a mortgage, car loan, credit card, checking account and mutual funds with one particular bank, it can be extremely tough for that person to switch to another bank. In an attempt to lure in customers, banks try to lower the price of switching, but many people would still rather stick with their current bank. On the other hand, large corporate clients have banks running after them, offering innovative plans and schemes. Financial institutions - by offering better exchange rates, more services, and exposure to foreign capital markets - work extremely hard to get high-margin corporate customers.

Availability of Substitutes. Our market, as is well known, has a parallel

economy based on black money and grey operators. Even if, for a moment, we discard such realities, there would still be plenty of substitutes in the banking industry. Banks offer a suite of services over and above taking deposits and lending money, but whether it is insurance, mutual funds or fixed income securities, chances are there is a non-banking financial services company that can offer similar services. On the lending side of the business, banks are seeing competition rise from unconventional companies that offer preferred financing to customers who buy big items. If a company is offering 0% financing, why would anyone want to get a loan from the bank for the same commodity and pay expensive interest?

Competitive Rivalry. The banking sector is highly competitive. The financial

services industry has been around for a good amount of time and simply put across, anyone and everyone who needs banking services, already has the access to such services. Banks, therefore, have no choice but to make attempts to lure clients away from their competitors. A bank may do so by offering lower financing, preferred rates and investment services but such an action may cause banks to experience pretty lower profit margins. In such a scenario, concerned bank(s) have an incentive to take on high-risk projects. In the long run, we're likely to see more consolidation in the banking industry. Big fish may, logically, prefer to digest smaller fish rather than spending or cutting on own margins. The Indian banking sector is linked to the world economy but the Indian banking system has had no direct exposure to the sub-prime mortgage assets or to

6 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

6

the failed institutions. It has very limited off-balance sheet activities or securitized assets. In fact, our banks continue to remain safe and healthy. The Indian banking sector has been well shielded by the central bank and has managed to sail through most of the crisis with relative ease. It is hoped that the trend would continue for a foreseeable future.

PART 2- BANKING INDUSTRY IN INDIA

2.1 Introduction

Banking in India is the salvation of the nation and its people. Banking has helped in developing the dynamic sectors of the economy and guide in a new dawn of development on the horizon. The sector has transformed the aspirations of millions of people into reality. As on date, Indian banks do assuredly compete with modern banks of the world.

The progression in the Indian Banking Industry has been more qualitative

than quantitative and it is anticipated to remain the same in the coming years. As per the projections made in the "India Vision 2020" of Planning Commission and the Draft 12th Plan, the pace of enlargement in the balance-sheets of banks is likely to decelerate in coming years. The total assets of all scheduled commercial banks by end-March 2014 is estimated at Rs 50,75,000 crores. Bank assets are expected to grow at an annual composite rate of 13.4 per cent during the 2012-2017 as against the growth rate of 16.7 per cent that existed between 1994-95 and 2002-03. It is expected that there will be large additions to the capital base and reserves on the liability side. The recent observations on NPAs have also not been too healthy either. 2.2 Place Under Sun

The Public Sector Banks form the base of the banking sector in the country

and account for almost 80 per cent of the total banking industry assets. However, as hinted earlier, most of such banks have huge NPAs, too much or massive manpower and lack of modern technology. On the other hand the Private Sector Banks are making marvellous progress. They are front-runners in Internet banking, mobile banking, phone banking as also ATMs. As far as foreign banks are concerned they are likely to succeed in the Indian Banking Industry.

The banking industry is presently in a changeover phase. On the one hand,

the PSBs are in the process of detaching their corpulence in terms of unwarranted manpower, excessive NPas and disproportionate governmental equity, while on the other hand the private sector banks are consolidating themselves through M&As. At the same time, the economic and corporate sector slowdown has led to an

7 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

7

increasing number of banks fixing on the retail sector. Many of them are also entering the new scenes of insurance. Banks with their impressive reach and a regular interface with the retail investor are the best placed to enter into the insurance sector. Banks have been allowed to provide fee-based insurance services without risk participation, invest in an insurance company for providing infrastructure and services support and set up of a separate joint venture insurance company with risk participation. The process of granting new licenses is going on as on date and even foreign banks have been given options to participate through Indian entities.

The RBI has been affecting bank rate and CRR cuts at regular intervals to

improve liquidity and reduce rates. One of the exception was in recent months (mid 2013) when the RBI modified the CRR norms to stem the fall in the Rupee against the Dollar. The recent interest hikes (September 2013) would aid banks that have been facing heat since slide of Rupee began earlier this year. 2.3 The Road Ahead

‘India Vision 2020’ envisages refining the position of India from the present

11th to 4th among 207 countries given in the World Development Report in terms of the Gross Domestic Product (GDP). It also envisions moving the country from a low-income nation to an upper middle-income country. To achieve this objective, the India Vision aims to have an annual growth in the GDP of 8.5 per cent to 9 per cent over the next 10 years. Economic development of this scale would see quadrupling of real per capita income. When compared with the growth in GDP of less than 6% as of now, this is an ambitious target. This would call for substantial investments in the infrastructure and meeting the funding requirements of a high magnitude would be a challenge to the banking and financial system.

The skill of the financial system in its present structure to make available

investible capitals to the potential investors in the forms and tones that will be required by them in the coming years, that is, as equity, long term debt and medium and short-term debt would be critical to the achievement of plan objectives. The gap in demand and supply of resources in different segments of the financial markets has to be met and for this, level flow of funds between various types of financial institutions and instruments would need to be enabled. 2.4 Productivity and Efficiency In the month of August 2013, RBI’s Deputy Governor, during his address in an industry organised event (FIBAC 2013) tried to spell out the productivity and efficiency of banking sector and related challenges. The text ahead is based on the above mentioned address. Investopedia defines productivity as an economic measure of output per unit of input. The concept of productivity is more easily applied to industrial settings while it is more difficult to define and measure in the context of services sector, including

8 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

8

the banking industry. One has to rely upon proxies to gauge productivity of banks and there is no single measure that has been universally accepted as representing banking productivity. It is common to see the terms ‘productivity’ and ‘efficiency’ being used interchangeably in literature. However, productivity is more a measure of performance of labour, which is one of the factors of production. Efficiency, on the other hand, is a much broader term which represents the performance of all factors of production. In case of banks, while productivity measures the performance of their staff, efficiency represents the combined performance of staff, capital and management. However, it needs to be noted that there are strong inter-linkages between the performance of the three factors of production: high productivity of staff will result in efficient utilization of capital, while an efficient management function would result in superior performance by labour and capital. It would, therefore, be safe to conclude that when all the key inputs are optimally deployed, the outcome will be an ‘efficient’ bank. Banks form the core of a nation’s financial system, performing the vital function of financial intermediation through liquidity, maturity and risk transformation. Finance is the lifeline of any commercial activity and banks act as a link between the savers and the borrowers. The productivity and efficiency of banks, thus, critically impacts the productivity and efficiency of all economic activity and is a matter of concern for policy makers and economy watchers. The Indian banking system has seen important productivity improvements over the last two decades with the PSBs, in particular, bridging the gap with new private banks and foreign banks. However, the pace of progress has declined, largely due to lack of desired impetus. India continues to lag behind several other countries on various productivity parameters.

Banks’ gains in operational efficiency have, however, come at the cost of their allocational efficiency. The improved operational efficiency has been a result of technological progress and structural changes in balance sheet towards more wholesale business. The operational efficiency gains, though profitable for the banks, have not had the desired beneficial impact on the society as a whole, particularly the rural areas, individuals and small businesses. It is not wrong to say that the vulnerability of the banking system has increased on account of the imbalances arising from growth in operational efficiency without commensurate rise in allocational efficiency. Both Reserve Bank of India and Government of India have initiated several corrective measures to reverse this trend by actively promoting the programme of financial inclusion. Banks have to ensure that they attain greater allocational efficiency by extending access to financial services to the unbanked masses and providing the excluded poor the opportunity to leverage the financial system to improve their economic condition. True productivity of the banking system can be judged not just by the positive impact on banks’ own financials but by the impact it has on the lives of ordinary citizens.

2.5 In a Nutshell It is true that banks have been under tremendous pressure, especially during the present fiscal. It is wrong to see such a trend in isolation as a host of factors have been contributing to such a trend. With new RBI Governor at the helm of

9 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

9

affairs, banking industry is optimistic even though the pressure would continue for a while. Even though SBI remains the biggest of all, banks like HDFC and AXIS Bank have been successful in leading with their operational efficiencies and resultant productivity. The future that envisages growth of the nation, cannot ignore a parallel growth of banking sector and that being something inevitable, future looks bright for the industry despite present hiccups and glitches.

PART 3 - FINANCIAL HEALTH OF HDFC BANK

3.1 An Overview of the Bank HDFC Bank Limited was incorporated in August 1994 as “HDFC Bank Limited', with its registered office in Mumbai and it began operations as a Scheduled Commercial Bank in January 1995. It is involved in providing a wide range of banking and financial services in retail banking, wholesale banking and treasury operations. Over the last ten years, HDFC has grown at a compounded annual growth rate of 29.55% and has emerged as a market leader across multiple products. For FY 2013, HDFC Bank’s net interest margins stood at a healthy 4.5 % (4.4% for FY 2012). 30% of its operating revenue came from non-funded segments such as fees and commissions for services. For the same period, net NPAs stood at 0.2% (0.18% for FY 2012) far below the industry average for private banks. As of June 30, 2013, HDFC’s customer base was over 26.2 million and its distribution network was at 3,062 branches and 10,743 ATMs in 1,845 cities. 75% of HDFC’s branches are outside the top 9 cities of India. 3.2 Shareholding Pattern The promoters, as can be seen, do hold the power to resist any major decision that may try to change the outlook or profile of the bank. Large promoter holding indicates conviction and sincerity of the promoters. It is believed that a greater than 35 % promoter holding offers safety to the retail investors. At the same time, FII participation of 34% is a great indicator of good financial health of the bank. Total institutional holding in the Company stood at 42.66 % (FII+DII). Large institutional holding indicates the confidence of seasoned investors. At the same time, it can also lead to high volatility in the stock price as institutions buy and sell larger stakes than retail participants.

10 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

10

3.3 Key Financial Figures (in ₹ Crores) As under :-

Particulars FY 2009 FY 2010 FY 2011 FY 2012 FY 2013

Interest earned 16,314.02 16,232.92 20,043.33 27,605.56 35,861.02

Interest expended 8,903.37 7,797.60 9,425.15 15,106.12 19,695.45

Net Interest Income 7,410.65 8,435.32 10,618.18 12,499.44 16,165.57

Other income 3,436.52 4,034.07 4,585.05 5,452.39 7,132.97

Operating expenses 5,649.27 5,905.51 7,317.95 8,807.12 11,551.90

Operating Profit 5,197.90 6,563.88 7,885.28 9,144.71 11,746.64

Provisions (other than

provisions for tax) and

contingencies

1,879.85 2,144.87 1,928.06 1,477.21 1,742.63

11 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

11

PBT 3,318.05 4,419.01 5,957.22 7,667.50 10,004.01

Tax 1,065.92 1,386.09 1,939.52 2,394.10 3,103.73

PAT (before Minority

Interest and share of

Associates)

2,252.13 3,032.92 4,017.70 5,273.40 6,900.28

Profit/ (loss) attributable to

Minority Interest - - - - -

Share of profit / (loss) of

Associates - - - - -

Consolidated Profit / (Loss)

for the year 2,248.99 3,003.65 3,992.49 5,247.02 6,869.64

As can be seen, the YoY profit figures have been steadily increasing and the growth has been re-assuring even during the times that have not been too easy. More analysis would follow.

3.4 Profitability Analysis As under (in %age):-

Particulars FY 2009 FY 2010 FY 2011 FY 2012 FY 2013

Net Profit Margin Ratio 11.40 14.96 16.31 15.95 15.98

Cost to Net Income Ratio 52.08 47.36 48.13 49.06 49.58

12 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

12

Other Income to Net Income

Ratio 31.68 32.35 30.16 30.37 30.62

Net profit margin is arrived at by dividing profit after tax by the total income generated (i.e. interest earned plus other

income) and shows what is left for the shareholders as a percentage of total income.

Cost to net income ratio is particularly important in valuing banks. It is derived by dividing operating expenses by the net

income generated (i.e. net interest income plus the other income). The ratio highlights the efficiency with which the bank is being

run - the lower it is, the more profitable the bank will be. If this ratio rises from one period to the next, it means that costs are rising

at a higher rate than income. Together these ratios help in understanding the cost and profit structure of the bank and analysing

business inefficiencies. Other income largely constitutes of fee income such as commission and brokerage fees and client based

merchant foreign exchange trade, service charges from account maintenance, transaction banking (including cash management

services), syndication and placement fees, processing fees from loans and commission on non-funded products (such as letters of

credit and bank guarantees) etc. Banks in developed countries derive nearly 50% of their income from these non-funded sources. A

high other income to net income ratio is good for the bottom line (i.e. net profit) as income from this stream is derived without

significant mobilisation of deposits and hence the cost associated with this income is relatively lower compared to interest income. 3.5 Key Figures (in ₹ Crores)

Sources of Funds / Liabilities

Particulars FY 2009 FY 2010 FY 2011 FY 2012 FY 2013

Share Capital 425.38 457.74 465.23 469.34 475.88

Money received against warrants 400.92 - - - -

13 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

13

Reserves & Surplus 14,262.74 21,158.15 25,117.91 29,741.10 36,166.84

Employee stock options grants 5.49 2.91 2.91 0.30 -

Net worth (shareholders funds) 15,094.53 21,618.81 25,586.05 30,210.74 36,642.73

Minority Interest 43.35 75.89 121.66 183.66 221.34

Deposits 1,42,644.80 1,67,297.78 2,08,287.21 2,46,539.58 2,96,091.77

Borrowings 9,253.64 13,171.80 14,650.44 26,334.15 39,496.61

Other liabilities and provisions 16,366.44 20,783.21 29,317.57 37,786.88 35,270.54

Total Liabilities 1,83,402.76 2,22,947.49 2,77,962.93 3,41,055.01 4,07,722.99 (Rs. Cr)

Application of Funds / Assets

Particulars FY 2009 FY 2010 FY 2011 FY 2012 FY 2013

Fixed Assets 1,732.28 2,149.07 2,200.94 2,377.91 2,773.32

Cash and balance with RBI 13,527.22 15,483.31 25,100.89 14,991.63 14,630.88

Balances with banks and money at call and

short notice 4,009.94 14,594.88 4,737.39 6,183.53 12,900.28

Advances 99,027.37 1,26,162.73 1,60,831.42 1,98,837.53 2,47,245.12

Investments 58,715.15 58,508.28 70,276.67 96,795.11 1,10,960.41

Other Assets 6,390.81 6,049.22 14,815.63 21,869.30 19,212.98

Total assets 1,83,402.76 2,22,947.49 2,77,962.93 3,41,055.01 4,07,722.99

In isolation, the above fact sheet may not really convey much beyond YoY progress towards assets and a corresponding

14 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

14

trend towards liability side. In the present era of high NPAs (around 5-6% for PSBs), the total provisions of around ₹35,000 Crores stand very well covered through investments that run to the tune of ₹1,10,000 (three times). 3.6 Efficiency Analysis (in %age)

Particulars FY 2009 FY 2010 FY 2011 FY 2012 FY 2013

Advances / Loan Funds Ratio 65.19 69.91 72.14 72.87 73.68

ROE / RONW 14.90 13.89 15.60 17.37 18.75

Advances to Loan funds ratio: This ratio indicates the efficiency with which the bank is able to deploy the funds it

mobilises and is arrived at by dividing the banks total advances by its total deposits (i.e. deposits + borrowings). A high advance to

loan fund ratio indicates that the bank might not have enough liquidity to cover any unforeseen fund requirements; if the ratio is too

low, banks may not be earning as much as they could be.

Return on Equity (ROE) or Return on Net Worth (RONW) : measures the amount of profit which the company generates

on money invested by the equity shareholders (i.e. share capital + reserves and surplus). In short, ROE draws attention to the

return generated by the shareholders on their investment in the business. ROE is widely used in comparing the profitability of the

company with other companies in the same industry.

3.7 Valuation Analysis

Particulars FY 2009 FY 2010 FY 2011 FY 2012 FY 2013

Net Interest Income Rs. 16,314.02 16,232.92 20,043.33 27,605.56 16,165.57

Growth (%) - (0.50 %) 23.47 % 37.73 % (41.44 %)

15 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

15

PAT Rs. 2,252.13 3,032.92 4,017.70 5,273.40 6,900.28

Growth (%) - 34.67 % 32.47 % 31.25 % 30.85 %

Earnings Per Share – Basic 10.58 13.76 17.30 22.50 29.10

Earnings Per Share - Diluted 10.54 13.62 17.30 22.20 28.80

Price to Earnings 18.36 28.08 27.05 23.63 21.67

EPS, as we understand, is a rough measurement of the amount of a company's profit that can be allocated to one share of

its stock. Basic earnings per share (EPS) do not factor in the dilutive effects on convertible securities. Basic EPS is calculated as follows: Basic EPS = (net income – preferred dividends) / weighted average number of common shares outstanding. Now, earnings per share is calculated by dividing the company's profit by the number of shares outstanding. Warrants, stock options, convertible preferred shares, etc. all serve to increasing the number of shares outstanding. As a shareholder, this is a bad thing. If the denominator in the equation (shares outstanding) is larger, the earnings per share is reduced (the same profit figure is used in the numerator). This is a conservative metric because it indicates somewhat of a worst-case scenario. On one hand, everyone holding options, warrants, convertible preferred shares, etc. is unlikely to convert their shares all at once. At the same time, if things go well, there is a good chance that all options and convertibles will be converted into common stock. A big difference in a company's EPS and diluted EPS can indicate high potential dilution for the company's shares, an attribute almost unanimously ostracized by analysts and investors alike. And in this case, the difference between the two is minimal (29.10-28.80=0.30) and that augurs well for the bank. As regards P/E, a high P/E suggests that investors are expecting higher earnings growth in the future compared to companies with a lower P/E. However, the P/E ratio doesn't tell us the whole story by itself. It is usually more useful to compare the P/E ratios of one company to other companies in the same industry, to the market in general or against the company's own historical P/E. A look at the following data would be self-explanatory:-

16 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

16

Company PE

Kotak Mah. Bank 35.53

Dhanlaxmi Bank 24.12

HDFC Bank 20.45

IndusInd Bank 17.31

ING Vysya Bank 15.27

ICICI Bank 11.97

Dev.Credit Bank 9.39

I O B 9.28

Axis Bank 9.01

St Bk of India 8.27

Central Bank 7.59

Yes Bank 7.53

City Union Bank 6.52

Federal Bank 6.48

Lak. Vilas Bank 6.48

Karur Vysya Bank 6.32

St Bk of Mysore 5.76

UCO Bank 5.79

South Ind.Bank 5.16

Stand.Chart.PLC 5.07

J & K Bank 5.03

Bank of Baroda 4.64

IDBI Bank 4.54

Karnataka Bank 4.50

United Bank (I) 4.32

Allahabad Bank 3.62

Bank of India 3.51

Canara Bank 3.48

Punjab Natl.Bank 3.42

S B T 3.41

Oriental Bank 3.33

Union Bank (I) 3.03

St Bk of Bikaner 2.99

17 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

17

Vijaya Bank 2.97

Bank of Maha 2.81

Corporation Bank 2.66

Andhra Bank 2.53

Pun. & Sind Bank 2.32

Dena Bank 2.14

Syndicate Bank 2.06

Indian Bank 2.04

Further, the PE of Banking Sector is 9.31% and HDFC is way beyond the industry averages. The two banks, Kotak and Dhanlaxmi may be scoring higher than HDFC in PE but HDFC Bank with its market cap of ₹146,260 Crores is way ahead and beyond a fair comparison wrt Kotak Mahindra (₹ 52,632 Crores) and Dhanlaxmi Bank (₹ 434 Crore). 3.8 Dividend History

Year Rate of dividend (of face value) Rs.

Closing price* Date*

FY 2008 85 % 1.70 248.60 5 June 2009

FY 2009 100 % 2.00 308.04 22 June 2009

FY 2010 120 % 2.40 382.83 10 June 2010

FY 2011 165 % 3.30 471.79 2 June 2011

FY 2012 215 % 4.30 547.00 28 June 2012

FY 2013 275 % 5.50 655.70 13 June 2013

* Closing Price as on the date of declaration of final (or last) dividend for the Financial Year.

18 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

18

The Company has maintained an average dividend yield of 0.71 % over the last 5 financial years. When compared with market prices, the

dividend yield is not the highest (eg 0.8% in FY2013) in the industry and yet the consistency in the payments has been a feature of this stock.

3.9 Liquidity and Credit Analysis

Particulars FY 2009 FY 2010 FY 2011 FY 2012 FY 2013

Net Interest Margin Ratio (“NIM”) 4.22 4.35 4.25 4.44 4.50

Capital Adequacy Ratio 15.69 17.44 16.22 16.52 16.80

Net NPAs 0.63 0.31 0.19 0.18 0.20

NIM: Banks focus on lending or advancing money at a rate higher than the rate at which they accept deposits. Net Interest

Margin is calculated by dividing the difference between Interest earned (on advances) and interest expended (on deposits) by the

amount of (average) Invested Assets. If this ratio rises from one period to the next, it indicates that the bank is able to deploy its

funds more efficiently which results in greater profitability. It has been the case with HDFC Bank.

Capital Adequacy Ratio (CAR): or Capital to Risk Weighted Assets Ratio (CRAR) is a measure of a bank's capital (net

worth plus subordinated debt) expressed as a percentage of a bank's risk weighted credit exposures (loans). Two types of capital

are measured: Tier I capital, which can absorb losses without a bank being required to cease trading (such as ordinary share

capital and free reserves); and Tier II capital, which can absorb losses in the event of a winding-up and so provides a lesser degree

of protection to depositors (such as long term unsecured loans and revaluation reserves which is taken at a discount of 55 % while

determining its value for inclusion in Tier II capital). Measuring credit exposures requires adjustments to be made to the amount of

assets shown on a bank's balance sheet. This is done by weighting the loans made by a bank according to their degree of

riskiness, e.g. loans to Governments are given a 0 %weighting whereas loans to individuals are weighted at 100 %. Similarly off-

balance sheet items such as guarantees and foreign exchange contracts are also weighted for their riskiness. On-balance sheet

and off-balance sheet credit exposures are added to get total risk weighted credit exposures.

19 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

19

As per the Basel II norms the minimum capital adequacy ratios that apply are:-

(a) Tier I capital to total risk weighted credit exposures to be not less than 4 %;

(b) Total capital (Tier I plus Tier II less certain deductions) to total risk weighted credit exposures to be not less than 8%.

The RBI currently prescribes a minimum capital of 9 % of risk-weighted assets, which is higher than the internationally

prescribed percentage of 8 %. Applying minimum capital adequacy ratios serves to protect depositors and promote the stability and

efficiency of the financial system. HDFC Bank, therefore, is well capitalised with an overall capital adequacy ratio (CAR) of 16.8 %

for FY 2013, well above the benchmark requirement of 9% stipulated by Reserve Bank of India (RBI). Of this, Tier I CAR was

11.1% (9.41% for FY 2012), while the Tier II CAR was at 5.7% (3.24% for FY 2012).

NPA: Non Performing Asset or NPA is a classification used by financial institutions that refer to loans that are in jeopardy of

default. Once the borrower has failed to make interest or principal payments for 90 days the loan is considered to be a non-

performing asset. Any rise in the percentage of NPAs results in a sharp decline in the overall profitability.

3.10 Position in NIFTY

There are a total of 12 banking stocks amongst 50 in NIFTY. As can be seen, despite bigger banks like SBI also appearing

in the list, HDFC is at apex position as far as weightages (30Sep 2013) are concerned. As is known, stocks weightages in bank

nifty are determined based on their free float market cap outstanding. Bank Nifty index stocks are selected from banking stocks

which are traded on National Stock Exchange of India, which are highly liquid and large capitalized. Bank Nifty Index provides

investors a bench mark of banking stocks performance in Indian capital markets. Their respective weightages are as indicated

below:-

20 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

20

SECURITY NAME WEIGHTAGE %

Axis Bank Ltd. 7.65

Bank of Baroda 2.56

Bank of India 0.9

Canara Bank 0.86

HDFC Bank Ltd. 32.48

ICICI Bank Ltd. 27.48

IndusInd Bank Ltd. 4.48

Kotak Mahindra Bank Ltd. 7.4

Punjab National Bank 1.9

State Bank of India 11.6

21 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

21

SECURITY NAME WEIGHTAGE %

Union Bank of India 0.76

Yes Bank Ltd. 1.93

22 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

22

PART 4 – CONCLUSION

4.1 Scenario The fundamental analysis, as above, indicates scenarios at three levels and it is a combination of all three of these that would give an investor confidence to invest for a long term, buoyed by the strong fundamentals and bright prospects. The summary of three scenarios is as follows:-

(a) Macro-economy. The worst appears to be over. In any case, as the turmoil of 2008 could not dent our economy and the present crisis being a combination of both domestic and international factors that have affected many developing economies across the globe, it is safe to assume that our macro-economy fundamentals are strong and our economy has no option but to follow a path of growth. Needless to say that banks will have a big role to play in such a growth that, itself, would be dependent on capital intensive projects. (b) Banking Industry. The industry is passing through a stress as of now. But as the economy begins to recover and as the worst appears to be falling behind, banking industry is also set to follow a path of growth. But if we focus on birds in hand, it would be pertinent to mention that even during present crisis, even though biggies went into a spin, some of the better managed (and largely private banks) managed to maintain their financial health and credibility. HDFC is one such bank. (c) HDFC Bank. HDFC Bank is among the top banks in the private sector domain. The bank boasts of a huge amount of operational efficiencies for over the years. It has got a very good asset quality and good coverage ratios. The bank has aggressively looked into rural areas and tier-V and tier-VI cities. And that would lead to almost 30% plus compound annual growth rate (CAGR) in revenues for the bank in the next two-three years. As explained above, the bank has positive net interest margins (NIMs) of almost 4.5% and it is felt and believed that it would be able to maintain that for the foreseeable future, especially so when the worst appears to be over. Although the stock is trading at premium to other banks, but given the kind of good asset quality, traction of business, reduced credit cost going forward, it can easily trade around 3.5 times the adjusted book value of FY13, which is close to ₹ 180. With standalone Book Value of approximately Rs 125, at Rs 611.75 (closing price on 01 Oct 2013), the share is trading at close to 5.0 times. The industry P/E of 11.85 v/s its present P/E 20.4 (01 Oct 2013) also conveys the confidence that shareholders have in this bank. With its 52 weeks high of ₹ 727.30 and 52 weeks low of ₹505.75 (NSE quotes), the stock is a good buy at ₹ 611 or so.

23 SAPM Assignment : Fundamental Analysis of HDFC Bank

Group Members : Manoj Kajla, Praveen & Col Ajay K Raina, SM

23

4.2 The Verdict A good buy for the long term investments; the stock has been giving healthy

returns in terms of appreciation. Even though it may not be the sector leader as far

as dividend is concerned, it has been consistent nevertheless. Its weightage within

NIFTY is also a firm indicator even if a lay investor takes a cursory look at its profile.

References:-

www.hdfcbank.com

www.rbi.org.in

www.nseindia.com

www.icicidirect.com

www.planningcommission.nic.in

www.ibef.org

www.moneycontrol.com

www.motilaloswal.com

www.equitymaster.com

www.shodhganga.inflibnet.ac.in

www.economictimes.indiatimes.com

www.sanasecurities.com

www.deloitte.com

www.investopedia.com

www.sharemarketschool.com

www.businessweek.com