HDFC

Fresh exposure can be considered in the Housing Development Finance Corporation (HDFC) stock, as the company has witnessed strong growth in mortgage disbursements (27 per cent year-on-year) despite stiff competition.

It maintained its market share in a tough competitive environment (given the teaser rates offered by banks) and yet maintained strong spreads, thanks to fall in cost of funds and superior operating efficiency.

HDFC enjoys cost-income ratio as low as 7.9 per cent against 40-50 per cent for banking companies. HDFC's solid credit rating (AAA) also enables it to raise resources at low cost.

Also, it has decent capital adequacy of 14.6 per cent and superior asset quality numbers.

At the current market price of Rs 2,731, the stock trades at a price-to-consolidated FY-10 earnings of 24.8 times. HDFC's subsidiaries account for a chunk of the stock valuation. HDFC has an investment book of Rs 16,600 crore, with value unlocking opportunities in insurance business in addition to several profitable subsidiaries.

The fair value of all the subsidiaries (AMC, insurance) and investments works out to about Rs 1100 per HDFC share (not assuming any holding company discount).

If this is excluded from the HDFC stock price, the price-adjusted book value for the standalone business would be about 2.9 times.

With the Eleventh Plan projecting a 24.7 million unit shortfall in housing units, potential for market expansion for the home lender remains substantial.

The rising income levels of the individuals, increased focus by the developers on low-cost affordable housing and rising urbanisation, offer immense scope for housing finance.

Given this backdrop, HDFC as the market leader is expected to gain the most even as its focus has been on improving its profitability more than market share.

Incremental bank lending to housing was at Rs 22,000 crore for 2009-10. HDFC alone witnessed incremental lending in excess of Rs 12,500 (estimated) to the retail sector for this period.

Strong balance-sheet

The sanction-disbursement ratio of 82 per cent as of March 2010 for HDFC was high, thanks to its retail focus. For 2009-10, HDFC's loan book (adjusted for securitisation) grew by 16 per cent, while the scheduled commercial banks' housing loan portfolio grew by only 8.8 per cent year-on-year.

In addition to its good branch network of 279 outlets, HDFC also leverages on HDFC Bank's network of 1,725 branches for tapping clients and cross-selling its subsidiaries' financial products.

As of December 2009, 31 per cent of mortgages were routed from HDFC Bank. HDFC's low processing time has been its key edge over competition from banks.

Around two-thirds of HDFC's total loans are from retail investors. The average ticket size went up from Rs 11 lakh in 2007 to Rs 16.4 lakh for the nine months ended December 2009, indicating higher affordability of home loan borrowers.

HDFC's average loan-to-value of 68 per cent also provides it with some margin of safety.

The current gross NPA ratio stood at 0.79 per cent and the net NPA at 0.13 per cent. Asset quality improved 21 quarters in a row.

While borrowings from debentures continue to be a major source of funds, resources raised from financial institutions and retail deposit too are catching up.

In addition, HDFC also has other avenues such as securitisation to raise funds. As securitised housing loans are eligible to be categorised as priority lending, HDFC gets competitive spreads. HDFC has comfortable capital adequacy ratio of 14.6 per cent; further capitalisation is expected post-warrant conversion in two tranches beyond 2011.

Operating metrics

The stand-alone net profit of HDFC grew at 22 per cent annually between 2005-10 while the consolidated earnings grew by 25 per cent.

Net profit was aided by strong loan book growth of 20 per cent in the last five years. The consolidated earnings grew by 40 per cent in FY 2010.

The strong profit number was supported by improved spreads of 2.31 per cent and low cost-income ratio. Cost-income ratio improved from 8.8 per cent to 7.9 per cent.

Subsidiaries

HDFC holds 23.7 per cent stake in HDFC Bank; 61 per cent in Gruh Finance; 72 per cent in the life insurance arm; 74 per cent in general insurance and 60 per cent in the mutual fund business.

The AMC business witnessed significant jump in profits during the current year; it posted Rs 208 crore profits against Rs 129 crore in the preceding year.

The life insurance subsidiary also contained losses to some extent for the year-ended March 2010, while general insurance continues to post losses.

HDFC's life insurance business is expected to unlock value as it plans to list next fiscal. The recent acquisition of Credila would diversify its loan book into the high-margin education loan business.

Key risk

The imminent rise in interest rates may not be of much concern for HDFC in terms of interest rate risk, as 80 per cent of the assets and 82 per cent of liability, as of March 31, 2009, were on a floating basis.

This will enable HDFC to pass on interest hikes to customers. However, asset quality slippages cannot be ruled out.

With the low teaser rates gone and property prices rising, home buyers too may postpone their borrowings, limiting disbursement growth. Around one third of the total advances are for corporate projects, which are still not out of woods.

The priority lending sector status for housing, coupled with tax benefits, has made the sector lucrative.

However, any rollback in tax incentives to housing in the Direct Taxes Code poses a risk.

via BL