Nomura Downgrades HDFC Bank to Neutral Amid Merger Challenges

Foreign brokerage firm Nomura has lowered its rating on HDFC Bank to “Neutral” following the bank’s analyst call to discuss the merger of the two entities. This downgrade comes as accounting adjustments have resulted in the combined entity’s book value being less than HDFC Bank’s standalone book value, leading several brokerages to revise their stock targets.

The book value, which represents a company’s total assets minus its total liabilities, is a critical indicator. At 9:30 am, HDFC Bank’s stock was trading at Rs 1,578.05, marking a 3.13 percent decline from the previous close.

Nomura analysts explained, “A downward adjustment to the incoming net worth of HDFC Ltd (largely due to IGAAP accounting and provisioning harmonization) results in a book value per share reduction of Rs 23 for the merged entity.” Consequently, they have reduced the target price for HDFC Bank from Rs 1,920 to Rs 1,800. This new target price suggests a 10 percent upside from HDFC Bank’s closing price on September 18.

Nomura also expressed concerns about the potential impact on net interest margins (NIM) over the next two to three quarters, citing HDFC Ltd’s Q2FY24 opening book NIMs at 2 percent, compared to 2.7 percent in Q1. This is primarily attributed to excess liquidity retained after the merger.

In response, Nomura has adjusted its net NIM estimates, lowering them by 25 basis points in FY24 and 15-20 bps in FY25-26F. They’ve also increased the cost-to-income estimate to 40 percent in FY24F, up from 36 percent previously.

Nomura noted, “Our FY24F earnings per share has been reduced by 9 percent, with approximately 5 percent cuts in FY25-26F. Our FY24 return on assets estimate is now at 1.7 percent, compared to the earlier 1.9 percent, gradually improving to 1.8 percent in FY25-26F.”

Other Brokerage Perspectives:

Citi, while revising its target price down to Rs 2,110 per share, has maintained its “Buy” rating on HDFC Bank. They observed a reset of the entity’s non-individual NPA (non-performing assets) to 6.7 percent in June from 3.7 percent in March. Additionally, they anticipate NIMs for FY23 to be at 2.9 percent, with a further decline of 20 to 70 basis points expected in Q1.

Jefferies, another brokerage firm, also retained its “Buy” rating on HDFC Bank but adjusted the target price to Rs 2,030 per share. They pointed out that non-performing loans (NPLs) of HDFC Ltd now constitute a substantial part of the merged entity.

Nomura highlighted, “HDFC Bank now trades at 2.5x 1-year forward book value per share (adjusting for subsidiaries), which is similar to ICICI Bank despite a comparatively lower loan growth and RoA outlook.”

Nomura’s decision to downgrade HDFC Bank to “Neutral” reflects concerns arising from the merger’s accounting adjustments, impacting the book value and potential pressure on net interest margins. While other brokerages have maintained their “Buy” ratings, they acknowledge challenges in the merged entity’s NPA and NIM performance. Investors will be closely watching how these factors evolve in the coming quarters.

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