Financials The wait for recoveries is getting longer

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1 INSTITUTIONAL EQUITY RESEARCH Financials The wait for recoveries is getting longer 4 October 2018 INDIA Financials Q2FY19 Results Preview Our banking universe will see +11% yoy ( 4% qoq) growth in net interest income, driven by improvement in credit growth and stability in NIMs. Within this, retail banks will continue to report strong performance with NII growth of +19% yoy. Pre provision profit decline at 18% yoy ( 10% qoq) due to a fall in non interest income. Rising G Sec yields in Q2 should lead to moderate trading income. Preprovision profit for retail banks is likely to see a growth of +20% yoy (7% qoq). Slippage to remain in line with 1Q19, but would come mainly from corporate accounts while retail and agri slippages should moderate. This, along with absence of any major recovery, should keep GNPA elevated. We expect GNPA (%) to decline marginally (by 14ps) qoq in Q2 at 9.14% for the system. Higher provisions (with aging of NPAs) and absence of any major recovery in the quarter will keep the pressure on bottom lines, turning them negative in some cases. However, retail banks are likely to report strong PAT growth of +21% yoy. NII growth of housing finance companies will be stable at +16% yoy due to resilient NIM and strong growth in AUM. Earnings growth for NBFCs that we cover will be higher at 36% driven by a favourable base and higher growth. Manish Agarwalla ( ) Pradeep Agrawal ( ) Sujal Kumar ( ) Business growth gaining some momentum driven by services and retail Services (NBFCs) and retail (unsecured) keep driving credit growth. Working capital loan is still seeing higher demand due to rising commodities prices, while hardening of interest rates is resulting in some shift from credit substitutes to the loan portfolio. Deposit growth rate continues to see robust recovery from low levels in 2QFY18. MCLR rates have increased by ~10bps on average, while fixed deposit rates have increased by 5 10bps. Treasury contribution to decline Muted corporate banking activity will have a bearing on fee based income. Bond yields have been relatively flat, compared to 50bps increase in 1QFY19. Fee income for retail banks will see some seasonal impact. Slippage should remain in line with 1QFY19, but we expect higher slippages from corporates. Slippages from retail and agri should moderate. In absence of any major recovery, Gross NPA in our view should remain in line with 1Q19. Two notable recoveries in this quarter were Amtek Auto (Rs 122bn; haircut of 65%) and Adhunik Metaliks (Rs 50bn; haircut 92%). We expect GNPA (%) to decline marginally (14bps) qoq to ~9.14% in Q2FY19 for the system. We see NII growth for NBFCs under our coverage at a moderate 12% yoy, led by margin contraction, even as AUM growth remains healthy. While gold loan NBFCs are likely to see continued improvement in growth, asset financing NBFCs will grow by a healthy 20 25%. Sustained uptrend in demand for commercial vehicles helped vehicle asset financiers, especially CIFC and Shriram Transport Finance. Improvement in rural cash flow has lent stability to asset quality, and is positive for ruralfocussed NBFCs, especially MMFS and Magma. Earnings growth for NBFCs that we cover will be higher at 37% driven by a favourable base and higher growth. Top result picks: Banks: ICICI Bank, HDFC Bank NBFCs: Cholamandalam Finance, Shriram Transport Page 1 PHILLIPCAPITAL INDIA RESEARCH

2 Sector Trends Credit and deposit growth Credit growth breakup Sep 12 Feb 13 Jul 13 Dec 13 May 14 Oct 14 Mar 15 Aug 15 Jan 16 Jun 16 Nov 16 Apr 17 Sep 17 Feb 18 Jul Aug/12 Nov/12 Feb/13 May/13 Aug/13 Nov/13 Feb/14 May/14 Aug/14 Nov/14 Feb/15 May/15 Aug/15 Nov/15 Feb/16 May/16 Aug/16 Nov/16 Feb/17 May/17 Aug/17 Nov/17 Feb/18 May/18 Aug/18 Deposit (%) Credit (%) CD ratio (rhs) Agriculture Industry Retail Services Source: Company, PhillipCapital India Research CP and CDs outstanding (Rs bn) MFs investment in spread products as a % of total debt AUMs 7,000 6,000 5,000 4,000 3,000 2,000 1,000 Dec/15 Feb/16 Apr/16 Jun/16 Aug/16 Oct/16 Dec/16 Feb/17 Apr/17 Jun/17 Aug/17 Oct/17 Dec/17 Feb/18 Apr/18 Jun/18 Aug/ Sep/17 Dec/17 Mar/18 Jun/18 Aug/18 CP Outstanding CD Outstanding CP CDs Corporate Debt PSU Bonds Source: RBI, SEBI, PhillipCapital India Research Weighted average lending rate on fresh loans 12.5 Weighted average lending rate on outstanding loans Sep/14 Dec/14 Mar/15 Jun/15 Sep/15 Dec/15 Mar/16 Jun/16 Sep/16 Dec/16 Mar/17 Jun/17 Sep/17 Dec/17 Mar/18 Jun/18 8 Public Sector Banks Private Sector Banks Public Sector Banks Private Sector Banks Source: RBI, PhillipCapital India Research Page 2 PHILLIPCAPITAL INDIA RESEARCH

3 Weighted average term deposit rate Mar/13 Jul/13 Nov/13 Mar/14 Jul/14 Nov/14 Mar/15 Jul/15 Nov/15 Mar/16 Jul/16 Nov/16 Mar/17 Jul/17 Nov/17 Mar/18 Jul/18 SBI term deposit rate vs. corporate bond rate Jul/07 Mar/08 Nov/08 Jul/09 Mar/10 Nov/10 Jul/11 Mar/12 Nov/12 Jul/13 Mar/14 Nov/14 Jul/15 Mar/16 Nov/16 Jul/17 Mar/18 Public Sector Banks Private Sector Banks SBI TD Rate (1 2 Yr) Corp Bond (AAA 1 Yr) Source: Company, PhillipCapital India Research Median MCLR (%) Bank wise MCLR change in bps (since Dec 2017) Apr 2016 Jun 2016 Aug 2016 Oct 2016 Dec 2016 Feb 2017 Apr 2017 Public Jun 2017 Aug 2017 Source: RBI, Company, PhillipCapital India Research Oct 2017 Dec 2017 Private Feb 2018 Apr 2018 Jun 2018 Aug Laxmi Vilas Yes Bank Indusind DCB RBL Karur Vysya SBI IDFC UBI ICICI Dena Axis Kotak South Indian OBC HDFC Andhra Canara CBI IDBI P&S PNB Federal Allahabad BoI Indian IOB Syndicate United BoB Corp Karnataka Vijaya Bank valuation (P/Adj BV vs. ROE) Bank valuation (P/Adj BV vs. ROA) P/Adj BV CBK PNB HDFC IIB Kotak Axis DCB Yes ICICI SBI BOB INBK P/Adj BV CBK PNB SBI Axis DCB BOB INBK IIB Kotak Yes ICICI HDFC RoE Source: Company, PhillipCapital India Research RoA Page 3 PHILLIPCAPITAL INDIA RESEARCH

4 Earnings Estimates Sector snapshot based on coverage universe (Rs mn) Sep 18E Jun 18 qoq (%) Sep 17 yoy (%) BANKS NII 6,60,121 6,84,670 4% 5,92,370 11% Pre provision Profit 4,59,963 5,08,605 10% 5,60,854 18% PAT 86,249 39, % 1,12,559 23% NBFCs NII 73,223 70,622 4% 64,711 13% Pre provision Profit 48,590 46,905 4% 43,327 12% PAT 24,011 22,572 6% 17,635 36% HFCs NII 66,690 67,368 1% 57,571 16% Pre provision Profit 56,616 63,317 11% 56,786 0% PAT 45,540 43,086 6% 37,990 20% Source: Company, PhillipCapital India Research Estimates Earnings estimates Banks Axis Bank Net Interest income 49,028 51, % 45,396 % Loan growth will be driven by retail loan; corporate loan growth will Pre provision Profit 34,786 43, % 37, % remain muted PAT 3,207 7,011 na 4, % NIM to remain under pressure as 1QFY19 was optically high due to NIM (%) recovery from Bhusan Steel. Benefit from higher MCLR will only start EPS (Rs) % % to come in from 3QFY19 GNPA% Credit cost to remain elevated due to increase in NPAs from the NNPA% watch list and below investment grade portfolio. Slippages % % No major recovery in 2QFY19 Bank of Baroda Net Interest income 41,670 43, % 37, % Stability in overseas loans book and growth in domestic loans book Pre provision Profit 27,692 30, % 30, % to push overall loan book growth PAT 5,385 5, % 3, % Slippage to moderate in Q2FY19 qoq. However, recovery/upgrade NIM (%) to remain modest in absence of any major resolutions EPS (Rs) % % Moderate rise in G Sec yield during the quarter to result in limited GNPA% MTM impact on investment book NNPA% Slippages 40,000 47, % 34, % Canara Bank Net Interest income 30,060 38, % 27,834 % Weak credit growth and lower NIM to keep NII subdued Pre provision Profit 16,617 29, % 24, % NIM to decline in absence of any major recovery in the quarter PAT (4,306) 2,815 na 2, % Low specific coverage will warrant high provision for NPA, which will NIM (%) continue to drag the bottom line EPS (Rs) (5.9) % % Moderate rise in G Sec yield during the quarter to result in limited GNPA% MTM impact on investment book NNPA% Slippages 35,000 42, % 33, % DCB Bank Net Interest income 2,878 2, % 2, % High base of margin in Q2FY18 will moderate NII growth to some Pre provision Profit 1,346 1, % 1, % PAT % % NIM (%) EPS (Rs) % % GNPA% NNPA% Slippages 950 1, % % extent Trading gain to remain under pressure due to rising yield Operating leverage at play with expansion of balance sheet Stability in asset quality to keep credit cost under check Page 4 PHILLIPCAPITAL INDIA RESEARCH

5 HDFC Bank Net Interest income 1,16,050 1,08, % 97, % Credit growth to remain strong aided by retail unsecured loan and Pre provision Profit 94,055 86, % 78, % commercial vehicles. Stable NIM to provide strong NII growth PAT 50,799 46, % 41, % NIM to remain under pressure as benefits of higher MCLR into Loan NIM (%) yield will only start to kick in from 3QFY19 EPS (Rs) % % However, NIM will get support from Rs 240bn QIP during the GNPA% quarter NNPA% Stable asset quality and credit cost will continue to aid profitability Slippages 30,000 35, % 24, % Opex growth will continue to be lower than balance sheet growth ICICI Bank Net Interest income 59,945 61, % 57, % Loan growth will be driven by retail loans Pre provision Profit 48,501 58, % 69, % NII growth to remain under pressure due to moderate credit growth PAT 2,001 (1,196) 267.3% 20, % and lower NIMs NIM (%) NIMs to remain under pressure as 1QFY19 NIMs were optically EPS (Rs) 0.3 (0.2) 267.3% % higher because of recovery from Bhusan Steel GNPA% High credit cost to keep bottom line under pressure NNPA% Asset quality to remain elevated in absence of any major recovery Slippages 50,000 40, % 46, % Indian Bank Net Interest income 17,907 18, % 15, % Credit growth to gain momentum driven by the RAM segment Pre provision Profit 12,780 12, % 13, % NIM to decline in absence of a major recovery that had boosted PAT 4,335 2, % 4, % 1QFY19 NIMs NIM (%) Moderate rise in G Sec yield during the quarter to result in limited EPS (Rs) % % MTM impact on investment book. GNPA% In absence of any major recovery, asset quality to remain under NNPA% pressure Slippages 9,500 14, % 3, % Indusind Bank Net Interest income 22,398 21, % 18, % Loan growth to surpass industry growth by a huge margin. Pre provision Profit 19,292 19, % 16, % Commercial vehicles to see strong traction PAT 10,581 10, % 8, % Margin to remain under pressure as benefit of higher MCLR will start NIM (%) to kick in from 3QFY19 EPS (Rs) % % Collection efficiency across retail products satisfactory GNPA% Expect update on the merger progress NNPA% Slippages 5,180 4, % 4, % Kotak Mahindra Bank Net Interest income 26,999 25, % 23, % Loan growth will continue to be strong aided by corporate and CV Pre provision Profit 21,393 20, % 17, % segments PAT 11,783 10, % 9, % Savings deposits should continue to see strong traction NIM (%) % % NII growth driven by credit growth and stable NIMs EPS (Rs) % % Asset quality to remain stable GNPA% % % Key things to look out for: Update on strategy, growth appetite, and NNPA% % % impact of Aadhar verdict on digital strategy Slippages 4,959 3, % 5, % Punjab National Bank Net Interest income 38,546 46, % 40, % NII to decline qoq due to decline in margins. Q1FY19 saw margins Pre provision Profit 22,777 41, % 32, % PAT (9,778) (9,400) 4.0% 5, % NIM (%) EPS (Rs) (3.5) (3.4) 4.0% % GNPA% NNPA% Slippages 40,000 73, % 34, % increase due to strong recovery NIM to decline in absence of any major recovery, which had boosted 1QFY19 NIMs Credit cost to remain elevated due to high level of GNPA Moderate mark to market loss on investment book to provide some earnings support Bank to report loss due to high provisions Page 5 PHILLIPCAPITAL INDIA RESEARCH

6 State Bank of India Net Interest income 2,06,303 2,17, % 1,85, % Low single digit loan growth book along with lower NIM to drive NII Pre provision Profit 1,22,056 1,19, % 1,99, % PAT 2,636 (48,759) na 15, % NIM (%) % % EPS (Rs) 0.3 (5.5) 105.4% % GNPA% % % NNPA% % % Slippages 14,000 14, % 10, % Union Bank Margin to remain under pressure as 1QFY19 NIM was higher because of strong recovery Slippage will mainly come from the watch list Asset quality to remain elevated in absence of any major recovery Moderate rise in G Sec yield during the quarter to result in limited MTM impact on investment book Net Interest income 24,136 26, % 23, % Flat credit growth on a yoy basis and weak NIM to keep NII subdued Pre provision Profit 15,091 20, % 19, % Asset quality to remain elevated in absence of any major recovery PAT (3,927) 1,295 na (15,308) 74.3% High provision for NPA to erode profitability NIM (%) EPS (Rs) (3.4) % (21.1) 84.1% GNPA% NNPA% Slippages 30,000 46, % 26, % Yes Bank Net Interest income 24,201 22, % 18, % Bank has reported Advance and Deposit growth of 61% and 41% Pre provision Profit 23,575 24, % 19, % PAT 12,871 12, % 10, % NIM (%) % EPS (Rs) % % GNPA% % NNPA% % Slippages 7,515 5, % 71, % respectively NII growth driven by credit growth and stable NIMs NIM to remain stable; we expect NIMs to start rising from FY20 Slightly higher slippages; credit cost to remain stable Key thing to look out for: Divergence and update on management transition Earnings estimates Housing Finance Companies HDFC Limited Net Interest income 30,259 31, % 27, % Company to adopt Ind AS accounting standards. Our estimates are Pre provision Profit 24,219 30, % 29, % PAT 24,203 21, % 20, % EPS (Rs) % % based on Indian GAAP Loan growth driven corporate segment. Sold loan of Rs 60.6bn to HDFC Bank Asset quality to remain stable Things to watch out would be management commentary on inorganic acquisition LIC Housing Finance Net Interest income 9,852 9, % 8, % Company to adopt Ind AS accounting standard. Our estimates are Pre provision Profit 9,332 9, % 8, % based on Indian GAAP PAT 5,832 5, % 4, % Loan growth of 15% to be driven non housing loans EPS (Rs) % % Favourable base to reflect NII growth after three quarter of underperformance Asset quality likely to remain stable Repco Home Finance Net Interest income 1,158 1, % 1, % Company to adopt Ind AS accounting standard. Our estimates are Pre provision Profit % 1, % PAT % % EPS (Rs) % % based on Indian GAAP Disbursement to improve yoy on a low base; Loan growth to pick up sequentially NIM will remain stable as increase in yields offsets a rise in the cost of funds Indiabulls Housing Fin Net Interest income 17,264 16, % 13, % Company to adopt Ind AS accounting standard. Our estimate are based Pre provision Profit 15,208 14, % 12, % on Indian GAAP PAT 10,929 10, % 8, % Strong growth in loan book of 28% yoy to be driven by core home EPS (Rs) % % loans NIM to remain stable as home loan segment witnessed some upward rate adjustment Page 6 PHILLIPCAPITAL INDIA RESEARCH

7 Dewan Housing Finance Net Interest income 8,157 8, % 6, % Company to adopt Ind AS accounting standards. Our estimates are Pre provision Profit 6,872 7, % 5, % based on Indian GAAP PAT 3,959 4, % 2, % Loan growth to be driven by non housing loans, share of housing loans EPS (Rs) % % may come down marginally NIM to remain stable as home loan segment witnessed some upward rate adjustment Stable asset quality Source: Company, PhillipCapital India Research Estimates Earnings estimates NBFC Bharat Financials Net Interest income 3,933 3, % 2, % Company to adopt Ind AS accounting standards. Our estimates are Pre provision Profit 2,398 2, % 1, % PAT 1,484 1, % 1, % EPS (Rs) % % based on Indian GAAP Disbursement gaining momentum Stable margin to aid NII growth Credit cost at normalised level Shriram Transport Fin Net Interest income 18,731 18, % 16, % Pre provision Profit 14,424 14, % 13, % NII growth to remain healthy led by 22% growth in disbursement PAT 6,027 5, % 4, % Operating profit growth broadly in line with top line growth NIM (%) Earnings growth to remain healthy at 25%yoy EPS (Rs) % % NIMs to see contraction over the previous quarter Cholamandalam Fin. Net Interest income 8,276 7, % 7, % Higher AUM growth to drive NII growth Pre provision Profit 5,639 5, % 4, % PAT 3,048 2, % 2, % Healthy balance sheet growth to drive 31% growth in operating profit NIM (%) Asset quality to remain stable EPS (Rs) % % NIMs to see marginal contraction, led by higher cost of funds Mah & Mah Finance Net Interest income 11,663 10, % 9,110 2% Strong growth in disbursements to drive growth in NII Pre provision Profit 7,535 7, % 5, % Lower opex increase will lead to higher operating profit growth at 34% PAT 3,373 2, % % PAT growth aided by low base NIM (%) Asset quality to remain stable EPS (Rs) % % Shriram City Union Fin Net Interest income 9,604 9, % 8, % Stable AUM growth and stable NIMs to drive NII growth Pre provision Profit 5,843 5, % 5,412 % Operating profit growth to be in line with NII growth PAT 2,407 2, % 1, % NIMs to remain stable at 13.2% NIM (%) Asset quality to remain stable EPS (Rs) % % Manappuram Finance Net Interest income 6,509 6, % 5, % Lower NIMs to keep NII growth moderate Pre provision Profit 3,344 3, % 2, % Recent Kerala floods may have some impact on asset quality PAT 2,040 2, % 1,593 2% NIM (%) Rising share of lower yielding products and higher cost of funds EPS (Rs) % 1.9 2% driving margin contraction Muthoot Finance Net Interest income 11,151 11, % 11, % Higher base to impact NII growth Pre provision Profit 7,449 7, % 8, % Earnings growth to be higher aided by lower credit cost PAT 4,857 4, % 4, % NIMs to see contraction as the share of lower yielding products rises NIM (%) and as cost of funds rises EPS (Rs) % % Magma Finance Net Interest income 3,355 3, % 3, % NII growth to inch upwards as balance sheet starts growing again Pre provision Profit 1,957 1,812 % 1, % With operating leverage kicking in, operating profit growth to inch higher PAT % % Favourable base to drive strong earnings growth NIM (%) NIMs to remain stable EPS (Rs) % % Source: Company, PhillipCapital India Research Estimates Page 7 PHILLIPCAPITAL INDIA RESEARCH

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