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RBI grants dispensation on PSL / Insurance businesses stake

With clarity on regulatory dispensations, HDFC Bank, in our view, has crossed a major milestone in its journey towards big-bang merger with parent HDFC Limited. RBI has granted some leeway pertaining to PSL compliance, holding stake in the insurance businesses and LAS business of HDFC Limited though there is no relaxation on CRR, SLR and LCR front. Bank has got 6 months (sufficient time, in our view) to link all the retail, MSME and floating-rate loans of HDFC Limited with appropriate benchmark. RBI seems to be silent on the proposed grandfathering of the parent’s liabilities and the bank would approach RBI with the crystalized amount in due course. There are a few areas (loans regarding land acquisition, core investment companies, projects under implementation, etc.) where clarity is yet to come in, but these are not of much consequence, in our view. Our back-of-the-envelope calculations suggest that the relaxed dispensation on PSL timeline should ease RoA drag by <5bps but, more importantly, should give better manoeuvrability to the bank in its journey towards PSL compliance while pursuing its strong growth ambitions. The merger remains on track and should be consummated within the earlier-envisaged timeline (Jul’23), in our view. Overall, we believe the developments should largely ease the overhang surrounding merger uncertainties. We revise our earnings for standalone bank to reflect our current estimates. We tweak our target price to Rs2,000 (vs Rs1,990 earlier), valuing the standalone bank at ~3.0x FY25 ABV. Maintain BUY.

* Some leeway on PSL compliance as only one-third of HDFC Limited’s loans to be used for ‘adjusted net bank credit’ (ANBC) in year-1: Bank has got some leeway in its PSL compliance for the merged entity. ANBC may be calculated considering one-third of the outstanding loans of HDFC Limited as on the effective date of the amalgamation for the first year. The remaining two-thirds of HDFC Limited’s portfolio shall be considered over a period of next two years equally. We believe this would be a key positive for the bank as it is likely to make PSL compliance easier for the merged entity. Bank has clarified that on the date of merger, only ANBC would increase while PSL requirements would come-in only after 12 months (as usual). Incremental loans for HDFC Limited will follow business-as-usual PSL requirements. It seems the qualified bonds issued by HDFC Limited may not be eligible for deduction from the PSL perspective though further clarity is awaited. On PSL mechanism, the bank mentioned it would endeavour to be PSL-compliant via the organic route. Hence, it is rapidly expanding its presence in semi-urban / rural locations. It also mentioned there are multiple alternatives for complying with PSL – namely IBPC, co-lending, PSLC, PTC and RIDF and that it would take a calculated call while evaluating these options.

* No disruption with respect to stake in the insurance businesses: Investments including subsidiaries and associates of HDFC Limited will be allowed to continue as investments of HDFC Bank. The RBI has permitted HDFC Bank / HDFC Limited to increase its shareholding to more than 50% in HDFC Life Insurance and HDFC ERGO General Insurance prior to the effective date of amalgamation. This appears to be the least disruptive way to continue with the stake in insurance businesses, in our view. Moreover, in terms of HDFC Limited’s holdings in other banks (Yes / Bandhan), they are already within the normal threshold and thus can maintain status-quo from the regulatory perspective. The RBI has also permitted HDFC Bank to continue holding HDFC Limited’s stake in: (a) HDFC Education and Development Services Private Limited, and (b) HDFC Credila Financial Services Limited, subject to its shareholding being brought down to 10% within 2 years from the effective date and not on boarding new customers. The required change in the said two entities is not material in the overall scheme of things, in our view.

* CRR, SLR and LCR norms applicable from day-1 without any relief: The merged entity shall continue to comply with extant requirements of CRR, SLR and LCR from the effective date without exception. There is no dispensation given by RBI here, but it is in line with our / consensus expectations. Statutory requirement for SLR is 18% and CRR is 4.5%, while the bank is carrying ~25% SLR and 116% LCR as of Mar’23. Management did not specify if it would need additional liquidity to maintain sufficient buffer to comply with LCR norms for the merged entity.

* HDFC Bank’s interest rate won’t be detrimental for HDFC Limited customers: Bank will have to do one-time mapping of all borrowers of HDFC Limited for benchmark and spreads. All retail, MSME and other floating-rate loans sanctioned by HDFC Limited would be linked to appropriate benchmark (EBLR or MCLR) within 6 months from the effective date. The benchmark applicable here would be either EBLR or MCLR. However, we are not sure if the bank can offer MCLR option to the existing HDFC Limited home loan customers upon transition. Bank has clarified that the effective rate to the customers would not be detrimental and the transition should be seamless. It remains confident that the associated costs too should not be material. Bank would aim to maintain / deepen the existing relationship with customers and further improve upon it.

* LAS above Rs2mn to be permitted in bank till maturity: RBI has permitted that the merged entity can continue to keep loan against shares (LAS) for either promoter contribution or in excess of Rs2mn to the individuals, for the existing duration/maturity. This is in line with our as well as consensus expectations of not allowing bulk LAS business within the bank.

* No explicit mention on grandfathering of liabilities: RBI seems to be silent on the proposed grandfathering of the parent’s liabilities and the bank would approach RBI with the crystalized amount in due course.

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