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HDFCB hosted an analyst meet to primarily discuss the adjustments to op. net worth (NW) of eHDFCL and its potential impact on merged NIMs/asset quality aligning with HDFCB’s policy framework. As per management, net adjustments to eHDFCL’s op. NW of Rs1,340bn as on March 31 would work out to Rs364bn/Rs48 per share and, thus, net adj. NW would be Rs976bn. The adjustments include I-Gaap alignment of Rs118bn, credit harmonization of Rs76bn, DTL impact of Rs49bn, tax shield of Rs40bn, Q1FY24 profit of Rs62bn, dividend payout of Rs81bn, and cancellation of inv/share-swap of Rs142bn. We had largely factored in these adjustments, but for DTL and prudent contingent provisions, which we believe will protect future profitability and boost RoEs. Separately, the bank has guided for calibrated growth in the near term with a focus on building granular liability to replace HDFCL’s highcost borrowing and ramping-up the mortgage business from the bank’s platform, which coupled with reducing the regulatory drag should lead to margin/RoA normalization. Factoring in incremental NW adjustments, we have lowered our BVPS estimates by 1-2% but expect the bank’s RoA/RoE to improve from 1.9%/15.8% in FY24E (merged) to ~2%/17.3% by FY26E, as merger synergies kick in. We retain BUY with a TP of Rs2,100, valuing the core bank at 2.8x Sep-25E ABV and subs/inv. at Rs185/share.

Net worth adjustments stand at 27% of op. NW of eHDFCL as on March 31, 2023: As per management, net adjustments to eHDFCL’s op. NW of Rs1,340bn, as on March 31, would work out to Rs364bn/Rs48 per share, including I-Gaap alignment of Rs118bn, credit harmonization of Rs76bn (incl. contingent provisions of Rs39bn), DTL Reserve impact of Rs49bn, tax shield (positive) of Rs40bn, Q1FY24 profit of Rs62bn, interim dividend payout of Rs81bn, and cancellation of investments/share-swap of Rs142bn. Post the adjustment, eHDFCL’s NW stands at Rs976bn. As per management, the DTL reserve has been mainly created on lower tax incidence on mortgage portfolio enjoyed by eHDFCL by creating special reserve under Sec. 36, while contingent provisions have been created after factoring in the conservative risk assessment based on the bank’s policy. Overall, contingent provisions, including floating provisions, would now be ~Rs150bn/0.7% on merged loan book. Additionally, we believe the bank would recognize consideration from warrant conversion in Q2, while CREDILA’s stake sale gains could possibly be recognized in Q3, subject to regulatory approvals.

Excess liquidity and regulatory drag including ICRR impact to hurt margins in Q2, before gradually recovering by Q4: The bank has reported that proforma merged HDFCB’s Q1FY24 margins based on interest-earning assets/overall assets stood at 3.9-4%/3.7-3.8% vs. 4.3%/4.1% for the standalone bank. Additionally, the bank has reported that eHDFCL’s margin for Q1FY24 stood at 2.7%, which adjusted for terminal excess liquidity and regulatory drag (ex ICRR) stood at 2% postthe merger on ‘Day 0’. The bank believes the cumulative effect of ICRR + Excess liquidity + cost catch-up could be 20-25bps in the near term, but margins should gradually recover, led by reduction of ICRR/regulatory drag plus growth acceleration and replacement of eHDFCL’s high-cost borrowings. On the liability front, the bank has been ramping up branches and would look at the gradual replacement of HDFCL’s high-cost borrowings (80-85% to be replaced via retail deposits) as they mature. The bank also remains open to explore bulk deposits (subject to the right pricing) and would look to build a long-term bond book to match the long-term mortgage book.

Retain BUY Factoring in incremental NW adjustments, we have lowered our BVPS estimates for FY24-26E by 1- 2%. However, we expect the bank’s RoA/RoE to improve from 1.9%/15.8% in FY24E (merged) to ~2%/17.3% by FY26E, benefiting from better growth/margins and fees, as merger synergies kick in. We retain BUY with a TP of Rs2,100 (valuing the core bank at 2.8x its Sep-25E ABV + subs/inv. value at Rs185/share). Further, given KMB undergoing mgmt. transition (typically leading to business/valuation softness as seen in HDFCB), HDFCB with a stable mgmt., better return profile and valuation (2x FY26E ABV vs. 2.1x for KMB) offers a good bet from a medium-long term view. The long-awaited listing of HDB Fin should be another stock catalyst going ahead.

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