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Earnings in line; margins stable at 6.3%

RoA to expand gradually; downgrade to Neutral on limited upside

* IDFC First Bank (IDFCFB) reported 2QFY24 PAT of INR7.5b (up 35% YoY, slight 4% miss), led by robust revenues.

* NII grew 32% YoY, led by healthy loan growth and largely stable margins (down 1bp QoQ to 6.32%).

* Loan book (incl. credit subs) grew 28%YoY/7% QoQ. Deposit growth was healthy at 39% YoY, with CASA mix broadly stable at 46.4%.

* IDFCFB is well poised to deliver healthy loan growth, led by robust traction across retail, while drag from the wholesale book continues to moderate. However, higher opex will curb the pace of RoA expansion.

* IDFCFB stock has delivered ~60% return since we initiated coverage on the stock in Oct-22. However post sharp outperformance over past one year the stock now offers a limited upside to our revised fair value. We estimate bank to deliver 30% earnings CAGR over FY23-26 with RoA/RoE thus reaching to 1.33%/13.6% in FY26. We downgrade our rating to Neutral with a revised TP of INR95.

Margins broadly stable at 6.3%; SMA book under control at 0.77%

* IDFCFB reported 2QFY24 PAT of INR7.5b (up 35% YoY; 4% miss), led by steady NII, healthy other income and in-line provisions.

* NII grew 32% YoY to INR39.5b (in line), driven by strong loan growth (up 28% YoY) and flat margin at 6.32% (down 1bp QoQ). The bank expects the margin to remain stable, aided by healthy loan growth, continued unwinding of high-cost legacy borrowings and re-pricing of MCLR-linked loans.

* Other income grew 35% YoY, with robust 47% YoY growth in core fees, while treasury income declined. Opex grew 34% YoY, with the C/I ratio staying elevated at 72%. PPoP rose 29% YoY to INR15b (in line).

* On the business front, funded assets grew 26% YoY/7% QoQ, led by 51%/29% YoY growth in Rural/Retail finance. The SME & Corporate book also grew 22% YoY. Within retail, growth was led by housing (26% YoY), vehicle finance (41% YoY) and cards (58% YoY). The share of Consumer and Rural finance stood at 69% as on 2QFY24.

* Deposits grew 39% YoY (up 11% QoQ), with healthy growth in CASA deposits at 26% YoY/11% QoQ. Thus, the CASA ratio was flat at 46.4%.

* Asset quality continued to improve, with GNPA/NNPA ratios declining by 6bp/2bp QoQ to 2.11%/0.7%. PCR was stable at ~68%. Further, the SMA book declined to 0.77% as on 2QFY24 vs. 0.85% in 1QFY24. Restructured book declined to 0.4% of funded assets vs. 0.5% in 1QFY24.

Highlights from the management commentary

* The C/I ratio remains elevated on continued business investments; however, the bank expects operating leverage to play out, resulting in a moderation in C/I by FY25 end.

* The credit card business is likely to achieve a breakeven by FY25 and profits will show up in FY26.

* IDFCFB’s exposure to customers with less than INR50k unsecured loans is minimal at INR5.4b (0.3% of funded assets and 0.37% of retail loans). It has, though, tightened risk management policies. CE remains strong at 99.5%.

* A large part of the re-pricing has happened in the deposit portfolio and another 10-15bp will occur in coming quarters. INR25-26b of legacy borrowing at 8.9% is due to mature in 2H.

Valuation and view

* IDFCFB delivered a steady quarter with healthy business growth and stable margins. RoA stood at 1.16% as high opex remains a drag. We believe that the C/I ratio may remain elevated in the near term, mainly due to the need to mobilize deposits at a healthy run rate and continued investment in business, technology and branches.

* We estimate margins to remain stable, benefiting from steady loan growth, limited deposit re-pricing and further replacement of high-cost borrowings in FY25. While IDFCFB’s asset quality metrics and CE remain strong, we would monitor its credit quality given the increasing stress in the unsecured retail segment. We note that even a slight increase in credit costs can prolong the guided recovery in RoA.

* IDFCFB stock has delivered ~60% return since we initiated coverage on the stock in Oct-22. However post the sharp outperformance over past one year the stock now offers a limited upside to our revised fair value. We estimate bank to deliver 30% earnings CAGR over FY23-26 with RoA/RoE thus reaching to 1.33%/13.6% in FY26. We downgrade our rating to Neutral with a revised TP of INR95 (1.8x FY25E ABV).

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