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CONTEXT
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BUSINESS

HDFC Bank is in a spot.

Does it have a way out?
Amid the rout in the stock, no one is
talking about the private sector lender’s
alarmingly high credit-deposit ratio—a
key measure of stability—and the
management’s lax approach to the
problem.

Furquan Moharkan Delhi

14 February, 2024

Unlocked story

On 16 January, HDFC Bank announced its

results for the December quarter of the
ongoing fiscal. The event’s focus was on
the private sector lender’s better-than-
expected performance on the earnings
front.

Brokerages rushed to issue buy

recommendations on the stock, setting a
price target of over Rs 1,800 a share.
Broking firm Prabhudas Lilladher raised it
a few notches—Rs 2,000.

What happened the next day, however,

dampened all the cheer around the results.
The bank’s shares tumbled 8%, setting off
a downward spiral that hasn’t seen a
respite yet. The following week, BNP
Paribas Arbitrage sold 2 million shares of
HDFC Bank across two tranches—at an
average price of about Rs 1,480.

At the heart of the mess at the bourses lies

one key financial indicator: Credit-deposit
ratio. A measure of a bank’s liquidity, the
ratio compares total loans to deposits; a
higher ratio means greater reliance on
deposits for lending and thus more risk. In
HDFC Bank’s case, the number had touched
an alarming 110%—Yes Bank was at a
similar level in December 2019, a quarter
before it collapsed.

But more worrying is how HDFC Bank is

handling the situation. Two things stand
out. One, the bank lacks a clear-cut
strategy to get out of the troubling
situation. And two, over the past six
months, the bank’s credit growth has
outpaced the deposit growth by at least two
percentage points—despite the
management claiming otherwise.

“There is little that the bank has done to

make us believe that it is going to improve
its credit-deposit ratio,” says an
alternative investment fund manager,
asking not to be named.

Analysts see the inaction on the credit-

deposit ratio as a reflection of the
management’s lack of direction—a clear
departure from the past (more on this in a
bit). It’s not surprising that the bank’s
stock has barely recovered from the post-
results fall, though the shares have
corrected by 18% since—underperforming
the Nifty Private Bank Index, which has
declined only 8% since then.

Is there a way out of the turmoil? No doubt

HDFC Bank has a herculean task ahead.
Before we look at what’s holding the lender
back from addressing the problem, let’s
understand the severity of the situation.

In a tight corner
A worsening credit-deposit ratio does little
to regain investor confidence in HDFC Bank
—one of the three systemically important
banks, according to the Reserve Bank of
India.

But what is an ideal credit-deposit ratio?

For that, we need to understand the two
monetary policy tools that have a bearing
on this indicator.

The cash reserve ratio (CRR) and the

statutory liquidity ratio (SLR) are two
crucial pieces of this puzzle—both are set
by the RBI. The former is the minimum
percentage of deposits banks must keep
with the central bank as cash; the latter is
the percentage of deposits that banks must
maintain in the form of cash, gold or other
securities.

Currently, CRR stands at 4.5%, while SLR at

18%. Which means that for every Rs 100 a
bank garners as deposits, it has to set aside
Rs 22.5 for CRR and SLR. That leaves a bank
with Rs 77.5 to lend. The next logical
question is: If a bank can lend only Rs 77.5
out of every Rs 100 it raises as deposits,
how can the credit-deposit ratio go up to
110%—as is the case with HDFC Bank? The
answer to this lies in another market
reality: Banks also borrow from markets
and lend it to borrowers.

For HDFC Bank, a credit-deposit ratio of

110% means it has lent Rs 110 for every Rs
100 it has mobilised as deposits. Compare
this with rival ICICI Bank (87%) and Axis
Bank (93%).

“Ideally, the acceptable range of the credit-

deposit ratio, with current reserve rates, is
anything close to 80-90%,” says a senior
executive at a rival private sector bank,
asking not to be named.

Now, for the quarter ended 31 December

2023, HDFC Bank recorded advances of Rs
24.6 lakh crore and deposits of Rs 22.1 lakh
crore. This means that it lent Rs 2.5 lakh
crore more than it garnered in the form of
deposits—this is the money it borrowed
from the markets, and it costs more than
deposits. The strain of these market
borrowings is visible in the bank’s net
interest margin.

A quick introduction to the net interest

margin. It is the difference between the
interest received and interest paid; a higher
net interest margin is generally seen as a
good thing. Currently, HDFC Bank’s net
interest margin is at an all-time low of
3.4%.

Which brings us to another important

point: Why is HDFC Bank going for these
high-cost borrowings?

Truth be told, things were pretty stable at

the bank. But the merger with its parent
company HDFC Ltd—which was, in reality,
a bailout plan—changed that. Post merger,
HDFC Bank’s advances increased by Rs 6.15
lakh crore, while deposits went up by just
Rs 1.5 lakh crore—a major part of it had
come from HDFC Ltd. “Basically, HDFC Ltd
was a shadow bank, and it financed these
loans mostly from market borrowings,”
says the alternative investment fund
manager quoted above.

As a result, HDFC Bank’s credit-deposit

ratio shot up to 109%. If we exclude the
merger impact, the credit-deposit ratio
would be 85%—more or less in the
expected range.

So, did HDFC Bank not see it coming? Turns

out, it did. In the build-up to the merger,
the bank’s credit growth had slowed,
coming in at 16% year-on-year for the
quarter ended 30 June 2023—a day before
the merger. This was 560 basis points lower
than what it was a year ago.

The deposit growth, however, remained at

19%. Though it’s a different story how
HDFC Bank maintained this growth. Much
of it was achieved through term deposits,
which come with higher costs than the
current account and savings account
deposits. Agan, this—like HDFC Ltd’s
market borrowings—puts pressure on the
bank’s profitability. More importantly, this
growth wasn’t enough to cover up the
skewed credit-deposit ratio after the
merger.

All of this puts HDFC Bank in a tight spot.

The bank, on its part, seems to be trying
hard to douse the fire. “We do envisage that
the deposit rate of growth should outpace
the loan rate of growth,” chief financial
officer Srinivasan Vaidyanathan said in an
earnings call on 16 January. This was after
two analysts questioned the management
over the precariously positioned ratio.

The reply was seemingly meant to assure

investors that a problem had been
identified and measures would be taken to
remedy the situation. Except, it’s going to
take a lot more than just placatory gestures
like these to set things right.

Tough choice
With such a high credit-deposit ratio, says
an analyst tracking the banking sector,
HDFC Bank is posing a threat to the entire
financial services industry.

“The fact remains that this government is

known for taking decisions that create
panic in the economy. Imagine a
demonetisation kind of situation. What if
many people rush to the bank to withdraw
the money. Would HDFC Bank be able to
service it? There are questions over it,”
says this analyst, asking not to be
identified.

Let’s cut to the chase and see what it would

take for the bank to get its credit-deposit
ratio to the level it was before the merger—
85%. To achieve this, even if HDFC Bank
stopped giving fresh loans for a certain
period of time and there is zero credit
growth, it would still need its deposits to
grow 30%.

One way of making this happen is to work

on building the deposit book. And a simple
solution is to open more branches. To its
credit, the bank has already said there are
1,000 branches in the pipeline in 2024
(currently, the bank has 8,091 branches).

Even with branch expansion, though,

growing deposits is going to be tough. On
the one hand, the bank would have to stop
lending from all its branches. On the other,
according to our estimates, it would have to
ask each of its branches (let’s say 9,091 in
2024) to amass Rs 73 crore in deposits—a
tall order. In the six months since the
merger, the bank was able to garner
deposits worth just Rs 18.7 crore per
branch.

Growing deposits this way would, in turn,

burden junior-level staff further—a lot
that is not too happy with HDFC Bank
anyway (we have written about HDFC
Bank’s retention problem in the past).

Also, the timing of all this couldn’t have

been worse. The country is nearing a
general election. “The deposit growth gets
scarce as you near elections. People hoard
cash in the build-up to the elections,” says
the analyst quoted above. With the banking
system reeling under liquidity deficit,
HDFC Bank faces an uphill battle.

That said, the situation isn’t totally past

mending. If only HDFC Bank worked harder
on setting well-defined targets.

“During [former CEO] Adi Puri’s tenure,

there was clarity. Targets used to be set and
met most of the times,” says a former
senior executive at the bank, asking not to
be named. “Now targets aren’t set; they
only give broad directions and those too
look hard to achieve.”

During Puri’s time, notes this person, “he

used to set targets but communicate the
targets as well. It seems that is lacking
right now. There seem to be multiple power
houses within the bank.”

A quick look at the recent earnings calls

bears this out. Of the last eight quarterly
calls, Sashidhar Jagdishan—HDFC Bank
CEO, who has been with the bank for nearly
three decades—has attended just one. In
that call too, it was CFO Vaidyanathan who
was fielding most of the questions from
analysts. This doesn’t make for good optics
as far as the bank’s leadership is
concerned.

However, a spokesperson from HDFC Bank

says: “As a matter of practice at the Bank
for many years, the CFO takes the
questions on the analyst calls. Several
analyst meetings and investor meetings are
routinely attended by MD, DMD, CFO and
relevant members of the senior
management. The meetings include one on
one as well as group investor interactions
several times throughout the year.”

It, however, can’t be denied that HDFC

Bank does have a serious challenge on its
hands. What would help? For one, the bank
needs to be seen taking tough, definitive
decisions. A rival private bank’s chief has a
suggestion. “The bank should publicly
announce that it is going to cap its credit
growth at 5% in the next couple of years at
least. And then it has to push for deposit
growth. It needs to be seen if the bank is
ready for it,” says this person, requesting
anonymity.

While this might help ease the situation in

the long run, it could strain the bank’s net
internet income for 12 long months.
Moreover, any such announcement is sure
to hit the stock hard.

Is the management willing to take the risk?

Because this would also mean extra
pressure. After all, a lot of their own shares
are pledged with various entities.

“A lot of them have pledged the [employee

stock ownership plans] that they have got
for loans,” says an executive at the HDFC
group, requesting anonymity.

Now that’s a call the management has to

take.

HDFC Bank HDFC Ltd Aditya Puri

Sasidhar Jagdishan

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