HDFC Bank: How a 23-year-old Indian bank became “too big to fail”

Star performer.
Star performer.
Image: Reuters/Shailesh Andrade
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On Sept. 04, the Reserve Bank of India (RBI) added HDFC Bank to an elite list of Indian lenders.

The 23-year-old organisation, India’s second-largest-private-sector lender, is now one of India’s domestic systemically important banks (DSIB).

“In addition to SBI and ICICI Bank, which continue to be identified as domestic systemically important banks (DSIBs), the Reserve Bank of India has also identified HDFC Bank as a DSIB, under the same bucketing structure as last year,” a statement from the central bank said.

That means HDFC Bank will now be deemed ”too big to fail”, and its failure could be catastrophic for the country’s financial system and economy. SBI and ICICI Bank were named to the list in 2015. As a prerequisite, each of the three banks has assets exceeding 2% of India’s GDP.

HDFC Bank will now be subjected to more rigorous regulation and capital requirement norms, and, like its two predecessors, it will have to set aside a higher share of its capital for contingencies, in a phased manner, between April 2016 and March 2019.

With a total balance sheet of Rs895,653 crore, and deposits of Rs671,376 crore, HDFC Bank is India’s most valuable lender. The company had a market capitalisation of Rs453,421 crore ($70.57 billion) on Sept. 05, 2017.

Two-decade-long journey

HDFC Bank was set up in 1994, and was one of the first lenders in the country to receive the RBI’s in-principle approval after India decided to liberalise its banking sector, till then dominated by state-run banks. A year later, the bank opened its first branch in south Mumbai’s Churchgate neighbourhood.

It was promoted by the Housing Development Finance Corporation (HDFC), a retail housing finance firm founded in 1977 by Hansmukh Parekh, a former chairman of the Industrial Credit and Investment Corporation of India (ICICI).

“At that time none of us realised that the bank will showcase such stellar growth and performance,” Deepak Parekh, chairman of HDFC, told Quartz. “I believe the continuity of the top-most senior management and their contribution has helped the bank grow to these levels.”

Since its inception, HDFC Bank has been led by managing director Aditya Puri, a former CEO of Citibank Malaysia. The lender has by now built a customer base of over 40 million and a network spanning 4,715 branches in almost 2,700 Indian towns and cities. Puri himself has gone on to become the longest-serving CEO of an Indian bank.

The critical success

HDFC Bank’s success came largely due to its focus on retail loans, which constitute 54% of its loan book, as per latest data.

The strategy was far-sighted, particularly at a time when other lenders were chasing big corporate loans, because it helped maintain growth when others were struggling with non-performing assets (NPA). Bad loans worth some Rs7.29 lakh crore, as of March 2017—equivalent to 5% of country’s GDP—have wreaked havoc on the Indian banking sector.

HDFC Bank is among the small clutch of lenders who have come out relatively unscathed. At the end of April-June quarter, its NPAs were at 1.24% of gross advances. In the recent quarters, the bank has seen its bad loans increase on account of defaults in the agriculture and small-business segments, but it isn’t as grave when compared to other lenders.

For instance, ICICI Bank, India’s largest private lender, reported gross NPAs of 7.99% in the first quarter of this financial year. Axis Bank, the country’s third-largest private lender, reported 5.03% gross NPAs in the same quarter. The picture is even worse at public sector banks (PSBs): Out of the 21 PSBs, eight have a gross NPA ratio of over 15%.

This focus on retail also helped it steer clear of the sticky infrastructure, power, or construction sectors that hit most other banks.

“They (HDFC Bank) will continue to be a dominant player in the retail space as they have a strong capital position and stable asset quality. They have managed to remain a clear winner in the retail segment and so the growth momentum is expected to continue,” said Siddharth Purohit, senior analyst at domestic brokerage house Angel Broking.

Traditionally, the lender concentrated on working capital loans, relatively small-ticket products that companies use to finance routine operations. Now, with competitors facing sluggish growth in their corporate portfolios, HDFC Bank is strengthening its position by expanding into term loans, which are longer duration loans typically taken by companies for asset creation.

Besides organic growth, HDFC Bank also took the acquisition route, buying out Times Bank in 2000 and Centurion Bank of Punjab in 2008.

In the bank’s retail loan book, the auto-segment accounts for the highest share of loans at Rs66,011 crore, as per the latest data. Housing, gold loans and the unsecured segment (where lending is done without a collateral) such as personal loans and credit cards are also major contributors. In fact, HDFC Bank has the lion’s share of the credit card segment at 9.25 million outstanding cards at the end of July 2017. SBI, its closest competitor in the segment, has only 4.97 million cards. 

Over the past two years, the bank has expanded its online and mobile banking channels. Initiatives like personal loans in 10 seconds, loans at automated teller machines (ATMs), and missed call services for mobile phone recharge have helped it position itself as a digital bank. These technologies are also being used to expand its presence in the semi-urban and rural areas where it has a majority of its branches.

For Puri, who keeps technology at bay and claims to not use a mobile phone or have a computer on his desk, this is something of a feat.

The slowdown

Over time, the bank’s quarterly net profit growth has sobered down from the frenzied pace of over 30% that it once maintained. But this doesn’t worry analysts as HDFC Bank is still ahead of  industry numbers. For instance, in March 2017, overall loan growth in the non-food segment stood at 5.8%, the lowest since 1994-95. Yet HDFC Bank’s loans grew at 23.7% in that quarter.

“When the industry was growing at 15-20%, HDFC Bank was growing at 30%. But now the industry is growing at 5% and even then the bank is managing to grow at close to 20%, and that is commendable,” said Asutosh Kumar Mishra, senior analyst at domestic brokerage house Reliance Securities. “Moreover, they are growing at this pace even when their loan-book size has increased substantially and is at more than Rs5 lakh crore.”

This steady performance has also given investors confidence in the company’s stock, which has gained 35% in the last year. The scrip closed at Rs1,756.50 on Sept. 05, 2017 on the BSE as compared to Rs1,299 on Sept. 06, 2016. 

Now, as part of the big boys’ club, it is more than shareholders’ fortunes that ride on HDFC Bank’s success.