HDFC Bank Sees Challenge To Growth From Loan Prepayments

Large corporations paying their dues ahead of time — a change brought on by lower interest rates and forced pandemic savings — is proving to be a challenge for growth for India’s largest private lender.

HDFC Bank Ltd, which has managed to keep stressed loans low before and during the crisis, sees loan prepayments as a larger challenge, said Rahul Shukla, group head for wholesale banking, at the lender. “There are no undue asset quality concerns. The bigger challenge to our balance sheet is the rate of prepayments by large corporates which has gone up significantly,” Shukla told BloombergQuint, declining to share specifics.

According to Shukla, one of two key reasons behind prepayments is improved corporate balance sheets, at least across large firms.

This is borne out by data. According to the Reserve Bank of India’s study of non-government non-financial firms, interest coverage ratio of manufacturing firms rose to 6.6 times from 4.6 times in the previous quarter. The recovery was led by iron and steel, automobiles, cement, chemicals and pharmaceuticals companies, the RBI said.

As large companies are repaying banks, they are also clearing dues pending toward smaller companies, who in turn pay banks as well. “Even the government has stepped up clearing of their dues to companies,” Shukla said.

The second reason for prepayments is the fall in funding costs via the bond markets. The lower cost of funding incentivises companies to raise funds from the debt market to repay bank loans, Shukla said.

A surge of liquidity has pushed down interest rates in the bond market, particularly for high-rated companies, which form a bulk of HDFC Bank’s corporate borrowers. The AAA-rated companies can borrow three-five year money at 5.4%-6.3%, down from 6.8-7.2% in January 2020. In comparison, the underlying marginal cost of lending rate for one year at private banks is at 7.2-9.5%, down from 8.15-10.6% in January 2020, showed data from the RBI.

Holding On To Growth

Loan growth at HDFC Bank, like other lenders, slowed in the past year as the Covid crisis hit. The bank’s advances grew 20.9% year-on-year in the first quarter of FY21, with growth slowing to 15.8% and 15.6% in the next two quarters. Sequentially, between March and December 2020, the bank’s advances grew 8.9%.

Much of the slowdown came from the retail segment where banks turned cautious fearing defaults. Domestic retail advances rose 5% year-on-year in the quarter ended Dec. 31. From the peak of 54% of the total loan book in March 2019, retail loan contribution has dropped to 48% by December 2020.

The wholesale assets, which include MSME loans, private corporate loans and loans to public sector enterprises, grew at a faster clip of 26% year-on-year in the December quarter.

One way the bank intends to sustain growth is by focusing more on the MSME segment. The bank’s MSME portfolio has grown to over Rs 2 lakh crore as on Dec. 31, 2020, while wholesale loans stood at Rs 5.46 lakh crore at the end of the third quarter.

As a share of the wholesale book, MSME loans stood at 37% as of December 2020 against 35% in previous years. Compared with outstanding numbers in March, wholesale loans rose 15.6% year-to-date, while MSME loans rose 27%.

HDFC Bank is now the second-largest MSME lender in the country, after State Bank of India which had an MSME loan book of Rs 2.93 lakh crore as of December 2020.

To be sure, a government guarantee scheme for MSME loans — the emergency credit line guarantee scheme announced as India was reeling under the pandemic — has allowed banks to lend to this segment at a lower risk.

“Under ECLGS 1.0, we have disbursed Rs 22,102.68 crore across 1,19,599 customers. In ECLGS 2.0, we have disbursed Rs 579.16 crore across 58 customers,” Shukla had told analysts after the bank announced its October-December quarter results.

However, the lender plans to keep up the pace of lending to the segment by expanding its distribution network across the country. “We are present in about 560 districts where we are serving and lending to MSMEs and aim to reach 625 districts in three years,” said Shukla.

According to him, the bank’s MSME business is not just focussed on lending and aims to capture a customer’s entire banking needs. “This gives a clearer understanding of their financial profile and cash flows for better lending decisions,” Shukla said.

HDFC Bank has always been a contrarian player, staying out of segments which become too hot, said Amit Khurana, head of equities at Dolat Capital Market. Khurana said that a number of public sector lenders and NBFCs have pulled back lending to small businesses but the demand for funds remains high.

This gives room to private banks such as HDFC Bank to grow. The bank has always focussed on cash flow based working capital financing for the large corporates, which they are replicating for the MSME segment. The only drawback there is that margins are slim so you would have to do high volumes.

Amit Khurana, Head of Equities, Dolat Capital Market

Amid limited avenues for loan growth, some private banks have stepped up growth in investment books by buying more corporate bonds. Will HDFC Bank do the same? Shukla said no. The private bank prefers to be in the loan market, than investing in paper issued by companies.

“Of course we are in the (debt market) business because as a large bank we are required to be in the market. But we like loans better than investments. As a bank you get covenants and protections in loans, and origination premium, which you don’t get in bonds,” Shukla said.