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Merrill Lynch cuts HDFC Bank EPS estimates

Merrill Lynch has lowered its earnings estimate for HDFC Bank, India's second-largest private sector bank, citing accelerated depreciation and higher operating costs.

But it retained its buy recommendation on the bank, which last Friday reported net profit in the October-December quarter rose 91 per cent from a year earlier to Rs 537.2 million.

In a research report dated January 16, the brokerage said the earnings downgrade was prompted in part by the bank's decision to adopt a straight line depreciation policy for computers with effect from last October 20, as required under Reserve Bank of India guidelines.

The downgrade also reflects the recent wage hike approved by the bank.

Merrill Lynch has cut its EPS estimate for the current year to March 31 to Rs 8.5 from Rs 9.2, and for the following year to Rs 11.8 from Rs 12.9.

But in explaining its decision to maintain a "buy" recommendation on the stock, Merrill Lynch said it still expects the bank's earnings to grow strongly.

"On revised earnings too, we expect over 72 per cent growth in FY01 earnings followed by 40 per cent growth in FY02 earnings," the report said.

The bank will deliver strong growth and a high return on equity (ROE), justifying a premium valuation on its shares, Merrill said.

Its current ROE of 25 per cent is the highest among banks across the region, and its price-to-book value multiple is seen rising substantially as the ROE rises further, the brokerage said.

It said the bank's asset quality was also amongst the best in the sector, with provisions covering 74 per cent of non-performing loans.

Merrill expects the bank to continue gaining market share over the next 5-6 years, making it one of the top five banks in India by market share.

In the short run there were other drivers to the stock as well.

"A likely rate cut over the next few weeks can further improve sentiment for banking stocks, despite bank margins coming under pressure - as it will ease asset quality concerns and also provide gains on banks' treasury operations," Merrill said.

Merrill set a 12-month price target of Rs 325 for the stock, 30 per cent above the current price.

In late morning trading on Wednesday, HDFC Bank's shares were trading at Rs 246.50, down Rs 3.30 or 1.3 per cent from Tuesday's close.

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