July 23, 2020

HDFC Securities Limited: [ICRA]A1+ assigned to enhanced CP programme; ratings reaffirmed

Summary of rating action Previous Rated Amount Current Rated Amount Instrument* Rating Action (Rs. crore) (Rs. crore) Long-term fund-based bank 200.00 200.00 [ICRA]AAA(Stable); reaffirmed lines Long-term/short-term [ICRA]AAA(Stable)/[ICRA]A1+; 100.00 100.00 unallocated bank lines reaffirmed Commercial paper 1,000.00 1,500.00 [ICRA]A1+; assigned/reaffirmed programme Total 1,300.00 1,800.00 *Instrument details are provided in Annexure-1

Rationale The ratings factor in the strong parentage of HDFC Securities Limited (HSL), which is a subsidiary of HDFC Bank Limited (HDFC Bank; ~97% stake in HSL), its strong linkages with the parent and the shared brand name. The company draws managerial and operational support from HDFC Bank, as evident from the senior management deputations, customer sourcing and cross-selling support, and access to the bank’s retail clientele, branch network and infrastructure. The ratings also consider HSL’s strong retail franchise, supported by its position as a bank brokerage house, and its healthy financial profile characterised by its strong profitability and adequate capitalisation. These strengths are partially offset by the limited diversification in HSL’s business profile, the risks associated with capital markets related businesses and the intense competition in the retail broking space.

Key rating drivers and their description Credit strengths Strong parentage with well-demonstrated track record of support from the parent – HSL is a subsidiary of HDFC Bank, which holds a stake of ~97% in the company. HSL draws the advantage of strong operational linkages with HDFC Bank, as demonstrated by the senior management deputations to HSL (from HDFC Bank). HSL helps augment the service portfolio for HDFC Bank and enjoys customer-sourcing and cross-selling support and access to the bank’s retail clientele, branch and infrastructure network. The strong parentage and shared brand name strengthen ICRA’s assumption that HSL will receive timely and adequate support (both financial and operational) from HDFC Bank, if required.

Strong retail broking presence – HSL, a full-service brokerage house, is primarily a retail broking player (~92% of the total broking volumes in FY2020 were sourced from the retail segment) that focuses mainly on domestic and high net worth clients. The company has a strong retail franchise, supported by its position as a subsidiary of HDFC Bank. HSL registered a total turnover of Rs. 17.27 lakh crore in FY2020, of which the retail segment accounted for 92%, up from Rs. 13.44 lakh crore in FY2019 (retail share of 94%). The share of the derivatives segment in HSL’s total broking volume is increasing, in line with the trend observed in the industry. The share of the derivatives segment’s volumes stood at 86% in FY2020 and FY2019 compared to 80% in FY2018, though the same was below the industry average (~97%). HSL had a broking market share of 0.49% in FY2020 compared to 0.55% in FY2019.

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Higher-than-industry-average broking yields – Due to the higher proportion of volumes from the retail cash segment, HSL’s average broking yields are higher than its peers. However, with increasing competition and a substantial increase in the turnover (particularly the low-yielding futures and options (F&O) segment), HSL’s blended yield moderated to 3.27 bps in FY2020 from 3.91 bps in FY2019. The blended yields, however, remain above the industry average.

Healthy profitability and comfortable capitalisation – HSL’s operating costs are lower than the industry average due to the sharing of branch network and other infrastructure with HDFC Bank. The company’s cost-to-income ratio increased to 39.60% in FY2020 from 37.60% in FY2019 due to a ~29% increase in employee cost (HSL has set up a special team to cater to institutional clients). However, other operating income through the distribution of financial products and net interest income earned from the margin trade funding (MTF) book supported profitability. HSL reported a net profit of Rs. 384 crore (profit after tax (PAT)/net operating income (NOI) of 47.07%) in FY2020 compared to a net profit of Rs. 330 crore (PAT/NOI of 45.04%) in FY2019. The company’s ability to maintain the margins and the healthy asset quality in case of volatilities in the capital market would remain important. HSL has a comfortable capitalisation profile with a net worth of Rs. 1,247.61 crore as on March 31, 2020 supported by healthy internal accruals over the years. However, the cash accruals in FY2020 were affected by a higher dividend payout. The capitalisation profile is currently supported by the low debt level (a gearing of 0.55 times) though the gearing is expected to increase in the near term as the company is focusing on growing its MTF book.

Credit challenges Exposed to risks inherent in capital markets related businesses – HSL’s revenues remain dependent on capital markets, which are inherently volatile in nature. The company reported a sizeable year-on-year (YoY) increase (~60%) in broking and fee income in Q1 FY2021 supported by the high volatility in the capital markets (during the Covid-19-related nationwide lockdown) and the increase in retail participation. The same level of volumes may not be sustained, going forward. HSL’s net brokerage income accounted for ~65-70% of the NOI, reflecting its limited presence in other capital market businesses. However, the company has been trying to diversify by increasing its focus on the distribution business and the lending business in the form of MTF, to impart stability to the overall earnings profile. HSL’s fee income has increased over the years with its increased focus on the distribution business through cross-selling to HDFC Bank’s clients. However, it continued to account for a small proportion of the NOI at ~15-20%.

Intense competition in capital markets – With increasing competition in equity broking, the advent of discount brokerage houses and a significant surge in derivative volumes, the average yields for broking players have been under pressure. With the competitive intensity in the industry expected to remain high, the pressure on the industry margin is expected to continue. However, the increasing financialisation of savings and the low share of wallet of the equity segment in household savings indicate huge untapped potential for rapid expansion in the broking market over the longer term.

Liquidity position: Strong HSL’s liquidity requirement is primarily for meeting the additional margin requirements at the exchange and supporting the MTF book. As on March 31, 2020, the company’s total debt (CP borrowings) was Rs. 690.91 crore and the same reduced to Rs. 400 crore as on May 31, 2020. The borrowings are primarily for funding the MTF book. HSL had an unencumbered cash and bank balance of Rs. 907.96 crore and liquid investments of Rs. 120.40 crore as on May 31, 2020. Further, as on May 31, 2020, it had Rs. 565 crore of sanctioned and unutilised bank lines. The on-balance sheet cash and liquid investments cover the near-term debt obligations and the liquidity remains strong.

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Rating sensitivities Positive triggers – Nil

Negative triggers – Pressure on HSL’s ratings could arise if there is a deterioration in the credit profile of the parent, a significant change in the company’s shareholding or a decline in the linkages with the parent.

Analytical approach Analytical Approach Comments Applicable Rating Methodologies ICRA’s Credit Rating Methodology for Brokerage Houses HSL is a subsidiary of HDFC Bank, which holds a ~97% stake in the company. The strong parentage and shared brand name strengthen ICRA’s assumption that HSL will receive timely and adequate support (financially as well as operationally) Parent/Group Support from HDFC Bank, if required. The company also draws the advantage of strong operational linkages with HDFC Bank, as evident from the senior management deputations (from HDFC Bank), customer sourcing and cross-selling support provided by the bank. Consolidation/Standalone Standalone

About the company HDFC Securities Limited (HSL) was incorporated as a joint venture among three entities (HDFC Bank Limited, HDFC Limited and Indocean eSecurities Holdings Limited) in 2000 for offering capital market services like the broking and distribution of financial products. After the stake sale of HDFC Limited to HDCF Bank in FY2006, HSL became a subsidiary of HDFC Bank. In FY2014, HDFC Bank acquired the shares held by Indocean eSecurities Holdings Limited and increased its stake to ~89% and further to ~98% in FY2015. Since then, the bank has been actively engaged in the management of HSL. As on March 31, 2020, HDFC Bank’s stake in HSL stood at 96.57%. Currently, HSL offers online and offline broking facilities and distribution of third-party products like mutual funds, IPOs, and fixed deposits. Its net worth stood at Rs. 1,247.61 crore as on March 31, 2020 compared to Rs. 1,193.76 crore as on March 31, 2019. The company reported a PAT of Rs. 384.15 crore in FY2020 compared to Rs. 329.82 crore in FY2019.

Key financial indicators (audited) FY2018 FY2019 FY2020 Brokerage Income (Net) 588.75 525.98 565.37 Net Interest Income 54.01 69.69 117.65 Other Non-interest Income 129.56 136.55 133.10 Net Operating Income 772.32 732.22 816.12 Total Operating Expenses 274.76 275.28 323.15 Profit before Tax 524.62 495.23 509.01 Profit after Tax 344.73 329.82 384.15 PAT/Net Operating Income 44.64% 45.04% 47.07% Cost-income Ratio 35.58% 37.60% 39.60% Net Worth 1,036.85 1,193.76 1,247.61 Gearing (times) 0.00 0.00 0.55 Return on Net Worth 36.85% 29.57% 31.47% Amounts in Rs. crore; Source: HSL & ICRA research

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Status of non-cooperation with previous CRA: Not applicable

Any other information: None

Rating history for last three years Current Rating (FY2021) Rating History for the Past 3 Years Instrument Amount Amount Rating FY2020 FY2019 FY2018 Type Rated Outstanding* 23-Jul-20 23-Jan-20 29-Nov-19 20-Aug-18 01-Sep-17 Long-term [ICRA]AAA [ICRA]AAA [ICRA]AAA [ICRA]AAA [ICRA]AAA 1 fund-based LT 200.00 0.00 (Stable) (Stable) (Stable) (Stable) (Stable) bank lines Long- term/short- [ICRA]AAA [ICRA]AAA [ICRA]AAA [ICRA]AAA [ICRA]AAA 2 term LT/ST 100.00 0.00 (Stable)/ (Stable)/ (Stable)/ (Stable)/ (Stable)/ unallocated [ICRA]A1+ [ICRA]A1+ [ICRA]A1+ [ICRA]A1+ [ICRA]A1+ bank lines CP 3 ST 1,500.00 596.07 [ICRA]A1+ [ICRA]A1+ [ICRA]A1+ - - programme Short-term non-fund 4 ST - - - - [ICRA]A1+ [ICRA]A1+ [ICRA]A1+ based bank lines Amount in Rs. crore; * Outstanding as on June 30, 2020

Complexity level of the rated instrument ICRA has classified various instruments based on their complexity as "Simple", "Complex" and "Highly Complex". The classification of instruments according to their complexity levels is available on the website www.icra.in

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Annexure-1: Instrument details Date of Amount Coupon Maturity Current Rating ISIN Instrument Name Issuance / Rated Rate Date and Outlook Sanction (Rs. crore) Long-term fund- NA - - - 200.00 [ICRA]AAA(Stable) based bank lines Long-term/short- [ICRA]AAA(Stable) NA term unallocated - - - 100.00 / [ICRA]A1+ bank lines NA CP programme NA NA 7-365 1,500.00 [ICRA]A1+ Source: HSL

Annexure-2: List of entities considered for consolidated analysis: Not applicable

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Analyst Contacts Karthik Srinivasan Samriddhi Chowdhary +91 22 6114 3444 +91 22 6114 3462 [email protected] [email protected]

Shreekiran Rao Kruti Jagad Piyush Kherdikar +91 22 6114 3469 +91 22 6114 3447 +91 22 6114 3414 [email protected] [email protected] [email protected]

Relationship Contact L. Shivakumar +91 22 6114 3406 [email protected]

MEDIA AND PUBLIC RELATIONS CONTACT

Ms. Naznin Prodhani Tel: +91 124 4545 860 [email protected]

Helpline for business queries:

+91-9354738909 (open Monday to Friday, from 9:30 am to 6 pm) [email protected]

About ICRA Limited:

ICRA Limited was set up in 1991 by leading financial/investment institutions, commercial banks and financial services companies as an independent and professional investment Information and Credit Rating Agency.

Today, ICRA and its subsidiaries together form the ICRA Group of Companies (Group ICRA). ICRA is a Public Limited Company, with its shares listed on the Bombay Stock Exchange and the National Stock Exchange. The international Credit Rating Agency Moody’s Investors Service is ICRA’s largest shareholder.

For more information, visit www.icra.in

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ICRA Limited

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ICRA ratings should not be treated as recommendation to buy, sell or hold the rated debt instruments. ICRA ratings are subject to a process of surveillance, which may lead to revision in ratings. An ICRA rating is a symbolic indicator of ICRA’s current opinion on the relative capability of the issuer concerned to timely service debts and obligations, with reference to the instrument rated. Please visit our website www.icra.in or contact any ICRA office for the latest information on ICRA ratings outstanding. All information contained herein has been obtained by ICRA from sources believed by it to be accurate and reliable, including the rated issuer. ICRA however has not conducted any audit of the rated issuer or of the information provided by it. While reasonable care has been taken to ensure that the information herein is true, such information is provided ‘as is’ without any warranty of any kind, and ICRA in particular, makes no representation or warranty, express or implied, as to the accuracy, timeliness or completeness of any such information. Also, ICRA or any of its group companies may have provided services other than rating to the issuer rated. All information contained herein must be construed solely as statements of opinion, and ICRA shall not be liable for any losses incurred by users from any use of this publication or its contents

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