Prabhudas Lilladher has reaffirmed a BUY rating on HDFC Asset Management Company (HDFC AMC), increasing its target price to Rs 5,360, a 17.7% upside from its current price of Rs 4,555. The decision comes after a strong Q2FY25 performance, where the company's revenue grew 38% year-on-year, driven by healthy equity inflows and higher-than-expected yields. While the company faced a higher tax rate due to deferred tax liabilities (DTL), core income and asset under management (AUM) showed substantial growth. HDFC AMC continues to benefit from its leadership position in the mutual fund industry and the ongoing shift toward equity-oriented investment schemes.

Q2FY25 Performance Overview

Strong Revenue Growth: HDFC AMC reported a revenue of Rs 8.87 billion for Q2FY25, a 38% year-on-year growth and a 14.4% sequential rise. This was 2.8% higher than estimates, driven by strong performance in its equity assets under management (AAUM) and better-than-expected yields, which stood at 46.8 basis points (bps), above market expectations of 45.5 bps.

Higher Expenses: Operating expenses increased marginally by 1.7% quarter-on-quarter (QoQ), reaching Rs 1.99 billion, primarily due to higher other expenses. Employee costs decreased by 5.1% QoQ, but the company faced elevated expenses from regulatory requirements, including mandatory CSR and KYC-related costs.

Operating Income and Profitability: HDFC AMC’s core operating income rose to Rs 6.88 billion, a significant 18.8% QoQ growth, reflecting the strength of its core operations. However, the company’s profit after tax (PAT) fell to Rs 5.77 billion, down 4.5% QoQ, due to an 89.8% surge in taxes, driven by a deferred tax liability (DTL) related to the removal of indexation benefits on investment income.

Growth in Equity Assets Under Management (AAUM)

Strong Growth in Equity AAUM: The company's equity AAUM grew 17.1% QoQ to Rs 4.7 trillion, driven by a robust market and net inflows into equity schemes. HDFC AMC remains a leader in the equity mutual fund space, with its equity mix now contributing 62.1% of total AAUM, up from 61.1% in the previous quarter.

Net Equity Flows Leadership: HDFC AMC continues to gain market share, capturing 14.6% of net equity flows in H1FY25, an increase from H2FY24. This reflects the company’s best-in-class equity performance, particularly in the 1-year and 3-year buckets, where its funds have consistently ranked among the top performers.

Yield and Revenue Dynamics

Positive Surprise in Revenue Yields: The company’s blended yield improved by 0.6 bps QoQ, driven by the rationalization of distributor payouts and a higher equity mix. Despite a change in the total expense ratio (TER) threshold for equity schemes, yields remained strong due to a disciplined approach to cost management and improving asset allocation.

Rationalization of Yields to Continue: Starting from August 2024, HDFC AMC began rationalizing its yields across 10-12 equity schemes, with further rationalization expected for direct plans in Q3FY25. The management anticipates that the full impact of these changes will materialize in Q3FY25, leading to marginally lower net yields compared to FY24.

Impact of Deferred Tax Liabilities (DTL) and Higher Tax Rates

One-Time DTL Impact: The withdrawal of indexation benefits for capital gains under the new tax regime resulted in a one-time DTL impact of Rs 697.5 million. This led to a jump in the company’s tax rate to 33%, compared to the previous quarter's 20%. However, the management expects the tax rate to normalize over the coming quarters, balancing corporate tax rates with mark-to-market (MTM) gains.

Future Growth Prospects and New Initiatives

Positive Outlook for Equity Inflows: Given the strength in equity market performance and ongoing investor preference for mutual fund products, HDFC AMC is well-positioned to maintain its leadership in the industry. The company expects to continue capturing market share in equity inflows, supported by its superior fund performance and distribution strength.

NRI Growth and GIFT City Expansion: The company is making strides in the Non-Resident Indian (NRI) segment, having recently launched operations in the GIFT City. New product launches tailored for NRI investors are expected to boost flows from this segment in the coming quarters.

Focus on Improving Distribution: HDFC AMC is leveraging its relationship with HDFC Bank branches and independent financial advisors (IFAs) to deepen its distribution reach. The company aims to increase penetration in underserved markets through its partnership with HDFC Bank and improve engagement with IFAs across the country.

Financial Projections and Valuation

Core EPS and Revenue Estimates Raised: Prabhudas Lilladher raised HDFC AMC’s core EPS estimates by 8% for FY25 and FY26, reflecting an upgraded closing equity AAUM forecast for the mutual fund industry. The company’s revenue for FY25 is now projected at Rs 35.01 billion, a 10.7% increase from previous estimates, while FY26 revenue is expected to reach Rs 40.32 billion.

Profit Growth Outlook: The company’s core PAT is forecast to grow at a 27% CAGR over FY24-26, supported by higher equity inflows and efficient cost management. The core return on equity (RoE) is expected to improve to 37.4% in FY26, further enhancing shareholder value.

Investor Recommendation

Target Price of Rs 5,360: Prabhudas Lilladher maintains its BUY rating for HDFC AMC, with an upgraded target price of Rs 5,360, reflecting a 17.7% upside from the current price. This valuation is based on a 41x multiple of the company’s September 2026 core EPS, underscoring the firm’s confidence in HDFC AMC’s strong market position and growth prospects.

Key Risks: The primary risks include lower-than-expected market performance in equities, which could dampen AAUM growth, and regulatory changes that may impact fee structures and distribution dynamics.

Conclusion

HDFC AMC continues to deliver robust performance, driven by strong equity inflows and disciplined cost management. While the company faced a one-time DTL impact in Q2FY25, the outlook remains positive, with further equity market gains expected to fuel AAUM growth. Prabhudas Lilladher’s recommendation to BUY HDFC AMC at a target price of Rs 5,360 reflects confidence in the company’s leadership in India’s asset management industry and its ability to generate sustainable returns for investors.