By Eromosele Abiodun, 06.22.2010
Renaissance Capital Limited has said that the current valuation gaps between the first four banks in Nigerian and the tier two banks is not justifiable as the only difference between them can only be explained by liquidity.
The Russian investment firm, which made this known in a report on the assessment of the Nigerian banking industry listed First Bank of Nigeria Plc United Bank for Africa (UBA) Plc, Zenith Bank Plc and Guaranty Trust Bank Plc as the first four banks while Access Bank Plc, Skye Bank Plc, First City Monument Bank Plc and Diamond Bank Plc were the tier two banks.
Renaissance Capital said: “The big four banks in our Nigerian banks universe trade at a 2010E P/B multiple of 1.46 times. This represents a premium of 66 per cent to the tier II banks, which are currently trading below their forward book estimate (N8.8). Notably, the 2011 RoAE of the big four banks (29 per cent) does not differ materially from that of the tier II banks (23 per cent), on our estimates. In our opinion, liquidity, which is a function of the absolute size of the bank’s balance sheet, has been a key differentiating factor in Nigerian bank valuations. The big four now trade roughly $2.4 million a day on average (YtD) vs $700,000 for the tier II banks. In other words, the big four banks are now trading more than 3x as much as the tier II banks.
“The valuation gap between the big four banks and tier II banks can primarily be explained by liquidity. Today, the tier II banks are trading approximately $0.7million (N1.5 billion) a day (on average), down from $1.5 million a day (on average) in 2008. Notably, as average daily volumes have fallen 51 per cent since 2008, tier II bank valuations have fallen 49 per cent over the same period (from 1.72 time their forward book to N8.8 today). Looking at the big four, we would note that their valuations are only down 29 per cent (from 2.05 times their forward book in 2008 to 1.46 times today), as daily volumes are down only 25 per cent (from $3.2 million to $2.4 million).”
The firm also stated that although the big four have much higher daily trading volumes and balance sheets that are almost three times the size of the tier II banks on average, size is not all that matters. Specifically, the firm said: “Based on our analysis of the operating performances of the big four and tier II banks, we believe that there is little to justify the current valuation gaps between the banks. As we show in this note, the operating ratios of both groups are broadly in line, while the tier II banks enjoy higher capitalisation levels and the big four have better asset quality.
“We recommend playing value now because we think liquidity levels in the Nigerian Stock Exchange (NSE) will continue to improve over 2010 on the back of: 1) lower rates; 2) higher average oil prices and production; 3) resilient deposit growth; and 4) regulatory clarity. What is encouraging is that liquidity levels over the past month have already begun to improve in some of the tier II banks –most noticeably Skye Bank, which has been trading around $1.2 million a day over the past month.As more tier II banks begin to trade over $1mn a day, we believe their re-rating will gather momentum.
“Based on our estimates, our fair value of these banks, assuming a cost of capital of 17.2 per cent and long-term growth rate of 6 per cent, is 1.50 times their forward book value. This would imply 71 per cent upside potential to their current valuation of 0.88x. With capital risk abating on the back of the forthcoming regulatory changes and volume growth being stimulated by significant liquidity support from CBN (+$3billion) for on-lending to SMEs, the agriculture and infrastructure sectors, the valuation discount being applied to the tier II banks will narrow.”