Tuesday, August 1, 2017 10.58 AM / ARM Research
FBN Holdings (FBNH) reported strong core earnings in Q2 17, with key metrics pointing to sustained momentum for the rest of the year. Central to core performance was the robust contribution of higher asset yields to interest income which offset pressures on funding cost to drive expansion in net interest margins (NIMs).
Irrespective, bottom-line was weaker compared to prior quarter and corresponding period of 2016 as material decline in foreign exchange gains combined with impairment charges and operating expenses (OPEX) to drive EPS to N0.37 (Q1 17: N0.45, Q2 16: N0.42). Excluding the foreign exchange gains in Q2 16 (N52.9billion) and Q2 17 (N2.2billion), and adjusting impairment charges in Q2 17 for similar cost of risk as with Q2 16 (8.1%), EPS should print at N0.04 (Q2 16: loss after tax of N1.05).
Going forward, we assume a 6% decline in loans as well as higher FY 17E PBT of N50.3billion (2016: N22.9billion) amidst tamer prospects for NGN depreciation relative to 2016. The upbeat earnings reflect expectations that FBNH would continue to capture higher yields on the naira curve as well as enjoy possible writebacks.
However, we model cost of risk at 7.5% (H1 17: 6.2%) and cost-income ratio at 55.6% (H1 17: 54.4%) to factor higher impairment charges in H2 17 and further slack in cost efficiency. Relative to our FY 17 forecast of N1.21, annualized EPS of N1.64 is 36% ahead, reflecting our views on cost. Our FVE estimate of N5.23 guides to a SELL rating on the stock.
Elevated interest rate environment swings NIM higher
Similar to sector trend over the review period, elevated interest rate environment provided a support for gross earnings (+4% QoQ) as FBNH booked N118.3billion in interest income vs our N113billion forecast due to stronger asset yields (+250bps QoQ) on the back of higher yields on investment securities while the bank also increased the yield on its loan book. Outperformance relative to our forecast reflects our bearish views about possibility of upward loan repricing in the period.
Net loan declined (3% QoQ) in line with the bank’s cautiousness on the origination of new loans even as it worked towards a clear-out of loan books. Further down, funding cost, which was largely tamed (interest expense: +2% QoQ), supported a 30bps expansion in NIMs to 8.5%. Deposit breakdown reveals lower expensive deposit (term funding: -3.8pps QoQ) even as CASA remains at 71% of deposit mix.
Gains on derivatives position bolster NIR in Q2 17…
Parsing through NIR sub-part reveals N4.4billion gains on HFT derivative instruments (Q1 17: N1.2billion), which in our view, reflects translation of currency swap and forward positions (Est: $51million) at the new NAFEX rate after the introduction of the Investors and Exporters Window (IEW) in April 2017.
Consequently, supported by an underwriting profit of N3.8billion (~double-fold QoQ) as well as marginal increase (+2% QoQ) in net fee income to N15.6billion, NIR grew 8.3% from prior quarter to N26.2billion.
…though softer cost control drives rebound in CIR
Offsetting NIR gains, OPEX climbed 9.3% QoQ to N60.9billion due to pressure from other OPEX (+17.3% QoQ) which knocked off marginal decline in personal expenses (-0.7% QoQ). Consequently, cost-income ratio further deteriorated to 55.4% (six quarter average: 50%).
Largely reflecting a write-off of previously provisioned (N108billion), NPL declined 18% QoQ (-7.4% YoY) with corresponding ratio down 2.9pps QoQ to 22%.
However, impairment charges climbed 16.5% relative to prior quarter reflecting higher specific provision that continues to reverberate asset quality concerns for the bank - annualized cost of risk of 4.9% is 60bps higher QoQ. Consequently, coverage ratio reclined to 48% (Q1 17: 57%) - a lean cover for NPL book.
Still on track for a decent FY 2017E
For the rest of the year, we see retention of a hawkish monetary policy stance as supportive of high yielding environment, which leaves scope for momentum in interest income. While loan growth should remain muted, our views on interest rates inform our forecasts for FY 17E interest income (+17% YoY to N475billion and interest expense (N146billion). For NIR, while sustained derivative gains and other income leaves scope for NIR growth over H2 17, the relatively stable outlook for FX tempers overall NIR reading (FY 17E: -43% YoY to N94.2bilion).
On impairment charges, though we expect the improved macro picture, specifically higher crude oil production and prices as well as improved dollar liquidity, to moderate impairment readings, we are of the view that the banks’ move to clean up its books as well as lean NPL cover leave scope for sticky impairment readings.
Consequently, we forecast FY 17E impairment charges at N147billion. Implied in our forecast is annualized cost of risk of 7.5% vs. management guidance of 7%.
Cumulative impact of the adjustments results in FY 17E EPS of N1.21 (+152% YoY) which largely reflects the strength of our net interest income projection and our views regarding flattish impairment charges. FBNH currently trades at a 2017 P/E of 4.8x and P/B of 0.3x vs. peers of 5.4x and 0.9x – ROAE of 7.2% (2016: 3.1%). In line with the wider banking sector, FBNH has rallied 78% YTD (Banking sector: +73%YTD) and in view of the high NPL ratio, we believe the stock is now richly valued and maintain a SELL rating with FVE of N5.23.