Thursday, August 3, 2017 3:59PM/CardinalStone Research
Earnings to improve in H2'17
FCMB's H1'17 financial performance came in weaker as top and bottom line declined by 12.2% and 80.2% respectively following prior year's high base. In particular, non-interest income moderated by 45.4% due to the high base from last year (following significant FX revaluation gains reported post-currency devaluation - H1'16: N18.3 billion vs. H1'17: N0.6 billion).
Weak top-line growth and loan loss pressure have been our biggest concerns; however, we are more optimistic about H2'17 performance. In H2'17, FCMB expects to recover an extra
N5 billion in bad loans.
Whilst this will not make-up for the impact of prior year's revaluation gain, we expect this recovery to support non-interest income in FY'17.
Hence, we revise our non-interest income estimate higher by 17% to
N35 billion in FY'17. On interest income, management expects a credit of N22 billion from CBN to boost liquidity in Q3'17.
Management explained that the Central Bank of Nigeria (CBN) initially over debited the bank's position, raising its cash reserve ratio (CRR) effectively to 32% against the required 22.5%. With the expected boost in liquidity, we project a 17.3% growth in investment securities which will translate to higher interest income in H2'17 if deposits stay stable.
Hence, we raise our interest income estimate slightly by c.3.0% to
N131 billion by FY'17. Overall, we revise estimated gross earnings to N167 billion (previous: N160 billion); this still implies a decline of 5.1% YoY compared to 2016 levels.
FCMB restructures majority of its oil & gas and power exposures
FCMB recently restructured 90% of its upstream oil and gas exposure (
N131.5 billion) and 65.6% of its power sector exposures ( N28.5 billion). Of its power sector exposure, generating companies account for 60% ( N17.1 billion) whilst distribution companies account for the balance ( N11.4 billion).
Given improved crude oil prices and the sustained fragile peace in the Niger- Delta region, we expect the quality of loans exposed to the upstream oil and gas sector to improve barring any surprises in the Niger-Delta region - agitation appears to have re-surfaced following threats by splinter groups from PANDEF (Pan Niger-Delta Forum).
We are upbeat about the performance of the portion of the power sector loan exposed to the GENCO's on the back of recent efforts by the federal government to improve liquidity in that section of the power value chain.
However, we are wary of the performance of the restructured loans exposed to the DISCOS given the challenges currently plaguing the sector - we note Federal government's efforts to start paying verified debts.
Regarding its N4.5 billion exposure to Etisalat, FCMB stated that the CBN directed all syndicate banks to maintain status quo with respect to the treatment of the asset.
Thus, they are not expected to take any provisions until ongoing consultations and negotiations on the asset are completed. Given the aforementioned, we retain our cost of risk estimate of 3.3% (
N24.6 billion), 30bps higher than management estimate of 3.0%.
Overall, we forecast a PAT of
N8.5 billion for FY'17 (FY'16: N14.3 billion) translating to an EPS of N0.42.
FCMB may shore up capital in 2018
Management announced that it is considering raising tier-II capital which will most likely be a convertible debt instrument.
Though capital adequacy ratio (CAR) remains sufficiently above regulatory minimum (H1'17 CAR: 17%), we believe there are threats to capital adequacy when IFRS 9 is implemented in 2018.
Even though management stated expressly that the impact on capital adequacy ratio will not be more than a decline of 100bps, we think this guidance is too optimistic. IFRS 9 expects banks to take a lifetime impairment provision once there is a change in the credit worthiness of an obligor.
Our concern stems from the high level of restructured loans in FCMB's book which we believe implies a decline in the credit worthiness of these obligors, and consequently may result in higher impairment provisions when IFRS 9 is implemented.
Call to action
We expect investor's averseness for FCMB to persist in the interim owing to the fact that FCMB will not be able to match its FY'16 earnings performance.
In the medium term, the expected impact of the implementation of IFRS 9 makes us cautiously optimistic of the company's performance in FY'18. Albeit, if the impact of IFRS 9 is not as material as we envisage, we expect to see some recovery in 2018.
On the back of this, we remain conservative on FCMB, and have retained our target price at
N1.74. This implies a potential upside of 39.2% to the current price of N1.25 and thus we retain our "BUY" recommendation on the counter.
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