Monday, September 11, 2017 / 11:04 AM / ARM Research
Following a dramatic share price decline (-23% from the year-peak of N1.42), FCMB now looks attractively valued among our Tier 2 coverage and thus offers legroom for tactical play. The bank trades at a P/B of 0.1x compared to peer average of 0.8x and its FY 17E P/E of 1.8x is at a sizable discount to peer average of 3.9x and its current P/E of 7.6x. Furthermore, at current pricing, its 2017E dividend translates to dividend yield of 10.5%.
While we believe higher funding cost and a relatively illiquid balance sheet are valid reasons why FCMB’s earnings should struggle, we believe the market has over punished the stock relative to Tier II peers which have rallied 30% YTD. Ahead of Q3 17 results, we think current pricing offers a window for tactical plays and rate the stock a BUY with FVE of N1.34 (25% upside from current pricing) with a view that fundamentals will improve through H2 2017.
High base effect casts H1 17 result in poor light
H1 17 results illuminate two key reasons why investors have been lukewarm towards the stock of FCMB. First, EPS of N0.15 is down 81% YoY largely on the back of a weighty decline in non-interest income (-50% YoY). In addition to this, the bank faced sizable funding cost pressure (interest expense: +24% YoY) in the review period.
On the former, despite an over three-fold expansion in trading income, lower FX gains (-97% YoY) dampened non-interest income.1 Adjusted for FX gains, H1 17 non-funded revenues are 83% higher YoY.
Elsewhere, as a Tier II bank, FCMB buckled under the weight of monetary tightening with WACF rising 45bps to 6.7% due to high term-deposit (+2pps YoY to 32% of total deposit) as well as higher interbank lending. Interestingly, this was synonymous across our Tier II coverage.
Liquidity bolstering and better asset quality to spur earnings
In our discussion with FCMB, management revealed plans to address balance sheet inflexibility by focusing asset creation on its investment securities portfolio to harvest the current high yields on government treasury bills. Furthermore, FCMB expects a CRR refund of ~N23billion in H2 2017, which would improve its balance sheet and earnings capacity.
Consequently, despite lingering pressures from funding (FY 17E WACF: +50bps YoY to 6.6%), we expect NIMs to remain flat as with H1 17. The foregoing brings FY 17E interest expense to N61.9billion (+11.3% YoY). Laying our funding cost assumption with FY 17E asset yield of 11.9% (interest income: 8.9% YoY to N136.3billion), we now expect NIM to come in at 6.5% (+30bps YoY). In our view, we expect an improved liquidity picture for FCMB over the rest of the year given reduction in loan as well as potential inflow from CRR refund.
On NIR, we expect improving FX market activity to drive an expansion in trading income (+18% YoY) while card revenues should recover as banks raise limits on international card usage which should buoy net fee income (+14% YoY) in our view.
However, largely reflecting the softer NGN depreciation relative to 2017, we expect weighty decline in other income (-61% YoY)—a reflection of lower FX gains— to keep NIR lower at N33.2billion for FY 17E (-30.5% YoY).
In line with the rest of the sector, net loans declined (-1% QoQ) in line with concerns over conserving capital, a cautious approach towards loan origination and ongoing work-out of its loan book. Given, adequate provisioning over 2016 and H1 17, alongside improvement in the economic environment, we see scope for lower provisioning in FY 17E.
Importantly, higher coverage is driven by adequate coverage ratio for non-performing loans as well as challenged sectors (O&G, Power, Commerce, and Individual). Consequently, we forecast coverage ratio of 100% (excl. regulatory reserve) and cost of risk of 3.5% (management guidance: 3%) which results in a 30% YoY decline in loan loss charges to N24.9billion in FY 17E.
Sustained recovery to drive decent FY 17E
Therefore, with a focus on capturing higher yields on the naira curve, no plans to grow risky assets, lower loan-loss provisioning, increased prospects of recoveries, operational efficiency, and adequate capital buffer, downside risk to 2017 earnings now seems moderated than was earlier expected. Overall, we forecast 2017E EPS of N0.55 (-22% YoY) and DPS of N0.11.
However, excluding FX gains in prior year, FY 17 EPS should be four-fold higher YoY. Our FVE of N1.34 posit a 25% upside from current pricing. Consequently, we rate the stock a BUY, reflecting attractive valuation and a view that fundamentals will improve through H2 2017 and beyond despite period of lumpiness. Furthermore, across the Tier 2 space, FCMB remains a more resilient bank (save for Stanbic) with key metrics printing above peer average.
8. FCMB Group Plc - Non-Interest Income Grew by 49% YoY in Q1 2017
9. FCMB Group Reports Q4 2016 Results - OCI Grew by 132% YoY to N2.6bn
10. FCMB Declares N14.34 bn Profit in 2016 Audited Results, (SP:N0.87k)
11. FCMB Group Announces Leadership Changes; Ladi Balogun to Emerge Group CEO
12. FCMB Group Records 168% Growth in Non-Interest Income in Q3'16 Results Due to FX Gains
13. FCMB Declares N12.98 bn Profit in Q3'16 Results, (SP:N1.05k)
14. FCMB Group Loan Loss Provisions Spike by 506 YoY to N10bn in Q2 16
15. FCMB Declares N15.67bn Profit in Q2 16 Result SP N1.41k
16. FCMB Plc - Elevated Provisioning Underpins a Difficult Start to 2016
17. FCMB Funding Income Grows by 13 QoQ in Q1 16 Results