Maybank has shed more light on its Islamic banking initiatives. Management has set a target of raising Islamic banking PBT contribution to 40% of group PBT by 2020 from 27% currently. However, the potential near-term earnings disappointment from slowerthan-expected fee income growth and provision risks remain a concern. We lower our target price from RM10.20 to RM9.50 (1.32x 2018F P/B, 10.0% ROE) post earnings adjustment. Maintain HOLD. Entry level: RM8.50.

WHATS NEW

Largest Islamic banking franchise domestically. Malayan Banking (Maybank) has shed more light on the group’s Islamic banking initiatives and strategy. The talk was hosted by its group Islamic Banking CEO – Dato’ Mohamed Rafique Merican and Group CFO - Dato’ Amirul Feisal Wan Zahir. Maybank Islamic Bank has the largest market share in Malaysia by assets, financing and deposits at 31%, 34% and 30% respectively (No 2: CIMB Islamic and No 3: Bank Islam).

Islamic banking growth strategy. In line with Bank Negara Malaysia’s aspiration to raise Islamic banking financing contribution in Malaysia, Maybank has been adopting an Islamic 1st option of financing to its customers. This has helped the group raise Islamic banking financing composition to 57% of domestic loans base and 36% of group financing base. Management has set an ambitious target of raising Islamic banking PBT and asset contribution to 40% and 50% of group PBT and total assets by 2020 from 27% and 29% currently. Areas of potential growth could come from: a) Islamic trade financing which remains underpenetrated at only 3.4% of total domestic trade financing vs BNM’s target of 10.0%; and b) roll-out a greater range of Islamic Banking wealth management products and other innovative products like the Rent-to-Own house financing scheme.

Low cost deposit gathering remains a challenge. Despite the group’s impressive Islamic Banking financing growth and deposit growth of 9.7% and 12.2% respectively in 2017, low cost deposit in the form of CASA remains a challenge resulting in the group’s Islamic Banking franchise having a lower CASA ratio of 26% vs Maybank Group’s 36% and consequently lower NIM.

Unlocking value via separate listing hindered by need to operate on shared cost model. The need to operate on a cost sharing model with the group’s operational base to avoid duplication has complicated the process for the group to carve out and list its Islamic Banking division to unlock value. This cost sharing model has allowed the group’s Islamic Banking division to register a 35% cost-to-income ratio vs group level CIR of 48%.

STOCK IMPACT

Hyflux remains a concern. To recap, the group is the sole underwriter and lead arranger of a S$720m project financing facility for financially distressed Hyflux Ltd (water desalination plant owner in Singapore). Assuming the group’s exposure to Hyflux remains at S$720m and it were to make a 50% provision on the S$720m exposure, we estimate a 10.3% impact to our 2018 earnings forecast and target price de-rating to RM8.40 based on a lower ROE of 9.3% from our current 10.4%. In its recent 1Q18 results conference call, management did not shed any light on its exposure or how much provision has been made as banking regulations do not permit disclosure of client details.

Lacklustre revenue growth in 1Q18, potential downside risk in 2H18. Despite the benefits of a 25bp OPR hike and a relatively vibrant 1Q18 capital market, the group reported a contraction in both net interest income (-0.5% yoy) and non-interest income (-7.1% yoy). As deposits start to re-price upwards in 2Q18, we expect a sequential weakness in NIM to place greater pressure on its already weak 1Q18 net interest income trends while the sharp deterioration in capital markets is likely to lead to weaker fee income and marked-to-market trading income in 2H18. This may pose a downside risk to consensus earnings forecasts.

Securities portfolio trend may imply higher risk appetite. Over the past 10 years, Maybank’s treasury portfolio increased significantly, from 13.8% of total assets in 2007 to 20.1% of total assets as at end-1Q18 (vs industry average of 16.5% as at end-17). In comparison, Public Bank’s and CIMB’s treasury portfolios as a percentage of total assets has increased by a slower trajectory from 12.6% and 16.3% to 15.6% and 18.6% respectively. This does indicate that Maybank has increased its market risk exposure over the years. Dissecting its treasury profile, 37% of its treasury portfolio constituted private debt securities vs 32% back in 2007 which may imply that the group’s credit risk appetite may have also gradually increased over the past 10 years, evident by the group’s recent O&G related bond impairments that it had to set aside.

EARNINGS REVISION/RISK

Factoring in higher net credit cost and lower fee income assumptions, we lower our 2018 to 2020 earnings forecasts by 4.0-5.2%.

VALUATION/RECOMMENDATION

Maintain HOLD with a lower target price of RM9.50 (10.1 % ROE, 1.32x 2018F P/B). Despite the sharp retracement in share price, valuation at 1.20x 2018 P/B is still expensive relative to CIMB’s at 0.97x P/B. Current valuation at 1.20x and forecasted ROE of 10.0% are also generally in line with sector’s. Attractive dividend yield of 6.2% should provide share price support but upside is limited by potential provision risk from the group’s exposure to project financing to Hyflux Ltd in Singapore.

Valuations have de-rated to close to -2SD below mean P/B during the O&G provision period. Recall that the group’s P/B has de-rated to close to -2SD below its long term mean in 2016 when its provisions increased by more than RM1.0b to a 58bp net credit cost due to a spike in O&G gross impaired loans.

Higher cash dividend payout for 2017. Given the sharp fall in its share price, the group has announced that it will be scraping the electable portion of its dividend reinvestment plan in relation to its final dividend per share of 32 sen for 2017. As such, full-year FY17 cash DPS will rise to 37 sen/share (4.1% yield) vs 23sen/share previously.

Source: UOB Kay Hian Research - 3 Jul 2018