• Proposals: 1) rights issue up to RM2.5bn; 2) internal reorganization – to sell operating entities to RHB Bank for cash (pay debts at RHB Cap) and shares; 3) distribution of RHB Bank shares; and 4) RHB Bank assume listing status.

• Reasons: 1) tax efficiency (interest expense at RHB Cap not tax deductible); 2) due to FSA, financial holding company (FHC) structure no longer beneficial; 3) discount valuation of FHC; and 4) stronger capital for Basel III and future growth.

• No change in shareholding structure post exercise. Financial impact

• Details to be determined at later date. Essentially, interest expense (and its related tax impact) and bulk of goodwill will be eliminated. This would result in higher profit and ROE (higher profit and RHB Bank has lower equity due to lower goodwill) but lower EPS (RHB Bank has higher paid-up capital).

• We estimate rights issue of 1:6 at RM5.70 (25% discount to TERP). EPS dilution of circa 30% but potential ROE enhancement of 186bps (12.8% vs. HLIB current FY15 forecast of 11%). Distribution of RHB Bank shares estimated at 1.29:1.

• Management guided CET1 and RWCAR of the new RHB Bank group at minimum of 11% and 15%, respectively. RHB Bank entity CET1 and RWCAR will also have minimum of 11% and 14%, respectively.

Pros / Cons

• Positive despite EPS dilution as the exercise will enhance profitability and ROE on top of addressing capital issue and inefficiency of the group structure. This also address earlier concerns about ROE dilution and the resulting impact on valuation from the intended cash call.

• Moreover, higher ROE and bank holding structure suggest that the new RHB Bank entity could garner higher valuation and benefit shareholders.

• It intends to maintain its DRP. With the bank holding structure and stronger capital position, potential of higher dividend payout and flexibility to increase cash portion.

Risks

• Unexpected jump in impaired loans and lower than expected loan growth as well as impact from Basel III.

Forecasts

• Unchanged for now, pending more details.

Rating

BUY

Positives

• Valuations still lagging behind; OSK merger and IGNITE 2017 transformation already bearing fruits, reflected in strong loan growth and improving asset quality and strong IB performance; “Easy” and tie-up with Pos M’sia as well as Bank@ Work added different growth dimension.

Negatives

• Low liquidity, ROE at lower end among peers and EPS dilution from rights issue.

Valuation

• Target price maintained at RM9.19 (Gordon Growth with ROE of 11% and WACC of 10.5%), pending more details.

Source: Hong Leong Investment Bank Research - 14 Apr 2015