We met up with management recently to get some operational updates. Overall, we opine AMMB needs more time to reap the fruits of its labour. Risk-reward profile appears to be balanced where improving CIR and steady asset quality trends mitigate negatives like potential upward normalisation of its net credit cost and high level of LDR. Also, the stock is currently trading at -1SD to its 5- year mean P/B. With the transfer of coverage to our new analyst, we assessed and opted to maintain our HOLD call on AMMB. We revised up our GGM-TP to RM4.70 (from RM4.30) based on 0.79x CY19 P/B.

Efforts yet to filter through. Back in mid-2016, AMMB formulated a strategy called ‘Top 4’ to arrest its ailing financial performance (FY15-18 earnings CAGR dip of 9%). Going into the third year of implementation, we have yet to see any significant top and bottom-line traction as a result of this plan. That said, balance sheet recalibration was apparent, whereby the proportion of small and medium-sized enterprises (SME) and variable rate financing to total loans is now 18% (+4ppt since FY15) and 74% (+10ppt) respectively. We are forecasting FY19-21 loans growth of 5-6% vs its 3-year historical CAGR of 3%, mainly via lending to the affordable housing buyer segment.

More resilient funding sources but overall CASA mix still flattish. Despite current account, savings account (CASA) being one of the key growth focus area, we noticed the proportion to total deposits remained relatively unchanged at c.21% vs FY15’s level. Hence, we believe the group is now less immunized compared to 2-3 years ago. On a brighter note, retail deposit experienced a rapid pick up of 11ppt as a percentage to total deposits in a mere 1.5 years (2QFY19: c.55%). As a result, this raised its liquidity coverage ratio (LCR) and net stable funding ratio (NSFR) to comfortably above 100%. In our model, we incorporated FY19-21 deposits growth of 6-7% (FY15- 18 CAGR of 2%); primarily from the retail space.

Vulnerable NIM. With its loan-to-deposit ratio (LDR) standing high at 99% and competition to shore up fixed deposits is expected to continue, we reckon AMMB’s net interest margins (NIM) may be more susceptible to a quicker contraction. Based on our calculations, it shows that every 10bp decline in NIM could lower its earnings by 7%; we pencilled in a NIM reduction of 1bp for FY19-21.

Upward normalisation of net credit cost. While loans mix saw significant changes, we observed new impaired loans formation dwindled by a CAGR of 16% between FY15-18. This led to asset quality improvement and for 4 consecutive quarters, gross impaired loans (GIL) ratio has hovered within the 1.7-1.8% range. Besides, net credit cost was kept low during the 3-year period, thanks to high recovery rate for impaired loans. Nonetheless, the latter thinned in size with a 10% CAGR drop. Our view is that this will persist and we assumed a gradual normalisation of net credit charge in our financial model (at 8-9bp for FY19-21).

Other operational updates. In early 2018, AMMB introduced its Business Efficiency Target 300 (BET300) program, which aims to milk RM100m p.a. worth of savings over the next 3 years. For starters, AMMB’s cost-to-income ratio (CIR) has fallen close to the 50% level for the past 2 quarters from a typical 55-60% run-rate in FY17-18; this was due to the completion of its mutual separation scheme (MSS). Although the lower quarterly cost base of c.RM500-RM520m should persist into 2HFY19, management is guiding CIR to inch upwards slightly due to slower non-interest income contribution (largely fee and insurance income). To be conservative, we imputed a CIR of c.53% in our FY19 forecasts, in line with AMMB’s full year guidance of below 55%.

Evaluating disposal of AGI. The potential divestment of AmGeneral Insurance (AGI) makes sense given the alteration in business strategy to shy away from auto-related business; c.80% of AGI’s premium is from motor insurance. However, AMMB would then need to find avenues to plug the hole as AGI contributes c.10% to its bottom-line. The reported price tag of RM3.4b would value AGI at 2.0x P/B (as at Sept 2018), which we deem is fair; in line to peer average of 2.1x and AMMB paid a similar 2.0x P/B for Kurnia Insurans back in 2012. The RM1.7b cash proceed (AMMB’s portion as it owns only 51% of AGI) could be used to either: i) Plowback to its commercial banking operations to lessen the need to compete for expensive funding. This would then would allow AMMB to defend NIM. Assuming this is fully disbursed as new loans, we estimate a c.5% cut across our FY19-21 earnings forecasts. ii) Reinvest in debt securities. Say the investment could fetch a 4% p.a. yield, our calculation implies the need to lower our FY19-FY21 earnings estimates by c.6%. iii) Distribute as special dividends. This would be one-off in nature and translates to a high potential dividend yield of 13%. However, with no new income stream, our FY19-FY21 earnings forecasts will accordingly be revised down by 10%.

Forecast. Following the transfer of coverage to our new analyst, we introduce a new set of financial forecasts. Notably, there is a 1-8% downward revision to our FY19-21 earnings estimates.

Key downside risks include: (i) market share losses, (ii) business strategies like ‘Top 4’ and BET300 not taking flight, along with (iii) the built up in SME loans may not bode well for AMMB at this stage of the economic cycle seeing a more challenging macro environment.

Maintain HOLD but with a higher GGM-TP of RM4.70 (from RM4.30) based on 0.79x CY19 P/B with assumptions of 7.7% ROE, 9.0% cost of equity, and 3.0% long term growth. This is below its 5-year average of 0.98x and the sector’s 1.21x. The discounts are fair on the back of its lower ROE generation, which is 3ppt under its 5- year and industry mean.

Balanced risk-reward profile. Key positives for the stock are improving CIR, which been falling over the past 2 quarters, and steady asset quality trend. However, we are concern of a potential upward normalisation of its net credit cost, considering lumpy recoveries may start to fade. Furthermore, AMMB’s high LDR of 99% makes it more vulnerable to NIM compression. The stock is currently trading at -1SD to both its 5- year mean P/B and P/E.

Source: Hong Leong Investment Bank Research - 17 Dec 2018