Post-meeting with management last week, we find that Alliance’s outlook for the next 9 months do not look all rosy given that FY20 loans growth guidance was cut and we see a lower NOII run-rate. However, NIM recovery should happen from 3QFY20 onwards and all the 3 bad loan accounts have been fully provided. Overall, we cut our FY20-22 net profit forecasts by 4-6% but we think most of the negatives have been priced in (now trading at -2SD P/B and valuation is at global financial crisis lows). Hence, maintain BUY but with a lower GGM-TP of RM3.40 (from RM3.70), based on 0.86x CY20 P/B.

We met up with management last week to get some operational updates. Overall, we find that Alliance’s near-term outlook is not all rosy.

Cut loans growth guidance. While the focus to drive up better risk adjusted return (RAR) loans has been successful over the past 3 years (was able to improve NIM and boost credit demand), growth here has now tapered sequentially (+2.7% QoQ). In turn, this has dragged overall lending growth to be flattish QoQ. However, the strategy for better RAR loan acquisition remains relatively unchanged - where management courts the SME trade financing and working capital space but has tightened its Alliance One Account’s (AOA) origination policy to control delinquencies. Together with a tough operating climate, management now sees slower FY20 loans growth of 5-6% from c.7% earlier.

NIM recovery in 3QFY20. Considering the full 3 month impact from May-19’s OPR cut, 2QFY20’s NIM would be the most affected. However, in the following quarter, it should recover, since 66% of its non-CASA deposits are due for maturity within 6 months (calculated from Mar-19 onwards) and will be repriced downwards. That said, during an interest rate cut, we find that Alliance stands to lose most among local banks; based on our estimates, every 25bp reduction in OPR would see its NIM slipping by -6bp and profit falling by 5% vs sector’s -4bp and -3% respectively. For FY20, management is still guiding NIM to compress 5-10bp; however, should there be another OPR cut, FY20 NIM is expected to narrow by 10-20bp instead.

Lower NOII run-rate seen. To improve fee income, management is now looking to milk the 15-year bancassurance tie-up it has with Zurich Insurance. Besides, Alliance is enhancing the capabilities of its relationship managers (to help increase business opportunities) and also, expand cross-selling efforts to customers that were acquired through recent deposit campaigns. We gathered these initiatives are expected to lift FY20 fee income by 5-6%. As for investment income, management shared that they do not heavily and actively manage their treasury books to maximize alpha from speculative position on interest rate direction. Hence, we think chalking RM80-85m/qtr run-rate for non-interest income (NOII) would be difficult, seeing that the average is only RM66m/qtr from 1QFY19-20.

All 3 bad loan accounts fully provided. Net credit cost guidance for FY20 was kept at <40bp. Management shared that all 3 problematic loan accounts are fully provided for and recovery plans are ongoing. With regards to a recent rumour on a well-known property developer being cash-strapped, management viewed there were still no major financial peculiarities that warrant a concern. Also, from the overall tone, it seems to us that this account is currently classified under stage 1 performing loan.

Forecast. We cut our FY20-22 net profit forecasts by 4-6% to reflect slower loans growth (to 5% from 6%), higher NIM slippage (factoring in another 1-3bp decline), and softer NOII contribution - mainly from lower investment income (to a 3-year CAGR of 7.4% from 10.0%).

Maintain BUY but with a lower GGM-TP of RM3.40 (from RM3.70), following our earnings cut and based on 0.86x CY20 P/B (from 0.92x) with assumptions of 8.5% ROE (from 8.9%), 9.4% COE, and 3.0% LTG. This is below its 5-year mean of 1.14x and the sector’s 0.98x. The discount is fair given its falling ROE trend (1-2ppt lower vs 5-year mean and sector average). While we acknowledge that Alliance’s outlook for the next 9 months do not look all rosy, we think most of the negatives have been priced in (now trading at -2SD P/B and valuation is at global financial crisis lows). A comforting factor is that there is no need for top up in provision for the 3 bad loan accounts - only positive potential recoveries from here on.

Source: Hong Leong Investment Bank Research - 9 Oct 2019