Although share price got hit in recent weeks, CIMB is still not amply attractive to warrant a rating upgrade. In our view, the stock’s risk-reward profile remains balanced given decade low foreign shareholding and undemanding valuations got defused by short-term uncertainty at Indonesia and there is scope for FY20- 22 profit downgrade by consensus (ours are 3-12% lower). We will turn more bullish only when share price trends closer towards the RM3 level as it will then provide a higher margin of safety. Overall, forecasts were unchanged. Maintain HOLD and GGM-TP of RM3.50, based on 0.58x FY21 P/B.

CIMB’s share price got hit in recent weeks. Major bugbears came from: (i) weak 2Q20 performance, (ii) lacklustre forward guidance, and (iii) worsening Covid-19 situation in Indonesia. In this write-up, we reassess the risk-reward profile of the stock.

Decade low FS & deflated valuations. CIMB’s foreign shareholding (FS) is now at more than a decade low of 22% vs 32% during the global financial crisis and 30% at the start of 2020. When stacked against larger peers, it is currently at a level between Maybank (17%) and Public (28%) but valuation wise, CIMB is the most undemanding of the 3 with a 50% P/B discount vs them; hence, the stock appears to worth a relook.

Adequately priced in NPL risk. CIMB estimates Covid-19 impacted sectors make up 27% of its gross loans and to a similar proportion, 20-30% may undergo rescheduling and restructuring (R&R) exercises. Thus, non-performing loans (NPL) formation could be benign and not spike substantially, contrary to popular belief. From our calculations (see Figure 1), the total FY20-21 net credit cost (NCC) of 225bp in our forecasts (vs guidance of 150-200bp) seemed to have adequately priced in NPL risk; this assumes 55% of non-R&R loans from the vulnerable group turning to NPLs, translating to an annual NPL formation run-rate of RM3.7b, 20% higher than the past 2-year average.

Uplift from cost management. In light of the tough operating climate, CIMB looks to reduce FY20 opex by RM500m (-5% YoY) to create positive Jaws. We believe this is not a tall order since RM349m of FY19 transformational costs from FlexMyCareer in Malaysia & mutual separation scheme exercise in Indonesia are non-recurring items. Moreover, these are expected to generate annual cost savings of RM200m. Besides, CIMB can rein in discretionary spending to achieve its target; based on our estimates, the combination of lowering personnel and variable non-salary opex by 5% and 10% YoY respectively, is able to yield savings of c.RM600m. Thus, we have conservatively built in FY20 cost-to-income ratio (CIR) assumption of -1ppt in our financial model.

Indonesia pain points? Although we have been largely prudent with the assumptions used in our profit projections, CIMB Niaga could still throw spanner in the works given escalating Covid-19 headwinds in Indonesia. It contributes 15-20% to group loans and PBT. For FY20, management has guided: (i) 20-30bp NIM slippage, (ii) 250-280 NCC, and (iii) loans contraction. Nevertheless, Indonesia remains a country that offers good growth opportunities over the medium to longer term.

Forecast. Unchanged.

Retain HOLD and GGM-TP of RM3.50, based on 0.58x FY21 P/B with assumptions of 6.0% ROE, 8.2% COE, and 3.0%. This is beneath both its 5-year average of 0.92x and the sector’s 0.76x; we feel the valuation is fair given its ROE output is 3ppt below its historical and industry mean. While trading at an attractive price point, CIMB’s risk reward profile remains balanced considering short-term uncertainty continues to linger at Indonesia and we think there is scope for FY20-22 profit downgrade by consensus (ours are 3-12% lower). We will turn more bullish only when share price trends closer towards the RM3 level as it will then provide a higher margin of safety.

Source: Hong Leong Investment Bank Research - 23 Sept 2020