Period  3Q14/9M14

Actual vs. Expectations The reported 9M14 net profit of RM1,564.8m (+8.7% YoY) accounted for 78.1% of consensus estimate of RM2,004.2m and 76.2% of our forecast of RM2,054.1m.

Dividends  As expected, no dividend was declared for the financial quarter under review. However, we are expecting the Group to pay at least 21.0 sen final dividend in the final quarter, raising the full-year DPS to 36.0 sen.

Key Results Highlights

9M14 vs. 9M13

 In a nutshell, HLBANK’s 9M14 pre-tax profit and net profit grew 7.4% and 8.7% YoY despite flattish total income at RM3,033m (vs. RM3,032m in 9M13) due to: (i) lower operating expenses (-2.0%), (ii) coupled with higher net write back of impairment losses from securities (+678.9%) and (iii) higher share of profit from Bank of Chengdu and joint ventures (+47.3%). However, this was blunted by higher allowance for impairment losses on loans (+297.0%).

 Net interest income grew 5.8% YoY despite gross loan increasing faster, by 7.6% due to further NIM compression of 7bps. While the loan growth was slightly below the management target of 10.0%, it was, however, inline with our estimate of 7.5%. The higher growth was mainly driven by stronger SME loan growth of 14.6% while individual/household loan grew at a slower pace of 8.1%. In terms of loan by economic purpose, the Bank seems focused on lending to residential properties, non-residential and construction sector, which grew 13.5%, 12.2% and 9.4% YoY, respectively.

 On the customer deposits front, it only grew 3.3% YoY, which is way below the management target of high single-digit and our estimate of 5.0%. However, this is not a major concern. This is because the low-cost deposits – CASA – grew at a much faster pace of 7.6% YoY and secondly, the gross loan-to-deposit ratio (LDR) has improved from 76.5% as at end-Mar13 to 79.7% as at end-Mar14. Both scenarios have been able to cushion the contraction if not improve NIM. Moreover, the LDR remains supportive for growth, in our view.

 Islamic banking income dipped 5.0% YoY due to a sharp contraction in profit rate due to change in regulation in Islamic products.

 Non-interest income, on the other hand, declined 11.1% YoY and only accounted for 23.7% of total income (vs. 26.6% in 9M13 and slightly below the management target of 26%-29%) as a result of lower gains in trading securities (-38.5%) and FX activities (-11.8%).

 Operating expenses improved marginally with a YoY decline of 2.0% YoY, due to improvement in efficiency, which resulted in an improved cost-to-income ratio (CIR) of 43.7% vs. 44.6% in 9M13.

 For the first 9 months, loan loss impairments of RM27.8m were in contrast to RM13.1m impairment in 9M13. The annualised credit charge ratio for 9M14 was recorded at 4bps (vs. 2bps in 9M13), slightly above our expectation of 3bps. This is not a surprise, as the trend of normalisation in credit cost could have already started and we do not rule out further hike in our credit cost assumptions, if and when we see concrete signs of deterioration in asset quality (especially in a rising interest environment). As for now, asset quality for the Banking Group remains solid. As of end-Mar14, gross impaired loans ratio improved slightly to 1.24% from 1.41% in end-Mar13. Loan loss coverage (LLC) of 129.3% (vs. 141.1% in 9M13) was also amongst the highest in the industry with an industry average of 105.1%.

 Share of profits from associate & JV grew 47.3% YoY. Bank of Chengdu (BOCD) remained the key contributor with profit contribution growing by 44.9% YoY and representing 13.8% of the Group’s PBT.

 While the capital levels were slightly lower as compared to end-Mar13, they remain strong and supportive for growth. Common Tier 1 (CET1), Tier 1 and Total Capital ratios stood firm at 9.8%, 11.2% and 13.6%, respectively (vs. 10.1%, 11.8% and 15.0% in end-Mar13).

 The annualised ROE of 15.4% was slightly lower in contrast to 15.8% in 9M13, but it was, however, ahead of our estimate of 15% and in-line with the management target of 15%-17%.

3Q14 vs. 2Q14

 QoQ, net profit declined by 3.9% due mainly to lower total income (-10.1%) coupled with higher allowance for impairment losses on loans, advances and financing (+22.2%).

 However, these negative results were netted off by lower expenses (-10.7% QoQ with a CIR of 43.3% vs. 43.6% in 2Q14), higher writebacks of impairment losses from securities coupled with higher share of profit from Chengdu and JV of +78.7% QoQ.

 On a positive note, we notice NIM (inclusive of Islamic Banking) has actually improved by 12bps. Nonetheless, this could be seasonal as we saw an 8bps expansion in NIM during 3Q13, which was subsequently followed by a 14bps compression in 4Q13.

Outlook  Our view remains unchanged. To recap …

 Total loan growth: Management guided for ~10%. However, we only imputed 7.5% growth for the next two years.

 Customer deposit growth: High single-digit. As the LDR still remains supportive for growth, we believe the bank may not push for deposit growth in an aggressive manner; hence we only factor in 5% in deposit growth for the next two financial years.

 NIM: To sustain above 2%. We continue to maintain 2% NIM for the next two financial years.

 CIR: 42%-45%. However, we believe this may not be achievable in the short-term due to keener competition where we expect higher promotion and marketing expenses. Besides, we also believe other costs will remain sticky as well. Hence, we only factor in a gradual mild reduction in CIR (FY14: 45.8%, FY15: 45.2%).

 Credit charge ratio: 25-30 bps. Due to the continued improvement in gross impaired loan ratio, we believe the credit charge may continue to remain low, say <10bps, unless operating environment turns more volatile and challenging.

 ROE: 15%-17%. We believe this is achievable. In fact, we estimate ROE to register at 15.1% for the next two financial years.

 Net dividend payout ratio to maintain at 1/3, which translate into NDPS forecasts of 36 sen and 39 sen for FY14 and FY15 respectively.

Change to Forecasts

 We maintain our FY14E and FY15E net profit estimates of RM2,054.1m (+10.7% YoY) and RM2,253.1 (+9.7% YoY) for now.

Rating Maintain MARKET PERFORM

Valuation  We maintain our target Price (TP) of RM15.20, implying FY14E and FY15E BPS of 2.0x and 1.8x,  respectively.

 At this TP, HLBANK is valued at 13.9x and 12.7x on FY14 and FY15 PERs, respectively.

 While these valuations are not demanding, the stock could go through a de-rating process as its growth rates, going forward, have shown some signs of weakness.

Risks  Tighter lending rules and further margin squeeze in general.

 Tougher operating environment especially in treasury market.

 Higher-than-expected credit charge due to deterioration in asset quality.

Source: Kenanga