Period  1Q14/3M14

Actual vs. Expectations The reported net profit of RM450.7m (+23.6% YoY or -10.9% QoQ) accounted for 22% of the consensus estimate of RM2,015.0m and 21% to our forecast of RM2,138.0m.

 While the annualized ROE of 10.6% was lower than the management’s target of >12%, we deem the results to be inline judging from its strong YoY growth. Besides, 1Q could be a weaker quarter. Recall that net profit of 1Q13 only accounted for 19.5% of FY13’s earnings.

Dividends  None for 1Q, as expected.

Key Results Highlights

3M14 vs. 3M13

 On a YoY basis, the group’s total income grew 7.8% on the back of reasonably good growth in Islamic Banking (+13.5%) and non-interest income (+10.7%).

 The higher Islamic banking was due mainly to higher net funding income on the back of 12% financing growth albeit seeing lower non-funding income due mainly to lower net gain on disposal of financial assets/investments.

 Non-interest income accounted for 33.9% of total income (vs. 33% in 1Q13). The stronger growth was driven by higher fee income (+17% YoY) and increase in insurance underwriting surplus.

 As for net interest income, it grew at a milder pace of 5.1% despite gross loan expanded by 11.2% and its NIM stayed fairly steady at 2.33% (vs. 2.32% in 1Q13) as a result of effective balance sheet management.

 The achieved loans growth was pretty inline with our expectation of ~11% and could be on track to meet management’s target of 12%. In terms of growth drivers, we saw the Group aggressively expanded loan to individuals (+15.9% YoY, c.45% of total loan) and non-SME domestic business enterprises (+12.3% YoY, c.27% of total).

 We understand that most of the consumer loans were still focused on areas such as mortgages (+18.6%, c.21% of total), personal use (+22.5%, c.6% of total) and share margin financing (+26.0%, c.11%), to a certain extend. Besides, we also notice the Banking Group had also been active in non-residential lending (30.5%, c.6% of total) and construction (+11.2%, c.3% of total).

 Customer deposit, on the other hand, growth slower at 6.0% YoY but this was a major concern as (i) CASA grew faster at 12.1% and (ii) loan-to-deposit ratio (LDR) remains comfortably below 90%-mark at 88.1% vs. 84.0% in 1Q13. However, the growth of CASA deposits was slightly below management’s target of >15%.

 Cost-to-income Ratio (CIR), however, deteriorated to 53.7% as opposed to 52.7% in 3M13, which was inline with a jump of 9.9% in operating expenses due to personnel cost associated with headcount growth and appointments of key senior hires to support business expansion. Despite recorded a higher CIR, the management still maintaining their CIR target of <50%. Thus far, base on our forecast, we have imputed a CIR of 49.3%.

The higher operating expenses were partially cushioned by significant lower loan impairment allowance (-65.0%) due to a non-occurrence of impairment allowance made on a corporate account in 1Q13. As a result, annualized credit cost only registered at 17bps (vs. our expectation of 14bps) as compared with 55bps in 1Q13.

 The lower allowance was also inline with improved asset quality. Gross impaired loan (GIL) ratio declined from 2.95% in 1Q13 to 2.54% in 1Q14, well on track to achieve the management target of <2.5%.

 Loan loss coverage (LLC) of 68.4% reminded stable (vs. 68.7% in 1Q13), but it was lower than industry (>100%). As such, the sustainability of improved credit charge is still questionable.

 At the same time, coupled with higher recoveries/writebacks on other assets of RM11.9m (vs. RM4.3m in for 3M13), PBT and net profit of the Group grew 29.0% and 23.6% respectively.

 The annualized ROE of 10.6% (vs. management target of >12% and our expectation of 12.5%) improved 130bps in contrast to 9.3% in 1Q13.

 Total capital ratio lower at 13.4% (vs. 14.4% in 4Q13 &14.7% in 1Q13) due mainly to application of transitional arrangement with the gradual deduction/phase-out of investment in subsidiaries, sub-debts and Hybrid Tier-1 instrument.

The similar trend was observed in Tier 1 capital ratio as well (1Q14: 11.5% vs. 4Q13: 12.4% & 1Q13: 12.0%).

1Q14 vs. 4Q13

 PBT and net profit decreased 6.7% and 10.9% QoQ due mainly to lower total income of 9.2%, but was partially offset by lower operating expenses (-3.6%) albeit higher CIR (vs. 50.6% for 4Q13) and lower loan impairment allowance (-54.3%) with a lower loss charge-off rate (vs. 36bps in 4Q13).

Outlook  The management still maintains their 2014 targets that have set in the previous quarter.

 The ability of RHBCAP to drive its CIR to <50%-market and to sustain its loan-loss charge-off rate could be the key in achieving its ROE target of >12%, in our view.

 Judging from the 1Q14 results, we believe the Group should be able to deliver a top-line growth of high single-digit or lowteen.

Change to Forecasts

 No change in our earnings estimates of RM2138.0m-RM2374.7m for FY14-FY15.

Rating However, we lower our rating to MARKET PERFORM from OUTPERFORM previously as share price has appreciated c.7% since last quarter, making upside to our Target Price (TP) limited at c.5%.

Valuation  We maintain our TP of RM8.75 for now. At RM8.75, the stock is still traded at an undemanding FY15 PER of 9.2x and FY15 PBV of 1.1x.

 While we believe there is still room to upgrade our TP to the region of RM9.10-RM9.50 if and when it is proven able to further improve its operating KPIs i.e. CIR, ROE, etc in coming quarter(s).

 Until then, we prefer to adopt a more conservative stance. Besides, we also do not rule a longer-than-expected gestation period post merger with OSKIB.

Risks  Tighter lending rules and further margin squeeze.

 Tougher operating environment in treasury and capital markets.

 A sticky than expected CIR.

 The relatively low LLC ratio against industry average could be a treat to our credit cost assumption.

 Lower-than-expected merger synergies.

Source: Kenanga