Period  2Q14 / 1H14

Actual vs. Expectations  The reported 1H14 net profit of RM2.1b (+4.2% YoY) accounted for 48.6% of our full-year estimate of RM4.27b and 47.1% of consensus’ RM4.40b.

 We deem this set of results to be inline with expectations as the 1H normally accounts for 47%-49% of full-year numbers.

Dividends  Concurrent with the release of 2Q14 results, Public Bank Berhad (PBBANK or the Group) declared a first interim single-tier dividend of 23 sen/share (vs. 22 sen/share in 1H13), representing a payout of 38.9% of 1H14 net profit. The dividend will trade ex-distribution on 8 Aug 2014 and payment will be made on 20 Aug 2014.

 As is customary of PBBANK, a second and final dividend is expected to be declared in 4Q14 and we anticipate the payout to be c.28 sen.

Key Results Highlights Loans: Gross loans grew 10.8% YoY meeting management’s guidance of 10%-11%, and remains slightly ahead of industry’s loans growth of 9.7% YoY as at end-May14.

 The main growth contributor continued to be the retail segment, driven mainly by growth in retail loans (4.7% YoY) and strong SME loans growth (11.3% YoY), which accounted for 63.6% and 22.3%, respectively of total loans as at end-Jun14. In terms of economic purpose, growth was driven by housing and commercial property, in which PBBANK remains the market leader.

 Deposits: Growing in tandem with loans, customers’ deposits increased 10.1% YoY as per management’s guidance of 10-11%. As a result, net LDR was flat at 87.1%. Although lower than the growth registered in 2H13 (+13.6% YoY), growth was still much higher than industry deposit growth of 6.0% YoY as at end-May14 (which is lower by a similar -3.2ppt YoY). This suggests that the decline is industry-related rather than company specific.

 Meanwhile, CASA-to-Total Deposits remained unchanged at 25.2%, in-line with industry’s average of 26.0% as at end-May 14.

 Interest income: Net Interest Margin (NIM) continued to feel some pressure, dipping another 16bps YoY and 8bps QoQ. Consequently, net interest income grew at a slower rate of +2.6% YoY and +1.3% QoQ to RM1.42b, while Islamic banking income registered a decline of 3.0% YoY and 1.0% QoQ to RM0.20b.

 Non-interest income, on the other hand, which accounted for 22.6% of total income and driven mainly by the Group’s unit trust business and transactional banking services, grew 6.3% YoY and 4.2% QoQ. Hence, this segment may become more attractive to PBBANK amidst the continuing decline in NIM.

 CIR continued to improve. Operating expenses was up 5.8% YoY and 1.5% QoQ. Nevertheless, the Group’s Cost-to-Income Ratio (CIR) continued to improve, dropping 0.9bps YoY to 31.7% (while remaining mostly flat relative to 1Q14). As such, the CIR achieved also met management’s target of <32%.

 Allowance for impairment on loans also saw a decline, dropping -15.2% YoY and -23.4% QoQ. As a result, the Group’s credit cost was lower at 11bps, as opposed to the 15bps recorded a year and a quarter ago.

Key Results Highlights (continued)

 Gross Impaired Loans (GIL) ratio remained fairly stable at 0.65% (vs. 0.67% in 2Q13 and 0.66% in 1Q14), and superior to industry’s average of 1.8% as at end-May 14. The GIL ratio achieved was also well within management‘s guidance of <1%.

 Loan loss reserve continues to be prudent at 117.6% vis-à-vis industry average of 104.9% (as at end-May 14) despite declining 5.6ppts YoY and -1.5ppt QoQ.

 Annualised ROE was recorded at 20.2%, bringing it inline with PBBANK’s 2014 KPI of >20%.

 Capital adequacy: The Group’s tier 1 capital ratio and total capital ratio came in at 10.4% and 13.8%, respectively, as at end-Jun 14. The total capital ratio achieved surpassed management’s guidance of >12% and the requirement under the Basel III regime of 10.5% by Jan 15. Hence, we are indifferent to the fact that it is lower than the industry’s average of 14.5% as at end-May14.

Outlook  The Group will continue to grow from strength to strength, and judging from the strong growth momentum seen in 1H14, there is a possibility that FY14’s loans growth may outdo management’s guidance of 10%-11%.

 Expect, also, for some attention to be directed towards growing non-interest income and adding higher yielding assets to the Group’s portfolio, e.g. corporate loans, as further compression is expected in NIM (say another c.6bps over the next two years).

 Market share in core business segments, i.e. retail, including SME, and hire purchase, should be maintained at the very least.

 In terms of operating cost, it is believed that the Group should be able to maintain its low CIR due to its excellent cost control and operating efficiency. We have factored in CIR of ~30% for the next two years.

 Having said that, the operating environment is expected to get more challenging in light of a possible second rate hike. Higher interest in a cost-push inflationary environment could translate into lower affordability and asset quality hence higher credit cost despite a potential reversal/higher NIM under a rate hike scenario.

 Although we expect the Group to continue having tight credit control, hence solid quality asset, the concerns of heightening credit cost remains due to higher living cost that would potentially impact borrowers’ affordability. In our forecast, we have imputed in <20bps in credit cost. Note that before FY12, credit cost of PBK was ranging from 45bps to 60bps.

Change to Forecasts  Our FY14E and FY15E earnings estimates of RM4,268.1m and RM4,719.6m remain unchanged.

However, we have revised downwards our projected EPS, BVPS, DPS and ROE in anticipation of the listing and quotation of 305.2m new rights shares on 8 Aug 2014.

Rating Adjust downwards to MARKET PERFORM from OUTPERFORM

 We lower PBBANK’s rating to MARKET PERFORM following the run-up in its share price since our last report. At RM20.00, PBBANK appears to be fully valued.

Valuation  In view of the dilution of EPS and BVPS, we revise downwards our Target Price (TP) to RM20.00. We arrive at our TP by pegging an unchanged target PBV and PER of 3.15x (which is the 3-year average) and c.16x, respectively (which is +1SD above the 3-year mean), over the lower FY15E BPS and EPS of RM6.58 (-8.5%) and RM1.22 (-17.0%) post rights issue.

 The revised blended TP of RM20.00 implies a FY15E PBV of 3.3x and a FY15E PER of 16.3x.

Risks to Our Call  Slower-than-expected growth in household lending.

 Higher credit cost arising from faster-than-expected deterioration in asset quality or lower disposable income.

Source: Kenanga