Period  2Q15/1H15

Actual vs. Expectations  1H15 net profit of RM1.1bn (+3% YoY) is in line with our and street estimates, making up 50% of respective full-year forecasts.

Dividends  As expected, an interim DPS of 15.0 sen was declared (1H14: 15.0 sen). This is in line with its historical trend. Assuming a payout ratio of 35%, we expect HLBANK to declare a final DPS of 28.0 sen in 4Q15 (FY14: 34.4%).

Key Results Highlights

1H15 vs. 1H14, YoY  Net profit ticked up by 3% thanks to: (i) lower opex (- 2%) and (ii) higher write backs (1H15: +RM69m vs. 1H14: -RM3m). Otherwise, its results would have been dragged down by mark-to-market forex losses from currency swap activities (1H15: -RM23m vs. 1H14: +RM99m).

 Net interest margin (NIM) pressure was well contained at 2%, thanks to prudent liquidity management.

 Loans and deposits grew at a 7% and 5%, respectively, lifting its loan-to-deposit ratio (LDR) by 1ppts to 81%. So far, its loans growth is above our 6% forecast but below management target of 9%.

 For the past 12 months, loans growth was fuelled by the property segment (+15%).

 Current account & savings account deposits (CASA) ticked up by 4% and now it makes up 26% of total deposit base.

 Cost-to-income ratio (CIR) was flat at 44% as opex and total income contracted by the same magnitude (-2%).

 Asset quality stayed robust as: (i) gross impaired loans ratio (GIL) fell by 35bpts, (ii) loan loss coverage (LLC) remained above the 100%-mark and (iii) credit charge ratio was at -13bpts due to bad loans recovery.

 Share of profit from Bank of Chengdu, its 20% associate company, grew 7% thanks to stronger loans growth (+13%). It now contributes 13% to Group PBT, similar to last year.

 Annualised core ROE declined 1ppts to 15%. This is in line with our and management’s expectations.

 CET1, Tier 1 and total capital ratios were stable, growing in between 30-60bpts from last year.

 We gathered that its liquidity coverage and net stable funding ratios were well above 100% as at end-Dec 14.

2Q15 vs. 1Q15, QoQ

 Earnings nudged up by only a mere 1% as higher opex (+8%) offset the quarterly increase in write backs (2Q15: +RM54m vs. 1Q15: +RM15m).

 Fierce competition for retail deposits drove up cost of funds during the 3 months period. Consequently, NIM declined by 6bpts.

 LDR increased by 1ppts as loans grew quicker than deposits at 3% and 2%, respectively.

 CIR spiked 3ppts to 45% as opex accelerated (+8%); no thanks to higher personnel cost (+8%), marketing expenses (+18%) and administrative related charges (+15%)

 Asset quality indicators were robust. LLC stood at 129% while GIL declined 17bpts and credit charge ratio was at -21bpts due to bad loans recovery.

 Share of profit from Bank of Chengdu declined 7%, considering the high base effect for the past 3 quarters.

Outlook

 In Malaysia, system loans growth is expected to taper to 7-8% (from ~9% in 2014), premised on the back of: (i) weak private consumption trend given rising inflation in the country and (ii) the relatively high industry LDR (of over 80%) caps lending activities. Also, credit charge is likely to inch upwards given that: (i) asset quality could come under pressure due to higher cost of living and (ii) slower recoveries from bad legacy business loans (since most of them are already restructured or recovered last year). Furthermore, there is no respite for NIM compression as stiff price-based competition still persists in the market due to shrinking liquidity.

 In China, HLBANK expects the operations of its 20% associate company, Bank of Chengdu (BoC) to stay resilient as the “City of Hibiscus” is still playing catch-up with other parts of China. However, back in November 2014, People's Bank of China had cut the one-year benchmark lending/deposit rates by 40bpts/25bpts. As a result, banks over there are likely to experience narrowing NIM (due to the asymmetrical rate cut), but asset quality may improve on the back of easing debt pressure. However, we stand by our view that BoC’s growth should taper (+29%), in consideration of the high base effect where it delivered a stellar performance last financial year (+40%).

 Except for loans growth, no other changes were made to its FY15 KPI targets/expectations: (i) NIM to contract 0bpts-8bpts (1H15: +2bpts, Kenanga: -2bpts), (ii) Non-interest income as a percentage of total income is targeted at 25% (1H15: 19%, Kenanga: 24%), (iii) CIR to trend lower to 42%-44% (1H15: 44%, Kenanga: 44%), (iv) Credit charge ratio at 25bpts-30bpts (1H15: -13bpts, Kenanga: 13bpts), (v) Total loans growth of 9% (previously 10%) (1H15: +7%, Kenanga: +6%), (vi) LDR to be around 80%-82% (1H15: 81%, Kenanga: 81%), and (vii) ROE of at least 14% (1H15: 15%, Kenanga: 14%).

 With regards to its capital raising exercise, we understand that management had already submitted the necessary proposal to the Board of Directors for evaluation. To note, its fully loaded CET1 ratio as at end-Dec 14 is 9.2% vs. Basel III minimum CET1 and capital conservation buffer requirement of 7% (by 2019).

Change to Forecasts  Since the 1H15 results were in line with expectations, we make no changes to our FY15E/FY16E earnings of RM2,197m/RM2,289m.

Rating Maintain MARKET PERFORM

Valuation  Our TP is unchanged at RM15.04 based on 1.61x CY15 P/B, derived from the Gordon Growth Model (COE of 9.8%, CY15 ROE of 14% and TG of 3%).

 Although current valuation seems undemanding as it trades at -1SD level, the stock could potentially de-rate as future growth rate tapers causing ROE to fall.

Risks to Our Call  Steeper margin squeeze from tighter lending rules and stronger-than-expected competition.

 Weaker contribution from its Chinese associate.

 Slower-than-expected loans and deposits growth.

 Higher-than-expected rise in credit charge as result of a potential up-cycle in non-performing loan (NPL). 

Source: Kenanga