Period

1Q15

Actual vs. Expectations

Even after adding back the one-time expense to rationalise its IB business (RM202m), CIMB’s 1Q15 core earnings of RM782m (-27% YoY) still missed expectations, making up only 19-20% of our and street’s full-year estimates.

The deficit was mainly due to higher-than-expected provision for bad loans.

Dividends

As expected, no dividends were declared. Pay-out is usually in 2Q and 4Q.

Key Results Highlights

1Q15 vs. 1Q14, YoY

The weak showing was primarily due to: (i) higher opex from a one-time expense incurred for rationalising its IB business (+16%), and (ii) higher loan loss provision for its coal-related portfolio in Indonesia (+380%).

Net interest margin (NIM) pressure was felt as it contracted 20bpts, no thanks to higher funding cost in Malaysia and Indonesia.

Both loans and deposits grew 13% causing loan-todeposit ratio (LDR) to stay flat at 91%. Notably, CIMB’s loans growth was 3ppts above our and management expectations.

Sturdy loans growth across all business segments: (i) retail financial services (+13%), (ii) commercial banking (+16%), and (iii) wholesale banking (+11%). Countrywise: (i) Malaysia (+9%), (ii) Indonesia (+10%), (iii) Thailand (+11%), and (iv) Singapore (+13%).

Similarly, deposit-taking activities gained traction across all its operating countries: (i) Malaysia (+12%), (ii) Indonesia (+13%), (iii) Thailand (+22%), and (iv) Singapore (+18%).

Current account & savings account (CASA) grew 9% and now, it makes up 34% of total deposit base.

Cost-to-income ratio (CIR) spiked up 7ppts to 64%, no thanks to the one-time expense to rationalise its IB business. Without this, it would have only increased 1ppts to 58%.

Asset quality deteriorated slightly as gross impaired loans ratio (GIL) ticked up 10bpts. Furthermore, credit charge ratio spiked 64bpts.

Annualised ROE fell 5ppts to 8%, coming in below our and management expectations of 10-11%.

CET1, Tier 1 and total capital ratios improved 1%-2% to 10%, 11% and 14%, respectively. 1Q15 vs. 4Q14, QoQ

Core profit jumped 2-fold due to: (i) quicker non-interest income growth (+15%) as fee-based revenue rose 8% and it booked in forex gain of RM33m (vs. 4Q14: - RM140m). Moreover, it experienced (ii) lower loan loss provision (-42%) – recall, in 4Q14 there was an allowance made for bad legacy loans in Malaysia.

NIM fell 13bpts as cost of fund (COF) rose due to stiff price-based competition in the domestic market for retail deposits.

LDR declined 3ppts to 91% as loans grew 2% while deposits advanced 5%.

CIR jumped 1ppts to 64% but excluding the one-time expense to rationalise its IB business, it would have fallen 4ppts to 58% instead.

Asset quality dipped as GIL increased 9bpts but credit charge ratio tapered 65bpts.

Outlook

In Malaysia (contributed 80% to 1Q15 PBT), leading indicators for loans growth remains weak and we are only expecting system loans to expand by 7-8% YoY this year (vs. FY14: +9.3% YoY). Furthermore, the relatively high industry LDR of over 80% makes bank lending slightly more difficult than usual. As for asset quality, it should stay stable in FY15 as banks continue to seek out new, creditworthy customers. However, we believe that there will be an up-cycle in credit cost given that most of the bad legacy business loans were already restructured or recovered last year. On the other hand, NIM pressure is likely to persist given shrinking liquidity in the market.

In Indonesia (contributed 4% to 1Q15 PBT), management reiterated that CIMB Niaga is poised to grapple with another round of high bad loan provisioning in 2Q15; its gross NPL ratio is expected to rise and come in between 4-4.5% this year (vs. 1Q15: 4%). Besides, FY15 NIM is expected to taper below 5% (vs. 1Q15: 5.2%) as a result of the shift in its loan portfolio mix to higher quality assets. Overall, CIMB Niaga’s financial performance should stay weak in 2Q15.

In Singapore (contributed 10% to 1Q15 PBT), the Republic’s economy is expected to grow at a more moderate pace of 2-4% this year (vs. FY14 GDP: +2.9% YoY, 1Q15: +2.1% YoY), no thanks to deflation concerns, weak productivity, tight labour market and higher external export related risk. In turn, industry loans growth is likely to slow down. Additionally, high LDR of over 100% indicates tight system liquidity, suggesting that NIM compression is inevitable.

In Thailand (contributed 5% to 1Q15 PBT), the nation’s economy remains on a weak recovery path (FY15 GDP expected to grow by 3-4%) given modest consumption, investment and exports growth (vs. FY14 GDP: +0.7% YoY, 1Q15: +3% YoY). So far, Junta leader/Prime Minister Prayuth Chanocha’s fiscal stimulus package had failed to jumpstart the sluggish economy and hence, system loans growth is expected to dwindle. Furthermore, the high industry’s LDR of over 100% will spur competition in the market, especially within the deposit taking space causing NIM to narrow.

Management kept its FY15 guidance: (i) ROE to come in at 11% (Kenanga: 10%), (ii) Total loans growth of 10% (Kenanga: +10%), (iii) Credit charge ratio of 40-50bpts (Kenanga: 58bpts), and (iv) CIR below 55% (Kenanga: 57%).

In summary, 2Q15 should be another subpar quarter. As highlighted above, CIMB Niaga will again be a drag. However, this should be partially offset by the Group’s on-going cost saving initiatives.

Overall NIM should come under pressure from higher COF and lower average lending yield due to stiff price-based competition in the market; 1Q15 LDR is relatively high at 91%.

Updates on its mid-term strategy, ‘Target 2018’ (T18): (i) 168 regional IB headcounts to be cut and management is poised to save ~RM200m/annum, (ii) mutual separation scheme (MSS) launched in Malaysia and Indonesia, along with (iii) broad based cost management drive to further rationalise cost. Total cost savings from these initiatives is targeted at RM400m-600m/annum.

Change to Forecasts

Given the lacklustre 1Q15 results, we toned down our FY15E core profit slightly by 5% to RM3,792m from RM3,991m but our FY16E core earnings was left untouched at RM4,321m as we expect earnings projection to return to a more normalize growth trajectory.

Essentially, we only increased our FY15E credit charge assumption to 58bpts from 49bpts.

For the next two years, FY15E-FY16E ROE is expected to come in at 10%.

For dividend, we forecast CIMB to declare DPS of 18-20sen, comparable to before (19-20sen) given our slight downward revision in core earnings.

Rating

Maintain MARKET PERFORM

In our opinion, achieving T18 would be an uphill task for CIMB but we applaud its ambitious aspiration. After all, the banking industry is facing structural and cyclical headwinds such as: (i) tepid loans/deposits growth, (ii) net interest margin (NIM) compression, and (iii) weak capital market activities. Hence, we reckon that there are short-term operational headwinds and execution risk for now.

Valuation

Despite the cut in earnings, we arrive at a new GGM-TP of RM6.31 (previously RM6.02) as we rollover our valuation to FY16. This is based on 1.22x FY16 P/B (previously 1.24 FY15 P/B); we utilised (i) COE of 8.8% (unchanged), (ii) FY16 ROE of 10.0% (previously FY15 ROE of 10.1%), and (iii) terminal growth of 3% (unchanged).

The lower P/B multiple is to reflect slower growth and weaker ROE generation moving forward. Recall that the stock was traded at average P/B of 2.0x for the past two years when it generated ROE of more than 15%. As a result, we employed a lower P/B valuation yardstick.

Risks to Our Call

Steeper margin squeeze from tighter lending rules and stronger-than-expected competition.

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).

Further slowdown in capital market activities.

Unfavourable regulatory changes.

Adverse currency fluctuations.

Source: Kenanga Research - 21 May 2015