HLBANK’s 12M16 core earnings of RM1,903m (-15.0% YoY) exceeded our, but was within consensus, expectations, accounting for 106%/96% of respective fullyear estimates. The exceeded expectation was due to lower-than-expected credit costs. A final dividend of 26.0 DPS was declared bringing total dividend to 41.0 sen/share (as expected). Going forward, loans growth and asset quality is expected to be challenging, thus a slight revision upwards in our forecast earnings. TP is revised to RM13.56 (from RM13.45 previously) but MARKET PERFORM call is maintained

12M16 core earnings fell due to higher opex, loan loss provisions and fall in contribution from its China operations by 22.2%. Loans grew slower at +6.3% and Net Interest Margin (NIM) also further compressed by 11bps. However, there were improvements on a QoQ basis with net income improving (after falling in the preceding quarter) due to higher top line growth and write-backs. Loans growth was slow at +1.5% but NIM compression was minimal at 1bps. Asset quality continues to improve by 3bps.

12M16 vs 12M15, YoY

• HLBANK’s 12M16 CNP was down by 14.8% underpinned by: (i) higher opex (+15.0%), (ii) allowances for impairment of RM52.6m (vs. write-backs of R51.9m in 12M15), and (iii) lower contribution from its associates in China (-22.2%) to RM312.2m due to higher impairments and compressed NIMs. The China operations contributed 13.1% at the pre-tax level vs. 14.6% contribution in 12M15.
• Total income improved by +2.7% (12M15: +0.72%) due to improvements from Islamic banking and Non-Interest Income (NOII) at +11.4% and +16.5%, respectively (12M15: -3.4% and - 3.9% respectively) but offset by fall in Net Interest Income at 3.1% (12M15: +3.0%). Islamic banking improved with a 15.5% growth in financing. Improvements in NOII mainly due to forex gains, higher transactional fee income and higher investment income.
• On an annualised basis, NIM fell by 11bps to 1.73 as cost of funds (COF) outpaced rise in lending yield.
• Cost-to-Income Ratio (CIR) went up by 5ppts to 49.9% (in line with our expectations of 49.9%) as opex (+15.0%) outpaced income growth. Excluding the one-off RM172m MSS (executed in 2Q16), opex would have been lower (at +5.6%) and CIR would have come lower at 45.8% (Industry CIR was at 49.7%).
• Loans grew at a slower pace of +6.3% (12M15: +8.9%) vs. our expectations of 8% (industry’s at +5.6%) while deposit growth was almost similar at +5.9% (12M15: +7.7) vs. our expectation of +7% (industry’s -0.5%). Hence, Loan-to-Deposit Ratio (LDR) went up slightly by 30bps to 81.2%. (vs. industry’s LDR of 87.5%).
• Loans were driven housing (+12.3%), hire-purchase (+3.2%) and SME’s (+8.2%). Deposits were driven by FDs at +8.9% with CASA growing at +3.6%. Nevertheless, CASA ratio fell by 60bps to 25.0%.
• Asset quality improved as Gross Impaired Loans Ratio fell by 5bps to 0.79% (vs industry’s 1.66%) while Loan Loss Coverage (LLC) fell by 16ppts to 119.8.3% (vs. the industry LLC of 89.5%). With improving asset quality, the credit charge ratio registered at 4bps vs. the 12M15 credit recovery of 5bps.
• Capital level remained healthy with CET1 and Total Capital Ratios improved by 190bps and 40bps to 12.7% and 14.7%, respectively, well above the regulatory level of 8.5% (CET1) and 10.5% (Total Capital).
• Annualised ROE fell by 5ppts to 9.6% as equity surged 25% due to the Rights Issue.

4Q16 vs. 3Q16, QoQ

• Net profit improved +12.2% (3Q16: +44.74%) due to top line growth of +7.6% (3Q16: -6.6%), and write-backs of RM51.4m (vs. loan loss provisions of RM19.9m) but negated by a higher tax rate of 22.9%.
• Total income increased by 7.6% attributed to improvements across the board of NII (+1.3%), Islamic banking income (+6.1%) and NII (+26.1) vs 3Q16 performance of -3.5%, -3.0% and -15.9% respectively.
• Minimal NIM compression of 1bps to 1.71% (due to higher lending yields) while there was credit recovery of 18bps vs. a credit charge of 7bps in 3Q16.
• CIR fell by 1ppts to 45.8% as top line outpaced opex (+4.6%).
• Loans growth was slower than deposits growth at +1.5% vs. +1.7% while asset quality improved with GIL down by 3bps to 0.79%.

Outlook is still challenging. As outlook is still challenging both internally and externally, management believes that domestic demand will still be the main driver. China operations are expected to recover in the 2H17. Going forward management gave its FY17 guidance; (i) loans growth of 5-6%, (ii) NIMs improving 5-10bps, (iii) CIR below 4%; (iv) credit charge of 25-35bps (as management expects recoveries to be challenging) and (v) ROE of 10-11%.

We also revised our assumptions for FY17E and introduced our FY18E numbers. Our assumptions for FY17/FY18 are; (i) loans growth of +6% (previously at +8.0%) for FY17, 6.3% for FY18; (ii) deposits growth of +6.5% (previously at 7%) for FY17 and 6.3% for FY18; (iii) improved NIM at 5bps (previously flattish) for FY17 and stabilizing for FY18, (iv) CIR of 45% for FY17 (previously at 46%) and at 45% for FY18, (v) credit charge of 0.20% for FY17 (unchanged) and flattish for FY18 with (vi) ROE of 9.7% (vs ROE of 10.1%) for FY17, and 9.7% for /FY18.

Change to earnings Forecast. We tweaked our FY17E earnings upwards by 0.4% to RM2,106m and introduced our FY18E earnings of RM2,246m.

Target Price revised with call maintained. We revised our TP upwards to RM13.56 (RM13.45 previously). This is based on a 1.12 P/B (previously 1.37x FY17 P/B) where we utilised; (i) COE of 8.72% (from 8.0% previously), (ii) FY17 ROE of 9.7% (previously FY17 ROE of 10.1%), and (iii) terminal growth rate of 2.5% (unchanged). The lower P/B is to reflect lower ROE generation going forward. Our MARKET PERFORM is maintained as we believe the stable economy going forward will improve asset quality.

Risks to our call are: (i) lower than expected margin squeeze, (ii) higher-than-expected loans & deposits growth (iii) worse-thanexpected deterioration in asset quality and (iv) higher-than-expected rise in credit charge.

Source: Kenanga Research - 30 Aug 2016