INVESTMENT HIGHLIGHTS

• Net profit for 1HFY18 was at the upper bound of expectations

• Hong Leong Bank Bhd was the key driver while insurance and investment bank was a drag

• HLB picked up robustly due to better net interest income stemmed from net interest margin improvement

• No dividend

• Tweaking our FY18 forecast upwards by +6.1%

• Reverting to NEUTRAL (from TRADING BUY) on HLFG with an adjusted TP of RM18.70 (from RM17.67) based on SOTP valuation HLFG

1HFY18 earnings upper bound of expectations. HLFG reported 1HFY18 net profit of RM950.6m, which was at the upper bound of ours and consensus' expectations coming in at 56.7% and 54.9% of respective full year estimates. The +14.6%yoy growth was due to solid performance of Hong Leong Bank (HLB).

HLB topline driven by net interest income. HLB net interest income (including Islamic Banking) in 1HFY18 grew +9.0%yoy, driven by +8bps yoy net interest margins (NIM) improvement. The better NIM was due to disciplined asset & liability management. Interest expense fell -1.1%yoy to RM1.67b while interest income went up +2.3%yoy to RM3.16b. In addition, Bank of Chengdu contribution grew +111.7%yoy to RM273.1m. Meanwhile, Current Account Savings Account (CASA) deposits grew +9.3%yoy to RM41.3b which was a key driver in NIM improvement. This uplifted total deposit growth to +3.1%yoy to RM155.3b. However, Gross loans growth came in much lower than expected with +1.8%yoy to RM125.5b as at 2QFY18. There was a pull back in working capital, unsecured and hire purchase loans. These loans segment fell -3.5%yoy to RM22.4b, -3.4%yoy to RM5.67b and - 4.5%yoy to RM17.31b respectively. However, we understand that beside lower vehicle demand, the Group was also selective in regards to hire purchase loans. Conversely, mortgages grew strongly by +9.0%yoy to RM59.12b.

Insurance division performance slumped. Insurance division PBT came in -19.4%yoy lower to RM152.4m. This was due to higher interest rates in 1HFY17 as compared to current year which led to much higher profits in 1HFY17. In addition, life fund surplus came in lower. Meanwhile, management expense ratio was 5.7% in 1HFY18.

Lower Investment Banking business under Hong Leong Cap (HLC). The Investment Banking business under Hong Leong Cap (HLC) fell 6.4%yoy to RM37.4m. This was despite revenue coming in higher. The lower contribution was due to higher variable overhead expenses. In terms of business segment, the drag came from investment banking and stockbroking.

FORECAST

We are tweaking our FY18 forecast upwards by +6.1% to take into account the performance of HLB.

VALUATION

We believe that the main driver for the Group is HLB. Although, HLB's prospects remain stable, we do not foresee any upside surprises in the coming quarters. This is premised on the lower than expected loans growth. However, improvement in NIM will moderate this impact and the recovery in Bank of Chengdu will provide a boost. With no immediate catalyst to the Group's earnings, we are reverting our call to NEUTRAL (from TRADING BUY). We are revising our TP to RM18.70 (from RM17.67) due to adjustment made to HLB's valuation.

Source: MIDF Research - 27 Feb 2018