Yesterday, OCBC published their fourth quarter 2014 results which missed earnings relating to banking operations, saw weaker net interest margin trends relative to DBS and still sitting on a S$2.6bn capital shortfall for the 12% Tier 1 common capital ratio (Basel 3). Macquarie Equities Research (MER) also noted that overall operating trends of the banking operations look uninspiring, particularly on margins, provisions and costs. Read on for excerpts from MER’s research report published on 11 February 2015…
 
 
Earnings summary - OCBC reported a fourth quarter 2014 net profit of S$791m, an increase of 11% year-on-year (YoY) but 6% fall quarter-on-quarter (QoQ) missing MER expectations of S$893m by 11% and market expectations of S$824bn by 4%. Relative to MER estimates, OCBC reported weaker non-interest income, costs and loan loss provisions. Excluding the S$169m profit contribution from Great Eastern (+28% YoY, +7% QoQ), OCBC “core earnings” were up 7% YoY (because of Wing Hang Bank) and down 9% QoQ. OCBC declared a full-year dividend of S$0.36 (2013: S$0.34) which is about in-line with both MER and market expectations (S$0.35).
 
Margin trends – Surprisingly – and in contrast to DBS – the net interest margin for OCBC declined QoQ (1.67% in fourth quarter of 2014 versus 1.68% in the third quarter of 2014). The main reason for the quarterly margin decline was a slight uptick in funding costs (+0.03% QoQ).
 
Volume growth and asset quality – Customer loans grew 24% YoY, 2% QoQ to S$210bn, slightly ahead of MER expectations of S$207bn. Excluding Wing Hang Bank, OCBC’s loans grew 8% YoY, 2% QoQ. Loans growth for the full year was mainly outside of Singapore. Asset quality remained healthy with the non-performing loans ratio of 0.6%, compared to 0.7% a year ago.
 
Capital - OCBC’s Tier 1 common capital ratio (Basel 3 fully loaded) of 10.6% was in line with MER estimates and up by 50 bp QoQ. Still, OCBC remains the weakest capitalised bank among the three large banks in Singapore. For 12% Tier 1 common capital ratio – which MER considers adequate - MER believes that OCBC has a S$2.6bn capital shortfall as of end 2014. OCBC will apply its Scrip Dividend Scheme (10% discount of the average trading price of 30 April to 05 May) for the final dividend. While this will help to rebuild capital ratios, it will be dilutive and a negative for earnings momentum.
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MER’s action and recommendation
MER has a Neutral recommendation on OCBC with a 12-month target price of S$10.00.
 
MER remains guarded on the value realization from the Wing Hang Bank acquisition. Revenue-based synergies are unlikely to come through and integration and restructuring costs over the next 12 months will likely be a headwind.
 
MER is not yet concerned about significant asset quality deterioration, but notes that OCBC has the lowest loan loss provisioning ratio among the Singapore banks. Credit cost should rise from here as loan loss provisions normalise.
 
MER expects only single-digit earning momentum for OCBC because of scrip dividends to lift currently low capital ratios of 10.6%. MER thinks a minimum of 12% fully loaded Tier 1 common capital ratio is adequate for the Singapore banks which suggests a capital shortfall above S$2.6bn for OCBC as of end 2014. In MER’s view, this could partially be addressed with the disposal of Orchard Gateway and the scrip dividends.

OCBC remains MER’s least preferred pick among the Singapore banks.

Source: Macquarie Research - 12 Feb 2015