Towards Financial Freedom
OCBC - 2Q14 Beats Forecast On Stronger Income Growth
OCBC delivered strong results with its 6MFY14 net profit up 41% y-o-yon robust operating income growth. Yet, we believe a share price re-rating would be capped by concerns over the sustainability of itsmarket-to-market (MTM) and trading gains, and until investors get greater clarity on the integration and funding plans for its newlyacquired Wing Hang Bank. Maintain NEUTRAL with a higher GGMderived FV of SGD10.75 (from SGD10.30).
Strong beat. OCBC posted net profit of SGD921m (+2% q-o-q) in 2Q14 and SGD1.82bn (+41%) for 6MFY14, which accounted for 60-61% of our and consensus FY14F forecasts. The beat was mainly due to a much stronger-than-expected income growth of 22% y-o-y. An interim dividend of SGD0.18/share (1H13: SGD0.17) was declared and will be applicable to the scrip dividend scheme.
Key highlights of 2Q14 results are: i) strong operating income growth (5% q-o-q) with net interest income (NII) up 4% q-o-q and non-interest income (non-II) up 6% q-o-q (life insurance profit: +21%, net trading income: +35%), ii) healthy loan growth of 4.6% YTD, iii) current and savings account (CASA) deposits grew 4.4% YTD with the CASA ratio edging up 0.6ppt to 47.2%, iv) stable net interest margin (NIM) of 1.70%,and v) healthy asset quality as gross impaired loans (GIL) fell 2% q-o-q and 6.8% YTD while loan loss reserves rose 4.8ppt YTD to 153.2%.
Earnings revisions. We raise our earnings forecasts by 12% for FY14F and 8% for FY15F after factoring in higher NIMs and non-II, and lower impairment charges. We will incorporate financials from Wing Hang Bank(WHB) (302 HK, NR) pending detailson its integration and funding plans. Our preliminary estimates point to a potential 10-11% increase in OCBC's FY15F earnings but the dilution impact on EPS, ROE and capital ratios would depend on the financing structure for the c.USD5.0bn acquisition.
Maintain NEUTRAL. We raise our TP to SGD10.75 (from SGD10.30) as we roll forward our base year to FY15F. Assumptions in our Gordon Growth Model (GGM) are 9.3% cost of equity, 11.3% ROAE and 3.5% long-term growth. Our TP pegs OCBC at 1.4x FY14F P/BV (historical mean: 1.5x). Although OCBC's share price has outperformed the market over the past three months, we believe a further re-rating would be capped until there is greater clarity on its integration and funding plans for WHB. We view the sustainability of its trading and MTM gains as the other concern. Maintain NEUTRAL.
Key Highlights From Management Briefing
Banking operation earnings up 2% q-o-q. Excluding Great Eastern Holdings' (GEH) net profit contribution of SGD202m, earnings from banking operations increased 2% q-o-q to SGD720m in 2Q14 and 28% y-o-y to SGD1,428m in 6MFY14. OCBC's banking operations accounted for 78% of group 6MFY14 earnings, with the remaining 12% from GEH.
For 2Q14, total income grew a healthy 5% q-o-q, led mainly by an 8% rise in non-II. However, an 8% q-o-q rise in operating expenses and a 61% q-o-q jump in loan impairment charges moderated the net profit growth to 2% q-o-q.
GEH's profit boosted by MTM gain. The strong 126% surge in GEH's 6MFY14 net profit contribution was supported mainly by MTM gains in its Non-Participating Fund. Favourable interest rate movements and tighter credit spreads were key factors driving MTM gains. As a result, GEH reported a non-operating profit (from insurance business) of SGD106m vs a non-operating loss of SGD117m in 6MFY13. Operating profit from its insurance business was flat at SGD286m during the period.
Adopts onshore-offshore strategy for China.OCBC's exposure to Greater China stood at SGD27.0bn at end-June 2014 (down SGD3.0bn q-o-q or 10%). Approximately SGD3.6bn or 13% of these loans were booked in China, SGD7.0bn (26%) in Hong Kong, SGD1.0bn (4%) in Taiwan and the balance 57% in Singapore and other countries. The high portion of loans booked outside of China reflects OCBC's strategy to focus mainly on offshore clients as it would have better competitive advantages compared to competing for onshore loans with domestic Chinese banks. For onshore clients, OCBC focuses on large corporates and stateowned enterprises (SOEs) ie Chinese companies that have investments offshore, as they offer offshore opportunities.
Growth in trade loans could moderatein the month ahead as the gap between onshore and offshore rates have narrowed to 1.0-1.2% from a peak of 2.8%. Management believes that the gap could compress below 1%, which would reduce the incentive for importers based in China to seek financing offshore. Of its total China exposure, c.SGD8.0bn or 30% are trade related to movement of goods rather than storage or processing of goods. OCBC does not have exposure to Qingdao port and management believes its China portfolio is very healthy. The gross non-performing loans (NPL) ratio for the China portfolio is a low 0.3% vs the overall NPL ratio of 0.7%.
Profits from Greater China accounted for 11% of group 6MFY14 pretax profit while its China portfolio made up 15% of group loans.
Asset quality solid.Non-performing assets (NPAs), which fell 5.7% q-o-q in 1Q14, declined a further 1.2% q-o-q to SGD1,215m in 2Q14 helped mainly by recoveries. Total allowances/NPAs improved to 149% from 134% in Dec 2013. Impairment charges for loans and other assets rose 59% q-o-q to SGD66m in 2Q14 on higher general allowances (+147% q-o-q) and specific allowances (+57% q-o-q). Credit cost remained verymanageable at 18bps annualised. According to management, most of the increase in specific allowances was related to unsecured personal loans in Malaysia and Singapore and one Indonesian account that is being
restructured. Management is not too worried as the increases in Malaysia and Singapore were within expectations while the Indonesian account should be restructured by year-end. Management added that its Singapore housing loans are healthy with no material repayment issues.
NIM expected to dip in 2H14.NIM was stable in 2Q14 on higher NIM for its China trade loans as well as better spreads from corporate loans (except Malaysia). NIM in Malaysia fell a sharp 14bps q-o-q to 2.02% in 2Q14, as banks raised rates to attract deposits ahead of the expected hike in the overnight policy rate (OPR). Recall that Bank Negara Malaysia raised the OPR by 25bps to 3.25% in July.
Nonetheless, competition for deposits is exerting pressure on margins. Management expects NIM to range between 1.64% and 1.70% for FY14F, ie better than FY13 (1.64%) but a little lower than 6MFY14.
Details on integration and funding plans for WHB to be announced soon.Following the close of its general offer on 29 July 2014, OCBC has obtained a 97.5% stake in Wing Hang Bank (302 HK, NR). Management will proceed to privatise the bank. Management will soon host a briefing to update the investment community on its integration and funding plans for the c.USD5.0bn acquisition.
Earnings Revisions And Valuation
Raising earnings projections. We raise our earnings forecasts by 12% for FY14F and 8% for FY15F after factoring in higher NIMs and non-II, and lower impairment charges. We now expect core net profit to grow by 17% in FY14F and 7% in FY15F. The moderate growth in FY15F is based on assumptions of lower net trading income and MTM gains for its life insurance business.
Yet to include WHB's financials.We will incorporate WHB's financials into our forecasts once details on financing plans are made known. Based on our preliminary estimates, WHB could bump up OCBC's net profit by 5-6% in FY14F (assuming 6-month contribution) and 10-11% in FY15F. However, the dilution impact on EPS, ROE capital ratios would depend on the financing structure for the c.USD5.0bn acquisition. TP higher at SGD10.75.We revise our GGM-derived TP higher to SGD10.75 from SGD10.30 as we roll forward our base year to FY15F. We have made the following assumptions in our GGM valuation - ROAE of 11.3%, long-term growth of 3.5% and cost of capital of 9.3%. Our revised TP values the stock at 1.4x FY15F P/BV and 10.9x FY15F P/E, below its historical mean of 1.5x P/BV and 12.7x P/E.
Risks
Factors that could result in OCBC's share price rising above or falling below our TP are: i) sharper-than-expected NIM compression or expansion that would impact revenue growth, ii) sharp volatility in net trading income and MTM gains for its life insurance business, iii) significant deterioration in asset quality, and iv) faster-thanexpected or slower-than-expected progress in its integration with WHB.
Strong beat. OCBC posted net profit of SGD921m (+2% q-o-q) in 2Q14 and SGD1.82bn (+41%) for 6MFY14, which accounted for 60-61% of our and consensus FY14F forecasts. The beat was mainly due to a much stronger-than-expected income growth of 22% y-o-y. An interim dividend of SGD0.18/share (1H13: SGD0.17) was declared and will be applicable to the scrip dividend scheme.
Key highlights of 2Q14 results are: i) strong operating income growth (5% q-o-q) with net interest income (NII) up 4% q-o-q and non-interest income (non-II) up 6% q-o-q (life insurance profit: +21%, net trading income: +35%), ii) healthy loan growth of 4.6% YTD, iii) current and savings account (CASA) deposits grew 4.4% YTD with the CASA ratio edging up 0.6ppt to 47.2%, iv) stable net interest margin (NIM) of 1.70%,and v) healthy asset quality as gross impaired loans (GIL) fell 2% q-o-q and 6.8% YTD while loan loss reserves rose 4.8ppt YTD to 153.2%.
Earnings revisions. We raise our earnings forecasts by 12% for FY14F and 8% for FY15F after factoring in higher NIMs and non-II, and lower impairment charges. We will incorporate financials from Wing Hang Bank(WHB) (302 HK, NR) pending detailson its integration and funding plans. Our preliminary estimates point to a potential 10-11% increase in OCBC's FY15F earnings but the dilution impact on EPS, ROE and capital ratios would depend on the financing structure for the c.USD5.0bn acquisition.
Maintain NEUTRAL. We raise our TP to SGD10.75 (from SGD10.30) as we roll forward our base year to FY15F. Assumptions in our Gordon Growth Model (GGM) are 9.3% cost of equity, 11.3% ROAE and 3.5% long-term growth. Our TP pegs OCBC at 1.4x FY14F P/BV (historical mean: 1.5x). Although OCBC's share price has outperformed the market over the past three months, we believe a further re-rating would be capped until there is greater clarity on its integration and funding plans for WHB. We view the sustainability of its trading and MTM gains as the other concern. Maintain NEUTRAL.
Key Highlights From Management Briefing
Banking operation earnings up 2% q-o-q. Excluding Great Eastern Holdings' (GEH) net profit contribution of SGD202m, earnings from banking operations increased 2% q-o-q to SGD720m in 2Q14 and 28% y-o-y to SGD1,428m in 6MFY14. OCBC's banking operations accounted for 78% of group 6MFY14 earnings, with the remaining 12% from GEH.
For 2Q14, total income grew a healthy 5% q-o-q, led mainly by an 8% rise in non-II. However, an 8% q-o-q rise in operating expenses and a 61% q-o-q jump in loan impairment charges moderated the net profit growth to 2% q-o-q.
GEH's profit boosted by MTM gain. The strong 126% surge in GEH's 6MFY14 net profit contribution was supported mainly by MTM gains in its Non-Participating Fund. Favourable interest rate movements and tighter credit spreads were key factors driving MTM gains. As a result, GEH reported a non-operating profit (from insurance business) of SGD106m vs a non-operating loss of SGD117m in 6MFY13. Operating profit from its insurance business was flat at SGD286m during the period.
Adopts onshore-offshore strategy for China.OCBC's exposure to Greater China stood at SGD27.0bn at end-June 2014 (down SGD3.0bn q-o-q or 10%). Approximately SGD3.6bn or 13% of these loans were booked in China, SGD7.0bn (26%) in Hong Kong, SGD1.0bn (4%) in Taiwan and the balance 57% in Singapore and other countries. The high portion of loans booked outside of China reflects OCBC's strategy to focus mainly on offshore clients as it would have better competitive advantages compared to competing for onshore loans with domestic Chinese banks. For onshore clients, OCBC focuses on large corporates and stateowned enterprises (SOEs) ie Chinese companies that have investments offshore, as they offer offshore opportunities.
Growth in trade loans could moderatein the month ahead as the gap between onshore and offshore rates have narrowed to 1.0-1.2% from a peak of 2.8%. Management believes that the gap could compress below 1%, which would reduce the incentive for importers based in China to seek financing offshore. Of its total China exposure, c.SGD8.0bn or 30% are trade related to movement of goods rather than storage or processing of goods. OCBC does not have exposure to Qingdao port and management believes its China portfolio is very healthy. The gross non-performing loans (NPL) ratio for the China portfolio is a low 0.3% vs the overall NPL ratio of 0.7%.
Profits from Greater China accounted for 11% of group 6MFY14 pretax profit while its China portfolio made up 15% of group loans.
Asset quality solid.Non-performing assets (NPAs), which fell 5.7% q-o-q in 1Q14, declined a further 1.2% q-o-q to SGD1,215m in 2Q14 helped mainly by recoveries. Total allowances/NPAs improved to 149% from 134% in Dec 2013. Impairment charges for loans and other assets rose 59% q-o-q to SGD66m in 2Q14 on higher general allowances (+147% q-o-q) and specific allowances (+57% q-o-q). Credit cost remained verymanageable at 18bps annualised. According to management, most of the increase in specific allowances was related to unsecured personal loans in Malaysia and Singapore and one Indonesian account that is being
restructured. Management is not too worried as the increases in Malaysia and Singapore were within expectations while the Indonesian account should be restructured by year-end. Management added that its Singapore housing loans are healthy with no material repayment issues.
NIM expected to dip in 2H14.NIM was stable in 2Q14 on higher NIM for its China trade loans as well as better spreads from corporate loans (except Malaysia). NIM in Malaysia fell a sharp 14bps q-o-q to 2.02% in 2Q14, as banks raised rates to attract deposits ahead of the expected hike in the overnight policy rate (OPR). Recall that Bank Negara Malaysia raised the OPR by 25bps to 3.25% in July.
Nonetheless, competition for deposits is exerting pressure on margins. Management expects NIM to range between 1.64% and 1.70% for FY14F, ie better than FY13 (1.64%) but a little lower than 6MFY14.
Details on integration and funding plans for WHB to be announced soon.Following the close of its general offer on 29 July 2014, OCBC has obtained a 97.5% stake in Wing Hang Bank (302 HK, NR). Management will proceed to privatise the bank. Management will soon host a briefing to update the investment community on its integration and funding plans for the c.USD5.0bn acquisition.
Earnings Revisions And Valuation
Raising earnings projections. We raise our earnings forecasts by 12% for FY14F and 8% for FY15F after factoring in higher NIMs and non-II, and lower impairment charges. We now expect core net profit to grow by 17% in FY14F and 7% in FY15F. The moderate growth in FY15F is based on assumptions of lower net trading income and MTM gains for its life insurance business.
Yet to include WHB's financials.We will incorporate WHB's financials into our forecasts once details on financing plans are made known. Based on our preliminary estimates, WHB could bump up OCBC's net profit by 5-6% in FY14F (assuming 6-month contribution) and 10-11% in FY15F. However, the dilution impact on EPS, ROE capital ratios would depend on the financing structure for the c.USD5.0bn acquisition. TP higher at SGD10.75.We revise our GGM-derived TP higher to SGD10.75 from SGD10.30 as we roll forward our base year to FY15F. We have made the following assumptions in our GGM valuation - ROAE of 11.3%, long-term growth of 3.5% and cost of capital of 9.3%. Our revised TP values the stock at 1.4x FY15F P/BV and 10.9x FY15F P/E, below its historical mean of 1.5x P/BV and 12.7x P/E.
Risks
Factors that could result in OCBC's share price rising above or falling below our TP are: i) sharper-than-expected NIM compression or expansion that would impact revenue growth, ii) sharp volatility in net trading income and MTM gains for its life insurance business, iii) significant deterioration in asset quality, and iv) faster-thanexpected or slower-than-expected progress in its integration with WHB.
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