CIMB Group Holdings Bhd
(Jan 22, RM5.65)
Downgrade to market perform with a target price (TP ) of RM6.27: Post-meeting with the management yesterday, we downgrade CIMB Group to “market perform” while  maintaining its TP at RM6.27 given brewing operational headwinds and a steep run-up in share price.

Key takeaways from the meeting were that: (i) management is opting to clean up its books in the fourth quarter of financial year 2014 (4QFY14); (ii) the fall in oil prices is not a concern; (iii) net interest margin (NIM) compression is likely to accelerate; (iv) this year is poised to be another slow year for capital markets, and (v) CIMB is looking to tighten its belt this year.

Management reiterated that CIMB’s 4QFY14 results are going to be lacklustre. 

Recall, earlier guidance suggests that there will be a higher loan loss provisioning for its coal and coal-related loan portfolio in Indonesia. With this, it has opted to clean up its books as well. As a result, CIMB’s loan loss coverage ratio is expected to return to the 80% region from 74% in 3QFY14. 

Hence, 1QFY15 numbers should improve on the back of this exercise but still look weak overall.

Management is more pessimistic on loan growth rather than asset quality. Sensitivity analysis suggests no significant issues on its loan book when oil prices hit US$50 (RM541) per barrel (oil and gas segment makes up 3.5% of its total loan book).

The spread between the overnight policy rate compared to the three-month Kuala Lumpur interbank offered rate has widened (60 basis points [bps] compared with 50 bps back in October 2014). 

As a result, cost of funds (CoF) is on the rise and there is a lag between its asset and liability repricing, where the latter is quicker than the former.

Capital markets are expected to be slow. Hence, CIMB’s investment banking unit is likely to see another lethargic year in 2015. To help ease pressure on bottom line, management is looking at various cost savings initiatives this year.

More information on this will be unveiled in the next couple of weeks when CIMB announces its 4QFY14 results (slated to be on Feb 17).

Headline earnings of 988 million baht (RM109.157 million) a decline of 34% year on year (y-o-y) were below expectations, making up only 83% of the street’s full-year forecast. 

However, if we strip off the one-time shared gains from Thai Asset Management Corp last year, then its net profit would have jumped 154% y-o-y. 

Other key takeaways are: NIM expanded 26 bps y-o-y as CoF was better managed, net loans and deposits rose 11% and 21% y-o-y respectively, and asset quality dipped as gross impaired loan ratio ticked up to 3.3% (an increase of 80 bps y-o-y).

We make no change to our forecasts. The key risks are steeper margin squeeze, slower-than-expected loan growth, further deterioration in asset quality, worse than expected slowdown in capital market activities, unfavourable regulatory changes, and adverse currency fluctuations.

Given the bleak outlook coupled with steep run-up in share price (an increase of 13%) since the merger among CIMB, RHB Capital Bhd and Malaysia Building Society Bhd was called off, we downgrade CIMB to “market perform” from “outperform”, while maintaining our TP at RM6.27. 

This is based on 1.35 times FY15 price-to-book ratio, derived from the Gordon Growth Model (cost of equity of 9.3%, FY15 return on equity of 11.5% and target growth of 3%). — Kenanga Investment Bank Bhd, Jan 22

This article first appeared in The Edge Financial Daily, on January 23, 2015.