This article first appeared in The Edge Financial Daily on February 28, 2020

Hong Leong Bank Bhd
(Feb 27, RM15.46)
Maintain outperform with a lower target price (TP) of RM16.45: For its first half of financial year ending June 30, 2020 (1HFY20) core net profit (CNP) of RM1.39 billion is in line, accounting for both our and market estimates at 52/51%. An interim dividend per share of 16 sen (1HFY19: 16 sen) was declared (in line).

Year-on-year (y-o-y), CNP of RM1.39 billion was flattish due to impairment allowances of RM12.1 million (versus 1HFY19: recoveries/write-backs of RM38.7 million). Top line rebounded by 3% on account of better net interest income (NII) and Islamic banking income at 2% and 18%, respectively. Non-interest income fell 5% dragged by lower contribution from foreign exchange (57% to RM33 million) and the absence of one-off divestment gain (1HFY19: RM90 million). NII and Islamic banking income were bolstered by stronger loans (+7%) and net interest margin (NIM) (+12 basis points [bps]) on account of repricing of deposits. Its 18%-associate Bank of Chengdu Co Ltd (BoCD) continued to be resilient, contributing 18% of profit before tax (y-o-y, BoCD’s FY19 profit after tax growth registered at 19% with assets growth at 13%). Asset quality continued to be healthy at 0.84% with credit charge at 0.02%.

The management revised its guidance for FY20 with loans at 6-6.5% (from 5-6%) and return on equity at 10-10.5% (from 10.5-11%) as fee-based contribution is expected to be lower. Loans are expected to be driven by retail given the accommodative interest rates with NIM expected to be manageable (January 2020 overnight policy rate cut, shaving 2-3bps from NIM). Its loan exposure to China-related business is at RM2 billion and management guided for a minimal impact with BoCD yet to show significant downturn.

We resists in making changes to our FY20/FY21 estimated earnings of RM2.7 billion/RM2.8 billion as we feel our unchanged assumptions are conservative enough: i) loan growth at 5.6%/6%; ii) cost-to-income ratio at 43% for both financial years (FYs); iii) NIM down 4bps/3bps; iv) credit charge at 9%/13bps; and v) BoCD growth of about 7% for both FYs.

We reduced our TP to RM16.45 (from RM18.90) based on a FY21 price-to-book value of 1.16 times (from 1.33 times previously) implying a one standard deviation below mean. We feel this is justified given our concerns about a much slower contribution from BoCD on account of the current pandemic. We, however, maintain “outperform” as its valuations are still undemanding. Key risks to our forecasts are: i) steeper margin squeeze; ii) slower-than-expected loan growth; iii) worse-than-expected deterioration in asset quality; and iv) weaker-than-expected contribution from BoCD. — Kenanga Research, Feb 27