This article first appeared in The Edge Financial Daily, on April 19, 2016.

RHB Capital Bhd
(April 18, RM6.19)
Upgrade to buy with a fair value (FV) of RM6: RHB Capital Bhd (RHBCap) completed its proposed internal reorganisation last Thursday. This will subsequently be followed by a share distribution exercise of 1.3 RHB Bank Bhd shares for every one RHBCap share held, the voluntary winding-up of RHBCap, and transfer of the listing status to RHB Bank (end-July 2016).

Our pro forma financial year 2016 (FY16) FV for RHB Bank is RM6, implying upside potential of 24% (arbitrage opportunities) to RHBCap’s share price based on the share swap ratio.

RHBCap’s internal reorganisation exercise entailed the transfer of RHBCap’s entire equity interests in, and certain assets and liabilities of its subsidiaries to RHB Bank for a total cash consideration of RM3.61 billion.

Subsequently, this will be followed by a share distribution exercise of RHB Bank shares (including 447.84 million new shares to be issued at a price of RM5.56 per RHB Bank share) to the existing shareholders of RHBCap.

All conditions precedent to the corporate exercise have been fulfilled, except for the waived tax recoverable portion.

Based on the management’s guidance at a conference call, the issue price of RM5.56 for the new RHB Bank shares effectively values the new entity at a 1.12 times price-to-book value (P/BV) as at December 2015 (that is the BV of equity per share [BVPS] at RM4.96).

Other key takeaways include RM2.5 billion goodwill at RHBCap to be written off (while RM2.5 billion goodwill will still be maintained at RHB Bank), interest savings of RM135 million per annum, a return on equity (ROE) of 7.5% and a RHB Bank Group (fully-loaded) common equity tier 1 ratio of 12.5%, post-reorganisation at RHB Bank.

After the corporate exercise, our current target price of RHBCap, at RM5.54 (based on 0.68 times P/BV on 2016 BVPS of RM8.10) is irrelevant.

Our estimate of RHB Bank’s pro forma FY16 fair value is RM6 (based on a 1.15 times P/BV multiple estimate from the Gordon growth model, with a FY16 ROE of 10.8%) as we take into account the interest savings of RM135 million on FY16’s net profit.

This implies that RHBCap shares are worth RM7.80 (based on the share swap ratio of 1.3 RHB Bank-for-one RHBCap), with a potential upside of 24%, offering a good entry point into the reorganised RHB Group. Upgrade to “buy” from “hold”.

Key risks to our call would be a further increase in impairment allowances, lower loan growth, further deterioration in net interest margins, higher staff costs as a result of rehiring and replacements subsequent to the staff mutual separation scheme exercise. — Affin Hwang Capital, April 18