Chapel Hill Denham upgrades FBN Holdings shares rating to ‘buy’

FBN Holdings plc recently published its FY-13 and Q1-14 results. The Q1-14 results showed a 13.3 percent year-on-year (yoy) decline in EPS, versus our FY-14E growth expectation of 24.7 percent yoy.

Following discussions with management, we revise our 12-month target price (TP) down to N19.57 from N21.25, but upgrade our rating to a BUY.

Review of earnings forecasts: Regulatory changes to banks’ non-interest income, such as the phasing out of COT and the cancellation of ATM charges, have had a bigger-than-expected effect on FBNH’s non-interest income.

As a result, we cut our operating income growth expectation in FY-14E and FY-15E to 12.7 percent yoy and 12.1 percent yoy, respectively, from 26.5 percent yoy and 15.1% percent yoy previously.

In spite of a moderation in our cost of risk expectation for the period between FY-14E and FY-16E to an average of 0.7 percent from 0.9 percent previously, our three-year forward average ROAE has fallen to 18.5 percent from 19.9 percent previously.

Loan-to-deposit ratio to rise in the short-term. We expect loans to grow by 14.7 percent yoy in FY-14E, crossing the N2 trillion mark to N2.05 trillion, driven by the oil and gas, manufacturing and communication sectors. On the deposit side, we expect FBNH to focus on deposit optimisation in FY-14E, in view of the recent regulatory changes. As such, we expect deposits to grow at a slower pace of 6.1 percent yoy in FY-14E. Deposit mobilisation is yet to gain traction in FY-14E, with deposits down 2.5 percent in Q1-14 from the FY-13 level.

Consequently, we expect the loan to deposit ratio to rise to 66.1 percent in FY-14E from 61.9 percent in FY-13E. The sluggish non-interest income line is, however, a short-term concern. To this end, we would like to see the investment banking business contribute more to non-interest income in FY-14E to support the non-interest income line, particularly given the potential deals in the power and oil and gas sectors.

Better asset quality to curb cost of risk, which remains the key risk to our valuation. We think FBNH’s cost of risk will moderate to a conservative level of 0.7 percent in FY-14E from 1.1 percent in FY-13. This is in view of the expected write back of some of the provisions made in FY-13.

The provision on a liquidated gold mine business is part of provisions likely to be written back. Despite our caution, higher-than-expected cost of risk remains the major risk to our valuation. Our sensitivity analysis shows that an FY-14E CoR of 1.1 percent, the same level reported in FY-13, implies an EPS of N2.52 in FY-14E vs. our forecast of N2.75.

Cheap deposit base to underpin NIM. We expect FBNH’s cost of funds to average 3.5 percent over FY14E to FY-16E, cheaper than our coverage average of 4.3 percent in the period. Yield on risk assets could be constrained by the quest for good quality. Overall, we expect NIM to rise to 6.7 percent in FY-14E and average 6.8 percent over FY-14E to FY-16E from the 6.4 percent achieved in FY-13.

We upgrade our rating on FBNH shares to a BUY, following the price moderation seen in Q1-14. The sell-off of FBNH’s shares, particularly in Q1-14, was overdone, in our view, thereby presenting a BUY opportunity.

FBNH has under-performed the market with a YTD return of -6.8 percent vs. the NSE ASI return of +0.6 percent. We see an upside potential of c.29% from current price levels. FBNH is trading on an FY-14E P/E and P/B of 5.5x and 1.0x, a discount to the tier I banking coverage average of 6.5x and 1.3x, respectively.