Reducing forecasts to reflect the new reality. We lower our 2020f net profit forecast by 41%, and now expect a 35% earnings decline this year. The key driver of this change is higher risk costs, but we also lower our volume and margin expectations.
We cut our target price to OMR0.40. We now price the shares off an 8.9% normalised ROE (versus 10.0% previously) and consequently lower our target price (from a bonus-share adjusted OMR0.52 previously). On our new numbers, the shares are currently trading at 8.2x 2020f PE, 0.5x PB.
We retain our Buy rating on valuation, but note there are sizeable top-down risks. The IMF is forecasting -2.8% real GDP for Oman this year, with a recovery to 3.0% growth in 2021. In the context of likely increased budget spending (to soften the economic consequences of social distancing) and weaker government revenues (principally due to lower oil prices, but also decreased domestic economic activity) we believe there is a risk of renewed pressure on the OMR and/ or capital flight; the current account deficit is forecast at 14.2% of GDP this year. This environment represents a significant challenge for the new ruler, Sultan Haitham bin Tariq bin Taimur Al Said.
Bank Muscat enjoys significant scale and funding advantages versus local peers: 1) it has the largest branch network and domestic market share stands at roughly 35%; 2) the Royal Diwan is a key shareholder; and 3) the bank has historically been able to successfully tap US$ funding markets. These factors will be helpful in the coming months.
Near-term risk is skewed to the downside. Considering the resilience of the business during the last episode of oil price weakness, we forecast a measured rise in NPLs, to 4.6% of loans at end-20 (from 3.3% at end-19). However, this could prove optimistic. At end-19, Bank Muscat had OMR1.9bn Stage 2 loans. Of these, OMR0.8bn were rated as satisfactory credit risks (the remainder being standard or high grade). If half of these were to become delinquent, this would lift the NPLs ratio by 4.4 ppts.
Upside risks require a rapid return to normality. The IMF’s projections are based on a V-shaped recovery for the global economy, meaning economies can quickly restart idled capacity and restrictions to control follow-on infection waves are not required. In this scenario, our key valuation assumptions (such as 8.9% mid-cycle ROE and 14% cost of equity) could prove conservative.