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Pharos Investor Conference: Meeting Minutes – Financials

    Al Ahly Pharos Securities Brokerage
    24 June 2019

    Sector Overview

    This year is perceived to be an extension to 2018 trends, but a bit better with the ongoing macro and sector-specific regulatory reforms, namely the implementation of the IFRS9, and amending the tax law to seclude core banking operations from the withheld tax on investing in government treasuries. 

    We met with 6 banks and 3 financial services companies, where general consensus on rate cuts was to start taking place in 4Q19, a magnitude of 3-4% cut in rates is needed in order to fuel the demand for capex lending that we expect to see in 2020, because no one begins capex at the end of the year. Banks balance sheet structures in 2019 are to be driven by working capital financing, coupled with minimizing the allocation to government treasuries.

    The new tax law is expected to have minimal effect on profits in 2019 since it applies to treasury investments that took place after the law was signed on February 24th, 2019.

    New Banking Act latest draft was mainly discussing governance issues with nothing major affecting the operations of banks. The draft addressed two major points: 1) raising the minimum capital for commercial banks to EGP5.0 billion up from a current EGP500 million, with compliance expected over 3 years and 2) paying a maximum of 1% of net profits towards an industry development fund. Several banks would need capital retention or capital raising with the exception of COMI and QNBA. So we could see a round of bonus shares, rights issue, and potential cuts to dividends payout ratios to beef up the paid in capital. The CBE may give banks up to three years to comply and by that time, all banks under our coverage that fall below the required minimum would have already built an adequate capital base from profit retention, except for CANA.

    Commercial International Bank (COMI FV:71.69, EW)

    • Blended loan growth expected to come in at 15% y/y in 2019 driven by local currency short term working capital facilities, and the bank is on track towards that target, where portfolio expanded by 4.4% q/q in 1Q19. Once interest rates go down significantly, the portfolio would grow at 30% per annum over 3 consecutive years.
    • Bottom line growth target is set at 20%-22% y/y (EGP11.4bn-EGP11.6bn).
    • As a counter strategy to the new tax treatment, the bank resorted to buying long term sovereigns and lock in returns at higher interest rates in 1Q19 before the law was passed so by the time they mature, 2019 will be over.
    • The effective tax rate is expected to rise by 1% at the most in 2019, with the main impact of the new tax law expected to be seen in 2020.
    • COMI's strategy remains to be deposit driven by focusing on getting cheap short term deposits as much as possible then fulfilling the demand for loans and then parking the excess liquidity in treasury. Priorities for the bank is asset quality, profitability then comes market share.
    • Quality of portfolio is good with more than adequate provisioning that is more conservative than IFRS9 and 199% coverage of non-performing loans which means covering 100% of the non-performing loans and covering part of the performing loans.
    • Cost to income ratio is set by the board not to exceed 30%.
    • The bank is considering expansion in East Africa, mainly Kenya, to act as trade finance arm to its existing clients whose operations have been moved to Africa.
    • The bank restructured its balances sheet where there's a 5-6 months gap where deposits mature faster than assets capitalizing on rate cuts and boosting NIMs. It is notable that NIMs could go below 4.6%-4.7%, but the contraction will be compensated by fees and commissions. Local currency NIMs are around 850 bps versus foreign currency NIMs of 200 bps so the bank continues to get rid of underutilized FC deposits that drag down blended NIMs.

    Qatar National Bank (QNBA FV: EGP50.40, OW)

    • QNBA’s strategy in 2019 prioritized profitability over market share, reflecting on 1Q19 results where deposits shrank by 2% q/q and lending remained stagnant with zero growth q/q, whereas margins strengthened. The bank managed to preserve being the biggest private sector lender.
    • The bottom line growth target is 18%-20% y/y, but there’s a possibility of uncertainty coming from the application of the new amended tax law, whose impact cannot be precisely calculated.
    • Management is targeting ROEs north of 25% and cost to income ratio below 25%.
    • SME lending hit 23% of total loan portfolio- above the minimum required by the CBE of 20% by 2019 year-end.
    • Started to follow residual dividends distribution policy in 2017 after it used to retain all profits for expansion purposes.

    Raising the free float of the stock to solve the liquidity issue (only 5% free float and 95% ownership by Qatar National Bank) is not out of the question, but is unlikely to happen amid weak market conditions. The main reason behind the parent bank listing its subsidiaries is to ensure transparency and robust governance by reporting to both the CBE and the FRA.

    Housing and Development Bank (HDBK FV: EGP70.48, OW)

    • The bank targets 25% bottom line growth in 2019 on a standalone basis, 16.7% growth in assets, 26% growth in deposits excluding NUCA’s, and 17% growth in the loan portfolio.
    • HDBK has complete ownership of 185,000 square meters of land and the rest are owned by other separate legal and financial entities.
    • Deposit growth in 1Q19 was purely retail, no NUCA deposits and no auctions took place so far. Deposits grew in 2018 by EGP16 bn driven by retail and corporate deposits (excluding deposits from NUCA). Loans grew by 17% y/y in 2018.
    • The bank halted growth on corporate loans to reach the minimum SME requirement by the CBE which went down to 5-6% up from 14%, because of large corporate loan faster growth.
    • The bank adapted  IFRS9 with no major impact on provisioning.
    • The new tax law was to cause minimal impact on 2019 numbers.
    • City Edge that is 60% owned by NUCA and 40% owned by HDBK, owns New Etapa Residence (77 feddans residential and 15 feddans mixed use). All other projects ranging from New Alamein and Mansoura are owned by NUCA and not by City Edge. City Edge bottom line is huge but misleading because HDBK rarely receives dividends from City Edge since it retains all profits back in the business like any other real estate developer.

    Abu Dhabi Islamic Bank – Egypt (ADIB FV:EGP15.10, OW)

    • ADIB targets 12% bottom line growth in 2019, to record EGP1.0 bn, 20% growth in funding and lending, by focusing on commercial and manufacturing sectors, while maintaining the same structure of 70% corporate sector and 30% retail sector. Unlike the market norm, ADIB had two major tickets for CAPEX lending in 1Q19, and expects it to improve further by 4Q19. Also, the bank’s SME portfolio currently stands at 12.4%, below the CBE requirement of 20%, and thus will ask for a one-year extension.
    • New banking law by CBE requires banks to increase their paid in capital to EGP5.0 bn during the next three years, which encourages management to do the pending capital increase via rights issue which will most likely be in 2020. Increasing capital by EGP3.0 bn and maintaining the same ownership structure (49% for ADIB UAE) without diluting the ownership of minority shareholders. ADIB UAE will use EGP1.5 bn of a total of EGP1.8 billion already injected under capital increase to subscribe in the capital increase and redeem back the excess that is almost EGP300 mn. The remaining shareholders will subscribe to the other EGP1.5 bn. In case there aren’t enough subscriptions, ADIB UAE related parties will provide support. Technically speaking, the fresh capital injected is only EGP1.2 bn (if ADIB UAE withdraws the remaining EGP300 mn, but EGP1.5 bn if not). Also, ADIB UAE has the right to obtain the FX gains which ADIB Egypt realized on its books post floatation from the dollar portion of the subordinated loan (USD143 mn), but ADIB Egypt has already booked sufficient provisions of EGP1.5 bn for it.
    • IFRS9 is more conservative than the internal policy when it comes to calculating NPLs and provisioning, and thus a rise in NPLs and provisioning is likely to happen in the second and third quarter of 2019.
    • Loan demand-driven strategy is in place, where deposit accumulation is going to be based on the demand for loans and a predefined amount will be allocated to treasuries, unlike the previous strategy where the bank collected deposits as much as possible, filling the lending demand and allocating all the excessing in treasuries. This strategy aims to decrease treasury investments in order to lower the new tax law effect.
    • The bank is impatiently waiting and pushing for the introduction of Sukuk (which is Sharia Compliant investment option) to gradually shift all treasury investments to them. Management sees Sukuk as a major driver for the bank's operations where a lot of global funds are waiting for it to invest in Egypt.

    Export Development Bank (EXPA FV:EGP12.00, OW)

    • EXPA has been working on the modification of the law to allow foreign investors to invest in the stock, but it needs to pass by several governmental institutions to get approved. Management expects to get it done by 2021.
    • The bank started a campaign aiming to increase the bank’s market share in the retail sector, as one of their main objectives is to shift from a pure corporate bank to a commercial bank that serves both (corporate and retail) segments.
    • IFRS9 will be applicable starting June 2019 (the beginning of 19/20 fiscal year). S&P has been doing the auditing for the bank for the last year where they have already applied IFRS9 and identified its impact on the bank. The bank has already booked more than the required provisions, and thus we expect to see provision reversal in 1Q19/20.
    • The management stated that they will start focusing on the core banking operations and fulfill the loan demand first, and the excess liquidity will be invested in sovereign debt, thus lowering treasury investments over time. New tax law effect will be minimal in the year ended 18/19, since the regulation has been applicable from February 2019.
    • The bank targets 35% bottom line growth in 18/19 on a consolidated basis, 33% growth in loan portfolio, and 28% growth in deposits.
    • The bank’s factoring company will start delivering returns in FY19/20.
    • Since the governmental services and banking products started to shift towards digital banking, EXPA issued an e-wallet called “Geby” that is now being tested on the bank’s employees, and will be launched as a new product for customers in the 2019/20.
    • The bank is targeting to have 58 branches by 2022.

    Banque du Caire (BdC)

    • The bank was primarily a retail bank but ended 2017 with more than EGP40 bn in corporate loans as a result of the turnaround in management that are all top notch bankers.
    • BdC 1Q19 net profit tripled to EGP1.22 billion from EGP407 million a year ago.
    • BdC has one of the oldest and strongest footprints in Microfinance activity which started in 2001. The bank benefits from a very strong distribution network and lower cost of funding than peers.  
    • LDR ratio recorded 50% up from 35% in the previous year.
    • NPL ratio went down from 5.3% to 3.3% while continue to book high provisions.
    • The portfolio is 55% corporate, 33% retail, 4% Microfinancing, 7% SMEs (based on the bank's definition of SME which is mainly business banking). However, the CBE's 20% SME lending directive will be met this year.
    • Cost to income ratio in 1Q19 recorded 35%, down from 40%in 2018, which is expected to come down further on lower employee cost, since a high percentage of the staff is near the retirement age.
    • The banks has 7,700 employees and 225 branches.

    EFG Hermes (HRHO FV: EGP20.21, OW)

    • The strategy that started in 2016 continues to be the focus, with the company moving from being a MENA player into a frontier house, with continued expansion of the NBFIs businesses adding insurance and payment solutions in 2019.
    • 2Q19 is a good quarter for investment banking, but the growth in AM is very limited since it is challenging to raise funds in Egypt or regionally.
    • Securitization will be an ongoing process for the leasing business with 10-15% of the portfolio. Leasing portfolio NPLs were almost zero, with expected ROE of 30% over the next 3 years.
    • Tanmeyah is expected to be the 1st  largest contributor to fees and commissions after being the 2nd  previously (after brokerage) as a result of weak market sentiment. Tanmeyah has an expected ROE of 30%-40% over the next 3 years.
    • 85% of group opex is due to Tanmeyah's expansion plan and the rollout of branches and the digitization of systems to improve efficiency.

    CI Capital Holding (CICH FV: EGP11.16, OW)

    Corplease (87% owned by CICH, the remaining part is owned by the current CEO and founder)

    • Leasing portfolio reached EGP6 bn by 2018 year-end and the company targets new bookings of EGP3.5-4.0bn of which has achieved EGP1.4 bn in 1Q19 which is the highest recorded in a single quarter in the history of the company.
    • Leased assets portfolio is 30% foreign currency against a 40% paid in capital foreign currency.
    • Corplease is planning to carry out the securitization of EGP1.3-1.5 bn of the portfolio in 2Q or 3Q of this year with an average return of 10%.
    • Corplease retains 100% of profits and doesn’t plan to distribute dividends.
    • Management expects NIM to be maintained at 5.5% or increase on better capital structure.
    • Corplease targets 35% bottom line growth in 2019 with a contribution of 50-55% to group bottom line.
    • Management highlighted that despite the application of the IFRS16 on the lessee’s books that entails recording of the asset on the lessee’s balance sheet and segregating the interest paid and principal payments so that only the interest payment becomes tax deductible, the demand for loans haven’t changed or weakened which reaffirms the market need and continuity for the leasing business.
    • Given its strong capital base, the size of a single ticket may hit EGP300-400 mn versus an average of EGP23 mn for the company.
    • 90% of the contracts are sale and leaseback, which enhances the credit quality for the whole portfolio.

    Microfinance Reefy (80% owned by CICH acquire in Dec-2017, remaining part is owned by the social fund for development)

    • Constitutes 20-25% of group bottom line.
    • Average NIM hovers around 30%, due to low debt to equity ratio less than 3x and the company plans not to exceed the 5x since this is unsecured lending, unlike leasing that is backed by the underlying asset.
    • The company might start paying dividends starting this year.
    • The average monthly ticket size is EGP11k, and is expected to end the year with a portfolio of EGP750-800 mn.
    • The bottom line growth target is 40-50% in 2019 with an RoE of 60-70%, which management see unsustainable on changing the capital structure as a result of an expected payout ratio of 50% going forward.

    IB platform

    • The strategy is to remain Egypt-focused; running on a low cost base.
    • Investment banking received the mandate by the government for Abu Quir and to run the IPO of Enppi; the leading petroleum and engineering player. M&A transactions are around 10.
    • The bottom line growth target is from 10-15% y/y in 2019.


    • Combined group bottom line target is 35-40%.
    • The strategy is to continue expanding in NBFIs. The company started a green field mortgage finance company for individuals, and factoring business which should start operating in 3Q19. One week ago the company also decided to open a consumer finance and insurance company.
    • The company leverage on different connections among business lines, where 40-60% of corp lease clients have been referred from the IB segment.

    El Taaleem acquisition

    • CICH along with a consortium of investors will indirectly acquire 60% of El Taaleem Management Services Company, a leading higher education platform in Egypt, which controls and operates Nahda University in Beni Suef (“NUB”), the biggest university in upper Egypt with 5,500 students among 6 faculties in addition to a new faculty of medicine that is expected to be launched in the near future.
    • CICH expects to cover 15-20% of the total deal financing from their own equity and excess cash of EGP250 mn.
    • CI Capital Investment Banking department will advise on the deal which is expected to close in 3Q19.
    • Upon exit, that is expected in 2-3years time, CI capital investment banking will be the sole and exclusive book runner of El Taleem IPO.
    • Provides strong economics for fee-based businesses.
    • Offers compelling long-term value for equity investors while further diversifying revenues streams.

    Arabia Investments Company (AIH FV: EGP0.97, OW)

    • AIH made strong progress in the turnaround plan that started in 2017 with the entry of new main shareholder and management team, followed by profit booking in 2018 after three years of consecutive losses, mainly due to the cleaning up of legacy issues.
    • AIH will start withdrawing slowly from the automotive business, since it is no longer profitable after losing the Peugeot agency. Also, the company will start focusing and expanding in the NBFIs, as it has a huge potential.
    • The management sees that they have a strong position in the case against Peugeot, even though it is not likely to win the lawsuit.
    • Finding opportunities to drive cross-selling and synergies between the group businesses.