Earnings Report /

Kenya Commercial Bank: Q2 20 EPS declines by 82% yoy on lower provisions and unusual tax charge

  • Tax charge surges to 66% likely related to some loan loss provisions being charged

  • 18% of net loans restructured with cost of risk expected to remain elevated on weaker asset quality and asset prices

  • Reiterate Buy on expected ROE recovery in 2023 on lower cost/income, stable margins and lower cost of risk

Faith Mwangi
Faith Mwangi

Equity Research Analyst, Financials (East Africa)

Tellimer Research
13 August 2020
Published byTellimer Research

KCB released Q2 20 results with EPS declining by 82% yoy to KES0.41. On a H1 20 basis, EPS declined by 43% yoy to KES2.36. Although we had expected a decrease in earnings, this was by far a larger decline, which is disappointing. Earnings were weighed down by a 335% yoy jump in loan loss provisions on weaker asset quality (NPL ratio increased to 13.7% from 7.8% in Q2 19) and continued poor outlook on the economy. Kenyan banks have so far restructured 29% of loans as more customers face difficulties repaying loans. KCB Group incurred an unexpected tax charge of 66% in Q2 20 compared to 30% in Q1 20. We believe this was tied to taxes levied on provisions and does not represent a new level of taxation. On the positive side, strong balance sheet growth (loans grew by 16% yoy and deposits grew by 35% yoy) supported the 26% yoy growth in net interest income despite a decline in net interest margin to 7.9% from 8.1% in Q2 19.

KCB Group is trading at a current PB of 0.7x against Q2 20 ROE of 3.9% and H1 20 ROE of 11.6%. We reiterate our Buy recommendation. The risk to earnings that we expect is an elevated cost of risk in H2 20 and H2 21, but we believe this will ease thereafter as the economy recovers. In 2021, we expect fees and commission to make a strong recovery supported by increased volume of transactions. In our view, the central bank is likely to maintain the higher transaction limits, but will allow for fees to be charged in 2021. KCB still maintains strong market share in both loans and deposits, which we expect to support balance sheet growth in 2021 with low cost of funds set to support net interest margin stability. On operating expenses, besides the integration of the National Bank of Kenya (expected to be completed in 2021), we expect modest cost growth that will see cost/income ratio trending lower from 2022 onwards. We believe these factors will support ROE recovery at least in 2023.

Key positives:

  1. Regional PBT increased by 22% yoy. Notably, the Uganda unit turned a profit in Q2 20. In Q2 19, the Uganda unit had experienced significant increase in cost of risk following a loss in one major facility, which management expected to have recovered by FY 19 with the government's support. There were also management changes in the Uganda unit following the poor performance of the previous team.

  2. Mobile transaction volumes more than doubled (+108.7% qoq). We noted that the increased transaction limits had favoured banks in the mobile wallet transaction space as larger transactions recorded the highest growth following increased upper limits on digital transactions. We expect these new level volumes to support fees and commission income in 2021 when we expect the central bank to lift the transaction fees waiver, which it had earlier extended to December 2020.

  3. Strong balance sheet growth. Loans grew by 16% yoy driven by an increased uptake of corporate loans. Deposits grew by 35% yoy with the bank reducing exposure to term deposits and maintaining stable cost of funds.

Key negatives:

  1. NPL ratio increased to 13.1% and loan loss provision charge jumped by 335% yoy. Notable weakness in corporate and mortgage loans, which was expected. NPL coverage is at 61.7% in Q2 20. We expect high cost of risk levels to be maintained on account of lower asset prices — which has made recovery on collateral difficult — and continued weakening of asset quality. So far, KCB has restructured about 18% of its net loans with most of these in the corporate segment.

  2. Operating expenses jumped by 18% yoy. We believe this was related to one of the regional units or one-off group level expenses. KCB Kenya recorded a 7% yoy decline in operating expenses while NBK Kenya's operating expenses remained flat.  

  3. Non- interest revenue declined by 15% yoy. Fees and commission income was down 18% yoy following the waiver on mobile banking transactions.

  4. Tax charge of 66% was higher than the expected 30%. The KRA has been inconsistently taxing some loan loss provisions charges for banks over the past three years, which we believe is what the high tax charge is related to.