United Bank: Resurrection

  • We raise our EPS estimates following strong earnings beat in 1QCY21 and a significantly improved asset quality outlook
  • Asset quality in the Middle East appears to have turned the corner, reporting noticeable drop in overseas NPLs
  • CY21f P/B of 0.8x and P/E of 6.1x are attractive, as is the 10%+ D/Y. Reiterate Buy with a Dec’21 TP of PKR160/sh

We raise our CY21/22f EPS estimates by 12/4% following the strong earnings beat in 1QCY21 (EPS: PKR6.21), with the revision driven by an improved asset quality outlook. However, medium-term estimates and ROE stay largely unchanged. Our Dec’21 TP remains PKR160/sh.

Asset quality in the Middle East appears to have turned the corner, with overseas NPLs reducing and economic outlook improving. Domestic asset quality continues to display strength. UBL’s cost of risk is expected to come down to 60bps in the medium-term, down from 105bps in the last 5 years.     

Improving asset quality should drive a c20% EPS CAGR across the next 3 years, with ROE rising from 11% in CY20 to c15% next year. CY21f P/B of 0.8x and P/E of 6.1x are attractive, as is the 10%+ D/Y. Our TP can lift on better than expected cost efficiency and cash payouts, both of which have room for positive surprises.

Strong earnings beat in 1Q on sharply lower provisions

UBL posted consolidated 1QCY21 NPAT of PKR7.6bn (EPS: PKR6.21), up 56%yoy and 44%qoq. Record-high quarterly earnings were accompanied by a higher than expected dividend of PKR4.0/sh. Strong core performance was a function of (i) sharply lower loan provisioning at PKR425mn – levels not seen since mid-CY17, (ii) flat NII vs. expected sequential contraction, and (iii) sizeable realization of capital gains (PKR1.9bn) – excluding which this would still have been an earnings beat.

Estimates raised on robust earnings outlook, TP maintained

We have raised our CY21-25f earnings estimates for UBL by 5% on average due to a seemingly sustainable improvement in Middle East asset quality and continued good cost control (sub-5%YoY admin expense growth). Our CY21/22f EPS estimates are now PKR21.30/24.78, up 12/4% vs. previous estimates. We are encouraged by signs that UBL’s asset quality has turned the corner – both overseas and domestic NPLs are coming down, while overall coverage is 94%.  We therefore lower our cost of risk to 85/40bps in CY21/22f vs. 180/100bps previously. Over the medium-term, our cost of risk converges to 60bps, down from 65-70bps earlier. However, as mid-cycle ROE remains at 16.0%, so too does our Dec’21 TP at PKR160/sh.

GCC business has turned the corner

Overseas asset quality has been deeply problematic in the last few years, but it seems UBL is past the worst and the outlook is promising. Overseas NPLs peaked in 2QCY20 and have fallen in USD terms for each of the last three quarters. Overseas specific and total coverage stands at 85% and 97%, respectively, and an improved economic outlook for the GCC should prevent major NPL formation, if any. At the same time, domestic asset quality remains resilient – domestic NPLs have been flat for several years, unaffected by Covid-19, and coverage is now nearly 90%. A conservatively structured domestic loan book gives added comfort on asset quality outlook. Improving asset quality outlook should encourage the bank to grow its loan book again, after two years of declines (-8%YoY in CY19 and -12%YoY in CY20; with ADR driven down to 35%). We see loan growth at 8%YoY in CY21f followed by a 11-12%YoY growth rate going forward. Although we do not build it in our financial model, a more aggressive bent on consumer financing cannot be ruled out. UBL’s consumer portfolio is now much smaller compared to the mid-2000s when it was as high as 15% of the loan book.

Greater focus on digital spend and cost control

UBL’s admin expenses grew by a modest 5%yoy in 1QCY21, helping to limit C/I to 47%. This is despite continued digital spend (IT expenses up 13%YoY). Importantly, the branch network has begun to come down, reducing from 1,377 in June 2020 to 1,361 in March 2021. This is a small change, easily missed, but it is pertinent in the context of the new CEO Mr. Shazad Dada's previous stint at Standard Chartered Pakistan (SCPBL). Between 2014 and 2019, under Mr. Dada, SCBPL’s branches reduced from 116 to 61 with C/I coming down to 30% from 45%. We do not build this level of cost efficiency for UBL, nor do we see its branch network falling this drastically, but we believe cost control will remain a key focus area. Accordingly, there is room for positive surprises on our assumed sustainable C/I of c 45%.

Stronger CAR reflecting in an improved payout

UBL’s CAR is now comfortably above 20%. It took advantage of this to announce a DPS of PKR4.0/sh along with the 1QCY21 result (payout ratio: 64%), higher than our estimated PKR3.0/sh. UBL is attractive on this metric, with its D/Y standing at 10%+. As with C/I, we note there is room for positive surprises on the cash payout with our sustainable payout ratio standing at c 50%, down from 60% in CY21f and the previous 5 year average of 70%.            

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