Equity Analysis /

United Bank: Revenue growth can offset a high cost of risk

  • We raise our EPS estimates for UBL following sharp earnings beat in 2Q20 results, This leads to a Dec’21 TP of PKR150/sh

  • Economic pressures in GCC may elevate provisions, ongoing de-risking strategy & recovering NFI should help ride the tide

  • Risks are in the price given a projected mid-cycle ROE of 15% which should help rerate the stock, maintain a Buy rating

Yusra Beg
Yusra Beg

Senior Investment Analyst

Intermarket Securities
11 August 2020

We raise our 2020/21f EPS estimates for UBL by 28%/10% following the sharp earnings beat in 2Q20 results. This, coupled with model rollover, leads to a December 2021 TP of PKR150/sh (vs. PKR145/sh previously). UBL’s domestic franchise remains strong and, under the new CEO, should witness greater focus on digital transformation, risk processes and cost efficiency.

NPL recoveries on the domestic book are being overshadowed by large provisions in the overseas business (GCC), with the latter seeing new infection coming through. With Covid-19 still impacting GCC economies, and domestic provisions likely to rise in CY21f (after the 1yr principal deferrals expire), we raise our projected cost of risk to c.230/170bps in CY20/21f, up from c.140/110bps earlier.

UBL’s overseas business may continue to attract investor attention but we feel the bad is in the price. UBL is down 30%CYTD and trades at an attractive CY21f P/B of 0.67x and P/E of 6.18x. A strong CAR (1H20: 20.15%) should support a c.50% sustainable cash payout, once the SBP moratorium on payouts ends. We maintain our Buy stance.

New CEO to leverage strengths of the UBL franchise

Mr. Shazad Dada assumed the role of CEO and President at UBL from 16th July’20, after serving for 6 years (since 2014) as CEO at Standard Chartered Bank Pakistan (SCBPL). In the recently held investor call, Mr. Dada stated he aims to leverage the strength of UBL’s franchise, with focus on digital banking and operational efficiencies in particular. Given the asset quality stress in the GCC markets, continued de-risking will likely remain a priority, with UBL to emerge as a more domestic-focused bank over the medium term.

Strong NII offsets spike in overseas provisioning in 2Q

Consolidated 2QCY20 NPAT of PKR6.1bn (EPS: PKR4.96) is up 18%/24% yoy/qoq, an earnings beat led by a sharp 25%qoq rise in NII as deposits re-priced while asset yields were largely stable. This revenue jump took the C/I down to 40% vs. 57% in Dec’19, and helped offset (i) a sizeable provisioning charge (PKR5.6bn; mainly on the overseas business) and (ii) lower fee with almost all lines disrupted due to Covid-19. Going forward, UBL’s NII should come off in 2H20 as assets re-price, but it should still hold up better than peers. Fee income should also depict a sharp rebound as economic activity picks up. 

GCC business continues to see pain

UBL has reduced its international loan book by 29% yoy to US$756mn. That said, overseas NPLs are up 9% qoq (up 21% since Dec’19) due to economic pressures in the GCC, and downgrading of two large names. This has driven a provisioning charge of PKR5.6bn in 2Q20, which annualizes to a very high cost of risk of c.330bps (last 3yr average: c.90bps). While we do not think that coming quarters will see this level of provisions, a relatively high cost of risk is likely to continue given the GCC business may see new infection; while domestic NPLs may also come through next year as the deferred principal becomes due. As a result, we raise our projected cost of risk to c.230/170bps in CY20/21f, up from c.140/110bps earlier, the highest among our covered banks. 

The bad in the price; reiterate Buy

Downward re-pricing of the asset base is expected to push down on NII in 2H20 but UBL’s fixed rate PIBs (PKR300bn, mostly HTM yielding 9.3%) should moderate the decline. This, coupled with normalizing fee income, should help override high overseas provisioning. We raise our CY20/21f EPS estimates by 28%/10% to PKR16.18 and PKR18.69, while keeping medium-term projections largely intact (CY20-23f EPS CAGR: 19%). Together with model rollover, our December 2021 TP for UBL comes to PKR150/sh (from PKR145/sh for Dec 2020). We maintain our Buy rating, backed by attractive valuations (CY21f P/B: 0.67x, P/E: 6.18x) and a forward dividend yield of c.9%. Risks are in the price given a projected mid-cycle ROE of c.15%, which should help rerate the stock.