Equity Analysis /
Sri Lanka

Seylan Bank: Low impairments support EPS; SME focus re-emerges

    Kavinda Perera
    Kavinda Perera

    Head of Research

    Asia Securities
    8 May 2019
    Published by

    SEYB’s 1Q CY19 results saw EPS picking up 8.2% YoY, on the back of lower impairments despite a soft top line. NIMs continued to trend down and the recent deposit rate ceiling, as well as SEYB’s renewed focus on SME business should support NIMs through CY19E. Loan growth remained robust (+3.0% QoQ), driven by corporate business and we maintain our CY19E forecast at 17.0%. High NPL continues to be a weakness for SEYB, but early indications of a reduction in cash-flow stress in the construction sector is a positive for recoveries, in our view. With a rights issue (RI) on the cards, we set a 12-month TP for SEYB at LKR 62.50/share (from LKR71.4 previously), suggesting a TSR of +14.7%, and SEYBX at LKR 36.00/share (from LKR 41.4), suggesting a TSR of +10.8%. We maintain our HOLD rating for both classes.

    Low impairment charge compensates soft top line growth

    Bottom line growth of +8.2% YoY (on adjusted 1Q CY18 EPS) was mainly driven by a lower impairment charge of LKR 589mn (-40.0% YoY; -62.0% QoQ) which absorbed the soft top line growth. Credit cost trended down to 68bps from 133bps in 1Q CY18. Given that the asset quality cycle has still not peaked, we expect the credit costs for CY19E at 75bps to be higher than that in 1Q CY19 but show an improvement vs. 103bps in CY18.

    Top line slow down on Corporate mix and import restrictions

    Total operating income grew by 3.1% YoY in 1Q CY19 – at the slowest pace since 1Q CY16 as NII marked a soft 4.7% growth while net fee income showed a 2.9% YoY decline (-12.6% QoQ). The latter was largely due to import restrictions. NIMs continued to narrow (-15.6bps YoY; -4.3bps QoQ) driven mainly by the corporate mix in the portfolio coupled with high deposit rates. With the recent regulations to reduce the deposit rates, we believe NIMs will see some respite in 2Q CY19. In addition, with the shift in focus towards SME business, we expect loan yields to see some improvement in CY19E.

    Loan book driven by Corporate business; SME focus renewed for CY19E

    Loan book expanded by +3.0% QoQ (17.4% YoY) in 1Q CY19, driven mainly by corporates. Management indicated that focus will shift towards SME given the Govt’s push towards increasing credit accessibility to this sector. SME lending has slowed since 2Q CY18, but SEYB’s hub-strategy will help in the ramp up. However, asset quality remains weak, with NPL ratio at 5.96% (-2bps QoQ) on construction and manufacturing exposure. We think that the Govt’s recent action to release due payments to the construction sector would lead to easing the cash-flow stress in the system. While this hasn’t translated to improving credit quality yet, we believe it would lead to better recoveries in 2H CY19.

    We value SEYB at LKR 62.50/share and SEYBX at LKR 36.00. HOLD

    SEYB currently trades at 0.5x CY19E BV while SEYBX trades at 0.3x, with a ROE of 12.5%. We maintain that a rights issue is on the cards in CY19E and expect SEYB to raise ~LKR 5-6bn equity. We believe that valuation will remain under pressure given, 1) SEYB’s asset quality issues and 2) the pending RI. Including our initial RI assumptions, we set our 12-month TP for SEYB at LKR 62.50 (-10.7% to old TP; +9.5% upside; +14.7% TSR) and SEYBX at 0.4x with a TP of LKR 36.00 (-10.0% to old TP; +2.3% upside; +10.8% TSR). HOLD.