Fixed Income Analysis /

Vakifbank: Q1 results highlights

  • A decline in funding costs helped boost Vakifbank's bottom line; the bank-only annualised ROE exceeded 20%

  • LCRs remain high, near-term liquidity should not be a concern; the core capital boost should add 2ppts to CET1 ratio

  • Unsurprisingly, the FY 20 ROE is expected to be lower than in the first quarter

Tolu Alamutu
Tolu Alamutu

Credit Research Analyst, Banks

Tellimer Research
26 May 2020
Published byTellimer Research

Bank-only ROE exceeded 20%:  Like Isbank, Vakifbank (VAKBN) also published Q1 results on 8 May. We have Hold recommendations on Vakifbank’s USD-denominated senior and subordinated bonds. This commentary is largely based on bank-only figures. Net income of over TRY1.7bn more than doubled yoy and was up 34% qoq. Net income also beat consensus expectations. The annualised ROE was almost 21%, much higher than at Vakifbank’s major peers. Very strong net interest income drove the improvement in the bottom line. Confirmation of the sale of certain insurance and pensions operations by Turkish state-owned lenders and of yet another capital injection from the state may be more significant drivers of spreads than the Q1 results. The TRY7bn core capital injection from the Turkey Wealth Fund means that the Turkish Treasury's interest in the bank has increased to 73.4% from 58.5%. The free float has decreased to 16.5%. Increased state involvement may not ordinarily be welcomed in Turkey. However, the capital increase does show that this bank, like Ziraat and Halkbank, still benefits from strong state support. In addition, loan growth at state-owned lenders has outpaced growth reported at major privately-owned banks, as state banks have been more involved in addressing the effect of the pandemic on Turkey's growth. The capital increase, which will add over 2ppts to VAKBN's CET1 ratio, will help offset the impact of strong loan growth on Vakifbank's capital ratios. 

Decline in funding costs drove operating revenue growth: Operating revenue of almost TRY8bn was 66% higher than a year ago. Net interest income more than doubled – it rose to TRY4.9bn from TRY2.3bn, as Vakifbank recorded a 27% drop in interest expenses. As at other major Turkish lenders, rate cuts have had a positive impact on funding costs. Net fee and commission income of just over TRY1bn was 4% higher than in Q1 19 driven by lending-related and insurance fees. However, Vakifbank acknowledges that regulatory headwinds will likely put pressure on fee income in coming quarters. There was a significant increase in other operating income, to TRY2.5bn from TRY1.4bn, as provisions reversals increased due to write-offs (more below). This also contributed to the yoy rise in revenues.

Write-offs included in reported costs: Vakifbank included loan write-offs in costs, which meant that total expenses increased to almost TRY2.8bn from TRY1.6bn a year earlier. Personnel costs also increased, and management disclosed a TRY50mn one-off donation to Turkey’s Covid-19 campaign, which contributed to cost growth. Management noted that there were more branch closures in Q1 20, to improve efficiency. Based on our calculations (with no adjustment for write-offs), the cost/income ratio was just under 35%, slightly higher than in Q1 19, but still a relatively good efficiency ratio.

NPL ratio – lots of moving parts: Vakifbank disclosed that loan restructuring and payment deferrals have been arranged on TRY17.7bn of retail loans and TRY23.5bn of SME, corporate and commercial loans so far as part of the bank’s response to the pandemic. In total, this equates to c12% of gross loans at end-March. Total non-performing loans of just under TRY17.5bn were less than 1% higher than at end-19 and Stage 2 now total TRY29.9bn, down from TRY31.6bn at  end-19. As at other lenders, changes in regulations impacted the amount of Stage 2 and Stage 3 loans reported by the bank. Vakifbank commented that the Stage 3 ratio would be 25bps higher, and the Stage 2 ratio would be 50bps higher in the absence of regulatory changes. However, management also noted that the Stage 2 and Stage 3 ratios would still have been better than at  end-19 , without the changes. Focusing on Stage 3 loans/NPLs, the previously-mentioned regulatory changes, TRY888mn in write-offs and qoq gross loan growth of over 12% together meant that the NPL ratio improved to 5.1% from 5.6% at  end-19 . Write-offs alone took 26bps off the NPL ratio. Despite all this, Vakifbank set aside additional provisions against Stage 2 and Stage 3 loans, and expected credit losses increased to TRY3.1bn from TRY2.5bn a year ago. Overall coverage of Stage 3 loans improved to 93% from 90% during the quarter. Management emphasised that coverage would have been even higher in the absence of write-offs. 

LCRs remain high: The overall and FC LCRs were 127% ( end-19: 130%) and 501% ( end-19: 510%), respectively. These ratios are slightly lower than reported at  end-19, but still well above the required minimums. The bank disclosed US$5bn in ‘free’ liquidity and US$1bn in long-term FX swaps. This compares to cUS$2bn in liabilities due within a year. We note that the next USD-denominated VAKBN eurobond maturity date is in October 2021. Vakifbank’s LC LDR increased to 153% from 141% at the end of last year, as LC-denominated loans rose 14% in the quarter, more than offsetting the 5% rise in LC-denominated deposits. This loan growth was driven by business loans and general purpose consumer loans. The FC LDR was less than 1ppt higher than at  end-19, at 83.4%. Since the end of the quarter, LC deposit growth has been strong, according to management, while FC deposits have remained flat in USD terms. Recent LC deposit growth may have been driven by the introduction of the asset ratio, which has meant that some banks have had to let go of these deposits. Vakifbank has been able to attract deposits at lower rates (the maximum rate paid on 1-month deposits has declined to c.8.5% from 11-12%).

Another capital boost: The Tier 1 and total capital ratios were 12.7% and 14.7%, respectively. Both ratios remain well above minimum requirements, but were down qoq. Strong RWA growth and Vakifbank’s decision to call a US$500mn Tier 2 instrument together took 241bps off the total capital ratio, more than offsetting the impact of internal capital generation (32bps) and regulatory forbearance (64bps). The Tier 1 and total capital ratios would have been 12.1% and 14.1% without forbearance. As discussed earlier, Vakifbank received TRY7bn in core capital from the Turkey Wealth Fund. Ziraat and Halkbank received the same amount of capital. This injection should add about 2ppts to Vakifbank’s CET1 ratio, which was 9.77% at the end of March. This is not the first time that VAKBN has received support from the state through a capital boost in recent years. One other example is the TRY5bn AT1 issue completed in 2018. Having said that, this latest capital injection is worth noting as banks are receiving core capital. This is a credit positive for VAKBN – on the Q1 2020 results conference call, management highlighted that there was only room to boost core capital, rather than AT1/Tier 2 given regulatory restrictions.

FY ROE and ROA to be lower than in Q1: As at other banks, margins are expected to contract as loans reprice. On fees, regulatory changes will likely have a more significant impact in future quarters, as will changes to fees to give more clients access to the bank’s digital offerings during the pandemic (free banking services are being offered). Management expects fee income to be flat yoy, based on these factors. LC loan growth is expected to remain strong. The bank guides to high-teens growth, but this could be even stronger. There has been no change in FC loan growth guidance. On asset quality, Vakifbank previously guided to an NPL ratio of 6.5-7%. This may now be lower due to (a) strong LC loan growth, (b) the change in the definition of NPLs by the BRSA, and (c) payment deferrals offered to clients, which may lead to limited NPL inflows in Q2 and Q3. Higher inflows are expected in Q4 and in 2021. Vakifbank previously guided to a cost of risk of 180-190bps. CoR was higher than this in Q1, but the FY figure may be lower due to regulatory changes and strong loan growth (though management expects collections to be lower, also due to regulatory changes). Having said all this, the bank expects to set aside additional provisions under IFRS, due to a change in underlying macro assumptions. As such, ROE and ROA figures are likely to be weaker than in the first quarter. Since the results disclosures, VAKBN has also announced that it has secured a license to launch operations in Qatar. This development should probably be seen in the context of Turkey and Qatar relations. There are at least three things to note: (1) Qatar extended significant support to Turkey in 2018. The total announced support was cUS$15bn. (2) QNB and Commercial Bank Qatar own lenders in Turkey, and have continued to support these lenders (QNB Finansbank and Alternatifbank). (3) As Vakifbank is state-owned, it makes sense for this to be the first Turkish lender to establish operations in Qatar, given the links between the two countries.