October 26, 2018/Cordros Report
Update: We resume coverage of ZENITHBANK with a BUY rating, following the bank’s impressive Q3 performance. Our positive outlook for the group’s 2018FY earnings is hinged on (1) lower cost of funds and (2) lower impairment charges. On the flip side, declines across major revenue lines, especially in H1, are expected to weigh on the bank’s FY earnings.
Trimmed deposits to sustain the drop in CoF: Deliberate efforts by management to ensure a low-cost deposit-mix by cutting off expensive deposits during the year is expected to improve the bank’s cost of funds (CoF). Many of the deposits, in 9M-18, were repriced downward. For example, in H1, management had stated during the conference call that interest paid on USD deposits had reduced to the 4-5% range, as against a range of 6-7% previously. Compared to FY-17, expensive fixed and domiciliary deposits were down 24% and 15% respectively in 9M-2018, while focus shifted to growing cheaper savings (+20%) deposits. This resulted in a drop in CoF (-198 bps to 3.26%) in the 9-month period, vs FY-17, while interest expense was down 31% y/y. Management guided towards maintaining the trend going forward, hence our forecast of 2.63% dip in customer deposits by 2018E – contrary to management’s guidance to 5% growth in deposits by FY. Overall, we forecast CoF of 3.44% (-180 bps y/y) and interest expense of NGN156.34 billion (-28% y/y) in 2018E.
Lower impairment provisions: Similar to tier 1 peers, significantly lower impairment charge has been the trend so far this year, supporting growth in the bottom line. With forecast cost of risk of 1% in 2018E (vs. 4.36% in FY-2017) and projected 12% y/y decline in customer loans (as against management’s guidance of 2.5% increase), impairment charge provision is estimated to be 78.6% lower in 2018E than FY-2017 (9M-2018: -70% y/y). Our view of ZENITHBANK’s improved asset quality is supported by the improved servicing of debts by obligors, as well as the concluded sale of 9mobile’s assets – for which 50% provision has been made. In addition, it is worth stating that considering the historically higher provisions made in Q4, as well as expected loan growth in Q4(+2%) – following management’s guidance to explore opportunities in the CBN’s new DCRR directive – we estimate a 46% q/q rise in loan loss provisions.
Weak growth forecast across income lines: We forecast 11% y/y decline in gross earnings for 2018E, driven largely by our estimated 33% y/y decline in non-interest income (NIR). Our projected drop in NIR stems from expected declines in trading income (-55%) and other income (-30%), which are likely to offset the 14% estimated growth in fee and commission income. In line with management’s guidance, trading income is expected to normalize through the rest of the year, and as such, no excessive gain is expected on that line this year. Meanwhile, the significant growth seen across e-product platforms – Zenith mobile (+138%) and USSD (+161%), in particular – in H1 is expected to buoy the growth in fees and commission, even as the bank deepens its retail banking business.
On the other hand, interest income is expected to grow by 1% y/y in 2018E. The 11% y/y and 28% q/q growth in Q3 interest income supports our upbeat view for interest earnings over the rest of Q4. In particular, growth in interest on government securities is expected to buoy growth in the interest income line, offsetting the impact of the 7.65% dip in interest earned on loans (which constitutes 60% of total interest income).
Estimate and valuation: Overall, net impact of the updates to our model is a 12% y/y growth in 2018E EPS to NGN6.32, and a TP of NGN33.99. We roll forward estimates and valuation to 2019E, with BUY rating, on 42% upside and expected total return of 51%, after incorporating our 2018E dividend yield of 9%. On our estimates, ZENITHBANK trades at forward P/E multiple of 5.4x, below Bloomberg’s Middle East Africa peer median multiple of 8.6x.
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