Culled—Proshare

October 25, 2019/TheAnalyst

Nigeria’s agricultural finance powerhouse, Unity Bank Plc, is pulling itself out of a financial ditch with its 9 months 2019 financial statement. The banks top line earning spiked from N26.12bn in 9 months 2018 to N31.26bn in 9months 2019, representing a year on year (Y-o-Y) growth of +20%. The September 2019 gross earnings growth was  -16.26% lower than the 2018 Financial Year end (FY) gross earnings of N37.33bn, suggesting a potential baseline Proshare forecast earning of N44.67bn for FY 2019 (see chart 1 below).

Highlights

• Gross earnings was up +20% Y-o-Y, a major unexpected spike for 9 months 2019
• Net Interest Income climbed +12%, representing a promising improvement over the previous 9 months in 2018
• Fees and Commissions soared +26%, suggesting the sterilization of the income statement from challenges with credit assets over the 9-month period in 2019
• Net trading income was a sore point for the bank as income from trading transactions dipped by -64%
• Profit before tax (PBT) scaled to +150% between 9 months 2018 and 2019 destroying analysts earlier quarterly forecast for the bank and perhaps encouraging a review of FY 2019 forecast of Unity‘s earnings yield and ROaE

• The bank saw its total assets leap up by +18% as deposit liabilities rose by +9%, meaning that the bank’s loan to deposit ratio (LDR) would have risen marginally over the reference period
• Annualized earnings per share went from N7.71 in September 2018 to N19.02 in September 2019 representing a rise of +109%, this should lead to a significant upward adjustment to the bank’s market valuation (recent NSE price N0.63)

Pushing The Earnings Truck Harder

Unity Bank  has had a rough couple of years but it appears that it is turning the corner and rising along Sigmund Freud’s analytical S-curve, where inertia gives way to progress after the right ‘nudge’. The bank’s September 2019 financials indicate a remodeling of its growth from stagnation to evident improvement. The rise in topline earnings of +20% is higher than that of GT Bank which saw its topline earnings fall by -3.17% over the contemporary period and FBNH which had to endure a flat growth of +0.17% in gross earnings between September 2018 and September 2019.  The hard fight to regain earnings momentum by Unit Bank has been impressive, especially in an economy that has seen sluggish growth (1.94% as at Q2 2019).

Chart 1 Unity Bank Gross Earnings Q2 2018-Q3 2019

The Profit Outlier

Unity Bank‘s profit feat in the third quarter of 2019, has naturally drawn analysts attention to the fact that the bank’s +150% rise in profit before tax is a major outlier for the period. Admittedly the bank is coming from a relatively low earnings base, but even at that, a growth from N644m in September 2018 to N1.61bn in September 2019 is no mean feat. Does this mean that the bank is on the mend? This is difficult to say, one pigeon does not make a flock, investors and market operators may wish to determine the longer-term stability of earnings growth over at least two more quarters to establish conviction concerning Unity Bank‘s financial health. In the interim, however, the powerful surge in the bank’s PBT has prompted a closer look at its going concern status with more hope. Pre-tax profit margin for the bank climbed from 2.46% in September 2018 to 5.15% in September 2019, representing an upward margin adjustment of 2.69%.

The improvement in the banks top and bottom line performance is not out of character with overall growth in the course of 2019 as the banks Q2 review was equally strong (see table 1 below):

Table 1 Highlights of Unity Bank’s Financial Performance Q2 2018-Q2 2019

Source: Unity Bank Quarterly Results Q2 2018 and Q2 2019, Proshare Research

Lending and Deposits; The Balancing Act

A critical aspect of the bank’s operation is the balance between lending and deposits. With the Central Bank of Nigeria (CBN) requirement that banks by the end of September 2019 ensure that their lending to deposit ratios were a minimum of 60% (this has since been raised to 65% by December 2019), banks across the board felt the pressure to increase their lending but this was constrained by the composition of their deposits (term, savings and deposits) and their prior investments in Treasury-bills (T-bills).

Unity Bank‘s loan to deposit ratio has been a bit of a challenge and may haunt its performance till the end of the year Q4 2019. The bank’s loan to deposit ratio (LDR) grew from 23.7% in Q1 2019 to 29.15% in Q2 2019 and 34.95% in Q3 2019. The rise in LDR has been in the right direction but the size of the movement would likely subject the bank to heavy CBN sanctions, unless it breaks its T-bill investments and works its way through creating low-risk but profitable credit assets. The bank will have to sweat its balance sheet to produce a fiscal outcome that would improve lending despite a growth in deposits in such a way as to ensure an LDR of 65%. One other option would be to raise fresh equity by way of a convertible debt structure in the bank’s statement of financial position with the new funds going into lending without increasing the size of the bank’s deposits. Of course, this would lower ROaE in the near future but it would also allow for increase in immediate profitability while the bank works out details of improving savings and term deposits, which tend to be more stable than demand deposit accounts. The bank will need to quickly ramp up lending on its slowly growing deposit base (see charts 2 and 3 below).

Chart 2 Unity Bank Loan To Deposit Ratio (LDR) Q2 2018-Q3 2019

Chart 3 Unity Bank Customer Loans and Deposits Q2 2018-Q3 2019

IFRS 9 and the Little Big Matter of Shareholder Equity

The bank like other deposit money institutions (DMBs) made good of its day one International Financial Reporting Standard (IFRS) 9 provision, this allowed the bank achieve write backs in its 2018 FY report. The tide will, however, change in 2019 as the impairment charges will be fully reflected in provisions for current delinquent loan assets, which in turn will worsen the banks already steep negative shareholder equity which stands slightly below N250bn. 

Chart 4 Unity Bank Shareholders Fund Q2 2018-Q3 2019

Source: Unity Bank Q2018 -Q3 2019 Financial Statements, Proshare Research

Capping The Outlook

Unity Bank‘s management is clearly working hard to improve its operating performance, but its major problem is its ability to come to terms with its shareholders fund. The large negative shareholders fund is a significant drag on the banks capacity to grow its business, even though liquidity is not a problem, the weak equity position could cap the bank’s ability to expand. Raising cheaper finance abroad, and entering strategic partnerships with foreign financial institutions will become increasingly difficult without a more convincing equity structure. Negative returns on equity (ROaE) in the face of strong growth in earnings is a big bull in a small China shop. Strength in financial services need to be seen as well as perceived.    

With strategic corporate action taken on shareholder funds, good can easily become better for Unity Bank Plc, Nigeria’s top green economy financier.