Halkbank (HALKB.IS): Upgrading to Buy/High Risk
Upgrading to Buy/High Risk We update our earnings model to reflect recent trends, including a slower pace of NPL…
Upgrading to Buy/High Risk
We update our earnings model to reflect recent trends, including a slower pace of NPL formation than expected, which has led us to cut our risk cost forecasts. Thus despite cutting our operating profit before provision forecasts by 18% this year and 13% in 2020 (driven by NIM pressure and rising costs) lower provisions drive a 132% increase in our 2019 profit forecast (from a very low base) while our 2020 forecasts decline 7%. The earnings revisions and a rolling forward of the basis of our valuation to 2021 leads us to increase our target price to TL 8.80 from TL 8.55 previously. We upgrade the stock to Buy/High Risk on valuation.
US fine risk
We note our valuation doesn’t directly incorporate the risk that the bank is fined by the United States for its activities in Iran but we have increased our cost of equity to 24.5% from 23% to partially reflect this risk but also to reflect the greater risk associated with rapid loan growth during the recent economic downturn.
Macro risks remain
Turkey’s rapid external adjustment is encouraging: The current account deficit fell to US$3.3bn in the four months to April 2019 or significantly lower than the US$21.8bn in the same period last year and CPI came down to 15.7% in June 2019 from a peak of 25.2% in October last year. The adjustment is expected to be bolstered by a more dovish stance in developed markets. We see Halkbank as more positively levered to lower TL interest rates given its balance sheet focus on TL assets/liabilities.
Citi economists think that the adjustment could be bumpy given the economy’s large financing needs amid declining reserves. Moreover they note that the cost of the adjustment has been manageable thanks to an expansionary fiscal stance and other stimulus measures which they think will be difficult to sustain given BOP constraints and the need for corporate de-levering.
Halkbank historically commanded one of the highest ROEs/ROAs among peer banks, driven by higher NIMs through a higher-yielding SME loan book and a low cost base. But ROE has deteriorated significantly over the last two years from NIM pressure on its key business area of SME banking and higher deposit cost as well as higher provisioning given the economic slowdown. The bank’s TL heavy balance sheet also made it more exposed to rising TL funding cost but this could become an advantage if the CBRT is able to cut rates. While there remains a risk that the US penalises the bank in relation to its activities related to Iran we think this has largely been discounted in the shares. Given the bank’s deep valuation discount we rate the stock Buy/High Risk.
We value the bank using a warranted equity valuation approach under the assumption that our 2021 consolidated ROE forecast of 14.3% is sustainable, a 24.5% cost of equity (increased from 23% to better reflect the risk that the US fines the bank for its activities related to Iran and continued government influence on its lending practices) and an 8% growth rate, implying that the bank is worth 0.38x 2020E consolidated book value. Discounting this implied value to one year from today, along with the discounted value of dividends, we arrive at our target price of TL 8.90.
Excerpts from Citi Equities Research report