United Bank Limited – BUY stance maintained with PT at PKR70/share!

Bottom line to grow by a CAGR of 20% over CY10-12E, PT revised to PKR70/share: Post conference call, we have tweaked our earnings estimates and PT for UBL. Our CY10E EPS now stands at PKR8.95, down 1% from our earlier estimates. Nevertheless, given strong earnings CAGR of 20% post CY10 we have revised our June-2011 PT to PKR70/share. At last closing the scrip gives upside potential of 20% to our revised PT and is trading at CY11E P/E of 5.4x. BUY!

Controlled cost of funds to drive top-line growth: Shedding costly funds has helped UBL in terms of accelerated decline in interest expense compared to interest income and hence growth in net interest income (+5% YoY in 9MCY10). We opine the bank will strive to maintain its CASA at around 69% in future, resulting in controlled interest expense and hence positive top-line.

Provisions against NPLs to cool off post CY10: UBL witnessed further accretion of PKR4.7bn in NPLs during 3QCY10 alone (mainly from three textile sector clients), resulting in 9% QoQ rise in total provisions. The management has stated it to be a subjective classification and reversals are expected going forward. We also believe that quantum of NPLs increase will decline in coming months, given bank’s reduced lending activities, thus causing shrinkage in provisions.

Non-funded income to witness CAGR of 2% over CY10-12E: Non-interest income, though down 12% YoY during 9MCY10 due to absence of derivatives income, is expected to witness a CAGR of 2% over CY10-CY12E. Intermediation costs, on the other hand, are likely to remain in the vicinity of 25% over the same period.

Key risks to our recommendation: Key risks to our recommendation include 1) more than estimated deterioration in asset quality, leading to high provisions 2) decline in CASA share, causing surge in cost of funds 3) Any major hiccup in international operations.

Investments’ share in total assets rising

UBL’s lending operations are contracting (down 5% YoY during 9MCY10), as consolidation prevails. On the flip side, interest bearing investments rose by 20% YoY during the same period, which caused overall share of investments in total assets to 33% in 9MCY10 compared

to 28% a year ago. We expect the trend to continue in near term, with gradual and cautious uptick in lending. As per our estimates interest income of the bank is expected to witness a CAGR of 8% over next two years, given sustained growth in interest earning assets along with stabilized interest rates going forward.

Controlled cost of funds to drive top-line growth

UBL has continued to focus to shed its costly funds since CY08, with CASA’s share rising to 68% till Sept 2010, compared to 59% in CY08. In CY10 alone, the strategy helped UBL in terms of accelerated decline in interest expense compared to interest income and hence growth in net interest income (+5% YoY in 9MCY10). We opine the bank will strive to maintain its CASA at around 69% in future, hence controlling interest expense.

Provisions against NPLs to cool off post CY10

Hefty exposure toward consumer financing and subsequent hit from international operations more than doubled UBL’s NPLs during CY05-09. The rise continued unabated in CY10, with total NPLs standing at PKR46.3bn and Gross Infection Ratio at 12.6% during 9MCY10. UBL witnessed additional accretion of PKR4.7bn in NPLs during 3QCY10 alone (mainly from three textile sector clients), resulting in 9% QoQ rise in total provisions. Nevertheless, the management has stated it to be subject classification and reversals are expected going forward. We also believe that quantum of NPLs increase will decline going forward given bank’s reduced lending activities and would result in shrinkage in provisions.

Non-funded income to witness CAGR of 2% over CY10-12E

Non-interest income, with average share of 17% during past five years, was down 12% YoY during 9MCY10, due to absence of derivatives income. Nevertheless, it is expected to witness a CAGR of 2% over CY10-12E, further supporting profitability of the bank. Rising share of commission on remittances and trade volumes is expected to bode well for non-funded income growth. Intermediation costs, on the other hand, are likely to remain in the vicinity of 25% over the same period (peaked at 49% in CY04 with gradual decline onwards) as the bank has successfully managed to control its operating costs over time.

Bottom line to grow by a CAGR of 20% over CY10-12E, PT revised to PKR70/share

With tweaking in our earnings estimates, UBL’s CY10E EPS now stands at PKR8.95. Nevertheless, given strong earnings CAGR of 20% post CY10 we have revised our June 2011 PT to PKR70/share. Key risks to our recommendation include 1) more than estimated rise in NPLs, leading to high provisions 2) decline in CASA share, causing surge in cost of funds 3) Any major hiccup in international operations. At recent closing, the scrip gives an upside potential of 20% to our revised PT and is trading at CY11E P/E of 5.4x. BUY!

Economic & Political News

Gas crisis may deepen in coming weeks: OGDC fails to revive Qadirpur field

Pakistan’s gas crisis is likely to deepen in the coming weeks as the Oil and Gas Development Company (OGDC) has failed to revive the Qadirpur gas field even after spending around USD30mn (PKR2.5bn) on its rescue plan by installing 14 compressors. The OGDC’s failure in reviving Qadirpur field would add to SNGPL woes and leave it in complete disarray in the coming weeks when its gas volume would further reduce and, resultantly, it would have to increase gas load shedding duration. Another immediate and visible outcome of Qadirpur field failure is going to be a serious threat to Engro Chemical’s new fertilizer plant for which SNGPL has granted supply of 100mmcfd gas. SNGPL had signed an agreement with Engro Chemical on the assumption that OGDC would install compressors to get additional 100mmcfd gas from Qadirpur to supply to its plant.
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