Union National Bank (UNB)
 
Rating: Neutral
Target Price: AED5.30
Closing Price: AED4.79

 Provisioning surprise in 2Q; NPL deterioration and low coverage point to a weak 2H
UNB reported net profit of AED502mn for 2Q17, +12% Q-o-Q and +7% Y-o-Y. Earnings came in ahead of our forecast of AED402mn, mainly due to lower provisioning. Provision reversals helped keep cost of risk low at 50bps; however, credit quality metrics deteriorated. NPL ratio rose 30bps Q-o-Q to 3.9%, while NPL coverage declined to 96% from 107%. Deterioration in credit quality does not bode well for UNB’s provisioning outlook in 2H17. We believe corporate segment will drive higher provisioning in 2H relative to 1H17. We raise our 2017e profit by 6%, as we cut provisioning to adjust for 2Q17. Its valuation are undemanding – 2017e P/B of 0.8x – and it offers a decent div. yield of c5%. However, its ROE is weak and we believe credit concentration will prevent mgmt. from raising pay-out. We raise our TP to AED5.3 from AED4.8, and reiterate our Neutral rating on the stock.
 
Slowdown in lending; term deposits continue to be shed as liquidity improves
Loan growth was weak, with loans contracting 2% Q-o-Q. Retail loan growth continues to be strong as the bank focuses on growing market share in the UAE-nationals’ segments. Corporate loans shrank 4%, as real estate and financial institutions segments depicted a decline. While overall sector growth is likely to have been weak in 2Q17 (subdued capex in Abu Dhabi), UNB may have reduced exposure in areas where the risk-reward ratio was not attractive. UNB is increasingly concentrating on RORWA to assess corporate lending. Deposits declined as the bank continues to shed excess liquidity. The bank continues to let go of term deposits as system liquidity improves and following the issuance of long-dated EMTN in 1Q17. 
 
Spreads flat; 2H may not be much better; retail loan growth helps drive strong fees
Spreads were relatively flat Q-o-Q at 2.32% as cost of funds did not improve and asset yield rose marginally. Going into 2H17, improvement in spreads would be subject to the bank’s ability to change its balance sheet structure (growth in retail loan mix and CASA deposits). Higher rates may not be beneficial in the ST, as the banks’ relatively TD-oriented deposit base and borrowings reprice faster than loans. Fee income has been strong, helped by fees linked to retail loan origination and loan restructuring.

Shabbir Malik

Rajae Aadel