08-Aug-2017
RAK Bank - The comeback kid
Rating: Buy
Target Price: AED5.60
Closing Price: AED4.65
De-risking phase coming to an end; upgrade to Buy
RAKB has been overlooked for larger UAE banks due to its issues with SME and retail NPLs over the past two years. We believe now is the time to focus on RAKB - we see it as an earnings recovery story (+30% in 2017 vs -53% in 2016, with particularly strong Y-o-Y growth in 2H17) and upgrade our recommendation to Buy. We believe the clean-up of SME and retail NPLs, which started in 3Q15 is almost complete while the bank has tightened credit underwriting standards, which should prevent a repeat of a 2015-17 NPL cycle. Moreover, despite making inroads in corporates, mgmt. remains committed to SMEs, a segment where we believe RAKB holds a competitive edge over other banks and where we see scope for cyclical & structural growth. We increase our 2017-18 earnings estimates by 11% as we factor in lower provisioning and wider spreads and raise our TP to AED5.6 from AED4.7. At 2017e P/B of 1.2x, we believe RAKB is attractive considering its 13% ROE and 8% div. yield.
Provisioning on a downwards trend from its peak in 3Q16
Provisioning has been easing since 3Q16 as the number of skips (expat businessmen leaving UAE with unpaid debts) has declined and NPL formation has started to slow-down. Mgmt. expects cost of risk to continue trending downwards, with cost of risk reaching sub 400bps by 2018 from 483bps in 2Q17. While the retail segment (weak job market) still poses a risk to UAE banks, we believe lower provisioning pressure from the SME segment and prudent risk mgmt. should enable RAKB to keep provisioning in check. We expect cost of risk to decline to 480bps in 2017 from 620bps in 2016 and see it improving further to 426bps in 2018 and 372bps in 2019. We expect the decline in provisioning to more than offset spread dilution due to the changing asset mix over the next 2 years.
Spreads compression is slowing down; retail & SME to remain key drivers
Selective growth in retail loans and a slowing decline in SME loans has helped reduce pressure on spreads. While the interest earning assets mix is tilting towards low-yielding corporate segment, as loan growth is being driven by corporates in the ST, the bank will continue to focus on retail and SME banking. Mgmt. expects retail and SME loans to account for 65% of loans and investments by 2019 from 77% in 2Q17. We expect spreads to decline by a cumulative 58 bps over the next two years to reach 5.65% in 2019.
Shabbir Malik
Rajae Aadel
Target Price: AED5.60
Closing Price: AED4.65
De-risking phase coming to an end; upgrade to Buy
RAKB has been overlooked for larger UAE banks due to its issues with SME and retail NPLs over the past two years. We believe now is the time to focus on RAKB - we see it as an earnings recovery story (+30% in 2017 vs -53% in 2016, with particularly strong Y-o-Y growth in 2H17) and upgrade our recommendation to Buy. We believe the clean-up of SME and retail NPLs, which started in 3Q15 is almost complete while the bank has tightened credit underwriting standards, which should prevent a repeat of a 2015-17 NPL cycle. Moreover, despite making inroads in corporates, mgmt. remains committed to SMEs, a segment where we believe RAKB holds a competitive edge over other banks and where we see scope for cyclical & structural growth. We increase our 2017-18 earnings estimates by 11% as we factor in lower provisioning and wider spreads and raise our TP to AED5.6 from AED4.7. At 2017e P/B of 1.2x, we believe RAKB is attractive considering its 13% ROE and 8% div. yield.
Provisioning on a downwards trend from its peak in 3Q16
Provisioning has been easing since 3Q16 as the number of skips (expat businessmen leaving UAE with unpaid debts) has declined and NPL formation has started to slow-down. Mgmt. expects cost of risk to continue trending downwards, with cost of risk reaching sub 400bps by 2018 from 483bps in 2Q17. While the retail segment (weak job market) still poses a risk to UAE banks, we believe lower provisioning pressure from the SME segment and prudent risk mgmt. should enable RAKB to keep provisioning in check. We expect cost of risk to decline to 480bps in 2017 from 620bps in 2016 and see it improving further to 426bps in 2018 and 372bps in 2019. We expect the decline in provisioning to more than offset spread dilution due to the changing asset mix over the next 2 years.
Spreads compression is slowing down; retail & SME to remain key drivers
Selective growth in retail loans and a slowing decline in SME loans has helped reduce pressure on spreads. While the interest earning assets mix is tilting towards low-yielding corporate segment, as loan growth is being driven by corporates in the ST, the bank will continue to focus on retail and SME banking. Mgmt. expects retail and SME loans to account for 65% of loans and investments by 2019 from 77% in 2Q17. We expect spreads to decline by a cumulative 58 bps over the next two years to reach 5.65% in 2019.
Shabbir Malik
Rajae Aadel