• 1Q16 earnings beat on stronger non-II; cut estimates, FV Saudi Hollandi Bank’s (SHB) 1Q16 earnings rose 13% Q-o-Q to SAR512 million, above our estimate of SAR479 million, and 4% above Bloomberg consensus. The earnings surprise was driven by strong improvement in non-interest income, which jumped 17% Q-o-Q. This was likely driven by stronger loan driven fee income, while a pickup in loan extension and renewal fees is also likely to have helped. The bank has also been steadily growing its retail loan portfolio – 20% of total loans as of 4Q15 – which attracts stronger fee income. We cut our earnings estimates by 3% for 2016 and 5% for 2017 as we factor in tighter spreads into our forecasts. We cut our fair value to SAR29.0 and downgrade our rating to Neutral from Buy. Key risks to our estimates include i) resilient spreads; and ii) contained credit quality deterioration.
• Spreads ease 4bps Q-o-Q; likely on higher funding costs The strong pressure on liquidity has been driving up funding costs in the sector, and we believe this was the likely key driver for weaker spreads at SHB. However, the magnitude of pressure on spreads eased from 4Q15, which saw a c15bps Q-o-Q drop. The bank also shed balance sheet liquidity – deposits declined by 4% Q-o-Q - which in our view was aimed at protecting net interest spreads.
• Loan growth remains strong, but shrinking headroom SHB’s net loans grew an impressive 3.0% Q-o-Q/17% Y-o-Y, one of the strongest amongst Saudi banks; however, the decline in deposits led to a 550bps increase in the bank’s loan-to-deposit ratio. Adjusting for long-term loans, SHB’s loan-to-deposit ratio edged up to 87.6% in 1Q16. Though it remains below the revised LDR guidance level of 90%, it does not leave much head room for growth and balance sheet liquidity optimisation, in our view. Sustaining the loan growth momentum would require deposit growth to keep pace, which could put pressure on spreads.

Murad Ansari