UOB - DBS Research 2020-05-06: Higher Credit Costs Guidance Through FY21F

UNITED OVERSEAS BANK LTD (SGX:U11)

UOB - Higher Credit Costs Guidance Through FY21F

UOB's net profit declined 19% y-o-y/15% q-o-q on lower revenue and higher provisions; additional S$260m RLAR charge taken through reserves.
NIM to continue declining on falling rates.
Guides for higher credit costs (50-60bps) in FY20F arising from higher specific provisions.
Maintain HOLD, Target Price S$17.50.

UOB (SGX:U11)'s 1Q20 net profit of S$855m declined 19% y-o-y/15% q-o-q, though consensus was expecting a larger decline. Net interest income of S$1.6bn was flat y-o-y/declined 3% q-o-q as NIM declined 5bps q-o-q to 1.71% on lower interest rates, offsetting the impact from higher loan growth.
Geographically, Singapore and North Asia revenues declined c.7% y-o-y due to the challenging macroeconomic outlook.
Operating costs decreased slightly by 3% q-o-q on lower revenue-related expenses, bringing cost-to-income ratio to 45.1% due to lower revenues (4Q19: 45.9%).
Capital ratios stood strong with CET1 ratio at 14.3% amidst a lower ROE of 8.8% (FY19: 11.6%).

UOB's non-interest income of S$813m was largely flat (-1% y-o-y/+2% q-o-q), weighed down by trading and investment income (-17% y-o-y, flat q-o-q) which declined on increased market volatility, offset by stronger net fee income. Net fee income of S$515m was up 8% y-o-y and q-o-q, attributed to wealth management and loan-related income which grew 44% and 24% q-o-q respectively, largely in January and February. According to UOB, fee income has slowed into March.

UOB's loan book grew 4% y-o-y/-3% q-o-q, driven by large corporates and top-tier customers in developed markets.
Deposits increased 5% y-o-y/4% q-o-q, in line with loans, resulting in a flat LDR. During 1Q20, CASA increased to account for 47% of total deposits (4Q19: 45.4%).
Oil and gas exposure accounts for 3.6% of total loans. As of 1Q20, outstanding oil and gas (O&G) loans accounted for 3.6% of total loans (S$10.2bn), of which 75% were to downstream players and traders, and 70% of these were mainly national oil companies (NOCs) and global firms with the remaining being mainly short-term structured exposure.
Remaining 25% of the exposure is to upstream industries mainly to NOCs and international oil companies. Within the upstream exposure, vulnerable accounts were already classified with collateral values marked down (by as much as 90%) by end-2017.

Total allowances increased to S$286m, representing total credit costs of 36bps (FY19: 18bps); on the back of higher special allowances of 31bps (4Q19: 23bps).
According to UOB, an additional S$260m regulatory loan loss reserve (RLAR) was taken during the quarter to strengthen general allowances, equivalent to c.10bps of CET1 ratio. UOB also earmarked S$300m of general allowances to reflect deteriorating macroeconomic conditions with remaining S$400m overlay for further credit migration.

UOB's NPL ratio increased to 1.6% (4Q19: 1.5%) as new NPA formation was higher at S$573m (4Q19: S$437m, average of S$381m for last six quarters) due to a few significant accounts, of which an oil and gas trader accounted for most of the new NPA increase (~60% has been provided for in the quarter). NPA coverage ratio stood at 88% as of 1Q20 (206% including collaterals).

UOB has guided for 50-60bps credit costs for FY20F. According to UOB, one can assume similar credit costs for FY21F, though FY21F actual provisions will still depend on 2H21F. UOB expects higher credit costs through FY20F arising from special provisions even amidst moratorium as some businesses are structurally unviable going forward. There will be some other smaller provisions needed for O&G book but is included in the 50-60bps guidance for FY20F.

According to UOB, c.4bps of the 5-bp NIM decline was attributed to contraction in SGD and USD rates, as well as lower loan margins due to UOB’s active strategy to lend to certain large corporates and top-tier customers mainly in Singapore and Hong Kong.
UOB is guiding for positive loan growth as it seeks to build selective deeper relationships with strong corporates who are more willing to diversify their funding sources in times of uncertainty. UOB will be looking at managing its cost of funding in fixed deposits, USD funding as well as corporate deposits, which will help buffer NIM decline.

UOB’s existing dividend policy is c.50% dividend payout ratio, subject to CET1 ratio of > 13.5% when the outlook is stable or positive. The current outlook is challenging though management has reaffirmed its commitment to offer a strong dividend payout within its means. According to UOB, if dividends have to be pulled back, it will not be excessive. We are pencilling in a S$1.10-DPS forecast for FY20F.

Maintain HOLD, Target Price S$17.50. Our Target Price of S$17.50 is pegged to c.0.7x FY21F P/BV, which is at GFC valuation trough, due to asset quality concerns. Current UOB dividend yield is at c.5.6%.
See UOB Share Price; UOB Target Price; UOB Analyst Reports; UOB Dividend History; UOB Announcements; UOB Latest News.
Our earnings revision of -5 to -13% decline through FY21F is largely on the back of higher credit costs and lower NIM assumptions.

Rui Wen LIM DBS Group Research | https://www.dbsvickers.com/ 2020-05-06

SGX Stock Analyst Report HOLD MAINTAIN HOLD 17.500 SAME 17.500