Q4FY16 profit after tax (PAT) came in 5% lower than our estimate, predominantly due to higher provisions including contingency provisions for future stresses. The bank guided for higher provisioning while providing a fairly detailed presentation on the types of stresses it faces. While this increased transparency is desirable and positive, we believe the higher stress guidance is likely to negatively affect the stock, particularly after the company’s Q3 guidance, which appeared positive.
Q4 highlights: Top-line growth surprised positively, especially on margins, which increased c.20bp sequentially, partly led by lower slippages but also due to improving CASA ratio at a robust 47%. Loan growth of 21% y-o-y was led by retail (24%) and large & mid corporate. Fee growth remained muted at 8%. Core operating profit growth of 15% was dragged down by higher provisions as the bank made contingency provisions of R3 bn, recognising elevated levels of stress that are unlikely to go away quickly. Guidance on future stresses was made amply clear, with the company earmarking about 13% of its corporate book as a potential source of stress and expecting about 60% of it to slip to NPLs over the next two years; it would like to provide 70% against that. Management also guided to 125bp of credit costs, with a worst-case scenario of 150bp in FY17. While the guidance is clearly worse than expected, we believe the 70% provisioning could exceed potential losses in these NPLs, thus providing an opportunity for recoveries commencing FY18e.
Earnings outlook: We factor in c.150bp of credit costs in FY17e, reducing to c.110bp in FY18e and leading to a 10% cut from our earlier FY17 estimates and ROA declining to 1.5% from 1.7% in FY16e with 2% PAT growth. We continue to factor in an equity issuance of R100 bn in FY17e, excluding which Tier 1 could fall below 12%.
Downgrade to Hold from Buy: Although the stock trades at just 1.8x P/ABV, it has rallied 23% over the last three months. Given the weaker guidance and earnings, we now trim our sustainable RoE to 17.3% from 17.4% and retain our target multiple at 1.9x P/AB, giving us a slightly lower TP of R484 (was R491). Upside risks: better-than-expected recoveries of NPLs. Downside risks: slower-than-expected economic turnaround and higher-than-expected slippages.