Friday, July 19, 2013

Agriculture Bank of China : Strong leader in county area (DBSV)

Agriculture Bank of China
BUY HK$3.14
HSI : 21,303
Price Target : 12 month HK$ 4.59
Strong leader in county area

Well established rural network advantage should be hard to catch up and will continue to aid NIM
Concerns on asset quality should not be excessive given high provision coverage
Top pick in the sector for faster earning growth, better liquidity and high yield

Clear advantage in county area. We recently attended ABC’s reverse road show in SongMing county, Yunnan, which affirmed our positive view on ABC’s strength in rural areas. Its vast coverage of county areas should provide relatively low cost deposits while generating higher loan yield to support NIM. ABC’s strength in county areas will likely remain in the near term despite increasing competition.

Asset quality less of a concern after improvements and stricter risk control in recent years. We believe ABC has been adjusting asset growth structure and improving
internal control since listing, evidenced by declining NPL ratio in county areas. Its large provision should also provide buffer to potential downside and may support earnings.

Our preferred pick in the sector. We expect ABC to see the fastest FY13 earning growth among the peers. We also like ABC for its lower exposure to riskier segments
such as shadow banking, better liquidity and a stronger deposit franchise to weather against interest rate liberalisation. The stock offers an attractive yield of 7% now after declining 18% YTD.

Faster deposit and loan growth in county areas with higher spread
ABC’s rural advantage is hard to surpass in near term. ABC had a total of 12,511 outlets in county areas as at the end of 2012, covering 99.5% of counties nationwide. As a result of its strong presence in county areas, ABC’s county deposit market share reached 40% in 2012, compared to its overall deposit market share of 25.8%.

The appeal of cheaper deposits of county areas has attracted more competition. Although other financial institutions, such as other SOE banks and Postal Savings Bank are competing more aggressively in this area, management believes ABC’s edge in county areas will likely remain in the near term. Other SOE banks have much less physical outlets in county areas and fast network expansion will pressure costs quickly. Postal Savings Bank has more outlets in county areas than ABC but is weaker in terms of loan pricing, risk control and government policy support.

County deposit: lower cost, higher growth. ABC’s rural deposit outgrew overall deposit in the past three years. Lower deposit cost is another key strength of ABC. ABC reported the lowest deposit cost among the Big 4 banks during 2010-2012 thanks to lower rate of county deposit. ABC’s management states that as farmers have not fully developed wealth management concepts, it will not actively promote WMPs in rural areas in order to retain deposit and to keep funding cost low. ABC also believes one of the main reasons for lower county deposit cost is average size of county deposit is small and thus customer bargain power is weaker. The minimum purchase amount of WMP is Rmb 1,000 in some county areas vs Rmb 50,000 in cities.

Healthier loan demand and better pricing. On the loan side, ABC’s county loans also grew faster than the whole bank’s loan book during 2009-2012. ABC’s loan yield consistently topped the Big 4 league since 2010 with the help of county loans. County loan yield was 46bps higher than that of the bank in 2012, vs 37 bps in 2011 and 29bps in 2010. Among total county loan balance, about 68% were executed above benchmark rate, 10% higher than the bank’s overall book. Average county loan duration is 2.32 year with an average size of Rmb 9.86m.

ABC’s management notes that loan demand is relatively strong in central and western regions, partly due to less developed infrastructure and less over-capacity concerns. ABC’s lower L/D ratio in county areas (45% in 2012 vs 59% of the bank) should give it ample room to expand rural lending, which should help to deliver faster earning growth together with strong loan pricing.

We also expect ABC to benefit from the urbanization process if risk control is in place. Urbanization will spur public investment needs, which should increase loan demand as direct financing is relatively less common in rural areas. Farmers’ increasing personal income during the process also presents opportunities for fee income and wealth management needs.

Rural asset quality has been improving along the years
Improving rural asset quality. ABC’s huge rural NPL amount before listing was largely due to historical reasons according to the bank. Asset quality in recent years showed significant improvement. County area NPL ratio declined to 1.66% in 2012 vs the bank’s 1.33%, still lagging urban NPL ratio but the gap has been narrowing. We also note that ABC’s new NPL formation rate was not significantly higher than peers in 2012. Its highest provision coverage among the Big 4 should be enough to cushion downside. Our NPL sensitivity analysis shows ABC has 6.3% buffer in NPL ratio term before book value is at risk.

Measures in place when dealing with riskier segments. ABC noted that riskier farmer loan only accounted for 7% of its total county loan book while the majority (68.7%) was corporate loans. About 30% of total county loans were extended to agriculture industry. For SME and farmer loans, ABC states that it adopts higher entry level criteria and prices loans above benchmark rate to reflect higher risk. The bank also notes that branch loan approval rights will be suspended if their NPL ratio exceeds certain levels (3% - 5%).

Source/Extract/Excerpts/来源/转贴/摘录: DBS Vickers Research
Publish date: 17/07/13

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