Share price: HKD6.25 (27 Nov 2013)
Target price: HKD7.25
Solid capital base; disciplined operations
Selective loan growth and slight NIM pressure. China Construction Bank (CCB)’s loan growth remained healthy at 11.5% 9M13. Key drivers were SME loans, residential mortgages and overseas lending. CCB also shifted its loan growth towards less risky Central and Western China. CCB maintained its net interest margin (NIM) at 2.71% in each quarter during 9M13. However, its loan-to-deposit ratio rose to 69.1% in Sep 2013 (66.2% in Dec 2012). To regain market share in deposits and factor in potential price competition stemming from interest rate deregulation, we forecast CCB’s NIM to narrow to 2.66% in 2014.
Disciplined fee income development and costs control. CCB has turned cautious in selling trust products and shifted towards lower-margin standardized wealth-management products. Still, with strong growth in consultancy and advisory, bank cards and electronic banking services fees, we forecast its net fees to grow at a CAGR of 12.4% during 2012-15. Total expenses grew 8.7% YoY for 9M13, slower than its revenue growth. With good track record of disciplined costs control, we forecast CCB’s cost-income ratio to fall below 37% during 2013-15.
Sound asset quality. Total NPLs increased slower by CNY1.8b QoQ in 3Q13 (+CNY3.2b in 1Q13; +CNY2.5b in 2Q13). However, CCB’s credit cost rose from 0.38% in 2Q13 to 0.45% in 3Q13. We believe this was due to increased NPL write-offs. Overdue loans within three months increased by CNY2.2b HoH to CNY26.9b in Jun 2013. CCB has classified 89% of its overdue loans as NPLs in Jun 2013. Under our conservative assumptions of: (i) an annual increase in NPLs of over 10% for the risky loans; (ii) new NPLs of 3-5% p.a. for its LGFV loans (CNY377b in Jun 2013); and (iii) an annual increase in collective loan impairment allowance ratio of 5bps during 2013-15, we forecast a slight rise in CCB’s credit cost to 0.72-0.96% in 2013-15 (0.55% in 2012).
Strong capital positions to sustain dividend payout. Under the Basel III capital rules, CET1 CAR remained solid at 10.9% in Sep 2013. With the shift towards less risky loans and wealth-management products, we forecast CCB’s CET1 CAR will remain above 10% even if maintains a dividend payout ratio of 35% during 2013-15.
Initiate with a BUY rating. With the projections of narrowing NIM and higher credit cost, we forecast CCB’s ROE will fall to 19-20% in 2014-15 (22% in 2012). Based on a long-term ROE assumption of 16.75% in our Gordon Growth Model (GGM), we derived a target price of HKD7.25, equivalent to a projected Dec 2014 P/B of 1.2x.
Lower cost-income ratio than peers: With proven track record of tight control on staff cost and general and administrative expenses, we forecast CCB’s cost-income ratio to fall below 37% during 2013-15, lower than most of its peers.
Selective lending business and prudent provisioning policy: CCB has shifted towards less risky loans in Central and Western China and overseas lending in recent years. It has classified 89% of the overdue loans as NPLs in Jun 2013 and its provision-to-loan ratio remained high at 2.62% in Sep 2013.
Strong capital positions: CET1 CAR stayed at 10.9% in Sep 2013 under Basel III capital rules. We forecast CCB’s CET1 CAR will remain above 10% even if maintains a dividend payout ratio of 35% during 2013-15.
Moderate deposit growth: Total deposits grew slower than market average at 6.8% YTD in Sep 2013. As such, its loan-to-deposit ratio rose to 69.1% in Sep 2013. We see potential NIM pressure if management intends to regain market share in deposits.
Disciplined expansion in fee income business: CCB recorded a decline in agency service fees and wealth management fees of 10.6% YoY and 7.6% YoY in 1H13, mainly as it sold fewer trust products and the shift towards lower-margin standardized wealth-management products. We forecast its net fees to grow at a CAGR of 12.4% during 2012-15 (vs. over 20% p.a before 2012).
Valuation and Recommendations
We forecast CCB’s net profit to grow at a CAGR of 8.4% during 2012-15. Key earnings drivers will be healthy loan and net fees growth, and tight costs control. We forecast its core ROE will fall to 19-20% in 2014-15 (22% in 2012).
We project a long-term ROE assumption of 16.75% for CCB in our GGM. This is higher than its historic trough ROE of 15% during 2005-12. We derive our target price at HKD7.25 based on the fair Dec 2014 P/B of 1.2x estimated from the GGM. This is also slightly above CCB’s historic trough P/B of 1.1x during 2005-12. We initiate coverage of CCB with a BUY rating. Key risks to our rating include asymmetric interest rate hikes and a hard landing in China.
Publish date: 28/11/13