MCB attractive at current levels


MCB Bank Limited announced their 2Q-2011 results in the outgoing week inducing relatively higher investor interest in the scrip. The bank reported its highest ever quarterly profits of Rs5.5b (EPS Rs6.63). A cash dividend announcement of Rs3/ share (30 per cent) accompanied, in line with analyst expectations. Sticking to fundamentals alone, the company is fast breaking out from peer large banks as far as performance is concerned. It is on account of a sustained upward trend in earnings which leads to MCB being the top pick from the banking sector.

Net interest income remained strong on higher KIBOR as well as growth observed in earning assets (in particular investments) which stood at Rs11.3b as of end-Jun11; an increase of three per cent QoQ and 46 per cent YoY. Investments gathered pace, rising by four per cent QoQ to Rs250b, while advances rose one per cent QoQ to Rs280b. Most of the investments are concentrated in high quality and government securities thereby reducing the credit exposure of the finances portfolio. The macroeconomic landscape of Pakistan remains uncertain; reflected in continuing weakening in the asset quality of the banks. Although the pace of accumulation of NPLs has stalled lately, banks have adopted a cautious stance towards lending in an effort to focus on improving asset quality. MCB is no exception and this is what explains the considerable growth witnessed in the finances portfolio of the bank. This is while banks look to expand on their deposit base to retain liquidity.
Deposits for the bank jumped seven per cent YoY to stand at Rs496b at the end of the half. Having a substantial current accounts and saving account (CASA) base of 81 per cent – the highest in the banking sector – MCB stands to gain from greater deposit mobilisation supplementing it’s spreads with minimal addition to credit exposure as the added liquidity is mainly parked in the aforementioned investment portfolio. Furthermore, owing to the enhanced deposit base, ADR eased of 370bps QoQ to 56.8 per cent, while the IDR cooled off to 52.4 per cent from 54.1 per cent as of end-Mar11. This explained the higher spreads the bank was able to earn as a result.
Provisioning for 2Q-2011 came in at Rs1.2b, up 23 per cent QoQ (1H-2011 Rs2.2b, up 18.3 per cent YoY). This is mainly due to higher general provisioning as the bank accounted for more prudent subjective classifications in addition to that required by statutory requirements. Given that infection remained at 1Q level, with NPLs making nine per cent of gross loans, loan loss coverage rose to 85.8 per cent as of Jun11 – up 980 bps from last year. Add to this that 94 per cent of the bank’s non performing portfolio now comes under the fully provided ‘loss’ category. Higher subjective provisioning is often used by the management as a tool to smooth out their earnings and maintain a consistent growth trend rather than a volatile one. Therefore, these moves are encouraging signs and bode well for the bank as far as provisioning expense, in turn net income, for the next quarter is concerned. This is of course assuming there are no negative surprises in asset quality; however, owing to a low ADR and decelerating trend of infection, the likelihood for further NPL accretion remains low. In this regard, MCB has been able to nose ahead of its peers who have displayed a slower pace of NPL maturing.
The bottom-line was further supplemented by non-interest income which fared even better, led by improved fee income (up six per cent) and gain on securities (up nine per cent). Administration expenses eased off slightly by 4.8 per cent in 2Q to Rs3.5b helped by the recognition of substantial PF reversals in the quarter (2Q-2011: Rs993mln, 1Q2011: Rs300mln). The tax incidence also came out to be lower than analyst expectations of 40 per cent as MCB did not recognise an additional 15 per cent flood tax. It is pertinent to add here that recognition of the tax is still a possibility for the bank. The reason cited by the management for non-recognition is that they believe the instructions for the tax imposition is applicable on companies operating in tax year 2011 rather than those, such as the likes of MCB, which are already operating in tax year 2012. There has been no response on behalf of FBR to clarify on this as yet. Nevertheless, a possibility remains that FBR may revisit this in the coming times, although it is expected that the management would contest such an imposition. If such a tax is thereby deemed to be imposed, an additional Rs414b charge (3.9 per cent of current profitability and EPS impact of Rs0.5) may arise in 2H-2011.
Whatever the case, the bottomline of the bank is under no serious threat as the bank builds to solidify its already robust capitalisation standing. MCB has established a strong position in the banking sector and would be a prime candidate for even greater growth as economic activity livens up in the country.

Following the discussion regarding MCB’s results, we expect the bank would continue to follow a conservative growth strategy as far as lending is concerned for the foreseeable future. The main focus entailed would be to improve asset quality through further strengthening its systems and controls. The bank has clearly identified few sectors offering promising business opportunities for credit expansion and is likely to remains restricted to these only. Meanwhile, the bank is expected to maintain its low cost deposit base, capitalising on its extensive outreach of nearly 1,000 branches. Initiatives such as mobile banking would help, but they are not expected to become the mainstay for the business in the near term. Given the management’s philosophy and trend, emphasis on cost cutting would surely continue to dominate.
As far as future earnings are concerned, the growth momentum is likely to shift from interest income to lower provisioning. This is on account of our expectations of lower interest rates in the coming future; substantiated by the recent 50bps policy cut of the SBP. Again the management of the bank seem to be well in sync with the surrounding economic realities as they have positioned themselves to provide lesser in future by recording substantial general provision in the current quarter. The current NPL formation and declining ADR position further supports this view. We expect a similar performance trend to be observed in the next quarter as well.
What is more pertinent to notice for investors is the performance of the stock in recent times. Trading at Rs186.4 as per the time of writing, the stock is attractive at current levels. This translates into a 2011E P/BV of 1.8x and P/E of 7.8x respectively. These relative valuation metrics are below those historically observed for a consistent dividend payer bank like MCB, but this low trading value is also a reflection of the subdued mood of investors at the bourse. Nevertheless, given that the stock is trading close to its one-year low and that technical indicators are highlighting oversold positions (RSI: 28.125), we recommend a hold stance on the stock.