MCB - AXYS · PDF fileMCB The Mauritius Commercial Bank Ltd AXYS Stockbroking Ltd, Bowen...

MCB The Mauritius Commercial Bank Ltd

AXYS Stockbroking Ltd, Bowen Square, Dr Ferrière Street, Port-Louis | BRN C07007947 Jun-13 Tel (230) 213 3475 | Fax (230) 213 3478 | Email [email protected] | www.axysstockbroking.com

Overview The Mauritius Commercial Bank Ltd (MCB), the leading domestic bank, celebrates 175 years of existence this year. Given the relatively saturated and limited size of the Mauritian market, MCB embarked on a regional expansion plan over time. It is now involved throughout the Indian Ocean and in the broader Sub-Saharan Africa region. As such, foreign sourced earnings account for 43% of attributable group profit.

Group Re-structure MCB plans to under a re-organisation which will also support its growth ambitions. The group will streamline its operations into ‘Banking’, ‘Non-Banking Financial’, and ‘Other Investments’ clusters. The resulting switcheroo will not result in any change in business operations, but it will leave behind a Rs3bn gap in the bank’s capital base. MCB intends to bridge the gap via a Basel II compliant bond issue which AXYS believes will be fully subscribed to. Several funds remain flushed with cash and sovereign yields stand at record lows.

Performance Review and Prospects MCB has increased lending and as a result almost maxed out it lending capacity with a LDR of 94% in its pursuit of business development; and also to maximise yield as sovereign yields have hovered close to record lows. Stiff competition and the recent cut in Repo Rate will shrink interest margins and therefore undermine NII growth rates. MCB is expected to continue to expand its regional footprint and grow its lucrative niche of oil logistics trade financing. NFCI is thus expected to grow at a sustained double digit pace. Foreign currency derived revenue is expected to grow in-line with increase trade finance, and also from the strengthening of major currencies vis-à-vis the MUR. In spite of a drop in infrastructure spending, the spike in public sector wages will add pressure on private sector salaries which leads us to believe that MCB will only manage a small drop in CIR. Looking ahead, the lukewarm domestic economic environment will beget subdued growth in core banking, and lead to potentially a greater default rate on loans. As for the bank’s overseas operations, continued political instability in Madagascar and the precarious state the of the French economy is expected to trigger sub-par performances in Madagascar and Réunion. On the brighter side, Mozambique, and tourism-propelled Seychelles and Maldives should show appreciable growth. The outlook is mixed with appreciable growth potential emanating on the regional front, while higher impairments could exert adverse pressures on profitability growth.

Valuation: Downgraded to Accumulate Assuming stable impairments of ½% of gross loans, we estimate MCB’s FY14 PER to stand 9.0x. Its PEG ratio paints a different picture. Below 1 since 2009, MCB’s PEG is poised to jump to 1.9x then ease to 1.4x by FY14. Its FY14 PBV is forecasted at 1.44x, i.e. lower than its 4Yr average of 1.67x; and although its T1 CAR is set to stand at 12.5% or higher, we do expect a deterioration of its NPL. Irrespective of fundamentals, like others in recent past, MCB could experience a speculative up-surge in the wake of its re-structuring process. Based on the above we downgrade MCB from “Buy” to “Accumulate”.

Highlights 2009 2010 2011 2012 2013E 2014F

Loan to Deposit Ratio [%] 79.9 82.6 89.9 91.2 94.0 92.5 Net Interest Spread [bps] 630 537 514 494 468 462 Net Op. Income [Rs bn] 8.26 7.99 9.19 10.01 11.24 12.06 Profit after Tax [Rs bn] 4.05 3.42 4.27 4.15 4.66 5.19 Earnings per Share [Rs] 16.68 14.36 17.85 17.31 19.45 21.69 Dividend per Share [Rs] 5.25 5.25 5.75 5.85 6.50 7.40 Att. Equity per Share [Rs] 78.16 85.50 99.85 109.98 121.85 135.40

Key Metrics 2009 2010 2011 2012 2013E 2014F

Cost to Income Ratio [%] 42.1 46.5 43.7 46.1 44.3 42.5 Cap. Adequacy Ratio [%] 12.3 12.5 13.7 13.7 13.5 13.6 Non-Performing Loans [%] 4.8 3.9 3.4 4.5 5.4 5.3 Return on Equity [%] 21.3 16.8 17.9 15.7 16.0 16.0 Price to Earnings Ratio [x] 7.6 9.9 10.5 9.8 10.0 9.0 PE Growth Ratio [x] 0.25 0.53 0.53 0.75 1.86 1.44 Price to NAV Ratio [x] 1.61 1.66 1.88 1.54 1.60 1.44 Dividend Yield [%] 4.2 3.7 3.1 3.5 3.3 3.8

Rating ACCUMULATE Current Price: Rs 188 CDS Code: MCB.N0000 ISIN Code: MU0008N00006 Reuters RIC: MCBL.MZ Bloomberg Ticker: MCB MP Google Finance Code: MAU:MCB

Trading data 21-Jun-13

52-wk range: Rs 161 - 196 Market capitalisation: Rs 44.7 bn Weight in Semdex: 24.0% Weight in Sem-7: 36.7% No of Shares: 237.7M Avg. daily value traded: Rs 14.4M of which foreign buys: Rs 8.27M of which foreign sells: Rs 4.95M Avg. daily volume traded: 83,700 Year on Year return: 11.9% All time high: Rs 196 (04-Jun-13)

Selected Data CAMEL rating: 2- Moody's fin. strength: D+ Net loans: Rs 137.6 bn Σ Deposits: Rs 150.9 bn Tier 1 capital: Rs 24.1 bn BIS T1 risk adjusted ratio: 12.5% BIS risk adjusted ratio: 13.2%

2014 Growth Forecasts Loan & advances: 13.8% Deposits: 11.5% Net op. income: 7.3% EBITDA: 10.1% EPS: 11.5%

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Financial Performance Core Business

Having grown loans & advances by 12% against 11% for deposits, The Mauritius Commercial Bank Ltd (MCB) increased its Net Interest Income (NII) by 8.5% in FY12. According to its 9Mth results to Mar-13, the bank’s loans and deposits have both beaten FY13 target having increased by 12% and 9.5% respectively. This will result in NII close to Rs7bn (+9%) for FY13. However, handing our loans at a faster rate than at which deposits are acquired has led to a jump in the Load-Deposit ratio (LDR). A high LDR coupled with Jun-13’s 25bps cut in the Key Repo Rate (KRR), will result in downward pressures on interest rate spreads. MCB’s LDR has increased from 90% in FY11 and 91% in FY12 to 93.6% on March 31st 2013. Following an increase in Cash Reserves requirements by the Bank of Mauritius (BoM) and near record low sovereign yields, MCB opted to optimise interest income by maximising its loans and advances. At 94%, MCB has almost maxed out its lending capacity and will have to grow its deposits base. Given the stiff competition, and recent KRR decrease, net interest margins which fell by 20bps in FY12 are expected to shrink by a further ~30bps. Further, we project FY14 NII to grow at the reduced pace of 4%. Risk Assessment MCB commands about 40% of the domestic credit market which demonstrates its importance as a key player in the Mauritian economic success story.

Figure 1. Split of domestic credit including GBLs & listed banks' market shares. Conversely, although credit concentration is well spread out, MCB will feel the effects of a poorly performing sector of the economy to a greater extent. While personal loans have a high 9% of Non-Performing Loans (NPL), these are typically backed by tangible assets under the local orthodox1 lending model.

1 Which kept Mauritian banks strong during the worst of the financial crisis

Figure 2. Sectorial split of MCB's loans book with its NPL ratio (if >2%) stated next to label MCB’s NPL ratio has steadily declined from 9.4% in FY04 to 3.4% in FY11. It appears that this declining trend has come to an end with an increase to 4.5% in FY12. The prolonged recession in Europe has induced tepid domestic growth rates. The construction (FY12 NPL: 13%) and tourism (FY12 NPL: 2%) sectors are among the most affected. MCB’s low tourism sector NPL can to some extent be explained by the fact that hotel groups have re-echeloned repayments which are deemed unsustainable in the event that industry’s profitability does not improve in the medium term. While we remain weary by increasing defaults within construction – a sector poised to contract by ~7% in 2013 – MCB’s lending within the sector remains backed by tangible assets. The recent default by the promoters of Port Chambly2 could be a sign of things to come given the mushrooming of both residential and commercial developments in recent years. MCB’s impairment rate and percentage of non-performing loans are both expected to increase in coming years. Net Fee & Commissions Net Fee and Commission Income (NFCI) increased by 18.4% to Rs2.2bn driven by regional trading financing and cards. In fact, MCB has established itself within the lucrative niche of the trade financing of businesses involved in the logistics surrounding the transportation and storage of oil drilled within the region. Boosted by regional financing, MCB has already grown NCFI by 21% in the 9Mths to Mar-13. In-line with its pursuit for expanding its regional presence 3 and business, we expect its stronghold of trade financing of oil logistics to drive sustained increases in NFCI (FY est.: +11%).

2 A Real-Estate Scheme development in the north west of the island 3 MCB intends to expand its footprint on the African continent

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Other Income The overwhelming majority of MCB’s other non-interest income stems from its dealings in foreign currency (FX). The 38% surge in FX related income in FY12 stems in part from fair value gains following a strengthening of currencies vis-à-vis the MUR. Following the BoM’s 25bps decrease in KRR, and the recent sell-off in Emerging Market currencies, we do believe the MUR will decline (as the USD strengthens) further in 2013-14 following years of stability. Consequently, we also expect MCB’s other income to improve by ~15% in FY14. Non-Fee/Interest Expenses The bank’s cost-to-income ratio has increased over time, on the back of significant investments in capacity, as well as from the modernisation of its branches to improve service quality. With its new banking system fully operational, and construction/renovation works on the decrease, we would expect expenditure to drop. However, the recent surge in public sector wages will undoubtedly push private sector salaries higher at a faster pace than an inflation-indexed adjustment. We project that MCB would only manage a small drop to ~43% in FY14. Earnings While MCB’s EBITDA4 edged higher by 6% to Rs6.1bn, Earnings per Share (EPS) adjusted for non-recurrent items, dropped by 3% to Rs17.31. The vast majority of MCB’s group level profits are Mauritius based (88%), however, at the bank level the Segment A (local) and Segment B (foreign sourced) profits are even albeit boosted by exceptional dividends from BFCOI.

Figure 3. MCB's split of PBT between Mauritian and overseas operations Based on the expansive room for regional/overseas growth, we expect MCB to remain on a growth path over the next few years. It is highly likely that with the faster growth rates on mainland Africa, Segment B will constitute more than 50% of MCB’s profit. Further strong growth rates in Mozambique, and tourism-driven Seychelles and Maldives will continue to contribute to MCB’s bottom-line. 4 where AXYS replaces the I for interest with I for impairments

Our concerns stem from the continued political instability in Madagascar5 and Réunion where as a French overseas department its business climate remains closely linked to precarious state of the French economy.

Figure 4. Segmental split of attributable earnings Taking all of the above into account and applying a 0.5% impairments on MCB’s loans and advances, we expect EPS to grow by ~12% this year and by more than 11% in FY14. That said, we remain weary of a sudden increase in default rate in loans handed out to the construction sector. Financial Scorecard Based on its 9Mth results, we can already see that MCB has exceeded its loans and deposits growth targets, which will also result in better than targeted income growth. However, a jump in impairments, and a strong cost base, mean the group is unlikely to meet its efficiency and return targets.

Figure 5. MCB's financial scorecard. Triangle = On or greater than target. Orange = off-target by <5%. Red = missed target by >5%.

5 The French have stated they would not recognise any elections results in which the previous president, ex-first lady and current care-taker president would be candidates

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MCB’s targets appear to the most reasonable among peers. Therefore we infer that attributable earnings are likely to improve but at a slower rate than in recent record breaking years.

Corporate Structure Brief overview Founded in 1838, MCB is celebrating 175 years of operations. It is regarded as the leading Mauritian bank and enjoys 35% of the credit market share and 37% of the deposit market share. The group began expanding its business outside of Mauritius in the early 90s. Today, the group is present in and the around the Indian Ocean: Madagascar, Seychelles, Maldives, and Mozambique as well as Réunion and Mayotte through Banque Française Commerciale Océan Indien (BFCOI) as depicted in Figure 6 below.

Figure 6. MCB's present structure Group Re-organisation In-line with regulatory developments and to support its growth ambitions, MCB has embarked on a corporate restructuring and will split its business into ‘Banking’, ‘Non-Banking Financial’, and ‘Other investments’ clusters as presented in Figure 7 below. Although the re-shuffling of its subsidiaries and associates does not change its business, the group’s capital structure will change because of the transfer of a select few subsidiaries over to the new holding company. The net result will be Rs3bn gap in capital that MCB intends to bridge through an issue of long-term bonds under Basel II guidelines.

Figure 7. MCB's post re-structure organigram Substantial levels of liquidity have driven both sovereign and corporate bond yields to record low 6 rates. Given its strong domestic brand, we believe MCB’s bond issue will be oversubscribed to at a potentially small risk-free premium. Shareholding The shareholding structure of MCB remains well spread out. Its top 10 shareholders – mostly investment funds – constitute only 18% of the total shareholding. Such high levels of “floating” shares result in MCB’s uncontested position as the most liquid company on the Stock Exchange of Mauritius (SEM).

Figure 8. MCB's top shareholders

6 As best exemplified by the low rates at which CIM and ALTEO issued secured notes

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Market Performance Shareprice Given MCB’s strong 25% weight on the SEM’s All-Share Index, it is highly unsurprising that its trends have been in-line with the SEMTRI but also that it outperformed7 the index. On a Year-to-Date (YTD) basis, MCB’s 10% increase after having touched new record levels is below that of the SEMTRI’s 12%; but on a Year-on-Year (YoY) basis, MCB has improved by 16% compared to the SEMTRI’s 11%. While the SEMTRI was bogged down by declining large caps (hotels, sugar conglomerates, and BBCL), MCB was outperformed by its closest domestic competitor SBM (YTD: +16%; YoY: +32%). SBM was boosted by its much improved profits, but also by a speculative surge that preceded its unorthodox 1 for 100 share split.

Figure 9. MCB's stock price performance against peers and benchmark Tick-size change Change in the minimum step-size for price changes was precipitated by SBM’s out-of-the-ordinary share split. Had tick-sizes been left as untouched, at current prices, SBM would have moved in 5-cent steps, ie with a massive ±5%. The smaller 25-cent movement on MCB has given investors greater wiggle room which has led to greater liquidity and execution frequencies. MCB has greatly benefited from the change and become more volatile as a stock, both on a day-to-day and intra-day basis as illustrated by the probability distribution functions below.

7 On a total return basis

Figure 10. Probability distribution function of day-to-day changes (change is measure in tick-sizes rather than Rs or %). Data: 77 sessions before and after split Prior to the split, 91% of the time MCB could close within 1-tick of its previous price, and 99% of the time its share would move within 1-tick during a session. Since, 44% of the time, MCB closes either above or below its previous close price by more than a single tick; and on an intra-session basis, it now moves by more than a single tick 26% of the time in stark contrast to just 1% prior to March 1st.

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Foreign Participation Foreign investment on the local market by funds invested in African and Frontier markets have traditionally been geared towards the two largest banks. MCB makes up around 46% all foreign participation on the SEM, followed by SBM as a distant second.

Figure 11. Market share of foreign activity by listed banks With regards to the directions of the flows, they are rather less dictated by local fundamentals but by global flows in and out the different asset and sub-asset classes. That said, local stock picking is primarily liquidity driven followed by company fundamentals. In that sense, investment or disinvestment on MCB would set the tone for the rest of the SEM.

Figure 12. Net value of portfolio investment on the SEM and listed banks

A peculiar pattern seen last year was that the net outflows on SBM closely matched the net inflows on MCB. This suggests that foreign investors sold SBM in favour of MCB. Given that SBM has displayed stronger fundamental growth than MCB in the last couple of years, we can unfortunately only speculate on the rationale for the greater focus on MCB.

Figure 13. Extent of foreign participation on listed banks In recent years, foreign participation on the MCB has been around 40%, however, the strong 65% participation recorded thus far in 2013 coupled with net purchases in excess of Rs400M suggests the entry on new funds into the Mauritian market with a preference for MCB.

Valuation & Recommendations The well regulated Mauritian banking sector has experienced a few hiccups over the past few months following White-Dot scandal and more recently the combined Rs3bn default by an Indian company to some five locally-based lenders. Nevertheless, the banks are well capitalised and having held on to traditional banking models, are unlikely to succumb to under the weight of such defaults. The future growth path for domestic banks is essentially abroad rather than local. MCB is thus poised to capitalise further on regional trade financing to bolster NFCI; and greater Segment B lending to grow NII. However, with a near-maxed out LDR of 94%, MCB will face shrinking net interest margins. Further, the deteriorating conditions for a couple sectors of the local economy may lead to a higher default rate in the coming year. Assuming stable impairments of ½% of gross loans, we estimate MCB’s FY14 PER to stand 9.0x. Its PEG ratio paints a different picture. Below 1 since 2009, MCB’s PEG is poised to jump to 1.9x then ease to 1.4x by FY14. Its FY14 PBV is forecasted at 1.44x, i.e. lower than its 4Yr average of 1.67x; and although its T1 CAR is set to stand at 12.5% or higher, we do expect a deterioration of its NPL. Irrespective of fundamentals, like others in recent past, MCB could experience a speculative up-surge in the wake of its re-structuring process. Based on the above we downgrade MCB from “Buy” to “Accumulate”.

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Appendix A I. Calculations Methods Bottom-line profit figures, e.g. Profits after Tax, Attributable Earnings, and EPS among, have all been adjusted for non-recurrent exceptional items. All ‘per Share’ metrics or calculations requiring the ‘No. of Shares’ have been computed using a single constant. AXYS has used the total number of issued shares by the company excluding treasury shares as given by its latest annual report.

II. Price to Earnings Growth (PEG) Ratio

PEG Ratio =< 𝑃𝑟𝑖𝑐𝑒/𝐸𝑎𝑟𝑛𝑖𝑛𝑔𝑠 >

𝐸𝑃𝑆 𝐺𝑟𝑜𝑤𝑡ℎ

PEG Ratio

0 ≤ PEG < 1 Under-valued

PEG = 1 Fair-Valued

PEG > 1 Over-valued

II. Loan to Deposit Ratio (LDR)

LDR =∑𝐿𝑜𝑎𝑛𝑠 & 𝐴𝑑𝑣𝑎𝑛𝑐𝑒𝑠

∑𝐷𝑒𝑝𝑜𝑠𝑖𝑡𝑠

Group level figures used III. Return on Equity (ROE)

ROE =𝐸𝑃𝑆

𝑁𝐴𝑉𝑃𝑆

IV. Market Share

Deposits Mkt Share =∑𝐵𝑎𝑛𝑘 𝑆𝑒𝑔𝐴 𝐷𝑒𝑝𝑜𝑠𝑖𝑡𝑠

∑𝐷𝑒𝑝𝑜𝑠𝑖𝑡𝑠

∑ Deposits as given by BoM’s fortnightly ‘Maintenance of Cash Ratio by banks’

Credit Mkt Share =∑𝐵𝑎𝑛𝑘 𝑆𝑒𝑔𝐴 𝐿𝑜𝑎𝑛𝑠

∑𝐿𝑜𝑎𝑛𝑠

∑ Loans as given by BoM’s monthly ‘Consolidated Statement of Sector-Wise Distribution of Credit to the Private Sector’

References

Bank of Mauritius, Monthly Statistical Bulletin, Jul 2012 – Jun 2013.

Bank of Mauritius, Consolidated Statement of Sector-Wise Distribution of Credit to the Private Sector, Jul 2012 – Jan 2013.

Bank of Mauritius, Maintenance of Cash Ratio by Banks, Jul 2012 – Jun 2013.

The Mauritius Commercial Bank Ltd, Annual Report, 2007 – 2012.

Disclaimer AXYS Stockbroking Ltd has issued this document without consideration of the investment objectives, financial situation or particular needs of any individual recipient. Recipients should not act or rely on any recommendation in this document without consulting their financial adviser to determine whether the recommendation is appropriate to their investment of this document. This document is not, and should not be construed as, an offer to sell or the solicitation of an offer to purchase or subscribe for any investment. This document has been based on information obtained from sources believed to be reliable but which have not been independently verified. AXYS Stockbroking Ltd makes no guarantee, representation or warranty and accepts no responsibility or liability as to its accuracy or completeness. AXYS Stockbroking Ltd and its officers, directors and representatives may have positions in securities mentioned in this document, or in related investments, and may from time to time add to or dispose of such securities or investments. AXYS Stockbroking Ltd is a member of the Stock Exchange of Mauritius and is licensed by the Financial Services Commission.

Authors Bhavik Desai Head of Research Melvyn Chung Kai To Trader Vikash Tulsidas Manager

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