Zenith Bank: Investors in mixed reaction to good results

Last week shareholders of Zenith Bank Plc endorsed the annual account and dividend proposals of the directors amidst fanfare. But stock market feelers indicated that the investors were both impressed with the 2016 results and at same time have mixed feelings over the aborted capital raise earlier proposed by the directors.

In spite of the challenging domestic macroeconomic environment, the bank had doled out N63.4 billion as dividend to its 31.4 million shareholders, translating into 202 kobo per share, compared to N56.5 billion last year for 2015 financial results.

The shareholders were expected to be happy considering the tough times companies operated in 2016. But a closer watch indicated that though the results beat recessionary economy, the dividend returns to shareholders which increased by 12.2 per cent was behind in inflation rate benchmarking significantly.

Coupled with the low year-to-date (YtD) secondary market returns, at 3.8 per cent last weekend, average returns to investors appeared muted over the year.

Impressive top-line and bottom-line figures

Financial Vanguard feelers in the past one month which came to a head last week indicated that the impressive top-line and bottom-line figures may have been further dampened by capital raise controversy.

While some investors were looking forward to a Zenith primary market offer as an opportunity to take position in a company that holds so much promises in its consistency as an outperformer, some also wondered if the capital raise was designed as a counterpoise to a capital erosion arising from significant rise in non-performing loan (NPL). But the bank had already explained that the present economic situation may undermine the success of the capital raise, targeted at pulling in N100 billion into the bank’s capital base.

Nevertheless, the share price had to suffer investor apathy despite the hurray that followed the 2016 full year results. The share price which had recovered from a mark down for dividend payment later received a bear run up till last weekend.

However, most analysts believe that Zenith Bank’s fundamentals were still strong enough to withstand present instabilities in the financial markets including equities. The bank delivered a solid growth in gross earnings, supported by interest income and foreign exchange (FX) gains. Also, a combination of robust gross earnings and improvement in operating efficiency translated into a remarkable growth in bottom-line.

Analysts at WSTC Financial Services Limited estimate a fair value of N21.55 with a forward earnings per share (EPS) of N3.59 per share. The stock closed last weekend at N13.49.

FX gains boost earnings performance

The bank’s gross earnings grew by 17 per cent year-on-year, YoY, to N508billion against 2015 (FY‘15) figure of N433 billion, driven by ample increases across income lines. Interest income recorded an impressive YoY growth of 10 per cent to N385billion, on the back of growth in income from government securities during the period.

Also, non-interest income, driven primarily by (realized and unrealized) FX gains of N45.7billion grew by 46 per cent to N123.4billion.

Interest expense, however, increased by 17 per cent to N144billion, as a result of the elevated yield environment of the money market and the impact of currency devaluation on foreign currency borrowings. The increase in cost of funds to 4.15 per cent suppressed the growth in net interest income. Net interest income increased by just 7.0 per cent to N240billion, resulting in a decline in net interest margin to 7.4 per cent as against FY 2015 level of 8.1 per cent.

A huge imprint of the economic difficulties on the bank’s books could be seen in the sizable impairment charge of N32.4billion on loan losses as against FY‘15 figure of N15.7billion as NPL spiraled massively by 61 per cent to N71billion as against FY‘15 figure of N44billion with NPL ratio rising to 3.02 per cent as against FY‘15 record of 2.18 per cent. The impairment provision was mainly contributed by Power, Oil & Gas and General Commerce.

However, the bank improved on operating efficiency as operating expense grew by just 3.1 per cent to N96.4billion as against FY‘15 figure of N89.9billion, impacting positively on cost to income ratio, which declined to 52.7 per cent compared to 57.2 per cent recorded in 2015.

2017 Outlook: Analysts view

Zenith Bank’s financial reports are always sensational to both investors and analysts.

Analysts at WSTC stated: “Barring a recurrence of significant depreciation in the value of the Naira, we expect a modest growth in gross earnings in FY 2017, and our view is premised upon expectation of moderate growth in interest income, higher interest expense and weaker non- interest income.

“Growth in interest income is expected to be primarily supported by elevated yields on fixed income securities, as we expect a conservative loan book growth due to high credit risk. We expect a risk asset growth of 7% (FY 2016: 15%), which should be driven mainly by domestic currency loans.

“We expect higher interest expense to subdue growth in net interest income and margin. We believe the high yield environment will continue to keep the cost of funds high. “In addition, we see the newly introduced FGN savings bond as a potential downside risk to the cost of retail borrowings and we note that this may further worsen the crowding out effect on consumer deposits, resulting in higher cost of funds.

“We do not expect non-interest income to boost gross earnings as much as was recorded in FY 2016 considering the relative stability in the FX market and low scope for FX gains. Consequently, we expect a decline in non-interest income from N123.4billion in 2016 to N102.6billion in FY 2017.

“Based on the foregoing, we expect bottom-line growth to be impacted by a marginal growth in top-line, as well as a sizable provision for loan losses (albeit lower than provisions in FY 2016). We expect non-performing loans to be driven by impairment charge on loans in Power and Communications in FY 2017.

“We adopted a blended valuation approach, using a combination of absolute and relative valuation methods in estimating our fair value of Zenith Bank. The initial year cost of equity estimate of 21.3% was computed using a 10-year risk-free rate of 15.89%, beta of 0.95 (relative to the NSE ASI) and an equity risk premium of 5.69%. Thus, we arrived at a fair value estimate of N21.55 per share.

“At the current market price of N13.60, Zenith presents a 58% upside potential to our fair value estimate; hence, we rate Zenith a ‘BUY’.”

Management Pulse

According to its presentations at the backdrop of the 2016 performance reports, in 2017 the bank stated that it holds out a strategy to drive its vision in the banking industry as follows:

“Compete aggressively for market share, but focus on high quality assets and top-end relationships while adopting cost reduction strategies.

“Delivering superior service experience to all clients and customers by consistent focus and investment in attracting and keeping quality people; Employing cutting edge technology and; Deploying excellent customer service.

“Develop specific solutions for each segment of our customers’ base by leveraging our capabilities and brand strength to consistently meet our clients’ needs and developing a strong Zenith Bank platform to serve as an integrated financial solutions provider to our diverse customers base.

“We are taking advantage of our liquidity in Naira and foreign currencies to optimize our yields in the FX and money markets.”

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