Corporate News Flash, 2 April 2014

OCBC (OCBC SP)

Neutral (Maintained)

Financial Services - Banks Market Cap: USD26,075m

Target Price: Price:

SGD10.30 SGD9.56 Macro Risks

M&A To Accelerate Growth In Greater China

Growth Value

OCBC (OCBC SP) Price Close

Relative to Straits Times Index (RHS)

11.8

106

11.3

104

10.8

101

10.3

99

9.8

97

9.3

94

8.8 25

92

20

OCBC is making a VGO for WHB shares as part of its strategy to drive growth in its Greater China operations. While WHB will expand OCBC’s Greater China loan book by 81% and raise profit contribution to 16%, the acquisition will likely be EPS- and ROE-dilutive in the near term, with exact impact dependent on the final financing structure. Maintain NEUTRAL on OCBC, as we prefer DBS for exposure to Greater China.

♦

Acquiring WHB at 1.77x P/BV. OCBC has announced a voluntary general offer (VGO) to acquire Wing Hang Bank (WHB) shares at HKD125 per share. Full acceptance of the offer would cost OCBC HKD38.69bn (SGD6.28bn), valuing WHB at 1.77x its book value as at end-2013. This is not particularly attractive given WHB’s ROE of 10.6% and Singapore banks’ 1.2x FY14F P/BV and ROE of 11.2%.

♦

M&A fits its Greater China strategy. The acquisition is in line with management’s strategy to have a bigger presence in Greater China to benefit from Asian mega trends. Based on financials ending 31 Dec 2013, WHB would expand OCBC’s Greater China loan book by c.81% to SGD49.3bn (or 26% of the enlarged entity’s gross loans) and lift pretax profit contribution from Greater China to c.16% from 6% in FY13.

♦

Likely to be dilutive in near term. While management has yet to finalise the funding details, we believe a cash call is necessary to sustain OCBC’s current capital position. Without fresh capital, CET-1 would fall 350bps to 11%. Our calculations suggest neutral impact on EPS if 50% of financing is via a rights issue, which will shave a smaller 180bps off CET-1 to 12.7%, while ROE will dip 30bps to 11.7%. Management expects WHB to be accretive to OCBC’s EPS and ROE by 2017. We are retaining our earnings forecasts for now.

♦

Key risks from this acquisition include: i) execution of strategies to capture offshore CNY flows and growth of its wealth management business, ii) management of OCBC’s capital position, and iii) a deterioration in WHB’s asset quality, particularly its property loans.

♦

Maintain NEUTRAL. OCBC’s share price is down 6.3% YTD and is currently trading at -1SD historical P/BV. At this level, we believe the market has priced in the WHB acquisition and its near-term dilution impact. Maintain NEUTRAL and SGD10.30 FV. We prefer DBS (DBS SP, BUY, FV: SGD19.20) for exposure to Greater China prospects.

15

Feb-14

Dec-13

Oct-13

Aug-13

Jun-13

5

Apr-13

Vol m

10

Source: Bloomberg

Avg Turnover (SGD/USD) Cons. Upside (%) Upside (%) 52-wk Price low/high (SGD) Free float (%) Shareholders (%) Selat Aberdeen

40.8m/31.4m 10.9 7.7 9.09 - 11.2 73

11.5 7.7

Shariah compliant

Forecasts and Valuations

Dec-11

Dec-12

Dec-13

Net interest income (SGDm)

3,410

3,748

3,883

4,170

4,360

Reported net profit (SGDm)

2,312

3,993

2,768

2,983

3,207

2.6

72.7

(30.7)

7.8

7.5

2,312

2,825

2,768

2,983

3,207

Recurring EPS (SGD)

0.68

0.82

0.80

0.87

0.93

DPS (SGD)

0.30

0.33

0.34

0.36

0.38

Recurring P/E (x)

14.0

11.6

11.9

11.0

10.3

P/B (x)

1.46

1.27

1.31

1.23

1.16

Net profit growth (%)

Singapore Research, +65 6533 0781 [email protected]











Recurring net profit (SGDm)

Dividend Yield (%)

Dec-14F

Dec-15F

3.1

3.4

3.5

3.8

4.0

Return on average equity (%)

10.7

16.5

10.9

11.5

11.7

Return on average assets (%)

0.9

1.4

0.9

0.9

0.9

4.0

1.3

Our vs consensus EPS (%)

Source: Company data, OSK-DMG estimates

See important disclosures at the end of this report

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1

OCBC (OCBC SP) 2 April 2014

M&A To Accelerate Growth In Greater China Acquiring WHB at 1.77x P/BV. OCBC announced that it is making a voluntary conditional cash offer to acquire the entire issued capital of Wing Hang Bank (WHB) at HKD125 per share (WHB’s pre-suspension price is HKD123) and to cancel all outstanding options and unvested awards. Based on the 307.4m WHB shares in issue, the cash offer would amount to HKD38,428m (SGD6,234m), while consideration for cancellation of all options and unvested awards would be approximately HKD260m (SGD42m). Full acceptance of the offers would cost OCBC a total of HKD38,688m (SGD6,276m), valuing WHB at 1.77x book value as at end-2013. Although this is slightly lower than earlier reported price tag of “less than 2x P/BV”, this valuation multiple is not attractive given WHB’s ROE of 10.6% and ROA of 1.06%. Singapore banks are currently valued at 1.2x FY14F P/BV, with ROE of 11.2% and ROA of 0.93%. In our view, the price tag incorporates a scarcity premium given that WHB is one of four remaining family-owned banks in Hong Kong. As at 31 March 2014, OCBC received irrevocable undertakings for approximately 50.66% of WHB’s issued share capital – 20.76% from BNY International Financing Corporation, 24.03% from the Fung family, and 5.87% from Aberdeen Asset Management Asia Ltd. The VGO is expected to close in Aug 2014. WHB focuses on retail banking in HK and Macau, SME financing in China. WHB is the eighth-largest bank in Hong Kong and sixth-largest in Macau by total loans. It has a network of 70 branches in Hong Kong (42 branches), Macau (13) and Mainland China (15). In FY13, the bank derived 77.5% of pretax profit from Hong Kong, 16.6% from Macau and 6.8% from China. In Hong Kong, retail banking accounted for 54.6% of its total profit, while treasury comprised 32.7% and corporate banking 12.7%. In Macau, WHB is focused mainly on retail banking while in Mainland China, it has a good franchise in SME financing. WHB has also carved a niche in auto and equipment financing in Hong Kong and Macau. As at end-2013, Hong Kong accounted for 66.5% of gross loans, Mainland China at 19.1%, Macau at 13.7% and others at 0.7%. In Hong Kong, WHB has high exposure to the property sector – home mortgages made up 28.6% of loans, property investment at 22.6% and property development at 2.6%. However, asset quality appeared healthy with sector’s gross impaired loans ratio at a low 0.01% at end2013. Instead, Mainland China loans had a higher impaired loans ratio of 1.5%. Figure 1: WHB – Loans by geography, Dec 2013

Figure 2: WHB – PBT by geography, FY13

Others 0.7%

Macau 15.7%

Macau 13.7% China 6.8%

China 19.1% Hong Kong 66.5%

Source: WHB, OSK-DMG estimates

Hong Kong 77.5%

Source: OCBC, OSK-DMG estimates

Acquisition to augment Greater China strategy. Currently, OCBC has one branch in Hong Kong and another in Taiwan, while its wholly-owned OCBC Bank (China) has 16 branches and sub-branches in China. Its private banking unit, Bank of Singapore, has a branch in Hong Kong. The acquisition of WHB ties in with management's strategy to grow OCBC’s business by riding on Asian mega trends of increasing intra-Asian trade flows, Hong Kong's growing importance as a financing centre for China, and rising wealth among Asians. For management, rationale for the acquisition includes: See important disclosures at the end of this report

2

OCBC (OCBC SP) 2 April 2014 i) WHB’s expertise in SME banking in Greater China (China, Hong Kong, Taiwan and Macau) will complement OCBC China’s current focus on corporate banking; ii) WHB’s stronger presence in Hong Kong will provide OCBC with significant opportunities in private banking for Bank of Singapore; iii) WHB will offer OCBC an established franchise and a sizeable platform to grow its CNY-denominated businesses; iv) OCBC will have expanded scale in product capabilities, network size, customer base and market coverage with minimal duplication; and v) Opportunities for cross-selling wealth and bancassurance products and services to WHB’s affluent retail customers and SME clients. Figure 3: Trade flow between Greater China and selected SEA countries

Figure 4: Investment flow between Greater China and selected SEA countries

Source: CEIC, OCBC

Source: CEIC, OCBC

Financial impact Profit from Greater China could rise to 16% from 6%. Based on its financials ending 31 Dec 2013, WHB would expand OCBC’s Greater China gross loan by c.81% to SGD49.13bn (or 26% of the enlarged entity’s gross loans) and lift pretax profit contribution from Greater China to c.16% from 6% in FY13. OCBC's Greater China loans grew at a CAGR of 31.6% between FY08 and FY13, while pretax profit from Greater China increased at a CAGR of 83% between FY10 and FY13. In FY13, Greater China accounted for 16% (FY08: 8%) of OCBC's loans and 6% (FY10: 1.2%) of group pretax profit. DBS Group derived 26% of group profits from Greater China while loans from this region made up 36% of its total loans. Figure 5: OCBC – Loans by geography, Dec 2013

Figure 6: OCBC – Loan growth by geography, 2008-13 (SGD bn) 180.0

Other AsiaPac 5%

RoW 8%

169.6 10.0

160.0

5.1 20.3

140.0 7.3

Greater China 16%

Singapore 49%

Indonesia 7% Malaysia 15%

10.9

120.0 100.0

34.6 81.3

80.0 60.0 40.0 2008

Source: OCBC, OSK-DMG estimates

See important disclosures at the end of this report

SG

MY

ID

Greater China

Other AsiaPac

RoW

2013

Source: OCBC, OSK-DMG estimates

3

OCBC (OCBC SP) 2 April 2014 Figure 7: OCBC – PBT by geography, FY13 Greater China 6%

Figure 8: OCBC – PBT by geography, FY08-13 (SGD m) 4,000

Other AsiaPac RoW 2% 2%

S'pore

M'sia

Indonesia

Greater China

3,500

Indonesia 5%

264

RoW

208

3,000 34 -

2,500 2,000 Malaysia 26%

Other AsiaPac

Singapore 59%

1,500

-

812

916

773

800

519

1,000 500

195

768

1,244

1,594

1,958

2,264

2,091

2012

2013

1,710

2008

2009

2010

2011

(500)

Source: OCBC, OSK-DMG estimates

Source: OCBC, OSK-DMG estimates

CET-1 to fall unless fully funded by fresh equity. Before taking into account any external funding, management expects the acquisition to cut OCBC’s CET-1 to 11% from 14.5% (Dec 2013), while total capital adequacy ratio (CAR) would be lowered to 12.5% from 16.3%. OCBC intends to utilise a funding mix of internal resources and raising new debt and equity capital to maintain capital ratios at prudent levels. Management guided that it will finalise funding plans after it has a clearer indication on the level of acceptance for its VGO. We believe a rights issue is inevitable in order to maintain its capital position. Already, OCBC’s fully-loaded CET-1 of 10.9% at end-2013 is the lowest compared with DBS Group’s 11.9% and UOB’s 12.5%. Assuming OCBC gains full control of WHB and undertakes a rights issue to raise SGD3,308m (50% of total consideration), our calculations point to a CET-1 of 12.7% (a 180bps drop). CET-1 would remain at 14.5% should the acquisition be fully funded via fresh equity. EPS unchanged but ROE to dip, if financed 50% by rights issue. According to management, a low hanging fruit from the acquisition would include cross-selling of treasury, wealth management and bancassurance products and services. That said, management believes WHB would only be accretive to OCBC’s EPS and ROE by 2017. Assuming the acquisition is 50% funded by fresh equity, the rights shares are issued at a 10% discount, WHB sustains a net profit of HKD2.19bn as in FY13, and excluding merger synergies and integration costs, our calculations suggest EPS can be sustained at SGD0.85 but ROE would dip slightly to 11.7%. However, should the acquisition be funded entirely by a rights issue, EPS would be lowered by 7% while ROE would fall to 11.2% from 12%. Figure 9: Summary of financial impact from acquisition of WHB

Existing CET-1 as at 31 Dec 2013 EPS (SGD) - FY14F ROE - FY14F BVPS (SGD) - FY14F

Cash Only

Mode of Financing 50% Cash: 50% Rights

100% Rights

14.50%

10.90%

12.70%

14.50%

0.85

0.96

0.85

0.79

12.0%

12.6%

11.7%

11.2%

7.36

7.86

7.92

7.98

Source: OSK-DMG estimates

See important disclosures at the end of this report

4

OCBC (OCBC SP) 2 April 2014 Figure 10: Summary of merged group

Source: OCBC

Figure 11: SG banks – Relative price performance since 2013 22%

DBS

OCBC

UOB

Figure 12: SG banks – Relative price performance, Aug 2013 YTD 15%

FTSSI

17%

DBS

OCBC

UOB

FTSSI

10% DBS

DBS

12% UOB

5% 7%

-10%

Source: Bloomberg, OSK-DMG estimates

Figure 13: OCBC – 12M FWD P/E valuation

Figure 14: OCBC – 12M FWD P/BV vs ROE valuation

Fwd PER

Mean

+1 sd

2.3x

-1 sd

Fwd PBV

Mean

+1 sd

-1 sd

14.0

ROE (% RHS)

13.5

2.1x

19.0x

13.0

1.9x

17.0x 15.1x

15.0x

1.7x

12.5

1.5x

12.0

1.7x 1.5x

12.7x

13.0x

28-Mar-14

OCBC

Source: Bloomberg, OSK-DMG estimates

21.0x

14-Mar-14

14-Feb-14

31-Jan-14

17-Jan-14

3-Jan-14

20-Dec-13

6-Dec-13

22-Nov-13

8-Nov-13

25-Oct-13

11-Oct-13

27-Sep-13

-5%

STI

-8%

13-Sep-13

30-Aug-13

Jan-14

Feb-14

Dec-13

Nov-13

Oct-13

Sep-13

Aug-13

Jul-13

Jun-13

May-13

Apr-13

Mar-13

Feb-13

Jan-13

-3%

Dec-12

2%

STI

0%

28-Feb-14

UOB OCBC

11.5 1.3x

11.0x

10.3x

1.2x

1.1x

9.0x

11.0 10.5

0.9x

10.0

Source: Bloomberg, OSK-DMG estimates

See important disclosures at the end of this report

Jul-13

Jan-14

Jan-13

Jul-12

Jul-11

Jan-12

Jan-11

Jul-10

Jan-10

Jul-09

Jul-08

Jan-09

Jan-08

Jul-07

Jan-07

Jul-06

Jul-05

Jan-06

Jan-05

Jul-04

Jan-04

Jan-14

Jul-13

Jan-13

Jul-12

Jul-11

Jan-12

Jan-11

Jul-10

Jul-09

Jan-10

Jan-09

Jul-08

Jan-08

Jul-07

Jan-07

Jul-06

9.0

Jan-06

0.5x Jul-05

5.0x Jan-05

9.5

Jul-04

0.7x

Jan-04

7.0x

Source: Bloomberg, OSK-DMG estimates

5

OCBC (OCBC SP) 2 April 2014

Recommendation Chart Price Close 10.3

10.9

9.6

10.6

8.8

8.5

11

8.5 8.5

11.1 8.7 8.3 10.1

10.6

9.6

Recommendations & Target Price

9.0

12

NR

13

8.6

10 9 8 7 6 Buy 5 Apr-09

Neutral

Sell

Jul-10

Trading Buy

Oct-11

Take Profit

Not Rated

Jan-13

Source: OSK-DMG estimates, Bloomberg Date

Recommendation

2014-02-17

Neutral

Target Price Price 10.3

9.5

2013-11-04

Neutral

10.9

10.5

2013-08-05

Neutral

10.6

10.9

2013-05-02

Neutral

10.6

10.9

2013-02-15

Neutral

9.6

10.0

2013-02-15

Neutral

8.8

10.0

2012-11-09

Neutral

8.8

9.1

2012-08-08

Neutral

8.6

9.3

2012-08-04

Neutral

8.6

9.4

2012-08-02

Neutral

8.6

9.4

Source: OSK-DMG estimates, Bloomberg

See important disclosures at the end of this report

6

DMG & Partners Research Guide to Investment Ratings Buy: Share price may exceed 10% over the next 12 months Trading Buy: Share price may exceed 15% over the next 3 months, however longer-term outlook remains uncertain Neutral: Share price may fall within the range of +/- 10% over the next 12 months Take Profit: Target price has been attained. Look to accumulate at lower levels Sell: Share price may fall by more than 10% over the next 12 months Not Rated: Stock is not within regular research coverage DISCLAIMERS This research is issued by DMG & Partners Research Pte Ltd and it is for general distribution only. It does not have any regard to the specific investment objectives, financial situation and particular needs of any specific recipient of this research report. You should independently evaluate particular investments and consult an independent financial adviser before making any investments or entering into any transaction in relation to any securities or investment instruments mentioned in this report. The information contained herein has been obtained from sources we believed to be reliable but we do not make any representation or warranty nor accept any responsibility or liability as to its accuracy, completeness or correctness. Opinions and views expressed in this report are subject to change without notice. This report does not constitute or form part of any offer or solicitation of any offer to buy or sell any securities. DMG & Partners Research Pte Ltd is a wholly-owned subsidiary of DMG & Partners Securities Pte Ltd, a joint venture between OSK Investment Bank Berhad, Malaysia which have since merged into RHB Investment Bank Berhad (the merged entity is referred to as “RHBIB” which in turn is a whollyowned subsidiary of RHB Capital Berhad) and Deutsche Asia Pacific Holdings Pte Ltd (a subsidiary of Deutsche Bank Group). DMG & Partners Securities Pte Ltd is a Member of the Singapore Exchange Securities Trading Limited. DMG & Partners Securities Pte Ltd and their associates, directors, and/or employees may have positions in, and may effect transactions in the securities covered in the report, and may also perform or seek to perform broking and other corporate finance related services for the corporations whose securities are covered in the report. This report is therefore classified as a non-independent report. As of 1 April 2014, DMG & Partners Securities Pte Ltd and its subsidiaries, including DMG & Partners Research Pte Ltd, do not have proprietary positions in the subject companies, except for: a) As of 1 April 2014, none of the analysts who covered the stock in this report has an interest in the subject companies covered in this report, except for: a) DMG & Partners Research Pte. Ltd. (Reg. No. 200808705N)

Kuala Lumpur

Hong Kong

Singapore

Malaysia Research Office RHB Research Institute Sdn Bhd Level 11, Tower One, RHB Centre Jalan Tun Razak Kuala Lumpur Malaysia Tel : +(60) 3 9280 2185 Fax : +(60) 3 9284 8693

RHB OSK Securities Hong Kong Ltd. (formerly known as OSK Securities Hong Kong Ltd.) 12th Floor World-Wide House 19 Des Voeux Road Central, Hong Kong Tel : +(852) 2525 1118 Fax : +(852) 2810 0908

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Jakarta

Shanghai

Phnom Penh

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RHB OSK (China) Investment Advisory Co. Ltd. (formerly known as OSK (China) Investment Advisory Co. Ltd.) Suite 4005, CITIC Square 1168 Nanjing West Road Shanghai 20041 China Tel : +(8621) 6288 9611 Fax : +(8621) 6288 9633

RHB OSK Indochina Securities Limited (formerly known as OSK Indochina Securities Limited) No. 1-3, Street 271 Sangkat Toeuk Thla, Khan Sen Sok Phnom Penh Cambodia Tel: +(855) 23 969 161 Fax: +(855) 23 969 171

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7