October 6, 2020

HC: Egypt financials – Outperform on sturdy NBFS growth

Norway

HC Brokerage recently updated the market on Egypt financials and their NBFS resilient performance. HC stated that EFG Hermes is their top pick on regional exposure and higher potential return.

  • Private sector rebound witnessed in 1Q20 relapsed due to low visibility on the future development of the pandemic in our view, while we expect interest rate stability over the rest of 2020

  • Despite our 2020e earnings downward revision, NBFS are showing high resilience with companies under our coverage seeking profitable investments and synergies with commercial banks

  • We decrease our 12-month TP for EFG Hermes by c10% to EGP21.1/share and for CI Capital by c23% to EGP4.59/share on downward earnings’ revision, while maintain Overweight for both. EFG Hermes is our top pick on regional exposure and higher potential return

Monette Doss, head of macro and financials commented: “Low visibility on the future development of the pandemic dilutes 1Q20 private sector rebound, in our view, while we expect interest rate stability over the rest of 2020: Private consumption grew 5.3% y-o-y in 3Q19/20, the highest level since FY12/13. Another significant development during 9M19/20 was private investment growing 14.1% y-o-y, outpacing government investments which declined by 4.5% y-o-y. Both developments confirm our earlier expectation that the private sector’s contribution to economic growth should gain traction following the materialization of the easing cycle and the completion of Egypt’s economic reform program. Since the outbreak of the pandemic, the government demonstrated efforts to support the private sector through giving a monthly allowance to daily workers, in addition to decreasing natural gas prices to USD4.5/mmbtu for industrial users from USD5.5/mmbtu previously and reducing electricity prices by EGP0.1/KWh for medium, high and ultra-high voltage users, and fixing electricity tariffs for other industrial users for a period of 3–5 years and directing financial support to the healthcare and tourism sectors. Moreover, the Central Bank of Egypt (CBE) undertook rate cuts of 300 bps in March and another 50 bps in September, decreased interest on its EGP100bn subsidized loan initiative to the industrial sector to a declining interest rate of 8% from 10% previously and extended the initiative to include the agricultural and contracting sectors, delayed loan repayment for all credit clients for 6 months and canceled fees on electronic transactions for 6 months. Going forward, the government is currently looking into methods to support industrial growth through further reduction of natural gas prices to possibly USD3.0/mmbtu and revamping the export rebate program. The CBE is also looking into doubling its industrial initiative to EGP200bn and following the expiry of the 6-month loan repayment grace period in September, the CBE requested banks to restructure loans for all credit clients according to their expected future cash flows without imposing additional financial strain on them. Despite low consumption spending, lagging investment growth and high real interest rate environment, we expect policy rates to remain stable around current levels due to relatively low interbank liquidity and also in order to support the domestic currency.”

“Despite declining 2020e revenue, NBFS are showing high resilience with companies under our coverage seeking profitable investments and synergies with commercial banks: At the sector level, new leasing contracts were slashed by c43% y-o-y in 2Q20, however it grew c13% y-o-y in 1H20 to EGP25.7bn with net leasing portfolios for EFG Leasing and CI Capital’s Corplease growing c25% y-t-d and c22% y-t-d, respectively, to EGP3.8bn and EGP8.4bn, as of June. Hence we estimate 2020–24e net leasing portfolio CAGR of c22% and c18%, respectively, for the 2 companies. Corridor rate cuts accompanied with the CBE initiatives to provide different businesses with subsidized loans resulted in compressed NIMs for both companies under our coverage to an average 4.3% in 2Q20 down from 5.5% in 2019. The compressed NIMs happened sooner than we initially expected as we were expecting a more gradual decline over our 2020-24e forecast period. We downward revise our 2020–24e net profit estimates for both EFG Leasing and Corplease by an average of 23% and 27%, respectively, due to higher than previously expected provisioning, on possibly higher NPLs and lower NIMs. For the microfinance business, sector-wide loans grew c25% y-o-y to EGP17.2bn in 2Q20, down only c4% q-o-q due to lockdowns during most of 2Q20 with a penetration rate of c7%, on our calculations. For EFG Hermes’ Tanmeyah, its loan book remained flat y-o-y in 1H20 at EGP3.3bn (before securitizing EGP540m of its loan book in 2Q20), while CI Capital’s Reefy saw its loan portfolio grow c25% y-o-y to EGP783m in 1H20, mainly due to a favorable base effect. Accordingly, we downward revise our 2020e loan book estimates for Tanmeyah by c11% implying flat y-o-y growth and for Reefy by c5% implying a growth of c44% y-o-y. Over our 2020–24e forecast period we expect NIMs for both companies to gradually decline by an average of 530 bps due to higher competition. We downward revise our 2020–24e net profit estimates by an average c16%–c21%, for Reefy and Tanmeyah, respectively, on higher than previously expected provisioning and lower fees and commissions. Despite the economic downturn taking its toll on brokerage, advisory and asset management revenue, the firms under our coverage sought expansions in the high potential educational sector through EFG Hermes’ GEMS Egypt for Education Services (a JV between GEMS Education and Egypt Education Fund managed by EFG Hermes), and CI Capital’s 16.5% stake in Taaleem Services Management Company, owner of the Nahda University. Both firms are also seeking synergies with commercial banks, with EFG Hermes and the Sovereign Fund of Egypt (SFE) currently conducting a due diligence to acquire 51% and 25% stakes, respectively, in Arab Investment Bank (AIB) through a EGP5.0bn capital increase. The acquisition will help EFG Hermes secure a stable revenue stream smoothing out the high volatility in its IB business, acquire funding for its NBFS platform at favorable terms and deploy a part of its excess cash to a profitable investment and, on the other hand, support AIB capitalization. This will allow for future growth and the compliance of AIB to the CBE’s minimum capital requirements. The deal could occur at 2020e P/B of 1.0x–1.2x, in our view, leading to a deal value of EGP2.6–2.7bn for EFG Hermes, representing c42% of its excess cash, based on our calculations. For CI Capital, Banque Misr acquired 24.7% stake in the company which will also help the firm get favorable funding for its NBFS activities in addition to giving the commercial bank exposure to the highly profitable NBFS market. As a manifestation of the high-growth potential of NBFS, the Egyptian Exchange (EGX) is expected to see some 4 NBFS initial public offerings (IPOs) slated for 2021, namely: (1) Raya Holding’s (RAYA EY) subsidiary Aman for Financial Services, (2) Ebtikar, a JV between MM Group for Industry and International Trade (MTIE EY) and B Investments (BINV EY) or one of its subsidiaries, (3) one of the subsidiaries of Sarwa Capital (SRWA EY), and (4) one of the financial subsidiaries of Orascom Financial Holding (OFH) that will emerge from the demerger of Orascom Investment Holding (OIH EY).” Monette Doss added.

HC’s head of macro and financials concluded: “We decrease our 12-month TP for EFG Hermes by c10% to EGP21.1/share and for CI Capital by c23% to EGP4.59/share on downward earnings’ revision, while maintain Overweight for both. EFG Hermes is our top pick on regional exposure and higher potential return: We value both companies using a SOTP methodology with an excess return model for their core operations and, for EFG Hermes, we add the company’s excess cash and non-operating assets while completely writing off its 8.813% stake in Credit Libanais. For CI Capital, we value Taaleem using a DCF methodology applying a beta of 1, up from our previous education sector average beta of 0.6, to account for the current risky market conditions. For both firms we use a cost of equity applying our forecast for 12-month T-bill yields leading to an average cost of equity of 17.5%. For EFG Hermes investment bank, our base assumption for the cost of equity is a weighted average of Egypt and the MENA region based on geographical revenue contribution leading to an average cost of equity of 11.9%. Individually, we value EFG Leasing at EGP0.84/share (c15% lower than our previous estimate) and CI Capital’s Corplease at EGP2.06/ share (c25% lower than our previous estimate) putting the businesses at a 2020e P/E multiple of 16.2x and 10.1x, respectively. For the microfinance, we value EFG’s Tanmeyah at EGP2.83/share (c8% lower than our previous estimate) and CI Capital’s Reefy at EGP0.90/share (c13% lower than our previous estimate), putting the businesses at a 2020e P/E multiples of 16.8x and 9.17x, respectively. For the investment banks, we value EFG Hermes at EGP8.72/share (almost the same as our previous estimate) and CI Capital at EGP0.92/share (c30% lower than our previous estimate on lower expected earnings). For EFG Hermes, we then add the company’s excess cash position, 2020e dividends (net of tax), and investment property valued at around EGP6.71bn, or EGP8.73/share (c17% lower than our previous estimate as we exclude Credit Libanais from our valuation). We calculate it as the company’s total cash position, add available net receivables and remove seed capital. Finally, we add the company’s 2020e revenue from treasury capital market operations. For CI Capital, we value Taaleem at EGP0.71/share (c14% lower than our previous estimate on a higher beta) putting the business at 2020e EV/EBITDA of 15.1x, 2.06x its acquisition value. For EFG Hermes, the NBFS platform makes up c17% of the stock’s total value, the investment bank c41%, with cash and non-operating assets (NOA) accounting for the remaining c42%. These sum up to a 12-month target price of EGP21.1/share, which yields a potential return of c62% on the 27 September closing price of EGP13.0/share. We therefore maintain our Overweight rating on EFG Hermes Holding. For CI Capital, the NBFS platform makes up c65% of the stock’s total equity value, the investment bank c20%, with Taaleem accounting for the remaining c15%. These sum up to a 12-month target price of EGP4.59/share, which yields a potential return of c35% on the 27 September closing price of EGP3.39/share. We therefore maintain our Overweight rating on CI Capital. For EFG Hermes, our 12-month TP of EGP21.1/share puts the stock at a 2020e P/E multiple of 20.1x and a P/B multiple of 1.22x, while it is trading at 2020e P/E and P/B of 12.4x and 0.75x, respectively. For CI Capital, our 12-month TP of EGP4.59/share puts the stock at a 2020e P/E multiple of 11.8x and a P/B multiple of 1.54x, while it is trading at 2020e P/E and P/B multiples of 8.73x and 1.14x, respectively.”