Millennium BCP
is the second biggest bank in Portugal with over ~18% and ~17.5% share of loans and
customer deposits respectively. More than 72% of its assets are Portugal based,
with the rest located principally in Poland, Angola and Mozambique. Like most European
banks, and Southern European banks in particular, it has had a torrid few
years, with concerns
over capital adequacy due to mounting debt and NPLs. It has not yet managed to
recover from two bank rescues by the state in 2014 and 2015 and concerns
continue to exist over capital levels and risk of big write downs in future
owing to NPLs. In spite of undergoing major capital increases in 2012, 2014 and
2015, its shares are down by ~65% year to date, and currently trade at ~26%
Tangible Book Value (TBV).
Key Stats
Investment case
I believe that BCP’s share price is at or close
to its trough and at ~26% TBV offers good upside potential with decent downside
protection. My investment case is built on the following indicators:
Profitability showing a positive trend - Pre-Provision
income has stabilised, with net interest income showing an upward trend; the
bank made €850m in operating profits for the 9 months to Sep16 and average
pre-provision income for the last 4Qtrs has been €256m. I forecast the bank to
make just over €1000 in pre-provision income for FY17.
One of the best Cost to income ratios among
peers
- The bank has done a commendable job in controlling costs, with cost to income
ratio having fallen from 85% to 50% between 2013 and 2016. Cost to net
operating revenues has average 48.5% over the last 4 Qtrs.
NPLs showing downward trend with robust coverage
at 99% - NPE’s have consistently shown a downward trend, having
fallen from €12,783m in Dec13 to €9,257 in Sep 16 (a fall of 27.6%). NPE’s currently
stand at 18% of gross loans and have a robust coverage ratio of 99% due to the
bank having taken some hefty provisions of late. I believe that the bank must
be applauded for such robust provisioning and the 99% coverage provides comfort
on future earnings bar a disastrous spike in NPEs and provisions. The made a
€251m net loss for the 9 months to Sep 2016 of the back of hefty impairments
and provisions to bring the coverage ratio to 99% (this in spite of having made
€850m in pre-provision income). Commenting on the hefty impairment and
provision charge, CEO
Nuno Amado said 2016 was "absolutely unusual in terms of
impairments", which should not happen again.
The other key metric I look for in a distressed bank is the trend
in loans overdue for more than 90 days. For BCP, this shows a downward trend with robust coverage.
Overall trend in NPEs and total coverage in the banks's Portuguese business
Positive trend
in other KPIs – Other Key Performance Indicators showing a positive trend
with net loans as a percentage of customer funds standing at 97%; ECB funding
usage down by a billion to €4.9bln against prior year comparable period; and
number of customers showing a solid 6% growth in the 9 month to Sep16 and now
standing at 5.4 million.
Portuguese economy showing positive signs – After years of
painful structural reforms, the Portuguese economy has been showing positive
GDP growth since FY14 (with GDP growth projected at 1.4% for FY16); unemployment
is expected to fall to 11.4% in FY16 compared to the height of 16.8% in FY12;
and current account balance as a % of GDP has been positive for the past few
years.
Valuation
I forecast FY17 pre-provision income of
€1,022m. Net income will largely depend on the level of impairment and
provisions, but given the robust 99% coverage ratio and significant impairments
booked in current and prior years, I believe that net income should be in the range
of €206m to €343m, giving a Forecast ROA in the range of 0.28% to 0.47%.
European banks current trade at average Price
to Earnings ratio of 10.5x and Price to Book of 0.77x. Even allowing a 20% -
30% knock down in the PE ratio for BCP (for the more risky south European bank), I get a per share value of €2.23 for an 80% return to current
share price.
Other matters
Forsun’s investment – The Chinese
conglomerate Forsun has offered to buy new equity in the bank amounting to a
16.7% stake at current price (plus a potential premium). This should rise
additional ~€189m of equity and add a long-term investor to the share register.
Forsun has further expressed interest in increasing its stake to 30% though
secondary market purchases (or in the event of capital increases). Although I
don’t know much about Forsun – other than the fact that it has been a hyper
active acquirer of late – overall, this investment could be taken as a positive
sign.
€750m of bonds due for repayment - The bank has expressed
its intention to repay the €750m of contingent convertible bonds due to the
Portuguese State by June 2017. Given the current trend in operating profits,
including the Forsun cash, I believe that this should be easily achievable bar
a disastrous happenstance with NPE’s or impairments.
Conclusion
With its positive trend in operating profits, downward
trend in NPEs combined with a robust coverage ratio at 99% of NPEs, and with decent uptick
in Portuguese macroeconomic indicators, shares in BCP, which currently trade at a cheap 26% of TBV, offer a good upside potential. Bar a disastrous rise in NPEs
and impairments, downside appears to be limited.
