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Investment Thesis

Scale has become a very important factor in Indonesia’s banking industry. Before 2015, Indonesian banks, small or big, have been very profitable with many reporting returns on equity north of 15%. That was the time when Indonesia was experiencing high periods of inflation and high economic growth, allowing banks to achieve high Net Interest Margins (NIM) and high loan growth. However, times have changed as during the Jokowi era, we are facing a period of lower inflation (with the government intervening to maintain lower inflation) and lower near-term economic growth as the government focuses on long-term growth drivers. This has pressured banks’ margins, with smaller banks (with high portion of high cost funding) being hurt the most. In addition, in this period, the government accelerated the distribution of Kredit Usaha Rakyat (KUR), which is a subsidised loan for micro businesses distributed by state-owned banks, further hurting the businesses of small banks. The statistics in 2017 showed that loan growth for Buku IV banks (banks with capital exceeding Rp30trillion) was 20%, while smaller bank categories posted low single-digit (1% for Buku III banks) to negative (Buku II & Buku I) loan growth. Hence, to pick the winners in the banking industry, I set my eyes on the biggest banks in the country with a good business and a reasonable valuation. The choice leads to BBNI.

BBNI is building a strong consumer franchise. In 1Q18, its number of outlets grew by 156 from 1997 outlets in 1Q17 to 2153 in 1Q18, in a time where most other banks experience low to negative growth in branches. Number of accounts also grew 51% YoY in 1Q18 to 37.6 million accounts from 24.6million in 1Q17, which is a remarkable achievement for an already large bank. In addition, BBNI is also strengthening its cooperation with e-commerce partners to boost digital transactions and is the pioneer in the Indonesian banking industry in launching a QR code payment system called ‘Yap’. I believe these initiatives will strengthen BBNI’s competitive position and allow them to increase their CASA ratio.

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Meanwhile, loan growth should remain strong up to 2020F. With its strong consumer franchise, BBNI will have the competitive advantage of lower cost of funds compared to smaller banks, allowing them to provide loans at lower interest rates. As a state-owned bank, BBNI can also take advantage of its relationships to secure a larger part of infrastructure loans. In addition, as with others state-owned banks, BBNI has the ability to distribute subsidised KUR loans, with a loan rate of 7% (while the government subsidises 10.55%, bringing the loan yield to 17.55%), an advantage over privately-owned banks.

Earnings Forecast

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Key Drivers – 2018:

  • Loan growth to remain solid amidst the potentially weakening economy due to higher interest rates and a weakening Rupiah
    • High loan growth to come from infrastructure loans which will show at 2H18 – which will lower asset yield but lower credit costs
  • Expect higher Cost of Funds after Bank Indonesia’s 100bps rate hike, and an expectation of further rate hikes as the Federal Reserve looks to continue with rate hikes to 2019
  • NPL ratio and cost of credit to rise as debtors might struggle with a Rupiah which have weakened considerably against the US Dollar, while this will be offset by an increasing portion of infrastructure loans
  • Expense growth at 7.5% driven by 10% growth in General & Administrative Expenses as BBNI continues its branch expansion
  • Strong growth of third party funds at 12% YoY, especially CASA deposits, as BBNI is becoming a stronger consumer franchise

Key Drivers – 2019, 2020

  • Expense growth should fall as branch expansion should be halted and with increased digitalisation of business processes

2018 Target Price: 10150

  • Based on the Gordon Growth Model with 15% sustainable ROE for 2018-2020F, 8% long-term growth rate, and 12% cost of equity: leading to a fair P/BV of 1.75x
  • BBNI will be part of the model portfolio, with a 41% upside from the current price of 7200 in 6 months
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