Hong Leong Bank‘s 1H FY09 net profit of RM499 mn (+24% YoY) represents 69% of CS‘s and 64% of street‘s full-year estimates. Earnings exceeded our expectations due largely to stronger-than-expected non-interest income, lower LLP and contributions from its newly acquired Bank of Chengdu Co Ltd.

1H net profit growth (+24% YoY, +47% HoH) was driven mainly by increases in non-interest income (+30% YoY, +30% HoH) and maiden PBT contribution of RM46 mn from Bank of Chengdu.

2Q FY09 net profit expanded 6.4% QoQ driven by an improvement in non-interest income (+9% QoQ) and non-recurrence of the impairment loss (RM33 mn in 1Q).

Loans remained unchanged as at end-1H FY09 (versus growth of 9% in FY08). The gross NPL ratio inched up to 2.4% (versus 2.3% as at end-1Q FY09 versus 3.1% a year ago).

We maintain UNDERPERFORM as we believe HL Bank‘s premium valuations, unattractive dividend yield and a lack of clarity on acquisition plans could weigh on share price performance.

Loan growth œ Loans remained unchanged as at end-1H FY09 (versus growth of 9% in FY08) and is below our FY09 growth estimate of 6%. We believe slower loan growth is a reflection of management‘s efforts to tighten up on lending due to the challenging economic environment and lumpy repayments (mostly corporates). Consumer loans have grown 2.3% YTD but SME and corporate loans have declined 5.3% and 4.2% YTD, respectively.

NIM remained broadly unchanged at 196 bp in 2Q (versus 195 bp in 1Q and FY08 average of 193 bp). However, its NIM could be under pressure with further cuts in inter-bank rates. Our sensitivity analysis shows every 100 bp reduction in OPR could trim NIM by 12 bp.

Non-interest income grew 30% YoY in 1H, spurred by a sharp increase in investment income to RM25 mn (+368% YoY, +45% HoH) and foreign exchange gain to RM110 mn (+112% YoY, +85% HoH).

LLP declined 17% YoY in 1H due to a stronger NPL recovery (improved 43% YoY). However, 2Q LLP expanded 128% QoQ due to higher general provisions and lower NPL recoveries. As such, credit cost stood at 0.21% (annualised) in 1H FY09 versus 0.47% in FY08. The impairment loss of RM33 mn in 1Q (apparently for forex-related trade) did not recur in the current quarter.

The gross NPL ratio inched up to 2.4% (versus 2.3% as at end-1Q FY09 versus 3.1% a year ago). The ratio increased for HP and consumption credit loans as well. NPL coverage improved to 107% as at 2Q FY09 (versus 99% as at end-FY08).

Cost grew 7% YoY (versus 11.5% revenue growth) due mainly to an 18% YoY surge in marketing costs. Staff cost increased 7% YoY. The core capital ratio remains strong at 13.5%.

Dividend declared was flat YoY at 8 sents/share gross. Given the group‘s strong capital position, we do not foresee any risk of cutbacks in dividends.

No change in our earnings estimates: Despite the strong 1H FY09 results, we do not change our earnings estimates. Given the deteriorating economic conditions, we think the low credit cost in 1H is unsustainable and also expect further cuts in OPR to put pressure on NIM in 2H.
We maintain UNDERPERFORM rating as we believe that HL Bank‘s premium valuations (11.3x 2009E P/E at a 31% premium to regional peers versus 10x P/E for local peers), unattractive dividend yield, a lack of clarity over acquisition plans and capital management could weigh on share price performance. However, in a weak market environment, its low foreign ownership of 8.9% and active share buyback programme could limit price downside.