Karachi, March 24, 2023 (PPI-OT): FABL: Shariah journey begins with aggressive growth targets for CY23

With Shariah conversion now complete and multi-year high growth and efficiency momentum reported in CY22, FABL appears well positioned to garner investor interest as one of only three Islamic banking plays at the PSX. Valuations at 0.4x P/B along with recurring Tier I ROE of 20% provide further support to our Buy rating with target price of Rs 36 (65% upside).

FABL rounded off CY22 with double digit loan and 21% YoY deposit growth (highest since 2010 which was buoyed by RBS acquisition). On efficiencies, declining NPLs led NPL ratio to 4.6% (from 5.6%) while cost to income ratio improved from 60% to 55%, all culminating in Tier I ROE expansion from 15% to 19%.

Going forward, management targets 20% – 25% deposit growth for CY23 as it eyes market share expansion, and maintaining ADR at prevailing levels of 58%, while staying vigilant on asset quality.

Key area of ROE accretion in our view remains lowering deposit costs, especially, savings deposit post Shariah conversion, while NPL cover at 89% (FSV benefit of Rs1.9bn/9% of NPL stock) requires attention as peer coverage stands at 100%.

Highest deposit growth in 12 years, more to come

Marking CY22 as a landmark year for Faysal Bank (FABL), the bank has completed the process of converting to a full-fledged Islamic Bank, set to operate as an Islamic Bank from 1 January, 2023, a conversion that started eight years ago. Simultaneously with the conversion process, the bank continued to grow with highest deposit growth recorded organically at 21% YoY. The last time FABL reported a high deposit growth was in 2010, which was a result of acquiring RBS Pakistan. CY22 growth was supported by branch network expansion, opening 94 new branches in the outgoing year (a new branch every 3 – 4 days), taking total network size to 700 branches. The management targets 20% – 25% deposit growth for CY23 as it eyes to continue market share expansion. With that, branch network expansion is likely to continue as well aiming 55 new branches this year.

With 44% of deposits contributed by savings, FABL has an advantage over to offer lower than the minimum mandated rate of 18.5% for conventional banks under the Minimum Deposit Rate regulation – not currently applicable on Islamic deposits. Despite that, its cost of funds is among the higher ranked in the sector. Out of the deposit mix, 35% of deposits are contributed by zero-cost deposits, which is a relatively lower share compared to peer average of 39%.

Strong loan growth with improving asset quality

Having said that, FABL was able to report among the higher NIMs in CY22 as its yields on loans stands higher than peers. The bank’s loan book is well-diversified with 12% composition from Individuals – a relatively higher loan yield segment. The bank also stood strong with negative NPL accretion in CY22, improving infection ratio to 4.6%. The bank however holds a lower coverage ratio, currently at 89%, vis-a-vis peer average of 100% (FSV benefit of Rs1.9bn/9% of NPL stock). With 15% YoY higher loan book, FABL maintains an ADR of 58%, while it has increased its equity multiplier (CY22: 15x) to also avail higher yield investments.

As a result, IDR has increased to 60%, where 80% of the Investment book is broadly parked in variable rate Sukuks. Going forward, management intends to maintain prevailing ADR level, keeping loan book expansion in tandem with deposit growth.

Comfortable buffer on CAR despite one-time hefty dividend

With a 38% YoY higher profit, the bank reported an EPS of Rs7.4 driven by 55% YoY higher Net Spread Earned (with a mix of higher asset size and higher interest rates) and reversals under various categories. These factors more than offset the 31% YoY increase in Administration expenses and higher effective tax rate of 50% over higher Super Tax in CY22.

During the year, the bank’s cash payout of Rs7/share included a one-time Rs5.5/share as it distributed conventional retained earnings held in its books as a part of the conversion. With a 95% payout ratio, the bank’s total CAR declined by 206bp YoY, clocking in at 15.5%, which is 397bp above the minimum requirement. From here onward, a likely regular dividend payout policy would be practised.

Low hanging factors available to further expand ROE, Buy

We highlight FABL as one of the only three bets from the banking space available within the Islamic banking space. The stock trades at attractive P/B of 0.4x, with its recurring Tier I ROE of 20%, keeping our Buy rating intact.

As the bank’s 100% depositor base is now ‘interest cautious’, it can avail the opportunity of further expanding share of zero-cost deposits and / or offer lower rates on savings accounts, a potential trigger to expansion in ROE. Moreover, operating at one of the most inefficient Cost to Income ratios provides room for improvement to bank’s potential ROE, through increasing efficiencies.