Indonesian Banks. Indonesia Industry Focus. Taking a tactical bet. DBS Group Research. Equity 27 Mar 2017 JCI : 5,567.10

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1 Indonesia Industry Focus Indonesian Banks Refer to important disclosures at the end of this report DBS Group Research. Equity 27 Mar 2017 Taking a tactical bet Riding the positive wave that S&P may upgrade Indonesia s sovereign rating; risk free rate lowered Gradual recovery fundamentally but there are new challenges Ride on index-related stocks in this short term rally Bank Mandiri (BMRI) and Bank Rakyat Indonesia (BBRI) Stick to fundamentally strong banks for the long term Bank Central Asia (BBCA); Bank Danamon (BDMN) is entering the second phase of its turnaround story Positive wave emerging. Our sector report in Dec 2016 tilted towards a slight positive but we highlighted that we would wait for these signals non-performing loan (NPL) recovery and loan growth. Our valuations were hampered by expectations of higher government bond yields. Since then, optimism on a positive sovereign rating upgrade by S&P surfaced and we have imputed lower credit costs for most banks as the worst of the asset quality cycle should be behind us. But we caution that we expect 1Q17 results to be weak, before seeing a stronger recovery track. Our interest rate strategist is expecting the Indonesian 10-year bond yield to hover at 8% by the year end, which leads us to lower our risk free rate assumption from 8.5% to 8%. Our TPs are adjusted upwards accordingly, with no changes to our ratings. Gradual recovery fundamentally, but there are new challenges. While earnings growth for banks is at a whopping 23% for 2017, this is purely driven by lower credit costs (2016 s 1.5% earnings growth was dented mainly by high provisions). There were still slippages from special mention loans (SML) to NPLs in 4Q16 and we expect some to flow through in 1Q17. The worst of asset quality appears to be over but we still caution on accounts categorised as loans-at-risk (defined as NPL + SML + restructured loans classified as performing). New NPL formation has eased, but optimism on loan growth is still split. State-owned enterprise (SOE) banks are more bullish as they would be the primary and immediate beneficiary of infrastructure projects but the non-soe banks are still cautious. A new level of competition has erupted for mortgages. With lower funding cost trends fading, combined with new competitive pressures, we expect net interest margins (NIM) to slip further. Our economist is expecting a rate hike in 2H17, following the Fed s footsteps and inflationary pressures, and this could see funding costs gradually creeping up. Pre-provision profit may still be soft, but bottomline would be strongly supported by lower provisions. Ride on index-linked banks for immediate upside; stick to fundamentally strong banks for the long term. A short term rally is clearly in sight. Positive sentiments are outweighing fundamentals. We suggest to ride on the large cap index related stocks for immediate upside BMRI, BBRI - but we continue to caution on possible delays in NPL recoveries. Our long-term picks remain BBCA (strong and sustainable trends) and BDMN (turnaround story). Further upside to our TPs rest on confirmation of the S&P sovereign rating upgrade and positive macro factors. JCI : 5, Analyst Sue Lin LIM suelinlim@dbs.com Benedictus Agung SWANDONO agung.swandono@id.dbsvickers.com STOCKS Indonesian Banks: Earnings rebound in 2017 Individual banks% Total % 120.0% 50.0% 100.0% 80.0% 60.0% 40.0% 20.0% 0.0% -20.0% F 2018F BBCA BDMN BMRI BBNI BBRI BBTN BTPN PNBN Total Source: Companies, DBS Bank, DBSVI Price Mkt Cap Target Performance (%) Price Rp US$m Rp 3 mth 12 mth Rating Bank Central Asia (BBCA) 16,550 30,634 18, BUY Bank Danamon (BDMN) 4,700 3,382 5, BUY Bank Mandiri (BMRI) 11,900 20,846 12, HOLD Bank Negara Indonesia (BBNI) 6,800 9,520 6, HOLD Bank Rakyat Indonesia (BBRI) 13,150 24,354 15, BUY Bank Tabungan Negara (BBTN) 2,320 1,845 2, HOLD Bank Tabungan Pensiunan 2,730 1,197 3, (2.5) BUY Nasional (BTPN) Panin Bank (PNBN) 855 1,546 1, BUY Source: DBS Bank, DBSVI, Bloomberg Finance L.P. Closing price as of 24 Mar 2017 Indonesian Banks: TP changes with lower risk free rate Previous Revised TP Rec TP Rec BBCA* 16,400 BUY 18,400 BUY BDMN 5,400 BUY 5,900 BUY BMRI* 10,500 HOLD 12,800 HOLD BBNI 5,700 HOLD 6,600 HOLD BBRI 13,600 BUY 15,000 BUY BBTN 2,100 HOLD 2,300 HOLD BTPN 3,300 BUY 3,500 BUY PNBN 1,000 BUY 1,100 BUY * Reports issued on 24 Mar 2017 Source: DBS Bank, DBSVI 40.0% 30.0% 20.0% 10.0% 0.0% -10.0% ed-js / sa- MA, PY

2 Industry Focus Is the worst behind us? Worst of asset quality probably seen in NPL ratios may not be a good gauge. While absolute NPLs rose in 2016, loan growth was at its slowest in a decade. Using loans at risk (defined as NPL + SML + restructured loans classified as performing) as an alternative, it would appear that this had decelerated in 4Q16, but will this be sustainable? Credit cost rose to a high of 2.1% in 2016, similar to levels seen in 2009 during the Global Financial Crisis (GFC). Similar recovery trends were seen in With the expected recovery in commodity prices coupled with improved GDP growth outlook, see the end of asset quality woes? We dare say yes. But the extent of recovery will be gradual. Asset quality trends one more weak quarter before stabilisation and then recovery. NPL movements, restructured loans, special mention loans (SML), slippages from SML to NPLs, as well as loans at risk (defined as NPL + SML + restructured loans classified as performing) have tracked within our expectations so far. Loan-at-risk improved in 4Q16 (it also improved in 4Q15). Among the banks, only BMRI saw further increases in loans-at-risk in 4Q16, while the other banks under our coverage saw a decline, or higher write-offs, which is a typical 4Q trend. The question now begs whether this improvement will sustain from here. We expect loans to continue to be restructured and SML to stay relatively high at least up to 1H17. These should gradually reverse in 2H17. There is still risk that earnings for BMRI and BBNI may disappoint for another quarter. Indonesian Banks: Loans-at-risk trends (q-o-q) % of total loan 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% 8.4% 8.6% 8.4% 8.3% Note: Aggregate NPL of 8 banks under our coverage Source: Companies, DBS Bank, DBSVI 9.4% 9.9% 10.0% 9.4% 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16 NPL SML Restructured Pass Loans at Risk Indonesian Banks: Loans-at-risk trends (by bank) % of total loan 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% BMRI BBCA BBRI BBNI BDMN BBTN BTPN PNBN 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16 Source: Companies, DBS Bank, DBSVI Credit costs to decline, the main earnings growth driver in We believe credit costs peaked in 2016 and we should see a significant improvement in In fact, this metric will be the key earnings driver to banks in We expect credit cost to decline by 40bps y-o-y, and continue to improve in Indonesian banks will be adopting IFRS9 from Indonesian Banks: Credit costs to decline in 2017 Provision charge-off rate (Banks) 6.00% 5.00% 4.00% 3.00% 2.00% 1.00% 0.00% (1.00%) F 2018F BBCA BDMN BMRI BBNI BBRI BBTN BTPN PNBN Average Source: Companies, DBS Bank, DBSVI Provision charge-off rate (average) Loan growth to improve after a decade-low level in Q is usually a seasonally strong quarter, in contrast with 1Q where 4Q trends typically reverse loan growth ended the year higher by 7.8% y-o-y, the slowest in a decade. We expect 2017 loan growth to start slowly with loan growth slightly above mid-single digits before momentum picks up in 2H17. Loan growth in Jan 2017 was reported at 8.2% y-o-y. Positive flows from infra projects could spur growth starting with the state-owned enterprise (SOE) banks, and the trickledown effect would then be felt by the non-soe banks. We expect loans to grow by 11% in % 2.00% 1.50% 1.00% 0.50% 0.00% Page 2

3 Industry Focus Indonesian Banks: Loan growth trends Individual banks % 60.0% 50.0% 40.0% 30.0% 20.0% 10.0% 0.0% Source: Companies, DBS Bank, DBSVI NPL ratio to decline in 2017, finally. There was a slight improvement in NPL ratio in 4Q16. But this is a typical trend noted every 4Q as banks tend to accelerate write offs towards the end of the year. While we expect an uptick in 1Q17, we believe the uptick should halt and subsequently stabilise. After two years of NPL ratio increases, we believe the banks are ready to see improvements. We expect NPL ratios to finally decline by end-2017, albeit at a gradual pace along the year. Indonesian Banks: NPL trends (q-o-q) Rp bn 70,000 60,000 50,000 40,000 30,000 20,000 10, F 2018F BBCA BDMN BMRI BBNI BBRI BBTN BTPN PNBN Average - RHS 2.0% 2.2% 2.3% 2.0% 2.4% Note: Aggregate NPL of 8 banks under our coverage Source: Companies, DBS Bank, DBSVI 2.7% 2.8% 2.7% 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16 NPL NPL Total% 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% 3.0% 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% Indonesian Banks: NPL ratio trends Gros s NPL ratio (Banks) 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% Source: Companies, DBS Bank, DBSVI Now, the bad news expect NIM slippage with new competition plus possible rate hikes. We expect NIM to slip in 2017 as new competitive pressures emerge was a year where the SOE banks were driving loan growth largely from government related loans (BBNI infra, BBRI KUR/micro, BBTN subsidised mortgages). So far in 2017, we have seen new levels of competition emerging for mortgages (see next section for details). In addition, banks are unlikely to see a further significant improvement in funding costs unless it is structural. With a possibility of a rate hike in 2H17, chances are that banks will start to price up time deposits to ensure there is sufficient liquidity. Despite that NIM is likely to slip, topline growth should be well compensated by improved loan growth. Over time, we would see banks scrambling to raise fee income initiatives and control costs to sustain earnings growth. Indonesian Banks: NIM trends NIM (Banks) 16.0% 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% Source: Companies, DBS Bank, DBSVI Gross NPL ratio (Average/Industry) 3.5% F 2018F BBCA BDMN BMRI BBNI BBRI BBTN BTPN PNBN Average 3.0% 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% NIM (Average/Industry) 9.0% F 2018F BBCA BDMN BMRI BBNI BBRI BBTN BTPN PNBN Average Industry 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% Page 3

4 Industry Focus New competitive pressures Mortgage price war? We note that some banks are offering competitive mortgage rates, namely BBCA, BMRI, and CIMB Niaga. The rates offered have been declining significantly since last year, especially those from BMRI and BBCA. BBCA is still the current market leader in the mortgage space while BMRI is getting more aggressive. BBNI is also a significant mortgage player but its mortgage portfolio is plagued with asset quality issues. BBNI s NPL ratio for the mortgage segment has been on a rising trend, increasing to 3.5% in FY16 from 1.8% and 2.7% in FY14 and FY15 respectively due to delinquencies from non-fixed salary borrowers. Meanwhile BBTN s non-subsidised mortgage targets the mid to lower end segment (ticket size usually below Rp1bn), thus should not be affected by the price war in the higher segment. Mortgage market remains subdued. Transactions in the property market has not shown a significant pick-up (+6.8% y- o-y in Jan 2017) due to weak demand of houses/apartments. This may intensify competition because the pie is not growing while everyone wants a piece of it. When it comes to price competition, we believe BBCA should emerge the winner due to its lower cost of funds. But BBCA has always been selective in its mortgage loans even though it competes aggressively. Indonesian Banks: Mortgage promotion rates Bank Promo End of 2016 New Promo BBCA 3-year 7.99% p.a fixed interest rate + 3-year adjustable interest rate capped at 8.99% p.a 2-year 6% p.a fixed interest rate + 3-year adjustable interest rate capped at 6.88% p.a BBTN* 1 year 9.9% p.a fixed BBNI 2 years 8.7% p.a fixed + 3 years 10.7%p.a fixed BMRI 5 years 8.5% p.a fixed 2-year 5.99% p.a fixed interest rate + 2-year adjustable interest rate capped at 6.75% p.a BNGA 8.25% 1 year fix, or 8.5% 2 years fix, or 8.75% 3 years fix BBRI 9.75% fixed 3 years BNII 2 years 8.5% fixed ; 12 month SBI Rate + 5.5% until maturity Source: Various media releases Starting 5.5% fixed 3 years to 7.57% fixed 5 years for Ciputra projects Indonesian Banks: Market share of mortgage 20% 18% 17% 16% 16% 14% 12% 10% 10% 8% 8% 7% 6% 5% 5% 4% 2% 0% BBCA BBTN* BBNI BMRI BNGA BBRI BNII *Non subsidised mortgages only Source: Companies, DBS Bank, DBSVI Indonesian Banks: Mortgage contribution to total loan 40% 37% 35% 30% 25% 20% 16% 15% 15% 13% 10% 10% 5% 5% 3% 0% BBCA BBTN* BBNI BMRI BNGA BBRI BNII *Non subsidised mortgages only Source: Companies, DBS Bank, DBSVI Indonesian Banks: Mortgage Promotional Material Source: Various media releases Page 4

5 Industry Focus More banks wanting to enter the SME segment. It may be interesting to keep an eye on competition in the SME segment. After taking the brunt of asset quality issues for two years, banks are turning risk averse. To reduce risk, banks are offering more competitive pricing to win the low risk corporate debtors but this is at the expense of profitability. Competing in the SME segment may be an interesting alternative since this offers better yields (compared to corporate loans) while the bank can diversify idiosyncratic risk by taking a higher number of accounts of lower ticket loans. It is difficult to ascertain market share of SME loans as each bank defines SME loans differently. However, competing in the SME space is easier said than done since it requires different expertise than corporate loans. PNBN is experienced in the SME segment, and has a team of relationship managers to service clients. This strategy has proven successful for PNBN. BDMN is also keen to grow its SME business using a similar strategy. BMRI, on the other hand, may also be keen to expand this area, but it is likely to target the higher loan ticket sizes around Rp20bn (PNBN and BDMN target lower ticket sizes of c.rp5bn). Indonesian banks: Competition in SME segment Bank Ticket Size % of Notes total portfolio BBCA Below Rp10bn 12% Offers cash management product and lower interest rate to compete. Credit can be disbursed in branches but assessment is centralized with online systems. PNBN Below Rp75bn, mostly Rp5-10bn 28% Underwriting process in branch. Customer usually have a strong relationship with the banks BDMN Targeting segment with ticket size Rp5bn 24% SME will be one of the main loan growth driver for BDMN BMRI Below Rp20bn 5% Management is willing to compete on lower pricing to acquire lower risk customers. BBRI Medium segment ticket size below Rp50bn; Small Commercial below Rp5bn Source: Companies, DBSVI 11% BBRI focuses on growing their micro debtors and offers Small Commercial /Medium loans if their ticket size gets bigger BBCA is still at pinnacle; BMRI is catching up. In the digital banking space, BBCA is still the top player in terms of transaction value, both in mobile or internet banking. However, BMRI is catching them up in terms of transaction volume. BMRI mobile banking transaction volume is gaining strong traction last year, taking over BBCA. This is very encouraging for BMRI as increasing value per transaction could increase along with the economic growth. Indonesian Banks: Internet banking transaction value Value (tr) 8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000 - Source: Companies, DBS Bank, DBSVI Indonesian Banks: Mobile banking transaction value Value (tr) 1,200 1, BBCA BMRI BBNI BBCA BMRI BBNI Source: Companies, DBS Bank, DBSVI Competing in the digital banking space. Indonesian banks are aware that the shifting towards the internet based transaction payment is happening. The big banks have already invested on it and gained encouraging results. These were followed by some of the BUKU 3 banks (banks with capital levels between Rp5trn to Rp30trn) which launched their mobile platforms last year such as DBS Bank Indonesia and BTPN. BMRI also recently launched its newly developed Mandiri Online (integrated mobile and internet banking) to enhance its already well established online platforms. Page 5

6 Industry Focus Valuation and recommendation Now trading at +1SD mean P/BV multiple. Indonesian banks are currently trading at 1.5x FY17 BV or +1SD mean P/BV multiple on a simple average basis. It re-rated from a low of - 2SD (1.2x FY17 BV) a year ago when banks saw a nasty credit cycle emerging coupled with a bleak outlook. Current book values are higher compared to two years ago as banks have revalued their assets. This also resulted in lower ROEs in We expect ROEs to gradually re-rate closer to mid-teens in the coming two years as credit costs normalise. Indonesian Banks: PB band (simple average) PBV (X) Source: Bloomberg Finance L.P., Companies, DBS Bank, DBSVI Indonesian Banks: ROE trends +2SD, SD, 2.25 Mean, SD, SD, 1.09 Ride on index-linked banks for immediate upside; stick to fundamentally strong banks for the long term. A short term rally is clearly in sight. Positive sentiments are outweighing fundamentals. The banks which form a major part of the JAKFIN and LQ45 indices in Indonesia would be key proxies to the market. We suggest to ride on the large cap index related stocks for immediate upside - BMRI, BBRI- but we continue to caution on possible delays in NPL recoveries. Our long-term picks remain BBCA (strong and sustainable trends) and BDMN (turnaround story). Further upside to our TPs rests on confirmation of the S&P sovereign rating upgrade and positive macro factors. JCI: Sector Member Weighting 11% 5% 2% 7% 7% 7% 12% JAKFIN 26% 22% JAKFIN JAKCONS JAKINFR JAKMIND JAKAGRI JAKMINE JAKTRAD JAKBIND JAKPROP ROE (Banks) 40.0% ROE (Average) 25.0% Source: IDX, DBS Bank, DBSVI 35.0% 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% F 2018F 20.0% 15.0% 10.0% 5.0% 0.0% (5.0%) (10.0%) LQ 45: Member Weighting 10% Total Banks Weight: 29% 8% 7% 3% 1% BBCA BDMN BMRI BBNI BBRI BBTN BTPN PNBN Average Source: Companies, DBS Bank, DBSVI 71% Indonesian banks among the best performers among ASEAN banks YTD. The Indonesian banks performed the second best with an 11% return after the Philippine banks with a 14% return YTD up to Mar 2017 (based on local currency). Near term, we believe Indonesian banks will continue to rally on the back of positive macro drivers as well as the possibility of a sovereign rating upgrade (to investment grade) by S&P Ratings. BBCA BBRI BMRI BBNI BBTN Others Source: IDX, DBS Bank, DBSVI TPs raised across banks under our coverage on lower risk free rate. As we update the banks under coverage post results, we have turned more positive and assumed better loan growth traction and more importantly, lower credit cost. In addition, Page 6

7 Industry Focus our interest rate strategist is expecting the Indonesian 10-year bonds to hover at 8% by year end. This gives us the opportunity to lower our risk free rate assumption from 8.5% to 8%. Our TPs are adjusted upwards accordingly, but ratings are maintained. Indonesian Banks: TP changes with lower risk free rate Previous Current Revised Price (8% risk free rate) TP (Rp) Rec Rp TP (Rp) Rec BBCA* 16,400 BUY 16,550 18,400 BUY BDMN 5,400 BUY 4,700 5,900 BUY BMRI* 10,500 HOLD 11,900 12,800 HOLD BBNI 5,700 HOLD 6,800 6,600 HOLD BBRI 13,600 BUY 13,150 15,000 BUY BBTN 2,100 HOLD 2,320 2,300 HOLD BTPN 3,300 BUY 2,730 3,500 BUY PNBN 1,000 BUY 855 1,100 BUY * Reports issued on 24 Mar 2017 Source: DBS Bank, DBSVI Top picks: BBCA, BBRI, BDMN. Our top picks remain BBCA and BDMN. We added BBRI to our BUY list post FY16 results. BBCA remains our pick for its strong liquidity position, well contained asset quality issues (although NPL ratio rose, the bank has more than sufficient loan loss coverage to buffer at >200%). In addition, we believe BBCA would be a clear winner amid competitive pricing of loans as well as its ability to defend NIM should interest rates move up. This is due to its strong CASA franchise. BDMN should be entering its second phase of transformation growth after setting a strong foundation in Higher interest rates may be better managed by BDMN in this cycle as it has flushed out expensive deposits and as it grows its SME business successfully. A recovery in Adira Finance would add as a further catalyst. We have turned more positive on BBRI after the KUR terms were better than expected. In addition, BBRI is the only big SOE bank which has consistently booked positive earnings growth during the past decade, thanks to its solid micro banking franchise. We believe its micro business remains a business that is difficult to be replicated by others. Its new CEO, Mr Suparjanto carries with him years of experience at BBRI, which we view positively. A kitchen sinking exercise by him could prove our thesis wrong. Judging by BBRI s loan loss coverage ratio of 170%, we are not expecting a kitchen sinking exercise to happen. BMRI and BBNI are still HOLDs. While BMRI is set to show a 50% increase in earnings in FY17, it is mainly driven by lower provisions. Pre-provision profits remain challenging as it is expected to face NIM pressure. Its longer than expected drag on asset quality recovery in not priced in, in our view. There would still be disappointments in 1Q17. We would prefer to wait for a share price correction before advocating a Buy. That said, BMRI, being a key proxy to the JCI and LQ45 index and deemed a key benchmark stock for the Indonesian banks, BMRI s share price performance is prone to positive macro news (including that of the possible sovereign rating upgrade by S&P Ratings). BBNI has nevertheless delivered strong loan growth but we believe this is not without longer term risk. BBNI s loans-at-risk remain high which warrants concern in our view. Smaller banks did well; BUYs on BTPN and PNBN, HOLD on BBTN. The smaller banks saw NIM expansion in 2016 thanks to lower funding costs but these should fade in PNBN remains conservative with growth unlikely to surpass industry levels. But it remains a potential M&A play as ANZ could still be looking to dispose its 39% stake. BTPN is a well-run bank in our view and has successfully stepped ahead to grow new businesses. But we expect higher investment cost for its digital initiatives to make a dent on earnings in FY Taking a view that this initiative will be positive for the bank by FY19, we have retained our BUY rating on BTPN. Key to watch is its ability to grow CASA via its digital initiatives. To a bank like BTPN, every incremental dollar it grows in CASA will make a difference given that it has been relying on time deposits and bonds as a main source of funding. BBTN is a HOLD as we believe positives are priced in. Its recent spat on a deposit slip fraud which caused a disruption at its cash outlets may hamper operations in the near term. Delayed resolution to this issue may take a toll on its deposit gathering activities and could cause funding costs to rise in a worst case scenario. Page 7

8 Industry Focus Indonesian Banks: Peer comparison Market cap Price Target Price Rating PE (x) CAGR PBV (x) ROE (%) Net div (%) (US$bn) (Rp/s) (Rp/s) FY16A FY17F FY18F ^ (%) FY16A FY17F FY18F FY17F FY17F Bank Central Asia 30,652 16,550 18,400 BUY 19.8x 15.8x 13.8x x 3.0x 2.6x 21.0% 1.5% Bank Danamon 3,384 4,700 5,900 BUY 14.4x 10.6x 8.4x x 1.1x 1.0x 11.2% 1.8% Bank Mandiri 20,858 11,900 12,800 HOLD 20.1x 13.4x 10.0x x 1.7x 1.6x 13.4% 2.2% Bank Negara Indonesia 9,526 6,800 6,600 HOLD 11.2x 10.1x 8.6x x 1.3x 1.2x 13.7% 2.7% Bank Rakyat Indonesia 24,369 13,150 15,000 BUY 12.3x 11.0x 9.9x x 1.9x 1.7x 18.4% 2.7% Bank Tabungan Negara 1,846 2,320 2,300 HOLD 9.2x 8.1x 7.4x x 1.2x 1.0x 14.9% 3.3% Bank Tabungan Pensiunan Nasional 1,198 2,730 3,500 BUY 8.8x 9.9x 9.2x x 0.9x 0.8x 9.3% 0.0% Panin Bank 1, ,100 BUY 8.6x 7.8x 6.8x x 0.6x 0.6x 8.1% 0.0% Weighted average 16.3x 12.9x 10.9x x 2.1x 1.8x 17.0% 2.1% Simple average 13.0x 10.8x 9.3x x 1.5x 1.3x 13.8% 1.8% Weighted average (ex BBCA) 14.6x 11.5x 9.5x x 1.6x 1.5x 15.1% 2.4% Simple average (ex BBCA) 12.1x 10.1x 8.6x x 1.2x 1.1x 12.7% 1.8% ^ Refers to 2-year EPS CAGR for FY16-18F Closing price as of 24 Mar 2017 Source: Companies, Bloomberg Finance L.P., DBS Bank, DBSVI Page 8

9 Indonesia Company Guide Bank Central Asia Version 8 Bloomberg: BBCA IJ Reuters: BBCA.JK Refer to important disclosures at the end of this report DBS Group Research. Equity 24 Mar 2017 BUY Last Traded Price ( 23 Mar 2017): Rp16,600 (JCI : 5,563.80) Price Target 12-mth: Rp18,400 (11% upside) (Prev Rp16,400) Potential Catalyst: Sustainable deposit franchise; stronger loan growth Where we differ: One of the highest TPs on the street Analyst Sue Lin LIM suelinlim@dbs.com Benedictus Agung SWANDONO agung.swandono@id.dbsvickers.com What s New Strong liquidity provides ample room for growth once real loan demand picks up Competition in the consumer segment is heating up but impact to NIM is likely to be minimal given its strong CASA franchise FY16 results in line despite higher provisions; NPL was better than guided Maintain BUY with higher TP of Rp18,400 after we lift earnings and lower risk-free rate assumption Price Relative Forecasts and Valuation FY Dec (Rpbn) 2016A 2017F 2018F 2019F Pre-prov. Profit 30,401 37,210 41,641 45,299 Net Profit 20,632 25,847 29,575 32,547 Net Pft (Pre Ex.) 20,632 25,847 29,575 32,547 Net Pft Gth (Pre-ex) (%) EPS (Rp) 836 1,048 1,199 1,319 EPS Pre Ex. (Rp) 836 1,048 1,199 1,319 EPS Gth Pre Ex (%) Diluted EPS (Rp) 836 1,048 1,199 1,319 PE Pre Ex. (X) Net DPS (Rp) Div Yield (%) ROAE Pre Ex. (%) ROAE (%) ROA (%) BV Per Share (Rp) 4,558 5,435 6,319 7,279 P/Book Value (x) Earnings Rev (%): Consensus EPS (Rp): 911 1,028 - Other Broker Recs: B: 20 S: 3 H: 11 Source of all data on this page: Company, DBS Bank, DBSVI, Bloomberg Finance L.P. A head above others Ample room for growth, BUY. Bank Central Asia (BBCA) has the best liquidity among the big-4 banks with a loan-to-deposit ratio (LDR) of 77% as at FY16. This should provide BBCA ample room to grow its loan book without putting significant pressure in funding, enabling it to competitively price its loan products. We note stiff price competition among big banks to lure in the best tier clients, especially in the mortgage segment, after experiencing severe asset-quality issues in the past few years. However, we believe BBCA s should be a clear winner due to its lower cost of funds, thanks to its strong CASA deposit franchise with a CASA ratio of consistently above 75%. We believe this is the key reason for BBCA to be valued at a premium vs its peers. FY16 earnings, testimony of sustainability; buffering up reserves. 4Q16 net profit came in at Rp5.6tr (+3% q-o-q), bringing fullyear FY16 net profit to Rp20.6tr (+14% y-o-y). This was in line with our and consensus estimates. Higher net interest margin (NIM) and better efficiency were offset by higher provisions that rose 30% y-o-y to build up coverage ratio to above 200%. Management remains cautious. Loan growth is targeted at 10%, the lowest among the big-4 banks. Despite the modest loan growth target, management would likely to maintain its payout policy and prefers to build up CAR in preparation for the full implementation of Basel III and IFRS9, both by BBCA still guides for NPL ratio of % (vs 1.3% in FY16). However, as we believe there are upside risk to the guidance, we impute a lower NPL ratio. We raise earnings by 24%/28% for FY17/FY18 mainly for lower credit cost assumption. BBCA continues to spend on IT infrastructure, ATMs and cash deposit machines while depreciation is also expected to set in remains uncertain but hopes are banked on improved loan growth momentum. Valuation: We have a BUY on BBCA with a higher target price of Rp18,400 as we impute a lower risk-free rate of 8% vs 8.5% previously. Our TP is based on the Gordon Growth Model (20% ROE, 10% growth and 13% cost of equity), implying 3.4x FY17 BV. BBCA is trading at a large premium to peers because of its solid balance sheet and liquidity position. Key Risks to Our View: Soft GDP growth pick up. An uninspiring improvement in GDP growth could keep loan growth soft and a delay in asset-quality recovery. At A Glance Issued Capital (m shrs) 24,655 Mkt. Cap (Rpbn/US$m) 409,273 / 30,745 Major Shareholders (%) Farindo Investment Mauritius Lt 47.2 Free Float (%) m Avg. Daily Val (US$m) 17.7 ICB Industry : Financials / Banks ed: CK / sa: MA, PY

10 Bank Central Asia WHAT S NEW Liquidity is a crucial factor Highlights Liquidity remains key, and has always been BBCA s priority. In any uncertain operating environment, have a liquidity buffer is crucial. We rely on the crude metric, loan-to-deposit ratio as a measure of liquidity. And compared to peers, BBCA s stands out the most superior. BBCA has always placed liquidity as its utmost criteria in any operating environment. Its ability to sustain as the country s strongest deposit franchise bank is a testimony of management s strategic long-term thinking all these years. Solid CASA franchise. BBCA s CASA to total deposit ratio has stayed above 70% over the past 10 years, and over 75% in the past five years. Typically, CASA growth (for BBCA) correlates strongly with GDP growth. During the weaker GDP growth years (i.e. the past two years), BBCA still successfully kept its CASA franchise intact. This, we believe is a crucial weapon that BBCA has to withstand competition and enable it to price loan products more competitive than peers. BBCA: CASA to total deposit ratio above 70% sustainably 85% 80% 75% 70% 65% 60% 31% 73% 75% 73% 13% 76% 15% 17% 77% 19% 19% 80% 79% Source: Company, DBS Bank, DBS Vickers 75% 76% 77% Loan growth target remains conservative at 10% for FY17. Despite the solid liquidity condition, BBCA maintained a conservative growth target of 10%, in line with the industry but the lowest among the big-4 banks. Consumer business will be the main driver while management is waiting for investment and working capital loan demand to pick up. Management does not rule out the possibility in joining the infra loan bandwagon but the magnitude should not be significant, and it will focus on the lower risk shorter-term loans. Credit cost should stabilise; NPL conservatively guided at 1.5%-2.0%. Management indicated that credit cost will 9% 4% 7% 13% CASA to total deposits (%) (LHS) CASA growth % (RHS) 35% 30% 25% 20% 15% 10% 5% 0% follow NPLs. NPL is conservatively guided at 1.5%-2.0, higher than FY16 s level of 1.3%. Its high coverage ratio of 229% should provide enough buffer for any potential NPL shocks. Ongoing enhancement of transaction platform and systems. BBCA will continue to convert its old ATM into a cash recycling ATM that enables customers to deposit and withdraw cash. It will also continue to invest in systems and software to support its digital payment system. This is expected to support the strong transaction growth in mobile banking and Internet banking. Transaction value of mobile banking and Internet banking grew 30% y-o-y and 15% y-o-y respectively. We continue to expect steady growth in these volumes. Inorganic growth strategy is still on the table. BBCA indicated that it is planning to acquire one or two small banks this year as part of its inorganic growth strategy. However, it will take a prudent approach to the due diligence process and is in no rush in executing any acquisitions. No payout policy change on the cards. High CAR position and conservative growth outlook begs the question of whether BBCA might pay higher dividends this year. However, management did not see any urgency in increasing its dividend payout. BBCA should maintain CAR of at least 18% after Basel III is fully implemented and the difference from current CAR position should serve as buffer to support growth going forward. FY16 results review Strong close to a challenging FY16. BBCA's 4Q16 net profit came in at Rp5.6tr (+3% q-o-q), bringing full-year FY16 net profit to Rp20.6tr (+14% y-o-y). This was in line with our and consensus estimates. Higher NIM and better efficiency were offset by higher provisions which rose 30% y-o-y. Loan grew 7.3% towards the end of last year despite being flattish most of the time. Management indicated that loan facilities grew by c.9% y-o-y but the loan drawdown was weak due to soft loan demand, especially for investment activities. Sustainable strong liquidity position. LDR (loan deposit ratio) was 77% while management indicated that it is comfortable in pushing this up to 85%. CASA grew by 13% while time deposits grew 7.5% y-o-y, mainly driven by funds related with the tax amnesty programme. BBCA indicated that 40% of nationwide penalty payments were made through the bank. Furthermore, 50% of repatriation funds during Jun-Dec 2016 were made through BBCA, with 20% of the funds held at Page 10

11 Bank Central Asia accounts with BBCA. Despite the ample liquidity, management targets 10% loan growth this year, in line with the industry but the lowest among the big four banks. Solid asset quality; provisions well provided Non-performing loans (NPL) stood at 1.3% in FY16, higher y- o-y but lower q-o-q. Special mention and restructured loans were also maintained at 1.5% and 1.6% respectively. Coverage ratio stood at 229% in FY16, the highest among banks under our coverage. Higher fee income with improving cost efficiency. Non-interest income grew by 13.2% y-o-y, supported by strong fee income growth which mainly came from administration and transaction fees. Non-interest income growth was also enhanced by income from treasury activities particularly gain on sale of financial assets and derivatives. Meanwhile, cost-to-income ratio in FY16 headed lower to 43.9% from 46.5% a year ago. Valuation and recommendation Maintain BUY, TP lifted after lowering risk-free rate. We have a BUY on BBCA with a higher target price of Rp18,400 as we impute a lower risk-free rate of 8% vs 8.5% previously. Our TP is based on the Gordon Growth Model (20% ROE, 10% growth and 13% cost of equity), implying 3.4x FY17 BV. BBCA is trading at a large premium to peers because of its solid balance sheet and liquidity position. Quarterly / Interim Income Statement (Rpbn) FY Dec 4Q2015 3Q2016 4Q2016 % chg yoy % chg qoq FY2015 FY2016 % chg yoy Net Interest Income 9,618 10,195 10, ,869 40, Non-Interest Income 3,820 3,350 3, ,007 13, Operating Income 13,438 13,545 14, ,876 53, Operating Expenses (5,652) (5,462) (5,848) (21,714) (23,379) 7.7 Pre-Provision Profit 7,786 8,083 8, ,162 30, Provisions (1,968) (1,132) (1,423) (27.7) 25.7 (3,505) (4,561) 30.1 Associates nm nm nm Exceptionals nm nm nm Pretax Profit 5,818 6,951 6, (1.6) 22,657 25, Taxation (1,166) (1,394) (1,345) 15.4 (3.5) (4,621) (5,207) 12.7 Minority Interests (2.5) (122) 101 nm nm Net Profit 4,650 5,434 5, ,036 20, Growth (%) Net Interest Income Gth Net Profit Gth (3.7) Key ratio (%) NIM NPL ratio Loan-to deposit Cost-to-income Total CAR Source of all data: Company, DBS Bank, DBSVI Page 11

12 Bank Central Asia CRITICAL DATA POINTS TO WATCH Earnings Drivers: Better loan growth in Management is guiding for a slightly better loan growth at 10% from a low 7% last year. Management expects loan demand to stay sluggish in a still uncertain macro environment. Consumer business will be the main driver while management is waiting for investment and working capital loan demand to pick up. Management does not rule out the possibility in joining the infra loan bandwagon but the magnitude should not be significant, and it will focus on the lower risk shorter-term loans. NIM will likely slip on competition. We note an increasing competition among the big banks to win the lower risk client after experiencing NPL shocks in the past two years. The lower risk appetite and willingness to take on lower margin could induce pricing competition, especially in the mortgage and SME segments. We believe BBCA could hit back on lower pricing and therefore lower NIM. Furthermore, pressure from higher cost of funds might stem from the higher policy rate. Consistently strong fee-based income growth. BBCA has been registering strong growth in fee based income, leveraging on its established transaction banking franchise. BBCA s e-channel shows a strong growth trend and the bank is seeing a shift from in-branch transactions to using e-channels. In addition, BBCA s treasury activities have been robust, supporting its fee income in Separately, operating expenses would be an item to monitor in 2017 given a challenging operating environment. BBCA is likely to continue investing on its cash recycling machine ATMs to improve efficiency and service excellence Ongoing enhancement of transaction platform and systems. BBCA will continue to convert its old ATM into a cash recycling ATM which enables customers to deposit and withdraw cash. It will also continue to invest in systems and software to support its digital payment system. This is expected to support the strong transaction growth in mobile banking and Internet banking. Transaction value of mobile banking and Internet banking grew 30% y-o-y and 15% y-o-y respectively. Provision expense to taper off. We expect NPL s and provisions to be flattish this year. BBCA loan restructuring is less aggressive compared to the other banks while the worst of asset-quality problem of the industry is likely to be over Margin Trends Gross Loan& Growth Customer Deposit & Growth Loan-to-Deposit Ratio Trend Cost & Income Structure Inorganic growth strategy is still on the table. BBCA indicated that it is planning to acquire one or two small banks this year as part of its inorganic growth strategy. However, it will take a prudent approach to the due diligence process and is in no rush to execute any acquisitions Page 12

13 Bank Central Asia Balance Sheet: Ample liquidity but keeping a watch on this. BBCA has ample liquidity vs peers. Its loan-to-deposit ratio had finally hit a high of 80% at the end of BBCA has a strong funding franchise and more than 75% of its deposits are made up of CASA. CASA growth remained strong so far in 2016 despite the slow economy, as CASA growth is strongly correlated with GDP growth. Historically, CASA growth has been in the mid-teens. Looking ahead, CASA growth should improve along with the economy. Lowest NPL ratio; well capitalised. BBCA still has among the lowest NPL ratio and highest loan loss coverage in our Indonesian banking universe. Taking the cue from the softness in commodity prices over the past two years, management noted an increase in delinquencies within the corporate and commercial segment. Weakness was seen particularly in the tug boat and barges segment which is related to the coal sector. Despite the improving coal price recently, BBCA is still guiding for conservative NPL ratio of %. BBCA is also a wellcapitalised bank with core Tier-1 capital ratio making up the majority of capital. It intends to keep Total CAR above 18%. Asset Quality Capitalisation (%) ROE (%) Key Risks: Losing its trademark as a transaction bank. BBCA has been garnering significant amounts of low cost deposits over the years because of its transaction banking franchise. If it loses this edge, funding costs will escalate and NIM would be under pressure. Significant deterioration in asset quality. While management is taking a cautious stance where NPL ratios could spike up to % in 2016, an extreme negative spike beyond guidance could be negative and its loan loss coverage would likely drop below 200%. Forward PE Band (x) Company Background Bank Central Asia (BBCA) is Indonesia's premium transactional bank given its legacy with the Salim group pre-asian crisis. BBCA has successfully leveraged on this strength to deliver sustainable earnings growth. PB Band (x) Page 13

14 Bank Central Asia Key Assumptions FY Dec Gross Loans Growth Customer Deposits Growth Yld. On Earnings Assets Avg Cost Of Funds Income Statement (Rpbn) FY Dec Net Interest Income 35,869 40,079 44,341 50,567 56,269 Non-Interest Income 12,007 13,700 19,509 21,661 24,052 Operating Income 47,876 53,779 63,849 72,228 80,321 Operating Expenses (21,714) (23,379) (26,640) (30,586) (35,022) Pre-provision Profit 26,162 30,401 37,210 41,641 45,299 Provisions (3,505) (4,561) (4,840) (4,602) (4,538) Associates Exceptionals Pre-tax Profit 22,657 25,839 32,369 37,039 40,760 Taxation (4,621) (5,207) (6,523) (7,464) (8,214) Minority Interests Preference Dividend Net Profit 18,036 20,632 25,847 29,575 32,547 Net Profit bef Except 18,036 20,632 25,847 29,575 32,547 Growth (%) Net Interest Income Gth Net Profit Gth Margins, Costs & Efficiency (%) Spread Net Interest Margin Cost-to-Income Ratio Business Mix (%) Net Int. Inc / Opg Inc Non-Int. Inc / Opg inc Fee Inc / Opg Income Oth Non-Int Inc/Opg Inc Profitability (%) ROAE Pre Ex ROAE ROA Pre Ex ROA Provisions should decline from a peak in 2016 Conservative NIM assumption due to tougher competition; expect cost of funds to stay stable Page 14

15 Bank Central Asia Quarterly / Interim Income Statement (Rpbn) FY Dec 4Q2015 1Q2016 2Q2016 3Q2016 4Q2016 Net Interest Income 9,618 9,768 9,990 10,195 10,263 Non-Interest Income 3,820 3,060 3,310 3,350 3,848 Operating Income 13,438 12,828 13,300 13,545 14,111 Operating Expenses (5,652) (6,184) (5,889) (5,462) (5,848) Pre-Provision Profit 7,786 6,644 7,411 8,083 8,263 Provisions (1,968) (989) (1,017) (1,132) (1,423) Associates Exceptionals Pretax Profit 5,818 5,655 6,394 6,951 6,840 Taxation (1,166) (1,142) (1,326) (1,394) (1,345) Minority Interests (2.5) (5.5) 0.90 (122) 101 Net Profit 4,650 4,507 5,069 5,434 5,596 Growth (%) Net Interest Income Gth Net Profit Gth (3.7) (3.1) Balance Sheet (Rpbn) FY Dec Cash/Bank Balance 113,336 95, , , ,278 Government Securities 34,713 76,307 84,192 92, ,576 Inter Bank Assets 6,986 8,403 8,823 9,265 9,728 Total Net Loans & Advs. 381, , , , ,090 Investment 18,739 40,077 50,724 64,034 80,671 Associates Fixed Assets 9,712 16,991 17,085 17,038 16,852 Goodwill Other Assets 29,335 32,184 34,554 39,235 43,978 Total Assets 594, , , , ,171 Ample of liquidity with high cash and short-term securities position Customer Deposits 474, , , , ,271 Inter Bank Deposits 4,156 4,901 4,529 4,715 4,622 Debts/Borrowings 4,564 5,121 5,540 6,000 6,505 Others 22,010 23,504 22,757 23,130 22,943 Minorities Shareholders' Funds 89, , , , ,548 Total Liab& S/H s Funds 594, , , , ,171 Page 15

16 Bank Central Asia Financial Stability Measures (%) FY Dec Balance Sheet Structure Loan-to-Deposit Ratio Net Loans / Total Assets Investment / Total Assets Cust. Dep./Int. Bear. Liab Interbank Dep / Int. Bear Asset Quality NPL / Total Gross Loans NPL / Total Assets Loan Loss Reserve Coverage Provision Charge-Off Rate Capital Strength Total CAR Tier-1 CAR Expect NPL to be flattish this year Target Price & Ratings History Source: DBS Bank, DBSVI Analyst: Sue Lin LIM Benedictus Agung SWANDONO Page 16

17 Indonesia Company Guide Bank Danamon Version 9 Bloomberg: BDMN IJ Reuters: BDMN.JK Refer to important disclosures at the end of this report DBS Group Research. Equity 27 Mar 2017 BUY Last Traded Price ( 24 Mar 2017): Rp4,700 (JCI : 5,567.10) Price Target 12-mth: Rp5,900 (26% upside) (Prev Rp5,400) Potential Catalyst: Deliveries of transformation programme Where we differ: We are among the few bullish brokers on Danamon s turnaround story; more visibility expected in FY17F Analyst Sue Lin LIM suelinlim@dbs.com Benedictus Agung SWANDONO agung.swandono@id.dbsvickers.com What s New First full year of transformation deliveries fulfilled Ready for the second phase; growth underway Adira s transformation to pick up speed in FY17 Maintain BUY, TP raised to Rp5,900 after reducing risk free rate to 8% (from 8.5%) Price Relative Rp Relative Index 6, , , , , , , , , , Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Bank Danamon (LHS) Relative JCI (RHS) Forecasts and Valuation FY Dec (Rpbn) 2016A 2017F 2018F 2019F Pre-prov. Profit 9,375 10,454 12,150 13,836 Net Profit 2,670 4,241 5,343 6,467 Net Pft (Pre Ex.) 3,126 4,241 5,343 6,467 Net Pft Gth (Pre-ex) (%) EPS (Rp) EPS Pre Ex. (Rp) EPS Gth Pre Ex (%) Diluted EPS (Rp) PE Pre Ex. (X) Net DPS (Rp) Div Yield (%) ROAE Pre Ex. (%) ROAE (%) ROA (%) BV Per Share (Rp) 3,766 4,140 4,522 4,920 P/Book Value (x) Earnings Rev (%): Consensus EPS (Rp): N/A Other Broker Recs: B: 4 S: 6 H: 12 Source of all data on this page: Company, DBS Bank, DBSVI, Bloomberg Finance L.P. Ready for growth Foundation is set; ready for growth; maintain BUY. FY16 marked the first full year of its transformation programme (recall that its 3-year transformation strategy was initiated in March 2016). Bank Danamon (BDMN) has delivered two key items on its list improved NIM via lower funding cost and reduced expenses (ex-restructuring costs). In addition, its SME loans have started to pick up and Adira Dinamika Multifinance (Adira) is gradually turning around. With its transformational initiatives setting a strong base in FY16, we believe the bank is ready for growth. The impact from its transformation programme should be fully reflected from Maintain BUY. FY16 delivered as expected, ex-one-off items. Excluding the tax adjustment related to the tax amnesty participation, BDMN delivered a 31% earnings growth in FY16 with improved NIM from lower funding cost and reduced expenses. 4Q16 saw a first turnaround in loan growth supported by SME and commercial loans. Credit costs remained high particularly related its micro business (Danamon Simpan Pinjam, DSP) which is currently undergoing a revamp in its business model. Adira has also started to grow. Fee income saw a boost from its insurance business, which still has potential to grow. Excluding the one-off item, BDMN would have delivered an ROE closer to 9%. Adira to pick up speed in We met the CEO and CFO of Adira to understand its transformation story. We believe that Adira will play a crucial role in steering BDMN s growth ahead. There are ample cross-selling opportunities to be reaped, which will benefit both Adira and BDMN. Stay tuned for this in FY17. Double-digit ROEs over time. We expect a double-digit ROE in FY17 as its new revenue engines fire up. BDMN will start FY17 with a lower cost base and a cleaner balance sheet. Loan growth should start to pick up while its funding mix still has room to improve. We remain bullish on FY17-18F earnings; our forecasts remain above consensus. Valuation: Reiterate BUY; ready for growth. We have made the following adjustments to our assumptions: (i) lowered risk free rate to 8% from 8.5%, and (ii) reinstated our earlier 15% ROE target to our valuation. We raised our TP to Rp5,900 based on the Gordon Growth Model (15% ROE, 10% growth and 13.9% cost of equity), implying 1.3x FY17 BV. Key Risks to Our View: Ineffective transformation deliveries. Slower-than-expected growth could derail the subsequent transformation phase. Failure to improve the deposit franchise could further pressure NIM. At A Glance Issued Capital (m shrs) 9,585 Mkt. Cap (Rpbn/US$m) 45,048 / 3,384 Major Shareholders (%) Asia Financial (Indonesia) Pte. Ltd (%) 67.4 JPMCB Franklin Templeton Inv Funds 6.7 Free Float (%) m Avg. Daily Val (US$m) 0.80 ICB Industry : Financials / Banks ed: JS / sa: MA, PY

18 Bank Danamon WHAT S NEW Getting ready for the next phase: Growth The next phase: Growth Gaining momentum going into BDMN built a strong base in 2016 to gear up for By the first week of April, the senior management team to drive the bank forward will be complete. For 2017, we would expect lower NIM trends ahead as the loan mix changes, but lower expenses and provisions should make up for earnings over time. NIM will likely slide as the loan mix skews towards SME loans which are mainly secured. But this portfolio will also come with significantly lower credit cost and expenses. Comparatively, the credit cost for micro loans is in excess of 8% but credit cost for SME would be below 1% (this portfolio is deemed to have lower risk). Expenses will be lower as the bank scales down its labour-intensive micro business (typically requiring more employees to be surveyors and for collections). Cost-toincome ratio should stay below 50%. Provisions should also decline. All in, the lower NIM will be compensated by lower funding costs, lower expenses, higher fee income and lower provisions. Ready for growth. With the recovery of its loans in 2017, earnings are well poised for growth. On a normalised basis (ex-one-offs) we forecast FY17 earnings growth of >30%, repeating the earnings growth trend in FY16, the difference being underlying growth. In FY16, earnings growth was driven by higher NIM and lower expenses. In FY17, we expect earnings to be driven by loan growth recovery, lower provisions and well-managed expenses. Loan growth for 2017 should range at 7-8%, driven by SME, commercial and consumer, while micro loans continue to decline. Auto loans should start to turn around, picking up the positive traction it gained in 4Q16. Micro banking turnaround strategy. Management is reengineering its micro lending business (Danamon Simpan Pinjam (DSP)). BDMN has seen its micro loans run down by 30% y-o-y in Such trends are likely to continue in Management has decided to split the DSP business into a good bank (micro banking branches) and bad bank (special asset branches) where it will gradually see the winding down/rationalisation of the special asset branches over time. It will focus on revamping the business model to improve efficiency and automation of the good bank. The landscape for micro lending business has changed since the revamp of the KUR scheme in August The single-digit lending rate KUR loans extended have been disrupting the existing micro banking landscape for players other than Bank Rakyat Indonesia (BBRI). BDMN is not the only bank scaling down on its micro business. Without DSP, BDMN s key financials have showed improvement. BDMN: With and without DSP With DSP Without DSP FY15 FY16 y-o-y% FY15 FY16 y-o-y% NIM Credit cost Cost-to-income Pre-tax profit 3,206 4, % 3,735 5, % ROAE BDMN: DSP outlets/loan growth trends 1,800 1,600 1,400 1,200 1, % 1,529 1,562 1,458 1,405 1,396 15% 14% 7% 6% 1, Adira s transformation story. Similar to its parent company, BDMN, Adira has also been going through a transformation phase. Adira s business has been hurt the past three years due to a combination of regulatory changes (changes in down payment regulations, increase in minimum wages) and a slowdown in the auto industry (due to lower commodity prices). In 2015, Adira underwent a revisit of its business model, particularly in its operations. Three key things topped management s agenda: (1) The need to defend Adira s household branding and ensuring its footprint remains strong throughout Indonesia Adira would need to deepen its relationship with its customers and attempt to bundle products (auto + insurance products); (2) Improve efficiency As part of its efficiency efforts, Adira had reduced its number of outlets in the past two years where nearby outlets were combined. Adira has moved to digitise its business. The success of these two efforts combined was evident in 2016 where opex remained flat. Digitising its business processes will be a multi-year exercise. Expect more efficiency gains to emerge from here; (3) Growing new businesses Multi finance companies were allowed to finance multipurpose loans, re-financing and infrastructure loans in Adira should be able to tap on its rich customer base, coupled with its strong relationships with auto dealers and vendors. In addition, cross-selling opportunities with BDMN is also part of the group transformation agenda. We should expect more Adira-BDMN synergies going forward. Over 2016, we -5% -23% DSP outlet count DSP loan growth/(contraction) 30% 20% 10% 0% -10% -20% -30% -30% -40% Page 18

19 Bank Danamon understand that Adira had benefitted from lower funding costs, thanks to BDMN. Adira s recovery and its prospects. Nevertheless, Adira remains a crucial part to BDMN s business. Despite setbacks, Adira has consistently maintained its market share ranking at #2 for the 2W business with a market share of 13-14%, after Federal International Finance (FIF), Astra s 2W multi finance company. Adira s 4W business remains small with a market share of only 4-5%. Adira saw a recovery in its new sales for both 2W and 4W in 4Q16. We believe the auto industry is set to see an improvement in Adira expects 2017 new bookings of 10-15%, which should translate to approximately a 5% receivables growth. We understand that Adira is gradually shifting its portfolio towards 4W given its better prospects expected. Indonesia s 4W penetration is low. With rising GDP per capita in coming years, growth prospects for 4W business should outweigh the more saturated 2W market. Auto: 4W sales trend Recovery after severely hit 1,400,000 1,200,000 1,000, , , , ,000 - Source: Gaikindo; DBS Bank, DBSVI Auto: 2W sales trend Improving by slower growth 9,000,000 8,000,000 7,000, CAGR: 5% F CAGR: 2% 2018F believe BDMN should continue to show fee income growth ahead. Additional fee income synergies with Adira could boost growth over time. Asset quality on a better footing. FY15-16 asset quality issues have largely been effects from the weakening commodity prices across the loan segments. We believe the worst of the asset quality issues are over for BDMN. We expect credit costs to decline in FY17 a combination of better loan growth and lower absolute provisions. NPL ratios should correspondingly improve. Double-digit ROEs over time. Management s target is to achieve double-digit ROEs over time. And that can only be possible once the current engines are revived and new revenue engines start to fire up. With the lower cost base and a cleaner balance sheet, we expect ROEs to improve over time. Excluding the one-off items in FY16, ROE would have been closer to 9%. We expect ROE to cross the 10% mark in FY17 as loan growth starts to pick up and funding costs head lower. Capital management plans are on the cards. Its dividend policy has yet to be instituted. We believe over time, dividend payout will be raised. This would complement the driver towards the double-digit ROE. BDMN s current dividend payout ratio is 30%. Every 10% increase in dividend payout would boost ROE by 10bps. Separately, BDMN remains a BUKU III bank (capital levels at Rp5-30tr). Valuation and recommendation Reiterate BUY; ready for growth. We have made the following adjustments to our assumptions: (i) lowered risk free rate to 8% from 8.5%, and (ii) reinstated our earlier 15% ROE target to our valuation. We raised our TP to Rp5,900 based on the Gordon Growth Model (15% ROE, 10% growth and 13.9% cost of equity), implying 1.3x FY17 BV. BDMN: Key milestones strategy 6,000,000 5,000,000 4,000,000 3,000,000 2,000,000 1,000, F 2017F Source: AISI; DBS Bank, DBS Bank, DBSVI Fee income potential. BDMN s credit-related fees fell in FY16 due to the soft loan trends. Positively, fee income generation from general insurance, bancassurance and cash management have shown promising growth trends. We Source: Company Page 19

20 Bank Danamon Margin Trends Rp bn CRITICAL DATA POINTS TO WATCH Earnings Drivers: Picking up steam. We forecast 8% loan growth in FY17F driven by the commercial, SME and retail segment. Auto loans at Adira Finance (ADMF) is expected to turn positive (from a contraction in FY15). The Danamon Simpan Pinjam (DSP) or micro business is expected to stay muted as management is in the midst of recalibrating its business model. The worst of asset quality should be over, in our view. Provisions should edge off from current levels. Loan growth to resume in 2017 (ex-micro). Loans were mainly contracting in 2016 because of the rundown of auto loans (industry weakness) as well as micro loans (more sharply and deliberate). The decline in consumer loans in 2016 was a result of reducing its exposure to unsecured lending. Green shoots for growth was seen in retail and SME in 2H16. In 2017, while micro loans will still slide, a recovery is expected for auto loans at Adira, SME and retail loans should continue its traction and commercial loans will start to show growth by middle of the year. A segment called asset-based financing which is largely related to the plantation segment will be reduced. Lower NIM trends ahead as loan mix changes... NIM will likely slide as the loan mix changes towards SME loans which are mainly secured. On the other hand, cost of funds reduction would not be as significant as this year. Positively, fee income should start to improve as retail and SME loans pick up. 16,000 14,000 12,000 10,000 8,000 6,000 4,000 2, , ,000 80,000 60,000 40,000 20, , , ,000 80,000 60,000 40,000 20,000 0 Rp bn Rp bn Net Interest Income Gross Loan& Growth Customer Deposit & Growth Net Interest Income Margin Gross Loan (LHS) Gross Loan Growth (%) (YoY) (RHS) Customer Deposits (LHS) Customer Deposits Growth (%) (YoY) (RHS) 9.6% 9.4% 9.2% 9.0% 8.8% 8.6% 8.4% 8.2% 8.0% 7.8% 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% 20% 15% 10% 5% 0% -5% -10% But lower expenses and provisions should make up for earnings over time. The less risky portfolio should also come with significantly lower credit cost and expenses. Comparatively, the credit cost for micro loans is in excess of 8% but credit cost for SME would be below 1% (this portfolio is deemed to have lower risk). Expenses will be lower as the bank scales down its labour-intensive micro business (typically requiring more employees to be surveyors and for collections). Provisions should also decline. All in, the lower NIM will be compensated by lower funding costs, lower expenses, higher fee income and lower provisions. With the recovery of its loans in 2017, earnings are well poised for growth. Separately, the pressure by regulators have somewhat cooled off. That said, new loan products by BDMN (e.g. mortgage and SME loans) are at single-digit levels. Further cost reduction likely as efficiency improves. There was another round of restructuring costs booked in 4Q16 (similar to that recorded in 4Q15). There is still room for further cost reduction when efficiency improves mainly from branch/outlet rationalisation in Cost-to-income ratio should stay below 50%. Loan-to-Deposit Ratio Trend Rp bn 152, , , , , ,700 92,700 82,700 Loans Deposit Loan-to-Deposit Ratio (RHS) Cost & Income Structure Rp bn 20,000 15,000 10,000 5, % 92% 87% 82% 77% 52% 50% 48% 46% 44% 42% 40% 38% Net Interest Income Non-interest Income Cost-to-income Ratio Page 20

21 Bank Danamon Balance Sheet: Improved funding franchise would be key. BDMN has long been seen to be a bank with a weak funding franchise. We have seen improvements in recent quarters, albeit gradual. Loan-todeposit ratios have trended down. Further improvements should be expected as its strategic initiatives unfold. Asset quality under control. We expect BDMN to show lower credit cost levels in FY17F. BDMN has among the lowest percentage of restructured loans to total loans (c. 3%). This is also because auto loans (both 2W and 4W from Adira) and micro loans have automatic write-off policies of 180 days and 360 days respectively. Loan loss coverage ratios should correspondingly improve. NPL ratios should improve below 3% for Share Price Drivers: Sustained deliveries of strategic priorities. It has been two years since Mr Sng Seow Wah came on board as BDMN s CEO. His 3- year strategic priorities were crafted out in early Early wins are visible. He has a strong track record in turning around banks with exposure to SME and consumer segments. He had successfully improved the business and profitability of a Malaysian bank, thus increasing its valuation. He also initiated a high dividend payout ratio policy to share the bank s success with shareholders. We believe BDMN should see similar success under his leadership. 6.0% 5.5% 5.0% 4.5% 4.0% 3.5% 3.0% 2.5% 2.0% 23.0% 22.0% 21.0% 20.0% 19.0% 18.0% 17.0% 14.0% 12.0% 10.0% 8.0% 6.0% Asset Quality Capitalisation (%) ROE (%) NPL Ratio Provision Charge-Off Rate Tier-1 CAR Total CAR Year 2 of transformation; growth phase. After two years of painful restructuring and cleaning up its balance sheet, BDMN is not ready for growth. The ability of BDMN to show strong growth in targeted areas as part of its transformation programme would be imperative to the next re-rating phase for the stock. Our initial blue-sky scenario (see our reinitiation report dated 18 March 2015) stipulating a 15% ROE is closer to being materialised. Key Risks: Ineffective transformation deliveries. This would be mainly due to slower-than-expected changes in business processes and the new business model being ineffective. But these changes will take time and resources to implement. Failure of the transformation programme will not only impact operations and profitability, but the opportunity cost would magnify the impact. The other key risks for BDMN are failure to maintain liquidity and weaker-than-expected deposit growth since its loan-to-deposit ratio has always been high. Company Background Bank Danamon (BDMN) is the sixth largest bank in Indonesia by assets. The bank focuses on mass market loans with its Danamon Simpan Pinjam. BDMN is aided by its 95%-owned multifinance arm Adira Finance for auto loans. 4.0% 2.0% 0.0% Forward PE Band (x) (x) +2sd: 19.9x +1sd: 16.8x Avg: 13.6x 1sd: 10.5x 2sd: 7.3x 6.5 Mar-13 Mar-14 Mar-15 Mar-16 (x) Mar-13 Mar-14 Mar-15 Mar-16 PB Band (x) +2sd: 1.76x +1sd: 1.48x Avg: 1.2x 1sd: 0.93x 2sd: 0.65x Page 21

22 Bank Danamon Key Assumptions FY Dec Gross Loans Growth (6.1) (7.4) Customer Deposits Growth (1.2) (9.9) Yld. On Earnings Assets Avg Cost Of Funds Income Statement (Rpbn) FY Dec Net Interest Income 13,648 13,779 14,733 16,173 17,614 Non-Interest Income 4,608 4,693 4,785 5,578 6,354 Operating Income 18,257 18,472 19,518 21,751 23,967 Operating Expenses (9,231) (9,096) (9,064) (9,602) (10,132) Pre-provision Profit 9,026 9,375 10,454 12,150 13,836 Provisions (5,082) (4,441) (4,011) (4,048) (4,038) Associates Exceptionals Pre-tax Profit 3,282 4,393 5,737 7,213 8,723 Taxation (812) (1,600) (1,434) (1,803) (2,181) Minority Interests (75.9) (123) (61.7) (67.3) (75.3) Preference Dividend Net Profit 2,393 2,670 4,241 5,343 6,467 Net Profit bef Except 2,393 2,670 4,241 5,343 6,467 Growth (%) Net Interest Income Gth (0.2) Net Profit Gth (8.1) Margins, Costs & Efficiency (%) Spread Net Interest Margin Cost-to-Income Ratio Business Mix (%) Net Int. Inc / Opg Inc Non-Int. Inc / Opg inc Fee Inc / Opg Income Oth Non-Int Inc/Opg Inc Profitability (%) ROAE Pre Ex ROAE ROA Pre Ex ROA Visible NIM improvement from lower funding costs; NIM will slide from here as loan mix changes, but impact to earnings will be offset by improved fee income Targeting double-digit ROE over time Page 22

23 Bank Danamon Quarterly / Interim Income Statement (Rpbn) FY Dec 4Q2015 1Q2016 2Q2016 3Q2016 4Q2016 Net Interest Income 3,513 3,451 3,462 3,498 3,585 Non-Interest Income 1,160 1,189 1,216 1,175 1,189 Operating Income 4,672 4,640 4,677 4,673 4,775 Operating Expenses (2,021) (2,339) (2,363) (2,489) (2,281) Pre-Provision Profit 2,651 2,301 2,314 2,184 2,493 Provisions (1,364) (1,178) (1,063) (1,118) (1,000) Associates Exceptionals Pretax Profit 688 1,127 1,268 1, Taxation (166) (282) (313) (256) (749) Minority Interests (25.0) (31.7) (33.9) (36.2) (21.5) Net Profit Growth (%) Net Interest Income Gth (2.6) (1.7) Net Profit Gth (22.9) (15.1) (80.4) Dented by one-off tax adjusted of Rp456bn and restructuring costs of Rp260bn (4Q15: Rp182bn) Balance Sheet (Rpbn) FY Dec Cash/Bank Balance 16,105 11,386 11,119 13,451 15,976 Government Securities 6,916 9,563 11,476 13,771 16,525 Inter Bank Assets 17,983 5,937 7,125 7,838 8,621 Total Net Loans & Advs. 99,483 91,889 99, , ,892 Investment 6,392 17,408 19,633 22,079 24,771 Associates Fixed Assets 2,559 2,506 2,444 2,374 2,295 Goodwill 1,427 1,470 1,470 1,470 1,470 Other Assets 37,193 33,928 40,036 39,857 40,128 Total Assets 188, , , , ,680 Loan growth to resume; 4Q16 showed positive pick-up in SME, commercial and auto loans Customer Deposits 115, , , , ,197 Inter Bank Deposits 1,826 2,873 2,350 2,611 2,480 Debts/Borrowings 22,800 19,813 23,775 27,161 31,086 Others 14,075 11,284 12,679 11,981 12,330 Minorities Shareholders' Funds 33,932 35,943 39,505 43,152 46,947 Total Liab& S/H s Funds 188, , , , ,680 Page 23

24 Bank Danamon Financial Stability Measures (%) FY Dec Balance Sheet Structure Loan-to-Deposit Ratio Net Loans / Total Assets Investment / Total Assets Cust. Dep./Int. Bear. Liab Interbank Dep / Int. Bear Asset Quality NPL / Total Gross Loans NPL / Total Assets Loan Loss Reserve Coverage Provision Charge-Off Rate Capital Strength Total CAR Tier-1 CAR NPL ratios to improve as absolute NPLs taper off and loan growth picks up Target Price & Ratings History 5179 Rp Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 S.No. Date of Report Closing Price 12-mth Target Price Rating 1: 04 Apr BUY 2: 11 Apr BUY 3: 27 Apr BUY 4: 19 May BUY 5: 14 Jul BUY 6: 27 Jul BUY 7: 26 Oct BUY 8: 15 Nov BUY 9: 05 Dec BUY 10: 13 Dec BUY 11: 16 Dec BUY 12: 02 Mar BUY 13: 14 Mar BUY Note : Share price and Target price are adjusted for corporate actions. Source: DBS Bank, DBSVI Analyst: Sue Lin LIM Benedictus Agung SWANDONO Page 24

25 Indonesia Company Guide Bank Mandiri Version 8 Bloomberg: BMRI IJ Reuters: BMRI.JK Refer to important disclosures at the end of this report DBS Group Research. Equity 24 Mar 2017 HOLD Last Traded Price ( 23 Mar 2017): Rp11,900 (JCI : 5,563.80) Price Target 12-mth: Rp12,800 (8% upside) (Prev Rp10,500) Potential Catalyst: Asset quality recovery Where we differ: Our FY17F earnings are below consensus on higher credit costs; FY18F earnings are higher on expectation of a stronger recovery in asset quality and better fee income potential Analyst Sue Lin LIM suelinlim@dbs.com Benedictus Agung SWANDONO agung.swandono@id.dbsvickers.com What s New FY16 proved to be a kitchen sinking year with credit costs soaring up to almost 4% FY17 earnings uplift mainly from lower credit cost, improved loan growth although lower NIM Asset quality yet to peak; drag extended further to 2Q17 Maintain HOLD, TP rises to Rp12,800 after FY17-18 earnings lift and lower risk-free rate Price Relative Rp , , , , , , , , Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Bank Mandiri (LHS) Relative JCI (RHS) Relative Index Forecasts and Valuation FY Dec (Rpbn) 2016A 2017F 2018F 2019F Pre-prov. Profit 43,258 44,697 51,951 59,489 Net Profit 13,807 20,762 27,745 34,067 Net Pft (Pre Ex.) 13,807 20,762 27,745 34,067 Net Pft Gth (Pre-ex) (%) (32.1) EPS (Rp) ,189 1,460 EPS Pre Ex. (Rp) ,189 1,460 EPS Gth Pre Ex (%) (32) Diluted EPS (Rp) ,189 1,460 PE Pre Ex. (X) Net DPS (Rp) Div Yield (%) ROAE Pre Ex. (%) ROAE (%) ROA (%) BV Per Share (Rp) 6,448 6,839 7,628 8,612 P/Book Value (x) Earnings Rev (%): 2 7 N/A Consensus EPS (Rp): 905 1,073 1,100 Other Broker Recs: B: 10 S: 6 H: 19 Source of all data on this page: Company, DBS Bank, DBSVI, Bloomberg Finance L.P. Longer-than-expected recovery track Further delay to recovery; maintain HOLD. Bank Mandiri s (BMRI) asset-quality issues have yet to reach a peak. The drag is further extended to 2Q17 as these issues have yet to reach a crescendo. Further non-performing loans (NPL) are still likely albeit in a smaller quantum. Credit cost for 2017 is still expected to remain high at % but much lower vs 2016 credit cost of almost 4%. While loan growth should pick up, net interest margin (NIM) may start to slip from here. Its high capital ratios led to a higher dividend payout of 45% (30% prev.). We understand this percentage is here to stay for two years. If such dividend payout is sustained, ROEs could creep higher. 4Q/FY16 earnings were a bomb; provisions were way higher than expected. BMRI saw its 4Q16 earnings plunge, booking up to Rp89.7trn of provisions during the quarter. Collectively, FY16 provisions hit a high of Rp24tr, equivalent to a credit cost of 4%, and NPL ratio at a high of 4%. Restructured loans almost doubled from a year ago while the proportion of restructured loans downgraded to non-performing rose to a high of 14% of restructured loans. FY16 NIM was higher thanks to a one-off interest payment from a corporate account; loan growth came in at 11%. Fee income was modest while cost-to-income ratio stood at 42%. Total CAR was at a high of 22%. Earnings uplift in FY17 almost purely on lower provisions. FY17F earnings growth of 50% is largely due to lower credit costs guided at % (DBS FY17F: 2.5%), albeit still significantly higher compared to its 5-year (FY11-16) historical average of 1.2%. NPL formation is expected to ease in FY17; NPL ratio to stay at the % range. NIM will likely slip as the positives from lower policy rate should start to fade. Our FY17-18F earnings are nudged up from lower credit costs as guided, coupled with expectations of a strong fee income momentum. Valuation: Maintain HOLD; TP raised to Rp12,800. Our TP (based on Gordon Growth Model 16% ROE, 11% growth rate, and 14% cost of equity) implies 1.8x FY17F BV, following earnings uplift for FY17-18F as well as a lower risk-free rate to 8% (from 8.5%). Assetquality recovery remains a risk which could limit share price upside, in our view. Key Risks to Our View: Quicker-than-expected asset-quality recovery. The market appears to be disregarding the prolonged asset-quality issue at BMRI. A quicker-than-expected recovery in its asset quality should confirm BMRI s visible fundamental catalyst. At A Glance Issued Capital (m shrs) 23,333 Mkt. Cap (Rpbn/US$m) 277,667 / 20,827 Major Shareholders (%) Govt. of Indonesia 60.0 Free Float (%) m Avg. Daily Val (US$m) 15.0 ICB Industry : Financials / Banks ed: CK / sa: MA, PY

26 Bank Mandiri WHAT S NEW FY17 earnings uplift mainly on lower credit costs Highlights It will get worse before it gets better. After hefty provisions in and NPL ratio hitting a high in FY16, we would have thought the worse is behind us. However, it appears that asset quality will still be a drag until 2Q17 but credit costs should ease from here. Management guided that NPL levels should peak in 1Q17 but loans at risk (NPL + special mentions loans + current portion of restructured loans) might remain elevated until 2Q17. BMRI s loan at risk is has been increasing since 4Q15 contrary to its peers which have largely showed a declining trend. Management also indicated that Rp2-4tr may be downgraded to NPL in 1Q17 and Rp10tr could be added into restructured loans. NPL should be maintained at 3.5%- 4.0% for FY17 but credit cost should be much lower at 2.5%-2.7% (from 4% in 4Q/FY16), albeit still significantly higher than its historical 5-year ( ) average of 1.2%. The only silver lining we are seeing is that new NPL formation should be easing. Loan at risk levels among SOE banks (2016) 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% BMRI BBCA BBRI BBNI BDMN BBTN BTPN PNBN 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16 Source: Companies, DBS Bank, DBSVI Higher loan growth but lower NIM. Loan growth this year is guided higher at 11%-13% (from 11% last year) mainly driven by consumer loans. However, NIM was guided to be slightly lower at 5.7%-5.8% as the positives from declining policy rate should start to fade. The high proportion of loans at risk could also take toll on interest income. Higher dividend payout for two years. During BMRI s recent Annual General Meeting, its board approved a higher dividend payout of 45% (from 30%) for FY17-18 on the back of high capital ratios. FY16 earnings review Asset-quality issues in the spotlight; provisions doubled y-o-y. BMRI reported weak 4Q16 earnings of Rp1.79tr on the back of higher provisions. This brought FY16 earnings to Rp13.8tr, representing 91%/88% of our/consensus earnings forecast. Asset quality was on a weakening trend. Non-performing loans (NPLs) reached 4% (vs 2.6% in FY15 and 3.8% in 3Q16), while restructured loans to total loans were higher at 7.6% (vs 5.5% in FY15 and 7% in 3Q16). Our concern lies with the quality of loan restructuring as 14% of loans that were already restructured with the help of external consultants in 2Q16 still fell into the NPL category. Most of these loans came from the commercial segment which was the main focus in 2Q16 s portfolio review. These downgrades required BMRI to book Rp24tr provisions which was the main drag on FY16 earnings. Higher NIM due to lower cost of funds and one-time interest income. Net interest margin (NIM) was higher at 6.44%, higher than 6.1% a year ago mainly due to lower cost of funds. A one-time interest payment in 3Q16 from the Raja Garuda Mas group also contributed to higher interest income and therefore NIM. Without it, NIM would be only slightly higher at 6.18%. Asset yields were also lower but it was insufficient to offset the positive impact from the lower cost of funds. Demand deposits were strong at 23% due to some temporary placements of government funds. CASA to total deposits was flattish y-o-y at 70% while loan-to-deposit ratio was slightly lower at 86.4% (vs 87.7% FY15). Time deposits jumped in 4Q16, mainly driven by repatriation funds from the tax amnesty programme. Separately, fee income grew by 14.2% y-o-y mainly driven by retail transactions. Opex was well maintained (8.7% y-o-y) with cost-to-income ratio falling to 41.3% (vs. 42.7% in 4Q15). Valuation and recommendation. Maintain HOLD, Rp12,800 TP. We have a HOLD rating on BMRI although our TP is raised to Rp12,800. Our TP is based on the Gordon Growth Model (16% ROE, 11% growth and 14% cost of equity), implying 1.8x FY17 BV. Although the market does not appear to be pricing in the further deterioration of asset quality, we are of the view that it is too early to turn bullish on BMRI. That said, BMRI, being a key proxy to the JCI and LQ45 index and deemed a key benchmark stock for the Indonesian banks, BMRI s share price performance is prone to positive macro news (including that of the possible sovereign rating upgrade by S&P Ratings). Key risks. Fundamentally, upside risk to our call would be a better-than-expected asset-quality improvement. Downside risks include its inability to disburse infrastructure loans in a big way and a sustained strain in NPLs. Page 26

27 Bank Mandiri Quarterly / Interim Income Statement (Rpbn) FY Dec 4Q2015 3Q2016 4Q2016 % chg yoy % chg qoq FY2015 FY2016 % chg yoy Net Interest Income 12,911 14,413 13, (8.6) 48,500 54, Non-Interest Income 6,175 5,789 6, ,360 19, Operating Income 19,086 20,202 19, (4.2) 66,861 73, Operating Expenses (8,080) (7,676) (7,962) (1.5) 3.7 (28,479) (30,522) 7.1 Pre-Provision Profit 11,006 12,526 11, (9.1) 38,382 43, Provisions (3,552) (6,023) (8,734) (12,043) (24,645) >100.0 Associates nm nm nm Exceptionals nm nm nm Pretax Profit 7,477 6,488 2,632 (64.8) (59.4) 26,369 18,573 (29.6) Taxation (1,725) (1,977) (838) (51.4) (57.6) (5,217) (3,923) (24.8) Minority Interests nm (100.0) (817) (844) 3.3 Net Profit 5,752 4,933 1,794 (68.8) (63.6) 20,335 13,807 (33.6) Growth (%) Net Interest Income Gth (8.6) 14.7 (4.5) Net Profit Gth (63.6) 23.5 (33.6) Key ratio (%) NIM NPL ratio Loan-to deposit Cost-to-income Total CAR Source of all data: Company, DBS Bank, DBSVI Page 27

28 Bank Mandiri Margin Trends CRITICAL DATA POINTS TO WATCH Earnings Drivers: Subdued loan growth in a tough environment. Loan growth is expected pick up slightly in FY17 to 11-13%. We forecast FY16 loan growth at 12%. Loan growth will continue to be driven by the corporate, commercial and micro segments. Realisation of the government infrastructure projects should add to corporate loan growth. Rp bn 70, % 60, % 50, % 40, % 30, % 20, % 10, % 0 6.0% Net Interest Income Net Interest Income Margin Leveraging on higher-yielding retail loans. BMRI has been mostly a corporate bank. It continues to focus on retail loans which are yielding bps more than its corporate book. And given that corporate loan growth is expected to be stronger in the coming years, the need to grow retail-based loans will be crucial to keep asset yields and NIM in check. Retail loans are defined as micro, SME and consumer loans. BMRI s long-term goal is to increase its retail loan mix to 45% of total loans by This shift in asset mix should lift NIM over time. 900, , , , , , , , ,000 0 Rp bn Gross Loan & Growth 20% 19% 18% 17% 16% 15% 14% 13% 12% 11% 10% Strong fee-based income growth; operating expenses to grow at historical levels. BMRI has always registered the highest proportion of fee-based income to total income among the big banks. Fee-based income will be driven by tapping into the value chain of existing customers and cross-selling existing insurance, loan and deposit products. Operating expenses will grow at historical levels as expansion will be stable in the future. Credit costs to decline from 2016 but still high vs historical trends. The weak economy and slower loan growth will pressure BMRI s asset quality this year. Management has indicated that cost of credit could increase beyond 2% this year, as the bank cautiously takes into account any potential deterioration in asset quality. The bank will maintain its cautious stance and continue to book high levels of provisions this year. In a worst case basis, credit cost could be as high as %. 1,000, , , , ,000 0 Rp bn Rp bn 1,207,954 1,107,954 1,007,954 Gross Loan (LHS) Gross Loan Growth (%) (YoY) (RHS) Customer Deposit & Growth Customer Deposits (LHS) Customer Deposits Growth (%) (YoY) (RHS) Loan-to-Deposit Ratio Trend 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% 90% 85% Liquidity is less of a problem. BMRI has indicated that it has gathered sufficient liquidity for 2015 through aggressive growth of time deposits in The easing liquidity conditions have allowed BMRI to re-price its deposits downwards and cut expensive time deposits to reduce cost of funds. The maturing low-yielding recap bonds will provide additional liquidity for growth. Up to Rp61tr of these bonds will mature in Syariah unit still facing asset-quality stress. Bank Syariah Mandiri (BSM) has been struggling with asset-quality issues and has not kept the same standard of risk management as BMRI. Since then, BMRI has changed the senior management of the unit and tightened risk management standards in BSM. The improvement in BSM s asset quality will reduce provisioning expenses at BMRI and boost earnings. 907, , , , ,954 Loans Deposit Loan-to-Deposit Ratio (RHS) Cost & Income Structure Rp bn 100,000 80,000 60,000 40,000 20, % 75% 70% 44% 43% 43% 42% 42% 41% 41% 40% Net Interest Income Non-interest Income Cost-to-income Ratio Page 28

29 Bank Mandiri Balance Sheet: Long-term target to focus on CASA. BMRI is targeting 70% CASA ratio by 2020; this is the most challenging target for the bank. It will focus on improving e-banking initiatives to improve transaction banking services. BMRI will also tap the value chain of existing customers to create a transaction banking ecosystem, to grow the number of operating accounts (current account deposits) in its portfolio. BMRI launched the branchless banking initiative to gain a foothold in mass-market funding, to add savings deposits over time. The worst of asset quality isn t over yet. Asset quality will still be a drag until 2Q17 but credit costs should ease from here. Management guided that NPL levels should peak in 1Q17 but loans at risk (NPL + special mentions loans + current portion of restructured loans) might remain elevated until 2Q17. NPL should be maintained at 3.5%-4.0% for FY17 but credit cost should be much lower at 2.5%-2.7% (from 4% in 4Q/FY16), albeit still significantly higher than its historical 5-year ( ) average of 1.2%. Higher dividend payout for BMRI s high capital ratios led to a higher dividend payout of 45% (30% prev.). We understand this percentage is here to stay for two years. If such dividend payout is sustained, ROEs could creep higher. Share Price Drivers: Improving momentum, resolution of NPLs. Although the market does not appear to be pricing in the further deterioration of asset quality, we are of the view that it is too early to turn bullish on BMRI. That said, BMRI, being a key proxy to the JCI and LQ45 index and deemed a key benchmark stock for the Indonesian banks, BMRI s share price performance is prone to positive macro news (including that of the possible sovereign rating upgrade by S&P Ratings). Key Risks: Extended slow growth. If infrastructure projects do not live up to expectations and mortgage demand does not pick up, BMRI may struggle to achieve its loan growth target. 5.0% 4.5% 4.0% 3.5% 3.0% 2.5% 2.0% 1.5% 1.0% 23.0% 22.0% 21.0% 20.0% 19.0% 18.0% 17.0% 16.0% 15.0% 18.0% 16.0% 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% (x) Asset Quality Capitalisation (%) ROE (%) Forward PE Band (x) NPL Ratio Provision Charge-Off Rate Tier-1 CAR Total CAR +2sd: 16x +1sd: 14.3x Avg: 12.6x 1sd: 10.8x Asset-quality risk. We have imputed higher credit costs in our projections, but the sustained macro weakness could lead to rising NPLs that could, in turn, necessitate higher provisions. Any further deterioration at its Syariah unit could also undermine BMRI s overall asset quality sd: 9.1x 7.2 Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 PB Band (x) (x) Company Background BMRI is Indonesia's largest bank by assets. Currently 60% owned by the Government of Indonesia, BMRI went through a transformation process that started in 2003, and has successfully positioned itself into what it is today sd: 2.94x +1sd: 2.56x Avg: 2.17x 1sd: 1.79x 1.2 Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 2sd: 1.41x Page 29

30 Bank Mandiri Key Assumptions FY Dec Gross Loans Growth Customer Deposits Growth Yld. On Earnings Assets Avg Cost Of Funds Income Statement (Rpbn) FY Dec Net Interest Income 48,500 54,478 56,321 63,180 70,974 Non-Interest Income 18,360 19,302 22,381 26,499 30,773 Operating Income 66,861 73,780 78,702 89, ,746 Operating Expenses (28,479) (30,522) (34,005) (37,728) (42,257) Pre-provision Profit 38,382 43,258 44,697 51,951 59,489 Provisions (12,043) (24,645) (17,963) (16,504) (16,130) Associates Exceptionals Pre-tax Profit 26,369 18,573 26,694 35,401 43,308 Taxation (5,217) (3,923) (5,004) (6,636) (8,118) Minority Interests (817) (844) (928) (1,021) (1,123) Preference Dividend Net Profit 20,335 13,807 20,762 27,745 34,067 Net Profit bef Except 20,335 13,807 20,762 27,745 34,067 Growth (%) Net Interest Income Gth Net Profit Gth 2.3 (32.1) Margins, Costs & Efficiency (%) Spread Net Interest Margin Cost-to-Income Ratio Business Mix (%) Net Int. Inc / Opg Inc Non-Int. Inc / Opg inc Fee Inc / Opg Income Oth Non-Int Inc/Opg Inc Profitability (%) ROAE Pre Ex ROAE ROA Pre Ex ROA Credit costs to decline in FY17 albeit still high compared to previous five years Excluding a one-off interest payment in FY16, NIM would be c.30bps lower. Expect FY17 NIM to slip as positives from funding costs fade and as competitive pressures set in Page 30

31 Bank Mandiri Quarterly / Interim Income Statement (Rpbn) FY Dec 4Q2015 1Q2016 2Q2016 3Q2016 4Q2016 Net Interest Income 12,911 12,331 11,913 14,413 13,168 Non-Interest Income 6,175 4,982 5,752 5,789 6,177 Operating Income 19,086 17,314 17,664 20,202 19,345 Operating Expenses (8,080) (7,930) (7,700) (7,676) (7,962) Pre-Provision Profit 11,006 9,383 9,965 12,526 11,383 Provisions (3,552) (4,312) (5,576) (6,023) (8,734) Associates Exceptionals Pretax Profit 7,477 5,066 4,386 6,488 2,632 Taxation (1,725) (1,039) (911) (1,977) (838) Minority Interests 0.0 (210) (212) Net Profit 5,752 3,817 3,263 4,933 1,794 Growth (%) Net Interest Income Gth 14.7 (4.5) (3.4) 21.0 (8.6) Net Profit Gth 23.5 (33.6) (14.5) 51.2 (63.6) Dented by higher-thanexpected provisions Balance Sheet (Rpbn) FY Dec Cash/Bank Balance 118, , , , ,007 Government Securities 104, , , ,288 99,938 Inter Bank Assets 10,872 14,390 17,310 20,772 24,927 Total Net Loans & Advs. 564, , , , ,983 Investment 43,690 56,797 63,883 72,374 82,563 Associates Fixed Assets 9,762 35,663 35,663 35,663 35,663 Goodwill Other Assets 58,775 66,183 65,064 66,356 66,476 Total Assets 910,063 1,038,706 1,140,633 1,275,413 1,431,557 Loan growth targeted at 11-13% in FY17 Customer Deposits 676, , , ,127 1,121,649 Inter Bank Deposits 12,636 9,339 10,988 10,164 10,576 Debts/Borrowings 39,901 45,124 37,937 31,917 26,873 Others 61,330 68,036 64,683 66,360 65,521 Minorities 2,422 2,916 3,844 4,865 5,987 Shareholders' Funds 117, , , , ,951 Total Liab& S/H s Funds 910,063 1,038,706 1,140,633 1,275,413 1,431,557 Page 31

32 Bank Mandiri Financial Stability Measures (%) FY Dec Balance Sheet Structure Loan-to-Deposit Ratio Net Loans / Total Assets Investment / Total Assets Cust. Dep./Int. Bear. Liab Interbank Dep / Int. Bear Asset Quality NPL / Total Gross Loans NPL / Total Assets Loan Loss Reserve Coverage Provision Charge-Off Rate Capital Strength Total CAR Tier-1 CAR High capital ratios; dividend payout raised to 45% in FY17-18 Target Price & Ratings History Rp Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 S.No. Date of Report Closing Price 12-mth Target Price Rating 1: 11 Apr HOLD 2: 17 May HOLD 3: 19 May HOLD 4: 04 Jul HOLD 5: 14 Jul HOLD 6: 27 Jul HOLD 7: 26 Oct HOLD 8: 15 Nov HOLD 9: 13 Dec HOLD 10: 16 Feb HOLD Note : Share price and Target price are adjusted for corporate actions. Source: DBS Bank, DBSVI Analyst: Sue Lin LIM Benedictus Agung SWANDONO Page 32

33 Indonesia Company Guide Bank Negara Indonesia Version 9 Bloomberg: BBNI IJ Reuters: BBNI.JK Refer to important disclosures at the end of this report DBS Group Research. Equity 27 Mar 2017 HOLD Last Traded Price ( 24 Mar 2017): Rp6,800 (JCI : 5,567.10) Price Target 12-mth: Rp6,600 (3% downside) (Prev Rp5,700) Potential Catalyst: Better than expected asset quality trends Where we differ: Lower earnings forecast on conservative NPL and credit cost assumption Analyst Sue Lin LIM suelinlim@dbs.com Benedictus Agung SWANDONO agung.swandono@id.dbsvickers.com What s New Strong growth model still in play; focus on CASA and fee-based income growth 2017 initiatives focused on sustainability FY16 earnings driven by strong loan growth Maintain HOLD; TP raised to Rp6,600 after imputing lower risk free rate assumption Price Relative Rp 220 7, , , , , , , , , , Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Bank Negara Indonesia (LHS) Relative JCI (RHS) Relative Index Forecasts and Valuation FY Dec (Rpbn) 2016A 2017F 2018F 2019F Pre-prov. Profit 20,705 21,707 24,424 27,605 Net Profit 11,339 12,581 14,821 17,045 Net Pft (Pre Ex.) 11,339 12,581 14,821 17,045 Net Pft Gth (Pre-ex) (%) EPS (Rp) EPS Pre Ex. (Rp) EPS Gth Pre Ex (%) Diluted EPS (Rp) PE Pre Ex. (X) Net DPS (Rp) Div Yield (%) ROAE Pre Ex. (%) ROAE (%) ROA (%) BV Per Share (Rp) 4,674 5,166 5,758 5,877 P/Book Value (x) Earnings Rev (%): Consensus EPS (Rp): N/A Other Broker Recs: B: 26 S: 1 H: 4 Source of all data on this page: Company, DBS Bank, DBSVI, Bloomberg Finance L.P. Strong growth with inherent risk Strong growth mode but risks are inherent, HOLD. Bank Negara Indonesia (BBNI) has been on a strong growth path but we are concerned that the aggressive loan disbursement could lead to asset quality risk in the future. Furthermore, we have also seen the decline in net interest margin (NIM) in BBNI s case in a declining interest rate environment, which begs the question of what will happen to NIM if rates (and funding cost) start to creep up again. Funding costs will likely be under pressure as BBNI s liquidity position has tightened. We continue to impute conservative assumptions for non-performing loans (NPL), credit costs, and NIM in our forecasts our key differentiation vs consensus. Strong FY16 thanks to loan growth. BBNI closed FY16 with a strong set of results, driven by strong loan growth and feebased income. NIM slipped contrary to peers as loan yields fell while funding costs stayed stable. Expenses were kept in check, with cost-to-income ratio virtually flat. However, provisions were still 7% higher than the kitchen-sinking period last year. NPL ratio was higher at 3% but loan loss coverage rose to a high of 146% outlook focuses on sustainability. BBNI targets 15-17% loan growth in FY17, mainly driven by corporate infra-related loans. NIM will however slip in FY17, taking into account the tighter liquidity conditions. BBNI s loan-to-deposit ratio stood at 90% and could likely rise to 92% in FY17. Key initiatives in focus in 2017 include: 1) sustaining CASA growth to have a CASA to total deposit ratio of 65%; this would be achieved via alternative channels including its branchless banking initiatives, 2) continued credit process improvements, and 3) growing feebased income (growth targe at 18-21% growth), leveraging on its e-banking and digital capabilities. NPL ratio should have peaked but there are a couple of accounts which may still be vulnerable and additional provisions may be required in 1Q17. Valuation: We have a HOLD rating on BBNI with higher TP of Rp6,600 after imputing lower risk free rate assumption following sustained low government bond yield. Our TP is based on the Gordon Growth Model (15% implied ROE, 10% growth and 14% cost of equity), implying 1.3x FY17 BV. Key Risks to Our View: Better-than-expected sustainable asset quality trends. While we have assumed a gradual recovery in asset quality indicators, better-than-expected NPL trends could pose upside risk to our forecasts. At A Glance Issued Capital (m shrs) 18,649 Mkt. Cap (Rpbn/US$m) 126,811 / 9,526 Major Shareholders (%) Republic of Indonesia 60% Free Float (%) 40% 3m Avg. Daily Val (US$m) 10.9 ICB Industry : Financials / Banks ed: JS / sa: MA, PY

34 Bank Negara Indonesia WHAT S NEW Strong growth with inherent risk Management targets 15-17% loan growth, less aggressive than 20% achieved last year. BBNI is still showing some appetite in the infrastructure business this year (infra loans targeted to grow 15%-20% y-o-y), but it may be less aggressive in the agriculture sector. Last year, BBNI aggressively took over some good debtors from its competitors (mostly in the Crude Palm Oil segment). This is unlikely to recur in 2017, leading to a lower loan growth target this year. Deposits targeted to grow 19%-21% with CASA ratio maintained at around the current level. Management indicated that they can acquire more cash management business from its current corporate debtors which may support the aggressive CASA growth target. NIM is expected to head lower to 5.8%-6% on two aspects: 1) asset yield may continue to slide due to higher exposure to infrastructure loans, and 2) higher deposit growth rate relative to loan growth. Moreover, higher inflationary environment could trigger higher policy rates, and thus cost of funds. NPL ratio is expected be stay below 3%, with asset recovery targeted at Rp tr, much higher than Rp1.5tr last year. Coverage ratio will be maintained at an adequate 147%- 149% level. BBNI s small commercial and medium loan books remain under stress; certain segments of its mortgage book as well. Initiatives in ) BBNI continues to strengthen its credit underwriting process to maintain strong loan growth. It plans to enhance the Administration Credit system (as a means to improve documentation and collateral verification) especially in the medium and small segments. Moreover, BBNI is also decentralising the compliance and audit function to improve operational efficiency. 2) As part of the branchless banking initiative, BBNI plans to add Agent 46 (branchless banking agents), with up to 50,000 agents (from 30,860 agents last year) to support its aggressive customer acquisition target in the next two years. 3) Fee based income is expected to maintain strong, growing by 18%-21% this year supported by the corporate transaction banking business and e-banking. Elsewhere, opex is expected to be maintained at 14%- 16% as there is no major expansion on the cards. BNI Life is expected to maintain strong growth traction. BNI Life added 30%-40% new agents in the past few years while 20% addition is expected this year. Currently these agents have covered 1,000 BBNI outlets (from 1,990 outlets) across Indonesia. Management expects to increase the presence of these agents across BBNI s vast outlet network. Less aggressive ATM and EDC expansion as most of the SOE banks are in wait and see mode to adjust with the Himbara (Himpunan Bank Milik Negara/SOE Banks) initiatives. The SOE ministry previously planned to integrate ATM and EDC networks of the SOE banks to improve efficiency in the banking industry. Valuation and recommendation. We have a HOLD rating on BBNI with higher TP of Rp6,600 after imputing lower risk free rate assumption following sustained low government bond yield. Our TP is based on the Gordon Growth Model (15% implied ROE, 10% growth and 14% cost of equity), implying 1.3x FY17 BV. Page 34

35 Bank Negara Indonesia CRITICAL DATA POINTS TO WATCH Earnings Drivers: Strong loan growth driven by corporates. Management remains keen to ride this infra boom by plotting one director specifically to maintain a good relationship with government officials and to win infra projects. Most of the infra loans would be syndicated loans channelled towards SOE contractors. We forecast loan growth of 15% for FY17F, the lower end of the 15%-17% management guidance. NIM to moderate. BBNI would likely see NIM slide below 6% in FY17F. Cost of funds may start to increase given its tighter liquidity position. Asset yields will decrease with the lower consumer and retail rates as well as the shift to lower-yielding corporate loans. Furthermore, potential regulation on interest rate cap on credit cards might drag down yield from the credit card business, which contribute c.3% of BBNI's loan portfolio. Reviewing risky loan segments. In the past, BBNI had struggled with asset-quality issues in the small and medium loan book. As such, there will be a concerted effort to focus on business process improvements and prudent growth for small and medium loans. The current management requires the compliance division to be involved in the credit origination process for small commercial loans. Each of the debtors in the medium segment has also been reviewed, leading to an improvement in asset quality. BBNI currently runs its micro lending business via its Syariah unit, BNI Syariah, which is still comparatively small (c.4% of assets/less than 1% of earnings). Uplift from insurance business. Fee-based income is expected to continue to grow strongly as insurance premiums from the BNI Life-Sumitomo tie-up are starting to gain traction, while recurring ATM and credit card fees are also showing good growth. By the end of 2016 the BNI Life agents have covered c.1,000 BNI outlets (from total 1,990). Management is eager to recruit more agents to increase the coverage of these outlets. Credit cost may remain elevated in FY17. Credit cost may cause significant swings in BBNI s earnings forecast. We expect credit cost to remain elevated to cover the risk of aggressive loan disbursement. BBNI's coverage ratio is at high 146% in FY16, but we do not discount the probability of further downgrades and write offs if the economy and commodity prices turn out weaker than expected. Keeping an eye on the costs. Management is targeting to maintain 14-16% opex growth this year. However, cost-toincome ratio can continue to increase if the loan yield is lower than expected. The opex is mainly made up of personnel and G&A expenses. 40,000 35,000 30,000 25,000 20,000 15,000 10,000 5,000 0 Rp bn 500, , , , , , , , , , ,000 0 Margin Trends Rp bn Rp bn Rp bn 732, , , , , , , , , ,660 Rp bn 60,000 50,000 40,000 30,000 20,000 10,000 0 Net Interest Income Gross Loan& Growth Customer Deposit & Growth Loan-to-Deposit Ratio Trend Cost & Income Structure Net Interest Income Margin Gross Loan (LHS) Gross Loan Growth (%) (YoY) (RHS) Customer Deposits (LHS) Customer Deposits Growth (%) (YoY) (RHS) Loans Deposit Loan-to-Deposit Ratio (RHS) 7.0% 6.8% 6.6% 6.4% 6.2% 6.0% 5.8% 5.6% 30% 25% 20% 15% 10% 20% 19% 18% 17% 16% 15% 14% 13% 12% 11% 10% 95% 90% 85% 80% 75% 56% 55% 55% 54% 54% 53% 53% 52% 52% 51% Net Interest Income Non-interest Income Cost-to-income Ratio Page 35

36 Bank Negara Indonesia Balance Sheet: Tight liquidity. Liquidity is tight with its LDR ratio above 92% (LFR c.90%, near the regulatory limit of 92%). However, BBNI has a large chunk of loans from Chinese Development Bank which are currently excluded from the LDR calculation. It is in negotiations with OJK to include these loans in the LFR calculation. 4.0% 3.5% 3.0% 2.5% 2.0% 1.5% Asset Quality NPL Ratio Provision Charge-Off Rate Asset quality remains a concern. While the tide has passed for the worst of credit cost, we remain cautious on BBNI s assetquality position. Asset quality may deteriorate further from its small and medium loan books. Special-mention and restructured loans were at 2.9% and 8% of total gross loan respectively as at FY16. Recovery rate were also lower last year due to some hiccups in the legal process which may take some time to solve. Safe level of capitalisation. BBNI is well capitalised with CAR at above the 15% level over the years. The asset revaluation exercise at the end of 2015 boosted capital ratios by 3ppts. The majority of its capital is Tier-1 core capital. Share Price Drivers: Aggressive loan growth may pose concerns on future NPLs, limiting share price upside. BBNI s asset quality remained under control, supporting its share price to date. We are however, concerned that over time, the aggressive loan growth could cause future NPL issues. As it is, we believe the market is ignoring its existing NPL issues with the small commercial, medium and selected mortgage portfolio. Further asset-quality deterioration could take a toll on earnings and hence share price, in our view. 1.0% 20.0% 19.0% 18.0% 17.0% 16.0% 15.0% 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% Capitalisation (%) Tier-1 CAR Total CAR ROE (%) Key Risks: Inability to protect NIM. NIM may be pressured if BBNI has to reduce lending rates to achieve its loan growth targets. Failure to maintain CASA ratio is also a key risk to NIM. (x) Forward PE Band (x) +2sd: 12.8x Better-than-expected NPL trends. High levels of consumer and medium segment NPLs are a concern. Aggressive loan expansion, if not managed well, may also trigger further NPL formations in the future. While we have assumed a gradual recovery in asset-quality indicators, better-than-expected NPL trends could pose upside risk to our forecasts. Company Background Bank Negara Indonesia (BBNI) is a state-owned enterprise bank that conducts commercial and consumer banking services. BBNI ranks fourth in the Indonesian banking sector based on assets, lending and third-party deposits. BBNI offers integrated financial services to its customers, supported by its subsidiaries: Bank BNI Syariah, BNI Multi Finance, BNI Securities and BNI Life Insurance Mar-13 Mar-14 Mar-15 Mar-16 PB Band (x) (x) Mar-13 Mar-14 Mar-15 Mar-16 +1sd: 11x Avg: 9.2x 1sd: 7.4x 2sd: 5.6x +2sd: 2.24x +1sd: 1.9x Avg: 1.56x 1sd: 1.23x 2sd: 0.89x Page 36

37 Bank Negara Indonesia Key Assumptions FY Dec Gross Loans Growth Customer Deposits Growth Yld. On Earnings Assets Avg Cost Of Funds Income Statement (Rpbn) FY Dec Net Interest Income 25,560 29,995 33,382 36,955 41,014 Non-Interest Income 10,593 14,182 14,721 16,562 18,661 Operating Income 36,153 44,177 48,103 53,517 59,675 Operating Expenses (18,995) (23,472) (26,396) (29,093) (32,069) Pre-provision Profit 17,158 20,705 21,707 24,424 27,605 Provisions (5,746) (6,475) (5,956) (5,861) (6,246) Associates Exceptionals Pre-tax Profit 11,466 14,303 15,833 18,654 21,460 Taxation (2,326) (2,893) (3,167) (3,731) (4,292) Minority Interests (74.0) (71.4) (85.7) (103) (124) Preference Dividend Net Profit 9,067 11,339 12,581 14,821 17,045 Net Profit bef Except 9,067 11,339 12,581 14,821 17,045 Growth (%) Net Interest Income Gth Net Profit Gth (15.9) Margins, Costs & Efficiency (%) Spread Net Interest Margin Cost-to-Income Ratio Business Mix (%) Net Int. Inc / Opg Inc Non-Int. Inc / Opg inc Fee Inc / Opg Income Oth Non-Int Inc/Opg Inc Profitability (%) ROAE Pre Ex ROAE ROA Pre Ex ROA Loan growth to remain strong between 15%- 17% NIM to gradually slip due to the bank s focus to grow lower-yielding loans Page 37

38 Bank Negara Indonesia Quarterly / Interim Income Statement (Rpbn) FY Dec 4Q2015 1Q2016 2Q2016 3Q2016 4Q2016 Net Interest Income 6,856 6,908 7,003 7,963 8,121 Non-Interest Income 2,498 2,528 2,575 2,879 3,323 Operating Income 9,354 9,436 9,578 10,842 11,444 Operating Expenses (4,553) (4,204) (4,575) (4,741) (5,697) Pre-Provision Profit 4,801 5,232 5,003 6,101 5,747 Provisions (933) (1,478) (3,254) (1,878) (1,243) Associates Exceptionals Pretax Profit 3,870 3,747 1,753 4,201 4,603 Taxation (801) (774) (355) (855) (981) Minority Interests Net Profit 3,069 2,973 1,398 3,346 3,622 Provisions eased and lifted earnings in the last two quarters. Growth (%) Net Interest Income Gth Net Profit Gth (14.0) (3.1) (53.0) Balance Sheet (Rpbn) FY Dec Cash/Bank Balance 52,821 47,613 63,476 85, ,116 Government Securities 47,599 64,671 65,539 66,519 67,614 Inter Bank Assets 33,417 33,662 35,341 37,108 38,964 Total Net Loans & Advs. 314, , , , ,162 Investment 9,963 23,822 26,037 28,518 31,247 Associates Fixed Assets 20,757 21,972 21,765 21,518 21,229 Goodwill Other Assets 29,972 34,698 35,166 36,923 38,253 Total Assets 508, , , , ,585 Customer Deposits 370, , , , ,449 Inter Bank Deposits 4,698 10,224 7,461 8,843 8,152 Debts/Borrowings 29,890 40,193 42,202 44,312 46,528 Others 25,149 27,816 26,032 26,849 26,441 Minorities 2,024 2,097 2,182 2,285 2,409 Shareholders' Funds 76,415 87,157 96, , ,607 Total Liab& S/H s Funds 508, , , , ,585 Page 38

39 Bank Negara Indonesia Financial Stability Measures (%) FY Dec Balance Sheet Structure Loan-to-Deposit Ratio Net Loans / Total Assets Investment / Total Assets Cust. Dep./Int. Bear. Liab Interbank Dep / Int. Bear Asset Quality NPL / Total Gross Loans NPL / Total Assets Loan Loss Reserve Coverage Provision Charge-Off Rate Capital Strength Total CAR Tier-1 CAR Target Price & Ratings History Rp S.No. Date of Report Closing Price 12-mth Target Price Rating 1: 11 Apr HOLD 2: 13 Apr HOLD 3: 19 May HOLD 4: 14 Jul HOLD 5: 25 Jul HOLD 6: 14 Oct HOLD 7: 15 Nov HOLD 8: 13 Dec HOLD 9: 27 Jan HOLD 10: 08 Feb HOLD Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 Note : Share price and Target price are adjusted for corporate actions. Source: DBS Bank, DBSVI Analyst: Sue Lin LIM Benedictus Agung SWANDONO Page 39

40 Indonesia Company Guide Bank Rakyat Indonesia Version 9 Bloomberg: BBRI IJ Reuters: BBRI.JK Refer to important disclosures at the end of this report DBS Group Research. Equity 27 Mar 2017 BUY Last Traded Price ( 24 Mar 2017): Rp13,150 (JCI : 5,567.10) Price Target 12-mth: Rp15,000 (14% upside) (Prev Rp13,600) Potential Catalyst: Absence of kitchen sinking exercise Where we differ: FY17-18 earnings above consensus on lower credit costs; our TP is among the highest on the street Analyst Sue Lin LIM suelinlim@dbs.com Benedictus Agung SWANDONO agung.swandono@id.dbsvickers.com What s New The new CEO should bode well with BBRI s direction to the micro banking going forward Branchless banking initiatives is gaining traction with transaction value/agents doubling y-o-y Conservative asset quality and NIM guidance are likely to be achieved Maintain BUY with higher TP of Rp15,000 on lower risk free rate assumption. Price Relative Rp , , , , , , , , , Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Bank Rakyat Indonesia (LHS) Relative JCI (RHS) Relative Index Forecasts and Valuation FY Dec (Rpbn) 2016A 2017F 2018F 2019F Pre-prov. Profit 47,755 49,449 54,855 61,122 Net Profit 26,196 29,123 32,368 36,479 Net Pft (Pre Ex.) 26,196 29,123 32,368 36,479 Net Pft Gth (Pre-ex) (%) EPS (Rp) 1,072 1,191 1,324 1,492 EPS Pre Ex. (Rp) 1,072 1,191 1,324 1,492 EPS Gth Pre Ex (%) Diluted EPS (Rp) 1,072 1,191 1,324 1,492 PE Pre Ex. (X) Net DPS (Rp) Div Yield (%) ROAE Pre Ex. (%) ROAE (%) ROA (%) BV Per Share (Rp) 5,989 6,946 7,913 9,008 P/Book Value (x) Earnings Rev (%): Consensus EPS (Rp): 1,162 1,291 1,238 Other Broker Recs: B: 25 S: 4 H: 6 Source of all data on this page: Company, DBS Bank, DBSVI, Bloomberg Finance L.P. Gaining Momentum Maintain BUY with new TP of 15,000. We believe BBRI s ability to maintain stable profitability and asset quality is underappreciated by the market. BBRI is the only big SOE banks who consistently booked positive earnings growth for the past decade, thanks to its solid micro banking franchise. It also has the best asset quality metrics among SOE banks with loan-at-risk (NPL + Special Mention Loans (SML) + Restructured loans in the current category) at 9.4%, lower than average industry (ex. BCA) at 10.3%. Branchless banking initiatives is gaining traction with transaction value/agents doubling y-o-y. Further inroads for its branchless banking initiatives are expected to further raise e- banking-related fees. Suparjanto as the new CEO. Mr. Suparjanto was previously Bank Negara Indonesia s (BBNI) vice president director, a role which he held since He was previously with BBRI since We view his appointment positively as his credentials should bode will with BBRI s direction to the micro banking going forward. Conservative guidance for Management is guiding for 2%-5% net profit growth in FY17 despite the respectable loan growth target of 12%-14% (higher than the industry which is expected to grow at 10%-12%). The lower growth at the bottomline is mainly due to slightly lower NIM and higher credit cost. Opex growth is also expected to be at 15%-18% as the bank continues to build up its Electronic Data Capture (EDC) for the BRI Link branchless banking initiative. NPL is guided higher at 2.2%-2.4% mainly due to management s conservative stance. Apart from loan growth which we assumed at 14%, our forecasts are ahead of management guidance, with FY17-18F earnings above consensus. Valuation: Maintain BUY with higher TP of Rp15,000 after imputing lower risk free rate assumption of 8% (vs previously 8.5%) following the sustained low government bond yield. Our TP is based on the Gordon Growth Model (18% ROE, 10% growth and 14% cost of equity), and implies 2.2x FY17 BV. Key Risks to Our View: Regulatory risks remain an overhang. KUR rates are negotiated with the government annually thus subject to change. Kitchen sinking after the new CEO. Fears of a possibility of kitchen sinking after the new CEO took charge. However, we expect it to be a clearing event for the stock rather than an investment risk At A Glance Issued Capital (m shrs) 24,669 Mkt. Cap (Rpbn/US$m) 324,400 / 24,369 Major Shareholders (%) Govt of Indonesia (%) 59.0 Free Float (%) m Avg. Daily Val (US$m) 17.8 ICB Industry : Financials / Banks ed: JS / sa: MA, PY

41 Bank Rakyat Indonesia WHAT S NEW New CEO on board Highlights Suparjanto as the new CEO. Bank Rakyat Indonesia (BBRI), at its AGM yesterday, announced the appointment of Mr. Suparjanto as the new President Director. Mr. Suparjanto was previously Bank Negara Indonesia s (BBNI) vice president director, a role which he held since Mr. Suparjanto replaces Mr. Asmawi Syam, who had assumed the President Director position since March Before joining BBNI in 2015, Mr. Suparjanto had a long career in BBRI. He previously served as BBRI's Director of Network & Service ( ), Regional Leader Jakarta Jakarta Regional Office 1 ( ), and Head of the Division of Corporate Secretary ( ). We view the appointment of Mr. Suparjanto as Bank Rakyat's new President Director as being positive to the bank. Having been in Bank Rakyat since 2005, Mr. Suparjanto's credentials should bode well for Bank Rakyat's strategic direction to the micro banking going forward. Indra Utoyo to serve as director. BBRI also appointed Mr. Indra Utoyo to replace Mr. Zulhelfi Abidin as Operational Director. Mr. Indra had previously served as PT. Telekomunikasi Indonesia Tbk's (TLKM) director since Outlook Regulatory impact to earnings is limited. For this year, KUR rate is still at 9% and the credit insurance premium is raised to 1.75% from 1.5%. The co-ordinating Ministry of Economic Affairs previously hinted at a 45bps interest subsidy cut (to 9.55% from 10%) but BBRI s management previously indicated the subsidy will likely be unchanged. Our sensitivity analysis suggests that the potential change in interest subsidy has little impact on earnings. Assuming the scenario with interest subsidy lowered at 9.55% (from 10%), FY17 net profit will be lowered by 1%. Furthermore the new KUR scheme also requires BBRI to disburse loans to the production sectors such as paddy & fish farming and basic manufacturing. BBRI s management indicated that the government has targeted an achievable 40% KUR disbursement to these production sectors (from currently c.30%). Refer to Chart 1 and Chart 2. Better-than-expected KUR scheme in 2017 provides upside to our FY17-18 NIM and earnings forecasts. The scenario laid out to date is better than our previous forecast of 200bps cut in KUR yield. With the current worst case scenario KUR yield would be lowered by only 70 bps (25bps higher on insurance premium and 45 bps lower on interest subsidy) instead of 200bps. This provides upside to our NIM and earnings forecast. Our NIM forecast is raised from % to %. Soft cannibalisation of Kupedes due to product differences. Kupedes loan balance still grew by 7% y-o-y, easing the concern that the existing Kupedes customer will be cannibalised by the lower yielding KUR. We believe the cannibalisation impact is limited by the slow disbursement of retail KUR loans which should compete head to head with Kupedes, as both has ticket size of Rp200m. KUR Micro, on the other hand, has a ticket size of Rp25m and will only cannibalise the smaller fragment of Kupedes customers (Kupedes loan with a ticket size of below Rp25m). Refer to Chart 3 and 4. This explains why, despite the increasing balance of Kupedes loans, the number of Kupedes customers declined to 4m from 4.4m. How much cannibalisation affect loan yield? Our analysis suggest that the current KUR scheme should only lower asset yield by 8bps and NIM by 6bps compared to FY16 (refer to Chart 9). Therefore, we believe that the overall impact of cannibalisation is still manageable. Building up NPL coverage up to the normal level. We believe that the management is prioritizing on building up the coverage ratio to reach normal levels. The ratio was well above 200% during the upcycle phase between 2012 and 2014 but down to c.150% during the downturn cycle. BBRI s management offered a conservative earnings growth guidance of 3-5%, mainly on the back of higher credit cost assumption of 2.2%-2.4% (higher than FY16 at c.2.0%). Refer to Chart 5. We expect ROE uplift might be visible once BBRI reach comfortable levels for coverage ratio and lower credit costs. Branchless banking initiatives gain traction. BRILink agents reached in 4Q16, with the transaction value per agent more than doubling to Rp1.6m (vs previously 714K in 4Q15). This could lay a strong foundation for fee income, deposits, and lending for the future. Going forward, management is targeting 30k-40k new agents this year. Refer to Chart 6. BBRI, the main proxy for micro lending. The micro lending landscape has changed significantly after the new KUR scheme came into play in Aug This has made it more challenging for other banks to stay competitive in the micro lending business. We believe BBRI will continue to have a natural advantage in micro lending given its historical track record in this area. Barriers to entry for micro lending are not high but the ability to sustain profitability in this business will be a challenge for most players. Page 41

42 Bank Rakyat Indonesia Guiding for positive NPL trend in 1Q17; conservative outlook throughout the year. Management is expecting an upgrade of some big corporate accounts in 1Q17. Management stated that it has found a solution for these companies and is expecting an upgrade and payment of deferred interest income to materialise in 1Q17. However, NPL for the full year is guided higher at 2.2%-2.4% (vs currently at 2.1) mainly due to management s conservative stance. Credit cost is also expected to remain elevated this year at % due to its intention to build up coverage. High opex growth expected; expand EDCs but less ATM additions. Opex growth is also expected to be high at 15%- 18% as the bank continues to build up its Electronic Data Capture (EDC) for the BRI Link branchless banking initiative. BBRI intends to continue to expand EDC to support its branchless banking initiative. Management is targeting 30k-40k new agents to be equipped with EDC. There may be lower ATM additions on the other hand, due to the government s programme to integrate the infrastructure network of SOE banks as part of the Himbara (Himpunan Bank Milik Negara) initiatives. Slight improvement in earnings growth expected. Management is guiding for 2%-5% net profit growth in FY17, despite the respectable 12-14% loan growth. The lower growth at the bottomline would mainly be due to slightly lower NIM and higher credit cost. Higher payout on the cards. A higher dividend payout may be on the cards given its high capital ratios. BBRI could also follow Bank Mandiri s footsteps towards delivering a higher dividend payout. The dividend payout decision will likely be discussed at its upcoming AGM and with the Ministry of SOE. Valuation and recommendation Maintain BUY with higher TP of Rp15,000 after imputing lower risk free rate assumption of 8% (vs previously 8.5%) following the sustained low government bond yield. Our TP is based on the Gordon Growth Model (18% ROE, 10% growth and 14% cost of equity), and implies 2.2x BV. Page 42

43 Bank Rakyat Indonesia Chart 1: KUR disbursement target FY17 KUR Type Target Industry BBRI (Rp tr) (Rp tr) FY16 Disbursement BBRI (Rp tr) KUR Micro KUR Retail Total KUR Chart 3: Micro loans products Loan Type Ticket Size Collateral Rate KUR Micro Up to Rp25mn No 9% KUR Retail Up to 200mn in units Up to 500mn in branches No 9% Kupedes Up to 200mn Yes 18%-25% Chart 5: Coverage ratio and credit costs 300% 250% 200% 150% 100% 50% 0% Normal coverage level of 200% Upycle phase 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16 Coverage Ratio Downtrun cycle and reparing phase Credit Cost - RHS 3% 3% 2% 2% 177% 1% 1% 0% Chart 2: KUR disbursement by economic sector in 2016 Chart 4: Changes in micro loan portfolio Rp tr % 67.31% Farming, Forestry, Hunting Manufacturing Services Fisheries Trading 16.36% 1.17% 4.25% Chart 6: BRILink branchless banking initiative % y-o-y Balance Agents (Ths) Million Kupedes New Micro KUR Others 317% y-o-y Transaction Volume (mn) Q15 1Q16 2Q16 3Q16 4Q Number of Customers 288% y-o-y Transaction Value (Rp tr) Transaction value/agents rose to Rp1.6mn in 4Q16 vs 714K in 4Q15 Chart 7: ROE vs PBV multiple 40% 35% 30% 25% 20% 15% 1Q11 2Q11 3Q11 4Q11 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q ROE PBV - RHS Source: Coordinating Ministry of Economic Affairs, companies, Bloomberg Finance L.P, DBS Bank, DBS Vickers Page 43

44 Bank Rakyat Indonesia Chart 9: How much cannibalisation affect loan yield? Bank only loan composition Loan Outstanding F Portion in 2016 Portion in 2017 Growth y-o-y Notes Kupedes 128, , , ,599 25% 23% 7% Expect Kupedes to grew moderately at 7% Kupedes Rakyat 0 15,120 4,200 Kupedes Rakyat Stop Micro KUR 24,500 5, Old Micro Stop New KUR 0 12,700 51,000 96,500 8% 13% 89% KUR disbursement of Rp71tr; half of the balance in 2016 (Micro and Retail) will mature Total Micro 153, , , ,099 33% 36% 24% Sum of Micro Non Micro 365, , , ,143 67% 64% 9% Total Loan 519, , , , % 100% 14% Assuming 14% Loan Growth in 17F Bank only loan composition Interest Rate Assumption * F Kupedes 20.5% 20.5% 20.5% Kupedes Rakyat 26.0% 26.0% Micro KUR 22.0% 22.0% Cannibalisation was soft. Kupedes still growing at 7% despite the aggressive disbursement of KUR. KUR portion to increase to 13% (from 8%) assuming Rp71tr of new KUR disbursed in New KUR (Micro and Retail) 19.0% 19.0% 18.55% Total Micro 22.7% 20.6% 19.7% Non Micro 10.5% 10.5% 10.5% Mild negative impact on blended loan yield. 8bps decline on lending yield due to lower interest subsidy Blended Loan Yield 13.99% 13.78% 13.70% *Rate of the Micro Products from company guidance Total Micro, Non Micro, and Asset Yield based on our own calculation Page 44

45 Bank Rakyat Indonesia CRITICAL DATA POINTS TO WATCH Earnings Drivers: Micro driven loan growth. Micro loans continue to be resilient while cautious on the small commercial and medium segment loans. We forecast FY17F loan growth at 14%, driven mainly by micro loans, especially KUR loans and corporate loans Margin Trends Rp bn 90,000 80,000 70,000 60,000 50,000 40,000 30,000 20,000 10, % 8.6% 8.4% 8.2% 8.0% 7.8% 7.6% 7.4% 7.2% Normalising NIM BBRI should see lower NIM from the unusually high NIM in 2016 as the benefits of a lower interest rate environment in 2016 should fade. Interest rates especially from the corporate loans should adjust lower while cost of funds should hit rock bottom. A higher policy rate in 2016 can also drag NIM further, as cost of funds usually adjust faster than loan yields. Regulatory overhang on KUR For 2017, KUR rate is still at 9% and the credit insurance premium is raised to 1.75% from 1.5%. The amount of interest subsidy by government, however, is still an overhang. The coordinating Ministry of Economic Affairs was previously talking about a 45bps interest subsidy cut (to 9.55% from 10%) but BBRI s management previously indicated the subsidy will likely be unchanged. Positive asset-quality trends to continue. Its blended NPL ratio is flattish in 2016, with the NPL ratio in the micro segment diving below 1%. Note that this is the lowest NPL ratio in micro segment in the past five years. The risk of NPL and provision expenses should come from the medium- and corporate segments. 900, , , , , , , , , ,000, , , , ,000 0 Rp bn Rp bn Net Interest Income Gross Loan& Growth Customer Deposit & Growth Net Interest Income Margin Gross Loan (LHS) Gross Loan Growth (%) (YoY) (RHS) Customer Deposits (LHS) Customer Deposits Growth (%) (YoY) (RHS) 20% 19% 18% 17% 16% 15% 14% 13% 12% 11% 10% 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% Maintaining strong fee income growth. Approximately 50% of BBRI s fee-based income comes from loan and deposit fees. BBRI plans to grow its e-channel initiatives, mainly ATMs. It also needs to improve its credit card services but it is hard for micro customers to adopt credit cards. Rolling out branchless banking initiative. BBRI is riding on its experience and existing infrastructure in micro mass market loans to expand its branchless banking operations. BBRI is targeting additional 30K-40K agents in 2017 (84,550 in 2015). Agents are able to offer a basic savings account product and transaction banking services, and refer customers to a BBRI unit for lending products. It will also add to CASA in the long term. Loan-to-Deposit Ratio Trend Rp bn 1,207,222 1,107,222 1,007, , , , , ,222 Loans Deposit Loan-to-Deposit Ratio (RHS) Rp bn 100,000 80,000 60,000 40,000 20,000 Cost & Income Structure 93% 91% 89% 87% 85% 83% 81% 79% 77% 75% 48% 47% 46% 45% 44% 43% 42% 0 41% Net Interest Income Non-interest Income Cost-to-income Ratio Page 45

46 Bank Rakyat Indonesia Balance Sheet: Balancing its funding mix. BBRI wants to diversify its funding composition and match the maturity of its assets and liabilities. It has plans to issue up to Rp8tr of bonds to help ease its liquidity position. BBRI also wants to improve its CASA ratio to 60% by optimising CASA marketing agents and improving its services by adding branches and rolling out branchless banking agents. LDR is stretched at above the 90% level and BBRI is expecting the recent bond issuance to help ease its liquidity situation. Improvements in business process to improve asset quality. BBRI will improve its underwriting processes to improve asset quality. The bank will create a special task force to tackle NPL and special-mention loans. It will also limit loans to small- and medium-sized players, focusing on certain quality debtors and industries. BBRI will also place experienced personnel from its head office to regional offices to improve its business processes. The majority of the problems in its NPL stem from the small commercial and medium segments. Strong capital position. BBRI s CAR remains healthy at above 20%, thanks to the asset revaluation exercise done in June The high capital ratio provides some rooms to increase the dividend payout going forward. Share Price Drivers: Lower credit costs and asset quality trends. Provision expenses would be the main driver for ROE and therefore valuation going forward. Coverage ratio is near the normal 200% level but the new CEO, which will come on board this year, might fuel concerns of kitchen sinking. 3.0% 2.8% 2.6% 2.4% 2.2% 2.0% 1.8% 1.6% 1.4% 1.2% 1.0% 22.0% 21.5% 21.0% 20.5% 20.0% 19.5% 19.0% 18.5% 18.0% 20.0% 15.0% 10.0% 5.0% 0.0% Asset Quality Capitalisation (%) ROE (%) NPL Ratio Provision Charge-Off Rate Tier-1 CAR Total CAR Key Risks: Regulatory pressure. The KUR scheme is negotiated on an annual basis and therefore might cause jitters to the stock price. Government initiatives to form a superholding company might also cause uncertainties. Asset-quality issues. Asset quality in the medium and corporate segment remains under pressure and might continue to deteriorate if the economy remains weak Forward PE Band (x) (x) Mar-13 Mar-14 Mar-15 Mar-16 +2sd: 12.2x +1sd: 11x Avg: 9.9x 1sd: 8.7x 2sd: 7.6x Company Background BBRI is Indonesia's leading micro lender, mainly to retail clients largely in the rural areas. The bank also has a comparatively small but growing corporate business. It is currently a 59% government-owned operating company. (x) PB Band (x) +2sd: 3.33x +1sd: 2.93x Avg: 2.53x Mar-13 Mar-14 Mar-15 Mar-16 1sd: 2.13x 2sd: 1.73x Page 46

47 Bank Rakyat Indonesia Key Assumptions FY Dec Gross Loans Growth Customer Deposits Growth Yld. On Earnings Assets Avg Cost Of Funds Expect modest loan growth of 14% Income Statement (Rpbn) FY Dec Net Interest Income 58,280 67,576 72,731 80,896 90,387 Non-Interest Income 12,409 17,278 20,069 22,878 26,081 Operating Income 70,689 84,854 92, , ,469 Operating Expenses (31,276) (37,098) (43,351) (48,919) (55,347) Pre-provision Profit 39,413 47,755 49,449 54,855 61,122 Provisions (8,900) (13,791) (13,760) (15,190) (16,418) Associates Exceptionals Pre-tax Profit 32,494 33,974 37,770 41,978 47,311 Taxation (7,083) (7,746) (8,611) (9,571) (10,787) Minority Interests (13.0) (32.2) (35.8) (39.8) (44.9) Preference Dividend Net Profit 25,398 26,196 29,123 32,368 36,479 Net Profit bef Except 25,398 26,196 29,123 32,368 36,479 Growth (%) Net Interest Income Gth Net Profit Gth Margins, Costs & Efficiency (%) Spread Net Interest Margin Cost-to-Income Ratio Business Mix (%) Net Int. Inc / Opg Inc Non-Int. Inc / Opg inc Fee Inc / Opg Income Oth Non-Int Inc/Opg Inc Profitability (%) ROAE Pre Ex ROAE ROA Pre Ex ROA NIM is expected to normalised after unusually high level in 2016 Page 47

48 Bank Rakyat Indonesia Quarterly / Interim Income Statement (Rpbn) FY Dec 4Q2015 1Q2016 2Q2016 3Q2016 4Q2016 Net Interest Income 16,704 15,326 16,685 18,047 17,518 Non-Interest Income 3,868 3,311 4,287 3,398 5,683 Operating Income 20,572 18,637 20,972 21,445 23,201 Operating Expenses (8,053) (8,025) (9,721) (8,929) (8,455) Pre-Provision Profit 12,519 10,612 11,251 12,516 14,746 Provisions (2,008) (3,589) (3,750) (4,137) (2,315) Associates Exceptionals Pretax Profit 11,267 7,596 7,784 8,612 11,351 Taxation (4,141) (1,459) (1,874) (1,009) (2,802) Minority Interests Net Profit 7,126 6,137 5,910 7,603 8,549 Seasonally low provision expenses in 4Q Growth (%) Net Interest Income Gth 13.7 (8.2) (2.9) Net Profit Gth 10.9 (13.9) (3.7) Balance Sheet (Rpbn) FY Dec Cash/Bank Balance 137, , , , ,510 Government Securities 4,661 4,876 5,949 6,894 8,015 Inter Bank Assets 11,800 5,350 5,618 5,899 6,194 Total Net Loans & Advs. 563, , , , ,447 Investment 125, , , , ,038 Associates Fixed Assets 8,039 24,515 37,605 49,112 59,038 Goodwill Other Assets 27,943 34,212 31,647 33,213 32,877 Total Assets 878,426 1,003,644 1,136,161 1,285,252 1,459,119 Expecting 14% loan growth this year Customer Deposits 668, , , ,544 1,109,840 Inter Bank Deposits 11,165 2,230 6,697 4,463 5,580 Debts/Borrowings 46,058 60,818 66,069 74,121 83,783 Others 39,081 39,259 39,170 39,214 39,192 Minorities Shareholders' Funds 112, , , , ,212 Total Liab& S/H s Funds 878,426 1,003,644 1,136,161 1,285,252 1,459,119 Page 48

49 Bank Rakyat Indonesia Financial Stability Measures (%) FY Dec Balance Sheet Structure Loan-to-Deposit Ratio Net Loans / Total Assets Investment / Total Assets Cust. Dep./Int. Bear. Liab Interbank Dep / Int. Bear Asset Quality NPL / Total Gross Loans NPL / Total Assets Loan Loss Reserve Coverage Provision Charge-Off Rate Capital Strength Total CAR Tier-1 CAR Expecting NPL trends to be stable. However, we continue to impute a conservative credit cost scenario Target Price & Ratings History Rp Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 S.No. Date of Report Closing Price 12-mth Target Price Rating 1: 11 Apr HOLD 2: 29 Apr HOLD 3: 19 May HOLD 4: 04 Jul HOLD 5: 14 Jul HOLD 6: 03 Aug HOLD 7: 15 Aug HOLD 8: 26 Oct HOLD 9: 15 Nov HOLD 10: 13 Dec HOLD 11: 01 Feb HOLD 12: 14 Feb BUY 13: 16 Mar BUY Note : Share price and Target price are adjusted for corporate actions. Source: DBS Bank, DBSVI Analyst: Sue Lin LIM Benedictus Agung SWANDONO Page 49

50 Indonesia Company Guide Bank Tabungan Negara Version 9 Bloomberg: BBTN IJ Reuters: BBTN.JK Refer to important disclosures at the end of this report DBS Group Research. Equity 27 Mar 2017 HOLD Last Traded Price ( 24 Mar 2017): Rp2,320 (JCI : 5,567.10) Price Target 12-mth: Rp2,300 (1% downside) (Prev Rp2,100) Potential Catalyst: Sustainable NIM and unchanged FLPP scheme Where we differ: We are more conservative on NIM Analyst Sue Lin LIM suelinlim@dbs.com Benedictus Agung SWANDONO agung.swandono@id.dbsvickers.com What s New We believe share price rally to date has factored in the good deliveries Stock unlikely to re-rate further due to downside risk on NIM Prefer to be more conservative despite the strong management guidance on FY17 outlook Maintain HOLD with higher TP of Rp2,300 after we impute lower risk free rate assumption Price Relative Rp 210 2, , , , , , , Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Bank Tabungan Negara (LHS) Relative JCI (RHS) Relative Index Forecasts and Valuation FY Dec (Rpbn) 2016A 2017F 2018F 2019F Pre-prov. Profit 4,060 4,698 5,338 5,963 Net Profit 2,619 2,979 3,225 3,544 Net Pft (Pre Ex.) 2,619 2,979 3,225 3,544 Net Pft Gth (Pre-ex) (%) EPS (Rp) EPS Pre Ex. (Rp) EPS Gth Pre Ex (%) Diluted EPS (Rp) PE Pre Ex. (X) Net DPS (Rp) Div Yield (%) ROAE Pre Ex. (%) ROAE (%) ROA (%) BV Per Share (Rp) 1,848 2,017 2,242 2,490 P/Book Value (x) Earnings Rev (%): Consensus EPS (Rp): N/A Other Broker Recs: B: 24 S: 0 H: 3 Source of all data on this page: Company, DBS Bank, DBSVI, Bloomberg Finance L.P. Strong growth path in the price Strong growth prospects priced in, maintain HOLD. Bank Tabungan Negara (BBTN) s share price rallied following betterthan-expected deliveries in FY16. Despite the good results, we see limited upside to BBTN s re-rating as we believe the current high ROE may not be sustainable due to downside risk to net interest margin (NIM), which should come from 1) lower asset yield due to higher proportion of FLPP loans (Fasilitas Likuiditas Pembiayaan Perumahan / Subsidised Mortgage Liquidity Facility), and 2) risk of higher cost of funds stemming from a higher interest rate environment. We remain watchful on the development of the new FLPP scheme and BBTN s exposure to infrastructure loans. Recent sanction by the Otoritas Jasa Keuangan (OJK) could pose operational risks if prolonged. Strong FY16 results. Bank Tabungan Negara (BBTN) reported 4Q16 earnings of Rp998bn (+58.7% y-o-y), bringing FY16 net profit to Rp2,619bn (+41.5% y-o-y). FY16 net profit was above our/consensus forecast by 20%/13% mainly on lower provisions and better-than-expected NIM. Ambitious targets in Management has maintained a positive view on its 2017 outlook, with loan growth targeted at 21-23%, driven by the one million government housing programme. This year BBTN can disburse its full Rp9.7tr budgeted FLPP loans (vs effectively only Rp4tr last year). Management is also confident that net profit can grow above 20% and ROE can stay elevated at 16%-18% this year. Recent OJK sanction may cause a temporary setback to operations. BBTN was sanctioned by OJK after a forgery case was found at one of its outlets. BBTN is not allowed to open new branches or open new deposit accounts at cash outlets until OJK decides that the bank s internal control and operational risks have improved. A prolonged restriction could drag BBTN s operations to gather deposits. Valuation: Maintain HOLD, higher TP of Rp2,300. We derived a higher TP of Rp2,300 after we assuming a lower risk free rate of 8% (vs 8.5% previously). Our TP is based on the Gordon Growth Model (15% ROE, 10% growth and 14.7% cost of equity) implying 1.15x FY17 BV. Key Risks to Our View: Favourable FLPP scheme and sustained asset quality trends. Upside risk to our call would be favourable FLPP terms, timely mortgage subsidy disbursements, and sustained asset-quality trends particularly from non-subsidised mortgages. At A Glance Issued Capital (m shrs) 10,590 Mkt. Cap (Rpbn/US$m) 24,569 / 1,846 Major Shareholders (%) Government of Indonesia (%) 60.1 Free Float (%) m Avg. Daily Val (US$m) 3.2 ICB Industry : Financials / Financial Services ed: JS / sa: MA, PY

51 Bank Tabungan Negara WHAT S NEW Will the strong deliveries continue? Highlights BBTN s ROE is currently high, could it re-rate further? BBTN delivered a high 16% ROAE (return on average equity) in Management even shared its bullish guidance of 16%- 18% ROE with >20% net profit and equity growth for We highlighted that these levels are equal with the ROAE BBTN achieved back in At that time, BBTN was trading at x trailing BV (vs 1.2x currently). However, we don t expect BBTN to trade at those levels mainly because of NIM s downside risk. Why we see downside risk from current NIM? We do not believe the current reported NIM of 4.98% will be sustainable because of the following reasons: 1. We expect lower asset yields this year. Our calculation suggests that loan yield was lower by 40bps y-o-y last year even with the help of one-time interest payment. A bigger portion of FLPP loans, the absence of the one-off items, and lagging impact of lower policy rate on nonsubsidised loans should lower the asset yield further. 2. Risk of higher cost of funds stemming from potentially higher policy rate. Our economist expects one (25bps) policy rate hike this year on the back of external factor uncertainty and potentially higher inflation. With 50% of its deposit base comprising time deposits, we believe a higher policy rate should quickly translate into lower NIM. How sensitive is NIM on profitability? Our sensitivity analysis suggests that every 10bps decrease in NIM would lower BBTN s earnings by 5% and ROE by 60bps. The high sensitivity on earnings is mainly due to the low margin business that BBTN is currently running. Where could we go wrong? We believe management has done a tremendous job in improving asset quality in the past two years. However, we prefer to be conservative by expecting a stable asset quality trend going forward rather than expect further significant improvements. Better-thanexpected asset quality could help NIM and lower provisions, which could eventually translate into a higher bottom-line. In addition, a further policy rate cut, although unlikely, would help to continue lower cost of funds and help BBTN deliver better-than-expected NIM. Update on the FLPP scheme limbo; positive surprise is likely. Management has prudently indicated that it has not reached a final agreement with the government with regard to a new FLPP scheme. However, based on recent discussions with the government, it is guiding that risk of any changes to the scheme is small. A confirmation of an unchanged scheme will ease concerns over regulatory risk and should be positive for BBTN. New business propositions in the pipeline. BBTN has started a pilot project for micro housing loans, a segment deemed risker but if successful, could add to BBTN s housing loan growth. The difference between this scheme and the FLPP is that this scheme will be self-funded (i.e. from its own deposits and bonds). The government is looking to set up a Housing Savings Plan (Tapera), a fund that employees could tap on in future to purchase subsidised housing. In addition, BBTN has also submitted a proposal to acquire Danareksa Finance and Danareksa Asset Management. The former will allow BBTN to tap into the micro housing loans it intends to initiate while the latter could allow BBTN to take advantage of Tapera funds which it could help manage with an asset management licence (a potential fee income generator). These initiatives are not included in our forecasts. Recent OJK sanction may cause a temporary setback to operations. BBTN was sanctioned by OJK after a forgery case was found at one of its outlets. BBTN is not allowed to open new branches or open new deposit accounts at cash outlets until OJK decides that the bank s internal control and operational risks have improved. In the meantime, BBTN will carry out new account opening activities at branch and subbranch offices. A prolonged restriction could drag BBTN s operations to gather deposits. BBTN has completed an action plan to improve business processes in customer deposit management. The action plan is expected to be implemented by 1 April and will be evaluated at the end of 1H17. Watchful at its participation in infrastructure sector. We noted an uptick in the commercial segment in 4Q16 a segment that was a culprit of high non-performing loans (NPLs) a few years ago. However, this time we are less worried as we see loans as more of a symbolic participation to support government infra projects rather than an intended expansion in that sector. Over-expansion in this segment could be negative for BBTN. Optimistic management targets. Overall, management is targeting 21-23% loan growth, driven by the strong disbursement of FLPP loans, while deposits are expected to grow at a slightly faster rate of 22%-24%. Management indicated that it can raise up to Rp14tr from bond issuance, negotiable certificates of deposits (NCD), bilateral lending (from ICBC and other SOE banks), and asset securitisation. NIM guidance is loose at 4.5%-5%. NPL is targeted at below 2.5%. Overall, management is confident of delivering 16%- 18% ROE for FY17. Our FY17F earnings are raised to reflect Page 51

52 Bank Tabungan Negara lower credit costs, while FY18F earnings are trimmed on lower NIM expectations. Valuation and recommendation: sustained low government bond yield. Our TP is based on the Gordon Growth Model (15% ROE, 10% growth and 14.7% cost of equity) implying 1.15x FY17 BV. Maintain HOLD, TP raised to Rp2,300. We maintain HOLD with a higher target price of Rp2,300 after we impute lower risk free rate assumption of 8% (vs 8.5% previously) following Page 52

53 Bank Tabungan Negara Margin Trends CRITICAL DATA POINTS TO WATCH Earnings Drivers: Strong loan growth supported by government programme. BBTN targets to grow loans by 21-23% in 2017, supported by the government's one million government housing programme. The government has also announced an increase in the FLPP budget to Rp9.7tr in 2017 from Rp9.2tr in BBTN will be the main player to deliver the programme. We have assumed the higher end of management s guidance for loan growth at 20% for FY17F. Expect higher funding costs in FY17. Currently, BBTN has a relatively weak funding portfolio: it has 50% CASA ratio which was mainly from FLPP funding while the major bulk (70%) of time deposits were from government-related institutions which tend to carry higher deposit rates. BBTN articulated that some of these deposits are priced at a special deposit rate which can be as high as 9% p.a. However, the tide could change. With the recent tight liquidity situation in the system, along with higher benchmark rate due to volatility of the rupiah, we expect cost of funds to be higher in FLPP scheme updates. The FLPP scheme is usually renegotiated on an annual basis. However, the revisions on the latest funding scheme have yet to unfold. BBTN is expected to continue playing a major role in disbursing Rp9.7tr FLPP funds in 2017, an increase from effectively Rp4tr in Concerns on the lower funding portion from the government may hurt funding costs, and hence NIM. Positively, because the budget for FLPP has increased, BBTN should rely less on the interest subsidy scheme, easing stress on BBTN s liquidity position. The only positive to the interest subsidy scheme is that it is priced at 5%+ BI rate, a rate that equals the normal mortgage rate. Benefiting from Himbara Link initiative. BBTN would stand out as one of the main beneficiaries of the Himbara Link integration initiative. The integration will allow BBTN s customers to use BMRI s vast ATM and EDC network at a lower price. This could potentially increase CASA and fee income in the future. The Himbara Link programme was launched in Dec The programme is expected to integrate 800 ATMs With this programme, transaction fees among Himbara members will be 50% lower at Rp4,000 while cash withdrawal fee will be 90% lower at Rp500. Flattish credit cost. We expect provision charge-off rates for 2017 to be around the same level as 2016, as BBTN will continue to focus on the mortgage segment. Rp bn 12, % 10, % 8, % 6,000 4, % 2, % 0 4.1% Net Interest Income Net Interest Income Margin Gross Loan& Growth Rp bn 30% 250, ,000 25% 150,000 20% 100,000 15% 50, % Gross Loan (LHS) Gross Loan Growth (%) (YoY) (RHS) Customer Deposit & Growth Rp bn 250,000 30% 200,000 25% 150,000 20% 100,000 15% 50, % Customer Deposits (LHS) Customer Deposits Growth (%) (YoY) (RHS) Loan-to-Deposit Ratio Trend Rp bn 296, % 276, , % 236, , % 196, , % 156,487 96% 136, ,487 91% Loans Deposit Loan-to-Deposit Ratio (RHS) Cost & Income Structure Rp bn 59% 14,000 59% 12,000 58% 10,000 58% 8,000 6,000 57% 4,000 57% 2,000 56% 0 56% Net Interest Income Non-interest Income Cost-to-income Ratio Page 53

54 Bank Tabungan Negara Balance Sheet: Targeting NPL ratio at <2.5% for FY17. BBTN is targeting its NPL ratio to be below 2.5% by end-fy17f, driven by improvements in its screening and collection processes. However, we retain our cautious stance on BBTN s asset-quality position especially in non-subsidised mortgages and other nonhousing loans. NPLs are still high for the commercial loan segment and other housing and construction loans. We expect improvements from NPLs for these segments to remain a challenge. The subsidised mortgage loans are guaranteed by Jamkrindo and Askrindo, posing lower risk to BBTN s balance sheet. Funding plans. BBTN expects customer deposits to grow 22-23% to cope with the aggressive loan disbursements. BBTN also relies on other means of fund-raising including the issuance of asset-backed securities, negotiated certificates of deposits (NCD) and bonds, particularly to fund its non-subsidised mortgage growth. The bonds issuance plan was already approved by OJK and typically priced at basis points above the government risk-free bond. Note that as BBTN s loan-to-deposit ratio stays above 100%, it needs to maintain a minimum CAR of 14%. The government indicated that it has no plans for a capital injection to BBTN in the near future. Share Price Drivers: Strong growth and reduction in cost of funds. Strong loan growth supported by the government's 1m-unit housing programme will boost earnings. The reduction in cost of funds will also improve margins as well as provide better opportunities for BBTN to raise funds by issuing asset-backed securities, NCDs and bonds. 4.0% 3.5% 3.0% 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% 24.0% 22.0% 20.0% 18.0% 16.0% 14.0% 12.0% 16.0% 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% Asset Quality Capitalisation (%) ROE (%) NPL Ratio Provision Charge-Off Rate Tier-1 CAR Total CAR Key Risks: Higher interest rate environment Higher policy rates should translate into higher cost of funds and higher NIM. Regulatory risk for its FLPP scheme BBTN faces risks when it negotiates its FLPP scheme annually. Failure to obtain favourable terms may pose risks to its NIM. Company Background Bank Tabungan Negara (BBTN) provides commercial banking services. It has 88% of its loan book in property loans. BBTN specialises in subsidised mortgage loans and has the largest market share in this segment Forward PE Band (x) (x) Mar-13 Mar-14 Mar-15 Mar PB Band (x) (x) +2sd: 10.2x +1sd: 8.6x Avg: 7x 1sd: 5.4x 2sd: 3.8x Mar-13 Mar-14 Mar-15 Mar-16 +2sd: 1.33x +1sd: 1.17x Avg: 1.01x 1sd: 0.86x 2sd: 0.7x Page 54

55 Bank Tabungan Negara Key Assumptions FY Dec Gross Loans Growth Customer Deposits Growth Yld. On Earnings Assets Avg Cost Of Funds Income Statement (Rpbn) FY Dec Net Interest Income 6,811 8,164 9,467 10,977 12,483 Non-Interest Income 1,107 1,283 1,380 1,619 1,899 Operating Income 7,918 9,446 10,847 12,596 14,383 Operating Expenses (4,490) (5,387) (6,149) (7,258) (8,420) Pre-provision Profit 3,427 4,060 4,698 5,338 5,963 Provisions (894) (708) (853) (1,174) (1,385) Associates Exceptionals Pre-tax Profit 2,542 3,330 3,819 4,134 4,544 Taxation (691) (711) (840) (910) (1,000) Minority Interests Preference Dividend Net Profit 1,851 2,619 2,979 3,225 3,544 Net Profit bef Except 1,851 2,619 2,979 3,225 3,544 Growth (%) Net Interest Income Gth Net Profit Gth Margins, Costs & Efficiency (%) Spread Net Interest Margin Cost-to-Income Ratio Business Mix (%) Net Int. Inc / Opg Inc Non-Int. Inc / Opg inc Fee Inc / Opg Income Oth Non-Int Inc/Opg Inc Profitability (%) ROAE Pre Ex ROAE ROA Pre Ex ROA Page 55

56 Bank Tabungan Negara Quarterly / Interim Income Statement (Rpbn) FY Dec 4Q2015 1Q2016 2Q2016 3Q2016 4Q2016 Net Interest Income 1,909 1,787 1,909 1,902 2,654 Non-Interest Income Operating Income 2,256 2,069 2,211 2,210 3,048 Operating Expenses (1,198) (1,243) (1,345) (1,224) (1,664) Pre-Provision Profit 1, ,384 Provisions (243) (137) (170) (173) (228) Associates Exceptionals Pretax Profit ,139 Taxation (179) (195) (145) (230) (141) Minority Interests Net Profit Growth (%) Net Interest Income Gth 8.2 (6.4) 6.8 (0.4) 39.5 Net Profit Gth 60.9 (21.9) Lifted by lower provision expenses and better-thanexpected NIM (one-off interest payment for the one million housing scheme) Balance Sheet (Rpbn) FY Dec Cash/Bank Balance 12,369 12,025 13,172 19,404 26,916 Government Securities 8,231 9,244 9,706 10,191 10,701 Inter Bank Assets 7,840 17,581 17,999 18,899 19,844 Total Net Loans & Advs. 136, , , , ,245 Investment 1,808 4,172 4,372 4,583 4,804 Associates Fixed Assets 1,553 4,659 4,479 4,283 4,073 Goodwill Other Assets 3,102 4,157 3,681 3,919 3,800 Total Assets 171, , , , ,382 Strong loan growth expected Customer Deposits 127, , , , ,448 Inter Bank Deposits 1,721 3,653 2,687 3,170 2,928 Debts/Borrowings 20,219 22,919 28,895 36,663 46,762 Others 8,299 8,479 8,384 8,431 8,408 Minorities Shareholders' Funds 13,860 19,131 20,879 23,211 25,779 Total Liab& S/H s Funds 171, , , , ,325 Page 56

57 Bank Tabungan Negara Financial Stability Measures (%) FY Dec Balance Sheet Structure Loan-to-Deposit Ratio Net Loans / Total Assets Investment / Total Assets Cust. Dep./Int. Bear. Liab Interbank Dep / Int. Bear Asset Quality NPL / Total Gross Loans NPL / Total Assets Loan Loss Reserve Coverage Provision Charge-Off Rate Capital Strength Total CAR Tier-1 CAR NPL ratio easing Target Price & Ratings History 2420 Rp Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 S.No. Date of Report Closing Price 12-mth Target Price Rating 1: 11 Apr HOLD 2: 26 Apr FULLY VALUED 3: 19 May FULLY VALUED 4: 14 Jul FULLY VALUED 5: 26 Jul FULLY VALUED 6: 25 Oct FULLY VALUED 7: 15 Nov FULLY VALUED 8: 13 Dec HOLD 9: 14 Feb HOLD 10: 24 Feb HOLD Note : Share price and Target price are adjusted for corporate actions. Source: DBS Bank, DBSVI Analyst: Sue Lin LIM Benedictus Agung SWANDONO Page 57

58 Indonesia Company Guide Bank Tabungan Pensiunan Nasional Version 9 Bloomberg: BTPN IJ Reuters: BTPN.JK Refer to important disclosures at the end of this report DBS Group Research. Equity 27 Mar 2017 BUY Last Traded Price ( 24 Mar 2017): Rp2,730 (JCI : 5,567.10) Price Target 12-mth: Rp3,500 (28% upside) (Prev Rp3,300) Potential Catalyst: Strong traction of digital banking products Where we differ: Higher valuation as the forward looking vision should be positive for long term profitability Analyst Sue Lin LIM suelinlim@dbs.com Benedictus Agung SWANDONO agung.swandono@id.dbsvickers.com What s New Higher investment costs likely to hamper earnings growth in the short-term, but is positive in long run Traction of digital banking products should be the key item to monitor Asset quality should be stable Maintain BUY with higher TP of Rp3,500 after imputing lower risk free rate assumption Price Relative Rp Relative Index 6, , , , , , , , , , Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Bank Tabungan Pensiunan Nasional (LHS) Relative JCI (RHS) Forecasts and Valuation FY Dec (Rpbn) 2016F 2017F 2018F 2019F Pre-prov. Profit 3,480 3,153 3,402 4,301 Net Profit 1,752 1,560 1,682 2,337 Net Pft (Pre Ex.) 1,752 1,560 1,682 2,337 Net Pft Gth (Pre-ex) (%) 3.0 (11.0) EPS (Rp) EPS Pre Ex. (Rp) EPS Gth Pre Ex (%) 3 (11) 8 39 Diluted EPS (Rp) PE Pre Ex. (X) Net DPS (Rp) Div Yield (%) ROAE Pre Ex. (%) ROAE (%) ROA (%) BV Per Share (Rp) 2,796 3,119 3,416 3,829 P/Book Value (x) Earnings Rev (%): Consensus EPS (Rp): N/A Other Broker Recs: B: 5 S: 1 H: 2 Source of all data on this page: Company, DBS Bank, DBSVI, Bloomberg Finance L.P. Short term pain for long term gain Ongoing digital banking initiatives. Bank Tabungan Pensiunan Negara (BTPN) s lending units with the exception of its dwindling micro lending business are performing well. However, management has a huge vision to transform its currently weak funding and transaction banking franchise through its digital banking initiatives. Management guided that they are willing to tolerate flat or negative earnings growth in the next two years to heavily invest in their two main digital banking products, Jenius and BTPN WOW. With pedestrian loan growth, stable credit cost, and possibly higher cost of funds this year, we expect higher opex stemming from the new initiatives to take a toll on earnings growth. We believe revenues from these initiatives would be more visibly accretive from FY16 earnings below expectations due to higher opex. Net profit came in at Rp1.75tr (+3% y-o-y) in FY16, representing 93% of our estimate and 95% of consensus earnings. The main deviation to our forecast was higher operating expenses stemming from digital banking initiatives such as labour and promotional costs. Excluding these investment costs, earnings would have grown by 19% y-o-y. Net interest margin (NIM) was higher and helped to deliver positive net profit growth. Syariah business progressing well; micro still muted. Its Syariah business, which involves loans to the productive poor, is gaining traction with loan growth at 36% y-o-y, and 144% increase in net profit contribution. Some sizeable customers are ready to be converted into micro loan customers (with larger individual loan ticket sizes). We believe Syariah and SME businesses would be the main earnings drivers for BTPN ahead. Elsewhere, micro loans will remain muted as it is currently not profitable to compete with KUR (government subsidised micro loans) Valuation: We have a BUY call on BTPN with a higher target price of Rp3,500 as we imputed a lower risk free rate of 8% (8.5% previously) following the sustained low government bond yield. Our TP is based on the Gordon Growth Model (12% ROE, 10% growth and 12% cost of equity), and implies 1.1x FY17 BV. Key Risks to Our View: Digital banking initiatives flop. We believe failure to gain traction in its heavily invested digital banking initiatives is the main risk for BTPN. At A Glance Issued Capital (m shrs) 5,840 Mkt. Cap (Rpbn/US$m) 15,944 / 1,198 Major Shareholders (%) Sumitomo Mitsui Financial Group 40.0% Summit Global Capital (%) 20.0% TPG Nusantara (%) 8.4% Free Float (%) 31.6% 3m Avg. Daily Val (US$m) 0.01 ICB Industry : Financials / Banks ed: JS / sa: MA, PY

59 Bank Tabungan Pensiunan Nasional WHAT S NEW Dipping into its pockets Pedestrian loan growth driven by SME and Syariah. Management guided for single digit loan growth this year. The growth in pension business (consisting 63% of the loan portfolio) should remain stable at mid-single digit. SME and Syariah loans are expected to be the main drivers to loan growth, each growing by c.20%, while micro business is still on a downsizing mode. NIM to head lower as funding costs may increase. We expect NIM to head lower this year as benefits from a lower interest rate environment fade. Management also expects 25-50bps increase in the policy rates. This should push cost of funds higher and lower NIM. Opex will remain elevated due to digital banking initiatives. Management guided that opex will be higher for the next two years. They are aware that competition in the digital banking space is not easy and are willing to pay higher marketing costs to win the game. However, management is optimistic that the campaign will yield fruitful results as its product, BTPN Jenius, is well positioned for success in the affluent middle class market since it offers more features compared to the other competitors. Expect earnings growth to be affected in the coming two years. The expected higher investment costs prompted us to slash earnings by 29%/31% for FY17-18F. Excluding these investments, earnings growth would be flat (instead of a contraction) in FY17F and rise by 11% in FY18F. Beyond that, it is still difficult to gauge how much the digital banking initiatives would contribute to the bottom line as management is still exploring new ideas for the new digital banking business strategy. That said, at this juncture, management has guided for benefits from its investments in digital banking to be visibly accretive to the bank s bottomline from Targeting 1 million BTPN Jenius customers. Management has a target of 1m BTPN Jenius customers this year (from 100k at the end of last year) and believes that BTPN Jenius should be able to contribute (in terms of increasing CASA and meaningful fee income) once it reaches this scale. Currently the average account balance is only a mere Rp1m, but should head north once this scale is achieved. Synergising BTPN WOW with Syariah business. The Syariah business runs with 11,800 employees serving 2.5m customers with total balance of Rp5tr (8% of BTPN s loan portfolio). This business model has forced the Syariah bank to operate with a 70% cost-to-income ratio because of its labour intensity. Management plans to integrate its conventional banking processess with BTPN WOW (its branchless banking initiative) to improve the underwriting and collection process while lowering operating costs. High capitalisation provides room for some capital management plans in future. CAR stood at 25% in FY16 and management does not rule out the probability of higher dividends or share repurchases to increase ROE in the future Valuation and recommendation Keeping our BUY rating and raising TP. We have a BUY call on BTPN with a higher target price of Rp3,500 as we imputed lower risk free rate to 8% (8.5% previously) following the sustained low government bond yield. Our TP is based on the Gordon Growth Model (12% ROE, 10% growth and 12% cost of equity). Page 59

60 Bank Tabungan Pensiunan Nasional Margin Trends CRITICAL DATA POINTS TO WATCH Earnings Drivers: Normalising NIM. We expect BTPN s NIM to normalise to 11% after recording a high 12% level in FY16. Cost of funds could be higher in FY17 along with the potentially higher policy rates and as funding costs rise. Loan yields could gradually slip due to the change in loan mix and mechanics of the industry. Micro borrowers tend to eventually migrate to the informal SME loan segment, which carries lower yields. In the meantime, there will be pressure on its micro lending business due to the new Kredit Usaha Rakyat (KUR) programme which the government initiated in August Separately, liquidity is not an issue as BTPN has access to cheaper structured funding facilities (with cost of funds at %) and ample liquid assets. Loan growth to moderate. BTPN is targeting single digit loan growth in 2017, driven by the productive poor Syariah and SME segments. Pension loan growth should be stable. BTPN is aware of the challenges faced by the micro loan segment as the KUR scheme continues in Its micro loan growth is likely to be under threat but BTPN intends to participate in the KUR programme on a small scale. Hence, there would be downside risk to BTPN s micro loan growth. Separately, the bulk of BTPN s loans will still be pension loans, which are projected to grow at steady single digit rate. Higher expenses due to new initiatives. As we have seen in the past, BTPN tends to invest in times of crisis to reap the benefits in the future. For example, it completed the majority of its capex in IT infrastructure and human resources in 2009, which has led to a strong micro and productive poor business model up till now. The bank spent Rp600bn last year to roll out its digital banking initiative (BTPN WOW and BTPN Jenius). The investment cost could be doubled this year in line with management s conviction to follow through on its vision. 10,000 8,000 6,000 4,000 2,000 0 Rp bn 80,000 70,000 60,000 50,000 40,000 30,000 20,000 10, ,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 87,839 82, A 2016F 2017F 2018F 2019F Rp bn Rp bn Rp bn Net Interest Income Gross Loan& Growth Customer Deposit & Growth Loan-to-Deposit Ratio Trend Net Interest Income Margin 2015A 2016F 2017F 2018F 2019F Gross Loan (LHS) Gross Loan Growth (%) (YoY) (RHS) 2015A 2016F 2017F 2018F 2019F Customer Deposits (LHS) Customer Deposits Growth (%) (YoY) (RHS) 12.4% 11.9% 11.4% 10.9% 10.4% 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% 105% Branchless banking initiative. BTPN is one of the first four banks to receive approval from the OJK to launch a branchless banking product, which the bank has named BTPN WOW. The business model is simple customers will use mobile applications to perform transactions. Agents can be recruited from its best micro or productive poor customers. Once BTPN secures a sufficient number of branchless banking customers and becomes a transaction bank for the mass market, it will monetise this by potentially selling products such as micro loans and micro insurance. CASA levels will also be higher. Provision expenses under control. Provision expense has never been an issue for BTPN due to its low NPL ratio. We expect credit charge-off rates to remain at c.1.4% and there is no pressure on asset quality as of now. 77,839 72,839 67,839 62,839 57,839 52, A 2016F 2017F 2018F 2019F Loans Deposit Loan-to-Deposit Ratio (RHS) Cost & Income Structure Rp bn 12,000 10,000 8,000 6,000 4,000 2, A 2016F 2017F 2018F 2019F 100% 95% 90% 85% 70% 68% 66% 64% 62% 60% 58% 56% Net Interest Income Non-interest Income Cost-to-income Ratio Page 60

61 Bank Tabungan Pensiunan Nasional Balance Sheet: NPL is not an issue. NPLs have never been an issue for BTPN and this has historically been below 1%. There were increases in the NPL ratio recently for its productive poor segment, which is now becoming more seasoned and entering a more mature phase. BTPN s micro loans went through a similar phase before becoming more seasoned. Management indicated that its risk management strategies have been successful in keeping NPLs at low levels even during the current tough economic environment. 2.0% 1.8% 1.6% 1.4% 1.2% 1.0% 0.8% 0.6% 0.4% 0.2% 0.0% Asset Quality NPL Ratio Provision Charge-Off Rate 2015A 2016F 2017F 2018F 2019F Solid capital base. BTPN has always been overcapitalised, with capital ratios of above 20% over the past five years. BTPN has never paid out dividends. However, the management acknowledge the currently high CAR provides ample room for growth and also dividends. Share Price Drivers: Strong growth in SME and Productive Poor Syariah loans. Top line growth and earnings will be driven by the traction in the SME and Productive Poor Syariah segment. Better than expected result could come from successful integration of BTPN WOW into the Syariah business model, leading to a faster underwriting and collection process. Investing for the future. While still not visible at this stage, we remain positive on BTPN s forward-looking management. Faced with threats in the micro business from government initiatives, BTPN has proven its ability to quickly draw up new business plans to position itself for the future. Key Risks: Change in business strategy. There has always been an ongoing concern that having SMBC as its new strategic shareholder would result in a possible change in BTPN s focus. It has been three years since, and BTPN s business focus has remained intact. Digital banking initiatives to flop. We believe failure to gain traction in its heavily invested digital banking initiatives to be the main risk for BTPN. Company Background BTPN specialises in pension loans and is currently on a strong growth path for micro loans and loans to the productive poor. Its funding profile largely hinges on time deposits and bonds (wholesale funding). Capitalisation (%) 27.0% 26.0% 25.0% 24.0% 23.0% 22.0% 2015A 2016F 2017F 2018F 2019F Tier-1 CAR Total CAR ROE (%) 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% 2015A 2016F 2017F 2018F 2019F Forward PE Band (x) (x) +2sd: 15.9x +1sd: 13.7x Avg: 11.5x 1sd: 9.2x 2sd: 7x 5.9 Mar-13 Mar-14 Mar-15 Mar-16 (x) PB Band (x) +2sd: 3.27x Mar-13 Mar-14 Mar-15 Mar-16 +1sd: 2.53x Avg: 1.79x 1sd: 1.05x 2sd: 0.32x Page 61

62 Bank Tabungan Pensiunan Nasional Key Assumptions FY Dec 2015A 2016F 2017F 2018F 2019F Gross Loans Growth Customer Deposits Growth Yld. On Earnings Assets Avg Cost Of Funds We are expecting a pedestrian loan growth at 8% for the next 2 years. Income Statement (Rpbn) FY Dec 2015A 2016F 2017F 2018F 2019F Net Interest Income 7,696 8,854 9,181 9,943 10,874 Non-Interest Income ,571 Operating Income 8,401 9,543 10,028 10,936 12,445 Operating Expenses (5,156) (6,064) (6,876) (7,535) (8,144) Pre-provision Profit 3,246 3,480 3,153 3,402 4,301 Provisions (786) (870) (829) (895) (820) Associates Exceptionals Pre-tax Profit 2,433 2,605 2,319 2,501 3,475 Taxation (680) (729) (649) (700) (972) Minority Interests (50.8) (124) (110) (119) (165) Preference Dividend Net Profit 1,702 1,752 1,560 1,682 2,337 Net Profit bef Except 1,702 1,752 1,560 1,682 2,337 Growth (%) Net Interest Income Gth Net Profit Gth (8.9) 3.0 (11.0) Margins, Costs & Efficiency (%) Spread Net Interest Margin Cost-to-Income Ratio Business Mix (%) Net Int. Inc / Opg Inc Non-Int. Inc / Opg inc Fee Inc / Opg Income Oth Non-Int Inc/Opg Inc Profitability (%) ROAE Pre Ex ROAE ROA Pre Ex ROA Operating expenses will be the main drag on earnings for the next 2 years due to digital banking initiatives NIM should head lower as the benefit of lower cost of funds should fade. ROE is at low level mainly due to overcapitalisation. CAR in FY16 stood at 25% Page 62

63 Bank Tabungan Pensiunan Nasional Quarterly / Interim Income Statement (Rpbn) FY Dec 4Q2015 1Q2016 2Q2016 3Q2016 4Q2016 Net Interest Income 1,996 2,032 2,218 2,267 2,338 Non-Interest Income Operating Income 2,169 2,205 2,391 2,363 2,506 Operating Expenses (1,447) (1,384) (1,485) (1,485) (1,631) Pre-Provision Profit Provisions (170) (212) (209) (181) (268) Associates Exceptionals Pretax Profit Taxation (184) (159) (180) (181) (209) Minority Interests (18.3) (20.7) (27.9) (36.0) (39.1) Net Profit Higher operating expenses stemming from the digital banking initiatives Growth (%) Net Interest Income Gth Net Profit Gth (26.7) (1.7) (26.2) Balance Sheet (Rpbn) FY Dec 2015A 2016F 2017F 2018F 2019F Cash/Bank Balance 6,194 6,932 6,966 8,500 8,973 Government Securities 1,099 2,699 2,699 2,699 2,699 Inter Bank Assets 6,206 7,004 7,704 8,474 9,322 Total Net Loans & Advs. 58,710 63,248 68,347 74,002 81,684 Investment 4,930 5,953 6,515 7,134 7,815 Associates Fixed Assets 876 1,632 1,451 1,265 1,074 Goodwill Other Assets 3,025 3,904 3,502 3,703 3,603 Total Assets 81,040 91,371 97, , ,169 Customer Deposits 60,538 66,449 70,591 76,405 82,701 Inter Bank Deposits Debts/Borrowings 5,401 6,258 6,759 7,434 8,178 Others 1,178 1,437 1,126 1,198 1,162 Minorities Shareholders' Funds 13,576 15,838 17,667 19,350 21,687 Total Liab& S/H s Funds 81,040 91,371 97, , ,169 Page 63

64 Bank Tabungan Pensiunan Nasional Financial Stability Measures (%) FY Dec 2015A 2016F 2017F 2018F 2019F Balance Sheet Structure Loan-to-Deposit Ratio Net Loans / Total Assets Investment / Total Assets Cust. Dep./Int. Bear. Liab Interbank Dep / Int. Bear Asset Quality NPL / Total Gross Loans NPL / Total Assets Loan Loss Reserve Coverage Provision Charge-Off Rate Capital Strength Total CAR Tier-1 CAR NPL should be maintained below 1% The bank is overcapitalised with CAR at 25% Target Price & Ratings History Rp Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 S.No. Date of Report Closing Price 12-mth Target Price Rating 1: 05 Apr HOLD 2: 11 Apr HOLD 3: 20 Apr HOLD 4: 19 May HOLD 5: 11 Jul BUY 6: 14 Jul BUY 7: 26 Jul BUY 8: 26 Oct BUY 9: 15 Nov BUY 10: 13 Dec BUY 11: 22 Feb BUY Note : Share price and Target price are adjusted for corporate actions. Source: DBS Bank, DBSVI Analyst: Sue Lin LIM Benedictus Agung SWANDONO Page 64

65 Indonesia Company Guide Panin Bank Version 8 Bloomberg: PNBN IJ Reuters: PNBN.JK Refer to important disclosures at the end of this report DBS Group Research. Equity 27 Mar 2017 BUY Last Traded Price ( 24 Mar 2017): Rp855 (JCI : 5,567.10) Price Target 12-mth: Rp1,100 (29% upside) (Prev Rp1,000) Potential Catalyst: Potential M&A target Where we differ: More conservative earnings Analyst Sue Lin LIM suelinlim@dbs.com Benedictus Agung SWANDONO agung.swandono@id.dbsvickers.com What s New Keeping conservative stance for 2017 NIM might normalise this year but lower credit costs should help earnings M&A possibility still on the cards Maintain BUY; TP is higher at Rp1,100 due to lower risk-free rate assumption Price Relative Conservative as always Conservative as always; potential M&A play. Panin Bank (PNBN) is currently trading at an undemanding 0.6 FY17 BV, lower than the 4-year average historical PBV of 0.9x. Fundamentals remain solid to deliver double-digit earnings growth. NIM is expected to normalise as the benefits form lower policy rate should fade away this year. However, lower credit cost is expected to help earnings. PNBN has gained a reputation for its cautiousness and prudent credit policies, which helped it to navigate across the credit cycle. Such practices are still followed today. In addition, PNBN also offers potential M&A play opportunities as ANZ s divestment of its Asian minority stakes remains on its cards. Strong earnings rebound on better NIM. PNBN saw its net profit surge by 71% y-o-y to Rp2.4tr in FY16 after experiencing weak earnings momentum the year before. The earnings achievement was 11%/13% higher than our/consensus earnings forecast on the back of better-than-expected NIM. The strong earnings growth was also helped by a normalised tax rate (in 4Q15 PNBN paid extra tax as part of the asset revaluation exercise). Looking brighter in PNBN is unlikely to shine with industry-beating achievements; it aims to stay conservative. Management expect to grow its loans below the industry mainly driven by SME and commercial loans. PNBN does not plan to join the infra bandwagon and expecting the spillover effect to flow through its SME clients. Despite management being reluctant to claim the worst of asset quality is over, it has guided for lower credit cost this year. We lift earnings FY17/FY18 forecast by 11%/13% for higher-than-expected NIM. Forecasts and Valuation FY Dec (Rpbn) 2016A 2017F 2018F 2019F Pre-prov. Profit 5,214 5,259 5,857 6,342 Net Profit 2,405 2,651 3,046 3,474 Net Pft (Pre Ex.) 2,405 2,651 3,046 3,474 Net Pft Gth (Pre-ex) (%) EPS (Rp) EPS Pre Ex. (Rp) EPS Gth Pre Ex (%) Diluted EPS (Rp) PE Pre Ex. (X) Net DPS (Rp) Div Yield (%) ROAE Pre Ex. (%) ROAE (%) ROA (%) BV Per Share (Rp) 1,313 1,413 1,540 1,684 P/Book Value (x) Earnings Rev (%): N/A Consensus EPS (Rp): N/A Other Broker Recs: B: 3 S: 1 H: 0 Source of all data on this page: Company, DBS Bank, DBSVI, Bloomberg Finance L.P. Valuation: Maintain BUY; TP raised to Rp1,100 as we impute lower riskfree rate assumption of 8% (previously 8.5%). Our TP is based on Gordon Growth Model (11% ROE, 7% growth rate, and 12.9% cost of equity) that implies 0.8x FY17F BV. Key Risks to Our View: M&A carries timing and tender offer risks. PNBN s share price remains vulnerable to M&A rumours. Recall that BTPN s share price jumped c.20% within a month after announcing the M&A with Sumitomo Mitsui Banking Corporation (SMBC) but retreated in the subsequent month as there was no tender offer made to minorities. PNBN could be caught in a similar situation if there is no tender offer made. At A Glance Issued Capital (m shrs) 24,088 Mkt. Cap (Rpbn/US$m) 20,595 / 1,546 Major Shareholders (%) Panin Financial Tbk (%) 46.0 ANZ Banking Group LTD (%) 38.8 Free Float (%) m Avg. Daily Val (US$m) 0.25 ICB Industry : Financials / Banks ed: CK / sa: MA, PY

66 Panin Bank WHAT S NEW Undemanding valuation Highlights Conservative growth; NIM to be lower. PNBN expects to grow its loans below industry as it has no intention to join the infra bandwagon and prefers to wait for the trickle-down effect to flow through to its SME customers. Management has also guided for NIM to be lower compared to last year as the benefits of lower interest rate environment should fade away. Lower credit cost for 2017; NPL to moderate. Although reluctant to claim that the worst of asset quality is over, management believes NPL should moderate and credit cost should be lower this year. Improving liquidity condition helped by tax amnesty. PNBN is the second biggest private banks after BBCA in terms of tax amnesty penalty payment, according to management. We also note the Rp8tr jump of time deposit during 4Q16 might be related to the repatriation funds. LDR is at 90% with more than 20% of earnings asset are placed in liquid short-term securities. Stiffer competition in SME is not a concern. Management is not concerned with possible stiffer competition in the SME segment. PNBN is confident of maintaining its strong business relationships with its clients. Expecting to maintain stellar efficiency metrics; modest fee income growth. PNBN exhibited strong improvement in costto-income ratios to 48.5% in FY16 from 56.6% in FY15. Management is hoping to maintain this level of efficiency going forward. Meanwhile fee income growth should align with loan growth. The bank has previously tied up the Rp600bn bancassurance deal to be amortised in the next five years. This is expected to contribute to the fee income growth going forward. ANZ to continue divesting Asian businesses. Newsflow suggests that ANZ has divested its New Zealand asset-finance business, UDC Finance, just two days after it announced it will sell its minority stakes in Shanghai Rural commercial Bank as the banks face increasing pressure to hold adequate capital levels. Currently the bank has minority stakes in three Asian financial services groups in Malaysia, China and Indonesia. Divestment of PNBN by ANZ is still possible and may spark M&A rumours which can easily move PNBN s share price. Changes in payout policy are less likely. Dividend payout policy should be decided in the AGM this May or June However, we expect management will maintain its zero dividend policy. FY16 results review Strong earnings rebound in FY16. PNBN saw its net profit surge by 71% y-o-y to Rp2.4tr in FY16 after experiencing weak earnings momentum the year before. The earnings achievement was 16%/11% higher than our/consensus earnings forecast on the back of lower-than-expected provisions and better NIM. The strong earnings growth was also helped by a normalised tax rate (in 4Q15 PNBN paid extra tax as part of the asset revaluation exercise). Pedestrian loan growth helped by NIM uplift. Loan grew modestly at 5%, consistent with management guidance of conservative loan growth. However NIM was higher at 4.9% (vs 4.4% in FY15), driven by lower cost of funds. Expenses kept in check with better efficiency ratio. Operating expenses were virtually flat y-o-y, causing the cost-to-income ratio to head lower to 48.5% (vs 56.6% in FY15). Asset quality remained on the watch; higher write offs. NPL ratio inched lower to 2.8% (vs 2.6% in 3Q16) but still higher compared to 4Q15 s 2.1%. Loan restructuring was also higher both q-o-q and y-o-y. We note that write offs were significantly higher at Rp1.4tr this year (vs Rp502bn in FY15). This also dragged its coverage ratio down to 92.5% from 106.7% in 4Q15. Quarterly spike of time deposits helped LDR. We notice a quarterly spike of time deposits (9.1% q-o-q). This might be due to repatriation funds from the tax amnesty programme which could be booked in the time deposits account. The higher time deposits lowered its LDR to 94% in 4Q16 (vs 99% in 4Q15) but it also lowered CASA ratio to 38% from 40% in 3Q16. Modest fee income growth but profitable trading desk. Fee income growth was modest at 5%, in line with the subtle loan growth. But PNBN successfully booked Rp185bn gain on marketable securities (vs Rp62bn last year), which significantly boosted non-interest income in FY16. Strong capital position. CAR stood at 20.5% in 4Q16, not much different compared to 4Q15 due to PNBN s conservative growth stance. No dividends were declared. Page 66

67 Panin Bank Quarterly / Interim Income Statement (Rpbn) FY Dec 4Q2015 3Q2016 4Q2016 % chg yoy % chg qoq FY2015 FY2016 % chg yoy Net Interest Income 1,967 2,126 2, ,168 8,443 18% Non-Interest Income (7.5) (10.9) 1,106 1,358 23% Operating Income 2,278 2,449 2, ,274 9,801 18% Operating Expenses (1,181) (1,054) (1,263) (4,680) (4,755) 2% Pre-Provision Profit 1,097 1,395 1, (11.1) 3,594 5,047 40% Provisions (345) (572) (347) 0.6 (39.4) (1,191) (1,845) 55% Associates nm nm Exceptionals nm nm Pretax Profit ,458 3,306 35% Taxation (441) (191) (246) (44.2) 28.5 (890) (788) -11% Minority Interests (20.6) (29.6) (35.1) (70.0) 18.5 (161) (113) -30% Net Profit ,407 2,405 71% Growth (%) Net Interest Income Gth Net Profit Gth (40.3) 71.0 Key ratio (%) NIM NPL ratio Loan-to deposit Cost-to-income Total CAR Source of all data: Company, DBS Bank, DBSVI Page 67

68 Panin Bank CRITICAL DATA POINTS TO WATCH Margin Trends Earnings Drivers: Sticking to its niche in SME. PNBN has always focused on the SME and commercial segments, particularly traders. Management expects to maintain 45% of its portfolio on SME loans and 15% on corporate loans. Management admitted that it has no exposure to infrastructure projects and only expect trickle-down effects. As such, we believe loan growth should be a modest 7% this year. NIM to normalise this year. PNBN enjoyed lower cost of funds to 5.8% in FY16 (vs 6.6% in FY15) which bumped up NIM to 4.5% (vs 4.1% in FY15). However we believe the current level is unsustainable and NIM should normalise as asset yield should start to adjust to the lower interest rate environment. Further competition in the SME segment might also affect yield, albeit minimal. We believe NIM should hover around 4%-4.5%. Maintain liquidity, CASA ratio lower than historical levels. PNBN will keep its loan-to-deposit around the 90% level for Of its earning assets, more than 20% was allocated to the shortterm money market (2-3 weeks) and marketable bonds to preserve liquidity. PNBN believes that it will be challenging for CASA ratio to revert to the 60% level and it will remain at the mid-40% level due to tighter competition in gathering CASA deposits. Operating expenses should remain in check. PNBN did not roll out new branches last year due to the soft economic environment. The number of employees in fact is lower during the period. Opex should grow at similar rates in the past while cost-to-income should remain stable at the c.50% level. Gross Loan & Growth Customer Deposit & Growth Loan-to-Deposit Ratio Trend Normalising credit costs. PNBN has historically been able to keep provisions under control due to its good asset-quality management. Provision charge-off rate averaged 0.95% in the last five years, one of the lowest among banks under coverage. We expect the ratio to move closer to 1% in the next two years (from 1.8% in FY16). Coverage ratio maintained at c.90% level. Management has guided that the coverage ratio might hover around the 90%- 100% level. Although these levels are relatively low among Indonesian banks, we note that most of its SME loans are mostly collateralised with property (usually shophouses) which tends to increase in value. Cost & Income Structure Page 68

69 Panin Bank Balance Sheet: Asset quality and credit cost to stabilise in A prudent growth strategy has always been PNBN s priority and the majority of its SME and commercial loans are fully collateralised. As a result, PNBN has always maintained an NPL ratio under control and provision expenses have been low, except for FY15 and FY16. Strong capitalisation. Capitalisation has been strong due to its conservative growth and high-quality loan book, as well as strong capital boost from retained earnings due to its zerodividend payout policy. Share Price Drivers: Quality earnings; potential M&A target. PNBN has always focused on a conservative but high quality growth strategy with all loans fully collateralised. Asset quality has always been at manageable levels. PNBN is also a potential M&A target because of its attractive valuation. The potential divestment of ANZ's 39% stake in PNBN may be a share price catalyst. The 39% stake owned by ANZ, if sold, could trigger a tender offer, but whether this will materialise will depend on Panin Financial, i.e. the ultimate family owner. In the longer run, we would not discount the possibility of the family eventually selling out. Asset Quality Capitalisation (%) ROE (%) Key Risks: Further asset quality deterioration. PNBN saw its NPL ratio creeping up to 2.8%. Weaker-than-expected asset-quality condition this year could be a negative catalyst. Company Background Panin Bank (PNBN) is one of the largest privately owned local banks in Indonesia, behind BBCA and Permata. PNBN focuses on disbursing loans to SMEs in the growing trade industry. Forward PE Band (x) PB Band (x) Page 69