Profitability expected to grow at 10% in 2011 Interest rates expected to climb up by the end of 2011 New chapter in Omani Banking

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1 Oman Banking Global Research Sector - Banking June 22, 2011 Oman Profitability expected to grow at 1 in 2011 Interest rates expected to climb up by the end of 2011 New chapter in Omani Banking Neutral on Oman banking sector Profitability expected to grow at 1 in 2011 Omani banking sector profitability in witnessed improvement, unlike and which were the worst years in Omani banking performance due to the crisis. However, and the 1Q11 performances indicate that Omani banks have entered a stable phase, growing 4%QoQ and 9%YoY. The National Bank of Oman was the best performer in 1Q11 showing 4QoQ growth followed by Bank Dhofar showing a profitability growth of 19%QoQ. On the other end of the spectrum is Oman was Bank Muscat and Oman International Bank showing a decline in net profit of QoQ and 4%QoQ respectively. Interest rates expected to climb up by the end of 2011 In 1Q11, Omani banking spreads have improved by 53bps due to reduction in the cost of funds. All Omani banks have either reduced or maintained their cost of funds which resulted in better spreads. On the other hand, the yield on assets has increased by 15bps. Our expectation on the interest rates are based on US Fed rates as the Omani interest rate moves in tandem with the US interest rate, given that the Omani Rial is pegged to the dollar. New chapter in Omani Banking Recently Central Bank of Oman approved the establishing of the first Islamic bank, Nizwa Bank, and allowed Islamic finance products. This will open new doors for commercial banks and widen their horizon. However, we believe that the picture of Islamic banking in Oman will be clearer towards the end the year which is the expected time for the Central Bank of Oman to put in place new rules and regulations to accommodate the Sharia-compliant products. In our view we will not witness the launch of any full-fledged Islamic bank during this year. Neutral on Oman banking sector We are neutral on Oman banking sector as there is a very low visibility on loan growth. We believe that loans from private sector companies, account for 67., will slowdown as they hold back their investments in Oman considering the political risk associated with the region. We recommend Hold on Bank Muscat, National Bank of Oman and Ahli Bank and Sell on both Bank Dhofar and Oman International Bank. Faisal Hasan, CFA Head of Research fhasan@global.com.kw Tel: (965) Lamya Hayat Senior Financial Analyst lhayat@global.com.kw Tel: (965) Name CMP Mkt Cap P/E P/BV ROE Div Target Upside Rating OMR OMR mn Yield Bank Muscat , % % Hold National Bank of Oman % Hold Bank Dhofar % 2.6% % Sell Ahli Bank % % Hold Oman International Bank % Sell Source: Bloomberg, Global Research M arket data and derived ratios are as of 20June 2011 Global Investment House

2 Global Research Oman Valuation & Recommendation Valuation methodology For arriving at the fair value of our banks, we have used a blend of two valuation methods: 1. Cash flow approach represented by the Dividend Discounting Model. 2. Market valuation using peer group P/BV multiple Dividend Discounting Model - DDM The DDM is based on a 4-year forecast of dividends as cash flows ( ). The terminal is calculated using the multiples approach. Long-term justified P/BV multiple is derived on the basis of an adaptation of the Gordon Growth Model. This method uses the sustainable return on average equity (ROAE), cost of equity (COE) and expected growth in earnings (g) to calculate the target P/BV of the bank using the formula: P/BV = (ROE - g) / (COE - g) The dividends for the forecasted period and the terminal value are then discounted back at the cost of equity to arrive at the total net present value (NPV) of the company. Cost of Equity is derived using the Capital Asset Pricing Model (CAPM) using: 1. Yield of the government long term bond (10 years) as the risk free rate. 2. Market risk premium of Beta of 5 years monthly figures. If the actual beta of the bank is less than 1, to more appropriately reflect associated risk, we have taken it as 1. Market valuation using weighted P/BV multiple of the peer group In order to incorporate the impact of market forces into our valuation we have introduced using the weighted P/BV multiple of the peer group as an indicator for price movement. This weighted P/BV is then multiplied with the BV/share of the bank at the next year end, in our case the BV/share at December 31, 2011 to arrive at the fair value of the bank over a medium term investment horizon. Blended Price The blended price is then calculated after applying weight of 8 to the value from DDM and 2 to the value from peer group P/BV method. Valuations OMR mn BM NBO BD OIB Ahli Rating Hold Hold Sell Sell Hold Upside Potential/(Downside) 7.4% % % Fair Value: Fair Value - DDM (weight: 8) Fair Value - Peer Group P/BV (weight: 2) Current Price Source: Global Research June

3 ROE Global Research Oman DDM BM NBO BD OIB Ahli PV of dividends (OMR mn) 211,480 16,767 59,986 30,323 27,305 Yr 1 36,057 16,767 14,328 7,618 6,627 Yr 2 49,614 17,124 13,903 7,309 6,865 Yr 3 59,080 19,648 15,447 7,527 6,872 Yr 4 66,729 21,350 16,307 7,869 6,942 Terminal 1,598, , , , ,756 Terminal Assumptions: LT - ROE Perpetual growth rate (g) LT- P/BV Multiple (x) Source: Global Research Peer Group P/BV BM NBO BD OIB Ahli Peer Group P/BV multiple (x) BV/share COE: 13.6% 13.4% 13.4% 13.4% 13.4% Rf 5.9% 5.9% 5.9% 5.9% 5.9% Risk Premium Beta Source: Global Research Industry Multiples Bank Mkt Cap Equity Profit P/BV P/E (OMR mn) Bank Muscat 1, National Bank of Oman Bank Dhofar Ahli Bank Oman International Bank Industry 2, , Source: Global Research Relative Valuation P/BV vs. ROE 2.6% 2.4% Ahli Bak NBO Bank Dhofar 1.8% Bank Muscat 1.6% 1.4% OIB P/BV Source: Global Research June

4 COE COE COE COE COE COE COE COE COE COE Global Research Oman Sensitivity Analysis Terminal growth vs. COE ROE vs. COE Bank Muscat g ROE % % % % % % % % % % National Bank of Oman g ROE % % % % % % % % % % Bank Dhofar g ROE % % % % % % % % % % Ahli Bank g ROE % % % % % % % % % % Oman International Bank g ROE % % % % % % % % % % Source: Global Research June

5 Global Research Oman Oman Outlook Profitability expected to grow at 1 in 2011 Omani banking sector profitability in witnessed improvement, unlike and which were the worst years in Omani banking performance due to the crisis. However, and the 1Q11 performances indicate that Omani banks have entered a stable phase, growing 4%QoQ and 9%YoY. The National Bank of Oman was the best performer in 1Q11 showing 4QoQ growth followed by Bank Dhofar showing a profitability growth of 19%QoQ. On the other end of the spectrum is Oman was Bank Muscat and Oman International Bank showing a decline in net profit of QoQ and 4%QoQ respectively. Profitability Growth (OMR mn) YoY 1Q10 4Q10 1Q11 YoY QoQ Bank Muscat % % - National Bank of Oman % % 4 Bank Dhofar % 19% Ahli Bank % Oman International Bank % % -4% % % 4% We expect the growth of the aggregated net profit of the Omani banks to be limited to 1-1 in We expect this profitability to be driven by decline in provisioning and growth in NII as we are expecting the pressure on spreads to ease toward the end of Interest rates expected to climb by the end of 2011 In 1Q11, Omani banking spreads have improved by 53bps due to reduction in the cost of funds. All Omani banks have either reduced or maintained their cost of funds which resulted in better spreads. On the other hand, the yield on assets has increased by 15bps. Our expectation on the interest rates are based on US Fed rates as the Omani interest rate moves in tandem with the US interest rate, given that the Omani Rial is pegged to the dollar. Benchmark Interest Rates % 1.6% 1.4% % 0.6% 0.4% Q2 11 Q3 11 Q4 11 Q1 12 Q2 12 Q3 12 LIBOR Oman Intra Rate US LIBOR Source: Bloomberg & Global Research The historical pattern shows that LIBOR and Oman Intra Rate are fairly linked. Accordingly we base our interest rate projections on Bloomberg LIBOR forecast. As a result, we are assuming that the interest rates remain at current levels for the next two quarters and will start picking up from there onward. June

6 Global Research Oman New chapter in Omani Banking Recently Central Bank of Oman approved the establishing of the first Islamic bank, Nizwa Bank, and allowed Islamic finance products. This will open new doors for commercial banks and widen their horizon. However, we believe that the picture of Islamic banking in Oman will be clearer towards the end the year which is the expected time for the Central Bank of Oman to put in place new rules and regulations to accommodate the Sharia-compliant products. In our view we will not witness the launch of any full-fledged Islamic bank during this year. We believe that this new era in the Omani banking sector will affect the current commercial banks positively. We are expecting to see the first Islamic product to be launched by the current banks. All banks are currently preparing an Islamic banking model, as all banks want to take the lion share in this USD6bn industry, as estimated by E&Y. We are expecting banks that have alliances with other Islamic banks in the region to be the first to launch Islamic products. Bank Muscat, which already has Islamic operations in Saudi Arabia, and NBO, using the expertise of its major shareholder Commercial Bank of Qatar, is highly likely to benefit from their relationships and gain the highest market share by being pioneers in launching Islamic products. Operating Cost constant increase In 1Q11, the aggregate operating cost increased by 6%QoQ and 2YoY. Oman has a very high cost to income ratio of 4 in 1Q11 compared to other GCC countries. Salary increases have been a common phenomenon in Oman since the political instability. It is possible that is was a respond to protestors claim. We believe that the banks are under pressure to increase the salary levels. Most of Omani banks have taken action with regards to this issue in 4Q10 and 1Q11. We are expecting growth of 9%YoY in operating expenses driven mainly by salary increases which will cause a rise in cost to income ratio by 18.2bps reaching 43.9%. Going forward we are assuming the banks will manage their cost effectively which will be reflected in the cost to income ratio. 1Q11- Cost to income UAE Kuwait KSA Oman Qatar June

7 Global Research Oman Slow credit growth In 1Q11, Oman s aggregate credit showed a minor growth of 1.4%QoQ. Bank Dhofar and NBO have managed 6% and 4% QoQ increase respectively. As for Bank Muscat, this has a 5 market share of the Omani credit, loans growth stayed flat in 1Q11. 1Q11- Credit mix Non Res Gov 24% Private Sectors 67% Public Enterprise 8% Loans from private sector account for 67. which explains the slowdown in the credit growth. We believe that most of the private sector companies will hold back their investments in Oman considering the political risk associated with the region. Next comes the governmental loans, which represent 24% of the total Omani credit. This depends on the future development plan in Oman which, in our view, will be held back for some time as it is not the government s focus in the meantime. However, we are expecting some changes in the credit mix of the Omani banking sector based on consumer lending growth considering the increase in salaries and the government s efforts to improve the standard of living for its citizens. Personal lending regulation Following the steps of Qatar and UAE, Oman may introduce a strict personal lending regulation. Currently the personal lending regulation in Oman is very loose; each bank has its own policy. The only regulation that restricts personal loans by CBO is a burden rate of 6 (UAE 5, Kuwait 4, and Qatar 5) other than that personal lending can vary between 50 and 68 times an individual's salary, with some banks offering the loan over a repayment period of 180 months. The UAE Central Bank announced new laws capping personal loans at 20 times the monthly income of an individual with a repayment period set at 48 months. It is still not clear if Oman is going to introduce such regulation. In our view this will eventually result in better assets quality. However, such regulations will have a negative impact on the top line of all Omani banks as it will reduce personal loans which represent 39% of the total loan book in Oman unlike UAE and Qatar where personal loans represent 3 and 18% respectively. (OMR mn) Bank Muscat NBO Bank Dhofar Ahli Bak OIB Total Gross Loans- 1Q11 4,197 1,485 1, ,455 Retail Loans - 1Q11 1, ,299 As a % of Gross loans 40.4% 43.4% 25.9% 47.7% 39.4% 39. June

8 OMR mn OMR mn Global Research Oman Oman Banking Universe Aggregate Forecast Return Ratios Top-line Growth & Recurring Income 1.4% % 0.6% 0.4% % 8% 7% 6% 4% 3% % 74% % 66% 64% 6 6 NII (LHS) Total Income (LHS) ROAA (LHS) ROAE (RHS) NII/Total Income (RHS) Profitability Cost Efficiency Net Profit Growth Cost Income ratio (LHS) OPEX/Average Assets (RHS) Loans & Deposits Growth Assets Quality 12,000 10,000 8,000 6,000 4,000 2, % 4% 3% Loans (LHS) Deposits (LHS) LDR (RHS) NPLs Ratio (LHS) Provisioning/total Income (RHS) June

9 Global Research Oman Comparative Charts June

10 Global Research Oman Banking and Economic Statistics Oman vs GCC GDP GCC Population Qatar 13% Kuwait 13% Oman UAE 2 Saudi Arabia 44% Qatar Oman 8% Kuwait 9% UAE 13% Saudi Arabia 6 M2 Assets Qatar 1 Oman 3% Qatar 13% Oman 3% Kuwait 14% Saudi Arabia 39% Kuwait 13% Saudi Arabia 33% UAE 33% UAE 38% Loans Deposits Qatar 1 Oman 4% Qatar 1 Oman 3% Kuwait 13% Saudi Arabia 3 Kuwait 13% Saudi Arabia 3 UAE 4 UAE 38% Source: Global Research All figures are as of June

11 Global Research Oman Banking and economic Statistic Oman vs GCC M2/GDP Loans/GDP Saudi Arabia UAE Kuwait Qatar Oman GCC Saudi Arabia UAE Kuwait Qatar Oman GCC Loans per capita Deposits per capita Saudi Arabia UAE Kuwait Qatar Oman GCC 0.0 Saudi Arabia UAE Kuwait Qatar Oman GCC ROAA ROAE Saudi Arabia UAE Kuwait Qatar Oman GCC Saudi Arabia UAE Kuwait Qatar Oman GCC Source: Global Research All figures are as of June

12 Global Research Oman Peer Group Comparison Assets Deposits ABOB 7% OIB 1 ABOB 8% OIB 1 BKDB 1 BKMB 5 BKDB 16% BKMB 47% NBO 17% NBO 18% Gross Loans NPLs BKDB 17% ABOB 8% OIB 8% BKMB 5 ABOB BKDB 16% OIB 2 BKMB 5 NBO 17% NBO 13% ROAA ROAE 2. 16% 2. 14% % 1. 6% 0. 4% 0. BKMB NBO BKDB ABOB OIB BKMB NBO BKDB ABOB OIB All figures are as of 1Q11 June

13 Global Research Oman Peer Group Comparison Assets Quality Provisioning Requirements BKMB NBO BKDB ABOB OIB NPLs NPLs ratio 1 1 8% 6% 4% 14% 1 1 8% 6% 4% - -4% BKMB NBO BKDB ABOB OIB 2 Prov/Total Income Coverage ratio Yield on Assests,Cost of funds & Spreads % 3.6% % Cost to Income % BKMB NBO BKDB ABOB OIB Yield on assets CoF Spreads 0. BKMB NBO BKDB ABOB OIB Non intrest income to total income 40. LTD BKMB NBO BKDB ABOB OIB BKMB NBO BKDB ABOB OIB Source: Global Research All figures are as of 1Q11 June

14 Global Research Oman Oman Banking Universe Forecast Average ROE Top-line Growth BKMB NBO BKDB ABOB OIB -2011a BKMB NBO BKDB ABOB OIB - CAGR Profit Growth Cost Efficiency BKMB NBO BKDB ABOB OIB BKMB NBO BKDB ABOB OIB - CAGR -a CAGR Loan Growth Cost of risk % 16% 14% 1 1 8% 6% 4% BKMB NBO BKDB ABOB OIB - CAGR BKMB NBO BKDB ABOB OIB Source: Global Research June

15 Global Research Oman Company Profiles June

16 Jun-10 Jul-10 Aug-10 Sep-10 Oct-10 Nov-10 Dec-10 Jan-11 Feb-11 Mar-11 Apr-11 May-11 Jun-11 Global Research - Oman Bank Muscat Market Data Bloomberg Code: BKMB OM Reuters Code: BMAO.OM CMP (20 June 2011): OMR O/S (mn) 1,346 Market Cap (OMR mn): 1,161.3 Market Cap (USD mn): 3,016.3 P/E (x): 10.4 P/Bv (x): 1.3 Price Performance 1-Yr High (OMR): 0.90 Low (OMR): 0.67 Average Volume: (000) 1, m 3m 12m Absolute (%) Relative (%) Price Volume Performance 5,000 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1, Volume ('000) Lamya Hayat Senior Financial Analyst lhayat@global.com.kw Tel.: (965) BKMB (OMR) Profitability exceeded our expectations Net interest income grew; jump in non-interest income Expecting credit to growth at 6% in 2011 Disappointment in associate continues BUY Target Price OMR0.805 Profitability exceeded our expectations Bank Muscat reported OMR27.8mn for 1Q11, representing a decrease of 5.4%QoQ and an increase of 13.7%YoY. The increase in profitability was a result of an improvement in the top line while non interest income remained on the high side. The bank s net profit in 1Q11 was affected by losses from associates amounting to OMR1.8mn and high provisioning in the first quarter. In 2011, we expect the net profit to be OMR111mn representing 9.7% growth as compared to 37.8%, assuming the bank profit will be pressured by losses from BMI and staff cost increase. Net Interest Income grew; jump in non-interest income In 1Q11, the NII grew by 24.QoQ and 12.4%YoY. Though the growth in 1Q11 was relatively high, we expect NII to lose momentum in 2011, growing at 0.7% and at a CAGR of 14. for the period assuming the LTD ratio will improve. Though the bank s non-interest income witnessed a decrease of 16.QoQ, it is still considered to be on the higher side compared to last year s performance showing an increase of 30.YoY. The dividend income and profit on sales of investments increased this quarter supporting the non interest income to maintain its high levels. Given that the dividends are seasonal in nature, we do not expect this performance to continue for the remainder of the year. Expecting credit to growth at 6% in 2011 Gross loans remained stagnate in 1Q11. Surprisingly, Bank Muscat s credit addition was low comparing gross loans growth to the Omani banking sector We expect low growth in Omani banking sector credit on the back of less appetite for credit from private investors having their confidence shaken by the current political events in the region. We would also expect some delays in implementing the government development plan. On a conservative basis we have assumed the bank s gross loans to grow at 6% which is slightly lower than the Omani banking sector. Customer deposits grew by 3.4%QoQ in 1Q11 outperforming the sector s deposits growth of 1.7%. This might raise concern of an increase in the cost of deposits going forward, however the bank illustrated their cost management proves through the past two years giving a level of comfort that the deposits added are low cost. Investment Indicators Net Profit Growth 37.8% 9.7% % 21.6% NII Growth 7.4% 0.7% 12.6% 15.7% 15.3% Loan Growth % 9.3% Deposits Growth % Adjusted EPS (OMR) Adjusted BVPS (OMR) ROE % 17.8% Dividend Yield 2.4% 2.7% 3.3% % P/E Ratio (x)* P/BV Ratio (x)* * Market price for 2011 and subsequent years as per closing prices on MSM on 20 June June

17 Global Research Oman Bank Muscat - 1Q11 Result Summary OMR mn 1Q10 4Q10 1Q11 QoQ YoY Income Statement Interest Income Interest Expense % -4 Net Interest Income % 2 Net Fee & Commission Income Non-interest Income % 3 Total Operating Income % 24% Operating Expenses % Provision (Loan Loss) % 14% Net Profit % Balance Sheet Net loans 4,032 4,194 4,197 4% Deposits 3,628 3,527 3,646 3% Assets 6,101 5,851 5,827-4% Source : Company Financials & Global Research Spreads to remain stagnant We believe that the bank s spread improve gradually in We are expecting that cost if funds will increase gradually in tandem with the interest yield leading to an increase in spread. Disappointment in associates continues Bank Muscat has been witnessing year on year increase in losses from associate, for the past three years. In 1Q11, the loss from associates reached OMR1.835mn. We are not expecting any profits from its associates till High cost to income ratio In 1Q11, total operating expenses increased by 14%QoQ resulting in higher cost to income ratio of 4 compared to 39% in 4Q10. Part of this increase is a result of the bank s expansion plan which includes strategy to develop the banking infrastructure by way of technology investments, expansion of business and delivery channel network to provide better service. We are expecting the cost of expenses to grow at 7% in 2011 and then stabilizing in Estimates Revision OMRmn Earlier Estimates Revised Estimates % change Gross Loans 4,629 4, Deposits 3,890 3, % NII % Operating Income Provisions for credit loss (32) (32) 1.4% Net Profit Source: Global Research Valuation update By the virtue of its size, the bank is expected to hold a lion s share in any business development opportunity. Using DDM and P/BV multiple as our valuation methodology, we arrived at a fair value of OMR0.805, Offering an upside potential of 7.4% on the closing price (as of 20 June 2011) of OMR Therefore we maintain our recommendation at Hold June

18 Ratio Analysis Balance Sheet Income Statement Global Research Oman Financial Statements (OMR mn) Interest/Financing Income Interest Expense/Payment to Depositors (101) (105) (88) (88) (95) (107) (122) Net Interest/Financing Income Fee & Commission Income Investment Income Other Income Total Non-Interest/Financing Income Total Operating Income Provisions expense (12) (88) (33) (19) (21) (26) (31) Operating Expenses (84) (82) (103) (110) (120) (126) (129) Profit Before Taxation Taxation & Minority Interest (15) (14) (16) (18) (21) (26) (31) Net Profit Attributable to Parent Cash Balances Deposits with Banks & FIs 1,078 1, Investment Securities Gross Loans & Financings 3,853 4,052 4,194 4,443 4,858 5,446 6,126 Loan Loss Reserve (126) (214) (186) (219) (254) (294) (339) Net Loans & Financings 3,979 4,266 4,380 4,662 5,112 5,740 6,465 Investment in Associates Investment Properties Net Fixed Assets Other Assets Total Assets 6,028 5,851 5,851 6,185 6,467 6,928 7,560 Deposits from Banks & FIs 1,413 1, Deposits from Customers 3,173 3,068 3,527 3,864 4,188 4,635 5,191 Other Borrowings Other Liabilities Paid-up Capital Retained Earnings Other Reserves Shareholders' Equity ,038 1,127 Minority Interest Total Equity & Liability 6,028 5,851 5,851 6,185 6,467 6,928 7,560 Return on Average Assets 1.8% % 1.9% % 2.7% Return on Average Equity 14.9% 10.3% % 17.8% Net Interest Income/Operating Income % % % Recurring Income/Operating Income 91.6% % 93.9% 94.3% Interest Earning/Financing Assets Yield 5.6% % % 5.8% 6. Cost of Funds % 1.8% 1.9% Net Spread % % 3.7% 3.8% 3.9% Cost to Income Ratio 35.6% % 41.8% % 33.7% OPEX/Average Assets % 1.8% 1.8% 1.9% 1.9% 1.8% Net Loans to Customer Deposits 125.4% % % 124. Non Performing Loans Loan Loss Reserve NPLs to Gross Loans 2.3% % % 3. NPL Coverage 138.8% % % Cost of Risk (bps) Equity to Gross Loans % % Equity to Total Assets 11.9% % 14.4% 14.9% % Dividend Payout Ratio Adjusted EPS (OMR) Adjusted BVPS (OMR) Market Price (OMR) * Dividend Yield 6.3% 2.4% 2.4% 2.7% 3.3% % P/E Ratio (x) P/BV Ratio (x) * Market price for 2011 and subsequent years as per closing prices on MSM on June 20, 2011 June

19 OMR mn OMR mn Global Research Oman Bank Muscat Charts gallery Top-line Growth & Recurring Income Profitability NII (LHS) Recurring/Total inc (RHS) Total Income (LHS) Net Profit (LHS) Growth (RHS) Assets Quality Provisioning Requirements 6% 4% 3% % 1 1 8% 6% 4% NPLs ratio (LHS) Coverage (RHS) Provisioning charge (LHS) Provisioning/total Income (RHS) Spreads Cost efficiency Yield on Earning Assets Cost of Fund Spreads Cost Income Ratio (LHS) Opex/Average Assets (RHS) June

20 Jun-10 Jul-10 Aug-10 Sep-10 Oct-10 Nov-10 Dec-10 Jan-11 Feb-11 Mar-11 Apr-11 May-11 Jun-11 Global Research Oman National Bank of Oman Market Data Bloomberg Code: NBOB OM Reuters Code: NBO.OM CMP (20 June 2011): OMR O/S (mn) 1,081.0 Market Cap (OMR mn): 347 Market Cap (USD mn): 901 P/E (x): 11.9 P/Bv (x): 1.3 Price Performance 1-Yr High (AED): 0.37 Low (AED): 0.30 Average Volume: (000) Net Profit growth to flatten in 2011 Low visibility on the top line Operating expenses is weighing heavy profits NBO provisions should be on the watch Hold Target Price OMR0.324 Net Profit growth to flatten in 2011 National Bank of Oman s profit was inline with our estimate of OMR7.6mn deviating by 0.9%. NBO s profitability increased by 4QoQ and 18%YoY. The increase in profitability was mainly due to 9QoQ improvement in non-interest income on account of 21 increase in dividend income. Given that it is seasonal in nature, we are not expending the same growth to continue in the next three quarters. Recoveries from provision for credit loss have supported the net profit growth. In 2011, we expect net profit to be OMR30mn assuming the pressure on yields to ease. 1m 3m 12m Absolute (%) Relative (%) Price Volume Performance 3,000 2,500 2,000 1,500 1, Volume ('000) NBOB (OMR) Low visibility on the top line The net interest income did not contribute to the bottom line growth in 1Q11, it decreased by 2.3%QoQ and 2.YoY. We assumed that the NII will grow at 6.4% in Operating expenses is weighing heavy profits In 1Q11, NBO managed to decrease its operating expenses by 1.8%QoQ. The cost to income ratio has decreased marginally by 10bps however the banks cost to income ratio remained highest among its peers. The increase in costs was due to incremental employee cost and higher depreciation. NBO provisions should be on the watch Surprisingly NBO s provisions on credit loss showed a major increase of 4QoQ and 36%YoY. However, this amount was offset by an increase in recoveries from provisions for credit loss. In general, it is normal for Omani banks to expect such a hike in provisions in the first quarter. Most of Omani banks experienced the same increase out of being conservative. Investment Indicators Net Profit Growth 28.7% 9.9% 15.8% NII Growth % 12.4% 11.4% 14.9% Loan Growth % 7.3% 10.4% 11.3% Deposits Growth % Adjusted EPS (OMR) Adjusted BVPS (OMR) ROE % % 17. Dividend Yield 4.6% % 9.6% P/E Ratio (x)* P/BV Ratio (x)* * Market price for 2011 and subsequent years as per closing prices on MSM on 20 June Lamya Hayat Senior Financial Analyst lhayat@global.com.kw Tel.: (965) June

21 Global Research Oman NBO - 1Q11 Result Summary OMR mn 1Q10 4Q10 1Q11 QoQ YoY Income Statement Interest Income % -6% Interest Expense % -8% Net Interest Income Net Fee & Commission Income % 4% Non-interest Income % Total Operating Income % 4% Operating Expenses % Provision (Loan Loss) % Net Profit % Balance Sheet Gross loans 1,451 1,432 1,485 4% Deposits 1,373 1,325 1,355 - Assets 1,890 1,805 1,869 4% - Source : Company Financials & Global Research Estimates Revision - OMRmn Earlier Estimates Revised Estimates % change Gross Loans 1,521 1, % Deposits 1,408 1, % NII % Operating Income % Provisions for credit loss (14) (14) -0.7% Net Profit % Source: Global Research Valuation update NBO has seen high attrition in its high ranked cadres which is a challenge that needs to be tackled. Top line deterioration and fluctuation raises concerns of the consistency in the bank s core business. Using Dividend Discount Module and P/BV as our valuation methodology, we have arrived at a fair value of OMR0.324 per share; offering an upside of at the closing price (as on 20 June 2011) of OMR0.321 per share. Therefore, we maintain our recommendation at Hold. June

22 Ratio Analysis Balance Sheet Income Statement Global Research Oman Financial Statements (OMR mn) Interest/Financing Income Interest Expense/Payment to Depositors Net Interest/Financing Income Fee & Commission Income Investment Income Other Income Total Non-Interest/Financing Income Total Operating Income Provisions expense 1 (18) (7) (7) (7) (5) (5) Operating Expenses (34) (35) (40) (44) (48) (52) (55) Profit Before Taxation Taxation & Minority Interest (6) (4) (3) (4) (5) (6) (7) Net Profit Attributable to Parent Cash Balances Deposits with Banks & FIs Investment Securities Gross Loans & Financings 1,465 1,429 1,432 1,545 1,657 1,830 2,037 Loan Loss Reserve (64) (68) (69) (83) (96) (107) (117) Net Loans & Financings 1,401 1,361 1,363 1,462 1,753 1,937 2,154 Investment in Associates Investment Properties Net Fixed Assets Other Assets Total Assets 1,981 1,798 1,805 1,970 2,102 2,253 2,444 Deposits from Banks & FIs Deposits from Customers 1,342 1,261 1,325 1,431 1,549 1,679 1,835 Other Borrowings Other Liabilities Paid-up Capital Retained Earnings Other Reserves Shareholders' Equity Minority Interest Total Equity & Liability 1,981 1,798 1,805 1,970 2,102 2,253 2,444 Return on Average Assets 2.4% % 1.7% 1.9% 2. Return on Average Equity % % 17. Net Interest Income/Operating Income 56.3% 69.4% % % Recurring Income/Operating Income 43.7% 30.6% 28.8% % 28.8% 27.6% Interest Earning/Financing Assets Yield % % % 6.8% Cost of Funds % 2.6% 2.6% 2.6% 2.8% 2.9% Net Spread 3.4% % 3.7% 3.9% 3.9% 4. Cost to Income Ratio 39.9% % % OPEX/Average Assets 1.7% 1.9% % 2.3% 2. Net Loans to Customer Deposits 104.4% 107.9% 102.9% % 117.4% Non Performing Loans Loan Loss Reserve NPLs to Gross Loans 4.4% 4.6% 4.3% % 3.6% 3. NPL Coverage % 152.7% 162.6% 188.9% Cost of Risk (bps) (0.0) Equity to Gross Loans % % % Equity to Total Assets % 14.7% % Dividend Payout Ratio 45.4% % Adjusted EPS (OMR) Adjusted BVPS (OMR) Market Price (OMR) * Dividend Yield 4.8% 3.7% 4.6% % 9.6% P/E Ratio (x) P/BV Ratio (x) * Market price for 2011 and subsequent years as per closing prices on MSM on June 20, 2011 June

23 OMR mn OMR mn Global Research Oman National Bank of Oman Charts gallery Top-line Growth & Recurring Income Profitability NII (LHS) Recurring/Total inc (RHS) Total Income (LHS) Net Profit (LHS) Growth (RHS) Assets Quality Provisioning Requirements 4% 3% % 4% 3% 3% NPLs ratio (LHS) Coverage (RHS) Provisioning charge (LHS) Provisioning/total Income (RHS) Spreads Cost efficiency % Yield on Earning Assets Cost of Fund Spreads Cost Income Ratio (LHS) Opex/Average Assets (RHS) June

24 May-10 Jun-10 Jul-10 Aug-10 Sep-10 Oct-10 Nov-10 Dec-10 Jan-11 Feb-11 Mar-11 Apr-11 May-11 Global Research - Oman Bank Dhofar Market Data Bloomberg Code: BKDB OM Reuters Code: BDOF.OM CMP (20 June 2011): OMR0.63 O/S (mn) 813 Market Cap (OMR mn): 574 Market Cap (USD mn): 1,491 P/E (x): 15.0 P/Bv (x): 2.2 Price Performance 1-Yr High (AED): 0.70 Low (AED): 0.54 Average Volume: (000) 62 1m 3m 12m Absolute (%) Relative (%) Price Volume Performance 1, Volume ('000) BKDB (OMR) Profitability to increase by 1 in 2011 Pressure to ease on yields in 2011 High assets quality to continue Very low credit growth is expected Sell Target Price OMR0.361 Profitability to increase by 1 in 2011 In 1Q11, Bank Dhofar s net profit was OMR9.4mn for 1Q11, representing an increase of 19.QoQ and an increase of 6.YoY. This increase was not driven by the bank s top line as it was stagnant during 1Q11. The profitability of the bank was supported by lower provisioning and increase in the fees and commission. We are expecting profitability to increase by 1YoY in Pressure to ease on yields in 2011 Bank Dhofar NII was stagnant in 1Q11 at OMR14.8mn which was a result of lower yield. As we are assuming that the yield of the Omani banking sector will increase toward the end of And it is expected that the bank will manage to get low cost deposit decreasing its cost of fund which will result in an increase in the top line of 9. in High growth in Fees and commission In 1Q11, net fees and commission stood at OMR1.9mn representing an increase of 45.6%QoQ and 53.8%YoY. This high growth was a result of the bank implementing Automated Fees system which showed a positive result from the first quarter.. In our view the fees and commission growth will normalize in the coming quarters to reach 3YoY growth in High Assets Quality to continue In 1Q11, provisioning for loan losses stood at OMR1.9mn representing a decrease of 33.3%QoQ. Bank Dhofar enjoyed high quality of assets which we believe will continue in Investment Indicators Net Profit Growth % NII Growth 16.3% % Loan Growth % Deposits Growth % Adjusted EPS (OMR) Adjusted BVPS (OMR) ROE % 15.4% 15.7% 17. Dividend Yield % % P/E Ratio (x)* P/BV Ratio (x)* * Market price for 2011 and subsequent years as per closing prices on MSM on 20June Lamya Hayat Senior Financial Analyst lhayat@global.com.kw Tel.: (965) June

25 Global Research Oman Bank Dhofar - 1Q11 Result Summary OMR mn 1Q10 4Q10 1Q11 QoQ YoY Income Statement Interest Income % 10.9% Interest Expense % -24.7% Net Interest Income % Net Fee & Commission Income % 54% Non-interest Income Total Operating Income % Operating Expenses % 1 Provision (Loan Loss) % 178% Net Profit % 6% Balance Sheet Gross loans 1,266 1,333 1,409 6% 1 Deposits 1,177 1,250 1,261 7% Assets 1,546 1,664 1,696 1 Source : Company Financials & Global Research Very low credit growth is expected Bank Dhofar exhibited 5.7%QoQ gross loan growth in 1Q11. We don t believe that we are going to more than 6%YoY in We have revised our expected gross loans to OMR 1,411mn representing 8. decrease. In 1Q11, corporate loans represented 51.6% of the loan portfolio. This gives an indication that the bank loan growth might get effected by the low growth of corporate loan in Oman in Estimates Revision- OMRmn Earlier Estimates Revised Estimates % change Gross Loans 1,542 1, Deposits 1,344 1, % NII % Operating Income % Provisions for credit loss (4) (4) 15. Net Profit Source: Global Research Valuation update Bank Dhofar currently is trading at very high multiples of P/BV 2.2x and P/E 15. Using Dividend Discount Module and P/BV as our valuation methodology, we have arrived at a fair value of OMR0.361 per share; offering downside of 42. on the closing price (as on 20 June 2011) of OMR0.627 per share. Therefore, we downgrade our recommendation at Sell. June

26 Ratio Analysis Balance Sheet Income Statement Global Research Oman Financial Statements (OMR mn) Interest/Financing Income Interest Expense/Payment to Depositors (24) (29) (25) (26) (28) (33) (38) Net Interest/Financing Income Fee & Commission Income Investment Income Other Income Total Non-Interest/Financing Income Total Operating Income Provisions expense (8) (12) (4) (4) (4) (4) (3) Operating Expenses (21) (24) (29) (32) (35) (38) (40) Profit Before Taxation Taxation & Minority Interest (3) (4) (5) (5) (6) (6) (8) Net Profit Attributable to Parent Cash Balances Deposits with Banks & FIs Investment Securities Gross Loans & Financings 1,069 1,258 1,333 1,411 1,555 1,746 1,976 Loan Loss Reserve (50) (64) (72) (78) (84) (90) (96) Net Loans & Financings 1,018 1,194 1,262 1,333 1,471 1,656 1,880 Investment in Associates Investment Properties Net Fixed Assets Other Assets Total Assets 1,324 1,509 1,664 1,780 1,943 2,140 2,379 Deposits from Banks & FIs Deposits from Customers 972 1,101 1,250 1,307 1,434 1,601 1,805 Other Borrowings Other Liabilities Paid-up Capital Retained Earnings Other Reserves Shareholders' Equity Minority Interest Total Equity & Liability 1,324 1,509 1,664 1,780 1,943 2,140 2,379 Return on Average Assets % % 2.3% 2. Return on Average Equity 15.8% 12.9% % 15.4% 15.7% 17. Net Interest Income/Operating Income % 80.3% 78.4% 80.4% 80.6% 81.6% Recurring Income/Operating Income % 87.4% 86.7% 88.7% % Interest Earning/Financing Assets Yield 6.4% % 5.8% 5.9% 6. Cost of Funds % 1.9% 1.9% 1.9% Net Spread 3.9% % 3.8% 3.9% 3.9% 4. Cost to Income Ratio 37.6% 36.4% 40.9% 40.4% 40.8% 39.9% 37.4% OPEX/Average Assets 1.6% 1.7% 1.8% 1.9% 1.9% 1.9% 1.8% Net Loans to Customer Deposits 104.8% 108.4% % 103.4% 104. Non Performing Loans Loan Loss Reserve NPLs to Gross Loans 3.4% 4.7% 4.6% % 3.8% 3.8% NPL Coverage 138.3% % 129.8% Cost of Risk (bps) Equity to Gross Loans 17.6% % Equity to Total Assets % 14.7% 14.8% 14.7% 14.6% Dividend Payout Ratio % 43.7% Adjusted EPS (OMR) Adjusted BVPS (OMR) Market Price (OMR) * Dividend Yield 6.8% % % P/E Ratio (x) P/BV Ratio (x) * Market price for 2011 and subsequent years as per closing prices on MSM on June 20, 2011 June

27 OMR mn OMR mn Global Research Oman Bank Dhofar Charts gallery Top-line Growth & Recurring Income Profitability NII (LHS) Recurring/Total inc (RHS) Total Income (LHS) Net Profit (LHS) Growth (RHS) Assets Quality Provisioning Requirements 4% 4% 3% 3% % 6% 4% 3% NPLs ratio (LHS) Coverage (RHS) Provisioning charge (LHS) Provisioning/total Income (RHS) Spreads Cost efficiency % 38% 37% % % 1. Yield on Earning Assets Cost of Fund Spreads Cost Income Ratio (LHS) Opex/Average Assets (RHS) June

28 May-10 Jun-10 Jul-10 Aug-10 Sep-10 Oct-10 Nov-10 Dec-10 Jan-11 Feb-11 Mar-11 Apr-11 May-11 Global Research Oman Ahli Bank Market Data Bloomberg Code: ABOB OM Reuters Code: ABOB.OM CMP (20 June 2011): OMR0.273 O/S (mn) 712 Market Cap (OMR mn): 216 Market Cap (USD mn): 562 P/E (x): 10.8 P/Bv (x): 1.8 Price Performance 1-Yr High (OMR): 0.30 Low (OMR): 0.22 Average Volume: (000) m 3m 12m Absolute (%) 1, Relative (%) Profitability growth to see momentum Top line exhibited weakness The loan book continues to be of high quality Impressive credit growth in Hold Target Price OMR0.258 Profitability growth to see momentum Ahli bank announced OMR4.03mn net profit representing growth of QoQ and 24%YoY growth. This was supported by a cut down in operating cost and a major increase in the non interest income. Though profitability was not backed up by the NII performance we still believe that the banks in it growth momentum phase. We are expecting the same high growth ratio for the bottom line assuming it will grow at 45.3%YoY in 2011 and it will normalize going forward. Top line exhibited weakness For the first time, since the conversion of Ahli bank to commercial banking, it witnessed a decline in the top line of 1.6%QoQ in the first quarter. This was on the back of the decrease in both gross loan and customer deposits. Loans decrease was very minimal in 1Q11 of 0.1QoQ but deposits decreased by 2.7%QoQ. Price Volume Performance 2,500 2,000 1,500 1, The decrease in deposit during the first quarter was a part of management plan to reduce their cost of fund as much as possible to maintain their spreads at the same levels and minimize the decline in NII as much as possible. We believe that the bank effective strategy will continue going forward and NII will grow a slower rate in Impressive credit growth in In, the bank increased its gross loans by 47.8%YoY. This level of growth was only witnessed in Ahli bank of Oman and this was mainly due to the bank growth momentum and trying to gain market share and compete with its peers. We believe that bank has the ability to enhance its credit position and gain an extra markets share during We are expecting credit growth to reach 11.YoY in Volume ('000) ABOB (OMR) Investment Indicators Net Profit Growth % % NII Growth 41.6% 36.8% 15.6% 16.9% 17.9% Loan Growth 47.8% % 18.3% 15.8% Deposits Growth % Adjusted EPS (OMR) Adjusted BVPS (OMR) ROE % Dividend Yield 2.4% % 4.3% 4.9% P/E Ratio (x)* P/BV Ratio (x)* * Market price for 2011 and subsequent years as per closing prices on MSM on 20 June Lamya Hayat Senior Financial Analyst lhayat@global.com.kw Tel.: (965) June

29 Global Research Oman The loan book continues to be of high quality In 1Q11, the banks provision increased by 3, this was mainly due to the provisioning for some of the small and medium enterprises. The NPL ratio remained at low levels of As a result of 0.58%. We believe it will slightly increase with the growth of the normal course of business. Ahli Bank - 1Q11 Result Summary OMR mn 1Q10 4Q10 1Q11 QoQ YoY Income Statement Interest Income % 10.9% Interest Expense % -24.7% Net Interest Income % 39% Non-interest Income % Total Operating Income % Operating Expenses % 96% Net Profit % Balance Sheet Gross loans Deposits % 26% Assets % Source : Company Financials & Global Research Estimates Revision - OMRmn Earlier Estimates Revised Estimates % change Gross Loans Deposits % NII % Operating Income Provisions for credit loss (0) (1) 228. Net Profit Source: Global Research Valuation update We believe that the bank is going to witness double digit growth in However, the current market price captures this growth resulting in very limited upside potential. Ahli banks shares are trading at P/BV 2.0x which higher than the industry average. Using Dividend Discount Module and P/BV as our valuation methodology, we have arrived at a fair value of OMR0.258 per share; offering a downside of 5.3% on the closing price (as on 20 June 2011) of OMR0.273 per share. Therefore, we maintain our recommendation at Hold. June

30 Ratio Analysis Balance Sheet Income Statement Global Research Oman Financial Statements (OMR mn) Interest/Financing Income Interest Expense/Payment to Depositors (12) (14) (15) (18) (20) (24) (28) Net Interest/Financing Income Fee & Commission Income Investment Income Other Income Total Non-Interest/Financing Income Total Operating Income Provisions expense 0 (0) (0) (1) (1) (1) (1) Operating Expenses (8) (8) (9) (10) (12) (14) (17) Profit Before Taxation Taxation & Minority Interest (1) (1) (2) (3) (3) (4) (4) Net Profit Attributable to Parent Cash Balances Deposits with Banks & FIs Investment Securities Gross Loans & Financings ,010 1,169 Loan Loss Reserve (3) (3) (3) (4) (5) (6) (6) Net Loans & Financings ,004 1,163 Investment in Associates Investment Properties Net Fixed Assets Other Assets Total Assets ,022 1,181 1,355 Deposits from Banks & FIs Deposits from Customers ,098 Other Borrowings Other Liabilities Paid-up Capital Retained Earnings Other Reserves Shareholders' Equity Minority Interest Total Equity & Liability ,022 1,181 1,355 Return on Average Assets 1.6% 1.6% % % Return on Average Equity 6.9% 9.4% % Net Interest Income/Operating Income 79.6% 76.4% % % Recurring Income/Operating Income % 98.7% 98.7% 98.8% 98.9% Interest Earning/Financing Assets Yield 6.3% % 5.8% 5.9% 5.9% 6. Cost of Funds % 2.7% 2.6% 2.7% 2.7% 2.8% Net Spread 4.3% 2.7% % Cost to Income Ratio % % 30.3% 31.3% 32. OPEX/Average Assets % % 1.3% 1.3% Net Loans to Customer Deposits 117.6% % 104.4% 105.4% 106.4% 105.9% Non Performing Loans Loan Loss Reserve NPLs to Gross Loans % 0.4% 0.3% 0.3% 0.3% NPL Coverage 386.8% % % % Cost of Risk (bps) (2.79) Equity to Gross Loans % 15.4% 16.9% 16.3% Equity to Total Assets 18.3% % 13.8% 13.6% 13.3% 13. Dividend Payout Ratio % 33.7% Adjusted EPS (OMR) Adjusted BVPS (OMR) Market Price (OMR) * Dividend Yield N/A 2.3% 2.4% % 4.3% 4.9% P/E Ratio (x) P/BV Ratio (x) * Market price for 2011 and subsequent years as per closing prices on MSM on February 20, 2011 June