Pakistan Banks. Pak Banks valuations cheapest since time to load up. Industry Update. April 18 th, 2016

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1 Pakistan Banks Industry Update Recommendation TP Upside (%) UBL BUY PKR % BAHL BUY PKR % HBL BUY PKR225 3 MCB BUY PKR % ABL BUY PKR % HMB BUY PKR % BAFL NEUTRAL PKR27 9.5% April 18 th, 2016 Pak Banks valuations cheapest since time to load up Pak bank valuations too cheap to ignore- UBL, HBL, and BAHL our top picks With the recently released MPS underscoring our opinion that the cycle of monetary easing has ended, we reiterate our liking for Pakistan Banks. Earnings growth momentum highlights stable to slight growth, with the best earnings momentum offered by UBL, HBL, and BAHL, where lower PIB re-pricing impact and strong CASA growth make them stand out from peers. This is despite factoring in a significant fresh overseas NPL creation of PKR 8bn/PKR 6bn in UBL and HBL respectively, over the next three years. Valuations for the whole sector have become too cheap to ignore, with the earnings yield of the Next Universe banks 5.5% higher than the 10 year government bond, the highest since early The sectors trailing PER of 7.4x is at a massive 36% discount to the KSE-100, against a 10 year avg. discount of 19%. The last two times valuations became this cheap (early 2009, and in 2011), a massive rally ensued in the next two years. Institutional investors who are significantly underweight the sector are advised to redress the balance, where we are actually recommending an over-weight stance. A potential upgrade to MSCI EM would also trigger a significant re-rating, as the banking sector constitutes 40% of the simulated weight of the MSCI Pakistan Index. UBL, BAHL and HBL offer the strongest earnings momentum in the sector Whilst earnings growth for the sector is likely to remain muted in the next few years, UBL, HBL, and BAHL offer relatively better earnings momentum than peers. Our analysis highlights that earnings momentum for UBL, BAHL and HBL is significantly stronger than peers, with 3yr earnings CAGR of 8.5%/7.8%/5.7% respectively. UBL and BAHL stand out for their relatively well positioned PIB books, whilst all three banks are expected to outperform in terms of CASA deposit growth, in-line with their recent track record, strong deposit franchises, and aggressive deposit mobilization drives. Meanwhile, HBL and UBL are also expected to perform strongly in terms of fee income growth. Our NPL assumptions are also conservative; for both UBL and HBL, we have taken significant provisioning from their Middle East loan portfolios (fresh NPL formation of PKR 8bn for UBL and PKR 6bn for HBL in E). whilst the others offer a flattish trajectory For MCB and ABL, we expect relatively flat earnings over the next three years; owing to higher PIB re-pricing drag and muted CASA deposit growth. BAFL and HMB also have a stable earnings profile, where CASA and fee income growth is strong, but heavy re-pricing and normalization of capital gains weighs down earnings. Overall, we have tapered down our loan growth assumptions, in light of the regulatory bottlenecks being faced in local financing of large infrastructure projects (CY18 ADR avg:42.7%). Our M2 growth assumption is also conservative at 10%, whilst we assume no change in policy rate in CY16, a 50bp hike in CY17E, and another 50bp hike in CY18E. Earnings yield over 10 year govt. bond spread at a post 2009 high The Fed model asserts that, in equilibrium, the yield on long-term Treasury securities should be equal to the earnings yield. Currently, the spread between Pak banks earnings yield and 10yr bond stands at 5.50%, a post 2009 high. Other than the 2008 meltdown, the only other time the spread has reached these levels was in CY11, post which banking sector enjoyed a very strong rally. To put the extent of under-valuation into context, banks now offer an even higher earnings yield (and conversely, a lower PER) than fertilizer and power sectors, which are viewed as traditionally low growth sectors. The average trailing PER of FFC, HUBC, and KAPCO is 9x currently, compared to the Next Banks Universe avg. of 7.4x. This highlights that the sector is poised for re-rating, even after taking into account the modest earnings growth prospects over the next 2-3 years. The banking sector is now trading at a 36% discount to the KSE- 100 (in PER terms), against a 10 year avg. discount of 19%. The last two times valuations became this cheap (early 2009, and in 2011), a massive rally ensued in the next two years. Time to move from under-weight to over-weight Institutional investors who are significantly underweight the sector are advised to redress the balance. A sample of the top ten mutual funds currently have a 9.4% exposure to the banking sector, whilst commercial banks have an allocation of 11.7%. Both are considerably under-weight, given the KSE-100 weight of 23%; a 10% increase in allocations would lead to an estimated inflow of PKR 20bn. A potential upgrade to MSCI EM would also trigger significant re-rating, as the banking sector constitutes 40% of the simulated weight of the MSCI Pak EM Index. Revising down our private sector growth assumption on regulatory bottlenecks Given State Bank of Pakistan s (SBP) focus to keep exchange rate stable and limit FX outflow, we have tapered down our 3yr private sector credit CAGR to 10% from 15% previously. Our earlier expectation of ~US$ 20-25bn credit pipeline during E with an across-the-board expansion cycle, has been reduced. Although private sector credit growth has been robust in FY16, and is likely to continue to remain strong, local financing of some key infrastructure projects has been pushed from local financing towards foreign financing. Ameet Doulat ameet.doulat@nextcapital.com.pk Key risks Key risks to our estimates include: (1) lower than expected inflation to make way for further monetary easing; (2) lower than expected fee income growth from delay in CPEC projects; and (3) higher than expected capital gains.

2 Key Charts Figure 1 Change in profit and loss items for all banks (2018E vs. 2015A) Change through E HBL UBL MCB ABL BAFL BAHL HMB Change CAGR Change CAGR Change CAGR Change CAGR Change CAGR Change CAGR Change CAGR Net interest income 14, % 8, % (4,139) -2.9% 1, % 2, % 4, % 2, % Non-interest income 3, % 7, % 4, % 3, % 2, % 2, % (2,616) -10.6% Fee income 13, % 6, % 4, % 1, % 2, % 1, % 1, % Capital gains (9,060) -43.5% (738) -8.3% (2,428) -23.3% 1, % (836) -18.3% % (4,279) -52.9% Admin exp 18, % 9, % 5, % 5, % 6, % 6, % 2, % PPOP (703) -0.4% 6, % (5,748) -4.6% % (1,609) -3.6% % (3,171) -7.5% Prov against NPLs (3,087) -28.6% (1,152) -14.6% % 1, % (263) -4.3% (1,047) -25.9% (231) -3.8% PBT 3, % 8, % (6,068) -5.0% % (1,538) -4.2% 1, % (2,890) -8.4% PAT 6, % 7, % (1,279) -1.7% 1, % (330) -1.5% 1, % (1,384) -6.4% Figure 2 UBL, BAHL and HBL are our tip picks with strong EPS CAGR through E EPS F 2017F 2018F 3yr CAGR HBL % 225 UBL % 220 MCB % 209 ABL % 101 BAFL % 27 BAHL % 63 HMB % 39 Figure 4 E/Y spread over 10 year govt. bond yield is near all-time highs for all banks (in percentile) TP Figure 3 BAFL, MCB and ABL are expected to face the greatest drag from PIB repricing Cumulative impact CY16 PKR mn /sh EPS % HBL 4, % UBL 3, % MCB 8, % ABL 6, % BAFL 4, % BAHL 2, % HMB 1, % Figure 5 Next Banking universe s spread over 10yr bond yield at 5.5% is at a post 2009 high % % 94.7% 89.3% 95.1% 94.9% 98.5% 97.6% 10 HBL UBL MCB ABL BAFL BAHL HMB 15.00% 10.00% 5.00% 0.00% -5.00% % Sep-07 Mar-08 Sep-08 Mar-09 Sep-09 Mar-10 Sep-10 Mar-11 Sep-11 Mar-12 Sep-12 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Sep-15 Mar-16 Source: Bloomberg, Next Research Figure 6 Pak banks currently trade at 36% discount to KSE-100, near its 10 year high -5.0% % % % -4 Oct-07 Apr % Oct-08 Apr-09 Oct-09 Apr-10 In Mar-09, in the midst of an economic and financial meltown, banking sector disocunt to KSE- 100 PER increased to 31% Oct-10 Apr-11 Oct-11 Apr-12 Oct-12 Apr-13 Oct-13 Apr-14 During Jan-12, the discount hit a low of 36%, a period similar to the current scenario (monetary easing followed by low growth), but quickly recovered, with the avg. discount over the 2 yr cycle of 22% Oct-14 Apr-15 Oct-15 2 Apr-16 Current discount is at an excessive 36%, and is a clear call to increase exposure in the sector

3 UBL, BAHL & HBL offer the strongest earnings momentum Whilst earnings growth for the sector is likely to remain muted in the next few years, UBL, HBL and BAHL offer relatively better earnings momentum than peers. Our detailed analysis of E highlights that whilst PIB repricing will be a drag on earnings for the sector, growth in CASA deposits and fee income do compensate in some cases. This is despite tapering down our loan growth assumptions, in light of the regulatory bottle-necks being faced in local financing of large infrastructure projects (CY18 ADR average:42.7%). Our analysis highlights that earnings momentum for UBL, BAHL & HBL is significantly stronger than peers, with 3yrs earnings CAGR of 8.5%/7.8%/5.7%, respectively. UBL and BAHL stand out for their relatively well positioned PIB books, whilst all three banks are expected to outperform in terms of CASA deposit growth, in-line with their recent track record and strong deposit franchises. Meanwhile, HBL and UBL are also expected to perform strongly in terms of fee income growth. Our NPL assumptions are also conservative; for both UBL and HBL, we have taken significant provisioning from their Middle East loan portfolios (fresh overseas NPL formation of PKR 8bn for UBL and PKR 6bn for HBL over the next three years). For MCB and ABL, we expect relatively flat earnings over the next three years, owing to higher PIB re-pricing drag and muted CASA deposit growth. BAFL and HMB also have a stable earnings profile, where CASA and fee income growth is strong, but heavy re-pricing and normalization of capital gains weigh down earnings. Sector-wide key assumptions- (1) PIB re-pricing at roll over rate of K+1%, (2) M2 growth of 10%, (3) 50bp hike in policy rate in CY17E & another 50bp hike in CY18E Figure 7 Key assumptions 2016F 2017F 2018F Inflation 4.0% 5.5% 6.0% M KIBOR 6.5% 7.0% 7.5% PIB roll over 7.5% 8.0% 8.5% Figure 8 Earnings attribution in the next 3 years ( ) PKR mn HBL UBL MCB ABL BAHL BAFL HMB Repricing (3,369) (8,119) (7,264) (6,617) (3,048) (7,692) (2,514) Investments 949 (3,669) (4,694) (3,754) (948) (4,985) (294) Advances 5,968 5,431 4,270 2,861 3,195 3,526 1,833 Deposit mix (10,106) (5,837) (5,469) (5,722) (4,403) (4,497) (3,655) Others (180) (4,044) (1,371) (1) (892) (1,735) (398) Volume 20,033 16,240 7,279 6,401 7,303 6,534 3,780 M2 and market share 18,619 11,036 7,279 6,012 6,629 6,201 3,335 Deposit mix 1,414 5, Others (2,613) 249 (4,154) 2, ,735 1,025 Total 14,051 8,369 (4,139) 1,891 4,551 2,577 2,291 Non-interest income 3,509 7,906 4,422 3,476 2,647 2,709 (2,596) Fee income 13,859 6,455 4,425 1,425 1,215 2,834 1,312 Cap gains (9,372) (780) (2,538) 1, (932) (4,426) Others (978) 2,231 2, Operating costs (18,357) (9,435) (6,042) (5,133) (6,549) (6,891) (2,890) PPOP (797) 6,840 (5,759) (1,605) (3,195) Provisions 4,250 1,555 (309) 376 1, PBT 3,454 8,395 (6,068) 610 1,951 (1,538) (2,890) Figure 9 Change in Profit and loss items for all banks (2015A vs.-18e). Change through E HBL UBL MCB ABL BAFL BAHL HMB Change CAGR Change CAGR Change CAGR Change CAGR Change CAGR Change CAGR Change CAGR Net interest income 14, % 8, % (4,139) -2.9% 1, % 2, % 4, % 2, % Non-interest income 3, % 7, % 4, % 3, % 2, % 2, % (2,616) -10.6% Fee income 13, % 6, % 4, % 1, % 2, % 1, % 1, % Capital gains (9,060) -43.5% (738) -8.3% (2,428) -23.3% 1, % (836) -18.3% % (4,279) -52.9% Admin exp 18, % 9, % 5, % 5, % 6, % 6, % 2, % PPOP (703) -0.4% 6, % (5,748) -4.6% % (1,609) -3.6% % (3,171) -7.5% Prov against NPLs (3,087) -28.6% (1,152) -14.6% % 1, % (263) -4.3% (1,047) -25.9% (231) -3.8% PBT 3, % 8, % (6,068) -5.0% % (1,538) -4.2% 1, % (2,890) -8.4% PAT 6, % 7, % (1,279) -1.7% 1, % (330) -1.5% 1, % (1,384) -6.4% 3

4 UBL s impressive ROA not reflected in its valuations The well positioned PIB portfolios of UBL and BAHL are evident from the significantly lower NIM compression (450bp vs. universe average of 850bp). Limited NIM compression is also contributing to UBL s best in class ROA in Figure 10 UBL, BAHL & HBL offer best earnings momentum EPS F 2017F 2018F 3yr CAGR HBL % UBL % MCB % ABL % BAFL % BAHL % HMB %, Company Accounts Figure 11 Sector wide decline in NIMs due to PIB roll-over NIMs HBL 4.9% 4.5% 3.9% 4.1% UBL 5.2% 4.8% 4.6% 4.8% MCB 5.8% 4.6% 4.3% 4.1% ABL 4.9% 4.4% 4.1% 3.9% BAFL 4.4% 4.0% 3.5% 3.4% BAHL 4.7% 4.4% 4.2% 4.2% HMB 3.7% 2.9% 2.9% 2.9%, Company Accounts Figure 12 UBL and BAHL leading the field in terms of ROE ROE HBL 20.1% 18.2% 16.9% 18.6% UBL 19.2% 19.7% 17.1% 18.7% MCB 19.1% 16.5% 15.6% 15.1% ABL 17.8% 19.2% 17.5% 16.3% BAFL 15.3% 14.4% 12.6% 11.9% BAHL 21.0% 21.6% 20.2% 20.3% HMB 21.4% 16.0% 15.5% 15.0%, Company Accounts Figure 13 whilst UBL s ROA expected to beat MCB s by 2018 ROA HBL 1.7% 1.5% 1.4% 1.5% UBL 2.0% 1.9% 1.8% 2.0% MCB 2.6% 2.2% 2.0% 1.9% ABL 1.6% 1.7% 1.5% 1.4% BAFL 0.9% 0.8% 0.7% 0.7% BAHL 1.2% 1.2% 1.1% 1.1% HMB 1.7% 1.2% 1.1% 1.0%, Company Accounts 4

5 Figure 14 Ratings and TP s Rating TP Upside % UBL Buy % BAHL Buy % HBL Buy MCB Buy % ABL Buy % HMB Buy % BAFL Neutral % Pak bank valuations too cheap to ignore- UBL, HBL, and BAHL our top picks As banking sector s target prices highlight a significant upside, particularly in the case of UBL and BAHL, offer TP upside of 42% each. By other metrics as well, we find the Pak banking sector valuations to be at their cheapest levels since the 2008 crash. The difference between the average earnings yield of the Next Banking Universe (13.6%) and the 10-year Pak govt. bond yield (8.1%) is at its highest level since The current spread is 5.5%, against 10 years avg. spread of 0.6%. The last time this spread was higher was in the depth of Pakistan s economic and financial crisis in The Fed model asserts that, in equilibrium, the yield on long-term Treasury securities should be equal to the earnings yield in the long-run. History does not repeat itself, but it does rhyme If history is a guide, times when this spread has become unusually high has been a great time of being long in the banking sector. For example, in Jan-09, when the spread was 12.4%, the subsequent two years return of the Next Universe banks was a staggering 192%. And when valuations opened up again in CY11 and the spread between earnings yield and the ten years bond reached near current levels, the two years return was 120%. In our opinion, current valuations also offer a very high conviction buying opportunity, and investors should be considering being over-weight on the sector, rather than the current under-weight stance. Figure 15 E/Y-10 yr bond yield spread history for Next universe banks E/Y-PKRV spread history Max Min Average Current HBL 1QCY09 3QCY08 0.1% 5.6% UBL 1QCY09 2QCY08 0.5% 5.8% MCB 1QCY09 3QCY14-1.9% 3.1% ABL 1QCY09 4QCY08 1.5% 6.1% BAHL 1QCY09 3QCY09 1.2% 9.5% BAFL 2QCY13 2QCY08-0.3% 10.5% HMB Current 4QCY10 2.3% 16.4% Universe 1QCY09 2QCY % 5.5% Figure 16 and current levels are close to the lows witnessed in 1QCY09 (in percentile) % % 94.7% 89.3% 95.1% 94.9% 98.5% 97.6% 10 HBL UBL MCB ABL BAFL BAHL HMB Figure 17 Next banks universe earnings yield vs. 10 year PIB yield Figure 18 shows that the spread of Next banks universe stands at 5.5%, highest since % 25.00% PKRF Universe E/Y 15.00% 20.00% 10.00% 15.00% 10.00% 5.00% 5.00% 0.00% 0.00% Sep-07 Apr-08 Nov-08 Jun-09 Jan-10 Aug-10 Mar-11 Oct-11 May-12 Dec-12 Jul-13 Feb-14 Sep-14 Apr-15 Nov % Sep-07 Apr-08 Nov-08 Jun-09 Jan-10 Aug-10 Mar-11 Oct-11 May-12 Dec-12 Jul-13 Feb-14 Sep-14 Apr-15 Nov % 5

6 Pak banks: Multiples below 5yrs average with a decent dividend yield As shown in the tables below, the underperformance in the last 12 months has really opened up valuations in the banking sector with our universe trading at a discount to its 5yrs average both in terms of its PER and PB. Moreover, this underperformance has also made the dividend yields of these scrips attractive. Figure 19 Dividend trajectory expected to be positive for most banks DPS HBL UBL MCB ABL BAFL BAHL HMB Figure 20 which in the current price scenario makes up a strong dividend yield sector D/Y HBL 8.0% 8.3% 8.6% 10.3% UBL 8.6% 8.9% 8.9% 11.6% MCB 7.8% 7.8% 7.8% 7.8% ABL 8.0% 9.1% 8.5% 8.5% BAFL 3.9% 5.9% 6.9% 7.8% BAHL 8.3% 9.5% 9.5% 10.7% HMB 13.4% 10.9% 13.4% 15.1% Figure 21 Pak banks trading at significant discount to historical PERs PE Current 1yr avg 2yr avg 5yr avg HBL UBL MCB ABL BAFL BAHL HMB Figure 22 and PB paint a similar picture reflecting attractiveness of Pak banks PB Current 1 Yr Avg 2 Yr Avg 5 Yr Avg HBL MCB UBL ABL BAFL BAHL HMB Banking sector discount to KSE-100 has widened to 35%, near its 10 year high Meanwhile, the PER discount of the Next Universe banking sector has widened to 35%, against a 10 years avg. of 19%. In the last ten years, this discount was only wider for a brief period of 2 months in CY11. Infact, that period was similar to the current one in many ways; the two years period from Oct-11 to Oct -13 initially saw SBP policy rate decline by bps, and then stay relatively constant for another year. As a result, earnings growth for banks was muted, where Next Universe banks average two years earnings CAGR was a mere 8%. In that period, the KSE- 100 reached a maximum of 43%, but recovered quickly, to average 21% over the period. The current discount of 36% is excessive, even if the low growth over the next few years is priced in, a 20%-25% re-rating is warranted. Figure 23 Pak banks trade at 36% discount to KSE-100 PER, the second highest in the last ten years 2 1 Current discount is at an excessive 36%, and is a clear call to increase exposure in the sector -1 Oct-07 Apr-08 Oct-08 Apr-09 Oct-09 Apr-10 Oct-10 Apr-11 Oct-11 Apr-12 Oct-12 Apr-13 Oct-13 Apr-14 Oct-14 Apr-15 Oct-15 Apr In Mar-09, in the midst of an economic and financial meltown, banking sector disocunt to KSE-100 PER increased to 31% During Jan-12, the discount hit a low of 36%, a period similar to the current scenario (monetary easing followed by low growth), but quickly recovered, with the avg. discount over the 2 yr cycle of 22% 6

7 Banks even cheaper than traditionally low growth sectors such as fertilizer and power In terms of valuations, banks now offer even higher earnings yields than the fertilizers and power sectors, which are viewed as low growth sectors. Important to highlight is that the banks dividend yields, with many offering from 9%- 10%, are on the basis of payout ratios of 60-65%, unlike fertilizers and power, where payout ratios are much higher. Those investors that are shunning exposure in the sector on the basis of limited growth potential, are under-weighing the fact that valuations have more than accounted for that already. Time to move from under-weight to over-weight Under-ownership in the sector a big risk at these levels A host of reasons have kept sentiments in the banking sector sour. Starting with monetary easing from Nov-2014, moving onto adverse tax measures in the FY16 budget, PIB roll-over risk, and regulatory bottle-necks in terms of the seemingly robust private sector credit pipeline, there has been one set-back after the other to hurt sentiment. However, in our opinion, valuations have now reached a point of maximum pessimism in the sector. Data from the top 10 mutual funds sector allocation highlights that the mutual fund industry remains significantly underweight on the sector, with an avg. allocation of 9.4%, versus the KSE-100 weightage of 22.7%. Commercial banks also have an average allocation of 11.70%. A 10% allocation increase to the sector by commercial banks and mutual funds would entail a PKR 20bn inflow. Figure 24 6m underperformance has opened up valuations 4.00% 2.00% 0.00% -2.00% -4.00% -6.00% -8.00% % % %, PSX HBL UBL MCB ABL BAFL BAHL HMB Figure 25 Banks & mutual funds under-weight the sector Banks % 11.70% Mutual funds % 9.4% Index % 22.7% 1 2 3, FMR s, Company Accounts MSCI EM upgrade could be a huge re-rating trigger; sector simulated weight of 40% With the decision on Pakistan s upgrade to MSCI EM later this year, we would highlight that the banking sector has a 40% weightage in the simulated MSCI EM Pakistan Index. If the upgrade happens, this would lead to significant inflows to the sector, and a massive re-rating. 7

8 PIBs re-pricing: UBL and BAHL best positioned to weather the storm One of the major risks investors perceive to banking sector earnings is from the re-pricing of PIBs, which begins enmasse from July For Next Universe banks, we estimate a PKR 581bn maturity in July 2016, PKR 304bn in July 2017 and PKR 529bn in July Bank-wise retiring amounts and % of total PIB portfolio are shown in the Figure below. Figure 26 Bank wise PIB maturity estimates through Jun-16 Jun-17 Jun-18 Retiring amount (PKR mn) % of CY15 PIBs Retiring amount (PKR mn) % of CY15 PIBs Retiring amount (PKR mn) % of CY15 PIBs HBL 97, % 34, % 135, % UBL 80, % 58, % 130,160 3 MCB 107, % 45, % 68, % ABL 118, % 59, % 65, % BAFL 52, % 56, % 64, % BAHL 33, % 47, % 19, % HMB 91, % 1, % 45, %, Company Accounts UBL and BAHL better positioned; BAFL, MCB and ABL will face bigger impact UBL, BAHL, and HBL are amongst the least impacted by the PIBs re-pricing, with the negative earnings impact of cumulative PIB re-pricing from maturities in E accounting for 9.3%/9.2%/20.3% of HBL s, UBL s and BAHL s CY16 earnings. UBL and BAHL are relatively protected due to their longer dated PIBs portfolios, whilst for HBL, the fact that PIBs as a % of deposits are lower is a major factor. In contrast, re-pricing is expected to be a major drag on BAFL s earnings, with cumulative re-pricing over the next three years to account for 41.0% of CY16 EPS. MCB and ABL also face significant drags, with re-pricing impact accounting for 24.7% and 23.0% of CY16 earnings. We have assumed roll-over at K+1% to calculate the impact of the PIBs re-pricing. That is on the basis of an assumed 50% T-bill/50% PIBs roll-over composition, which we feel is appropriate given that interest rates have bottomed out, and banks may be reluctant to roll-over completely into PIBs. Figure 27 BAFL, MCB and ABL expected to have the greatest impact from PIB roll-over, UBL and HBL relatively shielded Decline in net interest income pertaining to PIB roll-over (annualized) Jun-16 Jun-17 Jun-18 Cumulative CY16 % of EPS PKR mn PKR/sh PKR mn PKR/sh PKR mn PKR/sh PKR mn PKR/sh EPS HBL 3, , (639) (0.28) 4, % UBL 3, , (1,102) (0.59) 3, % MCB 5, , , , % ABL 3, , , % BAFL 3, , % BAHL 1, , % HMB 1, (704) (0.44) 1, %, Company Accounts 8

9 Tapering down of credit growth on regulatory bottle-necks With our channel checks indicating that regulatory concerns have impacted credit disbursement in some large private sector power and infrastructure projects (largely owing to currency concerns, as local financing often entails a US$ outflow), we have revised down our private sector credit assumptions to a 3yr CAGR of 10% from 15% previously. That is not to say that the whole pipeline of credit off-take is under threat, key govt. projects and some private sector projects will remain locally financed, and consumer financing growth is also expected to continue. However, our earlier expectation of ~US$20-25bn credit pipeline during E, has been tapered down to some extent. As a result, advance to deposit ratios (ADR) are now expected to remain flat, versus our previous expectation of an increase. Figure 28 Advances CAGR assumption tapered ( E) Figure 29 thus, ADRs to remain close to current levels 2 Old New % % 2 1 HBL UBL MCB ABL BAFL BAHL HMBL HBL UBL MCB ABL BAFL BAHL HMBL CASA growth more challenging with recent tax measures Since the imposition of withholding tax in the June 2015 budget, banks have been facing pressure on the deposit front. Overall sector deposits have grown by a mere 4.5% since June 2015, amid limited growth in advances. We believe strong CASA growth is instrumental for profitability growth in the years ahead. We have factored in a base case assumption of money supply (M2) of 10% through E on the back of reduced inflation forecasts. For our banking universe, HBL, UBL, BAHL and HMB have been able to post strong CASA growth in CY15, whereas MCB and ABL s deposit growth have been anemic. We expect this trend to continue, with HBL/UBL/BAHL expected to clock in 3yrs CASA growth of 12.2%/11.7%/14.7%. It is important to highlight that competition on the deposit front is escalating, and marketing promotions/discounts have not started to be offered on debit cards as well. In being aggressive on this front, HBL and UBL are leading the way, whereas MCB and ABL are clearly lagging. Figure 30 CY15 CASA growth Figure 31 CASA CAGR (CY16E-CY18E) BAHL 17.5% BAHL 14.7% HBL 14.3% HBL 12.2% HMB UBL BAFL M2 ABL MCB 4.3% 13.5% 9.8% 11.5% 10.8% 20.8% HMB UBL BAFL M2 ABL MCB 12.0% 11.7% 10.3% 10% 9.2% 8.8% 9

10 Fee income becoming an integral part of profitability The phenomenal rise in fee commission income during 2015 caught the eye, with most banks clocking in double digit growth. Given the uptick in economic growth, increasing investment banking deals, and more consumer finance, fee income growth is expected to remain robust in the years ahead. Here, HBL s collaboration with Industrial and Commercial Bank of China Limited (ICBC) will continue to give it an edge, whilst stand out among peers resulting in 3yrs fee income CAGR of 21.6%, the highest in our banking space. BAFL is expected to be the second best performer in fee income with its focus on consumer financing boosting fee income as well. Figure 32 HBL & BAFL lead the way in fee income CAGR (3yr) Figure 33 Fee income as a % of PBT expected to rise 25.0% 21.6% E avg % 17.5% 15.0% 15.0% 15.0% 13.3% 11.7% % 1 HBL BAFL UBL MCB BAHL HMB ABL HBL UBL MCB ABL BAHL BAFL HMB Overseas NPL creation for HBL and UBL already factored in One of the key reasons behind the underperformance of UBL and HBL has been concerns over the banks international exposure. In our estimates, we have factored in a PKR 8bn/PKR 6bn fresh NPL formation for UBL and HBL, respectively. This makes up approximately 8% of total middle-east exposure for UBL and HBL, respectively. Recall, that HBL booked bad debt provision of PKR 4.6bn pertaining to its overseas portfolio in 4QCY15 already. Thus, we believe that our estimates have factored in the major risk pertaining to overseas NPL creation. Figure 34 We have assumed fresh overseas NPL formation of PKR 8bn for UBL Figure 35 and PKR 6bn for HBL as well 6,000 4,000 2,000 - (2,000) CY14 CY15 CY16F CY17F CY18F (4,000) (6,000) (8,000) (10,000) Domestic Overseas, Company Accounts 6,000 Overseas Domestic 4,000 2, F 2017F 2018F (2,000) (4,000) (6,000), Company Accounts 10

11 Capital gains: an upside risk to estimates Overall, we have made conservative assumptions for capital gains, assuming that banks will only realize a small proportion of their overall gains on PIBs and equities. It is also important to remember that PIBs capital gains will reduce as the bonds nearing its maturity. However, we do wish to highlight that this could be the single biggest reason for deviation from our earnings estimates; some banks (in particular ABL), amidst pressure on profitability, do have large capital gain cushions to increase earnings. Figure 36 Revaluation surplus remains an upside risk to our estimates; ABL, UBL and MCB in a favorable position Equity & Mutual Funds PIBs + T-bills Revaluation surplus Total PKR mn PKR/sh PKR mn PKR/sh PKR mn PKR/sh Assumed cap gains through E (PKR mn) Net reval /sh Total PIBs (PKR mn) HTM (%) AFS (%) HBL , , , ,058 27% 70% UBL 3, , , , ,914 43% 57% MCB , , , ,042 0% 100% ABL 9, , , , ,407 58% 42% BAHL , , , ,097 68% 32% BAFL , , , ,558 29% 70% HMB , , , ,049 11% 89% Source: Company Accounts, Next Research 11

12 Valuation snapshot UBL BUY 2015A 2016E 2017E EPS P/E (x) DPS Div yield (%) 8.4% 8.7% 8.7% United Bank: The stand-out pick of the sector United Bank Limited (UBL) is our top pick in the Next banking universe, where its Dec-16 TP of PKR 220/sh depicts a 42% upside, and CY16E dividend yield of 8.7% is also amongst the highest in our banking universe. UBL offers the best earnings momentum in our banking universe, with 3 years earnings CAGR of 8.5%. This is owing to limited PIBs re-pricing and strong CASA growth. While middle-east operations have been creating a price overhang in the scrip, we have factored in PKR 8bn of fresh overseas NPL formation (8% of UAE +Yemen exposure as of Dec-15) in our earnings estimates, thus we believe that this risk has been heavily overplayed by the market. Valuation wise, UBL offers the most scope for re-rating, its current P/B of 1.3x is not in sync with its superior ROA profile; where by CY18E, and we expect UBL to offer the highest ROA (2%) in our banking universe. UBL offers the strongest earnings momentum is the Next banking universe We expect UBL to achieve a 3 years earnings CAGR of 8.5%, the highest in our banking universe. One key factor here is the limited PIBs re-pricing drag; as per our estimates, UBL has PKR 80bn (18.6% of its total expected maturity) PIBs maturing in Jul-16, one of the lowest in the sector making it less exposed to reinvestment risk. Assuming a roll over rate of K+1%, UBL is expected to witness an annualized impact of PKR 2.0/sh, i.e. 9.5% of 2015E earnings vs industry average of 20% from the cumulative impact of re-pricing in the next three years. A strong deposit franchise is also helping achieve healthy CASA deposit growth in an overall challenging environment; we expect the bank to achieve an 11.7% CASA CAGR in the next 3 years. Fee income, a traditional stronghold of the bank, is estimated to grow at a 3 years CAGR of 15%, led by a revival in consumer financing. On the NPL side, we have been fairly conservative; having assumed PKR 8bn of fresh overseas NPLs, 8% of total net loans of UAE and Yemen. Valuations not reflecting strong operational performance Valuation-wise, UBL remains the most under-valued bank in the Next Banking Universe. UBL s ROA profile is amongst the best in the industry, a fact which is not reflected in its multiples. With a P/B of 1.3x, Cy16 PER of 6.8x and a strong dividend yield of 8.7%, UBL offers a 42% upside to our Dec-16 TP of PKR 220/sh. It is also the best candidate for re-rating from a potential upgrade to MSCI EM. Figure 37 UBL tops the charts in terms of 3 yr earnings CAGR 1 8.5% 7.8% 8.0% 5.7% 6.0% 4.0% 3.3% 2.0% -2.0% UBL BAHL HBL ABL BAFL MCB HMB -1.5% -1.7% -4.0% -6.0% -8.0% -6.4% Figure 38 being most shielded from PIB roll-over 60% 40% 20% 0% Jul-16 maturity as a % of total Annualized impact of PIB repricing HBL UBL MCB ABL BAFL BAHL HMB Figure 39 Fee income to grow at a 3yr CAGR of 15% (PKR mn) 20,000 18,000 16,000 14,000 12,000 10,000 8,000 6,000 4,000 2, E 2017E 2018E Figure 40 Fresh NPL formation of PKR8bn assumed from ME 5,000 2,500 - CY14 CY15 CY16F CY17F CY18F (2,500) (5,000) (7,500) (10,000) Domestic Overseas 12

13 Financial summary BALANCE SHEET (PKR MN) Balance Sheet Deposits 895,083 1,051,235 1,150,400 1,266,186 1,390,953 Current 316, , , , ,240 Saving 327, , , , ,688 Fixed 224, , , , ,584 Advances 434, , , , ,342 NPLs 53,853 46,721 51,033 55,346 57,158 Investments 497, , , , ,494 Shareholders equity 125, , , , ,243 PROFIT AND LOSS STATEMENT (PKR Mn) P&L Net interest income 44,966 55,842 57,968 57,491 64,211 Non-interest income 19,297 21,987 23,373 26,002 29,738 Fee commission income 11,154 12,203 14,034 16,139 18,560 Capital gains 1,806 3,238 2,000 2,000 2,500 Admin exp 29,030 30,896 33,368 36,538 40,192 Prov against NPLs 381 3,060 3,838 4,115 1,908 Prov against investments PPOP 35,233 46,933 47,974 46,955 53,757 PBT 33,399 42,175 42,909 41,547 50,570 PAT 21,930 25,727 27,891 27,006 32,870 RATIOS EPS BVPS P/B P/E ROE 19.4% 19.2% 19.2% 17.7% 20.1% ROA 2.1% 2.0% 1.9% 1.8% 2.0% Asset/Equity NIMS 4.9% 5.2% 4.8% 4.6% 4.8% Cost of funds 4.2% 3.6% 3.0% 3.3% 3.3% Interest yield 9.1% 8.8% 7.8% 7.9% 8.1% NPL to gross loans 11.2% 9.4% 9.4% 9.2% 8.6% NPL coverage 84.9% 89.0% 89.0% 89.5% 9 Advance to Deposit 53.6% 47.2% 47.3% 47.5% 47.6% Investment to deposit 53.8% 65.7% 64.7% 63.2% 61.2% Operating cost to deposit 3.2% 2.9% 2.9% 2.9% 2.9% Deposit growth 8.1% 17.4% 9.4% 10.1% 9.9% 13

14 Valuation snapshot BAHL BUY 2015A 2016E 2017E EPS P/E (x) DPS Div yield (%) 8.3% 9.5% 9.5% Bank Al-Habib: Quality franchise at a marked down value Bank Al Habib Ltd (BAHL) is another top pick, where it s Dec-16 target price of PKR 60/sh offers a 42% upside from current levels. Its earnings momentum is also one of the strongest in the Next banking universe, with 3 years earnings CAGR of 7.8%. BAHL s aggressive branch expansion, coupled with strong customer service, is helping it to achieve significant gains in CASA deposit market share. It is also one of the banks less impacted by PIBs re-pricing, given its longer maturity PIBs book. Earnings quality is also very high, given very minimal quantum of realized capital gains. The bank currently offers an earnings yield of 17.6% vs. the 10 years bond rate of 8.10%, the spread of 9.5% is near the highest level in its history. It also offers a best in class dividend yield of 9.5%. Limited PIB re-pricing and strong CASA growth aid earnings momentum BAHL is relatively shielded from PIBs re-pricing drag, with our estimates suggesting PKR 34bn of PIBs maturity in CY16, an after tax annualized impact of 12.2% of CY16 earnings, vs. our universe average of 15%. Overall, in the 3 years ( ), BAHL s PIBs re-pricing hit is estimated to be 20% of its CY16 EPS, in line with Next banking universe avg. of 23%. BAHL s aggressive branch expansion, coupled with its famed customer service, has also helped to steadily increase its deposit market growth, and we expect this to continue. BAHL achieved a phenomenal CASA growth of 17.4% YoY in CY15, versus an industry average of 13.4%. Going forward, we have assumed a 3 years CASA deposits CAGR of 14.7%, the highest in our banking universe. Moreover, BAHL s conservative lending strategy is likely to result minimal NPL accretion. Earnings quality is also very high, given that it assumed a very minimal quantum of realized capital gains. Valuations BAHL earnings yield of 17.6% offers more than 950bps spread over Pak govt. 10 years bond yield; this spread it at its highest level in the last 10 years. The previous high was 8.3% in 1QCY09, in the depths of Pakistan s economic and financial crisis, after which the bank posted a 3yrs return of 70%. Our TP of PKR 60/share also indicates an upside of 42%, whilst the stock offers one of the sectors highest dividend yields of 9.5%. Figure 41 BAHL s 3 yr earnings CAGR better than most peers 1 8.5% 7.8% 8.0% 5.7% 6.0% 3.3% 4.0% 2.0% -2.0% UBL BAHL HBL ABL BAFL MCB HMB -1.5% -1.7% -4.0% -6.0% -8.0% -6.4% Figure 42 Lower re-pricing risk from long dated PIB portfolio 60% 40% 20% 0%, Company Accounts Jul-16 maturity as a % of total Annualized impact of PIB repricing HBL UBL MCB ABL BAFL BAHL HMB Figure 43 Leading 3 yr CASA growth estimates Figure 44 E/Y spread over 10 year govt bond highest in last 10 years BAHL HBL HMB UBL BAFL M2 ABL 14.7% 12.2% 12.0% 11.7% 10.3% 10% 9.2% 1 8.0% 6.0% 4.0% 2.0% -2.0% -4.0% 1QCY08 3QCY08 1QCY09 3QCY09 1QCY10 3QCY10 1QCY11 3QCY11 1QCY12 3QCY12 1QCY13 3QCY13 1QCY14 3QCY14 1QCY15 3QCY15 1QCY16 14

15 Financial summary BALANCE SHEET (PKR MN) Balance Sheet Deposits 446, , , , ,812 Current 146, , , , ,260 Saving 130, , , , ,602 Fixed 104, , , , ,778 Advances 181, , , , ,506 NPLs 5,025 5,874 6,374 6,874 7,374 Investments 331, , , , ,993 Shareholders equity 32,628 37,857 39,793 43,409 48,114 PROFIT AND LOSS STATEMENT (PKR Mn) P&L Net interest income 19,064 24,817 25,337 26,696 29,368 Non-interest income 3,808 4,511 5,316 6,158 7,077 Fee commission income 1,951 2,287 2,630 3,024 3,478 Capital gains ,000 Admin exp 12,190 14,695 16,899 18,843 21,104 Prov against NPLs 553 1, Prov against investments (191) 1 2 PPOP 10,682 14,633 13,754 14,011 15,341 PBT 9,917 12,332 12,888 12,953 14,283 PAT 6,349 7,405 8,377 8,419 9,284 RATIOS EPS BVPS P/B P/E ROE 21.9% 21.0% 21.6% 20.2% 20.3% ROA 1.22% 1.22% 1.24% 1.12% 1.11% Asset/Equity NIMS (A) 4.2% 4.7% 4.4% 4.2% 4.2% Cost of funds 5.2% 4.6% 3.6% 3.9% 4.1% Interest yield 9.5% 9.3% 7.9% 8.0% 8.3% NPL to gross loans 2.7% 2.7% 2.6% 2.5% 2.4% NPL coverage 131.7% 143.2% 143.2% 143.2% 143.2% Advance to Deposit 42.1% 41.5% 41.6% 41.6% 41.6% Investment to deposit 73.5% 67.7% 67.7% 67.2% 66.7% Deposit growth 15.6% 15.6% 13.0% 12.9% 12.8% 15

16 Valuation snapshot HBL BUY 2015A 2016E 2017E EPS P/E (x) DPS Div yield (%) 8.1% 8.1% 8.7% Habib Bank Limited: Leading from the front Habib Bank Limited (HBL) is also one of our favored picks in the Next banking universe; it offers a 30% upside to our TP of PKR yrs earnings CAGR of 5.7%, is modest, yet it is higher than most peers. Strong CASA growth and unique affiliation with ICBC help maintain earnings momentum, although we have assumed significant decline in capital gains from CY15 s elevated levels. The scrip s underperformance (down 12.4% in the last 6 months), have partially stemmed from concerns over its New York branch s anti-money laundering investigation; once the issue clears up, we expect strong price performance. Strong deposit franchise and unique affiliation with ICBC Direct PIB re-pricing impact on HBL is limited; we estimate that 23% of total PIBs are maturing in Jul-16 vs. an industry average of 30%. Assuming rollover rate of 100bps above KIBOR, the maturity is expected to have only 9% annualized impact for the HBL s CY16 profitability, vs. industry average of 15%. However, HBL s overall PIBs position as a % of deposits is significantly lower than peers, which leaves it more exposed to NIMs decline. However, we estimate net interest income to grow at a 3 years CAGR of 5.1%, amongst the highest in the industry. This owes mainly to the strong deposit franchise of the bank; its CASA deposit growth of 14.3% in CY15 handsomely outpaced the industry, and going forward, we expect the bank to clock in 3 year CASA deposit CAGR of 11.6%. The bank s strategy of improving its deposit mix, with the % of fixed deposits down 360bps in CY15, will also cushion NIMs decline. On the fee income side, HBL s affiliation with ICBC will allow the bank to continue beating peers in the fee income arena; we expect fee income to grow by a 3 years CAGR of 22%. Similar to UBL, we have assumed a fresh NPL formation of PKR 5bn (8% of total Middle East gross loans) over the next three years, and the bank has already taken a provisioning of PKR 4.8bn in 4QCY15 from its overseas operations. Uncertainty over NY branch operations has opened up valuations The investigation into the Anti-Money Laundering operations of HBL s NY branch has been a major reason for its underperformance in the recent months (the stock has fallen by 12.6% in the last six months). However, this has opened up valuations, and the bank now trades at a forward PER of 7.59, at a P/B of 1.3, and offers a dividend yield of 8.1%. Given its status as the largest lender in the country, and the banks aggressive strategy, it is likely to remain a favorite of foreign investors in the sector, and would be a candidate for significant re-rating in case of upgrade to MSCI EM. Figure 45 Leading the CASA CAGR ( ) in the Big-5 Figure 46 ICBC affiliation to aid fee income CAGR ( ) HBL UBL 12.2% 11.7% 25.0% % 21.6% 17.5% 15.0% 15.0% 15.0% 13.3% 11.7% ABL 9.2% 1 MCB 8.8% 5.0% HBL BAFL UBL MCB BAHL HMB ABL Figure 47 Fresh NPL formation of PKR8.5bn assumed through E 6,000 4,000 2,000 - (2,000) (4,000) (6,000) Overseas Domestic F 2017F 2018F Figure 48 Steep underperformance has opened up valuations 4.00% 2.00% 0.00% -2.00% -4.00% -6.00% -8.00% % % % HBL UBL MCB ABL BAFL BAHL HMB 16

17 Financial summary BALANCE SHEET (PKR MN) Balance Sheet Deposits 1,524,538 1,634,944 1,818,910 2,012,060 2,225,651 Current 496, , , , ,014 Saving 664, , , ,571 1,047,121 Fixed 329, , , , ,991 Advances 595, , , , ,032 NPLs 79,527 76,792 82,249 84,255 85,282 Investments 924,307 1,244,887 1,348,931 1,464,515 1,608,752 Shareholders equity 168, , , , ,008 PROFIT AND LOSS STATEMENT (PKR Mn) P&L Net interest income 69,087 78,169 79,865 82,500 92,220 Non-interest income 23,512 36,584 28,766 33,264 39,916 Fee commission income 12,119 17,089 20,507 24,608 30,761 Capital gains 2,102 11,060 2,000 2,000 2,000 Admin exp 41,307 48,400 53,240 59,363 66,487 Prov against NPLs 1,712 4,854 3,199 2,608 1,767 Prov against investments (116) (382) PPOP 51,292 66,352 55,390 56,401 65,650 PBT 48,413 60,286 51,478 53,672 63,740 PAT 31,717 35,102 33,461 34,887 41,431 RATIOS EPS BVPS P/B P/E ROE 20.5% 20.1% 17.8% 17.5% 19.5% ROA 1.8% 1.7% 1.5% 1.4% 1.5% Asset/Equity NIMS (A) 4.4% 4.9% 4.4% 4.0% 4.1% Cost of funds 4.4% 4.1% 3.4% 3.3% 3.5% Interest yield 8.8% 9.0% 7.8% 7.3% 7.6% NPL to gross loans 12.0% 10.9% 10.5% 10.2% 9.8% NPL coverage 83.2% 90.1% 88.0% 89.0% 9 Advance to Deposit 43.4% 43.0% 43.1% 41.1% 39.1% Investment to deposit 59.5% 78.1% 73.1% 72.1% 71.6% Deposit growth 9% 7% 11% 11% 11% 17

18 Valuation snapshot MCB BUY 2015A 2016E 2017E EPS P/E (x) DPS Div yield (%) 7.9% 7.9% 7.9% MCB Bank: Low multiples but lacking growth We maintain a Buy stance on MCB, with a Dec-16 TP of PKR 234, offering an upside of 15%. Declining deposit market share and significant re-pricing will lead to flattish earnings over the next three years, whilst the bank remains prudent on the lending front. As the bank s approach to lending remains prudent, given their long-term perspective, MCB can remain the preferred option for conservative investors, and as bank is expected to maintain high dividend payouts, given its strong CAR position, it can remain a yield play within the portfolio. Earnings to remain flattish owing to PIB re-pricing and conservative approach to lending We expect MCB s earnings to remain flattish, where we estimate a 3 years earnings CAGR of -1.7%. Net interest income is expected to decline with a 3 year CAGR of -2.9%, where heavy PIBs maturity (PKR 108bn is expected in Jul-16, which accounts 35% of the total PIB portfolio, second highest in our banking universe) and limited CASA growth, where we estimate a 3 year CAGR of 8.8%. However, given the internal growth challenges, management is exploring value accretive acquisitions, and is currently conducting due diligence on NIB Bank. This may allow MCB to improve their earnings momentum, as NIB has a significant quantum of NPLs (PKR 28bn), and given MCB s own track record, it may be able to make meaningful recoveries from there. Modest TP upside on offer; dividend yield likely to remain high MCB s TP of PKR 234 offers a 15% upside from current levels, significantly lower than our top picks. In our opinion, MCB would appeal to more conservative investors, who value the banks prudent approach to lending, and have a long-term investment horizon. MCB s dividend payout ratio is likely to remain high at 70%, given the comfortable CAR position, so the dividend yield on offer is close to 8%. An upgrade to MSCI EM would also be a re-rating catalyst for the bank, as MCB s simulated weight in the Pak MSCI EM is 12%. However, we believe that MCB s premium valuations of yesteryear are unlikely to return, given that its ROA advantage over peers has been considerably reduced. Figure 49 Heavy PIB re-pricing and lack of deposit growth of result in 3 yr earnings CAGR of -1.4% 1 8.0% 6.0% 4.0% 2.0% -2.0% -4.0% -6.0% -8.0% UBL BAHL HBL ABL BAFL MCB HMB Figure 50 Cumulative PIB re-pricing impact ( ) is a significant 25% of CY16 earnings 60% 50% 40% 30% 20% 10% 0% Jul-16 maturity as a % of total Annualized impact of PIB repricing HBL UBL MCB ABL BAFL BAHL HMB Figure 51 MCB deposit market share has been falling Figure 52 and ROA advantage over peers has also reducing 8.40% 8.20% 8.00% 7.80% 7.60% 7.40% 7.20% 7.00% 6.80% % MCB Peer group 3.0% 2.5% 2.0% 1.5% 1.0% 0.5%

19 Financial summary BALANCE SHEET (PKR MN) Particulars CY14A CY15E CY16E CY17E CY18E Balance Sheet Deposits 688, , , , ,507 Current 227, , , , ,550 Saving 386, , , , ,490 Fixed 62,127 48,747 52,917 57,434 62,751 Advances 303, , , , ,708 NPLs 21,908 20,369 20,869 21,369 22,119 Investments 511, , , , ,219 Shareholders equity 130, , , , ,591 PROFIT AND LOSS STATEMENT (PKR Mn) Particulars CY14A CY15E CY16E CY17E CY18E P&L Net interest income 43,512 49,322 42,394 43,728 45,183 Non-interest income 13,435 17,115 17,320 19,255 21,471 Fee commission income 7,225 8,383 9,640 11,086 12,749 Capital gains 2,140 4,428 2,000 2,000 2,000 Admin exp 20,612 22,476 24,050 26,094 28,442 Prov against NPLs (1,094) (288) Prov against investments (355) 831 (759) PPOP 36,335 43,960 35,664 36,890 38,212 PBT 36,728 42,333 34,885 35,163 36,265 PAT 24,323 25,551 23,375 23,556 24,272 RATIOS - STAND ALONE BASIS Particulars CY14A CY15E CY16E CY17E CY18E EPS BVPS P/B P/E ROE 20.2% 19.1% 16.5% 15.6% 15.1% ROA 2.8% 2.62% 2.18% 2.01% 1.91% Asset/Equity NIMS (A) 5.5% 5.8% 4.6% 4.3% 4.1% Cost of funds 4.8% 4.0% 3.3% 3.6% 4.0% Interest yield 10.2% 9.7% 7.8% 8.0% 8.1% NPL to gross loans 6.8% 6.1% 5.8% 5.4% 5.1% NPL coverage 85.6% 90.8% 90.8% 90.8% 90.8% Advance to Deposit 46.8% 47.0% 47.1% 47.3% 47.4% Investment to deposit 71.9% 77.7% 77.0% 78.5% 78.5% Operating cost to deposit 2.99% 3.17% 3.13% 3.13% 3.12% Deposit growth 9% 2.9% 8.6% 8.5% 9.3% 19

20 Valuation snapshot ABL BUY 2015A 2016E 2017E EPS P/E (x) DPS Div yield (%) 7.9% 9.0% 8.4% Allied Bank Limited: Cheap valuations but lacking triggers We have a Buy rating on ABL with a Dec-16 TP of PKR 106/sh, offering an upside of 18% from current levels. Although Allied bank Ltd s (ABL) offers a relatively flattish earnings outlook, with a 3 years earnings CAGR of 4.0%, basement bargain valuation makes it attractive. Earnings growth is muted due to heavy PIBs re-pricing, along with limited CASA and fee income growth. Flattish earnings outlook; capital gains an upside risk to estimates ABL s 3 years NII CAGR of 2.3% is on the low side, given that the bank faces heavy PIBs maturities. As per our estimates, its PIBs maturity for CY16 is PKR 119bn, making up 35% of the bank s total PIBs portfolio. Over the course of the 3 years ( E), cumulative PIB roll-over impact is significant at 23% of CY16 s profitability. Also, 3 years CASA CAGR of 9.2% is on the low side, given the bank s lack of aggression on this front. Importantly, the bank s absence from consumer banking is hurting not only NIMs, but also fee income. Estimated fee income CAGR of 11.7% for the next 3 years is the lowest in our banking universe. However, ABL has a significant surplus on revaluation of PKR 14bn, of which we have assumed only modest capital gains of PKR 5bn. Higher than estimated capital gains is an upside risk to our earnings estimate for the bank. Cheap valuations but lacking triggers Our TP of PKR 106/sh offers an 18% upside from current level. We have incorporated 5% liquidity discount in ABL s valuations, given its 6 month average daily turnover is very low at US$0.05mn. Whilst the bank s valuations are attractive, given a forward PER of 5.8x, and a P/B of 1.1x; however, lack of triggers makes price discovery challenging. The banks payout ratio is also expected to remain lower than peers at 50%. Figure 53 Earnings to grow at a 3 year CAGR of 3.3% 1 8.0% 6.0% 4.0% 2.0% -2.0% UBL BAHL HBL ABL BAFL MCB HMB -4.0% -6.0% -8.0% Figure 54 Significant PIB repricing an earnings dampener 60% 40% 20% 0% Jul-16 maturity as a % of total Annualized impact of PIB repricing HBL UBL MCB ABL BAFL BAHL HMB Figure 55 CASA CAGR (16-18E) on the low end Figure 56 Net reval surplus as a % of CY16 earnings highest for ABL BAHL HBL 12.2% 14.7% 70% 60% 63% HMB UBL BAFL M2 ABL 12.0% 11.7% 10.3% 10% 9.2% 50% 40% 30% 20% 10% 0% 43% 42% 39% 39% 37% 24% ABL UBL MCB BAFL HMB BAHL HBL 20