UNITED FINANCE CO SAOG (UFCI.MSM)

INVESTMENT RESEARCH UNITED FINANCE CO SAOG (UFCI.MSM) COMPANY UPDATE Impairment charge takes a knock on Q1 EPS; Worst seems to be over in terms of provisioning for credit losses RECOMMENDATION : BUY CMP : RO 0.168 TARGET PRICE : RO 0.195 VARIANCE : 16% INVESTMENT OPINION FINANCIAL INDICATORS Q1 2009 CMP (27 Mar 09) 0.168 MCAP (RO Mn) 28 P/E (TTM) 13.6x P/BV (TTM) 1.2x DIV YIELD (FY08) 6.0% ROAE 9.04% ROAA 4.43% Source: FINCORP Investment Research May 28, 2009 United Finance (UFCI) is steering through a difficult year in 2009 with rising cost of funds on one hand and slower credit disbursement on the other hand (owing to the effects of a sharp economic contraction). Average cost of funds for UFCI rose from 5.3% at the end of Q3 2008 to 6.6% on an annualized basis thereby shrinking its net interest spread to a two year low of 3.1%. Average yield on debtors dropped below 10% for the first time in two years. The company took a big impairment charge of RO 1.55 million in Q1 2009 which resulted in a negative EPS of 1 bz as compared to 7 bz EPS for Q1 2008. However, the management has adopted a conservative approach against further deterioration in its loan book as seen by the reduction in its exposure to construction and construction equipment financing in Q1 2009 over Q4 2008. Besides, it has provided RO 9.32 million as capital provision as against a regulatory requirement of RO 5.32 million. ANALYSTS Anil Kumar, CAIA Vice President - Research Email: anilkumar@fincorp.org Tel: (+968) 24816655 Ext. 215 Mable Pereira Analyst Email: mable@fincorp.org Tel: (+968) 24816655 Ext. 205 Meanwhile, the global economic outlook has improved significantly in the second quarter with several economic indicators pointing that the worst of the recession is behind. Oil prices have nearly doubled from their low of $33 per barrel to the current level of around $63 on OPEC production cuts, dollar weakness and demand from China. Higher oil prices and the CBO s lowering of interest rates should lead to renewed demand and lower cost of borrowing for companies in Oman in the coming quarters. Assuming no significant impairment charges and spread narrowing in the coming quarters, we expect a net profit of around RO 3 3.10 million for UFCI in 2009 which translates to an EPS of RO 0.013. The stock currently trades at an estimated P/E

multiple of 13x and a P/BV of 1.2x. Being the market leader in non bank financing in Oman, UFCI is bound to benefit the first from an economic recovery which can lead to impairment provision write backs in the latter half of 2009. Our target price is RO 0.195 at which the stock trades 15x its 2009E EPS. The stock trades 1.4x its latest reported book value at our target price. BUSINESS MODEL United Finance Company SAOG (UFCI) is primarily engaged in vehicle and equipment financing. It is also licensed to provide composite loans, hire purchase, debt factoring and financing of receivables and leasing. UFCI is the market leader in Oman with a market share of 27% in total NBFC (Non Banking Finance Company) loans. Corporate loans accounted for 83% of its net loan book of RO 147 million at the end of Q1 2009. The company had a significant exposure to the construction industry and services sector which together constituted 65% of its loan book at the end of the first quarter. TABLE 1: SECTORAL LOAN EXPOSURE IN '000 Q1 09 Q4 08 QoQ% Q1 08 YoY% PERSONAL LOANS 25,315 28,750 11.9% 34,746 27.1% BUSINESS LOANS SERVICES 37,384 41,127 9.1% 30,007 24.6% CONSTRUCTION EQUIPMENT 31,004 35,686 13.1% 11,519 169.2% CONSTRUCTION CONTRACTS 27,849 30,900 9.9% 17,002 63.8% OTHERS 8,802 1,360 547.1% 27,806 68.3% TRADING 8,753 9,260 5.5% 571 1432.0% MANUFACTURING 8,022 7,770 3.2% 3,956 102.8% TOTAL 147,128 154,854 11.9% 125,607 17.1% The sharp economic downturn which started from the second half of 2008 had a big negative impact on the real estate and construction industries with projects getting delayed or shelved. The latest financial statements of construction companies speak of delayed payments from their customers and the associated cash flow problems. As shown in table 1 above, UFCI has substantially increased its exposure to the construction sector on a YoY basis though there has been a small decline in its exposure on a sequential basis. The company has stated that it will be cautious in disbursements going forward till it senses improvement in its customer accounts performance. Adopting a conservative stance, United Finance has provided RO 9.32 million as its principal provision as against a required RO 5.32 million provision according to regulatory norms. The management believes that a substantial part of its impairment provision might be written back during the next 3 6 quarters subject to an improvement in the business environment and customer account performance. Tight liquidity conditions have led to a sharp increase in its cost of funds in Q4 2008 and Q1 2009 and as a result its net interest spread fell from 5.4% in Q3 2008 to 3.1% in Q1 2009 (Fig.1). Average Yield on debtors too slightly declined from 10.7% in Q3 2008 to 9.7% in Q1 2009. The company had maintained a near constant average yield on debtors at around 10% in the past nine quarters (annualised). Its spread therefore mainly depends on its borrowing costs. We believe that its net interest spread is likely to be under pressure FINCORP INVESTMENT RESEARCH Page 2

till liquidity conditions improve as it may be difficult for the company to pass on the increase to its customers under the current circumstances. Figure 1: UFCI's Net Interest Spread 13% Average Yield on Debtors (Annualized) Net Interest Spread (Annualized) Average Cost of Funds (Annualized) Average 6 Month LIBOR (USD Borrowings) 9% 5% 1% Q1'07 Q2'07 Q3'07 Q4'07 Q1'08 Q2'08 Q3'08 Q4'08 Q1'09 Net interest margin dropped from 10.5% in 2007 to 7.2% in 2008 as a result of narrowing of spread in Q4 2008 on one hand and on significantly higher disbursements in 2008 on the other hand (Fig. 2). Net interest margin for Q1 2009 was markedly lower at 1.2% which works out roughly to 4.8% on an annualised basis. Figure 2: UFCI's Margin Net Interest Margin Net Profit Margin Figure 3: UFCI's Return Ratios ROE ROIC 38% 20% 30% 15% 22% 10% 14% 5% 6% 0% 2% 10% 2005 2006 2007 2008 Q1 2009 5% 10% 2005 2006 2007 2008 Q1 2009 ROE and ROIC too declined sharply in 2008 as a result of an increase in share capital by RO 7.5 million through a rights issue in May 2008. ROE was 4.2% in 2008 which is quite disappointing and the stock will not be able to merit a richer P/BV multiple until the ROE reaches between 10 and 15%. The target range for ROIC would be above its cost of borrowing at around 6% which it has not been able to generate so far (Fig. 3). FINCORP INVESTMENT RESEARCH Page 3

Book value per share has been nearly constant at around RO 0.136 in recent years (Fig 4) and the stock currently trades 1.2x its Q1 2009 BV. EPS for 2008 was slightly lower at RO 0.019 compared to RO 0.024 in 2007 due to equity dilution. Figure 4: UFCI's EPS and BV 0.030 Earnings per share (EPS) Book value per share (BV) RHS 0.140 0.025 0.020 0.120 0.015 0.010 0.100 0.005 0.080 (0.005) 2005 2006 2007 2008 Q1 2009 0.060 TABLE 2: FINANCIAL SNAPSHOT IN 000 2006 2007 2008 Q1 09 INCOME STATEMENT INSTALLMENT FINANCE INCOME 3,244 3,536 14,826 3,663 IMPAIRMENT ON INSTALLMENT FINANCE DEBTORS (176) (189) (3,252) (1,555) NET PROFIT ATTRIBUTABLE TO ORDINARY SHAREHOLDERS 1,367 1,711 4,478 (224) EPS 0.009 0.024 0.019 (0.001) BALANCE SHEET INVESTMENT SECURITIES 736 554 585 585 INSTALLMENT FINANCE DEBTORS 63,733 106,263 154,854 147,128 TOTAL ASSETS 67,320 111,569 160,907 154,321 NETWORTH ATTRIBUTABLE TO ORDINARY SHAREHOLDERS 18,951 21,527 32,048 31,823 BOOK VALUE PER SHARE 1.302 0.135 0.137 0.136 FINCORP INVESTMENT RESEARCH Page 4

Q1 2009 PERFORMANCE UFCI s installment finance income was 13% higher YoYY at RO 3.666 million. However a 58% increase in its interest expense caused its net installment finance income to drop 13% to RO1.8 million for Q1 2009. Operating profit before provisions fell 25%. The company made substantial provisions for impairment amounting to RO 1.56 million in the first quarter. The company needed to hold provisions of RO 5.323 million as per industry regulations. The company has maintained a principal provision of RO 9.328 million, i.e. an excess provision of RO 4 million as a precautionary measure. The higher provisioning has resulted in a net loss of RO 223k for Q1 2009. IN 000 DEBTORS ARISING FROM FINANCING ACTIVITIES DEBTORS ARISING FROM SALE AND LEASE BACK TRANSACTIONS DEBTORS ARISING FROM INSTALLMENT SALES TOTAL TABLE 3: INSTALLMENT FINANCE DEBTORS Q1 2009 Q4 2008 Q1 2008 CORPORATE RETAIL 112,911 24,879 8 7,651 1,679 120,570 26,558 CORPORATE RETAIL CORPORATE RETAIL 112,601 32,113 85,,873 27,118 12 27 7,899 2,228 9,568 3,021 120,513 34,341 95,,467 30,139 Total assets of the company were lower by 4% amounting to RO 154.3 million primarily on account of a 5% drop in installment finance debtors, which account for 95% of the total assetss of the company. Corporate installment finance debtors are a major portion of the total installment finance debtors of the company. The company has curtailed disbursements in Q1 2009 due to the general economic slowdown. The company has entered into interest rate swapss to cover its exposure to interest rate fluctuations covering a loan amount of RO 12.1 million. An unrealized loss of RO 323k has been included in the equity at the end of March 2009. PEER COMPARISON The NBFC industry in Oman in the listed category is divided among six players currently. UFCI is the market leader in loans with a share of 27% followed by Al Omaniya Financial Services and National Finance as shown in Fig. 5. Figure 5: Loan market share Q1'09 Al Omaniya Financial Services 21.2% United Finance 27.1% Oman Orix Leasing 11.6% Taageer Finance 13.3% Muscat Finance 12.7% National Finance 14.0% FINCOR P INVESTMENT RESEA RCH Page 5

Figure 6: Loans to Deposit Ratio UFCI MFCI NFCI TFCI ORXL AOFS 250% 200% 150% Average Loan Deposit Ratio 157% 100% 2006 2007 2008 Q1 2009 UFCI s loan deposit ratio is one of the lowest in its industry as shown in fig. 6. The average loan deposit ratio for the industry as at Q1 2009 was 157% compared to UFCI s 133%. UFCI is not aggressive in lending like Oman Oryx Leasing or Muscat Finance as seen from their loans to deposit ratios. The company is well capitalised and we believe that its loan book can significantly increase once the economy regains its momentum. Figure 7: Net Interest Spread 9% UFCI MFCI NFCI TFCI ORXL AOFS 7% 5% 3% 1% 1% 2006 2007 2008 Q1 2009 As shown in fig. 7 Taageer Finance and National Finance command the highest net interest spread in the industry at around 5%. UFCI s spread rose from 4.42% in 2006 to 5.56% in 2008 before declining sharply to 3% (annualized) in Q1 2009. As seen in the fig. 7 net interest spread has been on a declining trend since 2006 given the increased competition and higher cost of borrowing in recent years. Bottom line of these companies are highly sensitive to net interest spread and are hence likely to be under pressure till their spreads widen. FINCOR P INVESTMENT RESEA RCH Page 6

INVESTMENT RESEARCH CONTACT DETAILS Anil Kumar (+968) 24816655 Ext. 215 anilkumar@fincorp.org Joyce Monteiro (+968) 24816655 Ext. 204 joyce@fincorp.org Mable Pereira (+968) 24816655 Ext. 205 mable@fincorp.org Disclaimer The research team of The Financial Corporation, SAOG (hereto referred as FINCORP) has prepared the information, analysis and expressed its opinion on the subject matter of this report. The information contained has been obtained from sources believed to be reliable and in good faith, but which may not be verified independently. While utmost care has been taken in preparing the above report, FINCORP makes no guarantee, representation or warranty, whether express or implied, and accepts no responsibility or liability as to its accuracy or completeness of the data, being provided. All investment information and opinions are subject to change without notice. The investor will indemnify FINCORP and its directors, officers, and employees against any loss or damage or other liabilities (including costs), which they may suffer as a result of reliance on this report. This report is not to be relied upon in substitution for the exercise of independent judgment. Also, not all customers may receive the material at the same time. This document is for private circulation and information purposes only. It does not and should not be construed as an offer to buy or sell securities mentioned herein. FINCORP will not be liable for any direct or indirect losses arising from the use thereof, and the investors are expected to use the information contained herein at their own risk. FINCORP and its affiliates or their officers, directors and employees may own or have positions in any investment mentioned herein or any investment related thereto and from time to time add to or dispose of any such investment. FINCORP and its affiliates may act as market maker or assume an underwriting position in the securities of banking companies discussed herein (or investments related thereto), and may sell them to or buy them from customers on a principal basis and may also perform or seek to perform investment banking or underwriting services for or relating to those banking companies. Authors or contributors of this report could have direct interest in the capital market or in the securities mentioned herein. The investments discussed or recommended in this report may not be suitable for all investors. Investors must make their own investment decisions based on their specific investment objectives and financial position, and using such independent advisors, as they believe necessary. Income from investments may fluctuate. The price or value of the investments, to which this report relates, either directly or indirectly, may fall or rise against the interest of investors. This document is strictly for the use of recipients only. None of the material provided herein may be reproduced, rewritten, rehashed, published, resold or distributed in any manner whatsoever without the prior and explicit written permission of FINCORP. FINCORP INVESTMENT RESEARCH Page 7