CPI SJ_Glittery Prospects Priced-In_FY13 TP R205_HOLD

8/3/2019 CPI SJ_Glittery Prospects Priced-In_FY13 TP R205_HOLD

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CAPITEC BANK

The strong performance is fully

priced-in; Assumptions revision

Investment conclusion: The 1H12 results from CapitecBank Holdings Limited (Capitec or CPI SJ) confirm ourfavourable outlook notwithstanding the valuation risks. The1H12 EPS of 520c is ~10% higher than our estimate of

460c and registered a growth rate of 53% year-on-year(y/y). Interim dividend increases to 125c (+47% y/y)although the payout ratio remains ~25%. The strong

earnings growth was supported by a robust growth in loanunderwriting with net loans and advances growing toR13.4bn from R7.2bn y/y. We have indicated that, in ouropinion, one of the differentiating factors between Capitec

and ABIL is the deposit franchise that the former is building.Retail call and savings deposits growth was strong at 63%y/y to R4.96bn while retail fixed savings deposits growthwas higher at 67% y/y. We expect this deposit growth to be

constructive to margins and balance sheet flexibility.Deposits are also highly important to non-interest incomegeneration. Net fee income expanded by 39% to R1.8bn

supported by a strong transaction fee income growth of52%. We expect the bank to continue to improve, and growits market share in the unsecured credit market from thecurrent ~5% towards the management target of 20%. Risks

will continue to stem from the recent high loan growth anda deteriorating economic environment should exacerbate

them despite the fact that the banks insure its loan bookagainst job losses. Funding risks are minimal, in our view,and this is primarily a result of the high Capital AdequacyRatio (CAR) which, among other things, allows borrowing inthe institutional market, and the growing retail deposit

franchise. The cost/income ratio shed off 200 basis points(bps) to 46%. We expect it to moderate ~45%.

Assumption revisions: Post management meeting, werevise our assumptions. We adjust the funding liabilitiesgrowth rate upwards for FY12 (57% vs. initial of 50%) due

to the strong uptick in loans and advances. We revise ourinterest income/interest earning assets ratio upward as oursubdued expectations (due to competition, CPA etc) seems

to be insulated by the strong growth. We reduce theinterest cost/interest bearing liabilities ratio as the bank isgaining goodwill and building a strong deposit franchise. Ourexpectations of steady interest rates this year and part of

next year also motivate this assumption. We maintain ourloan fee income/loans ratio. Our assumption revisions leadto +12.3% change in our FY12 EPS, +9.2% for FY13 and -13.1% for FY14. Our earnings CAGR of 28% between FY12

and FY14 is lower than history by a material margin.

Peter Mushangwe

Lawrence Madzwara+27 11 551 3675

[email protected]

September 3, 2011 Equities|Banks|South Africa

FY13 TP 20532c

HOLD (prev. HOLD)


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1. CAMEL Analysis

Capital - comfortably capitalised for now : The Banks CAR of35% vs. required ratio of 25% gives a strong buffer that we do notthink there are material solvency issues. Tier 1 CAR is 30%. The1) strong profitability (5-year CAGR 42%; FY06-FY11); 2) conservative dividend pay-out ratio (target dividend cover of 2.5x)and 3) current limited use of Tier 2 capital (Tier 2 capital/total

capital is only 13.8%) reassures us that there is sufficient room forthe Bank to maintain a strong CAR. The risk to the capital bufferemanates from two sources, namely the strong growth in risk-

weighted assets (RWAs) and elevated write-offs. Given thatCapitec is a relatively young and small bank, we prefer the bufferto remains robust. A continued strong growth in loans and

advances (and RWAs) means that dilution risk remains somewhatelevated as the Bank may need to raise more capital in future inorder to sustain a healthy buffer. Given the low ratio of Tier 2capital/Total capital, we would assume non-dilutive Tier 2 capitalwould be issued should such a scenario plays out. However, we

expected the same when the Bank augmented its capital in therecent past, but ordinary shares were issued.

Asset quality frontloading NPLs improves earningsvisibility: We have critically looked at Capitecs credit risksbefore. (see CPI SJ: A critique on credit risks and ROE; Solid

footing but rich valuation, dated April 4, 2011). While it isobviously a high risk business, we reiterate the following keypoints that appreciably enhance earnings visibility. These are: 1)

the Bank writes-off all loans that miss instalments for 90 days (3months); 2) the aggressive provisioning for the loans in arrearsof between 2% and 5%; and 3) the recognition of recoveries on acash basis. Generally, the arrears/advances ratio has shown a

pleasing declining trend, at 4.5% for 1H12 from 18.6% in FY05.(see Fig 1). The caveat is that the significant growth in the loanbook could distort this ratio as there would be a lag in defaulting.

In rand-terms the provisions doubled to R1.1bn from R552mn, asignificant outperformance to the 44% growth in value of loansadvanced. Again there is a default lag. We see risks to assetquality coming from the uninspiring macro-issues, particularly the

continuous job losses. Retrenchments are a primary risk toCapitecs loan book quality. Management indicated that they takeinsurance against job losses and that the book is skewed to lower

risk employers. The banks general credit model takes intoconsideration 1) the customers credit history; 2) the customeremployers risk profile; and 3) affordability by the client; and #2takes a predominant role in the determination of the loan tenor.Customers from risky employers get shorter tenor loans. The latest

vintages show a mixed picture. The 3-month and 6-monthproducts, for example, show a deterioration from 11% in 1H10 to12.9% in 1H12 for the former and deterioration from 10.9% to


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11.7% for the latter over the same period. Management indicatedthat the migration of their good clients to longer term products

means that the short-term products remain riskier credit quality-wise. However, even the 18-months product also shows adeteriorating situation, weakening from 8.1% in 1H10 to 9% in

1H12. We expect the credit risks to remain relatively higher (vs.system) but we take comfort in the provisioning and write-offpolicies.

Fig 1: Impairments/ Instalment ratio: Credit quality has been improvingalthough the high loan book grow th is a risk

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

18.0%

20.0%

2005 2006 2007 2008 2009 2010 2011 2012H1

Arreas/grossadvances

Source: Company reports, Legae Securities

Management/ Efficiency the JAWS should continue towiden: The key indicator, the cost/income ratio continues to showimprovements. The cost/income ratio improved from 51% in 1H11to 46% (management calculation). We expect the ratio to end the

year at 45.5% from 48.5% for FY11 (our calculation). Theimprovements in the cost/income ratio should be supported by the

improving burden ratio and expansion in market share that shouldprovide some pricing power. The bank developed its unsecuredcredit market share from 1.6% in June 08 to 5.3% in March 11.The burden ratio which indicates the amount of non-interestexpense/expenditure that is not covered by the non-interest

income has improved from 41.6% in FY06 to 24.2% in FY11 (ourcalculations). We expect the burden ratio to improve further to21.4% in FY12. We believe there is still adequate room for the


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bank to exploit its non-interest income avenues. The number ofcustomers increased to 3.247mn which should bode well for fee

income, particularly transactional fee income. The downside risksto the cost/income and burden ratios should originate from thefact that Capitec is still small and young and therefore in an

investment stage where it should continue to invest in branchnetwork and technology. For example, 52 branches, 486 ATMs and1,625 staff were added in 1H12. The operational improvements atAfrican Bank Limited (i.e. the better integration between Ellerines

and African bank) and other competition pressures from otherplayers to include Old Mutual Finance and the mainstream bankscould result in elevated marketing expenditure, to include branch-

roll out. Nonetheless, we expect the banks JAWS to continue toopen as some benefits of scale kick in. (see Fig 2). We areassuming that, as per management guidance, the bank will be able

to build up its unsecured market share towards management

target of 20%. The longer trading hours (resulting in efficientuse/lower cost of infrastructure); and no/lower charges on card

usage, notwithstanding the possible negative impact to absolutemargins, should be constructive to volumes. Note that Capitecreceives 0.55% of the transaction value from the acquirer so thecards are not effectively used for free.

Fig 2: We expect further expansion in the Jaws, supported by rising non-

interest income and scale benefits.

CAGR=31%

CAGR=28.8%

1,000

2,000

3,000

4,000

5,000

6,000

7,000

2006

2007

2008

2009

2010

2011

2012F

2013F

2014F

Operatingincome Operatingexpenses



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Earnings/ Profitability Ability to reduce deposits premiumcan neutralise falling asset yield, thus maintaining margins:

Needless to say, Capitecs earnings growth has been the mostvisible to investors. Earnings growth of 42% 5-Year CAGR (FY06-FY11) strongly outperforms the systems growth. The Net interestmargin (NIM) has, however, declined materially as the assetsyields on the micro-finance sector reduced, particularly post the

NCA. From 21.7% in FY08, we expect the NIM to even out ~14%in our forecasting period. The low interest rate environment (ourEconomist expects rates hikes only in 2H12) and rising competitionshould continue to weigh negatively on interest income as we see

limited ability to renew loans at higher spreads in thisenvironment. The encroachment to lower risk (lower yields) clientbase should also constrain further improvements in the NIM. On

the positive side, Capitec has opportunities to lower its cost ofdeposit further as most of its deposits are yet to reach pricingfloors. Capitec has traditionally paid a premium in the depositmarket in order to attract deposits and we believe as the franchisestrengthens there are opportunities to reduce the premium andthus reduce the cost of deposits. Fee income growth has been

impressive for Capitec, and we see a continuation of strong growthin the drivers (mainly loan value, deposit value, and transactionvalues and numbers). We expect fee income to contribute an

average of 42.9% to the banks revenue in our forecasting period,up from an average of 35.2% in the past 5 years.

A note on interest rate risk: Besides credit risks, mostlylinked to profitability is the interest rate risk that Capitec carries

as a result of the asset-liability mismatch. The bank does notdisclose the rate sensitive assets and liabilities, but taking a cue

from the gap analysis disclosed for liquidity analysis purposes,we believe the bank has an asset-sensitive balance sheet i.e.more assets re-price in a year than liabilities. Due to the short-term nature of the loans, more assets than liabilities will alsomature and therefore issued at new yields. However, the growth

in retail call deposits has resulted in the maturingassets). Subjecting the gaps to a 200bps movement in interestrates, we note that a positive interest rate change will hurt the

banks earnings while a decline in the interest rate by the samemagnitude will have a positive impact to the banks bottom line.This conforms to management disclosure that a 200bps increasein interest rates will negatively affect their equity by 1.8%

(R91.9mn) while a decrease in interest rates will be positive tothe banks equity position by 1.7% (R82.5mn). In our opinion,this is essentially a result of the big negative gap in the


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A note on ROA and ROE: In our judgment, the chief questionrelates to the time frame in which Capitecs astronomical

earnings growth is going to moderate. We are unsure but wenote that 1) competition is intensifying; 2) CAR will remain akey growth driver as a lower buffer to the required CAR could

mean the stratospheric loan book growth is halted, or at worstthe bank is forced to deleverage its balance sheet. Currently,we do not anticipate the required CAR to reduce given thatABILs has in fact been recently increased. We believe the

regulators are known for prudence and would want to preservethat attribute and the accolades that come along with it. As aresult we expect the ROA and the leverage ratios to remain

largely unchanged at 5.5% and 5x respectively for FY12although leverage could increase to 6x by FY14. The ROE shouldimprove slightly to 27.5%. Our 5.5% ROA is ~300bp lower than

the recent 5-year average of 8.3% but we do not believe that

there are opportunities for a rebound in the ROA, particularlyfor the MFIs who have been enjoying higher ROA in the past.

Expanding the interest spread is not going to be trouble-freegiven the competitive dynamics in the space. For Capitec, thecost of liabilities could decline, but asset rotation should alsodecline, in our opinion. (see Fig 3 for the decomposed ROE).

Fig 3: Our overage ROE of 27.7% over our forecast period is very attractive, in our view .

2006 2007 2008 2009 2010 2011 2012F 2013F 2014F

Costofliabilities:int.exp/Average liabilities 7.9% 7.9% 7.3% 10.2% 8.7% 8.0% 6.3% 6.2% 6.0%

Compositionofliabilities:liab./aTA 49.6% 51.2% 54.5% 66.8% 78.3% 78.4% 78.4% 82.9% 89.7%

Volumeofint.bearingliabilities:IBL/aTA 66.9% 62.4% 67.0% 90.1% 107.4% 91.9% 95.1% 96.7% 101.2%

Interestexpense/AverageTotalassets 3.9% 4.1% 4.0% 6.8% 6.8% 6.3% 5.0% 5.1% 5.4%

Noninterestexpense/AverageTotal assets 64.2% 46.4% 39.3% 35.7% 24.7% 19.9% 18.6% 17.8% 16.9%

Impairmentcharge/AverageTotalAssets 9.3% 9.4% 9.0% 11.8% 7.6% 8.3% 8.4% 8.2% 7.9%

Expenseratio:Expense/AverageTotalassets 77.4% 59.9% 52.3% 54.3% 39.1% 34.5% 32.0% 31.1% 30.2%

Income tax/AverageTotalassets 4.9% 4.4% 3.7% 3.5% 2.7% 2.4% 2.4% 2.2% 2.0%

Yieldonassets:Int.income/assets 76.2% 56.2% 28.9% 30.7% 24.4% 23.5% 23.4% 21.4% 19.9%

Compositionofassets:Loans/aTA 44.2% 46.7% 78.8% 75.4% 72.3% 84.2% 88.5% 88.6% 88.0%

Volumeofearningassets:IEA/aTA 100.8% 107.3% 102.9% 113.7% 107.8% 107.9% 107.4% 101.9% 96.8%

Interestincome/Average Totalassets 76.2% 56.2% 28.9% 30.7% 24.4% 23.5% 23.4% 21.4% 19.9%

Noninterestincome/Average Totalassets 17.1% 17.7% 35.2% 35.1% 23.5% 18.8% 16.6% 16.8% 16.9%

Otherincome/Average totalassets 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Assetrotation:Revenue/AverageTotalassets 93.3% 74.0% 64.0% 65.8% 48.0% 42.3% 39.9% 38.2% 36.8%

ReturnonAverage Assets 11.0% 9.7% 8.0% 8.0% 6.2% 5.5% 5.5% 5.0% 4.6%

Leverage:Av.Totalassets/av.Equity 2.0 2.3 2.5 3.4 5.1 5.0 5.0 5.7 6.0

ReturnonAv.Equity:Expandedmethod 21.8% 21.8% 20.3% 27.3% 31.7% 27.5% 27.5% 28.2% 27.4%

ReturnonAv.Equity:Total earnings/Av.totalequity 22.2% 19.9% 19.6% 24.3% 28.7% 25.3% 25.6% 26.6% 26.1%

ReturnonAv.Equity:Ord.earnings/Av.Ordequity 22.2% 20.9% 20.9% 25.9% 30.8% 26.9% 27.0% 27.6% 26.9%



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Liquidity and Funding No short-term liquidity pressure butthe high Loans/ Funding liabilities ratio is a long-term

challenge: There are three key issues we note: 1) the banks highLoans/Funding liabilities ratio impairs internal funding ability. Thisratio is high at 96% for FY11 and 98% for FY12 (our calculationand forecast) and the average for the past 3 years is 100%. Thebank has no LDR target. Rather the banks targets loan growth and

then endeavours to fund the growth. Note that a conventional LDR(excluding wholesale deposits) is >100%. We have concerns, aswe would prefer a LDR target to ensure optimal internal funding.While there is no liquidity pressure in the short-term, (cash and

cash equivalents/total assets ratio =18%) and even medium term,the high Loans/Funding liabilities ratio means that a challengingfunding scenario may occur particularly should there be a

dislocation in the wholesale market and/or the duration of assetscontinues to stretch. Loans and advances growth is clearlyoutpacing deposits growth which is not helpful to liquidity; 2) thehigh CAR and fair liquid assets holdings (18% of total assets)should continue to allow the bank to grow its deposits. Accordingto management, Capitec paper has been well received in the

institutional/wholesale market. Paying a premium to attractdeposits has allowed it to encroach into the relatively more affluentdepositor base where deposit balances could be larger and

transaction values higher. We still think there is lazy money in thesystem, particularly given the uncertainty in the equity and othermarkets, presenting opportunities for banks to step-up theirdeposits mobilisation strategies. However, mainstream banks that

have not been as aggressive in the past, particularly in attractinglow-income depositors have become very aggressive; and 3) while

the retail deposits are highly diversified, there is someconcentration risk at wholesale funding level, with the top 20deposits accounting for ~35% of the total deposits. However, thisis a noteworthy improvement from the ~50% in FY10. The stronggrowth in retail deposits should be helpful to the reduction of the

concentration risks. Looking at the diversification of the fundingsources, while there have not been material changes on a y/ybasis, we covet the high level of fixed deposits which makesbalance sheet management easier particularly for a bank that

could have limited access to the interbank market in crisis periods.Fixed deposits are more expensive than the CASA deposits, but fora small bank whose deposits volatility could spike in times of

stress, we believe the fixed deposits serve the purpose well. It is

important to highlight the emphasis on deposit gathering andtransactional business that the bank has widely publicised throughits adverts that emphasis issues related to costs and transparency.

The funding structure remains fairly diversified. For 1H12 59% ofthe banks deposits were retail. As at end of FY11 ~50% of thefunding liabilities had fixed tenors while demand deposits from

retail clients made up 29%. (see Fig 4). We note that R2.722bnbonds were issued and listed, and 37.5% of the amount is


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maturing next year. Of the maturing bonds, 86% carry floatingrates, and at relatively higher spread than the recently issued.

(see Fig 5). We believe this will provide the bank an opportunity torefinance the bonds at a lower spread and/or lower fixed rate. Thedebt market environment has been looking strong that we do not

see material negative structural changes in the availability andcost of funding. Note that all bonds issued in CY11 carry (a) lowerrate(s) and spread(s) than those issued before.

Management emphasise their highly conservative liquiditymanagement policy. They claim the Banks compliance to the Basel3 liquidity requirements, mainly the liquidity coverage ratio and

the net stable funding ratio. On Fig 6 we provide the maturitystructure. In our view, the question is not whether the bank has amismatch as it is always the case that banks have mismatches.

The extent of the mismatch is what we are interested in. We recallthat when we initiated coverage on Capitec in April 2010, theBanks cumulative gap was R1.578bn. The >12-month time buckethad a negative gap of R1.4bn. The current cumulative gap isR3.6bn and the >12-month time bucket now shows a positive gap.Only the


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Fig 5: Listed bonds: Recent issues carry low er costs; Opportunity to lock-in lower

cost for next years maturities.

Code Issuedate Maturitydate Issued Type Coupon%Spread

bps

ZAG000067620 18May09 18May12 185,000,000 Floating 3MJIBAR 415

ZAG000072778 2Nov09 2Nov12 700,000,000 Floating 3MJIBAR 370

ZAG000074204 29Jan10 29Jan17 150,000,000 Floating 3MJIBAR 510

ZAG000085622 6May11 6May14 450,000,000 Floating 3MJIBAR 220

ZAG000067612 18May09 18May12 137,000,000 Fixed 12.48 n/m

ZAG000072786 2Nov09 2Nov14 140,000,000 Fixed 13.00 n/m

ZAG000072810 2Nov09 2Nov16 160,000,000 Fixed 14.10 n/m

ZAG000085630 6May11 6May16 800,000,000 Fixed 10.52 n/m

2,722,000,000

Source: BESA, Legae Securities

Fig 6: Liquidity maturity analysis: Largely an asset sensitive balance sheet.

12m Total

TotaldiscountedAssets,Rmn 4,115 1,318 4,247 8,326 17,573

TotaldiscounttedLiabilities,Rmn 5,755 762 2,662 5,149 14,399

PeriodicFundinggap,Rmn 1,640 556 1,585 3,177 3,174

Cumulative gap,Rmn 1,640 1,084 501 3,678 3,174

Source: Company reports, Legae Securities; Totals includes adjustments


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2. Assumptions revision and valuation

Assumptions: On average our assumptions are inferior to historyand management guidance, but we prefer erring on prudence.Below we highlight the major changes to our assumptions as wetake 1H12 trends and management guidance into consideration.

Salient Balance sheet items: 1) Deposit growth. We revisethe growth of wholesale deposits upwards to 55% from ourinitial 35% for FY12 and vs. a 4-year average of 87%. We alsoincreased the growth to 40% and 30% for FY13 and FY14

respectively from our initial forecast of 30% for both years. Webelieve raising funds in the wholesale market in an environmentwhere managers are seeking yield-pick-up assets should be

easier given the high CAR and profitability. We maintain ourinitial forecasts for the retail deposits growth rates. 2) Loans:the noise in loans and advances modelling/forecasting iscompounded by the fact that Capitec has no LDR target. Weprefer modelling our loans and advances as a product of theLDR target and deposits. Nonetheless, we have reduced the

Loans/Funding liabilities slightly to 98% for FY12 and 95% and90% for FY13 and FY14 in that order. Management is confidentthat loan growth will remain firm but we believe maintaining a

reasonable buffer to the required CAR will be critical and couldreduce the rate at which loans and advances grow. Our averageloan growth up-to FY14 is 39% vs. a 91.8% between FY08 andFY11.

Salient Income statement items: Managements guidancepoints to a strong growth in unsecured credit. It also points to

resilience in its asset yields despite our concerns coming fromintensifying competition, the CPA and the poor economicoutlook. 1) While our interest income/interest earning assetsratio is inferior to history at an average of 21.1% for ourforecasting period, we have altered it upwards by an average of

100bps. There are indications of some pricing power/yieldresilience, particularly in FY10 and FY11; 2) we also reduce ourinterest expense/interest bearing liabilities by 250bps to 5.5%.Our view is supported by the relative low interest rate

environment, the Banks ability to reduce the premium it ispaying on deposits (pricing strategy and franchise valueeffects); 3) we maintain our loan fee income/loans ratio staticat 10% (vs. a 5-year average of 16%). However, we have

reduced the transaction fee income/total assets ratio to 5.5%(initial 8.5% for FY12). With the benefit of 1H12 results, webelieve we had aggressively grown this ratio; 4) we maintainour initial net impairment charge/loans at 9.5% for FY12 and9.3% and 9.0% for FY13 and FY14 respectively. The average

ratio between FY08 and FY11 is 11.9%; and 5) we maintain thebanking operations expenses/total assets at 11.5% over our


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forecasting period (vs. a 5 year average of 18.6%; and FY11s12.6%).

Impact to EPS and related valuation metrics Our FY13and FY14 EPS growth is significantly lower whencompared to history: Our new FY12 EPS is 1032c, 12.3%

higher than our initial forecast. For FY13, our EPS also jumps by9.2% while the FY13 EPS declines by 13.1%. Our FY12, FY13and FY14 forward PERs are now 18.6x, 15x, and 13.2xrespectively. Our FY12 PBVR is 4.5x and it shrinks to 3.3x by

FY14. Our FY13 and FY14 EPS growth rates are materiallydisconnected to history (23.6% and 14% respectively) but ourCAGR for the three years remains enthusiastic and plausible at

28%. We do not model EPS growth per se as it is a product ofour key revenue and costs drivers, and we believe the higherbase for FY12 has a material impact to subsequent EPS growth

rates. We believe our assumptions remain optimistic in general.

(see Fig 7).

Fig 7: Our new vs. old assumptions and the impact to EPS, ROE and forward P ER and PBVR

OLD NEW OLD NEW OLD NEW (FY08FY11)

Salientassumptions 2006 2007 2008 2009 2010 2011 2012F 2012F 2013F 2013F 2014F 2014F Average

Interestincome/IEA 75.6% 52.4% 28.1% 27.0% 22.6% 21.7% 20.5% 21.8% 20.0% 21.0% 19.5% 20.5% 24.9%

Interestexpense/IBL 6.7% 7.8% 6.9% 8.3% 6.8% 7.4% 8.0% 5.5% 8.0% 5.5% 8.0% 5.5% 7.3%

Loanfee income/Loans 0.0% 9.6% 28.5% 30.1% 18.9% 11.4% 10.0% 10.0% 10.0% 10.0% 10.0% 10.0% 22.2%

Transactionfeeincome/TA 3.5% 4.3% 5.7% 5.7% 5.3% 6.1% 8.5% 5.5% 9.0% 6.0% 10.0% 6.5% 5.7%

Feeexpense/TA 2.3% 2.7% 3.0% 2.9% 2.2% 2.4% 2.6% 3.0% 2.7% 3.0% 2.6% 3.0% 2.7%

Dividend income/TA 0.1% 0.1% 0.5% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.1%

Netimpairmentcharge/Loans 21.0% 20.1% 11.4% 15.7% 10.5% 9.8% 9.5% 9.5% 9.3% 9.3% 9.0% 9.0% 11.9%

Netmov.infinancial instruments/TA 0.1% 0.0% 0.3% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.1%

Non banksales/TA 10.5% 6.2% 5.4% 4.2% 2.2% 1.5% 1.0% 1.0% 1.0% 1.0% 1.0% 1.0% 3.3%

costofsales/TA 10.0% 5.8% 5.0% 3.8% 2.0% 1.4% 0.8% 0.9% 0.8% 0.9% 0.8% 0.9% 3.1%

Otherincome/TA 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0%

Bankingoperationexpense/TA 40.0% 27.7% 26.0% 21.4% 14.4% 12.6% 11.5% 11.5% 11.5% 11.5% 11.5% 11.5% 18.6%

Nonbankingoperatingexpense/TA 0.5% 0.3% 0.3% 0.3% 0.2% 0.2% 0.3% 0.3% 0.2% 0.2% 0.2% 0.2% 0.2%

Incometaxexpense/PBT 30.6% 31.4% 29.4% 30.1% 30.1% 30.2% 30.3% 30.3% 30.2% 30.2% 30.0% 30.0% 29.9%

Preferencedivi/profit 0.0% 4.6% 7.4% 6.0% 3.2% 2.4% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 4.7%

Wholesale deposits 57,102 342,000 632,000 1,690,000 3,669,000 3,954,000 5,337,900 6,128,700 6,939,270 8,580,180 8,674,088 11,154,234

Growth 1.9% 498.9% 84.8% 167.4% 117.1% 7.8% 35.0% 55.0% 30.0% 40.0% 25.0% 30.0% 94.3%

Retail calldeposits 537,894 554,000 842,000 1,306,000 2,346,000 3,933,000 5,899,500 5,899,500 7,669,350 7,964,325 9,203,220 9,955,406

Growth 141.8% 3.0% 52.0% 55.1% 79.6% 67.6% 50.0% 50.0% 30.0% 35.0% 20.0% 25.0% 63.6%

Retail fixeddeposits 265,000 1,148,000 2,316,000 4,053,000 4,053,000 6,282,150 6,282,150 8,480,903 8,480,903

Growth n/m n/m n/m n/m 333.2% 101.7% 75.0% 75.0% 55.0% 55.0% 35.0% 35.0% 217.5%

Fundingliabilities 594,996 896,000 1,474,000 3,261,000 7,163,000 10,203,000 15,290,400 16,081,200 20,890,770 22,826,655 26,358,210 29,590,543

Growth 112.0% 50.6% 64.5% 121.2% 119.7% 42.4% 49.9% 57.6% 36.6% 41.9% 26.2% 29.6% 87.0%

Loans/Fundingliabilities 76% 90% 137% 91% 73% 99% 103% 98.0% 100% 95.0% 98% 90.0% 100.0%

Loansandadvances 454,661 803,260 2,019,200 2,981,685 5,225,139 10,071,466 15,749,112 15,759,576 20,890,770 21,685,322 25,831,046 26,631,488

Growth 118.7% 76.7% 151.4% 47.7% 75.2% 92.8% 56.4% 56.5% 32.6% 37.6% 23.6% 22.8% 91.8%

Otherkeymetrics

EPS 154.7 194.4 258.8 362.6 524.3 685.6 919.4 1,032.3 1,168.8 1,275.9 1 ,673.1 1,454.3

ChangeinEPS(oldvs.new) 12.3% 9.2% 13.1%

PBV 756.5 1 ,175.2 1,297.3 1,511.6 1,896.0 3,417.5 3,972.9 4,242.3 4,674.2 4,986.6 5,678.1 5,834.9

ChangeinPBV(oldvs.new) 6.8% 6.7% 2.8%

ROA 11.2% 9.7% 8.9% 8.1% 6.2% 5.5% 4.4% 5.5% 4.2% 5.0% 4.8% 4.6%

ChangeinROA(bps;oldvs.new) 117 74 26.46

ROE 22.2% 21.9% 22.6% 27.6% 31.8% 27.5% 24.8% 27.5% 25.5% 28.2% 30.1% 27.4%ChangeinROE(bps;oldvs.new) 270 270 264

FowrardPER 20.9 18.6 16.4 15.0 11.5 13.2

ForwardPBVR 4.8 4.5 4.1 3.9 3.4 3.3



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Fig 7: Salient balance sheet and income statement forecasts and grow th rates

2006 2007 2008 2009 2010 2011 2012F 2013F 2014F

Interest income 783,902 967,528 740,063 1,212,896 1,763,966 2,808,543 4,154,783 5,415,279 6,786,830

Interest expense 40,079 69,836 101,449 269,621 490,636 751,360 884,466 1,255,466 1,627,480

Net interest income 743,823 897,692 638,614 943,275 1,273,330 2,057,183 3,270,317 4,159,813 5,159,350

Net fee income 14,942 111,557 653,400 1,035,709 1,281,573 1,683,595 2,104,515 3,027,078 3,941,997

Loan fee income 76,943 574,584 897,502 986,199 1,151,864 1,575,958 2,168,532 2,663,149

Transaction fee income 44,314 93,671 168,361 281,548 507,438 883,040 1,162,825 1,717,091 2,375,004

Fee expense 29,372 59,057 89,545 143,341 212,064 351,309 634,268 858,546 1,096,156

Net impairment charge 95,625 161,271 230,879 467,727 547,731 988,177 1,497,160 2,005,892 2,396,834

Income from operations 672,153 856,690 1,095,291 1,533,051 2,029,495 2,775,471 3,899,595 5,209,617 6,741,052

Banking operation expense 500,075 606,705 762,540 1,063,672 1,368,324 1,812,499 2,431,362 3,291,091 4,201,930

Non-banking operating expense 5,965 6,808 8,405 12,696 18,815 22,672 59,353 70,992 86,829

Operating income before tax 166,113 243,177 324,346 456,683 642,356 940,300 1,408,881 1,847,534 2,452,292

Profit for the year 115,281 166,924 229,065 319,332 449,224 656,024 982,204 1,288,985 1,715,510

Dividends 32,400 49,200 61,400 91,100 166,796 270,825 401,067 526,336 700,500

Ordinary EPS 155 194 259 363 524 686 1,031 1,353 1,800

Loans and advances 454,661 803,260 2,019,200 2,981,685 5,225,139 10,071,466 15,759,576 21,685,322 26,631,488

Total Assets 1,251,272 2,191,642 2,936,372 4,969,422 9,488,223 14,439,517 21,142,278 28,618,186 36,538,522

Deposits at amortized costs 537,894 842,172 1,475,696 3,298,897 7,360,325 10,449,883 16,081,200 22,826,655 29,590,543

Total liabilities 687,456 1,074,185 1,718,945 3,563,221 7,760,246 10,989,004 16,922,354 23,661,393 30,601,028

Share capital 347,865 647,363 647,363 674,369 682,219 1,918,677 2,123,125 2,123,125 2,123,125

Retained Earnings 215,241 313,049 415,458 601,099 906,991 1,276,336 1,837,829 2,574,699 3,555,400

Ordinary share capital 563,816 962,851 1,062,821 1,251,595 1,573,371 3,191,544 3,960,954 4,697,824 5,678,525

Total Equity 563,816 1,117,457 1,217,427 1,406,201 1,727,977 3,450,513 4,219,923 4,956,793 5,937,494

Growth rates

Interestincome 44.1% 23.4% 23.5% 63.9% 45.4% 59.2% 47.9% 30.3% 25.3%

Interestexpense 137.3% 74.2% 45.3% 165.8% 82.0% 53.1% 17.7% 41.9% 29.6%

Netinterestincome 41.1% 20.7% 28.9% 47.7% 35.0% 61.6% 59.0% 27.2% 24.0%

Netfee income 237.8% 646.6% 485.7% 58.5% 23.7% 31.4% 25.0% 43.8% 30.2%

Loanfeeincome n/m n/m 646.8% 56.2% 9.9% 16.8% 36.8% 37.6% 22.8%

Transactionfee income n/m 111.4% 79.7% 67.2% 80.2% 74.0% 31.7% 47.7% 38.3%

Feeexpense 324.8% 101.1% 51.6% 60.1% 47.9% 65.7% 80.5% 35.4% 27.7%Netimpairmentcharge 143.6% 68.6% 43.2% 102.6% 17.1% 80.4% 51.5% 34.0% 19.5%

Nonbankinggrossprofit 47.0% 22.3% 36.3% 66.6% 13.9% 7.3% 5.0% 35.4% 27.7%

Incomefromoperations 36.9% 27.5% 27.9% 40.0% 32.4% 36.8% 40.5% 33.6% 29.4%

Bankingoperationexpense 29.4% 21.3% 25.7% 39.5% 28.6% 32.5% 34.1% 35.4% 27.7%

Operatingincomebeforetax 67.7% 46.4% 33.4% 40.8% 40.7% 46.4% 49.8% 31.1% 32.7%

Incometaxexpense 60.5% 50.0% 25.0% 44.2% 40.6% 47.2% 50.1% 30.9% 31.9%

Profitfortheyear 71.1% 44.8% 37.2% 39.4% 40.7% 46.0% 49.7% 31.2% 33.1%

Cashandcashequivalents 60.5% 79.2% 40.8% 145.0% 69.5% 10.7% 17.6% 22.7% 57.9%

Loansandadvances 118.7% 76.7% 151.4% 47.7% 75.2% 92.8% 56.5% 37.6% 22.8%

TotalAssets 55.4% 75.2% 34.0% 69.2% 90.9% 52.2% 46.4% 35.4% 27.7%

Deposits 141.8% 56.6% 75.2% 123.5% 123.1% 42.0% 53.9% 41.9% 29.6%

Totalliabilities 107.2% 56.3% 60.0% 107.3% 117.8% 41.6% 54.0% 39.8% 29.3%

Sharecapital 5.3% 86.1% 0.0% 4.2% 1.2% 181.2% 10.7% 0.0% 0.0%

RetainedEarnings 51.2% 45.4% 32.7% 44.7% 50.9% 40.7% 44.0% 40.1% 38.1%

Ordinarysharecapital 19.1% 70.8% 10.4% 17.8% 25.7% 102.8% 24.1% 18.6% 20.9%

TotalEquity 19.1% 98.2% 8.9% 15.5% 22.9% 99.7% 22.3% 17.5% 19.8%



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Valuation: FY12 Target Price (TP) (to Feb. 2012) remainsconstant at ~R175; our FY13 TP (to Feb. 2013) show s little

upside potential: Our target price is a product of our JustifiedPrice/Book value ratio (PBVR) and our forecast Book Value (BV).Our justified PBVR is 4.1x (employing a Cost of Equity (CoE) of17.5%, a growth rate of 14.25% and an average ROE of 27.7%).Our FY12 BV is 4242c which provides a FY12 TP of 17468c. Note

that while our BV has increased by 6.8% from our initial forecast,our average ROE has reduced from our initial forecast of 28.7%,hence our Justified PBVR declines to 4.1x from our initial of 4.4x.However, we believe a 4.1x PBVR is largely fair, given that our

growth rate is on the higher-end (vs. peers). Using the JustifiedPBVR of 4.1x to our FY13 (~18 month out from now) our FY13 TPdoes not provide meaningful upside potential as well at 20532c

only 9.7% potential total return from the current price. Wemaintain our HOLD recommendation for the 18-month period. (seeFig 9).

Valuation risk remains high, much of the growth priced-in inour view...: On the balance, the probability of positive

news/catalysts occurring (strong earnings growth in particular)appear to outweigh negative events. However, we believe thispossibility is already captured by the current valuation. Looking atthe PERs and PBVRs show high valuation risk. Subjecting our

valuation to changes in ROE and growth rates confirm the risk. Thecurrent price is 4.5x and 3.9X our FY12 and FY13 book valueestimates. These are not mean ratios by any standard despite the

high growth rate. The primary issue is to note that the JustifiedPBVR responds in a rather exponential manner to ROE, and areduction would see it shrink meaningfully. The high required rate

of return/CoE would aggravate the reduction of the Justified PBVRshould the ROE decline. Our sensitivity analysis indicates that onlyhigh growth rates (14.25% and 15%) and ROEs (30% and 35%)provide some upside risk to the current price. (see Fig 10)

...as the share is trading at signif icant premium to peers andits history...: Capitecs PER is 2.3x the Banks Index PER. Theaverage ratio to the Banks Index PER since CY05 is 1.6x. Whencompared to the Small Cap Index, Capitecs PER is also 2.1x the

Small Cap Index, a premium to the average of 1.4x since CY05.Looking at the PER vs. its history, the current PER has broken the1 band to its average since CY05. The current PER of 25.8x is

40% higher than the average PER of 18.3x. In our opinion, theseare indication of possible pressures to the share price in the short-

to medium-term, despite our expectations of a strong earningsgrowth (CAGR 28% up-to FY14). (see Fig 11)

...and has continued to outperform peers: YTD, Capitec hasoutperformed its closest surrogate, ABIL by a colossal magnitude.Capitecs ~9% YTD return, a rather muted return in recent years,is ~28% higher than ABILs -18.2% return. Capitec has alsooutperformed the Banks and the Small Cap indices. (see Fig 12).

We are not concerned by outperformance by itself, especially as


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Page 13 of 17

earnings growth has also outperformed peers significantly. We aremore concerned by the high valuation risk. The share price is

highly vulnerable to earnings disappointments, not necessarilynegative growth but even some moderate decline in the growthrate.

Fig 9: Valuation model: Our Justified PBVR is 4.1x. FY13 potential total return of9.7% is insufficient, in our view.

JustifiedPBR

AverageROE 27.71%

Sustainablegrowthrate 14.25%

CostofEquity 17.5%

JustifiedPBVR(ROE g)/(CoEg) 4.1

2013BVPS 4986.6

FY13Targetprice 20532

Currentshareprice 19200

Potentialcapitalgain 6.9%

ForecastDividendyield 2.8%

Potentialtotalreturn 9.7%


Fig 10: Sensitivity analysis: No more easy upside at the current price

Growthrate

ROE 8.00% 9.75% 10.25% 12.00% 14.25% 15.00%

P ri ce P BV R Pri ce PBV R Pri ce P BV R Pri ce PBV R P ri ce PBVR Pri ce PBV R

15.0% 3126 0.7 2874 0.7 2779 0.7 2314 0.6 979 0.2 n/m n/m

25.0% 7592 1.8 8348 1.9 8631 2.0 10027 2.4 14032 3.3 16969 4.0

27.7% 8797 2.1 9826 2.3 10211 2.4 12110 2.9 17468 4.1 21551 5.1

30.0% 9824 2.3 11085 2.6 11557 2.7 13884 3.3 20559 4.9 25454 6.0

35.0% 12057 2.8 13822 3.3 14482 3.4 17741 4.2 27085 6.4 33938 8.0

Source: Company reports, Legae Securities. PBVRs are our Justified ratios


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Fig 11: The PE relative to the Banks and Small cap indices and history show s no easy upside as w ell...

0.0

0.5

1.0

1.5

2.0

2.5

2Jan05

2Apr05

2Jul05

2Oct05

2Jan06

2Apr06

2Jul06

2Oct06

2Jan07

2Apr07

2Jul07

2Oct07

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2Oct08

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2Apr09

2Jul09

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2Jan10

2Apr10

2Jul10

2Oct10

2Jan11

2Apr11

2Jul11

2Oct11

CapitecPERtelativetopeers CapitecrelativetoBanks In de x A v.Rel.toBanks Index

RelativetoSmallCaps Av.ReltoSmallCaps

0

5

10

15

20

25

30

35

2Jan05

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2Apr10

2Jul10

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2Jul11

2Oct11

CapitecPERrelativetoitshistory PER +1 1 Average

Source: I-Net, Legae Securities

Fig 12: ...and the outperformance vs. peers continues.

`

0.75

0.80

0.85

0.90

0.95

1.00

1.05

1.10

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1.20

03Jan11

17Jan11

31Jan11

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06Jun11

20Jun11

04Jul11

18Jul11

01Aug11

15Aug11

29Aug11

12Sep11

26Sep11

BanksIn de x SmallCapIndex Capitec Abil

18.2%

9.4%

8.0%

9.4%

20.0% 15.0% 10.0% 5.0% 0.0% 5.0% 10.0% 15.0%

Abil

BanksIndex

SmallCap

Capitec

YTDreturn



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External liquidity analysis The low liquidity could explainprevious higher returns, but will it continue? In the past, we

have communicated with a number of investors who indicate thatthe low liquidity of the stock is to some extent a put-off to them.While liquidity has a number of properties and variousmeasurements that are employed to capture these properties, weemploy the turnover ratio in our analysis. The turnover ratio does

not capture liquidity properties such as the generation of the tradeand other subtle properties such as price impact, tightness, depthand resilience but it is a generally acceptable measure of liquidity.We note that 1) CPI SJs weekly turnover ratio is lower than the

Small Cap and Banks Index at 0.2% vs. 0.8% and 1.6% for theSmall Cap Index and Banks index respectively; (see Fig13); and2) the impact of this low liquidity could result in inefficiency, and

could have sustained higher returns in the past (i.e.undervaluation hence higher expected returns). While low liquidityhas continued, we note that analyst and rating agencies coveragehas expanded, and a lot of pricing inefficiencies could now havebeen minimized/ eliminated. The medium to long-term effect islower expected returns.

Fig 13: Low external liquidity could have supported mispricing but increasing coverage couldminimise the mispricing and leads to lower returns.

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

4.5%

5.0%

2Jan05

2Apr05

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Valuetraded/MarketcapCPI SmallCap Inde x BanksIndex

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

2Jan05

2May05

2Sep05

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Valuetraded/marketcap Valuetraded/Marketcap A ver age



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Legae Securities (P ty) Ltd

Member of the JSE Securities Exchange

1st Floor, Building B, Riviera Road Office Park, 6-10 Riviera

Road, Houghton, Johannesburg, South Africa

P.O Box 10564, Johannesburg, 2000, South Africa

Tel +27 11 551 3601, Fax +27 11 551 3635

Web: www.legae.co.za, email: [email protected]

Analyst Certification and Disclaimer

I/we the author (s) hereby certify that the views as expressed in this

document are an accurate of my/our personal views on the stock or sector

as covered and reported on by myself/each of us herein. I/we furthermore

certify that no part of my/our compensation was, is or will be related,

directly or indirectly, to the specific recommendations or views as expressed

in this document

This report has been issued by Legae Securities (Pty) Limited. It may not bereproduced or further distributed or published, in whole or in part, for any

purposes. Legae Securities (Pty) Ltd has based this document on information

obtained from sources it believes to be reliable but which it has not

independently verified; Legae Securities (Pty) Limited makes no guarantee,

representation or warranty and accepts no responsibility or liability as to its

accuracy or completeness. Expressions of opinion herein are those of the

author only and are subject to change without notice. This document is not

and should not be construed as an offer or the solicitation of an offer to

purchase or subscribe or sell any investment.

Important Disclosure

This disclosure outlines current conflicts that may unknowingly affect the

objectivity of the analyst(s) with respect to the stock(s) under analysis inthis report. The analyst(s) do not own any shares in the company under

analysis.

Disclaimer & Disclosure

CPI SJ_Glittery Prospects Priced-In_FY13 TP R205_HOLD

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Transcript of CPI SJ_Glittery Prospects Priced-In_FY13 TP R205_HOLD