CLSA Indonesian Banks, Asian Profit Kings

Bret Ginesky looks at Indonesian banks. Through application of Dupont® analysis, we disaggregate the ROA by its primary components to identify the profitability drivers. Despite being more conservative (less financial leverage than their peers), Indonesian banks produce higher ROEs.

The top 3 Indonesian banks (BCA, Bank Rakyat, and Bank Mandiri) have an average ROA of 2.6% which represents a 70% premium to the non-Indonesian top 10 peer average of 1.5%.

Indonesian banks have higher operating expenses and provisions. However, combined with higher lending rates Indo banks provide an additional margin of safety. On a relative value matrix Indonesian banks remain attractively priced looking at both ROA and ROE, particularly Bank Rakyat and Bank Mandiri. We believe a higher valuation is warranted as profitability is superior based on ROA.

Key points from the report:
· Three largest banks (BBCA, BBRI, and BMRI) have the highest ROA in Asia.
· Indonesian banks employ less leverage than their peers.
· While ROA could see moderate contraction, ROE is operating from a position of strength as highly capitalized Indonesian banks could increase leverage to maintain profitability.
· Indonesian banks set themselves apart through higher NIMs. This is a function of low credit penetration (26% loans/GDP) and perceived higher risk of default due to historical events.
· Higher operating expenses at Indonesia’s top three banks are a function of archipelago logistics, lack of a centralized credit monitoring system and emerging market bottlenecks. Greater efficiency gains could help offset NIM contraction as competition drives rates lower.
· Provision/assets at Indonesian banks are double the peer average as implied risks remain elevated.
· Excess provisioning combined with higher lending rates provides banks with an additional margin of safety.
· In our view, a higher valuation is warranted as profitability is superior based on ROA. Indonesian banks are underleveraged when compared to Asian peers.
· Bret is advising clients to maintain OWT Indonesian banks.
· Bank Mandiri (BMRI IJ) and Bank Rakyat (BBRI IJ) continue to look attractive at current multiples based on ROA and ROE.