Net earnings came in at HUF 40.9bn for 4Q05, up 52.1% y/y and down 0.2% q/q, beating both the consensus expectation of HUF 38.9bn (range: HUF 35.6bn – 41.0bn, source: portfolio.hu) and our own estimate of HUF 38.1bn. Net earnings for the full-year of HUF 158.3bn, up 20.4% y/y, came in above management’s target for HUF 155bn. We expect a positive reaction to the results to be bolstered by an improvement in the quality of earnings versus last quarter, with a much lower dependence on securities gains and net interest income beating expectations. Of course, the market will also be looking for guidance on the outlook for 2006. A conference call has been scheduled for this afternoon at 15:30 CET (international dial-in +44 207 162 0025, US dial-in +1 334 323 6201).
Net loan growth (total, consolidated) picked up substantially to 6.9% q/q and 27.5% y/y in 4Q05 (versus 3.5% q/q and 26.0% y/y in 3Q05) and exceeded our expectation (+3.5% q/q). Incremental growth of gross loans equated to HUF 212.6bn in 4Q05 (versus HUF 108.0bn in 3Q05 and HUF 153.8bn in 2Q05). Of this, HUF 77.9bn was generated by foreign subsidiaries (versus HUF 28.2bn in 3Q05 and HUF 26.4bn in 2Q05). Hence, the momentum has improved both at home and abroad. Bulgarian DSK, where loan growth had slowed on the back of restrictions imposed by the BNB, saw a jump in incremental lending by HUF 42.2bn or by 12.3% q/q in 4Q05 (versus just HUF 9bn or +2.7% q/q in BGN-terms in 3Q05). In Hungary, whilst market share was maintained in overall lending at 21.4% in 4Q05, the lending mix could have been better. There was strength in corporate lending in 4Q05 but a slip in market share in retail mortgages from 47.4% to 46.4% (-1 p.p.) and in consumer lending from 24.7% to 24.4% (-0.3 p.p.).
Net interest income came in at HUF 79.7bn for 4Q05, up 20.2% y/y and 6.5% q/q, beating both the consensus expectation of HUF 76.6bn and our own estimate for HUF 74.3bn. The net interest margin (before adjusting for swaps) thereby rose to 6.30% in 4Q05 from 6.24% in 3Q05. However, note that there was a shift to an imbedded net swap gain of HUF 3.7bn in 4Q05 from a loss of HUF 1.1bn in 3Q05 and that there was a corresponding decline on the line of FX gains to HUF 0.6bn for 4Q05, down 61.8% y/y and 86.2% q/q. The two line items are related, as IAS 39 influences the bank’s FX open position and balance sheet revaluation gains (losses). After adjusting for the effects of swaps, the net interest margin dropped to 6.01% in 4Q05 from 6.32% in 3Q05. Though a rise in the yield curve over the quarter should have provided some relief to the margin, competition for retail deposits and lending is increasing.
Non-interest income came in at HUF 38.5bn for 4Q05, up 26.0% y/y but down 3.5% q/q, above our expectation (HUF 36.9bn). Notably, there was a decline in both FX gains (discussed above) and net securities gains, giving the impression of improved quality of income. Net securities gains came in at HUF 1.5bn in 4Q05 versus HUF 5.7bn in 3Q05 and below our expectation for HUF 2.0bn. At the same time, net fee income came in at HUF 28.1bn, up 36.0% y/y and 13.8% q/q, above our expectation for HUF 27.5bn. Net insurance income surged to HUF 5.1bn, up 270% y/y and 751% q/q, above our expectation for HUF 3.1bn. We will be looking for guidance on the outlook for insurance in 2006 but this level of net income (derived mainly from a sharp 30.3% fall in expense in 4Q05) does not appear to be sustainable.
Operating costs (excluding special bank-tax) came in at HUF 58.1bn, down 4.1% y/y but up 7.1% q/q, slightly above our expectation (HUF 57.0bn). Costs at OTP Bank have a tendency to be seasonally higher in the fourth quarter. Personnel expenses came in at HUF 28.0bn, up 7.2% y/y and 14.8% q/q, above our expectation of HUF 26.3bn. This appears mainly due to a jump in personnel expense at DSK by 189.5% q/q to HUF 4.5bn in 4Q05, as funds earmarked for restructuring were used instead to pay year-end bonuses. This explanation also serves as a partial explanation for the level of other G&A costs, which came in at HUF 24bn, down 10.2% y/y and 1.9% q/q, below our estimate of HUF 25.4bn. Depreciation costs came in at HUF 6.1bn in 4Q05, down 21.1% y/y but up 13% q/q, versus an expectation of HUF 5.4bn.
Net provisioning requirements of HUF 7.0bn in 4Q05, up 58.8% y/y but down 19.4% q/q, were higher than our expectation (HUF 5.9bn) and management guidance (HUF 4.4bn). The level of provisioning equated to 88bp of average gross loans in 4Q05 versus 114bp in 3Q05 and 73bp in 4Q04. Whilst the level of NPL/gross loans dropped back from 3.8% in 3Q05 to 3.6% in 4Q05, there was a shift in the structure of the portfolio from the below-average to the doubtful category. Hence, provision coverage of NPLs was lifted from 72.4% in 3Q05 to 75.6% in 4Q05. Whilst there appears to have been a lift in the run-rate of provisioning requirements at the bank, management has indicated that the higher level of provisioning also reflects a prudent approach to the FX-denominated loan portfolio, after recent currency volatility.
Taxes: The effective tax rate (including special bank-tax) came in at 23.0% for 4Q05, up from 20.8% in 3Q05 and above our expectation for 21.0%. The average for the full-year was 21.7%.
Dividend policy remains unchanged. OTP plans to pay a dividend of HUF 197 per share out of its 2005 earnings, equating to a payout of 40% of the bank’s non-consolidated HAR-based result. In light of the bank’s substantial share buybacks in recent months and its acquisition policy, we view the dividend favourably.
Buy rating reiterated: We maintain our Buy rating on OTP Bank, which is the cheapest bank in the region, trading on a 2006F P/E of 11.5x versus an average for the CEE banks of 15.8x. It is the only bank in the region trading at a discount to the FTSE Eurofirst 300 banks index on a 2006F P/E of 12.8x. We acknowledge the risk to the HUF posed by the Hungary’s twin deficits but looking at the valuation of the bank relative to its peer group, we believe these concerns are overdone.