Standard Chartered (STAN) reported a better than peers fourth-quarter result though the focus was the investor update, which builds on some of the earlier announced strategic growth initiatives, in our view.
Specifics include a further reduction in costs totalling $700 million over the next three years, the divestment of its 45% stake in Permata in Indonesia, while targeting annual income growth of 5% to 7%.
Our forecasts are adjusted higher to reflect the above initiatives and fair value estimates increase £7.90 from £7.40. We continue to see the bank’s international network as valuable and the higher growth not factored into its current share price.
A convergence towards our fair value will depend on management execution in returning profitability closer to its cost of capital. While the market expected a turnaround to occur at a quicker pace, the length of a turnaround reflects the difficult task in restructuring the bank. Given the many variables in hitting the return on tangible equity target of 10% by 2021, continuation of the positive trajectory towards that target should be the focus, in our view.
The operating income growth target of 5% to 7% is subjected to economic and capital market conditions and we see headwinds ahead. Global trade is expected to slow while net interest margin will continue to benefit from previous interest rate increases over the medium term, but at a more tepid pace. As reflected in the fourth-quarter result, non-interest income in treasury, wealth management and financial markets were weaker due to adverse capital market conditions.
The bank will rely on its emerging market footprint targeting improvement in key markets in Korea, India, Indonesia, and the UAE, which is expected to lift return on tangible equity by 150 basis points by 2021. We continue to see these markets as attractive given favourable demographics and growing income, providing the bank with higher growth relative to developed markets.
For sizable markets where the bank lacks scale, a greater reliance on digital will see the bank partnering with existing local platforms, depending on functionality required. Relatively for smaller retail banking markets such as those in Africa, the bank will only use a digital approach to increase reach.
Cross-border corporate clients have delivered 10% annual growth for the bank over the last three years, with high return on equity of 13%, compared with clients operating in its respective domestic countries only, where return on equity was a low 1%. The bank is committed to targeting the former group. On capital, the divestment of Permata, the termination of its ship leasing business, and optimisation in its risk models are expected to reduce risk-weighted assets by $21.4 billion, or 8.3% of risk-weighted assets at the end of 2018.
With the bank focusing on lower capital intensity businesses, net risk-weighted assets are expected to rise at a slower pace of 2% annually over the next three years with underlying assets growing at 4% annually. The common equity Tier 1 ratio at the end of 2018 was 14.2% and a decline in risk-weighted assets will see the ratio further climbing above the target range.
The bank is expected to return excess capital to shareholders and noted dividends could double by 2021. Management also noted investments could be deferred to reach the return target of 10%. However, we believe investments should be prioritised given the bank’s exposure to higher-growth geographies, and we are less concerned on the timing of 2021 for the return on equity target.
