Here’s The Story Behind Equity’s Ks15Bn Profit

Equity Group (EQTY) told you that it earned Ks15.1 billion in profits in the nine months to September 2016. But if you didn’t dig deeper into the earnings report, there’s a strong chance you missed what any serious investor should never miss: what’s fueling the profits. 

Without knowing how Equity achieved its profits and asking yourself questions such as whether the trend can be repeated, you may have a difficult time deciding what to do with Equity stock.
 

Get the picture
Here’s is a breakdown of Equity’s profit for the nine months to September.

First, the reported Ks15.1 billion profit rose 18% year-over-year, or YoY.  Second, the profit works out to EPS (earnings per share) of Ks4.00, up from Ks3.40 in the year-ago period. Third, Equity’s gains in the latest nine months period were driven largely by returns from investment in government debt. Equity took advantage of the government’s hunger for cash to increase its investment in government bonds to Ks82.4 billion, up a whopping 156% YoY. The strategy paid off as the bank company reported a 26% jump in interest income to more than Ks39.8 billion.

Equity loans and deposits up as well

 

The chart above shows Equity’s customer deposits growth between September 2015 and September 2016. The company registered in an increase in its banking activities in the latest period as its loan book grew 3% YoY, while customer deposits rose about 4.8% YoY.

A cause for concern
Despite the sharp increase in profits in the nine months to September, investors should remember that Equity’s growing loan loss provision is a negative sign – it hints at a trouble in the lending business and Equity is not the only lender facing the problem. Equity doubled its cover for loan losses to Ks3.3 billion in the latest nine months period.  The move to increase provision for bad loans came on the back of a report that the company’s net non-performing loans doubled to more than Ks1 billion.

Can Equity continue milking the cash cow?
The law that limits the interest banks can charge on customer loans is redirecting lenders’ focus to investing in more lucrative government debt.
That said, the fact that the government continues to show appetite for more debt should be a boon for lenders like Equity. The cash shortage in the government stems from KRA failing to meet revenue collection targets and no one knows when KRA will start meeting its revenue collection goals. Until that happens, government is likely to continue borrowing. 

It was recently reported in the press that the government is looking to borrow about Ks600 billion from domestic and overseas lenders.  But the takeaway here is that target for domestic borrowing has been boosted by Ks59 billion, which means the government will now borrow less from foreign lenders and more locally. The increased domestic borrowing target should mean more business for Equity and peers.