Intercorp Financial Services Is Ready To Take Off (NYSE:IFS)

Intercorp Financial Services (NYSE:IFS) is a leading provider of financial services in Peru. IFS is a holding company that manages its operations through subsidiaries (Fig 1) with four segments: banking (Interbank), insurance (Interseguro), wealth management (Inteligo Bank), and payments (Izipay). Intercorp Peru controls IFS with a 71.22% equity stake.

Source: IFS Fiscal Year results presentation – Fig 1

This is the first time we have followed up on IFS on Seeking Alpha; however, we are a long-term investor with a good knowledge of the European financial markets for both banking and insurance.

Why are we positive?

Looking at the IFS’s stock price evolution, we can clearly see that the company has not benefitted from the interest rate uplift. Here at the Lab, we believe that IFS shares remained behind for two reasons: En Niño evolution and the Peruvian social unrest. For IFS new readers, we should explain what El Niño and how it might impact IFS earnings. El Niño is an irregular climate phenomenon that exhibits variation in sea temperatures and winds over the tropical Pacific Ocean. These severe weather conditions affect the local climate and disrupt weather patterns. Consequently, it leads to droughts in some places and intense storms in others. According to RSG research, in case of an impact of El Niño, the Peruvian economy might lose up to 5% of its total GDP income. This is due to lost revenue and higher costs. The coastal El Niño usually dissipates in April. Therefore, we believe the likelihood of a more severe En Niño has now passed. This might alleviate bank provision and create stable net income generation.

In recent years, the IMF has defined Peru as the rising star of the LATAM region. This was backed by low inflation, economic stability, and steady growth. However, the country’s economy has waned in the past two years due to ongoing political instability. Post-COVID-19 outbreaks, there was a constitutional crisis and a series of presidential resignations. That said, we believe the Peruvian political landscape is improving, and we should price a better outlook for the years ahead.

Fig 2

Earnings review and Positive IFS takes

IFS delivered a Q4 net income of S$285 million. On a positive note, this was 47% higher than the Q3 results. This performance was also higher than the market consensus. In detail, the upbeat earnings beat was mainly due to 1) a lower-than-expected provision due to El Niño and 2) a recovery in Interseguro and Inteligo; these are the insurance and the wealth management, respectively. In number, the Group’s consolidated ROE reached 11.6% vs. an 8-10% guidance.

Looking at the details, we report the following key operating highlights (Fig 3) with our forward-thinking considerations:

1. Despite a difficult period explained by softer mortgage lending dynamics and a weak economic trend, IFS loan growth was up by 3%. We expect solid growth in 2024. For this reason, we forecast top-line sales of S$6.6 billion with a net interest income of S$5 billion;
2. The net interest income slightly declines year-on-year. We also notice a pressure of approximately 20 basis points on a quarterly basis. This was due to lower interest-earning assets and higher inter-bank funds;
3. IFS operating expenses were almost flat, with an efficiency ratio of 42.9% from 45.4%. Having listened to the analyst call, we believe the management team will tight expenses in the banking business in 2024. This might provide supportive operating leverage in a scenario of a higher-for-longer interest rate;
4. On a negative note, in Q4, the NPL ratio slightly deteriorated by ten basis points to 2.6%. With higher provision charges reflecting a current cost of risk of 5.1%, we are guiding a CoR of 4.5% in 2024. Still, we positively report a safe balance sheet with a CET1 up by 60 basis points to 11.8% in Q4. Therefore, the company is still protected by an economic slowdown. In our estimates, we anticipate provisions of S$1.5 billion;
5. Our estimates forecast a relatively stable tax rate set at 12%. Therefore, we reach a net income projection of S$1.48 billion with an EPS of S$12.86.

Fig 3

Valuation

Higher provision expenses heavily impacted IFS results. Despite that, the company closed with a ROE of 11.3% (Fig 4). Meanwhile, the portfolio quality slightly deteriorated, but the company’s provision requirements remained high. Still, considering a weak economic scenario, the company valuation looks attractive. Looking at the details, it seems that the company is priced in a backward view. At the current price, IFS trades at a 9x P/E; however, considering lower provisions (from S$2.1 billion to S$1.5 billion), which are still high compared to the past, the company EPS reached S$12.86. Converting Soles to US dollar, we arrive at an EPS of $3.5. Applying an unchanged P/E target of 9x, we should value IFS with a buy rating target of $31.5 per share. Therefore, we believe IFS offers a strong cyclical ROE normalization story for 2024. In addition, IFS shares look cheap compared to Credicorp. On a book value valuation methodology, IFS trades at 1.05x vs. Credicorp at 1.5x. This second valuation fully confirmed our outperforming weight. In addition, we suggest to buy IFS before April 17th. Indeed, the company goes ex-dividend and pays a DPS of $1.00. IFS earnings well cover the company’s dividend payment. IFS has a payout ratio below 30%.

Fig 4

Risks

Downside risks to our target price include 1) asset quality deterioration considering political uncertainty and a weaker macro scenario, 2) regulatory risks on the insurance business, 3) a persistently higher cost of risks, 4) lower asset growth due to a decrease in commercial and consumer loans, and 5) lower fee income attributed to Peru’s decreased activity.

Conclusion

Following the Q4 call, IFS’s management teams are guiding for better results. Here at the Lab, we believe this is supported by lower El Niño probability and less social unrest. In addition, the company was highly profitable even in challenging circumstances, confirming a double-digit return on equity. A 4.3% dividend yield and a supportive valuation make IFS a buy.