Highlights: PNB continued to consolidate its balance sheet with advances growing by just 4% y-o-y. Margins were stable at 3.52%, aided by improving CASA mix and declining wholesale/bulk deposits mix. One-off treasury gains of R2.84 bn (223% y-o-y) helped offset the asset quality stresses, which remained the major pain point.

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Asset quality continued to disappoint. Fresh slippages remained high at 4.6%, so did write-offs, but credit costs remained low, which was reflected in a further decline in provision coverage. Restructured loans also remained high at 11% of loans, with slippages increasing to 16%. PNB classified a large gems and jewellery account (R16.6 bn) as NPL in Q1, which pushed up slippages. Similarly, it also restructured the Bina (R11.2 bn) power project, which is a thermal IPP (independent power producer) , but its COD (commercial operation date) has been extended.

Outlook: PNB's loan growth is likely to remain below industry averages. We therefore cut our EPS by 9% /15% for FY14e/15e and introduce FY16 estimates.

Reiterate UW (underweight): PNB's forward valuations have corrected significantly in the past six months from 6x PE and 1x P/AB (adjusted book value) to 4.4x PE and 0.7x P/AB. However, to figure out the appropriate multiples, we compare the current phase and the FY02-03 period, which was the worst phase of the last decade.

PNB has seen sub-1% ROA only in FY01-02 and it is likely to go back to those levels over FY14-15e. Asset quality stresses were at their worst in FY02-03 at 12-15% GNPLs (gross NPLs) and we are likely to see gross stressed assets increasing to 17% of loans by FY15e. Balance sheet consolidation is happening for the first time, while margins have declined steadily. PNB's forward PE (price-to-earning multiple) is still above the decade-low of 4x.

We continue to adjust the book value for the unprovided NPLs and give a further 10% discount to the PB multiple to factor in potential stress that is likely to come from the power sector and restructured loans. We now cut our target multiples from 0.8x P/AB and 5x PE to 0.7x P/AB and 4x PE and our EPM (economic profit model) value from R1,010 to R679 as: (i) macro remains weak, which should further affect its profitability, (ii) loan growth, margins and asset quality stress are approaching the weakest point of the past decade, (iii) profitability will likely decline to the decade low of 0.8% RoA and 13-14% RoE by FY15e. Blending our PE, P/AB and EPM values at 20%, 70% and 10%, we arrive at a revised target price of R551 (from R766).

Upside risks to our call are bottoming out of growth and asset quality cycle; potential resolution of the power sector issues.