Turkish Banks
Turkey / sector / banking Tuning-in slower rhythm
January 27, 2009
Bulent Sengonul
bulents@ekspresinvest.com
+90 212 336 5174
Can Demir
cand@ekspresinvest.com
+90 212 336 5108
Searching for a new equilibrium in valuations. Although the long term fundamental
outlook of the Turkish banks remain high, they will have to undergo a series of strong
distress tests over the medium term. The basic risks that the banks will have to face are
the sharp slowdown in the overall growth activity in the economy and a high probability
of acceleration in delinquency rates in almost all lending segments. Rising funding costs
and decreasing loan demand are other main problems that the banks will have to tackle.
Distressed earnings and growth outlook. Worsening macro conditions will inevitably
put a dent on the core profitability and non interest revenue items, and will trigger
increased provisions for loan losses, which all call for a weaker earnings outlook for the
banks especially in 2009. Still, we estimate that banks’ 2009 NIMs to remain largely flat
vis a vis the 2008 estimated year end figures, whereas some of the non-interest revenue
items will tumble 20% over the same period. Another culprit will be the loan loss
provisions, which are estimated to surge by 62% in 2009. All these have led us to revise
down our earning estimates by 15% for 2009 and by 9% for 2010. However, factoring
the impact of the recent rate cuts into our CoE assumptions led us to make an upward
revision in our target prices by 9%.
Akbank – Re-allocating capital… High free equity is no doubt a strong ammunition, yet
the bank will have to tackle with heavy syndication redemptions and asset quality
problems for a while. MARKET UNDERPERFORMER maintained on valuation grounds.
Garanti Bank – Taking care of the vulnerabilities… High FX liquidity and flexible
nature of its balance sheet will protect the bank from the current headwinds. MARKET
OUTPERFORMER maintained
Halkbank – Unique balance sheet will be a cushion. Despite the high exposure to
SMEs, the defensive balance sheet (i.e. high liquidity and lack of syndications or
securitizations) and the bank’s strong efficiency are the rare strengths. MARKET
OUTPERFORMER maintained.
Isbank – Defensive nature, but a volatile cost structure. High opex will likely get
streamlined in the periods to come. Rich TL funding and lower funding costs are the
fundamental strengths. High volatility in provisioning and opex distort the earnings
visibility. MARKET PERFORMER maintained.
Vakifbank – Deep discounts should narrow. All bad news appear to be in the price.
We expect excessive discounts to get closer to the averages. Raised to MARKET
OUTPERFORMER.
Yapi Kredi Bank – Turnaround plans heavily trimmed down. Earnings and growth
momentum have to stall amidst worsening macro conditions. Vulnerabilities especially
on the asset quality and efficiency fronts are likely to surface. MARKET PERFORMER
maintained.
Risks to our valuations: Further slowdown in economic activity may bring additional
burden on the banks’ profitability and risk outlook. Destabilization in the global financial
markets is another risk for the banks. Regulatory changes, possible competition in
deposits, high debt burden of the private sector are factors that potentially fuel the risks.

Table of Contents Page
Executive Summary 3
Valuation – Dividend Discount Model 6
Main assumptions in our DDM Methodology 6
Revisions in estimates and target Mcaps 7
International comparison 8
Turkish Banking Sector 9
Resilience in a distress test 9
Banking metrics to tune in slower rhythm 10
A visible change in the asset mix is on the cards 12
Funding will be tight and more reliant on deposits 13
Wholesale funding: syndications in place, securitizations out 14
Earnings outlook in 2009 and onwards 15
Scale and liquidity work in favor of large banks in turbulence 19
Rising NPLs to erode banks’ bottom lines in 2009-2010 20
Non interest income bases to lose steam 25
Repercussions of the FX volatility on banks’ equity bases 26
Capital adequacy ratios to improve in 2009 27
How is the capital being managed? 28
Regulatory measures to cope with the crises 29
Akbank 33
Garanti Bank 36
Halkbank 39
Isbank 42
Vakifbank 45
Yapi Kredi Bank 48

Executive summary
Increasing short term risks vs. the embedded long term value
A thorny way ahead… The colossal magnitude of the global credit crunch is now being fully
felt in Turkey, the primary impact being a major recession in 2009. Looking at the extent and
the depth of the crisis, the recovery period will be a prolonged one, requiring lots of endurance
from all. Turkish banking sector, deserving a credit for the country’s macroeconomic resilience,
entered the crisis period with solid financial indicators, standing relatively less vulnerable to the
strong headwinds. That said, the challenges are immeasurable compared to the prosperous
2003-2007 period and this built-up resilience will be tested heavily within the next two years.
The growth rates and the earnings momentum will decrease drastically over this period, yet the
Turkish banks are poised to be profitable and continue to present attractive values for investors
over mid-to long run.
…yet larger banks are to withstand better. All banks will be affected from the increasing
risks in the economy and in the sector, yet the extent of the damage will widely vary for each
individual bank. Large banks are, no doubt, more advantageous to weather the crisis with their
higher liquidity and diversified earnings structure. Some banks will suffer from lower liquidity
and weaker capital bases, while others will suffer more from the deterioration in asset quality.
The common inclination for all banks in this new era will be becoming less willing to extend
new credits or being overly selective, de-levering the balance sheet amidst the dried up foreign
borrowing and striving to keep the asset quality at higher levels as much as possible. There will
of course be relative winners in this process, capitalizing on their higher liquidity and other
strengths of their balance sheets.
Ability to reshuffle the balance sheet mix based on new funding constraints will be the
key. The main balance sheet constraint will be the scarcity of foreign funding, which is one of
the main hurdles for balance sheet growth. Banks’ performance in rolling over their maturing
syndications will be very crucial for balance sheet growth rates going forward. We expect 60-70
% average roll over rates in 2009. The 2008 year-end readings for roll over rates, which
reached the 60-80% region, were quite encouraging. The main repercussion of the limited
access to foreign borrowing will be the banks’ diminishing capacity to create long term loan
placements. House loans on the consumer side and project financing on the corporate
segments are the two loan types that will likely face steep deceleration in the periods to come.
The margin effect of the higher funding costs will be felt more strongly over the short term, due
to the re-pricing effect of interest earning assets. More investment in securities seems
inevitable.
Loan growth rates to stall drastically. Scarcity of foreign borrowing will drastically lower the
long-term asset creation capacity of the Turkish banks. They will be reluctant to fund their
longer term loan books with their very short term deposits. The credit risk (at least the amount
currently being felt by the banks) has never been this high for a long time. Concerns over the
possibility of rising NPLs are deterring banks from increasing loan placements even when the
funding costs get more normalized. All these factors led us to downsize our loan book growth
forecasts for the sector to 12% in 2009 and to 18% for 2010.
We have slashed down our 2009 earnings forecasts for banks by 15% on average. NIMs
will display a nearly flat pattern in 2009 on average, while ROAEs will contract by 460bps over
the same period. The earnings momentum will partially recover in 2010 as we forecast 21%
average bottom line growth on annual basis. As for 2009, lower loan placements and higher
funding costs, especially on the FX side will continue to pressurize the operating profitability,

while some non interest revenue items, i.e. NPL recoveries, gains on asset sales, will markedly
contract in the 2009-10 period. Last but not least, banks’ earnings bases will also be under
heavy pressure from the anticipated surge in the loan loss provisions.
Long term value is there, but beware of the credit risks over the short term. We have
incorporated our base case assumptions into our models, which, we believe, conservatively
capture the risks ahead of the banks over the 2009-10 period. Still, the main challenge will be
dealing with the credit risks. Relying on the defensive nature of their balance sheets, we reckon
that some banks are well equipped to weather the recession relatively more easily. Therefore,
we prefer to be selective although the long term value prospects are intact for almost all the
banks we cover. In that respect, we like those banks whose loan portfolios are well diversified
with lower NPL generation. Liquidity and flexibility of balance sheets are other factors that we
attach great importance in these tough times.
Our first pick is Halkbank. Halkbank’s unique balance sheet structure will help the bank to
withstand the crisis period better than its peers. Its high liquidity, boosted by its large deposit
base and redemptions of the security portfolio, will be a solid competitive advantage in this
environment. One unique property of the balance sheet is the very low leverage level despite
the past high dividend pay-out ratios. Halkbank has no syndications or securitizations to roll
over and therefore, it will not have to de-lever its balance sheet in this environment. This will
give the bank a rare opportunity to increase its market shares in the lending business. The
bank’s high exposure to the SME business is the main danger for its asset quality, however we
do not see a major problem on that front either, given the relatively lower NPL generation
feature of the portfolio. Note that the bank has not generated a sizable NPL since 2002 and its
current NPL stock basically stems from the pre-2002 period. Still, we incorporated a very
conservative NPL rate for the bank for the 2009-10 period. Its competitive edge is being further
bolstered by its high efficiency rates, which stand out as the best among the peer group.
We continue to rate Garanti Bank as MARKET OUTPERFORMER with its strong FX
liquidity and higher asset quality. The bank is highly exposed to the credit card business,
which is set to generate higher NPL rates in the periods to come, however this is being largely
offset by its very low NPL generation from its corporate lending segments. The bank is ranked
second in the credit card market and the underlying NPL ratios in this business are around 6.5-
7%. Garanti Bank’s NPL ratio in the credit card segment is merely 5% and this level is further
alleviated by the very low NPL rates in other lending segments. We believe that Garanti Bank
will be one of the winners in the post-crises era, as it has been strengthening its relatively
weaker TL deposit funding base for some time. The bank uses the positive contribution of the
newly opened branches to strengthen its TL base and has also taken advantage of the
reverse-currency substitution, because many FX deposit holders converted their FX deposit
into TL deposits back in the second half of 2008. The bank is poised to roll over a higher
portion of its maturing syndications compared to its competitors as we saw in its latest deal,
further enriching its already rich FX liquidity. Note that, the headwinds that GE - one of the
main shareholders of Garanti Bank - has been facing due to the global credit crisis, may create
further woes on the performance of the bank’s shares, raising the concerns regarding the
commitment degree of GE to Garanti Bank.
We raise our rating for Vakifbank to MARKET OUTPERFORMER. Although we have been
conservative in building our forecasts for the 2009-10 period, we have come to the conclusion
that the bank’s shares trade at excessive discounts relative to its peers. The bank suffered
from margin erosion throughout 2008, although the year-end bond rally has so far been a
breather for Vakifbank in terms of re-priced yields and trading gains. The balance sheet growth
will be partially capped by its syndication roll-overs and its high dependency on the state

deposits, however the bank will benefit from its relatively vast TL funding base to boost its TL
loan portfolio. Vakifbank’s consumer loans are largely composed of salary/retired payroll clients
and generate fewer NPLs compared to the sector averages. SME-related asset quality
problems and lower capital adequacy levels are the other issues that the bank will have to
address during the next two years.
We maintain our MARKET PERFORMER rating for Yapi Kredi Bank (YKB). The bank
entered the crisis with well-timed rights issue and a successful roll over of a large syndication.
Moreover, the Koc Group deposited the proceeds of Migros into the bank to bolster the deposit
base. Still, the challenges are bigger than the prospects over the short term because it will be
quite a difficult task to maintain high efficiency amidst the weakness on the earnings side. The
NPL generation rate of YKB’s loan portfolio is higher compared to the peer group averages,
fuelled by its high exposure to credit card and SME segments. The CBT will likely lower the
credit card ceiling rates in April 2009, which is not good news for the bank’s TL term loan
spreads.
We maintain our MARKET PERFORMER rating for Isbank. The bank strong brand name
and large branch network continue to attract a very healthy liquidity stream that is putting it
ahead of the competition. Isbank is well equipped to emerge as one of the winners from the
crisis period with its large core deposit base. Given that however, high volatility of the cost
structure, caused by unpredictable provisioning policies and high operating expenses, lowers
the earning visibility to a great extent. Asset quality will be another issue that the bank will be
tackling in the coming periods, considering its leadership in the SME business.
We maintain our MARKET UNDERPERFORMER rating for Akbank. Akbank’s high free
equity and ample liquidity will act as a cushion in this environment. The biggest threat will be on
the asset quality side since the bank’s aggressive growth in the SME segment and credit cards
in the recent years led to a surge in new NPL formation. This trend will likely remain over the
medium term, further pressurizing the earning base. Its loan portfolio is mainly composed of
unsecured loans, carrying 100% risk weightings, which lead to underutilization of the capital.
Moreover, the bank will be facing a heavy syndication redemption schedule in 2009, which will
further decelerate the asset growth over the short term. A visible shift to securities is expected,
which will increase the chance of some windfall gains in the 2009-10 period.
Risks to our valuations: Risks surrounding the operating environment of the Turkish banks
have substantially increased as the effects of the global financial crises have started to reign in
the country. Instability in macro conditions will likely prevail especially in 2009, further fuelling
the risks for banks. The ongoing slowdown in the economy may well turn out to be a prolonged
recession in the country, creating further pressures on the banks’ earnings and risk outlook.
The funding conditions have inexorably worsened compared to the pre-crises period. Foreign
funds have become scarce and more expensive, adversely affecting the banks’ spreads and
margins. The success in rolling over the short term syndications will reshape the fate of the
banks in terms of asset growth and FX liquidity. The deepening slowdown will exacerbate the
non-performing loans in the system, leading to major erosions in banks’ earnings and capital
bases. Declining corporate earnings and increasing job losses may further deteriorate the
asset quality outlook for banks. The high leverage of the corporate segment may also boost the
new NPL formation in the system. Regulators are inclined to be stricter in times of uncertainty
and risen risk inertia, which might create additional regulatory risks for banks and eventually
affect the growth and earning performances of the banks under our coverage.

Valuation – Dividend Discount Model
Our preferred valuation methodology in valuing any bank is the dividend discount model. This
model properly captures the free cash flow available to shareholders as forecast dividends
represent the future cash flow available to shareholders. Growth trends of the sector, the
company and shareholders’ behaviour all shape the dividend distribution and retention rates
going forward. We prefer to construe our valuation models in ten year periods, where we
basically incorporate our forecasts for net earnings and equity. Normally we would decompose
the models into three phases, these phases being high growth, slower growth and stable
growth. In these three time spans, the dividend distribution and retention rates may change
drastically.
Note that our forecast and valuation figures are based on TL-denominated Banking Regulation
and Supervision Agency (BRSA) bank-only figures.
Main Assumptions in our DDM methodology
􀂃 We forecasted equity and earnings figures between 2009-2011. We assigned growth
phase and stable phase ROE assumptions for the banks, taking into account growth
rates going forward.
􀂃 The ROE is a function of the bank’s expected operating income, capital adequacy and
the profitability of the segments where the bank has a relatively higher presence.
Dividend payments also shape the bank’s equity and retained earnings. As for the
banks’ growth period ROEs, we tend to incorporate our spread-volume analysis and
come up with the long term top line forecasts that basically form the banks’ ROEs.
􀂃 Dividend payouts are a function of the bank’s ROE and declining retention rates.
􀂃 As for the growth phase dividend pay-outs, we took into account the banks’ current
dividend payouts and gradually increased those to reach our long term dividend
payout assumptions. Normally, Turkish banks are not high dividend payers, although
this has been changing for the large cap banks in recent years.
􀂃 We applied our cost of equity (CoE) calculation in reaching the discount rate. A 6.5%
equity risk premium was calculated assigning a Beta coefficient of 1. We revised our
CoE assumptions, taking into account CBT’s cumulative 375bps rate cut in its last
three meetings. We incorporated an additional 50bps rate cut for 2009 and another
50bps for 2010 in our forecasts. Accordingly, our assumed cost of equity for the
growth period starts at 22.2%, while the perpetual growth rate assumption (TL nominal
terms) stands at 9%. We assume a long term CoE of 16.7% and cut our equity risk
premium assumption by 50bps to 6% for perpetuity.

We revised our price targets up by 9% on the back of the lower CoEs shaped by the
recent aggressive rate cuts. Note that, we have applied more bearish margin and ROE
assumptions (especially for the growth phase) into our forecasts covering the growth and
stable periods. Our new assumptions and forecasts resulted in a 9% upward revision of our
target prices for the banks under our coverage.