Experts divided on whether banks will weather harsh climate

Analysts are divided on the future of East Africa’s top mass-market banks, which have recently registered falling revenues.

Some are upbeat that the change by the lenders towards technology-driven high-volume, low-margin business will boost earnings and control ballooning operational costs.

But others predict lower net interest margins in 2017 because of the reduced interest rates on loans and advances, and increased cost of deposits.

While Sterling Capital Ltd has upgraded its forecast of earnings and profits for Co-operative Bank of Kenya, Equity Bank, KCB and Bank of Kigali, arguing that the cost-cutting measures adopted by these banks would help them maintain their growth trajectory, Cytonn Investment forecast reduced profitability and effectively reduced return on equity.

Through their latest market report on “Banking in Sub-Saharan Africa” Sterling Capital say investors have shown renewed interest in Co-op Bank, Equity and KCB stocks on the Nairobi Securities Exchange (NSE) which could see their share prices grow by  10 per cent, 16.9 per cent and 15.5 per cent   to Ksh15.57 ($0.14) per share, Ksh37.13 ($0.35) per share and Ksh35.24 ($0.33) per share respectively.

The stock of the Bank of Kigali on the Rwandan Stock Exchange (RSE) could increase 20 per cent to Rwf290 ($0.34) from Rwf242 ($0.28).

Last week the share prices of Co-op Bank, Equity, KCB and Bank of Kigali were trading at around Ksh13.50 ($0.13), Ksh30($0.28), Ksh28.50($0.27) and Rwf228 ($0.27) respectively.

On the other hand some analysts steadily downgraded the share price growth for Stanbic Holdings (Kenya), NIC Bank (Kenya), Diamond Trust Bank (Kenya), I&M Bank (Kenya) and Standard Chartered Bank (Kenya), CRDB (Tanzania), National Microfinance Bank (Tanzania), Stanbic Bank (Uganda) and Bank of Baroda (Uganda).

Frugal business model

According to  analysts Co-op Bank displays greater prospects going forward after posting a net profit of Ksh10 billion ($101 million) in the nine months to September compared with Ksh8.6 billion ($83 million) in the same period last year, a 22.3 per cent growth, among the highest in the industry.

The analysts also said Co-op Bank has undertaken a business transformation that is focused on enhancing operational efficiencies, reducing operating costs and improving customer delivery platforms.

The lean and frugal business model the bank has since adopted has helped the bank build significant resilience against shocks such as the recent rates capping law and enhanced capital requirements.

Co-op Bank’s migration of 87 per cent of routine customer transactions away from branches to alternative channels coupled with the rationalisation of resourcing that has seen 63 per cent of staff moved from back office to front-office sales roles has dramatically boosted productivity.

As a result the bank’s operational efficiencies resulting from the Transformation project have cut the bank’s Cost-to-Income Ratio from a high of 53.2 per cent in December 2015 to 47.1 per cent in September.

Sterling Capital says most big banks have ventured into growing non-funded (non-interest) income to cushion against interest income shortfalls while smaller banks will start facing operating challenges with depressed interest income which could lead to consolidation in the region.

According to the report the improvement on cost-to-income (CTI)  ratio depends on the banking  sector’s capacity to drive information technology (IT)  investment for less costly service delivery and greater diversification of alternative banking channels such as automated teller machines (ATM) and point of sale (POS).

READ: Digital banking provides alternative revenue for Kenyan lenders

According to analysts at Cytonn Investment Management Ltd, banks expect to see a reduction in net interest margins in 2017 because of the reduced interest rates on loans and advances and increased cost of funding (deposits).

“With net interest income constituting 72 per cent of the total revenue of listed banks, we expect this to result in reduced profitability and effectively reduced return on equity. To remain profitable, banks are resorting to cost containment initiatives including laying off employees,” the analysts said.

Sterling Capital says KCB has room to leverage on alternate channels and mobile based technology to grow non-interest income amid containing operating costs.

“As the bank remains optimistic to weather the storm surrounding interest rate caps, it is evident that strategy re-ignition is inevitable. The bank will need to remain aggressive on cross selling in order to regain its balance sheet growth momentum,” said report.

According to the report Equity Group remains well focused to weather the challenges as it continues to roll out more innovative products.

By end of 2016, the bank intends to have all its loan products accessible via the mobile platform.

“With the interest rate ceilings now in place, we anticipate greater focus on balance sheet structure to make the bank agile and responsive to changes in the banking landscape. Strengthening focus on the SME segment will continue to drive the bank’s profitability,” according to the report.

According to the analysts from Sterling Capital, the Bank of Kigali has continued to enhance its innovative banking channels which offer timely and convenience services to its customers while maintaining its non-performing loans (NPLs) portfolio at four per cent against the industry average of seven per cent and return on equity (ROE) at 21.6 per cent against the industry average of 9.2 per cent.

“We are hopeful that the bank will maintain high growth and high efficiency levels going forward,” said report.