Honeymoon ends for bank marriages

The year is 2020 and 2,551 civil marriages have been suspended as a result of the Coronavirus with hope that they are moved online where at least half of them will be able to tie the knot on eCitizen. 

But for banks, marriages are still on albeit with little ceremony or ribbon-cutting even as those that drove into the year with a just married sticker have their honeymoons ruined.

In six months a review of the latest banking mergers and acquisitions shows that Coronavirus killed the party even before consummation.

"The profitability of KCB/NBK and CBA/NIC has not significantly improved after the merger last year. However, it is too early to form any opinion on these deals as the transactions were completed towards the end of last year and both sets of banks have had less than 12 months to realise any synergy benefits from the transactions, especially since management's key focus during a majority of that period has been dominated by their response to Covid-19," said Ronak Gadhia, director - sub-Saharan banks at EFG Hermes.

Over the last decade, Kenyan banks had focussed on expanding in the region or turning into bancassurance, leasing and investment due to the belief that the country with over 40 lenders was overbanked with little room to grow here.

However, as prospects in the region withered, risks in currency lapses materialised and the local sector was seized with three years of the rate cap, banks suddenly turned cannibal eating the weak in the manyatta.

But has the banking consolidation that was supposed to boost the race to the coveted Sh1 trillion asset banks, hamstrung their buyers with a bigger burden during the pandemic?

In 2015, Airtel bought 2.2 million Kenyans who had bought extra SIM cards belonging to Essar's yuMobile.

1.1 million subscribers

Two years later 1.1 million subscribers had vanished and by the fourth quarter of 2016 Airtel subscribers had gone from 7.6 million to 6.5 million users.

This was a big lesson that in a country where mobile penetration is so high, mergers and acquisitions risk creating duplicate customers.

A similar situation exists in the banking sector where financial inclusion tripled from 27 percent in 2006 to 83 percent in 2019, and where mergers and acquisitions are turning out to be cannibalistic.

In the first six months of the country's two biggest mergers and acquisitions, the multibillion shilling customer and loan accounts could not help propel buyers to huge profits at a time of Coronavirus induced financial crisis.

KCB, which bought National Bank, increased customer deposits by Sh195 billion while CBA which merged with NIC bank to form NCBA saw a Sh184 billion increase in customer cash.

However when it came to loans, KCB only managed an additional Sh81 billion and suffered a 40 percent decline in profitability to Sh7.5 billion in the half year while NCBA scored Sh128 billion extra loans that made a modest profit growth from Sh2.4 billion to Sh2.6 billion.

"It has always been said Kenya is overbanked given that the top five banks take the bulk of the sector's customers, assets and profits. The mergers and acquisitions are not necessarily for customer acquisition but for synergies and unique niche an acquisition candidate brings to the group," said Gerald Muriuki Genghis Capital research analyst.

Financial inclusion

Mr Gadhia says financial inclusion has actually declined since 2016, when the government introduced interest rate caps; the estimated deposits to GDP ratio fell from 40.4 percent in FY15 to 36.5 percent in FY19 because banks were dis-incentivised by rate caps from carrying out their intermediary functions.

"The hope was that they would turn around this year following the repeal of rate cap last year. There has been setback on the same due to the outbreak of Covid-19," Mr Gadhia said.

Mr Muriuki said the dismal performance of banks who had made major acquisitions was mainly driven by Coronavirus and that it would take some time to realise gains.

"The mergers and acquisitions activity was closely followed by Covid and no one was counting on it. Merger integration is always a process and takes time for synergies to be realised. For KCB-NBK management had made notable progress in recovery of some of the NPLs in 4Q and 1Q. But this is now difficult because of the environment," he said.

During the pandemic, banks have opted to hold onto money, halting dividends to ring fence reserves but for those who were already in negotiations, the pandemic has not stopped the marriages as the fight to be the biggest bank or defend size is always too tempting to be ignored.

During the half year, the second biggest bank Equity managed to get an extra Sh85 billion in customer money while Cooperative Bank, now relegated to fourth largest bank by the NCBA outfit managed an extra Sh61 billion in deposits.

Equity made up for the slower growth in customers by pushing an additional Sh70.7 billion in loans while Cooperative Bank managed Sh14.5 billion more loans.

Now both Equity and Cooperative have opened their purse strings while trying to drive a hard bargain under the current circumstances.

Equity Bank which just recently bought stake in Congolese lender Banque Commerciale Du Congo (BCDC) got a discounted price of $95 million down from $105 million announced in September last year. Cooperative also closed the Jamii Bora deal at Sh1 billion lower than the valuations of Sh1.4 billion that had been anticipated when the bank had attempted to sell to CBA in January 2019.

Extra customers

Buying bulk and bringing in extra customers has also meant more bad debt since almost all the banks that have been up for sale have been troubled even before the advent of the coronavirus. Jami Bora for instance, had not held an annual general meeting for at least two years, a period in which the four institutional investors were in the dark with regard to the company's finances.

It remains to be seen when Jamii Bora now Kingdom Bank makes its first disclosures how deep the black hole of delinquency and capital swallowing depth will face the new owners.

According to ratings agency Moodys, Equity's Congo mined gem BCDC has some weaknesses as its asset quality is exposed to risks, resulting from the bank's relatively high problematic loans and credit concentrations.

Moodys said the bank's high problem loans stock primarily comprises some large legacy delinquent exposures from the mining and general trading sectors, combined with problem loan formation that resulted from the global commodity shock in 2015-16 which led to a significant economic slowdown in 2016-17. "As of December 2018, BCDC's problem loans-to-gross loans stood at 7.5 per cent compared to 10.2 per cent as of December 2017.

BCDC's problem loans ratio is materially lower than the estimated 16.8 percent local average. In addition, the bank's coverage is healthy, with loan loss reserves accounting for 105.0 percent of problem loans at year-end 2018," Moodys said.

For KCB the trade off to capture one of Kenya's leading corporate and state bodies banker has come with a trail of bad loans at NBK which had grown from Sh2.2 billion in 2012 to Sh32.4 billion by the June 2019. Upon acquisition it pushed KCB non-performing loans ratio up to 12 per cent.

This triggered a series of capital injections including Sh5 billion last year and a further Sh3 billion is expected this year to ensure the acquired bank meets minimum capital requirements by the Central bank.

 "The consolidation of NBK is on track, the only thing that is remaining is putting additional capital of Sh3 billion ($27.4 million), which will be completed by the end of September. We have a plan to recover NBK's non-performing loans. We are confident that by the end of the year the NPLs will have come down from 45 per cent to 30 percent," KCB Group Managing Director Joshua OIgara said. Also as a result of the merger, KCB owes CBK an emergency loan for the first time, a Sh7.4 billion debt inherited from NBK which has now been partly paid off to cut down to Sh4.9 billion by the half of this year.

Even while leaking money to buffer capital KCB has been forced to set aside Sh11 billion from their bottom line as provisions as insurance for bad loans by the half year, the biggest provisioning in the sector.

Impact of Coronavirus

Equity Bank's provisioning stood at Sh8 billion while NCBA had set aside Sh7,6 billion and Cooperative Sh1.8 billion.

While this has been attributed largely to the impact of Coronavirus, it shows that the bigger the lender the more money they have had to provision hitting the newlywed banks harder.

Although the Central Bank of Kenya moved to keep loans that go sour as a result of the coronavirus pandemic out of banks’ bad books by allowing them to give personal borrowers up to 12 month holidays and restructure SME loans Banks still took a huge hit.

"Provisions under IFRS 9 are forward looking meaning you provide for possible loan defaults. The moratoriums were a way to soften the impact of the business environment on provision levels and to accommodate customer loans who would ideally been considered defaulted loans and if this was the case, provisions would have been significantly more than we have seen," Mr Muriuki said.

Despite the rise in defaults and there has not been a requisite spike in auctions, bankruptcy and other enforcement, since in the current environment, auctions are also difficult to realise (less liquid buyers than there are sellers).

As banks and governments signal a return to normalcy banks will either be hit by more calamity as businesses that have been starved of cash collapse and a slow recovery hurts the economy or as they remain optimistic, they will start making recoveries and claw back the provisioning.

"Banks are re-considering auctions with preference for loan restructuring. If the economic situation improves then there will be write-backs to the provisions," Mr Muriuki said.

Mr Gadhia believes banks including the newlyweds should return to a growth trajectory once the environment normalizes, assuming no structural impact from the pandemic. 

"The issue with the Kenyan banking sector over the last few years is that the private sector has been increasingly crowded out by the government due to the latter's expansionary fiscal policy. The sector, therefore, needs the government to reduce its reliance on domestic borrowing by either reducing the fiscal deficit and/ or look for alternative sources of funding," he said.

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