How banks can self-examine and turn rate capping law into a tool that works for their benefit

Despite the divergent opinions held on the merits and demerits of the Banking (Amendment) Bill 2015, it became law on August 24, 2016 when President Uhuru Kenyatta assented to it.

Banks therefore have had to deal not only with reduced interest income (not more than four percentage points above the base rate set by the central bank), which is traditionally the banks’ main income stream, but also pay more for customer savings (at least 70 per cent of central bank base rate) which basically reduces their net interest income.

The same Act also requires banks to disclose all the charges and terms of any loan to a customer and goes ahead to state the consequences of not doing so for the banks and their CEOs.

It may be too early to know implications of the Act on the economy as well as on new borrowing customers and their access to loans. We will know the facts when banks release their 2016 full year results.

However, since the effective date for this law was September 14, 2016, its total effect may not necessarily have been felt in the 2016 financial year results but will be clearer in this year’s results.

An analysis of quarter four of 2016 and quarter one of 2017 results will indicate more clearly the impact of the Act. We do know now that there is a general decline in credit growth across the banking sector.

This decline may have been exacerbated by banks’ unwillingness to lend to some customers who they would have lent to previously.

Holding all factors constant, the expectation is a decline in interest income and therefore the net profits year on year, especially for retail focused banks.

There is also high probability that for banks that will have increased net profit, the growth rate would be lower year on year compared to previous years.

Generally speaking, banks in Kenya had been on an upward profits trajectory over the years and this decline calls for deeper action planning to plug the hole caused by the new law.

VARIOUS OPTIONS EXIST

In my view, this is the important point because banks are a business and the aim is to have a sustainable, profitable business and a consistently good return on investment.

How can banks therefore deal with the ‘‘new normal’’ and still report good returns to their stakeholders, including shareholders?

Various options exist and one of them is to increase sales in terms of the number and value of loans. Increasing sales will help banks to generate as much interest income as was being generated before the law came into place.

This may be challenging for various reasons, including the fact that banks must maintain required assets to liability ratios.

Banks must also still check on the quality of their advances to ensure sustainable growth without increased non-performing loan portfolios in future. Another option for banks is to ask themselves several questions and answer them with a view of managing activities that happen between how and when income is generated and net profit calculated and reported.

Here are some of the questions:

1.Do your (a) processes, (b) technology, (c) people (d) controls, and (e) products support your business goals and strategy considering the ‘‘new normal’’?

a. There is a need to confirm what your core processes are, why they are the way they are and what drives them. Are your processes efficient or do they exist because that is how you have traditionally done them, yet they contribute minimal additional value to your end game? Do they create extra work, touch points and customer service delays?

b. Does your technology support your strategy, growth objectives and excellent customer service (wherever and at the convenience of the customer using any channels)? Does it support decision making by enabling data analytics with the necessary controls? How costly is your operational technology?

c. Do you have skilled and competent resources with the right attitude, doing what they are supposed to do with the single focus of serving customers and therefore by extension generating profitability for the bank? Does the bank structure support its people to achieve both organisational and individual objectives?

d. Are there adequate controls that safeguard against frauds or losses?

e. Do you have the right products that your customers want and do they resonate well with the market? What are the differentiators between your products and any other products from another bank? Why should a customer buy your products and not somebody else’s? Do you need to relook at your product range and determine whether they are still viable under the new normal and will your customers love your ‘‘new’’ product range?

2. How does your bank generate its incomes? Is it automated? Do you have a digital strategy? How fast and easy is it for your bank to grow by customer numbers, value, or indeed simply serve your existing customers well — especially now that this will be the game changer?

3. What is the ratio of interest income to non-interest income? Why is the ratio that way? And what can you do to improve on these ratios, especially the non-interest income?

4. What is the bank’s cost to income ratio? Does this point to internal inefficiencies? What are your main cost drivers? What must you do to improve on this?

5. What are your product distribution channels and how much do they cost the bank? Are there better and more efficient product distribution channels that can be used to superbly serve customers?

6How does the bank manage its relationships with its customers and do you have the right customer management strategy geared towards making and recognising that all is lost without the customer?

Answering the above questions (among others) and taking concrete steps to resolve emerging issues will help banks to manage not only the impact of the new law but also maintain or return to the growth trajectory that each bank needs.

It may also be the point at which banks genuinely look at their positions and make decisions as to whether it would be worth having conversations about mergers and acquisitions.

Some banks take the easy route and quickly reduce their staff through downsizing, as they say. They may not necessarily shrink to greatness. This may therefore only have a small effect in the bigger scheme of things and especially considering that staff will have to be paid off, which will be a dent to the bank books for that year.

In my opinion, banks will benefit from a multi-faceted approach to sustain healthy growth under the new law, especially considering that we have similar laws in other countries.

The discussion and action should therefore be around what banks should be doing in the short and long run (coping mechanism) and ‘‘thriving in the new norm’’ such as by answering the above questions. Meanwhile, we wait to evaluate the real impact of the law and possible changes (if at all) to that law in future.

The writer is Associate Director of Technology Consulting Services PwC, East Africa Region