Why State banks stand on shaky ground

State-owned banks have in the recent past registered a series of poor performance that have pushed their survival into an uncertainty mode.

The National Bank of Kenya (NBK), #ticker:NBK Consolidated Bank (CBKL) and the Development Bank of Kenya (DBK) are in the grip of an operational crisis, stuck in a negative liquidity position as at the end of the first nine months of the year even as plans to sell them remain in limbo.

Treasury has approved for sale the three lenders along with a number of other parastatals.

The plans are, however, yet to take off even after the State sought to hire a chief manager in charge of transactions as it moved to unlock the stalled sale about four months ago.

The DBK’s liquidity ratio position stood at negative 21.6 per cent as at the end of September against a legal requirement of 20 per cent.

The ratio is the proportion of liquid assets calculated as a percentage of all its deposit, matured and other short-term liabilities.

Liquid assets are notes and coins, its balances at the Central Bank of Kenya (CBK), balances with other banks after deducting those owed to other lenders, Kenya’s Treasury bills and other assets the CBK may specify.

Highly constrained

With the bank’s negative liquidity position, it means that it is highly constrained in terms of issuing new loans, despite this being its main source of income.

It also implies that the company needs to inject 21.6 per cent worth of liquidity to be at a neutral position where it has neither excess nor deficiency in meeting the legal requirement.

Although its liquidity ratio is above the minimum requirement of 20 per cent, the National Bank of Kenya’s total capital to total risk-weighted assets stands at a deficiency of or negative 10.4 per cent as at the end of the first nine months of the year.

The NBK’s core capital to total deposit liabilities also stands at a negative or deficiency of 5.5 per cent while core capital to total assets stands at negative 7.9 per cent.

Faced with such a dicey situation, the lender has a constrained room to take in more deposits.

NBK’s main undoing has been its low capital. The Treasury has injected limited amounts of capital into the lender just as it has with respect to the Consolidated Bank that has also been in negative positions in some ratios.

The limited capital injection has not been sufficient to put the banks in the right legal position on the ratios.

The NBK was compelled to continue running on constrained capital after the Treasury and National Social Security Fund (NSSF) missed own-imposed deadline of injecting Sh4.2 billion fresh capital.

The NBK said last month that it was still awaiting the money that ought to have come in by end of September, according to the formal commitments made by the Treasury and the National Social Security Fund (NSSF) in March.

“In March 2018, the principal shareholders gave formal commitment for a comprehensive capital solution. The board notes that this process is ongoing,” said CEO Wilfred Musau.

“The capital injection will unlock and bolster the key pillars of our growth and place the bank in even a better probability path in the long-term.”

Precarious situation

But the delay leaves the NBK in a precarious situation given that the same government has for long been mulling over merging the bank with DBK and Consolidated Bank.

The NBK’s core capital stood at Sh2.34 billion at the end of September 2018, about four times thinner than the Sh9 billion it had in September last year, leaving it significantly in breach of regulatory capital ratios and therefore constrained in its ability to lend.

The bank has now accumulated a loss of Sh5 billion, which has deeply eaten into the capital.

The NBK directors were expecting the government to inject Sh4.2 billion through subordinated debt by end of third quarter.

The NSSF owns 48.1 per cent of the NBK while Treasury holds 22.5 per cent stake, making them the two principal shareholders.

The NBK’s nine-month profit has dipped by 84 per cent to Sh21.97 million owing to reduced lending.

Loans and advances to customers dropped by Sh9.9 billion or 17 per cent to Sh48 billion when compared to last year’s nine month position of Sh57.88 billion.

Yet-to-be identified investor

The Consolidated Bank shareholders on the other hand approved the creation of new 175 million preference shares valued at Sh3.5 billion to be allocated to a yet-to-be identified investor as it moves to shore up its thin capital base.

The bank’s chairman Charles Iyaya said last week the process of identifying a suitable investor will commence immediately by putting up an Expressions of Interest (EOI) as the first stage towards privatisation.

“CBKL is implementing a balance sheet reorganisation strategy as a precursor to the implementation of a future privatisation strategy”, said Mr Iyaya.

The bank, 85.8 per cent owned by the Treasury, had a core capital of Sh276.57 million as at the end of September 2018, less than a third of CBK’s required minimum core capital of Sh1 billion.

In nine months ended September, it booked a loss of Sh404.8 million, a worse position than the Sh301.5 million loss recorded in a similar previous period.

Its total assets are 6.3 per cent above its Sh11.78 billion liabilities, having accumulated losses of Sh1.71 billion.

The bank had said in an earlier annual report that the Treasury had committed to inject bridging capital of at least Sh500 million. At the time, it said it was eyeing Sh1 billion from a strategic investor.

Kenyan commercial banks are coming under pressure to merge and create entities large enough to survive the storms of financial crisis in the wake of stricter regulatory and competitive landscape.

Deepak Dave, a risk management expert with Nairobi based Riverside Capital Advisory, cited merger talks between NIC Bank and Commercial Bank of Africa (CBA), which if successful will create the third-largest lender by assets as a potential new trend.

Smaller banks

“The smaller banks are at this stage trying to move water uphill as they get crushed without products, without pricing power and without customer loyalty.

"The small ones, for example those with less than Sh20 billion in deposits, need to merge, cut costs and develop product and fee capability,” Mr Dave said.

“The ground has shifted beneath the industry's feet. Every bank board needs to look five years ahead rather than one quarter ahead.”

According to Kunal Ajmera, the chief operating officer at Grant Thornton, a merger would give especially small lenders the ability to compete, provide new products, expand in local and overseas markets, acquire state-of-the-art technology, bring in skilled staff and reduce operating costs.

“There are too many banks for an economy the size of Kenya and with the new capital requirement many smaller banks are finding it hard to survive,” said Mr Ajmera.

“Also interest rate cap has reduced commercial lending. Banks are being too cautious to lend so smaller banks are of course feeling the repercussions.”

Banks were in September spared a law that would have compelled them to increase core capital from Sh1 billion to Sh5 billion over the next four years after MPs voted to reject amendments to the Finance Bill, 2018.

“Treasury has an opportunity at this seemingly bleak time to radically restructure the banking sector, and prescribe a vision worth implementing,” says Mr Dave.

“Achieving Vision 2030 will need the financial cluster to have core pockets of excellence, and each of Treasury’s bank holdings can become a pillar around which innovation will drive further growth.”