The last few years have been characterised by qualms and trepidation for the banking industry worldwide. With the Eurozone debt crisis looming on the global forefront in 2011, our local banking industry too has been treading dangerous waters amidst growing militant concerns, sluggish GDP growth, worsening law and order situation, fuel and energy crises, growing fiscal and current deficits and uncertainty of monetary policy.
In CY10, inflationary pressure of about 15.5 per cent YoY was compounded by heavy government borrowings mainly due to fiscal expansion. This was followed by the decision of the government to increase the discount rate thrice. Rising NPLs and increases in provisioning expenses were especially detrimental to small banks which do not have the capacity to sustain profitability amidst such growing concerns. As of December 31, 2010, the combined NPLs of all banks and DFIs stood at Rs548 billion as compared to Rs446 billion as at December 31, 2009, an increase of 22.8 per cent. The rise in NPLs has been significant since 2007, mainly attributed to the economic recession in 2008 and heavy flooding that afflicted the country in 2010.
The 2010 trends were reversed with fiscal pressure easing out considerably and the government’s successive cutting of the discount rate by 200 bps. Interest income, on the back of increased investment in government securities, was the primary driver of profitability growth for banks. The State Bank opined in December 2011 that this was unsustainable, as opposed to interest income through advances. Successive DR cuts were undertaken in an attempt to boost private sector credit; this does not seem to be a workable solution. Small banks continue to be wary of lending to the private sector and still invest large sums in government securities.
In 1HCY11, profit concentration for banks improved drastically. Moreover, the 95 per cent banking profits’ share held by the Big Five in December 2010 dropped to 78 per cent by June 2011. Asset utilization ratios for the top five banks remained stable at 6.6 per cent in 1HCY11 due to the infection in loan portfolios that continuously plague the banking industry. Surprisingly, medium and small banks are the ones who reported above average AU of 8.9 per cent. This was due to lending to weak borrowers at high rates, hence aggressively utilizing their narrow deposit base.
It is thus that the situation of the banking sector in Pakistan remains precarious. Even then, small banks have performed at par with relatively larger banks in certain areas. In the face of a challenging business environment, small banks maintained low ADR ratios in 2011. While Silk Bank maintained an ADR ratio of 73 per cent, others like KASB, JS Bank and Summit had even lower ADRs in 2011 (refer to Figure 3). This is indicative of a conservative strategy adopted by smaller banks in order to avoid large exposures.
While increasing their number of branches on a yearly basis, small tier banks have done considerably well in keeping their admin expenses per branch low. Mid-tier banks like Askari, NIB and Summit, averaged PKR 15-20 million in 9MCY11. JS Bank, on the other hand, had the lowest admin expense per branch of Rs11.5 million in the nine month period ending September 2011. In the peer group under consideration, SAMBA Bank has the highest admin expense per branch of Rs37.8 million followed by Silk Bank with Rs32.4 million In terms of Net Interest Margin, the peer group has performed well with the exception of KASB Bank which had a negative NII of (9.14 per cent) for the period ended September 30, 2011. Others like Askari, Faysal and Soneri have been able to restrict their margins above 30 per cent whereas Summit and Silk are under 30 per cent. The winners among the lot with the highest margins are Samba and JSBL achieving a whopping 42.8 per cent and 41 per cent respectively. Overall margins in the peer group have either been at the same level or slightly below the previous year only with the exception of JSBL and Silk Bank which managed to increase their margins from 33 per cent to 41 per cent and 11 per cent to 24 per cent respectively.
The major challenge for small tier banks is to maintain a low cost of deposit in order to ensure sustainability. During 2010, small and mid-tier banks vied hard to lower their cost of deposits which remained in the range of 6-10 per cent. Banks like KASB, Summit and Silk were on the higher end of the spectrum with 9.84 per cent, 8.62 per cent, and 8.44 per cent respectively. JS Bank has outperformed its peers by maintaining the lowest cost of deposits (Dec 10: 6.72 per cent) while consistently increasing the deposit base (Dec 11: PKR 26 bn; Sept 11: PKR 33 bn) which is considered to be the forte of only top tier banks in the industry.
The declining cost of deposits coupled with the increasing deposit and advances base is the result of the enhanced geographic presence of JS Bank across the nation. The bank is presently (as on the date of publication) operating with 145 branches across 80 cities and towns in all major metropolitan, suburban and underserved areas across Pakistan.
In 9MCY11, the deposit base of all commercial banks jumped by 6 percent. JSBL stayed the most aggressive in deposit accumulation, with around 26 percent growth in deposits during 9MCY11. The aggressive growth in deposits coupled with high CASA ratio of 59 percent signifies JS Bank’s efforts in generating low cost deposits. Among the peers, Askari Bank enjoys the highest CASA ratio of 70 per cent while Summit has the lowest.
Overall, JS Bank has done well compared to not only other small banks but also some banks that fall into the mid-tier for a relatively new bank. JS Bank has positioned itself as a conservative bank by focusing on good quality / low risk credit which is evident from its conservative ADR (Sep 2011: 31 per cent,Dec 10:53 per cent) and high CAR (Dec 10: 17.65 per cent). The bank enjoyed the lowest ADR and highest CAR amongst its peer group as at December 2010. Similarly, ADR figures as at Sept 30, 2011 for JS Bank also showed that it had the lowest ADR amongst small banks. High ADRs that are characteristic of large and mid-tier banks imply high returns, although at higher risk. Conservative ADRs of small banks, however, show that they are particularly risk averse.
In 1HCY11, capital adequacy was no longer a concern for large and small banks alike due to higher profits and raised minimal capital requirements. This was an indication that the banking sector as a whole was more resilient to various risks that are typical of the industry. CAR for banks was 14.1 per cent in June 2011, as a result of more earning and enhancement in paid-up capital, subsequently improving Tier 1 capital. As of December 31, 2010, JS Bank’s CAR was 17.64 per cent (refer to figure 4). This is the highest amongst its peer group. Inevitably, a high CAR ratio provides a buffer against NPLs and ensures that a bank is able to protect depositors.
Results for the first half of 2011 also revealed that banks, lured by the prospect of high yields in risk-free government securities, had broadened their portfolios with fixed income investments. Purchased from the 11 primary dealers in the secondary market, these undoubtedly had a substantial impact on bank earnings. In 2010, JS Bank secured the number one primary dealership position in 2010, with HBL and NBP at second and third respectively. Despite being a relatively new entrant in the banking industry and its small size, JS efficiently acted as a market maker for Government of Pakistan Securities (Treasury Bills, Government Bonds) utilizing its strength in warehousing and distribution of Government Securities in the Secondary Market.
While large banks manage to stay strong despite macroeconomic concerns, small banks have to stay on their toes in the face of fierce competition from mid-tier banks as well. This is perpetuated by the possibility of takeovers of small banks by mid-tier banks. However, given that small banks are more nimble, they may be able to curb rising NPLs in future as compared to mid-tier and large banks. As the year 2012 approaches, it is yet to be seen how small banks perform in the face of a possible upward revion of discount rates if the government’s decides to rejoin the IMF programme.
Going forward, JS Bank is focused on creating a competitive advantage in the financial services industry by its emphasis on earning sustainable income through low cost deposits and basic low risk lending, and by utilizing efficient operational processes and technology. JS Bank thus seems well positioned to take advantage of a highly competitive yet consolidating phase of the banking industry in Pakistan.
JS Bank set to thrive in highly competitive phase of banking industry
