Why banks would not merge over capital demands

opinion and Analysis

Mr Gideon Muriuki, Co-op Bank managing director. PHOTO | FILE 

By GEORGE BODO

In Summary

• Small lenders will likely resort to political lobbying like in the past.

The Treasury secretary’s proposal to increase the minimum core capital requirement for commercial banks from the current Sh1 billion to Sh5 billion by December 2018 may not force any major consolidation in the sector after all.

But before I tell you why I think so, here’s a classic example as to why the consolidation agenda is fast gaining traction. Sometime in 2014, the government laid out an ambitious plan to build 10,000km of new and rehabilitated roads in four years.

The current paved road network in the country is about 14,000km, out of which only 30 per cent is tarmacked.

To finance this ambitious programme, the government, through public-private partnerships (PPPs), has developed the annuity financing model, which was done through a joint committee of government, banks and contractors.

The government estimated that it would require nearly Sh47 billion (about $500m) for yearly annuity payment for 3,000km of roads. Looks like a massive business opportunity for banks. Not so fast.

Local commercial banks have generally been slow at expressly committing to this programme, and rightly, for two reasons: they don’t have long-term liabilities to match the tenure of the program (between 8-12 years), and they lack the balance sheet muscle to handle such a big-ticket transaction.

It will take not two or three banks, but five large Tier-1 lenders to raise $500 million locally. It is worse if the money was to be raised exclusively in foreign currency (especially USD).

The consolidation agenda is meant to address the second problem. Additionally, this proposal will only affect Tier-3 banks (21 in number).

But here’s why it may not be achieved on the intended scale. First, banks are supposed to comply by December 2018 and the nearly three-and-half year compliance period is long enough to raise their core capital levels to the proposed minimum requirement, especially if the implementation is on a ‘bullet basis’.

You recall that the last rise, which happened in Q4 2012, where minimum core capital was raised from Sh700 million to Sh1 billion (in 12 months), only resulted in a single merger — between Southern Credit and Equatorial Commercial Bank.

Second, its operationalisation may also be subject to political debate. The proposal is part of the Finance Bill and presents an opportunity for intense lobbying just like the last time when a section of politicians with interest vehemently opposed the upward review.

Finally, consolidation doesn’t alter the unfavourable balance sheet dynamics that exist in the market, and a key one, which I have highlighted above, is the lack of long-term liabilities (not that this problem is unique to this market, but Kenya has the most acute mismatch among its Middle African peers).

However, consolidation can be achieved on a moderate scale if implementation of the proposals is phased. I mean, if CBK asks the affected banks to increase their core capital by at least Sh1 billion each year between December 2016 and December 2018.

The writer is an investment analyst. @GeorgeBodo