Solid on growth: Local banks look across the continent for expansion opportunities

Competition in South Africa’s highly concentrated banking sector has led to it having the highest penetration rates – both in terms of credit to GDP and banked customers – of any other African country. The sector had recovered from the effects of the global financial crisis on the real economy by the start of 2012, but significant uncertainties remain, stemming mainly from the flat growth outlook in the EU, the key market for South Africa’s exports. While the financial system is highly sophisticated – ranked as second globally in the World Economic Forum’s “2012-13 Global Competitiveness Report” in terms of availability of financial services and soundness of the banking sector, and third for financial market development – the top banks, encouraged by the government, are seeking to expand access to more of the population.

Expanding Access

The share of South Africans with access to financial services grew from 63% in mid-2011 to 67% by mid-2012 – far higher than the sub-Saharan average of 25%. While interaction with the banking sector has grown steadily since the end of apartheid, a majority of respondents to various banking surveys use their accounts passively, often holding only minimal balances. Going forward, banks must balance the aim of expanding access and interaction with their clients with the rising cost of regulatory compliance in an evolving environment. At the same time, competition between South Africa’s four main banks is expected to heat up in neighbouring markets following the consolidation of Barclays and Absa’s assets. Banks hope that the short-term hit on profitability they encountered as a result of these expansions and investments further afield pays off in the longer term.

Resilient Profits

While domestic banks weathered global headwinds from 2008, maintaining well-capitalised and liquid operations, they were hit by slowing consumption activity and a rise in loan defaults in the two years to 2010. Non-performing loans (NPLs) have since started to fall, and lenders’ ability to mobilise funding through deposits and the domestic financial system, protected by exchange controls, kept capital adequacy ratios (CAR) well above regulatory floors.

Indeed, exposure to international capital markets for the leading banks remained limited. Banks’ profitability improved markedly since the start of 2011, with the standard measures of return on equity (ROE) and return on assets (ROA) rising from 14.6% and 1%, respectively, at year-end 2010 to 16.52% and 1.17% by September 2012, according to data from the industry regulator, the South African Reserve Bank (SARB). Such profitability tops returns for banks in more developed markets, with Canadian banks seeing ROEs of 14.7% and US banks achieving ROE of just 2.1% and in the year to mid-2012. The combined earnings of the top four banks, which accounted for 84% of sector assets in 2012, grew R21.3bn ($2.6bn) in the first half of 2012, growth of 17% according to professional services firm PwC.

Income Expansion

Growth in income has been balanced by net interest margins – the spread between lending rates and cost of funding – and non-interest revenue, primarily made up of fees and commissions, which accounted for 68% of non-interest income in the first half of 2012, according to PwC. Banks have increasingly tailored their packages to suit clients’ needs in an effort to drive fee-based revenue, which rose 7.9% in the year to June 2012. Non-interest income grew from R84.89bn ($10.35bn) to R92.26bn ($11.25bn) in the year to September 2012. While prime-lending rates dropped further to a record low of 8.5% following the surprise SARB benchmark interest rate cut to 5% in July 2011, banks have withstood pressure on interest margins by controlling costs. This has created so-called positive jaws, where falling cost-to-income ratios have reversed the downward trend up to 2011. Net interest income grew from R81.7bn ($10bn) to R94.47bn ($11.5bn) in the year to September 2012, while net interest margins rose from 3.9% of average interest-earning assets in second-half 2010 to 4.19% by June 2012.

Further Growth

Banks’ operating expenses grew 1.5% year-on-year (y-o-y) in the first half of 2012, while their total operating income rose three times faster, at 4.8%. This has caused cost-to-income ratios for the sector to drop from 55.9% to 53.97% in the year to September 2012, according to SARB figures. But while banks have made substantial progress in controlling costs, the scope for further trimming is constrained by new regulatory changes now under way.

“The single biggest cost for banks is their staff,” Mark Brits, general manager of strategic projects at the Banking Association of South Africa, told OBG. “Therefore, they can only cut costs to a point without compromising their services and increasing operational risk.” Salaries continued to rise some 12.6% y-o-y in the first half of 2012, according to PwC, while banks have sought new ways of driving business through means other than traditional branches and ATMs (see analysis).

The industry’s CARs have continued to improve, with the average rising from 13% at year-end 2008 to 14.89% by September 2012, and Tier-1 CAR improving from 10.2% to 12.02% in the same timespan, according to the SARB, higher than the 5.25% in core Tier-1 capital, 1.75% in non-core Tier-1 capital and 2.5% in Tier-2 capital ratios required in 2012.

The Leading Pack

The banking landscape includes a diverse set of players, from Africa’s four largest universal banks to specialist lenders in niches such as unsecured lending and investment banking. Following consolidation from the late 1990s through the minor 2002 banking crisis, the number of banking licences has dropped from 44 banks (and 14 foreign branches) at the end of 2002 to 17 by the close of 2012, with the 14 foreign branches still in place, as well as 43 foreign bank representative offices and three mutual banks. Four main universal banks dominate the retail market.

“Market concentration offers pros and cons: it is positive for the SARB, since four main banks holding 84% of the market minimises systemic risk because it is far easier to monitor and manage things,” Donna Oosthusye, managing director of Citi (South Africa) told OBG. “The downside is that concentration limits cost competition and customer choice.”

In addition, the concentration in the retail market makes it difficult for new players to enter the market. “South Africa’s retail banking market is highly competitive. As a result, international banks tend to focus on commercial banking,” Valerie Kodjo Diop, CEO of BNP Paribas South Africa, told OBG.

Standard

Africa’s largest bank by assets and earnings, at R1.54trn ($187.7bn) and R7.384bn ($900.1m), respectively, in the year to June 2012, Standard Bank (Standard) was set up as the Standard Bank of South Africa in 1862. Having acquired a 53% stake in Liberty Life in 1999, Standard has achieved great scale in Africa, with 514 branches and 977 ATMs outside of South Africa by year-end 2012. This compares with the bank’s overall total of 1222 branches, including loan centres, and 7945 ATMs. Since the 1990s Standard has expanded to 18 countries using the Stanbic brand, employing over 52,000 staff, leading the market in Uganda, Kenya and Mozambique. The bank is backed by the Industrial and Commercial Bank of China (ICBC), which acquired a $5bn, 20% stake in October 2007 and has taken on non-core Standard assets in Argentina (for $600m).

Listed on the Johannesburg Stock Exchange (JSE) – and with listing of subsidiaries in Nigeria and Uganda – Standard has continue to improve its earnings since 2010. While net earnings grew 11% y-o-y (to $900.1m) in the first six months of 2011, the bank’s ROE stabilised at 14.5% – less than half Nedbank’s and First National Bank (FNB), but well ahead of Absa. But while net interest income grew 18% in the first half of 2012, overall profit was up a more modest 9% in the first half of 2012. This was in no small part due to the drag of investments outside South Africa, particularly in its loss-making London operation, but Standard also cut client fees by some R500m ($60.95m) in 2012. The group’s cost-to-income ratio grew from 58% to 59.1% from June 2011 to 2012, while its Tier-1 CAR deteriorated from 12.4% to 11%. While its operations in the rest of Africa contributed only R844m ($102.9m) in first-half 2012 and with the cost of operations only barely covering the cost of capital, Standard hopes these investments will pay off in the medium term, and it Access to the formal banking sector, 2012 expects continental operations to reach 25% of the group’s revenue by 2017.

Firstrand

The FirstRand Group was created in 1998 by a merger of Rand Merchant Bank (RMB), insurer Momentum’s assets and First National Bank (FNB), which was established in 1838 and is the oldest South African bank. The group was then joined by Southern Life, following its sale by Anglo American. The second-largest South African bank by assets, at R769bn ($93.7bn) in the third quarter of 2012, FirstRand Bank operates three banking subsidiaries: retail bank FNB, investment bank RMB and instalment lender Wesbank, as well as a portfolio of insurers, although it unbundled its holding of Momentum in 2010. FirstRand’s earnings have grown over twice as fast as Standard’s, at 26% y-o-y in the first half of 2012. Its ROA went from 1.49% to 1.73% in the year to June 2012, while its ROE rose from 18.7% to 20.7%. Its cost-to-income ratio was up marginally from 53.3% to 53.4%, while net interest margins grew from 4.58% to 4.92%. With a Tier-1 capital ratio of 13.2% in the first half of 2012 (down from 15% a year earlier) and a core Tier-1 capital ratio of 12.3% (down from 13.9%), FirstRand remains well capitalised.

FirstRand maintains a sizeable regional and international footprint. It is listed on the JSE and has subsidiaries in six southern African countries, leading the market in both Botswana and Namibia, as well as holding a merchant banking licence in Nigeria since 2012, in addition to India and Australia. It also has representative offices in Kenya, Angola, Ghana, Shanghai and Dubai. In total, FirstRand served 9.1m customers across all its operations in the first half of 2012, up from 8.6m a year prior. The bank aims to expand further. By mid-2012 FNB operated 775 branches, 4969 ATMs and 959 automatic deposit terminals in South Africa alongside 108 branches and 523 ATMs in other African markets.

Since 2009 FNB has been trying to expand by buying banks in Nigeria and Ghana, so far unsuccessfully. It was in negotiations in 2012 to buy a 75% stake in Merchant Bank Ghana, but this later fell through. FNB was granted a merchant banking licence in Nigeria and has begun developing greenfield activities while seeking an acquisition. As one of the leading lenders for affordable housing, with an estimated 22% share of new loans in the segment in first-half 2012, FNB has offered the lowest bank charges in the market.

Absa

In the biggest recent move by a foreign bank, in late 2012 the UK-based Barclays increased its stake in Absa Bank (Absa), South Africa’s third-largest lender by assets, from 55.5% (held since 2005, when the British bank acquired a $4.5bn majority stake in the lender) to 62.3% for roughly $2bn. Absa’s assets measured R764.5bn ($93.2bn) by year-end 2012, a 3% growth on the previous year. Consolidated as the Amalgamated Banks of South Africa in 1998 following a decade of market movements, the merged Absa holds the largest retail franchise in the country with over 1300 branches and 10,400 ATMs, employing a staff of 43,000 in 10 markets and serving 14.4m clients. Absa gained the approval of the Competition Tribunal in 2012 to acquire the store-card book (of some 4m clients) of the clothing retailer Edcon for R10bn ($1.2bn). The bank’s largest minority investor is the Public Investment Corporation (PIC), which manages government employee pensions, with a 9.3% stake in early 2013, followed by Old Mutual’s 3% and other domestic institutional investors such as Investec, Sanlam, Stanlib and others.

Market Moves

As part of Barclays’ global restructuring, the R18.3bn ($2.23bn) Absa deal will see Barclay’s fold its African operations (Barclay’s Africa Group) into the South African venture, creating Africa’s largest bank by branch network and customers, but preserving the Absa brand domestically. Although Barclay’s had blocked Absa’s expansion plans in Africa, the deal involves the cession of Barclays operations in eight countries in exchange for 129.5m shares in Absa.

With a higher exposure to the South African property markets, however, the group’s ROE had dropped from 16.4% to 13.6% y-o-y by the close of 2012 – just enough to cover its cost of equity at 13.5%, according to Absa’s disclosures. Meanwhile, headline earnings declined 9% to R7.27bn ($886.2m) in 2012. This has made the bank more cautious about lending in 2013, as it focuses on cost control. Net income slowed by 13% to R8.4bn ($1.02bn) in 2012, while its cost-to-income ratio improved only marginally from 55.5% in 2011 to 55.2% in 2012. Yet the bank has a comfortable capital position, with a Tier-1 ratio of 13% at the start of 2013, and earnings should recover over the course of the year.

Nedbank

Originally set up as the Dutch Bank and Credit Union for South Africa in 1888, the smallest of the Sector balance sheet, Dec 2011-12 top four, Nedbank (thus renamed in 2005), was formed as the merger of seven banks between 1990 and 2003. The bank’s total assets grew from R580.12bn ($70.7bn) to R632.76bn ($77.13bn) in the year to June 2012. Buying the remaining 49.9% of Imperial Bank of South Africa in 2009, Nedbank is controlled by the market’s largest insurer, London- and Johannesburg-listed Old Mutual. Although HSBC offered to buy 70% of the bank for R49.9bn ($6.1bn) in 2010, the offer was unsuccessful and rumours of other bidders continue to circulate. With operations in Swaziland, Namibia, Lesotho, Malawi and Zimbabwe, Nedbank entered into an alliance with Togo-based Ecobank, which is active in 33 African markets. The South African lender extended a $285m loan to Ecobank in early 2012, with an option to acquire 20% of the Togolese lender. If completed, the combined network of 1500 branches would create the largest reach of any African bank. Meanwhile, Old Mutual has acquired Ecobank’s non-core assets, such as Oceanic Life Insurance in Nigeria in 2012.

Big Growth, Small Lending

Although Nedbank achieved earnings growth of 25% y-o-y to R3.5bn ($426.65m) in the first half of 2012, the second-highest growth of the big four, just R124m ($15.1m) of this stemmed from its operations outside South Africa. Operating over 3000 ATMs and 500 branches in South Africa, the bank plans to invest a further R1.3bn ($158.5m) to expand its retail infrastructure. With an estimated 20% of the domestic small and medium-sized enterprise (SME) lending market, Nedbank has been somewhat more aggressive than its peers in matching specialist banks’ growth in unsecured lending, equalling Capitec’s 14% share of the segment in the first half of 2012. Overall, the bank achieved healthy growth in 2012 with an 11% y-o-y increase in net interest income to R9.64bn ($1.2bn) as well as a 16% rise in non-interest revenue to R8.26bn ($1bn) in the first half of 2012. Reducing its cost-to-income ratio from 55.9% to 55.5% in the same timeframe, Nedbank’s ROE rose from 12.2% to 14.1%. While its NPL ratio was relatively high at about 4.4% in the first half of 2012, the bank aims to build its capital base further in 2013, already achieving a strong CAR of 14.3% by September 2012 and a Tier-1 capital ratio of 10.7%.

Specialists & Foreigners

While the big four continue to dominate retail banking, their share of the total retail infrastructure has dropped since 2008 as specialist lenders have expanded their reach and pace of loan growth. Investec was the fifth-largest bank in South Africa by assets with R755bn ($92.03bn) in assets under management in the second quarter of 2012, specialising in personal banking among the affluent, asset management and the corporate space. Dual-listed in Johannesburg and London, Investec operates in South Africa, the UK, Ireland and Australia. Despite the dominance of the big four, specialists have a role to play. “We should encourage more specialist entrants with lower capital requirements to foster more competition in key market niches,” Modise Motloba, the CEO of financial services firm Quartile Capital, told OBG. While both Absa and Nedbank capture much larger proportions of total sector revenue than their share of ATMs and branches, specialists like Capitec and African Bank have grown significantly on the back of unsecured lending (see analysis). The former claims roughly 4.1m clients with a network of 520 branches and assets of R23.58bn ($2.87bn) as of June 2012, while the latter runs 637 outlets and 1041 Ellerines furniture retail outlets – through which it provides consumer credit to 3.1m clients – and had assets of R42.04bn ($5.12bn) by September 2012. Both lenders have taken a significant share of the unsecured lending segment, equalling a combined 48% of the market in mid-2012.

Seven other smaller specialists also compete in the market, including investment banks and SME-focused lenders like Portuguese-owned Mercantile Bank (a subsidiary of Caixa Geral de Depósitos) and Sasfin Bank; sharia-compliant banks such as Bahrain-controlled Al Baraka Bank and HBZ Bank, a subsidiary of Swiss-based Habib Bank; travel foreign-exchange specialist Bidvest Bank; and microfinance bank UB ank, co-owned by the National Union of Mineworkers and the Chamber of Mines and renamed from Teba Bank in 2010. Two state-owned development lenders – the Industrial Development Corporation (IDC) and the Development Bank of Southern Africa (DBSA) – offer longer-term financing for key government infrastructure and SME funding projects. The SARB also delivered its third mutual banking licence in 2012 to Finbond, which joined the other two niche lenders, GBS and VBS mutual banks, that have operated since 1877 and 1982, respectively. Mutual and savings banks, owned by their depositors and with lower capital requirements of around R250m ($30.5m), specialise in micro short-term loans of between R100 ($12.19) and R7000 ($853.30).

Foreign Players

Several foreign banks round out the banking landscape, including 14 branches of foreign banks focusing on wholesale and investment banking, as well as foreign bank representative offices, which traditionally focus on operations elsewhere on the continent. French banks like BNP Paribas and Calyon have played a key role locally (and globally) in commodity trade finance, although Société Générale has pulled back in recent years, while investment banks like JP Morgan, HSBC, Standard Chartered and Deutsche Bank have developed a large local market for wholesale and investment banking. Citigroup, the sixth-largest bank in the market by assets, has established a similarly strong hold on corporate banking in South Africa as it has in other African markets. The latest foreign banks to open representative offices have been Chinese, Indian and African players, including China Construction Bank and Nigeria’s Zenith Bank, among others. While representative offices are usually maintained to help manage operations elsewhere in Africa, foreign branches accounted for roughly 8% of banking assets in 2012, according to estimates by Citi. Playing a role in corporate finance, particularly for South African firms expanding abroad, foreign lenders have largely shied away from moving into retail and SME lending.

Funding & Lending

Despite competition from higher yields in the long-term savings and shadow banking sectors (such as unit trusts and money market funds), banks’ deposit base grew 8.2% in the year to September 2012, to R2.84trn ($345.6bn). Growth in deposits was driven primarily by shorter-term current accounts, which expanded 13.9% to R518bn ($63.14bn), while the largest share of deposits – fixed-term and notice deposits, worth R884bn ($102.88bn) – grew just 4.9% y-o-y by September 2012, according to the SARB. Growth in savings accounts sustained a healthy 9% expansion in the same period, reaching R148bn ($18bn).

Yet outstanding household deposits at commercial banks have remained stable, growing only from 20.08% of GDP in 2004 to 21.89% by 2012, according to the IMF. “The HIV epidemic has increased the dependency ratio per income earner, affecting the potential household savings rates, while easier access to credit in recent years, without sufficient consumer education, has been viewed by many households as entitlement funds,” Elizabeth Lwanga-Nanziri, CEO of the South African Savings Institute, told OBG. “We have seen the household debt to disposable income curve mirroring the household savings rates, as people seem more comfortable saving through informal channels such as the stokvels [members-only rotating credit unions] than repaying their now obligatory loans.”

Firm Deposits

In South Africa’s low savings environment (where aggregate savings account for only about 16% of GDP), corporate clients – including financial services firms – represented 46% of banking deposits as of June 2012. Corporate deposits in the banking sector grew 14% in the year to September 2012, reaching a record R548.8bn ($66.9bn), according to SARB data.

Despite a trend of slow growth in household deposits, banks have refrained from aggressive competition for deposits given their cash-rich position in 2012. “We have seen little tweaks in interest rates among the major banks competing for deposits, but not yet the intense competition for longer-term deposits some are predicting,” Tom Winterboer, banking leader at PwC, told OBG. Yet with some 60% of deposits of a very short-term nature (under 90 days), banks are looking to lengthen their deposit profiles as the regulator curbs the maturity mismatch between deposits and lending by 2019, when Basel III is expected to be fully implemented.

While the government has discussed extending fiscal incentives to encourage more retail savings through the banking sector, banks have had to compete with the shadow banking sector as well as informal savings institutions. Another proposal in the last year has been the introduction of a deposit insurance scheme for retail clients, athough progress is uncertain.

Promising Signs

A FinMark study in 2008 found that over 12m people saved around R8bn ($975.2m) a year through stokvels. A 2012 update found that the amount of savings through stokvels grew from 7% of total savings in 2004 to 11% by 2012. “Anecdotally, saving through stokvels has increased significantly since the financial crisis, as households still hold back their trust in the formal financial sector,” Lwanga-Nanziri said.

In total, deposits grew 8.2% in the year to September 2012, to R3.66trn ($446bn), driven primarily by deposits from cash-rich corporates, while total assets grew at a slower 6.4% to R3.59trn ($437.26bn) in the same period. Banks’ total equity grew 13% y-o-y to R268bn ($32.7bn) by September 2012. “The conservative nature of the capital adequacy requirements of the SARB has resulted in relatively low leverage levels among the local banks,” Maria Ramos, Absa group CEO, told OBG. With less than 10% of banks’ funding raised offshore, lenders have focused on lengthening the maturity of their funding base domestically through new issues of longer-dated bonds in 2012. Banks continue to maintain low leverage ratios (of debt to equity), with their combined financial leverage ratio dropping from 14.96 times to 14.05 times in the year to September 2012, according to the SARB. Yet smaller banks face more challenges in securing new funding. “The smaller the banks, the higher their costs and expenses,” Luthando Vutula, CEO of UB ank, told OBG. “The cost of raising new capital is an issue for smaller banks.”

Careful Consideration

Looming implementation of Basel III and general conservatism with regards to South Africa’s economic outlook prompted banks to slow lending in 2012. Growth in bank credit remained subdued in 2012, up 2.5% y-o-y, down from 3.5% in 2011, according to the SARB. Much of this has been generated by the rapid growth in unsecured lending during the year (see analysis). A more cautious approach from consumers feeling the pinch of slowing economic expansion, rising debt burdens and a structurally high unemployment rate have combined with the moves of the major banks, leading to curbed growth in their risk-weighted assets in anticipation of Basel III rules that came into effect in January 2013. With roughly one-third of all loans concentrated in the residential mortgage market, lacklustre growth in property prices has also dampened lending performance in 2012.

Diminishing Defaults

Nevertheless, the industry’s NPL ratios have continued to improve since 2010, dropping from 4.7% in December 2011 to 4.07% one year later, according to the SARB, supported by a 30-year low in prime lending rates (at 8.5% since July 2012). The sector’s aggregate stock of NPLs fell from R129.45bn ($15.8bn) in second-half 2010 to R112.05bn ($13.66bn) by end-2012, with loan loss impairments for the five biggest banks likely to stabilise at 1% to 1.2% in 2013, according to Fitch. However, both ratings agencies and the IMF have drawn attention to the high absolute level of these remaining NPLs (at above $12.2bn), arguing that downside risks and uncertain property prices make it difficult to further reduce NPLs in the short term.

Banks have flagged a regulatory gap between the formal sector, facing a growing burden of compliance with a flurry of new rules, and a shadow banking sector composed of unit trusts, money market and hedge funds that is relatively less regulated and able to offer higher yields on savings. “The substantial increase in the global and domestic regulation of banks will increase costs, and the unregulated shadow banking system will be able to offer cheaper products until they too are regulated,” Brits told OBG. “Banks are incentivised through Basel III to take longer-term deposits, and this may result in banks competing directly with money aggregators for retail deposits.”

Broadening Growth

While strict but efficient regulation stands as the main priority, authorities must balance this against the goal of extending and expanding South Africans’ interaction with the formal banking system. Although the number of banked clients has grown from 13m in 2004 (around 46% of the adult population) to 22.5m by 2012 (67%), with 1.3m new clients in 2012 alone, according to FinScope’s 2012 survey, there are still hurdles to expanding financial inclusion, such as a gender gap of 69% of banked women versus 64% of banked men. While the government has steered roughly three-quarters of state benefit recipients (about 7.4m people) to formal bank accounts, the banking association estimates that R12bn ($1.46bn) in savings remain outside the formal sector in institutions like stokvels. “South Africa is unique in that its sophisticated financial sector meets the needs of internationalised corporates, but much of the population is not appropriately banked on the retail side,” Oosthusye said.

Greater Access

The Financial Sector Charter (FSC) launched a push to expand financial services for low-income earners and force banks to extend access to points of service, defining effective access as living within 20 km of a bank service point.

The charter includes provisions for financing ventures in the context of the 2003 Broad-Based Black Economic Empowerment (B-BBEE) Act, but while the charter includes a rise in the target for direct black ownership from 10% to 15%, banks have resisted this clause and called for political intervention.

South Africa has nonetheless seen the coverage of bank branches and ATMs more than double in the last decade, from 1.25 branches per 1000 sq km in 2004 to 3.08 by 2011, and from 7.81 ATMs per 1000 sq km to 17.26 in the same period, according to the IMF. Yet geographic outreach has not necessarily brought more meaningful interaction with banks, with over half of all accountholders withdrawing the majority of their balance every month. “In South Africa, roughly 65% of people earn less than R5000 ($609.50) a month; banks need to cater products to this reality,” Vutula told OBG.

New Tools

Central to the FSC’s effort was the Mzansi (meaning “south” in Zulu), an entry-level transaction account allowing free withdrawals from any of the participating banks’ ATMs offered by the big four domestic banks and PostBank, a division of the South African Post Office which offers limited banking services. A similar limited-cover life insurance policy, called Zimele (which means something akin to “stand on your own feet”), was launched in parallel. While each bank has priced these standardised accounts differently, the regulator has relaxed requirements such as “know your customer” rules mandating proof of address and the need for personal interaction to open these low-value accounts. The framework also provides for the use of agents to deliver services outside the formal branch network, paving the way for the growth in branchless banking (see analysis). Some 6m Mzansi accounts were opened by 2012, two-thirds of which were opened by previously unbanked South Africans, according to FinScope. However, their use has remained passive, with most accountholders remaining reliant on cash transactions. Indeed, 93% of funds held in these accounts were withdrawn in cash, according to the 2012 study.

The 2007 Cooperative Banks Act created a new segment of lenders with minimum requirements of only R1m ($121,900) in capital and 200 members. However, only two such institutions, Ditsobotla in North West and OSK in Northern Cape, had been licensed by end-2012. The SARB hopes to encourage more cooperative financial institutions (CFI), of which there were 106 in 2012 holding R217.5m ($26.5m) in assets, to apply for cooperative licences. By end-2012, a further 15 CFIs were cited as complying with regulatory requirements, and there were 21 CFIs with over R1m ($121,900) in assets holding some 93% of total segment assets. In 2013 revision of the FSC under its second phase will create a clear framework for the development of cooperative banks and dedicated lenders, like mutual banks, alongside microfinance institutions. In this context, PostBank will be allowed to provide all retail services, while the Treasury expects the multiplication of licensed regional cooperative lenders will allow more services to reach more remote areas. Under the charter’s second phase, commercial banks agreed in late 2012 to extend R122bn ($14.9bn) in “empowerment finance” in the five years to 2017 dedicated to affordable housing, black SMEs and “transformational” infrastructure.

Smmes

With only 270,000 of South Africa’s 1.9m registered businesses employing a staff of over five according to Absa, facilitating small, micro and medium-sized enterprises’ (SMMEs) access to finance is another important priority for authorities. “Despite the size and muscle of the big banks in South Africa, their clientSelect sector indicators, 2011-12 facing staff generally do not properly understand the financing needs of SMEs,” Roland Sassoon, the CEO of Sasfin Bank, told OBG.

While South Africa does not run a public registry for credit information, 11 credit bureaux, including XDS, TransUnion, Experian and Credit Bureau SA, are currently regulated by the National Credit Regulator. Providing credit data on over 17.6m bank clients and 241,195 firms, according to the World Bank in 2012, the availability of information has been less of a hurdle than the viability of SMMEs’ business plans. “The operating environment is challenging for SMEs, mostly because of general economic conditions and a regulatory environment that is not conducive to their establishment and operation. In addition, many are suppliers to the government and large corporates and experience delays in receiving payment or have to compete with bigger players entering their traditional markets, which makes it extremely difficult for SMEs to survive,” Karl Kumbier, the CEO of Mercantile Bank, told OBG.

Accessing Funding

While the World Bank ranked South Africa the world’s best performer in terms of getting credit in its 2013 “Doing Business” report, many SMMEs still access funding for their businesses through personal loans. The Banking Association figures also reveal that 60% of SMEs fail in the first year of operation and a further 22% in their second year, in large part due to a lack of skills.

Meanwhile, banks’ more conservative stance to lending in anticipation of Basel III regulation has caused the share of SME funding in banks’ loan books to fall in recent years, from 12% of gross credit exposure in 2008 to 10% at the start of 2012, according to the Banking Association. The top four lenders all unveiled new SME packages in 2012, with starting monthly fees of between R55 ($6.70) and R90 ($11) for basic toolkits, while Nedbank has bundled its SME services with a start-up two-year loan of R100,000 ($12,190). These SME packages include a growing amount of advisory support to reduce the likelihood of failure and facilitate access to loans. Smaller niche banks have also sought to target smaller firms, with the likes of Mercantile Bank announcing plans to roll out a new line of SME products in 2012.

The government, supported by donors such as the International Finance Committee and US Agency for International Development, has launched a number of initiatives taking a more holistic view of SME development. The IDC’s new Small Enterprise Finance Agency provides equity financing for selected SMEs in support of the government’s New Growth Path, with its financing usually supported by credit lines from commercial lenders. In total, some R8.4bn ($1.02bn) in investment by the IDC to support job creation has been extended, and a further R9bn ($1.1bn) has been allocated to a jobs fund, alongside tax breaks for industrial development and technology upgrade and training projects.

Corporates & Infrastructure

Domestic and foreign economic growth remains subject to uncertainty, resulting in cautious forecasts for corporate lending growth in early 2013. Merger and acquisition (M&A) activity had already dropped some 60% y-o-y in 2012, while the ability for corporates to leverage through bank loans has fallen as banks retrenched on lending, given the higher costs associated with refinancing assets under Basel III. Depressed economic activity and slumping aggregate domestic demand in 2012 put added pressure on corporates’ investment and working capital needs. Foreign banks have typically struggled to compete with the five leading corporate lenders – the big four and Investec – given their requirement to charge risk premiums on South African investments.

Funding Projects

The government’s infrastructure investment programme should stimulate demand for bank credit, however. While most investment should stem from state-owned enterprises’ investments backed by corporate bonds, in the cases of Eskom, Transnet, Passenger Rail Agency of South Africa and South African National Roads Agency in particular, lenders are seeking opportunities to finance the working capital and investment needs of contractors and suppliers.

“On the corporate finance side, the key will be how fast the government’s infrastructure projects come to fruition,” René van Wyk, registrar of banks and head of the bank supervision department at the SARB, told OBG. “Banks will benefit in the short term through associated fees, although such projects can take time to reach financial close, while there will be wider economic benefits in the longer term.” Citi estimates the Commercial bank penetration, 2007-11 country will require R80bn ($9.75bn) in project finance over the coming three years, although a share of this is likely to come from development finance institutions and fixed-income instruments rather than bank loans. Progress has taken place in renewable energy, particularly wind and solar, where tenders for 3625 MW in new capacity were issued in 2012 and for which R8bn ($975.2m) in bank loans will be extended, according to Nedbank. Tenders for hospitals, education infrastructure and water supply should also be offered in 2013.

Going Regional

While opportunities remain in the domestic banking market in the retail, SME and corporate segments, the top lenders have in recent years widened their regional footprint to tap into growth opportunities further afield on the continent. While Standard has long had the widest reach in terms of assets on the continent, it is facing fresh competition, in no small part from the merged Barclays-Absa entity. Well represented in Southern Africa, the big four are increasingly looking for growth in West and East Africa.

These investments are, however, taking a toll on lenders’ profitability, with Standard’s ROE on its operations outside South Africa standing at 10.6% in 2012, according to Bank of America Merrill Lynch. Certain jurisdictions like Zambia have much higher capital requirements for foreign banks, currently 30 times greater than requirements for local lenders, which has added to the cost of international expansion. “Banks’ expansions in Africa may affect their ROE in the short term given the significant capital and liquidity requirements in jurisdictions like Zambia or Nigeria,” Van Wyk said. “While such expansions may yield results in the medium term, acquisitions can also expose banks to issues of anti-money laundering and compliance with the US Fair and Accurate Credit Transactions Act of 2003.”

Just as competition heats up in key growth markets like Kenya, Ghana, Nigeria and Angola, where South African banks are still building their presence, existing operations in Southern African markets should pave the way for higher cross-border flows. While most local subsidiaries manage predominantly domestic deposits, the implementation of the first stage of an integrated payments system within the Common Monetary Area of South Africa, Lesotho, Swaziland and Namibia in 2013, and then in the rest of the Southern African Development Community in 2014, should facilitate increased remittance flows as well as allow banks to leverage investments in neighbouring countries.

Outlook

Despite downside economic risk on the domestic and external fronts, South African lenders remain more profitable than their Western peers. Complying with a raft of new rules will pose its own challenges and bring associated costs, yet remaining at the forefront of regulatory change globally will cement their position as the continent’s most transparent and resilient segment. A volatile rand will likely be a positive for banks’ treasuries, even if corporate activity remains subdued in 2013. Meanwhile, innovation in product offerings and unconventional distribution should be driven by competition not only between the big four, but also among specialist and foreign lenders.