KASB BANK TAKEOVER BY BANK ISLAMI MIRZA ANAS BAIG-12433 KAZIM REZA MANKANI-12819 MOBEEN HASHMI-12384 Contents About KASB ............................................................................................................................... 2 Performance ............................................................................................................................. 2 Asset Quality ............................................................................................................................. 2 Steps Taken to Improve the Capital ........................................................................................ 3 Merger with International Housing Finance Limited ................................................................. 3 Merger with KASB Capital Limited and Network Leasing Company Limited ............................... 3 Capital Investment by Asia International Financial Limited ....................................................... 4 Issue of Rights Shares ................................................................................................................ 4 Future Plan ................................................................................................................................. 4 Capital Injection Proposal of Cybernaut Investment Group ...................................................... 4 State Bank Regulatory Action ................................................................................................... 4 Banks Interested in KASB Bank Limited: ................................................................................... 5 Bank Islami Capital Adequacy History..................................................................................... 5 Due Diligence by Banks .............................................................................................................. 6 Amalgamation ......................................................................................................................... 6 Moratorium Lifted ..................................................................................................................... 6 References ................................................................................................................................. 6 1 About KASB KASB Bank Limited was a public limited company which had been incorporated in 1994 (KASB Bank Limited, 2012). It was listed on all the stock exchanges in Pakistan and was licensed to undertake the business of commercial, consumer and investment banking. The bank was a holding company with many associates as part of a group of companies known as the KASB Group. It was reporting losses due to poor profitability, as a result of which its regulatory capital was eroded and fell below the statutory minimum requirement. In order to meet the State Bank requirements of capital, the management and board of directors decided on a series of mergers with other group companies. Performance KASB Bank was among the small-sized banks and, along with its peers, was having difficulty in meeting the enhanced capital requirements of the SBP. As Basel III3 was being implemented, the pressure on asset quality and a narrowing of spreads made the operating environment for banks having a weak financial risk profile more challenging. Over the years, the bank had made poor credit decisions in building its loans and advances portfolio and, as a result, its non-performing loans (NPL) were very high. The bank’s performance from 2009 to 2013 was seriously affected by the NPLs and other strategic investments that were also non- earning. The banking sector continued to operate in one of the most challenging times during 2009 due to tight liquidity conditions, distressed corporate performance and an overall weak macroeconomic situation. During 2010–2011, the bank’s investments did not generate enough earnings and the net interest margin became negative. This fact, and the amount of loan loss provisions and impairments in 2009 of PKR3,328 million and PKR1,509 million in 2010, caused the bank to report huge losses of PKR4.3 billion in 2009 and PKR2.7 billion in 2010. There were also further provisions required for subsequent years. The bank also posted losses in dealings in foreign exchange due to a weak currency. The administrative expenses increased to a high of PKR3.1 billion in 2012 and the bank’s loss for the year was PKR806 million. By the end of 2013, the accumulated loss was a massive amount of PKR12,500 million. Asset Quality On a quarterly basis, the bank reviewed the entire loan portfolio and made provisions for any NPL. This followed the prudential requirements stipulated by the SBP. The bank management’s focus had been mainly on the recoveries of its stuck-up advances (NPLs; see Exhibits 2 and 3). The overall advances portfolio registered no significant movement, but the NPLs were very high— these increased from 21 per cent of advances in 2009 to a high of 36 per cent of the advances during 2012. This was due to an increase in the interbank rate called KIBOR (Karachi Interbank Offer Rate) which caused many customers to default. These advances not only took up a lot of management time but also required different expertise to restructure them. The bank took measures to strengthen the security structure and initiated prompt restructuring and rescheduling to limit the deterioration of the loan portfolio. The prudential regulations prescribed age-based criteria for the classification of NPLs and advances as held by the bank. The SBP Quarterly Report for the October to December 2014 quarter (SBP, 2014b) stated that the asset quality of banks, in general, continued to improve from July 2013 to December 2014 as the NPLs to loans ratio decreased by 70 basis points to 12.3 per cent. The report also noted that the operating performance of the banking industry showed a marked improvement as the profit before tax increased by 52 per cent during 2014. 2 However, the performance of KASB Bank was very different in 2013. While the new NPLs identified were low at PKR649 million compared to PKR2.9 billion that were recovered in cash or regularized, their total as a percentage of the entire portfolio remained high at 35 per cent. Management had set up a Special Assets Management Group (SMAG) to adopt an aggressive follow-up of NPLs. The bank had developed measures to put likely NPLs on a watch list to address and reduce the accounts being classified. The bank had a dedicated recovery team that dealt with NPLs on a regular basis. Experience showed that a substantial number of companies and customers who had been classified and were not current on advances repayment were still operating their businesses; the bank staff was in contact with such cases to restructure their facilities wherever possible. Steps Taken to Improve the Capital Merger with International Housing Finance Limited The bank sponsor, Mr. Nasir Ali Shah Bukhari, was a major shareholder in a public company called IHFL (KASB Bank Limited, 2007). This company provided mortgage financing in the housing and non- residential sector. The bank needed regulatory capital, and during a meeting on 27 October 2006, the bank’s board of directors decided to merge with IHFL. The SBP granted ‘in principle’ approval on 30 October 2007 to the merger. It also granted a period up to 31 March 2007 for the bank to meet the minimum capital of PKR3 billion needed by 31 December 2006. The scheme of amalgamation of IHFL with the bank was a stock swap (exchange of one equity-based asset for another) that resulted in additional capital of PKR585 million which raised the bank’s paid in capital to PKR3,106.9 million on 31 December 2007. The merger was considered a strategic decision as it was expected to jump-start the business of mortgage finance, a product that the bank management had already approved. The merger added a robust amount of PKR522 million in advances to the existing bank portfolio. After the year ended, 31 December 2007, a rights issue amounting to PKR907.9 million increased the paid in capital to PKR4,014.8 million on 31 December 2008. Merger with KASB Capital Limited and Network Leasing Company Limited During 2008, there was a significant restructuring of the KASB Group which involved separating the group’s non-banking financial businesses from the bank. This resulted in the formation of a non-banking financial conglomerate called KASB Capital. The bank invested in 68 million shares of KASB Capital which was 27.5 per cent shareholding of the new entity. As a result of the global financial crisis in 2008, the economic scenario for the banks changed drastically, and the board of directors and management were required to act quickly. The board decided to amalgamate with the two group companies, that is, KCL and NLCL, and the scheme of amalgamation was approved by the SBP. KCL and NLCL were both non-banking finance companies and provided investment and lease finance services, respectively. The bank held 27.5 per cent shares of KCL, and KCL held 78.84 per cent of the shares in NLCL. By 31 December 2008, the bank had also acquired the remaining 72.5 per cent of KCL shares to merge it with the bank. Because of this amalgamation, the bank became the holder of 78.84 per cent of NLCL. It then acquired the remaining 21.16 per cent of shares to merge NLCL into the bank. 3 After the issue of shares worth PKR3,618 million upon the amalgamation of KCL and NLCL into the bank, the paid-in capital was increased to PKR7,632 million.