October 2016 JCR-VIS SECTOR UPDATE Commercial Banks This report covers 26 commercial banks and has been developed given the current industry stratification... Recent Developments • The banking sector assets in Pakistan have grown at a Compound Annual Growth Rate (CAGR) of 14.7% over the last 5 years (2010-2015) reaching Rs. 14.1t (2010: Rs. 7.1t). Asset base of the banking sector stood at Rs. 15.4 tr at end-June 2016. • Growth in asset base has been funded by increase in deposits which have posted a CAGR of 13.8% over the last 5 years (2010-2015) reaching Rs. 10.4t (2010: Rs. 5.4t). Deposits of the banking sector increased to Rs. 11.0 tr at end-June 2016. The banking • Despite healthy growth over the last few years, financial inclusion sector assets in indicators of Pakistan remain on the lower side vis-à-vis regional Pakistan have counterparts with only 13% of the population (age 15 and above) grown at a having a formal bank account, indicating significant room for growth for CAGR of 14.7% commercial banks to increase the deposit base. over the last 5 People People People years reaching Table 01: Financial with Bank with with Formal Rs. 14.1t (2010: Inclusion Indicators Accounts Formal Borrowings Rs. 7.1t) 2015 (%) Savings (%) (%) Pakistan 13 3 2 Sri Lanka 83 31 18 India 53 14 6 Bangladesh 31 7 10 China 79 41 10 Kazakhstan 54 8 16 Iran 92 22 32 * People implies the entire adult population of a country i.e. aged 15 and above. Source: World Bank • During May’2015, the State Bank of Pakistan (SBP) introduced various regulatory measures for the sector in an effort to reduce the volatility of overnight repo rate including i) introduction of a target/policy rate (50 basis points below discount rate, ii) contraction of interest rate corridor (spread between ceiling/discount rate & floor/SBP repo rate) by 50bps to 2%. In view of the adjustment in the interest rate corridor, the downward adjustment in cost of saving deposits was less than the re-pricing of loans and contributed to decline in net interest income. • Imposition of super tax of 4% on bank’s income for tax year 2015 and 2016 and flat tax of 35 % on all sources of bank’s income has exerted JCR-VIS Credit Rating Company Limited 2 Commercial Banks pressure on profitability during 2015 and expected to continue to do so in 2016, while tax rate on business income of the corporate sector has been rationalized to 31%. • In order to increase number of people in the tax net and encourage people to file tax returns, the advance tax on cash withdrawals and banking transactions of Rs 50,000 and above by a non-filer in a day was imposed initially at 0.6% (federal budget 2015-16). It was later reduced to 0.3% and then revised up to 0.4%. Consequently, growth in deposit base was slower at 4.2% in 2H15 vis-à-vis 8% in 1H15. As per federal budget 2016-17, advance tax on cash withdrawals from each account of Rs 50,000 and above per day has been widened to cover cash withdrawal of Rs 50,000 and above per day from all banks. • China Pakistan Economic Corridor (CPEC) worth $45.6b is expected to result in financing and deposit mobilization opportunities for commercial banks. Work on projects has already started with timeline of all projects being 15 years. CPEC involves: • 24 energy projects (US$34.4bn). • 4 infrastructure projects (US$9.8bn). • Development of Gwadar port (US$800mn). • Formation of over 30 Special Economic Zones. • Reduction in policy rate by 375bps since the monetary easing cycle commenced has translated into average 6M-KIBOR (Karachi Inter Bank Offer) declining by 275bps during 2015 decreasing from 10.09% (2014 annual average) to 7.34% (2015 annual average). 6M-KIBOR has declined further to 6.05% as of 8th September, 2016. Maturity of PIBs and low interest rates is expected to impact profitability growth of the sector. • In order to reduce refinancing/rollover risk on domestic debt given the sizeable concentration in short maturities (around two-third of domestic debt had maturities within one year at end- FY13), GoP started issuing high yielding medium to long-tenor domestic debt (PIBs). Banking sector exposure to PIBs increased by over 4.5x to Rs. 3.37trillion at year-end’2015. Increase in exposure to high yielding PIBs has resulted in significant jump in profitability of the sector in the form of higher net interest income and capital gains. Reinvestment risk on maturing PIBs (large chunk of PIBs had a tenor of 3 years) will continue to be a drag on sector profitability. Around 27% of the outstanding PIBs matured in July’2016. • The significant drop in commodity prices have reduced quantum of working capital facilities that majority of banks provide to their corporate clientele. Non-fund based financing has also declined resulting in lower fee based income for banks. Reduction in rebate on remittance1 business will also impact fee based revenues of banks. Effective July 1, 2015, rebates were reduced to 20 Saudi riyal per transaction (previously 25 Saudi riyal per transaction) on a minimum remittance of $200 (previously $100). Industry Classification • The State Bank of Pakistan (SBP) includes in their quarterly compendium 26 local commercial banks split between the private (21) and public (5) sector. Besides local commercial bank, there are four foreign banks with the number of foreign banks having decreased by 1 with the merger of HSBC Bank Oman S.A.O.G. with Meezan Bank Limited. • The JCR-VIS Banking Sector Overview covers 26 local commercial banks and has been developed given the current industry stratification whereby top 6 banks account for 59.8% of banking sector deposits, including presence in various overseas markets. Besides these large banks, the industry is composed of a few medium sized banks and several small sized banks. 1 Under Pakistan Remittance Initiative scheme, the government pays the remittance fee charges against home remit- tances to encourage remittances through legal channels. JCR-VIS Credit Rating Company Limited Commercial Banks 3 Given that risk profile of banks in different classifications varies widely, we have accordingly split the industry analysis on the basis of market share in deposits. • Banks have been classified into 3 groups: Large banks (market share > than 6%), Medium banks (market share ranging between 3-6%) and Small banks (market share < than 3%). For each risk area, JCR-VIS has commented on the issues of the sector, as a whole, followed by specific comments for strong and weak banks in each classification. Table 02: Banking Industry Classification (in order of market share provided in [] paranthesis) Large Banks Medium Banks Small Banks Habib Bank Limited (HBL) - Meezan Bank Limited Soneri Bank Limited (Soneri) [14.1%] (Meezan) - [4.9%] - [1.9%] National Bank of Pakistan Bank Al-Habib (Al-Habib) - BankIslami Pakistan Limited (NBP) - [13.1%] [4.7%] (BankIslami) - [1.6%] United Bank Limited (UBL) Askari Bank Limited (Askari) JS Bank Limited (JS Bank) - - [8.6%] - [4.1%] [1.5%] Allied Bank Limited (ABL) - Bank of Punjab (BoP) - Dubai Islamic Bank Pak. [7.6%] [3.9%] Limited (DIB) - [1.4%] MCB Bank Limited (MCB) - Habib Metropolitan Bank NIB Bank Limited (NIB) - [7.3%] Limited (HabibMetro) - [1.3%] [3.6%] Bank Alfalah Limited Standard Chartered Bank The Bank of Khyber (BoK) - (Alfalah) - [6.6%] Limited (SCB) - [3.4%] [1.2%] Faysal Bank Limited (Faysal) Summit Bank Limited - [3.0%] (Summit) - [1.2%] Sindh Bank Limited (Sindh) - [0.9%] Silk Bank Limited (SILK) - [0.8%] Bank Albaraka (Pakistan) Limited (Albaraka) - [0.7%] Samba Bank Limited (Samba) - [0.4%] Burj Bank Limited (Burj) - [0.3%] First Women Bank Limited (First Women) - [0.2%] JCR-VIS Credit Rating Company Limited 4 Commercial Banks Concentration • The banking industry is characterized by significant concentration with large banks (top 6 banks) accounting for around 60% of assets, deposit base and branches. However, contribution to profitability is significantly higher at 71.1%. Accounting for profitability of medium sized banks, large and medium sized banks cumulatively represent 95.1% of banking sector’s after tax profits. The remaining 13 banks contribute only 5% of profit after tax. Table 03: Concentration Large Banks Medium Banks Small Banks Total (Rs. M) Asset Base 60.0% 26.2% 13.8% 13,562,504 Deposits 59.8% 27.5% 12.7% 10,243,268 Profit After Tax 71.1% 24.0% 4.9% 180,877 Advances 56.1% 27.0% 16.9% 4,631,453 Non-performing Loans 52.5% 30.1% 17.4% 578,702 Branches 60.8% 21.2% 18.0% 12,102 Credit Risk • Overall advances portfolio of banking sector has witnessed growth of 8.1% and 7% during 2015 and 1H16, respectively. Gross advances of the sector stood at Rs. 5.7trillion at end- June’2016. Table 04: Sector-wise Industry Analysis HY16 2015 2014 In Rs. b Advances NPLs Infection Advances NPLs Infection Advances NPLs Infection 749 762 792 Textile 197 26.30% 198 26.00% 198 25.00% 13.1% 14.3% 16.1% Production/ 789 681 621 Transmission 38 4.90% 41 6.00% 29 4.70% of Energy 13.8% 12.8% 12.6% 504 474 394 Agribusiness 58 11.50% 40 8.50% 37 9.40% 8.8% 8.9% 8.0% Total 5,703 634 11.10% 5,330 605 11.40% 4,930 604 12.30% • Private sector credit growth witnessed growth of 3.9% during 1H16 as compared to a slight decline during 1H15.