17 December 2018

Kenya: Why KCB Is Most Attractive Bank in Kenya

Nairobi — Cytonn Investments has released its Q3' 2018 Banking Sector Report, which ranks KCB Group as the most attractive bank in Kenya, a position it has retained since 2016.

The Nairobi Securities Exchange (NSE) listed lender is supported by a strong franchise value and intrinsic value score.

The franchise score measures the broad and comprehensive business strength of a bank across 13 different metrics, while the intrinsic score measures the investment return potential.

National Bank of Kenya ranked lowest overall, ranking last in both the franchise value score and intrinsic score.

"The Kenyan banking sector continues to show its resilience in the face of a challenging operating environment. The report, themed 'Deteriorating Asset Quality Dampens Growth, analyzed the results of the listed banks using their Q3'2018 unaudited results so as to determine which banks are the most attractive and stable for investment from a franchise value and from a future growth opportunity perspective," said Caleb Mugendi, Senior Investment Analyst at Cytonn Investments.

"The increased emphasis on operating efficiency by banks seems to be bearing fruit,with the listed banking sector's operating efficiency improving, supported by revenue expansion as well as cost containment. The continued focus on alternative banking channels continues to boost their Non-Funded Income (NFI),thereby supporting the banks' top line revenue under the tough operating environment of compressed interest margins", added Caleb.

Cytonn looked at four key focus areas, which are regulation, diversification, consolidation and asset quality in this report.

A tighter operating environment, diversification of revenue, cost management and asset quality management will prove to be the key growth drivers for players in the banking sector, the investment firm has noted.

"With the deteriorating asset quality, evidenced by the rising non-performing loans mainly in the manufacturing, retail and real estate sectors, we expect banks to continue employing prudent loan disbursement policies, and consequently tightening their credit standards, in order to address these concerns around asset quality. This poses a challenge, asit points to reduced inter mediation in the banking sector, between the depositors and the credit consumers, one of the banking sector's main function." said Faith Maina, Investment Analyst at Cytonn Investments.

"We have seen banks adjusting their business models with lending skewed mainly towards collateralized lending and working capital financing," added Faith.

The tough operating environment has made it hard for the smaller banks that do not serve a niche to operate. Therefore, going forward, the market is expected to witness increased consolidation as larger banks acquire the smaller players in the sector, who are constrained in capital.

"We may also see mergers and strategic partnerships between banks, aimed at creating larger entities with sufficient capital bases to pursue growth as well as increase their respective competitive edge, which will ensure the sector's overall stability," added Faith.

KCB Group ranked first on the back of a high return on average equity of 21.7 per cent compared to an industry average of 18.8 percent , as well as high operating efficiency, ranking second, with a Cost to Income Ratio (CIR) of 52.8 per cent, compared to an industry average of 56.3 per cent.

Equity Group ranked second, recording the highest Return on Average Equity at 22.3 percent, the second best NFI to total operating income ratio at 40.2 per cent, above the industry average of 34.5 per cent, and ranking first in the intrinsic value score.

Equity Group's ranking was largely pulled back by its expensive market valuation, with a price to tangible book (P/TBv) of 1.8 times, compared to an industry average of 1.3 times or KCB Group's 1.2 times.

Stanbic Holdings rose three positions to position six from position nine due to an improved franchise value score, with the bank having the lowest NPL ratio of 7.2 per cent, lower than the industry average of 9.9 per cent,the highest deposits per branch of Ksh7.0 billion,which was above the industry average of Ksh2.9 billion, and the highest NFI to total operating income ratio of 46.5 per cent , above the 34.5 per cent industry average.

Kenya's listed banks recorded a 16.2 per cent growth in core EPS in Q3'2018, compared to a decline of 9.3 per cent in Q3'2017.

NIC Group and HF Group were the only banks that recorded declines in core EPS, with NIC recording a decline of 3.3 per cent , and HF recording a decline to a loss per share of Ksh0.9 from a core earnings per share of Ksh0.5 in Q3'2017.

Deposits grew at 7.4 per cent year-on-year, a faster rate than loans, which grew by 4.2per cent with funds channeled towards government securities that recorded a high growth of 17.8 per cent year-on-year.

The loan growth came in lower as private sector credit growth remained low, at an average of 4.4 per cent in the 10 months to October 2018, below the five-year average of 12.5 per cent , with banks adopting a more prudent credit risk assessment framework to ensure quality loan books so as to manage the rising non-performing loans, and the associated cost of risk.

The sector's operational efficiency improved, as shown by the decline in the cost to income ratio to 56.3 per cent from 59.4 per cent in Q3'2017, supported by the improving total operating income, and lower costs, aided by the lower cost of risk due to reduced provisioning levels.

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