The global financial crisis and Arab Spring uprisings all but decimated Egypt's economy. However, its banks survived this period with admirable resilience, and now that the economy is back on an upward spiral, they are looking to cash in.
If the recent flow of trade delegations to Cairo is an indicator of political and economic progress, then Egypt is on the right track. In November 2014, the US dispatched its largest ever trade delegation to Egypt, representing about 70 leading companies, in a sign of improving relations between the two countries. This was followed by the visit of similarly sized UK and Italian delegations in January and March of this year.
Indeed, the world is once again focusing on Egypt, and for good reason. Since assuming power, the country’s new president, Abdul Fattah al-Sisi, has worked hard to burnish the country’s credentials as an investor-friendly destination. This message hit home in March, following the successful hosting of the Egypt Economic Development Conference. Over three days, the government discussed its vision of economic development with some of the world’s leading business and political figures. By the end of the conference, $60bn-worth of investment commitments and soft loans had been pledged by attendees.
In addition, the government announced plans for major infrastructure and project developments, including the new $4bn administrative capital east of Cairo. These announcements were matched by various legislative reforms in the build up to the event, including a new unified investment law designed to ease the process of foreign direct investment (FDI).
While serious questions over the country’s political environment remain, this hard work on the economic front is paying off. “The new government is modifying the country’s DNA. We need nothing less than a demanding CEO [as president] to ensure that this change is executed effectively,” says Hisham Ezz Al-Arab, chairman and managing director of the country’s largest private lender, Commercial International Bank (CIB).
On the ground, confidence among the business community is high. The introduction of painful but much needed reforms, including extensive changes to Egypt’s generous system of energy subsidies, and its onerous tax code, have left little doubt about the government’s intentions to clean up the economy and build a more sustainable economic model.
“There have been huge changes in Egypt. The country is attracting investors once again and is seen as a critical player in the development of the regional economy. We are seeing interest from foreign investors who want to understand more about the investment opportunities in Egypt,” says Jacques-Emmanuel Blanchet, deputy chairman and CEO of HSBC Bank Egypt.
For Egypt’s banks, this environment offers significant potential for growth in a market of 90 million people, of whom only about 10% hold bank accounts. When coupled with massive public and private sector investments in infrastructure and project development, the opportunities across the banking sector are vast.
Back in big growth
Encouragingly, the market’s promise is being translated into good returns. Activity in Egypt's banking sector in 2014 showed a marked improvement from previous years, with most indicators swinging into positive double-digit growth territory. By November 2014, deposits and loans had increased by 12.5% and 9.2% in US dollar terms, while the aggregate net profits of the 11 publicly listed banks in the country had risen by 15.1% for the first nine months of the year.
These developments represent a welcome change. A succession of crises, starting with the global financial downturn in 2008 and culminating in two domestic political revolutions starting in 2011, have stifled opportunities for optimum growth in recent years.
The environment of uncertainty in this period led to muted private sector loan growth, as well as a decline in FDI. Data from Bank Audi and the Central Bank of Egypt indicates that lending growth declined dramatically after a strong year in 2008, when credit facilities increased 12.7% for the year. Between 2009 and 2013, lending growth levels were barely in positive numbers, ranging from a high of 2.8% in 2011 before contracting -2.6% in 2013.
Against this uncertain backdrop, most lenders gained massive exposure to high-yielding, zero risk-weighted government debt, a legacy position which remains today. Data from the Central Bank of Egypt points to Egyptian banks’ investments in government securities and treasury bills accounting for 44.6% of sector-wide assets in November 2014. Nevertheless, improvements to the political and economic environment look set to alter this trend.
“As credit demand starts to grow, the banking sector’s exposure to government securities will begin to decrease. This should fall from current levels to between 20% and 30% in the next few years,” says Mr Ezz Al-Arab at CIB.
Ratings agency Moody’s expects loan growth in the mid-double digits this year, off the back of improving gross domestic product growth numbers, which are expected to hit 4.5% for the fiscal year ending in June 2015. This is up from 2.2% from 2014, and according to the agency, this improving macroeconomic picture is likely to augment borrowers’ repayment capacity, which in turn will improve sector-wide asset quality.
While previous years have proved challenging, most Egyptian lenders have performed admirably under the circumstances. In The Banker’s Top 100 Arab Banks ranking published in October 2014, three Egyptian lenders – Banque du Caire, CIB and QNB Al Ahli – made the top 10 ranking for return on assets. Meanwhile, five Egyptian banks, including CIB, HSBC Egypt and Banque du Caire, were the leading banks by return on capital among all lenders in Arabic countries.
This resilience owes much to a series of central bank reforms implemented over the past decade. “In 2003, the central bank decided to clean up the banking sector by embarking on a series of ambitious reforms. By 2007, Egypt's banks were standing on solid ground and this is why they endured the 2008 financial crisis relatively well," says Mr Ezz Al-Arab.
Many Egyptian bankers echo this sentiment, and feel that the series of shocks endured by the sector, from the financial crisis to the years of political revolution, have left the country’s lenders in better shape for the future.
"This country has proven that its economy is so diversified that it can endure serious political and economic challenges. The banking sector has been restructured in a way to absorb these shocks. It is particularly resilient,” says Hassan Abdalla, vice-chairman and managing director of Arab African International Bank (AAIB), the country’s sixth largest lender by assets, according to The Banker Database.
The central bank’s decade-long reform process included measures to encourage consolidation in the sector – Egyptian banks numbered 61 in 2004, compared with 39 today – efforts to improve asset quality and capitalisation levels, as well as a major reform of state-owned banks.
Sources of growth
Looking ahead, major government-backed infrastructure projects, including the development of the new Suez Canal, valued at E£60bn ($7.86bn), as well as improving FDI numbers, will be a key source of growth. Crucially, Egyptian lenders have the necessary liquidity to deploy to capitalise on these opportunities as the sector’s loan-to-deposit ratio sits at 41%.
For certain lenders, particularly those with an eye to supporting multinationals and large corporates, this project pipeline is already translating into strong growth. HSBC Egypt’s global banking and markets business increased profits before tax from $166m in 2013 to $177m in 2014, while its commercial banking division increased by the same measure from $37m to $94m over the same period.
“Since the second half of 2014, we have seen solid momentum building in the corporate sector through major government investments and other key projects, led by multinational companies, and this has continued into 2015,” says Mr Blanchet.
“In an economy that is recovering, we tend to see growth first in the multinationals sector, followed by large corporates and then medium-sized enterprises. This is happening in Egypt. To support this growth most effectively, our teams are structured around sectors to ensure that our customers can truly benefit from our global proposition locally,” says Mr Blanchet.
As Egypt’s economic recovery gathers pace, many lenders also have an eye on developing their presence in the mid-market and small and medium-sized enterprise (SME) space. “Egypt’s banks have traditionally been good at big-ticket lending. But we are now moving towards the middle market and SMEs. At AAIB, we are building the infrastructure to address this market segment,” says Mr Abdalla.
Meanwhile, Banque du Caire, the country’s fifth largest lender by assets, has developed the first in-house credit training programme by a government bank in the country targeting SME lending.
“The training programme lasts for six months and involves 30 personnel selected from more than 300 candidates. The potential [SME] market is huge but it comes with a lot of difficulties. We are trying to improve the financial culture of the country. Many SME owners run good businesses but they lack financial awareness,” says Mounir El Zahid, chief executive of Banque du Caire.
This focus on SMEs fits with the government’s broader focus on financial inclusion. With banking penetration in Egypt exceptionally low, and the country’s shadow economy commensurately large, both the banks and the government face the daunting task of bringing new groups into the fold of the official economy.
“The government is prioritising financial inclusion, including for SMEs and the underbanked, and it is serious about integrating the shadow economy into the official economy. As this happens, as a bank we have to consider issues of capacity,” says Mr Ez Al-Arab.
Financial inclusion drive
These capacity issues are among the greatest longer term challenge facing Egypt’s lenders, as they work to absorb the vast numbers of new customers entering the market. As the government’s agenda of financial inclusion gathers pace, most lenders are now looking to data and technology investments to answer these longer term challenges. CIB has invested in two data centres, located in Cairo’s Smart Village and in Giza, to deal with these problems and others.
“By July this year, the government has announced that all public sector employees will have to be paid through the country’s banks. With about 6 million government employees, this will be a significant development. When you take into account the number of students and new-to-bank customers also entering the market, the volume of new customers will be very large,” says Mr Ezz Al-Arab.
Egyptian banks’ microfinance offerings will also be an important component of this financial inclusion drive. A number of lenders are now pushing hard on this front and have found considerable success.
“Microfinance in Egypt is an excellent market. And Banque du Caire has been very successful [within it] for the past 10 years. The collection rates are very satisfactory, especially in Upper Egypt and more remote communities. A better ethos and culture exists in these areas with respect to financial commitments,” says Mr El Zahid.
AAIB is partnering with two foreign microfinance providers, yet to be announced, in order to develop a specialised microfinance unit in the country. "The numbers relating to microfinance are scarily profitable. The default ratio is negligible. At AAIB we believe we are in a position to extend some added value to our existing microfinance proposition and achieve rapid growth,” says Mr Abdalla.
Though the prospects for Egypt’s lenders are bright, most bankers are aware that significant challenges lie ahead. Moreover, the central bank is still working hard to reform the banking sector and limit the size of the shadow economy. In early 2015, the central bank imposed a cap on dollar deposits, equal to $10,000 a day or $50,000 a month, to prevent companies and individuals from purchasing large amounts of US dollars on the black market and depositing them in the country’s banks.
“We are supportive of the work the central bank has been leading to modernise the foreign exchange market in Egypt. This is a positive step forward and will help all banks in their fight against financial crime compliance,” says Mr Blanchet.