In addition to having one of the biggest banking sectors in the North African region, Egypt’s is also one of the most profitable. In more recent times, lenders have made easy gains on high-yielding government debt following the 2011 revolution, while an improving macroeconomic environment and the flotation of the local currency lead to another robust performance for the sector in 2017. “The Egyptian banking sector has been the backbone of the economy since the first reforms in 2004, and we have seen this reflected in the strong confidence held in the banks today,” Tarek Fayed, chairman and CEO of Banque du Caire, told OBG. However, there are numerous challenges facing domestic lenders, such as a controversial new banking law and a bold lending target to small and medium-sized enterprises (SMEs) set by the regulator. Both of these issues are linked to the goal of redefining the role of the banks in Egypt’s wider economy. This is a salient issue in the context of the growing concern with raising financial inclusion across society.
The country’s modern banking industry began in the mid-19th century, with the establishment of the Bank of Egypt in 1858 and the Anglo Egyptian Bank in 1864. At the time Egypt had one of the most open economies and cosmopolitan populations in the region, and as such it drew in a raft of other foreign institutions over the following decades. These included Crédit Lyonnais in 1866, Ottoman Bank in 1867 and a number of other Greek, French and Italian institutions. National Bank of Egypt (NBE) and Agricultural Bank of Egypt were founded with British capital in 1898 and 1902, respectively. The first purely Egyptian bank was Banque Misr in 1920.
In the decades leading up to the Second World War the sector experienced rapid growth, but the abolition of the monarchy and the introduction of Nasserite socialism in the 1950s saw what had been a vibrant and largely privately held banking industry reduced to four state-owned commercial banks and a few specialised financial institutions. NBE, which had assumed the main functions of a central bank, was divided into a state-owned commercial bank that maintained its original name and the Central Bank of Egypt (CBE), which took over central bank duties.
Just two decades later the industry entered another phase of development, driven by the “open door” economic policy of former President Gamal Abdel Nasser’s successor Anwar Sadat, which once again established an outward-looking economy. The banking law promulgated during this period, Law No. 120 of 1975, enabled private banks to return to the market and defined three modes of operation, with banks now designated as: commercial banks, which accepted deposits and offered other financial services to customers; business and investment banks, which facilitated medium- and long-term financing for new businesses and fixed-asset investments, as well as carrying out other commercial financial services; and specialised banks, which focused on particular economic sectors. In the 1990s a series of CBE decisions introduced a more favourable lending environment, resulting in an acceleration of private sector interest and a significant expansion of credit growth. However, this trend was accompanied by a deterioration in asset quality. Rising numbers of non-performing loans (NPLs) impelled the CBE to implement a programme of reform, which has substantially reduced the number of banks operating in Egypt, with the 61 licensed banks in 2004 falling to 40 as of early 2018.
The banking definitions established by the 1975 law were removed during this regulatory overhaul. Now, banking licences cover the whole spectrum of activities, including commercial and investment banking. Banks are usually classified by ownership, being public, private, foreign or joint ventures. The most visible legacy of the Nasser era is the continued dominance of state-owned institutions. Of the big-five commercial banks in the market, three are public institutions. The largest is NBE, which claimed 27.3% of the sector’s combined loan portfolio in December 2016, holding total assets in excess of LE700bn ($46.1bn). Its closest rival in terms of assets is Banque Misr, another state-owned institution, which posted total assets of LE430.2bn ($28.3bn) in June 2016, the latest available figures. The third-biggest public sector player, and the fifth-biggest bank in the country, is Banque du Caire, which had total assets of LE131bn ($8.6bn) at the close of 2016.
The government also has other interests in the market, with seven public-private banks held by joint ventures. However, a planned initial public offering (IPO) programme would reduce the state’s overall stake in the sector. Banque du Caire is widely expected to be the first state bank to be opened up to private sector investment, with the CBE reportedly planning to offer between 20% and 49% of its stake in the institution. In December 2017 it was announced that Cairo-based investment bank EFG Hermes is taking over the processing of the IPO for Banque du Caire, with its sale scheduled to take place in the first half of 2018. A capital increase, meanwhile, will see the CBE offload a 40% stake in Arab African International Bank. The CBE is also expected to divest its 99.9% stake in United Bank of Egypt in 2018, having already postponed a planned sale in 2017.
Private Sector Players
Over the past two decades the larger private sector banks have expanded beyond their historical focus on trade-related financial services into business and retail services, and the loanable fund market. Two of the licensed banks in the private segment have made it into the big five, with the largest of these being the Commercial International Bank (CIB), which had total assets of nearly LE294.8bn ($19.4bn) as of December 2017, making it the third-largest commercial bank in the country. Fourth, is a subsidiary of Qatar National Bank (QNB), QNB Alahli, which had total assets of LE219.6bn ($14.5bn) as of December 2017. QNB entered Egypt’s market in 2013, when it purchased 97.1% of France’s National Société Générale Bank. The deal formed part of a trend which has seen more regional participants enter Egypt’s markets, rather than European players.
After receiving long-awaited permission from the regulator, Kuwait’s Al Ahli Bank began operations in August 2015. In addition, Morocco’s Attijariwafa Bank commenced operations in Egypt in late 2017, rebranding UK-based Barclays Bank’s 55 outlets. This brought the British bank’s 153-year presence in Egypt to a close. Attijariwafa Bank has already begun implementing its five-year strategy to capture a greater share of the domestic market. Other foreign banks have taken a favourable view of Egypt’s economic progress as well, with a spate of lenders announcing plans to establish or expand their standing in the country. For example, Lebanon’s Bank Audi and Abu Dhabi’s Union National Bank both announced long-term development plans in March 2017, citing confidence in the country’s outlook.
Following the stipulations of the Banking Sector and Money Law No. 88 of 2003 and its accompanying amendments, the CBE is tasked with regulating and overseeing the sector, which includes facilitating the daily settlements and clearings of all licensed banks, as well as implementing reforms.
In May 2017 the CBE introduced a new draft banking law that became one of the industry’s biggest talking points. The proposed law would establish new minimum capital requirements for institutions as well as set term limits for banking CEOs. Later that year, local press reported that the regulator was considering the benefits of introducing mid-term confidence votes on banks’ boards as well, as this would allow shareholders to hold board members to a higher standard of governance, though such measures are still being weighed. With consultation apparently taking place with banks and the IMF, it is thought that 2018 will see a final decision on the matter (see analysis).
The new law is also likely bring about an era of sector consolidation. So far, smaller banks in the market have had little regulatory pressure to combine their balance sheets with other players, but these proposed hikes in minimum capital requirements would certainly promote more mergers and acquisitions.
The CBE has been applying Basel Committee on supervision standards, and had implemented the core Basel II and Basel III requirements by mid-2017, according to the IMF. However, there is some way to go to fully applying the changes, with the CBE still in the process of implementing Basel III’s liquidity coverage and net stable funding ratios. “Egyptian banks are well prepared for the implementation of Basel III, although some aspects – such as capital adequacy – will raise operational costs,” Mervat Soltan, chairman of Export Development Bank of Egypt, told OBG.
Beyond its prudential activity, the regulator has sought to broaden the aggregate loan portfolio of the banking sector from its traditional focus on corporate facilities, to have a larger component made up of smaller businesses. It has also worked to put more comprehensive consumer protection measures in place, for instance by introducing loan limits for retail lending. Additionally, in October 2017 the CBE revealed that it plans to establish a new consumer protection unit that will receive and handle complaints made by consumers against the banking system.
The CBE’s oversight has ensured that the sector is effectively buffered against potential external or internal shocks. As of June 2017, aggregate capital adequacy for the sector stood at a healthy 14.5%. Banks have also reported a gradual improvement in asset quality since 2011, with the ratio of NPLs to total loans falling from 10.5% that year to 5.5% in June 2017. Despite the challenging economic backdrop, local currency liquidity has remained abundant, buoyed by a sturdy retail deposit base. Foreign currency liquidity, meanwhile, had been squeezed throughout 2015 and 2016, but it has since eased significantly, in large part due to the November 2016 decision to move the Egyptian pound from a managed float to a free float (see analysis).
In October 2017 ratings agency Moody’s reaffirmed its outlook for the country’s banking system as stable, citing its pick-up in economic growth, resilient deposit base and robust loan performance. Moody’s expects loan quality to remain relatively high, despite a sharp rise in borrowing rates and the high-inflation environment. The debt repayment capacity of local firms is also supported by relatively low overall levels of debt, as well as the government’s ongoing efforts to prop up the tourism sector. Looking to downside risks, a potentially problematic feature of the sector is its relatively high loan concentration. Around 33% of sector assets are held in the form of low-rated government securities, and therefore the credit profile of the system is supported by that of the state.
Banks operating in the country have benefitted from the macroeconomic conditions that followed the revolution of 2011. By channelling excess liquidity to Treasury investments, record high yields have enabled the sector to grow its aggregate net interest margin (NIM) substantially. In 2010 around 30% of sector assets were accounted for by government debt instruments, but by mid-2016 this figure had risen to 45%. The expansion of NIMs has been further aided by the fact that the strong deposit growth in the post-revolution period included a sizeable component of low-cost demand deposits, especially for the large private sector banks, where they accounted for around 50% of total deposits. The expansion of NIMs has, in turn, boosted the profitability of banks. According to the IMF, the sector’s aggregate return-on-equity was 30.9% as of June 2017, compared to 14% in 2010. The aggregate net profits of banks grew by 60% in 2016, according to a February 2017 statement made by Gamal Negm, deputy governor of the CBE.
The more benign operating environment present throughout 2017 was largely due to the adoption of a free-floating currency in November 2016. “The currency flotation by the central bank was something that simply had to be done. It was the right move at the right time,” Ashraf El Kady, chairman of United Bank of Egypt, told OBG. The flotation increased the availability of US dollars in the country, making it possible for banks to meet the foreign exchange demands of customers and reclaim exchange activity from the parallel market. The shift was also accompanied by a 300-basis-point increase in interest rates, which raised the level of exposure of local lenders to short-term government securities, helping to boost the profitability of banks as well. While higher interest rates and the flotation of the Egyptian pound improved banking conditions in 2017, there are concerns that the ease with which banks can secure such margins through investment in government securities could lead to limited lending activities.
The success with which banks have used Treasury investment to boost profits has led some to claim that the sector has neglected one of its fundamental purposes: to extend credit to individuals and businesses in order to support economic growth across all sectors of the economy. Loan growth slowed following the 2011 revolution, but began to pick up again in 2015, registering close to 20% year-on-year growth in October of that year.
More recently, loan growth has faced stronger headwinds. In 2016 the shortage of foreign exchange negatively affected trade finance activities as well as the expansion plans of local businesses. This downward pressure on loan growth was somewhat mitigated by an acceleration in public sector lending, which accounted for approximately 50% of net loan additions in 2016. Household lending slowed over the year, in large part due to a new regulatory obligation on banks to keep the total premiums on retail loans below 35% of a customer’s monthly income after taxes.
Higher interest rates slowed the rate of corporate investment in 2017 and dampened demand for consumer loans, leading to a decline in the overall lending growth rate for the year. According to a research note issued by BNP Paribas, corporate loan demand in 2017 was largely confined to working capital, with the demand for lending on capital expenditures limited by the higher cost of borrowing.
In terms of big-ticket items, there have been some major loans taken out in recent times, with banks working together to serve the market. For example, in October 2017 the Egyptian General Petroleum Corporation (EGPC) finalised a LE2.3bn ($151.5m) loan agreement with a consortium of six banks to finance expansion plans and exploration activities. The sum is to be disbursed over a seven-year period, and will be used by the EGPC to fund the construction of 16 onshore and offshore wells, as well as two new docking platforms. Earlier in the month, the Middle East Oil Refinery singed a $1.2bn loan agreement with a consortium of two Egyptian banks and an Italian lender to finance refinery expansions.
The telecoms sector is another relatively active arena for corporate banking units. In July 2017 Telecom Egypt signed a LE13bn ($856.4m) loan agreement with a consortium of five Egyptian banks to upgrade its infrastructure and mobile internet services. As more telecoms players launch 4G networks and compete for market share the sector is poised to become a fruitful source of deals over the next year.
Egypt’s bold development plans mean that its banking sector is likely to continue to benefit from large project-finance deals over the medium term. In October 2017 an inauguration ceremony was held for the New Administrative Capital that is currently under construction roughly 50 km east of Cairo. The development will have a governmental district of ministry buildings and host the nation’s Parliament, while its residential area will provide accommodation for some 35,000 state employees, in addition to six schools and six universities. Current plans for the overall development envision the construction of 20 residential neighbourhoods worth $15bn, educational facilities, hospitals, 40,000 hotel rooms, a theme park, solar-energy installations and an international airport. The total funding mix has yet to be finalised, but early capital has been secured from the military and the New Urban Communities Authority. Once the core infrastructure of the city is complete and more advanced phases are undertaken, however, private investment will play a larger role in its development.
Major transport infrastructure projects taking place alongside Egypt’s urban expansion over the coming years are also generating financing opportunities. In January 2018 the government issued an invitation for international companies to prequalify for the contract to build, finance and maintain two monorail projects in the country: a 35-km line linking Giza with October City and a 53-km line connecting Cairo’s Nasr City district with the New Administrative Capital. Egypt also embarked on the third phase of its national road expansion plan in 2017. This $524.3m undertaking involves upgrades to existing routes and the construction of 1254 km of new roads. Road works being carried out under the plan include a 400-km link between Cairo and Assiut and a 37-km route to be built alongside the Cairo-Suez highway.
In the energy sector, the government’s nuclear ambitions may drive massive loan opportunities. A loan from the Russian government is expected to cover 85% of the total cost of building the 5-GW Dabaa nuclear plant, but the $21bn project, scheduled for completion in 2029, is expected to need large-scale financing down the track (see Energy chapter).
Beyond its mega-projects, the country’s broader investment landscape is becoming more amenable to international investors who may require local financing. “The implementation of reforms, along with IMF support, the flotation of the Egyptian pound and the high interest rate environment have attracted close to $20bn in foreign investor portfolio inflows into the country,” Nadir Shaik, managing director at Citi Bank, told OBG. In May 2017 Parliament passed a long-anticipated investment law that aims to remove some of the obstacles to private sector investment and help to reinvigorate capital flows from abroad. The Cabinet passed the implementing regulations of the law in August 2017, providing greater clarity for the nation’s new investment framework. Entities established under the investment law now enjoy equal treatment to Egyptian nationals, and investors are granted residence in the country for the duration of the project. Licences and real estate allocations related to investment projects can no longer be suspended without an opinion from the General Authority for Investment and Free Zones, and only after the completion of a predetermined period during which the investor can remedy any violation of the investment terms. Investors are also granted the right to repatriate or transfer profits as they wish.
Tax incentives – such as exemptions from fees for land registrations and a tax deduction equal to 50% of net profits for high-priority projects – are making Egypt a more attractive destination for foreign direct investment inflows, increasing loan demand as a result. However, competition in the project finance arena is set to remain high, due to alternative sources of funding, such as the emerging securities market and donor-assisted credit lines, including bilateral aid, EU credits for the private sector and the Social Fund for Development. The anticipated flow of large-scale projects stemming from foreign investors will also depend on continued political stability.
A notable change to the sector landscape came in 2016, when the CBE introduced new regulations concerning SME lending. These stipulated that banks must limit interest rates to 5% for loans to SMEs that have revenues of between LE1m ($65,900) and LE20m ($1.3m). In addition, SME loans must make up 20% of a bank’s total loan portfolio by 2020. This 5% limit on interest rates restricts profitability at a time when banks can secure far more attractive rates elsewhere, including the government’s secure Treasury-bills programme. Furthermore, engaging SMEs has been somewhat difficult.
In order to assist banks in meeting these targets, the CBE has permitted banks to finance qualifying SME loans from their non-interest-bearing regulatory reserves, thereby allowing them to activate previously unproductive assets. Furthermore, banks are allowed to determine the structure of facilities extended to SMEs that fall outside the specified revenue range, and still count this credit towards their SME loan targets.
In 2017 the CBE unveiled details of a new scheme designed to complement its SME directive. The CBE Microfinance Initiative aims to direct LE30bn ($2bn) of financing to around 10m beneficiaries. Under its provisions, banks will be able to supply tranches of low-cost funds to the large number of microfinance institutions and NGOs that operate under the relatively new Microfinance Law of 2014. Banks will also be able to extend funds directly to consumers, with those eligible to be included in the 20% SME lending target established by the regulator (see analysis). The initiative is one means of executing the government’s broader strategy to boost financial inclusion.
The Ministry of Finance has been tasked with surveying the large informal economy, which is seen as one of the biggest blocks to inclusivity. There has been some progress on the issue of financial inclusion, with around 32% Egyptians having a bank account as of 2017, according to the CBE, well above the 10% rate that had been an industry assumption for years. The growth in the number of banked Egyptians carries implications for the sector’s retail lending activity, as it has traditionally relied on a relatively small pool of wealthier households. The largest private bank in the country, CIB, has announced that it intends to expand its retail loan portfolio and boost its market share from its current level of 10%.
How the CBE’s market interventions alter loan portfolios over the longer term remains one of the more interesting questions emerging from the domestic sector. In the meantime, banks are assiduously following their own development agendas to increase assets and secure market share.
The bank is announced plans to utilise blockchain technology in the next three years, a move that will require a sizeable overhaul of its infrastructure. This would make CIB an early mover in the domestic market, but elsewhere in the region institutions are showing signs of similar interests in the distributed ledger technology that has enabled the growth of crypto-currencies, such as Bitcoin and Ethereum, as well as other non-payment activities in the corporate world.
CIB is also spearheading the domestic sector’s wider technological drive. In 2017 it introduced talking ATMs for the visibly impaired, the first of their kind in Egypt, and expanded the range of ATM services for customers and the unbanked population. For example, ATM users can now convert cash to digital currency, and vice versa, as well as pay school and university tuition fees. The move feeds into the growing mobile money trend, with channels such as banking apps on mobile devices, internet banking and smart wallets all gaining popularity. “Mobile-based payment solutions and cashless transactions are expected to drive growth for the retail banking sector, and will help foster financial inclusion,” Khaled El Salawy, CEO and managing director of Ahli Bank of Kuwait in Egypt, told OBG.
As of July 2017, there were around 6.4m customers in Egypt using mobile payment services, and the CBE had awarded e-banking licences to 10 different banks. Both the banked and unbanked population are taking advantage of the mobile payment devices that are available at a rapidly expanding range of locations, including small shops and kiosks.
In 2017 one of the biggest mobile payment operators, Fawry, said that e-commerce activity rose by 16% in 2016, and that even quicker growth could be unlocked if a clearer regulatory framework was in place. The CBE has already taken steps to improve regulatory support for mobile payments, introducing a dedicated regulation in late 2016 which Moody’s described as “credit positive”. In February 2017 a decree was passed to establish the National Council for Payments. The body is tasked with developing a legislative and regulatory framework that will support financial inclusion and encourage online payments.
The long-awaited flotation of the Egyptian pound has strengthened the sector’s outlook, as the return of foreign-currency inflows is boosting loan growth and trade-finance activity. Banks are also benefitting from the interest rate hikes made in late 2016 and 2017, capturing higher yields on Treasury bills and corporate loans; however, higher interest rates present a challenge in terms of cost of funds, depending on their deposit structures.
While banks are well positioned to manage external or domestic shocks, downside risks are evident at the outset of 2018: if high inflation rates persist, interest rates rise further or the CBE’s process of economic reform is stalled, the rate of NPLs could increase. On the regulatory front, the final version of the new banking law will have a large impact on industry development in 2018. The theme of financial inclusion is likely to continue to be prominent, as the CBE asserted in 2017 that it will prioritise broadening the banked population and reducing the country’s reliance on cash transactions. To this end, the regulator will be encouraging the use of mini-branches, mobile payments and internet banking. There are promising signs that other banks are targeting untapped areas of the market too. “Banks are looking to increase their footprint by establishing smaller branches in under-served areas where they can provide basic financial services,” Sharif Elwy, country manager at Arab Bank, told OBG. In addition, CIB has announced it is considering establishing a new mortgage subsidiary that would specialise in extending loans to low-income citizens.
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