International Finance
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What the pandemic means for Saudi banks

SAMA has injected $13.3 billion capital into the banking industry in the wake of economic challenges

The Kingdom of Saudi Arabia is known for having one of the oldest banking industries in the region — dating back to the 20th century. It currently comprises more than 27 percent of the GCC’s total banking assets — positioning itself as the second largest banking industry by assets and the largest in terms of market capitalisation.

In 1952, the Saudi Arabian Monetary Authority was established by two royal decrees and continues to monitor the banking industry to date. Following the establishment of the regulator, it licenced a significant number of local and foreign institutions which introduced new products and services to both retail and commercial customers in the Kingdom. That has led to the creation of today’s key players including the National Commercial Bank and Riyad Bank.

Cut to recent times, the Kingdom’s banking industry demonstrated strong financial performance compounded with promising profit growth in 2019. The total assets of the Kingdom’s five largest banks increased by 16 percent to reach $453.2 billion. The banks’ combined loans and advances expanded by 15 percent to $266.6 billion, with an impressive 30 percent growth in profits totalling to $9.1 billion from $7 billion in 2018.

Saudi banks see a new wave of mergers and acquisitions
Another notable event which took place last year was the merger of Alawwal Bank and the Saudi British Bank leading to a structural change in the industry. Also, the Saudi Arabian Monetary Authority granted two new banking licences to Credit Suisse and Standard Chartered Bank. Despite the pandemic, it appears that there is room for new establishment of banks in the Kingdom. For example, the National Commercial Bank which is the Kingdom’s largest bank by assets is likely to acquire rival Samba Financial Group. Under the terms of the proposed deal, the National Commercial Bank has offered to pay $15.6 billion to Samba Financial Group at a premium of 27.5 percent to the latter’s share price. It is anticipated that the consolidation will create the third largest lending in the region with total assets of approximately $210 billion, put behind Qatar National Bank and First Abu Dhabi Bank.

In this context, Christos Theofilou, a senior analyst at Moody’s, told the media, “NCB would benefit from Samba’s strong corporate and investment banking franchise and well-established risk management practices. The merger would combine NCB’s large franchise across most business lines and mass retail capabilities with Samba’s upper-middle-income retail presence and well-established corporate banking franchise.”

Even prior to the pandemic, the Kingdom and the wider GCC were on the brink of a new wave of mergers and acquisitions to boost competitiveness, reduce operating costs and increase capital amid slow economic growth. The Saudi Arabian Monetary Authority is also processing additional applications for two traditional and one digital banking licences. In fact, the regulator has accelerated the application process for banking licences — making the Kingdom an attractive hub for banks seeking to foray into the domestic market in the future.

Are Saudi banks equipped for the pandemic’s distress?
Truth be told, the Kingdom’s banking industry started this year on a promising note, with 13 local banks offering services to a population of more than 30 million people. But as experts have emphasised the long-standing effects of the pandemic on the industry, the scale of the impact could be significant on its asset growth through this year. This is despite the fact that the Kingdom’s banks have strong capabilities to remain profitable over looming difficulties — as was the case in the past.

For example, the Saudi Arabian Monetary Authority experienced its first complexity in the 1960s when a number of non-performing loans established by Al Watany Bank led to the collapse of a major financial institution. This in turn had a residual effect on the regulatory framework governing the banking industry.

The Saudi Arabia Monetary Authority has provided support for domestic banks by rolling out a myriad of measures in response to the pandemic. These measures include funding to help companies maintain employment levels, support banks customers who have lost jobs, restructure loans without additional fees, waive off charges for accounts holding below minimum balances, refunds for customers on currency exchange fees during travel plans.

In March, the Saudi Arabia Monetary Authority introduced the Private Sector Financing Support Programme to strengthen financial stability and support the government’s efforts to protect businesses worst affected by the pandemic. The programme seeks to allocate $13.3 billion in loan guarantees for the sake of deferred payments and direct funding for lending.
The long-standing impact of the pandemic
But in the midst of a protracted pandemic causing global recession — what is the impact on the domestic banking industry? Is the industry prepared to fight the downside effects of the pandemic? Will the pandemic undermine the industry’s asset growth?

It is certain that declining oil prices and Covid-19 pandemic in early 2020 is posing great challenges for the global banking industry. In this context, Ovais Shahab, Head of Financial Services, at KPMG Saudi Arabia, told International Finance, “In 2020, the majority of banks across the world will inevitably face challenges, and the Saudi banking sector is no exception. However, the resilience and strength of the Saudi banking system will allow it to cushion the economic fallouts of Covid-19.”

S&P Global Ratings in a report titled Saudi Banking Sector 2020 Outlook: Risks Contained Despite Higher Credit Growth noted that the profitability of the Kingdom’s banks could lower slightly on the back of softening monetary policy and rates decline. That said, in another report titled Banks In Emerging Markets: 15 Countries, Three Main Risks,

the ratings firm expects the credit losses to stabilise with the help of steadying economy and mortgage-led lending growth. In fact, S&P has praised the Saudi Arabian Monetary Authority for keeping a good track record. Last September, the long-term rating on banks stood at BBB+ in line with a stable outlook.

Now the domestic banks seek to expand beyond competitive corporate and retail segments in the long term — extending their services to underserved market segments such as smaller enterprises and microfinance. In the first quarter of 2020, the Kingdom’s banking industry saw 13 locally licenced banks, of which, five of them held total assets worth more than $53.2 billion.

Banking performance in 2020 — an overview
In March, the central bank foreign exchange reservesdropped at its fastest rate in at least 20 years — and the Kingdom’s budget deficit dropped to $9 billion in the first quarter as oil revenues crashed.

“With the dissemination of financial results for the first quarter of financial year 2020, the magnitude of the pandemic impact on the banking industry has unfolded. The banking sector has reported an average increase of 93.3 percent in expected credit losses for the first three-month period and significant declines in market valuations since December 2019,” Shahab explained. “Nonetheless, healthy credit underwriting until February 2020 enabled total assets to rise 3.9 percent to SAR 2,540 billion ($677 billion), while total customer deposit edged up 1.5 percent to reach ($489 billion). Total gross loan book also posted an average growth of 4.9 percent. Despite the hike in expected credit losses, a substantial amount of income in the form of a SAR 1.12 billion government grant resulting from Saudi Arabian Monetary Authority support measures which have restricted the decline in net profitability only to 6.9 percent, relative to the same period of financial year 2019.”

The consequences of the pandemic for the banking industry in the Kingdom and globally is still unclear. But the consensus among economists is that there will be a slowdown in activities and a downward revision in GDP growth targets for 2020. For that reason, most governments have outlined inducement measures to sustain the economy and protect the core of the banking system in the long term.

SAMA issues measures to preserve the core banking system
A report published by KPMG said that the Saudi Arabian Monetary Authority has issued a myriad of measures and guidelines for banks and financial institutions in the Kingdom to cope with the pandemic’s distress. For example, it has introduced a Private Sector Financing Support Programme with a total value of SAR 50 billion.

In theory, the regulator has introduced key financial support programmes and qualitative measures through commercial banks. The support programmes comprise allocation of a SAR 30 billion stimulus package for banks and financing companies to delay SME dues for six months of its date, provide concessional finance of nearly SAR 13.2 billion for SMEs by granting loans from banks, allocation of SAR 6 billion for MSME sector to facilitate secure financing for banks under the Kafalah SME Loan Guarantee Programme and support the ecommerce sector by bearing the costs for point of sales and ecommerce services.

That said, the qualitative measures include extending working capital finance to all corporates to meet short-term liquidity requirements, flexibility in repayments of consumer finance to individuals who have lost their jobs due to the pandemic, waiver of all fees in the use of digital banking, waiver of minimum deposit balance requirement for up to six months and review credit card interest rates adjusting them to reasonable APR rate.

The regulator has been quite responsive to the current situation and has injected $13.3 billion into the banking industry as they prepare to resume operations. Shahab said, “The stimulus package has aimed to enhance the liquidity, as well as enable banks to continue providing credit facilities to their clients. The central bank’s decision to inject such a large amount of cash into the banking sector in the form of a one-year free deposit is rooted in its role of promoting financial stability. It will further help the wider banking sector to continue to provide credit to borrowers during this challenging period.”

The amount was injected in an effort to ensure the banking industry is able to continue lending to private firms on the back of slow economic recovery. The regulator said in a statement that the banking industry remains strong with assets up 14 percent in the first quarter of 2020 compared to the previous year.

It appears that banks are relatively high on liquidity compared to the pre-Covid-19 period, observed the KPMG report. Shahab further explained that “The Saudi Arabian Monetary Authority has always made sure there is enough liquidity in the monetary system in general and in the banking sector in particular. Such support is part of several financial stimulus programmes spearheaded by Saudi Arabian Monetary Authority since the start of Covid-19 outbreak Its ongoing support to banks through liquidity and relief, amplified by recently announced measures, has been the key mitigant to combat the impact on the banking industry.

“A robust support programme by the apex bank suggested that panic-driven measures such as foreclosures, uneconomical debt restructurings and forced liquidations have not been rampant. These measures have been a breath of fresh air not just for the corporates, primarily the micro, small and medium enterprises (MSME) sector, in addition to banks as they combat the economic fallout on the front lines.”

Finance Minister Minister Mohammed Al Jadaan said that the Kingdom must reduce expenditures to mitigate the negative economic effects of the pandemic. “Saudi Arabia is committed to protecting itself from the economic fallout of the Covid-19 pandemic through any necessary financial measures despite plunging oil revenues,” the Finance Minister told the media. The Saudi Arabian Monetary Authority confirmed that the Kingdom’s foreign assets have dropped to $464 billion — marking its lowest record in 19 years as it combats economic fallout.

KPMG’s ‘cautious optimistic’ outlook explained
Against this background, KPMG conducted a survey on C-suite executives to fully understand the severity and duration of the pandemic’s impact and the banks’ preparedness to strategies undertaken by the regulator and the government. The first point emphasises 10 percent to 20 percent of the loan book for more than half of the banks need to undergo restructuring changes. The second point highlights that SME financing is the most impacted followed by consumer and corporate banking. The third point notes that banks consider Saudi Arabian Monetary Authority’s plans to be highly comprehensive and sufficiently focused on all business segments.

The KPMG report also pronounced the fact that it is important for banks in the Kingdom to assess whether the credit risk on a financial instrument has increased since initial recognition. However, the rising challenge for the banks is to incorporate predictions associated with the economic impact of the pandemic. In fact, the report has expressed ‘cautious optimism’ for the domestic banking industry.

“The financial trends identified by KPMG’s analysis for 2019 were mostly positive, and particularly impressive, given the unique political and economic circumstances the region has witnessed in recent years, reflecting the continued resilience of the Kingdom’s banking sector. Saudi Arabia’s 11 listed banks reported an asset growth of 12 percent to $652 billion during the fiscal year 2019, with a healthy 40.9 percent growth to $12.03 billion in net profit. Our evaluation of the key financial indicators for the past year suggests growth and a positive outlook for the banking environment in the Kingdom, fueled by a proactive government and bespoke initiatives by the regulators,” Shahab said. “However, banks that are agile, flexible and willing to transform their business models will succeed, and secure their financial strength for future growth, while those that rest on their laurels will be left behind. Of late, the Covid-19 situation has not only tested the strong capitalisation and high profitability of the sector but indicating a dynamic shift in investment towards digital platforms and omnichannel functionalities. Looking forward, KPMG’s key predictions for 2020 include continued customer focus through innovation, cost and operational efficiencies to remain a priority, limited asset and profit growth, increasing capital and fundraising activity, further consolidation and rethinking of business models.”

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