The Kenyan banking industry offers exciting growth prospects
Globally, the banking industry is in trouble. With disappointing returns, and sluggish growth, banking markets in the developed world are stagnating. McKinsey & Co paint a bleak picture of the Global banking market: “For seven consecutive years its ROE has been stuck in a narrowly defined range, between 8 percent and 10 percent—a level that most consider the industry’s cost of equity. Moreover, the industry’s global revenue growth rate slowed to 3 percent in 2016, down from an annual average of 6 percent over the preceding five years”.
By contrast, the banking industry in the developing world is exploding. The African banking market is second only to Latin America in terms of growth and profitability, and as markets mature, income grows and trust in financial services increase, Africa presents a global banking opportunity.
In their report Roaring to Life: Growth and Innovation in African Retail Banking. , McKinsey & Company notes that “(Africa’s) markets are fast-growing and nearly twice as profitable as the global average. Although competition is heightening and regulation is tightening, there is still much room to grow: Africa’s retail banking penetration stands at just 38 percent of GDP, half the global average for emerging markets”.
Within this rapidly expanding industry, Kenya is a particular standout. McKinsey & Co identified Kenya as one of their fast-growing transition markets. “These are competitive retail banking markets… The growth rate is relatively high in these markets, with an annual average of 14 percent between 2011 and 2016. Profitability is also the highest in this archetype, with ROE at 17 percent in 2016.”
However, while Kenya offers vast opportunity for growth and profitability, the banking market is not without its challenges. Though the market is maturing, Kenyan banks that wish to remain profitable will need to address issues such as efficiency, immature risk management practices, regulation compliance, and customer service.
Improving efficiency and profitability
McKinsey notes that “Africa has the second-highest cost-to-asset ratio of any region in the world, at 3.6 percent—and this has worsened in the recent past. High margins have tended to protect African banks from a dramatic worsening of cost-to-income (CTI) ratios, but margins are likely to come under pressure in the years ahead.” The Kenyan market has been placed under further pressure by an Interest Rate Cap, enacted in 2016. Though the Kenyan courts annulled the contentious law in March 2019, it has impacted bank profits in Kenya. As margins shrink across all markets, even profitable markets like Kenya, banks are faced with reducing costs, and streamlining operations. “Most banks are taking bold steps and have embarked on staff restructuring programmes to improve efficiency. Staff costs are the main cost element in banks, accounting for more than 50% of operating costs, hence the first target in cost-saving containment. However, further cost cut backs will be difficult without related impact on the bank’s customer value” according to Jeff Aludo, Strategy Consultant and MD of Africapractice EA, in an article entitled The new era in Kenyan banking – innovate or die.
African banking has the second-highest cost of risk in the world. A lack of credit bureaus, combined with inefficient in-house risk management practises, mean that a number of banks are grappling with non-performing loans, and low loan uptake. However Kenyan banks are creating innovative risk management solutions. For instance CBA and Safaricom launched M-Shwari, a combined savings and loan product which “delivers 80,000 consumer loans per month, but just 1.9 percent of its loan book is nonperforming”, according to McKinsey & Co. As banks seek to their customer bases, risk management innovation will become increasingly important.
According to McKinsey & Co, exchange rate adjusted revenue pools are moving away from Central and South Africa, and into North Africa, East Africa, and West Africa. Kenyan banks are therefore dealing not only with a strict national regulatory environment, they are grappling with international regulatory authorities as well. As the banking industry grows more complex, Kenyan banks are increasingly turning to consultancies to ensure that staff are fully informed about regulatory requirements, and that banks themselves are compliant.
A 2014 global survey from Ernst & Young found that Kenyan banking customers experience the worst customer service globally. This represents a huge challenge for Kenyan banks, since the McKinsey & Co report notes that customers identified the customer service experience as one of the three factors determining their choice of bank – the other two being price and convenience. As the battle for customers intensifies, Kenyan banks urgently need to address the customer service experience – by training frontline staff, improving social media outreach, and improving complaint response times.
Though the Kenyan banking industry is facing a number of challenges, these challenges are not insurmountable. And as Kenyan banks move to address the problems they face, Kenyan looks set to remain an exciting growth frontier.