Baring Out The Logic Of Equity’s Growth

by: Rina Karina, 2 Apr 08
Equity Bank's total income compounded annual growth rate of 193% per annum over the last five years has astounded many. From gutter press articles, S.K. Patels and phantom employees raising alarms of an impending collapse, to parliamentarians putting forward accusations that have had no basis.

In July this year, the Central Bank of Kenya (CBK) Governor, Prof Njuguna Ndung'u advised the public that an audit of Equity Bank had been carried out and CBK was satisfied with the financial strength and stability of Equity Bank and all other banks currently operating in the market. Yet many continue to allege various improprieties against Equity.

Without a doubt Equity Bank has continued to puzzle many, and it is for this reason that we thought fit to bring to light some facts about this Bank that is making waves not only in Kenya and this continent but in the corridors of the United Nations and the rest of the world.

The bank's business model is simple: to bank the un-banked population. The original founders of Equity had the desire to create a financial services provider that would focus on low income clients and this desire was driven by the realisation that the low and medium income earners had no access to formal banking. Equity was registered under the Building Societies Act and started off as a specialist provider of mortgage financing to its members.

This however was difficult as the Company was limited by undercapitalisation and in 1993 the Central Bank of Kenya declared Equity technically insolvent. The bank's management then put together business model that would help turnaround the company - the shift from mortgage finance to microfinance and a focus on the un-banked population.

The fact of the matter is that Equity Bank's strength lies in its strategy of offering banking services and lending to a previously untapped segment of the market. The bank has high operating margins, efficiency ratio improving from 72% in 2005 through 67% in December 2006 to 60% in June 2007. This has been on the back of efficient growth leveraging the unutilized capacity of a modern and scalable IT infrastructure, ability to maintain above sector average net interest margins and minimal bad debt incidents.

Equity Bank enjoys some of the lowest cost of funds in the sector, at less than 0.78%, while the sector average is roughly about 3%. This has been driven largely by the banks aggressive non-tariff deposit mobilisation inducing nil minimum balances, absolutely no ledge fees even for cheque accounts and lowest minimum interest attracting balance of KShs 10,000. Along with this, is the presence in un-banked sections of the country where the bank can get away without paying for deposits. Equity's savings mobilisation has been its greatest success.

In order to increase outreach into remote and densely populated rural areas, Equity set up mobile banking units fitted with modern IT systems, powered by solar panels. The mobile banking units are customized pick-up trucks which carry lap-tops with information being downloaded and uploaded at the beginning and end of each day.

Equity now boasts 1.4million customers and majority of these clients are small-hold farmers, low end salaried workers and small & medium sized businesses. The bank continues to grow, opening an average of 4,000 bank accounts a day! The bank has grown its lending book at a blistering pace from only KShs 5.5 billion in December 2005 to KShs 14.6 billion by June 2007. This has been achieved through check out systems with employers, lending to SMEs and to entrepreneurial individuals whose own discipline and desire to succeed shields them from the stigma of defaulting.

Equity has redefined its credit policy, with a clear focus on enhancing internal controls to cultivate and maintain a well balanced and high quality loan portfolio. Two years ago, Equity had a problem with lack of focus on a particular niche market in the credit methodology. The Bank tried to cover many markets at the same time and found it difficult to define its typical client and staff tended to use the same commercial banking approach for all types of loans.

This has now improved. The bank has identified the following sectors: Microfinance, Corporate, Consumer, Agriculture and SME. Each business segment is headed by a sector head that is responsible for the performance of their existing sectors. However, the bank may have out grown itself and needs to recapitalise in order to be inline with the CBK capital adequacy guidelines.

The bank also requires the funds for its expansion program as well as to increase lending. We therefore envisage that the company will have to undergo an equity recapitalisation, by either carrying out a rights issue or perhaps selling a certain percentage of the bank's shares to a strategic investor.

The proposed purchase of 20% in Housing Finance (HF), Kenya's leading mortgage finance company spawns tremendous revenue opportunities, cost synergies and scale advantages. The revenue opportunities accruing to Equity Bank are thus: the opportunity to push HF's mortgage products to a section of its clientele and benefit from the resulting explosive growth in HF's business (targets are to sell mortgages to a very conservative 5% of Equity's 1.4 million customers or 70,000 accounts).

Quite an unimaginable feat against only 4,500 mortgage accounts in 30 years of HF's existence! The other revenue opportunity is to be able to lend medium term deposits to HF at a much higher interest margin than attainable from treasuries or deposits with other institutions. The resulting interest spread would accrue to Equity as marginal income on existing assets. Cost synergies that will result include shared services, debt recovery, staff and marketing efforts.

The nine key shareholders of Equity Bank, including Mr. James Njuguna Mwangi who owns 7.32% of the bank were locked in when the banks shares were listed in August 2006 and will not be able to trade their shares until August 2008.

All in all Equity is without a doubt the leader among its peer group. It offers a diverse variety of banking services, has management expertise, experience in the microfinance sector and well placed infrastructure and IT platform. The bank's short-to-medium term plans include the continued expansion of its domestic franchise through investment in additional branches and ATMs, continued innovation of services channels and the possible acquisition of other banks (considering an industry consolidation). Going forward, key challenges for the bank include: maintaining an adequate level of asset quality, particularly in light of the exponential growth in risk assets and the maintenance of its capital position.