The Many Banking Strategies of the Middle East

Euromoney, September 2014

For all its economic and cultural diversity, the Arab world is a more homogenous region than many other supposed regional blocs: far greater commonality of language than Europe, less diversity of currency movement than Asia, more geographic common ground than the BRICS. So it’s little surprise to see that more and more of the Middle East’s biggest banks are building regional models. What’s interesting is the range of ways they are going about it.

One can identify two different approaches. On one hand are the houses that have built a regional presence anchored by a powerful home base that still largely dominates revenues. In this camp, one finds National Bank of Kuwait, Qatar National Bank, the big United Arab Emirate houses, Lebanon’s Bank Audi and perhaps Saudi Arabia’s Al Rajhi.

Then there are the true regionals: those for whom the home country represents a minority of revenues, and where the whole model really is based upon the contribution of a number of different markets to the whole. The two main protagonists here are Jordan-based Arab Bank and Bahrain-domiciled Ahli United. This is, perhaps, a tougher trick to carry off, though both are demonstrating powerful results.

Arguably the most regional bank of them all is Arab Bank. Originally Palestinian, it is today headquartered in Jordan, and operates in 30 countries; more than three quarters of its income generation comes from outside its home base.

“I guess we do have a unique model,” says Nemeh Sabbagh, CEO and chairman. “Ours is a bit complex in that we operate in 30 countries and they do of course have different political and economic profiles, so their needs are quite different. The challenge is to have the right mix of product offerings for the target segments, and these differ from one country to another. Managing risk becomes very important, both credit and operational risk.”

Making this approach work has required the bank not to think of itself as a head office with a series of foreign peripheral branches, but a unified regional bank. “We look at the whole Arab world as our home market. This is how Arab Bank has grown over 83 years. We have had a presence in a lot of these countries for 50 years or longer.”

Arab Bank faces two particular challenges. One is that Jordan is not an oil economy, nor a particularly big one: unlike the big state-backed houses of the GCC countries, Arab Bank has to make its money elsewhere without the free bounty of hydrocarbon wealth to back it. In this respect, regional variety is a necessity if earnings are ever going to grow.

“Our home market is not hydrocarbon based, and we don’t enjoy the tremendous benefits of large government spending on infrastructure projects,” says Sabbagh. “That’s one of the reasons that we’re unique in that 75% of our revenues are generated from outside home base.”

The second challenge is the political volatility of the markets within which Arab Bank is represented. Not for Arab Bank the oil-rich peace of Kuwait: instead one finds the bank in Syria and Palestine, in Libya, Egypt and Algeria, in Yemen, in Sudan. Indeed, of the two countries in the region where it is absent – Kuwait and Iraq – it would be no surprise to see Arab Bank appear in Iraq rather than Kuwait next.

The risk management challenges created by this approach are clearly enormous. “Risk management is absolutely critical,” he says. “Credit risk in some countries is compounded by the effect of FX movements, or restrictions; then there is operational risk. But we understand these markets because we have operated in them for more than 50 years.” Policies are set at head office, with strong controls and monitoring, and then risk policies at a country level take into account legal and regulatory conditions in each market. “There is a very strong corporate governance culture in the bank and standard risk management policies which cascade to the countries. Then, there are different layers of independent control for each market.”

Sabbagh’s approach appears to be working, despite the ceaseless challenges of the region. In 2013 the US$501.9 million net profit after tax was up 43% on the previous year; shareholders received cash dividends of 30% plus a free share for every 15 they already held. Loans, assets and deposits all grew.

It is helpful that Arab Bank is one of the few regional players to have a meaningful presence in Saudi Arabia, through its 40% stake in Arab National Bank – an institution Sabbagh once ran, and spent seven and a half years at. “Saudi Arabia is an integral part of our regional presence,” he says. “We own the maximum percentage that is allowed,” with four out of 10 seats on the board. “We are very fortunate to be there: it’s an enormous market.”

The standout negative for Arab Bank is, and is always likely to be, its bad loan position, though senior management argue that the figure is distorted by a policy of not writing off loans, and that the coverage ratio is the more relevant figure. The bank’s capital adequacy ratio stands at 15.15%.

“Our NPL ratio is deceiving, actually,” says Sabbagh. “The bank historically has had a policy of not writing off NPLs in order to safeguard its legal position. In most part those we do write off date back from the early 90s. That’s why you see a high NPL ratio: it peaked in 2009 at 7% and is now down to 5.5%. We review every year our legal position to decide what to write off, but we err on the conservative side.” He highlights the NPL coverage ratio of 144%, “excluding the value of any collaterals that we have.” And he highlights the importance of liquidity, with a loan to deposit ratio of just below 70%.

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Ahli United Bank, or AUB, began in 2000 as a bank incorporated between a UK and a Bahraini institution. Today it is present in seven countries, has a P&L above half a billion dollars and serves 600,000 clients. “We have come a long way,” says Adel El-Labban, group chief executive officer. “We have not come through the normal path of establishing ourselves as a single market bank and developing that business. We have stuck to our guiding principle of being a regional bank with multiple integrated presences.”

He speaks of “real regionalism versus token regionalism. Many banks have a presence in countries, but how much does that external presence contribute? In our case, the largest market, Kuwait, contributes under 30% and all other subsidiaries individually contribute 10% or more of our total profitability.”

But there is more to it than just being present in a lot of different domestic economies. El-Labban says a distinguishing feature of AUB is “how much of our P&L is generated by cross-border business. We could be a series of banks operating independently, but that is not the case: we are a homogenous bank.

“Every subsidiary or affiliate of ours is standardised in terms of internal organisation, control structure and business approach,” he says. “A key performance barometer for real regionalism is how much cross-border business you are generating within the countries in which you operate.”

He speaks of the Bahraini student who wants to go to Manchester, where his father wants to open a bank account and buy a flat for him to stay in. Or a Kuwaiti investor who wants to buy property on the Red Sea in Egypt.  Exporters seeking to sell produce in Oman or Bahrain or Kuwait; manufacturers of cables in Egypt winning a contract to supply a ministry in Iraq. “The contribution of this sort of cross-border business is around a quarter of our total portfolio,” he says. “That shows that the regional model – if rigorously pursued – is a significant business opportunity. It is a very big priority for us.”

AUB’s footprint is clearly not equivalent to that of Arab Bank, nor QNB or other big Gulf players, and El-Labban says he is “probably halfway” in what he wants to produce. AUB is not, for example, in Saudi Arabia or the UAE, and it had to step back in Iran because of potential sanctions. “If sanctions are relaxed and the US achieves an accord, then Iran will be on our list; Saudi and Iran are the two largest economies in the region.”

Furthermore, AUB sold out of Qatar last year, which looks like a step back from regionalism, though El-Labban says it was purely down to bank specific circumstances. “We faced restrictions on our ability to maintain our stake,” he says. AUB wants to hold at least a 30% stake in any bank it invests in, and finding itself unable to retain that stake, “we had no choice except to arrange an exit of the investment at a very attractive return. But we have no problems with Qatar, as a market, and continue to do business there.”

Like Arab Bank, AUB has sought to look closely at some more challenging markets. In Egypt, he says, “we took a contrarian approach consistent with what AUB is about. If we want to be regional, we should be available to serve clients at all times: we can’t be a fair weather bank that evaporates when things are not good.” He says AUB has “done exponentially well in Egypt because a number of foreign banks in Egypt are having cold feet. We are more than willing to help when the going is tough.” Egypt also fits the cross-border priority of the broader bank: 23% of AUB’s local Egyptian P&L is generated by Gulf accounts.

Libya, on the other hand, is a very small investment and more for the future, depending on the security situation.

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Among the regional banks with dominant home markets, the biggest of them all is Qatar National Bank.

Clearly, given the deep pockets of the Qatar state, QNB is always going to earn a hefty proportion of its revenues from home institutions, but there is a concerted effort underway to diversify regionally. In 2013, 28% of profit came from outside Qatar, up from 21% a year earlier. This is likely to increase. “Our international expansion is one of the key pillars of QNB’s group strategy to become a Middle East and Africa icon by 2017,” says Ali Al Kuwari, Acting Group CEO. He wants to hold on to QNB’s remarkable level of domestic dominance – more than 45% market share – while becoming the number one bank in MENA, which, measured by profitability, assets, loans and deposits, it already is. “Given the limited opportunities to increase QNB’s already dominant domestic market share, international expansion is the logical approach for growth.”

These ambitions became particularly clear in 2012, when QNB bought out SocGen’s Egyptian arm, NSGB, the second largest private bank in Egypt (a deal that formally completed in March 2013), and 49% of Bank of Commerce & Development, one of Libya’s leading private sector banks, which has 36 branches across the country. The same year, it increased its stake in Iraq’s Mansour Bank for Investment from 23% to 51%, the legal maximum, and upped its stake in Commercial Bank International, a bank in the United Arab Emirates, from 24% to 40%. QNB also holds 35% of the Housing Bank for Trade and Finance in Jordan, 99.96% of QNB Tunisia, and 51% of QNB-Syria. All told QNB now operates through subsidiaries and associate companies in 26 countries – although not, crucially, Saudi Arabia.

QNB has become a behemoth, generating US$2.6 billion in net profit in 2013, on US$125.9 billion in assets, US$87.1 billion of loans and US$94.9 billion in deposits. Each of those last three figures were up 20% year on year. It is a scale sufficient that the 28% of earnings that came from outside of Qatar in 2013 was more, in dollar terms, than the entire group profit of either Arab Bank or Ahli United.

QNB Al Ahli, the new name for the old SG business in Egypt, is the standard-bearer for this regional approach. “We believe strongly in the Egyptian market and QNB Al Ahli is the biggest of all QNB’s acquisition deals,” Al Kawari says. “With a population of more than 85 million it has the most significant presence and opportunities in the Arab world. We are also very bullish about the future prospects of both Libya and Iraq in terms of their economic growth.”

Nevertheless, he describes the bank as selective in its acquisition targets. “The core fundamentals of our approach are that we are by nature very careful about the selection of potential acquisition targets,” he says. “We carefully study risk profiles, business plans and strategies and once we believe that these meet our criteria, we look at the key factor of price. We believe in fair and competitive prices and do not engage in auctions.” Some felt that the purchase of the Egyptian SG business for twice book value was excessive, but it’s worth noting that Commercial International Bank Egypt, the biggest publicly traded lender in the country, was trading at almost exactly that level at the time.

The major gap in the QNB network is Saudi Arabia, and in this respect the Qatari bank is not alone. It is understood QNB applied for a branch licence several years ago, but, like most of its peers, has not been able to build a big presence there. “The Kingdom of Saudi Arabia is an important marketplace and the commercial opportunities for market entrants are significant,” Al Kawari says. “Given our very good coverage across other parts of the GCC region, we would welcome the opportunity to extend that presence into the vibrant and positive KSA market.” He says it “remains a key objective for us” and that QNB is working with the Saudi authorities “to secure entry in the foreseeable future.” Elsewhere in the Gulf, in the UAE, the 40% stake it holds in CBI is a regulatory ceiling, and QNB may also grow from its single branch presence in Kuwait following an easing of restrictions on foreign banks there by Kuwait’s central bank. “We have good coverage in GCC. We are comfortable with this.”

Competitors tend to sniff at QNB, arguing that a bank so closely linked to the gas-rich Qatari state could hardly fail to be big and profitable. The bank insists that the way it expands outside Qatar is purely on a commercial basis, but clearly the strength and ambition of Qatar Inc doesn’t hurt. QNB, Al Kawari says, is committed to Qatar’s National Vision 2030 blueprint, and “as the biggest bank in Qatar it is essential that we continue to play a pivotal role in the diversification of Qatar’s economy.”

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National Bank of Kuwait has built an impressive regional presence across 10 MENA markets: all the other GCC countries bar Oman, plus Egypt, Iraq, Jordan, Lebanon and Turkey. Much of this presence has been built over the last 10 years: the old Grindlays Bank in Qatar, which it bought in 2004 and renamed the International Bank of Qatar; Credit Bank of Iraq in 2005; Al Watany Bank of Egypt in 2007, and Turkish Bank (40%) in 2008. Others have been organic expansions.

NBK declined to be interviewed for this feature, but several elements of its international presence are clear from public data: about 25% of its earnings are from outside Kuwait, and it is distinguished from its peers by the fact that its international model looks further afield than the Middle East. Its presence in London, Paris, New York and Singapore, for example, is key. Like most peers, it has only relationship officers on the ground in Saudi Arabia and would like to do more. Its international model is chiefly driven by its homegrown Kuwaiti client base: its presence in Qatar, through IBQ, is active partly because Kuwaiti clients do an increasing amount of business in Kuwait.

Increasingly, when we talk about regional players in the Middle East, National Bank of Abu Dhabi is going to be part of the conversation. Our June edition featured a detailed interview with CEO Alex Thursby, within which he talked at length about the West-East model he hopes the bank will eventually follow, which is a play on the idea of growing Asia-Middle East-Africa trade. This is more than a Middle East regional model: the major banking hubs he seeks to build will be not just in Abu Dhabi but Mumbai, Lagos, Singapore, Hong Kong, London, Paris and Washington. But nevertheless, NBAD is swiftly becoming a powerful regional house too, already active in 16 countries including Egypt, Libya, Oman, Kuwait and Bahrain.

“We are seeing high single digit, even double digit growth” in trade and investment flows within his West-East corridor, Thursby says. “Our job is to get on to the banking side of those flows, helping to finance Kuwaiti and UAE oil flows into southeast Asia. Have we got all those bases covered? No, it will take us 10 years. But there’s going to be lots of growth for 10 years. I get more and more daunted by the opportunities.”

One interesting aside on NBAD is that it touts its international presence as an illustration of safety and prudence – because of the regulators it is governed by, from the UK’s FSA to the US Federal Reserve, the Hong Kong Monetary Authority, Banque de France and Switzerland’s FINMA.

Lebanon’s Bank Audi also warrants discussion. The bank has a similar approach to Arab Bank, in that its home base is neither oil-rich nor particularly big in population, so that growth must inevitably involve international expansion. Audi is in neighbouring Jordan, Syria and nearby Turkey and Iraq, as well as Egypt, Sudan, Saudi Arabia, Qatar and the UAE, plus several European countries. Roughly half of its 160 branches are outside Lebanon, though the proportion of its business that is overseas is less significant than at Arab bank; As of December 2013, 57.3% of assets were in Lebanon, 61.6% of deposits, 41% of customer loans and 83.4% of net earnings (a figure somewhat distorted by the fact that Turkey represented a loss in 2013, reflecting the launch of a new fully owned subsidiary). Its strategy since 2010 has been to be what it calls a “Lebanese universal bank with MENA footprints”, a target that has since been appended: “…with an established presence in Turkey.” It now talks of being a “leading MENAT bank”, the T meaning Turkey; there are medium term plans under consideration for the UK, Sub-Saharan Africa and Latin America. Audi is one of the more bullish names in Iraq, and has been granted licences for seven branches there.

Elsewhere in Lebanon Bank of Beirut takes an international approach – its slogan is Banking Beyond Borders – but, aside from some branches in Oman, Dubai and Iraq, its expansion tends to be further afield, among them the UK, Frankfurt, Cyprus, Nigeria and Australia.

There are others with regional presences too: Emirates NBD is active in eight countries, including Qatar, Saudi Arabia and Iran; Mashreqbank in 11, including Qatar, Egypt, Bahrain and Kuwait; Saudi Arabia’s National Commercial Bank is in Bahrain and Lebanon, while Al Rajhi, whose major focus of expansion has been in Malaysia, is also expanding in Jordan. Bahrain’s Gulf International Bank is represented across the Gulf, and Kuwait Finance House has long been among the most expansive of all Islamic banks.

Several different approaches, but one common theme: the Arab world has enough in common for it to make sense for banks within it to try to serve the region.