The banking industry is like no other segment of Ethiopia’s economy. Businesses are more willing to put their hard-earned money in the banking industry than in any other establishment. Despite the absence of a capital market where shares are sold and bought, a group of businesses, professionals or any other individuals who want to establish a bank mobilize thousands of investors and sell hundreds of millions of shares in a matter of months – a situation which rarely happens in any other sector.
The reason is obvious. It is due to the higher dividend it offers shareholders. Though declining, banks are still the only share companies that pay earnings per share of as much as 500 Birr annually. While many share companies struggle to breakeven, almost all banks make profit in their first year of operation and constantly achieve a record-high performance every year when they present their annual reports.
Drawn by such a lucrative return and the economic reforms that opened up the economy to the Diaspora, easing restrictions put on the financial sector, the last two years saw new entrants join the sector at a pace not seen in a decade.
Currently, over 20 banks (both conventional and interest-free) are under-formation. If all manage to meet the minimum requirement set by the National Bank of Ethiopia (NBE), the total number of banks in the country will reach 42. Even though the establishment process of these banks started almost one and a half years ago, two banks have already received a license from the NBE, while another three are in the final stages.
Stuck in Urban Areas
Following the partial liberalization moves of the Ethiopian People’s Revolutionary Democratic Front (EPRDF) in the first half of the 1990s, more than five private banks became operational in Ethiopia. These first generation banks were only joined by another group of private banks a decade later. Accordingly, ten private banks were established between 2005 and 2012. The latest crop of banks that are currently under establishment, therefore, make up the third generation of banks in the country.
Despite the increase in the number of financial institutions, however, their spatial distribution is mainly limited to urban areas. The majority of their branches are located in Addis Ababa. One third of the total 6,511 (until the last fiscal year) bank branches in the country are located in Addis Ababa.
The banks are also criticized for replicating their spatial concentration in their areas of service focus. They allegedly give more focus to corporate customers that already have more access to finances than individuals and small as well as medium-sized businesses. Meanwhile, people living in rural areas remain unbanked while some are expected to travel hundreds of kilometers to access financial services.
“Everyone is fighting for the same customer. Almost every player in the industry is offering similar products with much emphasis given to urban areas,” said Tesfaye Boru, President of Debub Global Bank.
Tesfaye explains that almost all banks in Ethiopia are established using the business model of the Commercial Bank of Ethiopia (CBE) as a benchmark. While there is a tendency to follow each other, the banking industry is criticized for emulating the business philosophy of the state giant. Tesfaye fears the new entrants would employ the same business as usual approach.
“Unless they come up with a distinct business model rather than fighting over existing corporate customers in urban areas, especially in Addis, none of the new entrants are going to add value to the industry. It is going to be like our export sector; the number of exporters increases every year, the export earnings remain almost constant,” he says.
Deposits mobilized by banks grew by almost 10 folds over the last decade, reaching 1.1 trillion Birr in the last fiscal year, while the amount of loan disbursed also showed 10 fold growth during the same period to reach one trillion Birr. There are over 30 million bank accounts throughout the country.
Although this has helped banks widen their geographical reach, financial inclusion remains amongst the lowest in the world with 30 percent of the population enjoying access to banking services. To make it worse, only 10 percent of households in Ethiopia have access to credit services from banks and microfinance institutions, while below five percent of people living in rural areas have a bank account.
Even though the limited accessibility of banks in rural areas reflects negatively on the awareness and willingness of rural residents to use banking services, banks remain hesitant to open branches in such locations citing the absence of potential customers that cover their monthly expenses.
According to industry insiders, running a small bank branch needs at least 250,000 Birr a month. Bearing this in mind, none of the existing banks are willing to incur costs by opening a branch in a rural area where it requires a higher budget to mobilize deposits and provide loans at a competitive interest rate.
“Most of the existing banks tend to wait for customers. This is a costly and outdated way of mobilizing resources. The business approach of the banks should have been customer-centric and this shows there is still a great opportunity in the industry for new entrants,” said Junedin Sado, Chairman of the Organizing Committee of Sheger Bank, which has been under-establishment since last year.
Understanding the gap, the former President of Oromia Regional State and Minister of Transport, Junedin said Sheger wants to focus on rural areas and small towns with low access to finance.
“For instance, pastoralist areas are ignored and that is where we want to focus. But this does not mean we will open a branch without taking the business potential of the area into consideration,” Junedin added.
Ahadu Bank, which held its general assembly last month, similarly announced its intention to give special emphasis to the provision of finance to small and medium sized businesses and cottage industries.
“We want to provide financial services to small-sized companies, in addition to other conventional banking services,” said Nebiyeleul Debebe, Project Manager of Ahadu. He added “A separate department that will be tasked to work on entrepreneur development and finance will be established.”
Damota bank, which announced it has started selling shares with a plan to start operation this year as soon as it collects half a billion Birr in paid-up capital, seems to have a similar plan, although it is yet to formulate a strategy to turn its plan into a reality. “Besides serving the products currently offered by existing commercial banks, we want to provide services to farmers, unions and cooperatives and also reach out to the pastoralist community,” Elias Loha, Chairman of the organizing committee.
Even though commercial banks seem ambitious, experts say only few can successfully penetrate into rural areas, where existing banks have few branches. There is fear that the new banks cannot afford to take a risk by doing so, largely due to the difficulty in making profit in such areas where it requires a higher budget to collect deposits and find borrowers that can afford high-interest loans.
If indeed faced with such predicaments in rural areas, the third generation banks would instead be forced to focus on urban areas and fight to snatch big customers off existing commercial banks. Under such conditions, Tesfaye contends, the only change new entrants could bring is “creating more job opportunities, while bringing no significant impact on raising access to finance.”
Microfinance institutions (MFIs), on the other hand, are hopeful that they have a better chance of succeeding in rural areas and semi-urban areas. “Since we already have the structure and the presence, it won’t be difficult for us to succeed in these areas. We will especially address the missing middle – those wedged in the middle due to lack of finance as they cannot borrow either from banks or MFIs,” said Tefera Tesfaye, Deputy Head of Oromia Microfinance, which is under preparation to transform into a bank.
Dominance of CBE
Undeniably, CBE is still the dominant player in the banking industry. Whatever it does, other banks have no choice but to react since its actions have an impact on their performances. This reality can be demonstrated by the liquidity problem private banks face when the state giant announces foreign exchange provision to customers, provided that they deposit 100 percent of the equivalent at the CBE in birr. The move prompts clients of private banks to withdraw their money and deposit it in the state giant, setting in motion a liquidity problem at the private banks.
The fact that they have to respond to the actions of CBE means private banks have been dormant in boosting their position in the industry. In terms of deposits and loans, their market share increased by 10 percentage points in the last five years alone, while it rose by 25 percentage points in case of profits.
CBE has remained a market leader. It still controls 61 percent of the market share in terms of loan disbursement, while it accounts for 57 percent of total deposits collected by all banks so far. It also commands 45.2 percent of the aggregate profit of the industry. Its deposits and profits are eight and four times, respectively, that of Awash Bank’s. The situation also goes for the rest of the private banks.
“It is like oligopoly whereby the market share of private banks grows slowly. CBE is still the pace setter while banks are unable to reduce its market share below half, despite operating for 25 years,” stated Tesfaye. He added: “Keeping this in mind, the new entrants should not be like any regular conventional bank because they will face the same consequence of being a follower. To be a market leader, they should be purpose specific banks.”
There are different types of banks across the world. In the case of Ethiopia, three types of banks exist: commercial, policy and central banks. But throughout the world, even in neighboring countries, there are banks specialized in investment, agriculture and industry. “These should be the sectors of focus for the new banks. If they manage to do that, they will be able to resist the oligopolistic competition and at least be able to become market leaders in specific sectors,” Tesfaye added.
So far, one mortgage, two investment and five interest-free banks are under formation, while the rest (over 20 banks which are under establishment) plan to provide conventional banking services.
“We also need community and regional banks to expand our reach of the unbanked population and increase the market share of private banks,” said Tesfaye, who also recommends the split of CBE into two to avoid oligopolistic behaviors in the banking industry.
Allergic to Merger
In the developed world or in countries with relatively developed financial sectors, acquisition or merger is usually seen as an opportunity to expand their reach or scale-up operations quicker. Experts suggest merger and acquisitions will help companies, including banks, widen their horizon instantly and dramatically increase their number of customers. But this is little understood in Ethiopia, where banks are allergic to mergers and acquisitions.
Except for Construction & Business Bank, a state-owned bank swallowed by the CBE following the decision of the government, there have been no mergers of banks and acquisitions in the banking industry for the last 30 years. While majority of the banks are established along ethnic lines or affiliations, many fear that they will lose their shareholders’ right if they merge or are acquired by another bank.
“Everyone has its own interest; being dominant stands before making fortunes,” said Tefera. “Influential shareholders and executives of banks fear they would lose their influence or be swallowed if they merge, the importance of which is not being seen from an efficiency point of view. Ethiopia needs a few large banks not many small banks.”
Mergers will also play a big role in boosting the capital of banks, which will reduce institutional risk to shocks. “Through mergers, the bank at least can be a risk taker and be able to make long term investments by creating their own businesses in areas where there is low access to finance,” Tefera concluded.