Banks normally set aside money to cover potential losses on loans and write off bad debt in their profit and loss account in the event of defaulters. But the trajectory is about to change as the provisioning for non-performing loans (NPLs) in the banking sector could rise by 52.9 percent in 2019, slowing down profitability.
In 2018, many banks covered most of their Non Performing loans through balance sheet reserves as opposed to the income statement as they transitioned to International Financial Reporting Standard (IFRS). According to Genghis Capital, a renown investment bank, it will not be possible for banks to maintain the unselfish provisioning witnessed last year that helped the sector’s profitability to grow at the fastest pace in three years. The window is not available in 2019.
“We project that provisions will rise by an average 52.9 percent year-on-year in 2019 as the base effect brought about by the day one IFRS 9 write-off will have already come into effect,” said Genghis in its latest research.
Last year, the banking sector’s total pre-tax profits hit a record high of Sh152.3 billion, surpassing the previous earnings peak reported before the introduction of interest rate control which was achieved by lower provisioning.
The asset quality, mainly measured by the portion of loan book that is not performing, has been deteriorating over the past three years with. On account of more stringent credit profiling with the onset of IFRS 9 the asset quality is expected to improve gradually.
“Provisions declined generally across the sector as banks were required to write off provisions, based on historical assessment, through the capital as a one-off adjustment, during the transition from International Accounting Standard (IAS) 39,” notes Genghis.
Eight-tier I banks under its coverage—including KCB Group, Equity Bank and Cooperative bank—Genghis anticipates that provisions will rebound to levels seen in 2017. Other banks include Standard Chartered Bank, Barclays Bank, Stanbic Holdings, DTB Bank and I&M Holdings.
The Investment Bank, following its projections, has recommended a “buy” decision on two banking stocks, a “hold” decision on five and “sell” on one. When a bank raises its provisions for NonPerforming loans, its cost of lending also goes up.