KCB Group: What’s in a Valuation?

In the ever-evolving landscape of banking and finance, the Nairobi Securities Exchange (NSE) has witnessed a significant shift in the valuation race, with some of the largest companies facing a significant dip in market capitalization. The exchange’s all-share index is down by about 33% since the start of the year, placing Kenyan stocks among the cheapest compared to other stocks in emerging and frontier markets as per Bloomberg data.

For instance, KCB Group, Kenya’s largest bank’s has shed a huge chunk in market cap since the start of the year as the share price fell from around Ksh 40 in December 2022 to Ksh 16.00 as of 7th November 2023. While this may raise concerns among investors, a closer look at KCB Group’s assets, regional reach, and the broader African banking sector reveals a promising picture that positions the bank as an undervalued gem in the NSE.

KCB Assets and Market Share

KCB, recorded a 54% growth in total assets to KSh 1.86 trillion in the first half of the year ending June 30, 2023, as net profit closed at KSh 16.1 billion. In its report, the bank said that the balance sheet growth was driven by the consolidation of the DRC-based lender Trust Merchant Bank (TMB), which it acquired in December 2022, and an increase in customer deposits to KSh 1.47 trillion.

The contribution from businesses outside Kenya increased by 166% to 38.1% of the Group business with profit before tax at Ksh 8.5 billion.

These are healthy metrics, but for the fact that in its half-year financials, the bank also included provisions for non-performing loans at 2.4 times its previous numbers. Its operating expenses also shot up, in what the group said was its internal “aggressive positioning”, and more importantly, the effect of its acquisition of the long-ailing National Bank in 2019.

KCB originally intended to merge its operations with NBK’s, before changing its strategy to instead keep it as a stand-alone subsidiary. But the merger-turned-acquisition also meant that KCB would have to carry NBK’s loan book and liabilities to give it a chance to turn its fortunes around. In March, the bank said it would inject Ksh 938.8 million into the subsidiary, to bring it within the legal capital requirements for banks.

The acquisition was always going to have a dent on the balance sheet. Although NBK recorded Ksh 828 million in profit in 2022 (24pc lower than the previous year), its loan book was always the most glaring problem-although it was just one of many reasons why a parliamentary committee opposed the merger. It had a stock of non-performing loans worth Ksh 31.5 billion when it was acquired in 2019; this shrank by 20% by the end of the next year.

The age of mergers and acquisitions in the banking sector, driven in earnest by the Central Bank to reduce fragmentation and improve competition, was a modern experiment in solving systemic issues within the banking sector. This also meant that the effects,while clear in pre-deal due diligence, might not have been as clear to investors outside the boardroom at the time. Its immediate shocks, somewhat postponed or lessened by the COVID years that followed, are now here.

But they are at best short term.

African Banking Sector’s Performance

According to insights from the recent McKinsey & Company’s Global Banking Annual Review 2023 which sheds light on the performance of African banks within the global context. Africa’s banking sector has experienced remarkable growth, generating $22.3 billion in net profits in 2022. This reflects an average annual growth of about 8 per cent since 2021, a performance that outperforms the global trend.

Importantly, African banks have recorded a return on equity (ROE) of 15 per cent in 2022 and 16 per cent in 2023, demonstrating their profitability. Kenya has been at the forefront of this success story. The country’s banking sector generated approximately $1.5 billion in profits in 2022, accompanied by an impressive ROE of 19 per cent for both 2022 and 2023. These figures position Kenya as one of the top-performing financial institutions globally, reflecting the country’s financial stability and resilience.

According to the report by McKinsey, the banking sector is currently experiencing a significant transformation known as the ‘Great Banking Transition.’ This movement underscores the need for banks to adapt to changing dynamics, leverage technology, and optimise their balance sheets. It is here that KCB’s potential truly shines.

KCB’s robust assets, extensive market share, and the bank’s consistent profitability place it in a prime position to benefit from this transition. By embracing technology and artificial intelligence, KCB can enhance productivity, improve service delivery, and maintain a competitive edge. The bank’s large asset base provides room for growth and scale.

Additionally, KCB’s continued success in scaling and expanding its regional reach will enable it to leverage economies of scale, both in the domestic and international markets. This aligns with the strategies outlined in McKinsey’s report for financial institutions to thrive in the evolving banking landscape.