Burgan Bank K.P.S.C. (BURG) Earnings Call Transcript & Summary

Good afternoon, everyone. This is Elena Sanchez from EFG Hermes, and I would like to welcome you all to Burgan Bank's Q3 2022 Results Call. It is a pleasure to have with us in the call the following speakers from Burgan Bank, Mr. Raed Al-Haqhaq, Deputy Group Chief Executive Officer and Chief Executive Officer, Kuwait; Mr. Khalid Al Zouman, Group Chief Financial Officer; and Mr. Naveen Kumar Rajanala, Group Head of Strategy, Capital Management and Investor Relations. I would like to hand over the call now to Mr. Raed to begin with the presentation.

Thank you. Thank you, Elena. Good afternoon, everyone, and I apologize for the delay in the connection. We would like to start with the presentation, which will cover the 9-month earnings call. Thank you very much for taking the time to be with us. This time, we have started the presentation with a few slides, which highlight the history of the group, background of each franchise and the area review of the strategy. If you don't mind, I'll move to Slide #8. In this slide we are covering the key update. I will start with Bank of Baghdad. We have signed the acceptance letter and the offering document has been also signed. We have appointed our regulators, whether it is Central Bank of Kuwait, which we have received approval. Jordan Kuwait Bank has also approved the regulator, the Central Bank of Jordan and they have received approval. The rest is now is the approval of the Central Bank of [indiscernible] which we are accepting shortly. Highlighting the main impact of this deal, it will give us the ability to focus on Kuwait, which was the initial target, and it will also enhance our CET1 by 70 basis points, and it will retain our NPL with a protection of 60 basis points. The second point is our focus on retail, and we have started this exercise early 2019, where we have what [ made ] pillar to the progress of this activity. We have revamped the whole structure, added new KPIs, the delivery channels and the growth in the portfolio. When it comes to the achievement as of now, we have achieved more than a 20% growth just this year, and most of the KPIs have been exceeded on the retail activity. Last but not least is the BBT update. As you know, within the last 1.5 years, the environment -- the operating environment there has suffered, which was impacting our own results. But this year, we have seen a turnaround. And I can highlight some of the positive achievement that they have done. And this is without the IAS 29, which is the [ hyperinflation ] rule, as you know. They have achieved KWD 21.4 million versus KWD 3.8 million. This is for the 9 months. And as important, the NPL ratio dropped from 10.4% to 5.2% for the same period. Moving to Slide #9. Including retail, we have also focused on our digital platform. We have done an upgrade or an updating system. The [indiscernible] also has been introduced. And this allowed us to have robust activity when it comes to the offering. And as you can see on the chart on the left, the number of subscribers from modest 15,000, we have reached 75,000, which is just a 9-month increase of 16,000. Number of activities also has been shown, which is a reflection of the actual usage from our client. We started with 744,000 and now we have reached [ 9.6 million ] and as we speak, we are above [ 10 million ]. As a norm with the remote channel, mobile is always the preference when it comes to our clients. They had used it 93% versus the [indiscernible] of [ 7% ]. And the feedback from the app, we have started seeing positive movement moving from 3.6% from a rating of 5% to 4.7%. The following slide is just showing some of the campaign, the 1 that we have done, highlighting our capabilities for the digital development where you can apply for a loan and open a current account and credit card through our online platform, whether it is the app or the website. Moving to Slide #11, and this is just highlighting the main performance when it comes to the financial results. For the 9 months, we have reached KWD 166 million revenue. And when it comes to the quarter, it is KWD 56 million, a 2% increase from last year. Margins have improved, reaching 2.3% at 20 basis points above the benchmark of last year and 2.6% on the third quarter, 50 basis points above the third quarter of last year. The credit costs have moved in the right direction, where we have seen a drop of 72% at KWD [ 13.3 ] million. And then the bottom line, KWD 41 million for the 9 months, 2% from last year. For the following slide, I will pass it to Mr. Khalid Al Zouman.

Thank you, Mr. Raed. Good afternoon, everybody. And I will start from the financial numbers on Slide #13. And the key messages of this slide as follows. The group revenues have been stable at [ KWD 166 million ] for the 9 months of this year. The revenue has been driven by the net interest income growth of 12.8% year-on-year. But this growth has been offset by a drop in noninterest income, primarily due to the lower security gains given the fall in capital markets across the globe. The net interest income growth was a result of -- was a result of 20 basis point improvement in the net interest margin. The group's operating profit for the 9 months dropped slightly to KWD 90 million, whilst staying stable at KWD 29 million for Q3 '22. The group -- the group's and [ Kuwait ] cost-to-income ratio for the 9 months were 45.5% and 44%, respectively. And we expect to be around 45% for the full year for the year '22. And let's move to Slide #14. And again, the key messages are as follows. The first chart shows significant decline in provisions by 72% year-on-year to KWD 13 million. The improvement is driven by a much improved performance in our Turkish franchise and also the Kuwait franchise reverted back to its usual low-cost credit. The group cost of credit dropped to 0.4% in the 9 months. The group net income for Q3 is around KWD 40 million, and the group's return on average equity is at 6.2% for the 9 months. Having said that, we will move to Slide #15, which reflects the group asset quality metrics. The group and Kuwait's NPL ratios are at 2.6% and 2.2%, respectively, for the 9 months. There are no adverse movement in Q3, and we expect the NPL ratio at the group and Kuwait to improve by year-end. Moving to the chart below. Another key point is that our coverage ratio for the group and Kuwait continue to be healthy. The cash coverage ratio is at 189.2% for Kuwait and 152.6% for the group. Please also note that there are collaterals in addition to this provision, which will provide more comfort. Moving to Slide 16. And firstly, the group's total assets have been stable around [ KWD 7 billion ] levels over the last 3 years. Asset composition pie chart reflects the loans account for 59% of the total asset book with almost 19% of the book and liquid assets. The group's loans declined to KWD 4.1 billion primarily to do deliberate encouragement of [ repayment ] of a few large corporate loans as they were not commercially viable. But this reduction is temporary and we expect the loan book to start growing in Q4 '22 and beyond. Lastly, there is no major movement in the sector concentration, and it remains mainly the same as in the previous quarters. I will now hand over to Mr. Naveen, my colleague, who will cover the next few pages.

Thank you, Mr. Khalid. Good afternoon, gentlemen and ladies. So I'll move on to Slide #17. Just to highlight a few key pointers here. Now the fall in customer deposits in IM is effectively to sort of mirror the asset and the loan requirement on a balance sheet. So given the lower loan levels, the bank did not need to keep as much deposits liquidity, especially in this high-cost deposit rate environment. So it's a more tactical sort of strategy to sort of less carry liquidity at this point in time. The bank, however, has been focused on growing its CASA balances. And as you can see, the CASA balances have grown to about 37% of the total deposit base. The group's LDR, loan-to-deposit ratio stable at 85% for the 9 months period, well within the regulatory minimums or regulatory maximum, I should say. And then if I look at the Basel III regulatory liquidity metrics, Burgan's liquidity metrics remains well above the regulatory minimums, but these minimums of 90% will now move into the pre-COVID levels of 100% from Q1 '23. The group's LCR liquidity coverage ratio is at 127%. And while NSFR is at 110% for the 9-month period. Let's move on to Slide 18, which we'll talk about capital levels. I think here, the broad messages are capital levels continue to be optimal. As we have said in the past, we aim to be around 100% -- 100 basis points above regulatory minimum. Currently, regulatory minimums at CET1 level is 9%. Again, just like liquidity, even capital levels will go back to pre-COVID levels from Q1 '23. So in Q1 '23, the minimum CET1 ratio will become 10.5%. And similarly, all the other ratios will move up by 1.5%. And we expect, as Mr. Raed pointed out, once the BOB sale is sort of digested, it should provide further 65 to 70 basis points of capital benefit. If we can move on to Slide #19. We just want to sort of cover all the international operations in a bit more detail. So for 9M, I think some of the key pointers which are common across the international franchise, especially for this year so far as the margins continue to be high across these markets, especially Algeria and Turkey. The international operations constitute about 24%. So as we've said in the past, our strategy is to sort of consolidate and focus on our core market Kuwait and that's sort of that process is continuing. But this particular year, especially in 9M, the contribution of the international operations, both to the top line and bottom line has been very strong. If I look at Turkey specifically Turkey, 2022 has been strong year on a stand-alone basis. Their revenue and bottom line has grown tremendously while they have managed to keep operating costs at reasonable levels with cost-to-income ratio of about 35%. And more importantly, to sort of keeping the credit cost at reasonable levels and reducing that largely. If I were to move to Algeria. Now Algeria, though a few metrics on the face of it look weak. But overall, the franchise is still a very -- has had a very profitable year and it continues to generate high margins for our business. While you can see the credit costs are pretty low. Tunisia, again, small but stable and profitable franchise, continues to deliver stable profitability and returns. With that, I'll hand it back to Mr. Raed, who will conclude the presentation.

Thank you, Naveen. In summary, you can see that all of the key metrics are moving in the right direction. We aim to restore the growth in the franchise. And finally, the digital journey are in progress, and we are aiming to also enhance the delivery and the hopefully, customer feedback will reflect that. With that, we conclude the presentation, and we'll hand it to Ms. Elena for any questions.

Thank you very much for the presentation. We can move now to the Q&A. [Operator Instructions] We have received some written questions that I will start reading now. One of them is what is the outlook for the net interest margin in 2023.

I can probably answer that and then my colleagues could add to that. So I think on the margins, what we are seeing is given the recent rate hikes, obviously, our margins have gone up. But as we've said in the previous call as well, the funding costs are also increasing, especially in Kuwaiti dinar. So we expect the margins to go up slightly, but I think the pace of increase will slow down. We might expect another 5 basis points or so by the end of this year. And that sort of level we expect to sort of maintain in 2023.

Thank you, Naveen. There is another question on cost of risk. Asking if you can provide guidance for cost of risk for 2023 and 2022.

I can answer that. So cost of risk, as we've highlighted in the presentation, we've had a good year from a cost of risk perspective both in Kuwait and international franchise. We're down to about 40 basis points. We've -- our guidance earlier this year has been that it will be below 1%. So we expect it to not dramatically change. But as we have been saying in the past, what we don't know at this stage is if there would be any precautionary provisions. We don't expect, but we cannot say with any certainty until the Q4 numbers are finalized. But we don't -- as we see the portfolio now, we don't see any major surprises as far as cost of risk goes. It's a little difficult to sort of forecast cost of risk for next year. As far as '22 is concerned, should be around these levels barring any -- so action from regulatory and the precautionary provisions.

Another question. Do you plan -- or what is your plan with regards to Islamic banking, especially after the Gulf Bank, Al Ahli Bank of Kuwait cooperation. Don't you think that, that will be a challenge for maintaining your market share?

Again, I think these are early days. We still see opportunity. I mean, if we look at numbers of both -- in both in conventional space and Islamic space, yes, the pace of growth of the Islamic segment is higher. Having said that, even the conventional space, there's been growth albeit a little lower. So we still see opportunity in the conventional market. If you look at both individuals or retail banking and corporate banking. And for example, in corporate banking, there are clients who are 100% Islamic. There are a few who have a proportion where they do certain proportion as conventional and certain as Islamic. So -- and then there are some who are agnostic to whether it's conventional or Islamic as long as the rates make commercial [ sense ] to them. So we still think that there is space in this market for only conventional banking. And I don't think it strategically changes anything for us. The recent news of Gulf and ABK.

Thank you, Naveen. There is another question about the tax charges in 9 months 2022. Reasons behind the increase?

It's purely because this year so far, as we've highlighted in our presentation, Turkey has had a very good year. So their proportion of bottom line contribution at a stand-alone level has been high. And given the tax rate being higher in Turkey, that's the reason why the tax charge is higher at a group level.

Another question is the KIPCO Qurain merger, positive or negative for Burgan Bank's loan book?

Well...

I can take that, Naveen, if you don't mind. Actually, as a holding company, we don't lend KIPCO or we lend the operating entity. And when it comes to the [indiscernible], they have settled all of their outstanding here, and we are waiting for the regulatory approval. So from a loan book, it will have no impact.

Another question. What is your ROE target for 2023 on the medium-term?

I think ROE is a reflection of our bottom line. And going in '23, we will be improving a little bit, but nothing going to be very significant.

Yes, I agree. And I think, obviously, as a bank, we target to be higher, but I think it's difficult to sort of say that in '23, it's going to be this number, but as a bank from a planning and strategy in the medium-term point of view, we want to be as close to double digits as possible. And we are working on a path to those levels in the medium-term.

A few other questions on stage 2 loans. What is the level of Stage 2 loans that you have?

Yes. At a group level, the Stage 2 percentage is around the 16% mark. But again, as we've said this in the past, these are Stage 2 as per the CBK IFRS 9 provision rules, which are a little bit more stringent. And as we've said in the past, any loan which move positively as it from stage 2 to stage 1 has to go through a process of curing and our 12-month curing stage and then subject to CBK approval is then moved to a stage 1 or the prior stage. So -- and so I would say that if you look at this number, you have to contextualize it, that it is as per the CBK IFRS 9 [ provision ] rules.

A few questions on capital adequacy. What is the target, first of all, what is the target date of completion for the Bank of Baghdad sale? And then apart from the sale of Bank of Baghdad, what is the overall strategy to maintain capital buffers in 2023?

I'll take that Naveen, if you don't mind. We are hoping that the Central Bank will approve it within the fourth quarter. So it will not be part of the financial at year-end. And we continue to be at 11%. This is our target, and we have maintained to a large extent, even with Central Bank of Kuwait is on the CET1.

A few questions on asset quality. Can you give some guidance on NPL ratios?

So at the beginning of the year in Q1, we said that there was this 1 large exposure with sort of skew the NPL ratio, but we are at 2.6% level. We hope to take it down further down in Q4. But again, it's subject to certain internal processes, et cetera. So we don't expect that number to spike up. We definitely expect that to go down. Unfortunately, not in a position to sort of say with any degree of certainty what that number is going to be. But we don't expect that to deteriorate is what we can say at this stage.

Can you share some details about your new retail banking strategy and some target ratios such as share of retail loans to total loans, et cetera.

Yes. I think as we've highlighted earlier this year as well, 1 of the areas where we are focusing our growth is retail. As we've said in the past, we're largely a corporate bank, especially in Kuwait with retail used to be around the 9%, 10% of the Kuwait book. In terms of -- if I were to contextualize that from a market point of view, our market share is about 3% or so. It's gone up a little bit since our execution of our strategy over the last 18 months or so. So we expect our market share to be much higher. We aim to be around 6%, 7% in the long run, obviously, to reach that level. We have to do a lot of things right over the next 3 to 4 years. Our strategy has been that we have reactivated the front line and our sales capacity, and we sort of relaunched some of the key products and have created that momentum within the whole retail infrastructure. And as Mr. Raed pointed out early in the presentation, that it just started paying dividends in terms of good results so far. But we are very careful in our growth. So we don't grow for the sake of growth. Cost of credit is an important parameter, and risk parameters are important for us. So even on that front, the performance has been good. So it's been calibrated, measured, good growth with very minimal impact on -- minimal to no impact on risk metrics. In fact, risk metrics have improved while the growth has been there.

Another question other than retail banking. What is the strategy to accelerate growth going forward.

So in Kuwait, as we've said, we have a good corporate franchise and they also have the mandate to tactically grow in areas where we have risk appetite. And we also have private banking franchise where we are also developing some wealth capabilities, which will also provide some opportunities for growth. On the international front, I think Algeria is a franchise which typically grows about 6%, 7%. We also expect growth to come from Algeria. So overall, as we've -- as per our earlier guidance, our group growth should be around 5% or so. Unfortunately, this year, the Kuwait number has fallen a little bit purely because a couple of large transactions where there have been repayments. But again, this is something that we are very conscious in Kuwait that transactions which make sense from a return on risk-adjusted capital of RORAC. We want to retain them. If there are transactions where the RORAC'S are not optimal or do not need our minimum requirements. We are happy to let go. So it's an impact of that. But we basically do not believe in sort of getting into transactions where the pricing -- the asset pricing is too low. So that's why the number has fallen a little bit in 9M, but we see this as a one-off.

Thank you, Naveen. We'll take a question now from Rakesh Tripathi. Please go ahead. Rakesh, can you hear me?

I had a couple of questions. I'll start with the first 1 on the loan and deposit trends. So I understand you talked earlier about deposit decline being part of a deliberate strategy in tandem with the kind of trends you've seen in the loan book. But a couple of things here that you can talk about and perhaps together. So loan book, we have seen for other Kuwaiti banks, some of the other large Kuwaiti banks, they have seen good solid loan growth. And I'm talking about varied sizes, large banks and small banks, but you have mentioned the repayments here in particular. So can you talk a little bit more about what are you seeing? And how do you expect to return to actual loan growth, which segments do you see driving that? I understand that retail will be a part of it, but it will probably be a smaller part of it. So which segments within the corporate book will drive growth? And secondly, since you have cut back sharply on deposits, in this quarter, in particular, if you have expectations of returning to loan growth again in Q4 or, say, Q1 of next year, then you will have to, I suppose, mobilized deposits again. So how convenient do you think this kind of an exercise will be? And should we expect these kind of trends from the bank going forward that you know there will be random shifts in deposits depending on the kind of loan growth that we see or should we expect a smoother kind of management of how you're looking at your deposits?

I can answer the deposit side, and then we can come to loans. I think see, tactically, if you look at Kuwait as a market, the market has access to some of these large deposits from the [indiscernible] government sort of institutions where you can get large pieces of deposits at a fairly competitive rate. So I don't think that's a challenge. And it's not just Burgan, the entire market has access to it. We have -- as we've said in the past, we have consciously sort of moved away from heavy dependence on these kind of deposits. But obviously, what we've not done is entered the game of -- because the deposit -- term deposits specifically are getting more and more expensive to sort of enter that game of pricing, higher deposits to get deposits. So we've not done that. But to get those term deposits, it's not too difficult in this market. If we pay up, we should get it. So I think that's not a risk as we see at the moment. In terms of the loan book, yes. We -- going forward, as we said earlier, and I think Mr. Khalid also mentioned it that we look at -- going forward, this -- we look at this as a one-off where 2 to 3 large clients have sort of repaid, but we don't expect that to be a trend. And we expect the loan book to sort of very consistently grow over the next 3 to 5 years. Now the growth will come, obviously, as we've talked about retail as one opportunity in Kuwait that there is definitely there is growth there. We also expect Algeria to contribute. Now if I look at what other segments within Kuwait, it will be the corporate book. And if I were to answer where specifically in the corporate sector, these are largely going to be the government contracting companies where a lot of these suppliers and contractors to these large projects within Kuwait. We are seeing a lot of traction and we see opportunities where these companies not just give us the asset side of the business, they also gave us the unfunded business as well. So we are also, as an organization, becoming very conscious of not being an asset-led business where we want relationships to be a lot more wholesome and that's a part of our strategy. And in order to sort of have more sticky business on the on the client relationship side also. So hopefully, that answers your questions -- question, please let me know if I have...

Yes, yes, it does. It does. And connected to this, I will ask one more question. So if you can -- in the same context, like you mentioned that you can mobilize deposits as and when there is a need basically, whenever you choose to take on more of term deposits. So obviously, that will impact your cost of funding and we've seen that CBK does not necessarily mirror the kind of hikes that Fed is making, right? So in that context, how sustainable do you see your margins if suppose you were to see good, solid growth that demands that you take on more of these term deposits. So where do you see the net interest margins then stabilizing. The 5 to 7 bps of improvement from here on, do you see that as something that is sustainable or based on the kind of liquidity that you're seeing in the market? Or do you expect to see that come under pressure?

No. I think those margins of -- I mean we are at 2.3%. So sub-2.5% is maintainable. I mean one of the things is if you look at historically -- for example, the Algerian business has given us margins about 7%. So at group level, so they are slightly down this year so far at about slightly below 6%. In Turkey, the margins are going up. In Kuwait, specifically, the pace of yield increase has outpaced the increase in funding cost. And we are fairly confident, again, in Kuwait, our funding strategy is a mix of both local funding as well as we've done some tactical transactions, specifically in the syndicated loan space, which has kept our cost of funding lower. So if there's a need, we can sort of tap that as well. But based on our planning, modeling, we expect that sort of positive job between the yield increase and funding cost increase to be there. So we are fairly confident that we would be at the 2.3% to 2.4% sort of level at a group level in terms of margins.