CBK's fresh bid to raise core capital puts small lenders, investors on edge

Central Bank of Kenya Governor Kamau Thugge. [File, Standard] Kenya's banking sector is bracing for a major overhaul. The banking regulator, the Central Bank of Kenya (CBK), has proposed a significant increase in capital requirements for commercial banks. This move aims to bolster banks' ability to weather new risks and potentially reshape the Kenyan lending landscape. The regulator believes these tougher capital rules will translate into stronger banks. With fortified balance sheets, banks could expand their loan portfolios while mitigating potential losses from unforeseen risks. However, analysts warn that these stricter requirements may push Kenyan banks towards mergers to meet the new financial thresholds. The new regime could force some banks to merge to meet the new proposed tough new capital rules, according to analysts. Raising capital requirements could also limit the money banks have for buying back shares or granting dividends. This could mean some banks could lower the cash they distribute as dividends to shareholders, said analysts. CBK Governor Kamau Thugge revealed the move was long coming during a post-monetary policy committee meeting briefing last week. "The capital requirements for banks need to be increased. We have seen increased risks whether it is from climate change or cybersecurity," Dr Thugge said in response to queries by Financial Standard. "We need strong banks," he said. The proposals would also strengthen capital to protect against operational losses from things such as systems failures, cyber breaches and fraud. Treasury recently revealed that the Kenya Kwanza administration is mulling increasing mandatory capital requirements for lenders in a fresh shocker for banks currently set at a minimum of Sh1 billion. The government reckons the move would help "strengthen the resilience of the financial system." "The current minimum capital requirement of Sh1.0 billion for commercial banks has been in effect since 2012," said Treasury recently. "The banking sector has been transformed since 2012, growing from an asset base of Sh2.3 trillion to over Sh7.0 trillion. The banking sector's risk profile has also changed in the last 10 years with growing prominence of among others, cyber security risk, cross border risk and climate-related risks." The proposal to raise the lenders' core capital will be published in the next month for a public discussion, Thugge said, in line with the legal requirements. The law presently requires a minimum capital of Sh1 billion for those who wish to start a bank. Banks already in operation are required to maintain 10.5 per cent core capital to total risk-weighted assets, and 14.5 per cent total capital to risk-weighted assets. But what is coming will likely be the most significant shift in the Kenyan banking landscape in the last decade. The banking landscape is, therefore, on the verge of a seismic shift that could change the identity of Kenyan lenders as we know it. Many of the country's four dozen lenders will be forced into the arms of stronger banks over the next few years, either by market forces or regulators, according to executives, advisors and investment bankers who spoke with Financial Standard. In other jurisdictions like Nigeria, where the banking regulator has raised capital requirements, the local regulator also barred banks from using accumulated earnings and raising debt to meet the new capital requirement. Consequently, the majority of lenders have to seek new investors or ask existing shareholders to purchase fresh stock. The Kenyan lenders will be asked to boost capital buffers amid risks to their loan books from soaring inflation. Despite a majority of lenders posting healthy balance sheets some lenders sustained a poor run as evidenced by their recent performance. Some froze dividends arguing for a need to retain capital. KCB Group, for instance, froze dividend payments for the first time in more than two decades to recapitalise, according to the lender. Family Bank, on the other hand, held a rights issue last year to raise money but was hit by poor uptake. Tier three lenders such as UBA Bank Kenya and Sidian for their part posted yearly losses, while HFC is in breach of capital rations as mandated by CBK. "You're going to have a massive wave of mergers and acquisitions among smaller banks because they need to get bigger," said the chief executive of a top-tier bank who declined to be identified speaking candidly about industry consolidation. "We're among the few countries in Africa that has this many banks." CBK earlier predicted that Kenyan banks could potentially lose Sh208.7 billion in a hypothetical doomsday economic scenario. This catastrophe would be triggered by rising interest rates. However, CBK's recent stress tests reveal that the banks have sufficient capital to absorb these potential losses. The regulator's interest rate stress test also assessed the resilience of banks to simultaneous shocks such as increases in Non-Performing Loans and the repricing of bonds due to rising interest rates. The results indicated that the banking sector is generally resilient to interest rate risk, even in the face of high non-performing loans (NPLs) and valuation losses on bonds held under available for sale and held for trading portfolios. However, CBK warns that if the current economic conditions persist, banks may face further challenges. According to the apex bank, if the combined severe scenario materialises, 10 banks would require a total of Sh56.5 billion in additional capital to meet the minimum regulatory core capital adequacy ratio of 10.50 per cent. The bulk of this amount (Sh49.4 billion) will be required by tier-I banks. CBK notes that the most significant channel through which interest rate risk would impact the banks' capital is revaluation losses arising from the repricing of government bonds held by banks. If the policy rate (Central Bank Rate; CBR) increases further, pushing average secondary market yields to 19.89 per cent under a severe scenario, a total of seven banks would need additional capital of Sh46.4 billion to meet the regulatory capital requirement of 10.50 per cent. CBK previously warned that banks would not be able to sustain their operations in the event of defaults by their largest customers. The stress test was conducted to assess the resilience of Kenya's banking sector to interest rate shock transmitted through asset quality impairment reflected in the increase in NPLs and through valuation losses arising from the repricing of bonds. Last week, CBK boss Dr Thugge admitted the banking regulator was concerned about mounting bad loans in the banking sector, which increased to 15.5 per cent of total loans in February this year, from 14.8 at the end of last year. Banks already face further looming regulatory pain after the banking regulator announced separate plans to increase its revenue from cash-rich lenders, which will result in commercial banks and microfinance institutions in the country paying higher regulatory fees. "As part of the process, the Central Bank of Kenya is currently reviewing the licensing fees for commercial banks. The licencing fees for commercial banks were last reviewed in 1990. This was based on the number of branches that a bank has," said Treasury recently without disclosing the proposed new licence fee. Treasury said a new regime would incorporate factors such as the fact that the banking sector has transformed significantly since 1990 with technology and innovations and moved towards branchless banking. "For this reason, the review will consider, among other things: the changing banking sector landscape, increased supervisory or surveillance costs, and international best practice," said Treasury. It added that to further strengthen the banking sector's resilience and increase commercial banks' capacity to finance large projects, CBK would review the minimum capital requirements for commercial banks. The planned new levies come at a time when the Kenya Kwanza government has shown a strong interest in implementing new tax increases rattling its support base. The President William Ruto government has implemented a set of contentious taxes, including a 100 per cent increase in value-added tax on fuel to 16 per cent, and the implementation of a 1.5 per cent surcharge to finance the construction of affordable housing. The government anticipates that these measures will generate an additional Sh200 billion annually. Commercial banks have over the years maintained their position among Kenya's top tax generators, handing the taxman more than a third of all corporate taxes paid in the year to December 2022, for instance. An earlier report showed corporate taxes paid to the Kenya Revenue Authority (KRA) jumped 77 per cent to Sh87.71 billion compared to a year earlier when the sector's taxes were Sh49.48 billion. The contribution represented more than a third of the total corporate taxes received by KRA, cementing the lenders as a cash cow even as other sectors experienced a slowdown. Local companies are required to pay 30 per cent of their profits as corporate taxes. Overall, the banking industry contributed Sh181.27 billion in corporate, employment and other taxes accruing from day-to-day operations such as excise duty on transaction fees in the year under review.

CBK's fresh bid to raise core capital puts small lenders, investors on edge

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