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Hedging for a bigger footprint

Alliance Housing Bank's decision to change into a commercial bank pops the question: is there place for a niche player?
Mayank Singh

Mohammed al Hajri from Sur sits outside the office of Keith Scott, general manager, Alliance Housing Bank (AHB), persuading his office assistant Safa to let him meet Scott for a minute. As Safa explains that it may be difficult without prior appointment, Scott walks out of his corner room and greets the man. An elated Hajri introduces himself and reminds him about having spoken to him over the telephone. Scott nods in approval and asks Hajri whether his procedural problems have been sorted out. On hearing that a few glitches still remain, Scott instructs Safa to look into the issue and get the matter sorted out. A grateful Hajri thanks him and leaves.

Hajri's case is no exception. "On an average I speak to almost 15 customers a day," says Scott. Customer intimacy and service is a part of AHB's DNA. This has also been the kernel of the bank's success. Since its inception in 1998, AHB has witnessed enviable growth. In 2006, its loan book grew by 13 per cent to RO150.30mn. Interest income was up by 14 per cent to RO12.6mn. The only blemish in the record was the net profit which fell by 11 per cent to RO3.9mn. This was more of an aberration as the bank's profits have grown consistently over the years. "From 1999 to 2005 the bank has grown in terms of assets, profitability, interest income as well as shareholder value," says Ali Hassan Moosa, deputy general manager, AHB.

Having had a dream run as a housing finance bank, AHB's decision to convert itself into a commercial bank has come as a surprise. In December 2006, the Central Bank of Oman (CBO) gave AHB an in-principle approval to convert to a commercial bank. However, the approval is subject to quite a few preconditions – foremost being a study by an independent consultancy firm to assess the viability of such an option.

The bank has hired KPMG to carry out a six-week feasibility study. Once completed, the senior management of the bank will analyse the report and then present it to its sharehol-ders in April 2007. If the general body approves of its plans it will revert to CBO for a final approval. "We expect a final decision by mid-2007," says Scott.

Changing scenario
This is not the first time that the bank has deliberated the option of becoming a commercial bank. In 2004, AHB's board considered the option, but shelved the idea as it was seen as not viable. What changed things this time around was the deregulation of the housing finance market. In April 2006, CBO allowed commercial banks to lend up to five per cent of their retail lending portfolio as housing loans. The apex bank also raised the ceiling for pers-onal loans from 42.5 per cent to 45 per cent, while the ceiling for corporate lending was reduced from 57.5 per cent to 55 per cent. This enabled commercial banks to allocate more money towards housing loans.

Till now most banks preferred personal and corporate loans to housing loans as the former gives better returns with shorter maturity periods. For example, the interest on housing loan is 7.5 per cent while personal loans fetch an interest rate of over nine per cent. Secondly, while the tenure of a personal loan is 5-6 years, a housing loan can stretch up to 20 years or more. But the rapid growth of the real estate market and the success of AHB have made most banks wake up to this potential.

With the opening up of the housing finance market, almost all the banks in the sultanate have been quick to launch various housing loan products. BankMuscat launched Baituna home loans in April 2006, National Bank of Oman followed suit with its Al Manzel housing loans in June 2006 and Oman Arab Bank launched Al Dar housing loans in January 2007.

As the other commercial banks eyed a share of the home loan pie, AHB was the first to feel the heat of intensifying competition. Its loan approvals in the third quarter of 2006 (July-September) fell. Says H E Sayyid Khalid Hamood al Busaidi in his chairman's report: "It has been a challenging year for a number of reasons, not the least of which was the regulatory concession to commercial banks to lend five per cent of their loan portfolio for housing purposes. For a short period, the bank faced unprecedented competition, which impacted our pace of growth in the third quarter." Loan approvals, however, picked up again during the last quarter of the year, helping AHB to end the year on a promising note.

But the damage was already done. The bank's experience during the third quarter had sown the seeds of doubt about its strategy of continuing only as a housing finance bank. The chairman's report states: "The board believes that faced with this significant change, it was right to consider again whether it was in the shareholders' best interests to convert to a commercial bank."

There was also a feeling that five per cent may just be the start of a process which may see CBO allowing commercial banks to lend more in the future, posing a real threat to AHB's business. The fact that all its lendings have to be connected to the residential property market was seen as a major limitation to its future growth. For example, as a housing bank, AHB cannot provide finance for a hotel or a commercial building. The board felt that in a rapidly expanding market the bank needed to have a wider product range, underscoring the need to convert itself.

There are other compelling reasons that may have forced its hand. Says Ali al Lawati, vice president, business development, GIS, "AHB may not be able to stand up to the competition posed by other commercial banks as the latter will be in a position to offer more attractive terms." For example, the housing bank status is a definite disadvantage for AHB when it comes to raising funds.

The cost of raising money for a housing bank is higher than other banks. One, it does not have a pool of non-interest bearing deposits to dip into unlike other commercial banks, as all its deposits are interest bearing. AHB offers an interest rate of six per cent on fixed deposits – the highest among all banks, while others offer nominal interest with prize money schemes. Thus its payout on deposits is higher compared to other banks. Two, its loans are of a longer tenure stretching to 20 years and upwards. Thus its payback time is longer as against corporate or personal loans given by other banks, which, on an average, is for five years. "Our interest spreads (the diffe-rence between the price at which the bank borrows and lends) are lower than other banks as our weighted cost of funds is higher," says Moosa. Once AHB becomes a commercial bank, its cost of funds is expected to go down as it may work out a financial model akin to that of other commercial banks.

Balancing the scales
The question is whether the decision was a panic reaction or a masterstroke by a bank which was pushed against the wall. While the jury is still out on AHB's decision, the mana-gement counters the panic reaction charge. "We applied to CBO towards November end, during the fourth quarter of 2006, when our loan approvals were at a historic high. So the decision was made from a position of strength rather than one of weakness," says Scott.

But even if the bank transforms itself into a commercial enterprise, it will still have to take care of quite a few issues. The first is the mandatory requirement to have a capital base of RO50mn. AHB presently has a capital base of RO20mn; so it needs to generate an additional RO30mn, and that too in a stipulated time frame. This is not seen as much of a conc-ern by the management as a number of local and regional investors have informally evinced an interest in taking a stake in the bank. "This can be done either by private placement, rights issue or any other option that is considered appropriate," says Moosa. AHB has retained earnings of RO10mn in its kitty (the bank has been generating an income close to RO4mn every year) and this could come in handy. If one were to add this to its capital base of RO20mn, it reduces the additional capital requirement to RO20mn.

A bigger challenge would be to bring down the proportion of its housing loans from 100 per cent to five per cent: the central bank pres-cribed rate for all commercial banks. This may not happen in a hurry and analysts expect the bank to get a grace period of a few years from CBO to achieve this target. "We need to talk to CBO about how we are going to achieve this," admits Scott.

If the bank has any chance of competing realistically with the likes of BankMuscat and National Bank of Oman, it will need to increase its branch and ATM network. AHB has seven branches, two service centres (at City Centre and in Buraimi) and one ATM. In the short term, AHB is looking at increasing the number of service centres, as these are easy to set up and give customers the benefit of longer hours (the service centre at City Centre is open from 10 am to 10 pm). It is also ensuring that any IT infrastructure that is being installed is upgradable in the future.

Finally, the decision of AHB to convert to a commercial bank raises an important point. Is there a space for niche players in Oman's market? World over there are a number of specialist banks which service niche markets and there seems to be an increasing demand for their services. Mortgage banks like Fannie Mae, Countrywide and Federal Home Loan Banks are testimonies of this trend. Says Scott, "This market is too small for a niche player. One can grow only to a certain extent in a niche after which one outgrows that market."