MBSB-AFB merger to hike up funding pressure

By NG MIN SHEN

The proposed merger between Malaysia Building Society Bhd (MBSB) and Asian Finance Bank Bhd (AFB), which is credit positive for the former, is likely to increase funding pressure on smaller players in the Islamic banking industry.

In a recent report, Moody’s Investors Service Inc said an acquisition of AFB and its Islamic banking licence by MBSB — the larger of the two by financing assets and deposits — would give it access to a cheaper funding source and broaden its revenue stream.

It noted MBSB’s lack of a banking licence renders it unable to collect low-cost current account deposits, accept interbank placements, or offer trade finance. Hence, the acquisition would immediately remove these restrictions.

“Access to current account deposits would help lower funding costs for MBSB, which relies on customer deposits for 85% of its funding,” Moody’s said.

Currently, almost all of MBSB’s customer funds are in fixed deposits, with a negligible share in savings account deposits. Comparatively, the average proportion of fixed deposits for commercial banks in the nation stands at around 75%.

Fixed deposits pay higher rates than current and savings account (CASA) deposits, resulting in MBSB’s deposit funding costs being higher than those of Islamic banks taking CASA deposits.

MBSB is a domestically-oriented non-bank financial institution focusing on retail Shariah-compliant financing for purchases of properties, automobiles and other personal consumptions.

In contrast, AFB — one of three foreign banks with licences to offer Islamic banking services in the country — primarily serves corporate customers.

MBSB said on June 19 that it had submitted an application to Bank Negara Malaysia (BNM) for approval of a merger with AFB. The two parties have been working on the proposal since receiving BNM’s approval in December last year to commence negotiations with AFB shareholders.

Meanwhile, the entry of MBSB into the CASA deposit market would further escalate competition for low-cost deposits among institutions

that are not part of large integrated banking groups such as Malayan Banking Bhd and CIMB Bank Bhd, in an already saturated and highly competitive sector.

Smaller Islamic banks are more reliant on costlier fixed deposits which increase their funding costs, while the sector as a whole receives a larger share of deposits from corporates compared to conventional banks — thus Islamic lenders have relatively low liquidity coverage ratios (LCRs).

Corporate deposits accounted for 76% of total deposits in the Islamic system as at end-2016, compared to 58% for the conventional ban- king segment. Corporate deposits are a drag on banks’ LCRs as they are considered less stable than retail deposits, and Islamic banks in the country have noticeably lower LCRs than their conventional peers.

“Further, new rules for net stable funding ratio will add to the challenges Islamic banks face in liquidity management. As such, smaller Islamic banks in Malaysia have been trying to secure more retail CASA deposits,” it said.

“Those who fail would have to turn to fixed deposits, thus increasing their funding costs and thinning their net profit margins,” the ratings firm said.

As at end-May 2017, Malaysia’s Islamic banking system held US$104 billion (RM445.9 billion) in financing assets, according to Moody’s.

However, it foresees strong potential for profit growth among Islamic lenders in the country, backed by a strong regulatory framework and ongoing government efforts to nurture Islamic financing.

More mergers within the Islamic banking sector are unlikely as the favourable operating environment allows standalone Islamic institutions to fare well on their own.

“The MBSB-AFB deal talks are driven by MBSB’s need for a banking licence while at AFB, several foreign shareholders want to sell their stakes. A combination of these circumstances is exceptionally rare in the sector,” Moody’s said.

On the possibility of broader sector consolidation, it said any significant moves will hinge on the large banking groups which may want to scale up operations quickly and gain revenue and cost synergies via mergers.

“Recent merger talks between RHB Bank Bhd and AMMB Holdings Bhd are noteworthy as this proposal could spark similar moves among other banking groups. Should this happen, stand-alone Islamic players would face much greater pressure to build scale through mergers,” it said.

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