Large and small banks alike are thinking about how to meet a major capital increase ahead of a July 2005 deadline. Niveen Wahish reports For over a year now, banks have known that they have to increase their capital to meet the requirements of the new unified banking law. Issued in June 2003, the law stipulates that Egyptian banks must have a minimum paid capital of LE500 million. Branches of foreign banks must maintain a $50 million minimum. The new minimum capital requirements are five times what the old law required. The Central Bank of Egypt (CBE) has given banks until the end of June 2005 to complete these capital increases. This week, meanwhile, marks the deadline for receiving banks' plans on how these capital increases would be carried out. Many banks, however, had been hoping that the CBE would give them more time to get their houses in order. While the law stipulates that banks abide by the new provisions within a year of its issuance, it also gives the CBE the right to extend that period for up to three years. While the capital increase is meant to be a major catalyst towards raising the profile of Egyptian banks, it will also mean greater consolidation of the sector as whole. Experts believe that Egypt's 64 commercial banks could trickle down to two thirds of their current number following the capital increase. Around 25 banks currently need to increase their capital to meet the minimum requirement demanded by the law. Banks had been hoping for the CBE's sympathy, considering the complications involved in increasing capital. They were also concerned that failing to meet the capital increase could mean liquidation. Nabil Hashad, the chairman of the Arab Centre for Financial and Banking Studies and Consulting, explained that there was more than one way for banks to raise their capital; they could either put shares up for sale to investors or the public; or invite current shareholders to increase their shares. If these were not valid options, the banks could merge, be acquired by another bank, or sold outright. The bigger banks should not have much of a problem meeting the new stipulations. According to Barclays Assistant Chief Executive Officer Fatima El-Ibrashy, her bank has been adopting a strategy to retain earnings as a means of increasing capital. If, however, the bank were unable to meet the LE500 million capital requirement before the due date, she said, then the bank's main shareholder, Barclays Bank PLC, would inject capital into the business. The same scenario would probably be taking place at the other big, profitable financial entities. According to Hashad, if a bank is doing well, its shareholders will not hesitate to pump more funds in. The complications, then, will probably only trouble the smaller banks. The Egyptian Commercial Bank, with a paid capital of LE150 million, is one such case. While acknowledging the importance of this move for the overall improvement of the sector's performance, Amr Bahaa, the bank's general manager, pointed out that such a capital increase needed to be gradual over a longer period of time. He also said the timing could have been better. "If banks had been asked to do this 10 years ago, there wouldn't have been a problem. But today, with the economy struggling to get out of a slowdown, it may prove more difficult." His bank is looking into increasing its capital, either by inviting shareholders to increase their shares, by merging with another bank, or by inviting foreign investors to invest in the bank. If the first option fails, the other two are available, he said. Egyptian banks are attractive to foreign investors because that is the only way a foreign bank can start a business here. As for the merger option, Hashad warned that it needed to be studied carefully. For starters, it would not be advisable to merge two small banks that are having problems; they would pull each other down. Bahaa, meanwhile, said the CBE needed to encourage mergers by offering specific incentives. Currently, the incentives are negotiated on a one-to-one basis with the banks that are thinking of merging. A number of advantages are expected to accrue from the capital increase, said Barclays' El- Ibrashy, who thinks the consolidation of the banking sector will mean creating bigger, stronger entities capable of meeting the country's growing funding requirements. Hashad said such moves would also enable banks to benefit from economies of scale and scope. It would enable, for example, the banks to install much-needed technological infrastructure that may currently be too expensive to undertake. It will also enable banks to expand their service offerings. Hashad said it was up to the banks to decide whether or not they believe in these advantages. The size of a bank's capital, he explained, "is the first defence line against many of the banks' risks, whether these be credit, liquidity, operational or market related". The capital increase will also raise the competitiveness of Egyptian banks, just in time for the increased competition that is expected to accompany the application of the World Trade Organisation's (WTO) agreement on trade in services. It will also set the stage for Egyptian banks to abide by the Basel II accord, which is due to be implemented by the end of 2006. Basel II, the newer version of 1998's Basel I, is an international agreement aimed at regulating the global banking system. Basel II will require increased capital commitments from all banks, as well as increased transparency and reporting to both regulators and the market. To conform to these regulations, banks are expected to rely heavily on new technology infrastructures that are said to be the largest and most expensive technology challenges ever faced by financial services institutions. If Egyptian banks decide to ignore Basel II requirements, Hashad said, they would end up at a significant competitive disadvantage. The increase in capital requirement and the consolidation of the banking sector may be a priority for the industry right now, but other reforms lie ahead. As El-Ibrashy pointed out, improved technological infrastructure, more development opportunities for the sector's employees, less bureaucracy, and less complicated legal procedures to recover debts are what need to come next. The need to reform the banking sector has increasingly come into focus over the past couple of years, particularly with an increased number of default cases. This reform process is certainly one of the new cabinet's major priorities. Meanwhile, an increasing amount of funding -- particularly donor assistance -- is being directed to the sector, chiefly from the European Union, which has recently pledged some 15 million euros towards its modernisation. Other donors, such as the World Bank and the International Monetary Fund, have also offered technical assistance to upgrade performance.
