In September 2004, global private equity firm TPG, which manages investments worth $70 billion worldwide, invested in listed Union Bank at a time when the regulator and many saw consolidation as the best way forward in an overcrowded banking sector.
TPG’s $117 million investment in the bank brought a lot of changes: the board was reconstituted, key management positions were filled, processes improved, and investments made into training and development. Profits in the first full year since then increased 238% in 2015.
Union Bank’s challenge now is sustaining growth and generating better returns to shareholders. Return on equity is improving, but is still low at 1.8% at end-June 2016 because of the bank’s high equity capital.
“This is a good problem to have,” says its chief executive Indrajit Wickramasinghe, explaining the bank’s strategy to unlock organic growth opportunities, leading to higher shareholder returns.
Excerpts of the interview are as follows:
It’s nearly two years since TPG invested in Union Bank. What has changed?
The capital infusion from TPG Capital in the fourth quarter of 2014 set us on course to transform the bank, and we have good results to show. It’s been a period of rapid transformation for the bank, and the impact on performance can already be seen.
If you look at the bank’s results for 2015 compared with the period prior to the capital infusion, total assets increased from Rs37 billion to Rs71 billion, loans and advances grew 69%, and deposits were up 32% with a focus on CASA. We achieved results in another critical area. Earlier, we had issues with the quality of our loan book. The non-performing loan (NPL) ratio was at 12%, but within a short period, we’ve reduced it to about 3.5% by the end of 2015.
Profitability has improved significantly. Net profit grew 238% in 2015. The momentum continues this year. Performance is tracked each quarter and growth has been consistent. Half-year results released last month showed that total assets have grown 16% year-to-date, loans and advances by 21%, deposits 22% and profit after tax 156%. Gross NPLs continued to improve to 2.9% by end-June 2016.
The rapid transformation and results are tribute to the efforts of the leadership and management teams, and the commitment of our people. Everyone is embracing the change and delivering on expectations.
After the TPG capital infusion, we started the transformation by reconstituting the board. The Sri Lankan directors are all experienced professionals in banking, finance, auditing and legal disciplines. They were complimented by a number of directors from overseas who were drawn from TPG’s global network. They come from various geographies across the globe with wide experience in different sectors, particularly in the financial services sector. We are fortunate to have as our chairman Dr P J Nayak, who was the former chairman and chief executive of Axis Bank, who made it the fourth-largest bank in India. He is known as a visionary banker in India. Next, the bank’s strategy was broadened from being SME-focused to include corporate and retail.
[pullquote]TPG looked at Sri Lanka as an entry point, and they did due diligence for one and a half years. They saw a lot of opportunity and that was why they selected Union Bank[/pullquote]
With the change in the business strategy, we took a closer look at the organisational structure. We found a few gaps in specific verticals and attracted experienced banking professionals to complement the existing management team. We also looked at product and service delivery. We expanded our networks, both brick-and-mortar and alternate channels.
We developed new products and value additions to fit the needs of each of the segments we cater to. We increased our investment in the ‘Union Bank’ brand. Our brand campaign theme ‘Make the rest of your life the best of your life’ describes the proposition we are building for the bank.
We invested heavily on people. We looked at the industry and significantly increased staff remuneration, and invested in training and development. With the growth momentum, we were able to give them better opportunities. Many of them were promoted since 2014.
Most bankers believe Sri Lanka has too many banks, and that consolidation needs to happen for growth. So why did TPG invest in Union Bank?
TPG is one of the largest private equity firms in the world; they manage over $70 billion in assets worldwide and operate from offices across the globe with investments in diverse sectors. They have extensive experience in the financial services sector, particularly in the Asia-Pacific region. They looked at Sri Lanka as an entry point, and they did due diligence for one and a half years.
They saw a lot of opportunity. That was why they selected Union Bank. There is a lot more opportunities to take on in the market, and given our capital structure and liquidity, we are very well positioned to take on the changes that are happening and the opportunities that are unfolding in the market.
Do you think consolidation is still necessary?
We are very well positioned in terms of capital and liquidity. We believe there is a lot more opportunity within the banking sector for organic growth, and we are very focused on this at present. Our strategic plan is focused on delivering that. However, if appropriate opportunities for consolidation present themselves, we may take a closer look.
The bank’s return on equity (ROE) is low. What are TPG’s expectations?
Short-term ROE is not a good parameter to look at, at this moment. The significant capital infusion is holding ROE back. It’s all about increasing our leverage and redeploying that capital in an appropriate manner. What we have is a big opportunity, and we want to exploit it. With the increase in leverage and as scale builds up as we invest, I believe ROEs will meet shareholder expectations over the next few years. We are certainly moving towards industry averages.
Given that we are coming from behind, we will have to grow ahead of the industry. What I can assure you is that we will keep the momentum going. As I said, we are very well placed – in terms of balance sheet composition, capital structure and shareholdings. More importantly, we have a team of dynamic staff in place who are highly motivated and results oriented; they relate to the changes transforming the bank. I am confident we will deliver on the expectations.
That’s one of the challenges for banks – to covert the capital infusion into returns. So when you say you want to get close to industry averages, how long will this take?
We believe we can get there in the next four to five years. The way we are progressing right now, we are well on our way.
In the last one and a half to two years, we’ve invested significantly and built solid platforms. Now, it’s about scaling up, and we are very confident we will be able to drive Union Bank to the next level, and take on the opportunities presenting themselves in the economy. We will also certainly be looking at being among one of the top five commercial banks in the country.
Are you starting to utilise the cash?
We certainly are, and that’s reflected in significant growth in loans and advances, but it’s also about increasing our leverage. It’s still low compared to the industry, but that’s due to this significant capital infusion, but that’s a good problem to have in this environment, and it’s a huge opportunity.
At the moment, TPG has a 75% stake in the bank and must reduce it to 15% in 15 years to comply with single shareholder regulations. Are there targets on returns TPG has set for Union Bank to achieve during this period?
TPG is clear on their investments globally. They are creating long-term value, and that is evident in their commitment to help us invest within the last year or two on our people, processes and systems. They’ve been very supportive. They do have clear goals, and at this moment in time, I can only say that we are meeting those expectations and creating sustainable long-term value.
So the strategy is no longer just SME focused?
We’ve relooked at our business models and how we can reengineer the way we do business in terms of focusing our front-end to be driving business origination and customer engagement. We’ve centralised our operations and credit. That leaves room for the branches and front-end relationship managers to focus on engaging and building relationships with customers.
We’ve segmented our customer base, and our financial products are also aligned to those segments, particularly the new business area of retail—this is where we are focusing to differentiate our product and create value. It’s not just about providing products, but building product propositions that have value and are beneficial to our customers. We have implemented similar strategies for the corporate and SME sectors.
On the corporate side, we’ve also introduced technology-enabled platforms. We have deployed state-of-the-art transactional banking platforms, which help build relationships by bringing in convenience and efficiency to customers. These are some of the initiatives we are delivering that are differentiating us. SMEs are the backbone of the economy and the bank has a 20-year rich experience with SMEs. We are developing our SME proposition further and enriching this through local engagement, capacity building and by establishing long-term relationships.
You have four segments – retail, corporate, SME and treasury operations. Which is going to be the growth sector for the bank?
We see growth in all four sectors. However, we are driving it based on customer segmentation within each of these sectors. For example, if you look on the retail side, we have segmented it to mass, mass-affluent and high net worth; and in each of these segments, we are engaging customers with product propositions that are relevant to that specific segment. We broad-based our SME platform with a wider commercial banking proposition, and we’ve seen accelerated growth in the corporate banking side. Retail banking is a new proposition for us, but in a short time we’ve been able to significantly increase our portfolio. Within a year or so, we’ve got this portfolio to contribute about 10% to the business. On the corporate side, we are seeing growth particularly in the leisure and trading sectors.
The treasury unit is strengthened to take on new opportunities of a growing economy and we are already seeing positive results.
It’s about how you engage with specific customers. The opportunities we also see unfolding are on the infrastructure side that’s coming in, with growth focused on the Western Province with the megapolis and outside the Western province in key centers. We also believe the SME sector will start blossoming with these developments, and consumer spending will pick up.
Does it make sense for a bank of your size to go mass market?
When we say mass, we are going to the masses that we are able to capture with the strengths we have. Our network is currently 65 branches, island-wide. We have a fair distribution of branches out of the Western province. We have sales teams that go to customers’ doorsteps and engage them. We are investing on a digital franchise. The bank can leverage these channels to get to those particular customer segments.
We also have a clear strategy on digital banking. While we have our brick and mortar branches and channels, digital banking will be of immense importance going forward. We will make it relevant to our specific customer segments. On the corporate banking side, we launched a top-end transactional banking platform that is clearly a differentiator. On the retail side, we will see clear propositions being created, and these will certainly support customer engagement.
Our high net worth proposition is branded ‘elite banking’. We are delivering it based on high relationship orientation. We have dedicated centers and relationship managers with propositions and value additions that are very relevant for the high net worth segment. So far, we’ve seen very good results in this segment.
Aren’t there regulatory impediments on what you can do on the digital front?
Regulators are becoming open minded now. As long as we have regulatory approval, we believe they will be supportive of these channels, because at the end of the day, it will bring a lot of convenience to customers, and it’s also cost effective in terms of transactional costs.
How is the macroeconomic front shaping Union Bank’s plans?
The global and domestic environments are challenging at this moment in time. Margins will come under pressure, so we are managing our asset book and re-pricing accordingly. Other critical areas are driving deposit growth, managing the cost of funds and aggressively increasing the bank’s fee income. We have strategies in place to achieve our objectives. We’ve been able to put in place some key propositions, especially in trade finance, debit cards and remittances, which are giving us good results.
What is the bank’s forecast for the year in terms of interest rates and inflation?
Interest rates have been volatile. The market liquidity position will be crucial to watch. As long as it remains at the current level, we will have a challenge in terms of interest rates. On the positive side, foreign interest in equity and capital markets is picking up. Inflows are improving. We will have to wait and see how things pan out.