Stock Showdown: Ranking Ghana’s Best Banks

Last week we crunched the numbers of some Nigerian banks, analyzing their profitability, growth, risk, and value to separate the gems from the junk.

I hope you got as much of a kick out of the exercise as I did, because we’re going to do the same thing again today. Only this time, we’ll be covering eight of the largest banks from Nigeria’s neighbor to the west — Ghana.

Remember that this quick and dirty survey of the industry is only the first stage of analysis. It’s intended to separate the contenders from the pretenders – not to provide me with a buy decision.

With that said, let’s put eight of the Ghana Stock Exchange’s biggest banks through their paces.

1. Profitability

If you’re in the market for a bank stock, chances are you’d prefer one that actually makes money.

Photo by George Appiah

Return on Assets (ROA) measures how effectively management deploys the assets under its control. I’ve calculated ROA as after-tax profits from continuing operations divided by average assets. Then, because bank earnings can be inconsistent, I averaged the ROA from the most recent five fiscal years.

To calculate a score, I divided the range between the most profitable bank and the least profitable one into deciles. The banks with ROAs in the highest decile were awarded 10 points. Those in the lowest decile scored just one point.

Here’s how they stacked up:

[table id=26 /]

2. Growth

Profitability is great, but Africa’s best banks are constantly growing their assets. They’re tapping new market segments, expanding into new territory, or acquiring smaller competitors. And because the banking industry is particularly conducive to building economies of scale, a larger asset base generally translates into greater profitability.

To measure which banks are growing the fastest, I simply annualized the growth of each bank’s total assets over the most recent five fiscal years.

Here’s what I found:

[table id=27 /]

3. Asset Quality

A bank’s challenge is to lend as much money as possible for the best return possible. In their zeal to do so, some banks end up lending valuable assets to some rather uncreditworthy customers. When these customers default, the loans must be written down to zero – a bad thing for profitability AND growth.

One of my favorite ways to measure a bank’s asset quality is to determine how much of the loan portfolio isn’t performing as planned. I do this by dividing non-performing loans by total loans. A lower ratio implies a lower degree of risk in the bank’s loan book.

Look here to see which banks are Ghana’s most conservative lenders:

[table id=28 /]

4. Value

Investing, of course, is all about value. The most profitable, fastest growing, well-managed bank in Ghana can end up losing you money if the price you pay for it is too dear.

When evaluating bank stocks, I take a close look at price/book ratios. Book value is simply the difference between a bank’s assets and its liabilities. Stocks with low price/book ratios generally have less downside risk. The lower a price/book ratio gets, the less risk there is of the bank disappointing the market and the greater potential there is for it to outperform expectations.

I prefer the price/book ratio over the price/earnings ratio for bank stocks. Why? Because bank earnings can be erratic. Thus, the P/E ratio for a bank coming off a particularly good or bad year will be skewed. Assets, on the other hand, are much less volatile and relatively easy for an accountant to value.

[table id=29 /]

5. Dividend Yield

Dividend yield is a function of both profitability and value. Generous dividends also suggest a confident management team. Dividend cuts typically wreak havoc on a stock’s share price. Therefore, most banks won’t raise dividends beyond a level they believe they can sustain.

[table id=30 /]

Winner, Winner, Chicken Dinner!

Now let’s put all the scores together and count them down from worst to first.

8. Ghana Commercial Bank – There’s not an easy way to spin this. Venerable GCB got smacked around by its younger smaller cohorts. It performed relatively well in Price/Book ratio, but considering that 15% of its loan book is shaky, I wouldn’t bother paying 2x book value for it.

7. Standard Chartered Ghana – Easily the most profitable bank in Ghana, SCB commands a very high price tag. It’s Price/Book ratio is well above 4! But a relatively juicy dividend may lure some cautious investors.

6. UT Bank – The industry’s fastest grower is well worth watching, especially if it cleans up its assets and initiates a dividend. Until then, it remains one of the riskier banks in the group.

5. Ecobank Transnational – This fast-grower with continent-wide reach is trading at a very attractive valuation. It’s only weakness in the showdown was its low ROA, which is likely a by-product of its rapid expansion.

4. HFC Bank – A nearly pristine loan book combined with a reasonable P/B ratio gave this obscure bank a solid showdown performance. But its relatively low ROA and growth rate kept it out of serious contention.

3. CAL Bank – A sky-high dividend yield and a P/B ratio that suggests that its accountant believes it’s worth 50% more than the stock market does put this small bank in the upper echelon. Its small size kept it out of second place.

2. SG-SSB – This bank is profitable, cheap, and pays a very attractive dividend. But the subsidiary of Societe Generale doesn’t seem to have an eye for growth.

1. Ecobank Ghana – The local subsidiary of ETI, Ecobank Ghana’s strengths are its profitability and squeaky clean loan book. It doesn’t have much potential for geographic expansion, but it’s not huge and has room to spread its wings in Ghana’s rapidly expanding economy. Factor in a reasonable P/B ratio and a dividend yield of nearly 8%, and I think this bank merits a very long look.

[table id=32 /]

What Do You Think?

Does Ecobank Ghana deserve to be head and shoulders above the rest of the field? Which bank stock do you think is the best bargain? Let me know your thoughts in the comments!

[Disclosure: As of publication date, I am long CAL Bank and Ghana Commercial Bank.]

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Stock Showdown: Ranking Nigeria’s Best Banks

If you’ve ever taken a look at the stocks listed on an African market, you likely noticed that they tend to be dominated by banks. Quite often banks are the exchange’s largest, most liquid shares.

It’s for this reason that I spend considerable time coming up with quick and easy ways to evaluate the relative attractiveness of bank stocks.

I walk through my method here.

If you’ve ever taken a look at the stocks listed on an African market, you likely noticed that they tend to be dominated by banks. Quite often, banks are the exchange’s largest, most liquid shares.

There’s a lot of number-crunching to be done when deciding which bank to buy. You could spend days buried in balance sheets if you cared to.

It’s for this reason that I spend considerable time coming up with quick and easy ways to evaluate the relative attractiveness of bank stocks.

The method I walk through here scores banks in five key areas: profitability, growth, asset quality, value, and dividend yield.

Please note that this method is only the first stage of analysis. It’s intended to separate the contenders from the pretenders – not to provide me with a buy decision.

Photo by André Silvestre

With that said, let’s put it to work on 12 of the Nigerian Stock Exchange’s biggest banks. Let the showdown begin!

1. Profitability

If you’re in the market for a bank stock, chances are you’d prefer one that actually makes money. So, I took the liberty of screening out all the banks that failed to produce a positive average return on assets (ROA) over the past five years.

ROA measures how effectively management deploys the assets under its control. I’ve calculated ROA as after-tax profits from continuing operations divided by average assets. Then, because bank earnings can be inconsistent, I averaged the ROA from the most recent five fiscal years.

To calculate a score, I divided the range between the most profitable bank and the least profitable one into deciles. The banks with ROAs in the highest decile were awarded 10 points. Those in the lowest decile scored just one point.

Here’s how they stacked up:

[table id=9 /]

2. Growth

Profitability is great, but Africa’s best banks are constantly growing their assets. They’re tapping new market segments, expanding into new territory, or acquiring smaller competitors. And because the banking industry is particularly conducive to building economies of scale, a larger asset base generally translates into greater profitability.

To measure which banks are growing the fastest, I simply annualized the growth of each bank’s total assets over the most recent five fiscal years.

Here’s what I found:

[table id=10 /]

3. Asset Quality

A bank’s challenge is to lend as much money as possible for the best return possible. In their zeal to do so, some banks end up lending valuable assets to some rather uncreditworthy customers. When these customers default, the loans must be written down to zero – a bad thing for profitability AND growth.

One of my favorite ways to measure a bank’s asset quality is to determine how much of the loan portfolio isn’t performing as planned. I do this by dividing non-performing loans by total loans. A lower ratio implies a lower degree of risk in the bank’s loan book.

Look here to see which banks are Nigeria’s most conservative lenders:

[table id=11 /]

4. Value

Investing, of course, is all about value. The most profitable, fastest growing, well-managed bank in Nigeria can end up losing you money if the price you pay for it is too dear.

When evaluating bank stocks, I take a close look at price/book ratios. Book value is simply the difference between a bank’s assets and its liabilities. Stocks with low price/book ratios generally have less downside risk. The lower a price/book ratio gets, the less risk there is of the bank disappointing the market and the greater potential there is for it to outperform expectations.

I prefer the price/book ratio over the price/earnings ratio for bank stocks. Why? Because bank earnings can be erratic. Thus, the P/E ratio for a bank coming off a particularly good or bad year will be skewed. Assets, on the other hand, are much less volatile and relatively easy for an accountant to value.

[table id=12 /]

5. Dividend Yield

Dividend yield is a function of both profitability and value. Generous dividends also suggest a confident management team. Dividend cuts typically wreak havoc on a stock’s share price. Therefore, most banks won’t raise dividends beyond a level they believe they can sustain.

[table id=13 /]

Winner, Winner, Chicken Dinner!

Now let’s put all the above scores together. Perhaps unsurprisingly, blue-chips like GTBank and Stanbic IBTC posted good profitability, growth, and asset quality scores, but lagged far behind when comparing value and dividend yield.

Meanwhile, high-yielding, low-priced stocks like Diamond Bank and Fidelity Bank performed poorly in terms of profitability and asset quality.

Two banks, Access and Sterling, performed well enough on all five scales to post the highest scores. In fact, they tied with a composite score of 37!

But after all this hoopla, a draw would be anticlimactic, wouldn’t it? So, I decided to give the tiebreaker to the largest bank in terms of total assets. Why? Larger banks are generally less risky than smaller ones.

As of the end of 2011, Access Bank’s asset base totaled NGN1,634 billion (roughly $10.4 billion). Sterling Bank’s total assets are NGN504.4 billion (approximately $3.2 billion).

So we have a winner of my first ever Nigerian Bank Stock Showdown! Congratulations to Access Bank (ACCESS.NL)!
[table id=14 /]

What Do You Think?

Did the results surprise you? Are there other criteria you would add to the Showdown? Would you change the weights to some indicators? Is my method madness? Let me know your thoughts in the comments!

[Disclosure: I have no position in any stock mentioned in this article, and I have no intention of taking any within the next 72 hours.]

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Banking the Gold Coast: Investing in Ghana’s Booming Banks

I believe one of the best ways to tap into Africa’s high-growth economies without exposing yourself to excessive risk is by investing in a well-managed, local bank. African banks’ operations are generally easy to understand. Their balance sheets are refreshingly free of exotic derivatives. For the most part, they simply take in deposits and make loans. It’s banking at its simplest.

Ghana’s banks have enjoyed a purple patch in recent years due to a combination of rapid economic growth and tight fiscal policy. The government expects to post 9.4% economic growth this year thanks to oil revenues – making it one of the fastest-growing economies in the world.

So, which banks are providing the capital for this remarkable expansion? Here is a roundup of the most prominent ones listed on the Ghana Stock Exchange.

I believe one of the best ways to tap into Africa’s high-growth economies without exposing yourself to excessive risk is by investing in a well-managed, local bank.

African banks’ operations are generally easy to understand. Their balance sheets are refreshingly free of exotic derivatives. For the most part, they simply take in deposits and make loans. It’s banking at its simplest.

Ghana’s banks have enjoyed a purple patch in recent years due to a combination of rapid economic growth and tight fiscal policy. Fuel price increases and a boost to the minimum wage will likely accelerate inflation for the remainder of the year. But the government still expects to post 9.4% economic growth this year thanks to oil revenues – making it one of the fastest-growing economies in the world.

So, which banks are providing the capital for this remarkable expansion?

Here is a roundup of the most prominent ones listed on the Ghana Stock Exchange:

Bank 5-Yr Earnings Growth Efficiency Ratio ROE ROA Yield P/E Ratio P/B Ratio
CAL Bank 30.8% 0.66 21.6% 2.7% 4.8% 3.7 0.8
Ecobank Ghana 36.8% 0.51 32.7% 4.1% 6.3% 10.1 3.1
Ecobank Transnational 21.4% 0.72 13.4% 1.6% 6.8% 4.2 0.6
Ghana Commercial Bank 18.4% 0.74 23.3% 2.7% 3.8% 8.4 1.8
Standard Chartered Ghana 24.0% 0.53 41.6% 5.3% 2.6% 11.1 4.4
SG-SSB 18.2% 0.73 19.4% 3.3% 7.8% 6.9 1.3
UT Bank 42.5% 0.74 28.7% 2.7% 3.2% 6.7 1.6

CAL Bank (CAL:GN)

Founded in July 1990, CAL Bank serves primarily corporate customers, but in recent years it has attempted to grow its retail customer base. It now operates 17 branches and 48 ATMs throughout the country. Still, commercial customers accounted for 97% of its loan book in 2010.

Photo by Retlaw Snellac

CAL’s management knows how to make money. It grew profits by 90% in 2011 and at a 30.8% pace over the past five years.

The bank hasn’t yet announced its 2011 dividend, but in 2010, it paid out 33% of net income. If they are similarly generous this year, the dividend would more than double. But even if the payout remains unchanged at GHS0.013, buyers at today’s price will snatch up a 4.8% yield. I expect management will raise the dividend. Apart from one blip in 2009, the bank boosted its payout every year since 2002.

Ecobank Ghana (EBG:GN)

One of Ghana’s biggest banks in terms of total assets, EBG recently completed an acquisition of a smaller competitor which will give it the second largest branch network in the country.

Its 4.1% return on assets is testament to its profitability, which can, in part, be traced back to efficient management. EBG’s operating expenses and provisions for bad loans amounted to just 51% of net interest and fee income over the past 12 months. That’s the best efficiency ratio in Ghana, and one that many developed world banks would be proud of.

It has increased its dividend every year since 2002 and currently yields an eye-catching 6.3%. This year’s dividend is yet to be announced, but I’m confident that management will have room to boost its payout once again. Trailing earnings are up 23% on the previous year’s numbers thanks to a 12% boost in net interest income. The bank’s earnings have grown at a 36% pace since 2006.

Ecobank Transnational (ETI:GN)

Togo-based ETI is, by far, the largest bank listed on the Ghana Stock Exchange. It now operates in 35 African countries and is the parent company to EBG.

In spite of its impressive size, management remains in growth mode. Over the most recent 12 months, it increased customer deposits 22% from a very high base. This rapid growth depresses its profitability ratios. Its return on assets is just 1.6%. But don’t miss the forest for the trees. Management wants to build ETI into the continent’s leading bank, and they have doubled its earnings over the past 12 months.

ETI’s share price has dropped 33% since February 2011, and it now trades at just over half of book value (0.55) – a staggering discount. Investors may be waiting to see how the company’s recent acquisition of Nigeria’s Oceanic Bank impacts the balance sheet. Upon completion of the deal, ETI’s Nigerian subsidiary will be that country’s fifth largest bank.

Ghana Commercial Bank (GCB:GN)

GCB boasts the largest branch network (157 branches) of any Ghanaian bank, which makes it a leader in the retail segment of the market. For many years, most of GCB’s earning assets were tied up in an under-performing loan to the national oil refinery. These assets were freed up when the government restructured the refinery’s financing a couple years back. Since then, GCB’s management has struggled to digest this excess capital. Loans currently represent just 25% of total deposits.

While small relative to its size, the loans that the bank does make tend to perform quite well. Combine that with a low-cost retail deposit base, and you can see why GCB’s net interest margin (10.6%) is one of the country’s widest.

GCB has grown earnings at an annualized 18% rate over the past five years – an impressive stat given the stock’s 8.4 P/E ratio. It would grow them even faster, however, if management did a better job of containing operating costs. GCB’s efficiency ratio is 74% – remarkably high for a bank without an aggressive expansion program.

Standard Chartered Bank Ghana (SCB:GN)

SCB is Ghana’s blue-chip bank and a favorite among corporate customers. Founded in 1896, it is big, well-managed, and impressively profitable. Over the most recent 12 months, it returned 5.3% on each Cedi of its assets. No other Ghanaian bank even comes close to such a figure.

But before you call your broker be aware that SCB shares also boast a blue-chip price tag. The stock trades at more than 11x trailing earnings, 4.4x book value, and yields just 2.6%. Moreover, earnings growth has been lackluster of late. Profits increased just 8% during the past 12 months, and, as a subsidiary of the Standard Chartered financial group, it has no regional expansion prospects. The bank would have room to grow in the retail segment of the market, but with just 21 branches, management has demonstrated little inclination to do so.

SG-SSB (SGSSB:GN)

A subsidiary of French financial services giant, Societe Generale, SG-SSB operates 42 branches in Ghana and ranks fourth among its peers in market capitalization.

The bank boasts a balanced revenue stream with 43% of operating income coming from corporate clients, 18% from retail customers, 12% from small and medium-sized businesses, and the remainder from treasuries.

In its purest form, banking is about attracting low-cost deposits and then lending them out at a higher rate. No Ghanaian bank did this better than SG-SSB over the past year. Its net interest margin stands at 10.8%. But this is counter-balanced by relatively anemic growth in the loan portfolio which came in at less than 20% – much less than its mid-size peers.

SG-SSB’s share price has dropped 37.5% over the past 12 months. It now trades at just 1.3x book value and yields an attractive 7.8%.

UT Bank (UTB:GN)

UTB rounds out this bevy of banks. Founded in 1997 as a micro-lender, it is the upstart of the group and the smallest in terms of total assets. It is rapidly capturing market share. It has grown earnings at an astounding 42.5% annualized rate since 2006 and nearly doubled its loan book over the past 12 months.

That kind of loan growth raises concerns about credit quality, especially when one considers the bank’s promise to provide business loans in less than 48 hours. Credit analysis can be none too thorough under such a tight timeframe. Still, non-performing loans dropped to 12% of the portfolio in 2010 from 20% the year before.

UTB’s profits have increased nearly 90% over the most recent 12 months, making its 3.2% dividend yield worth a look.

Dividends AND Growth… Oh My!

Do you see any compelling investment opportunities on this list? If you’d like to dig deeper into the numbers, I highly recommend checking out Annual Reports Ghana’s excellent library of financial statements.

[Disclosure: I own shares of Ghana Commercial Bank.]

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Three Innovative (and Profitable) Kenyan Banks

This guest post is by Michael Abrahams, General Partner of the New Markets Financial Fund, L.P.

While Kenya’s safari and ecotours remain more popular, banking tours may soon catch up. I’ve just returned from a self-guided tour of that country’s banks and came away impressed by the innovation, social impact, and profitability of banking the un- and underbanked there.

In Nairobi, I met with both commercial banks and non-profit microfinance institutions. The companies included:

  • Equity Bank (EQBNK:KN), a global leader in banking the unbanked with creativity and innovation. At its launch, Equity’s management focused on answering a simple question: How can we lower the consumers’ cost of entry to banking? While the bank now has a broader ranger of offerings, with some strength in SME lending, 60% of new customers are still from the ranks of the unbanked. Now with 6.7 million customers, the bank has cut costs and improved access by offering a low cost, flexible back office system and a focus on mobile phone banking, whose costs are approximately a tenth the cost of a branch-originated transaction. Equity has also developed a low-cost agency system to serve customers in rural areas. These agents are self-employed individuals (often operating out of their own retail stores) who are trained to provide Equity’s basic banking services, particularly in deposit-taking and small balance lending.
Photo by WhiteAfrican
  • Family Bank is a company founded in 1984 expressly to serve the underbanked. Although their average deposit is only $200, Family has $160 million in deposits and 61 branches. The company is not yet listed but expects to debut on the Nairobi Stock Exchange shortly.
  • Co-op Bank (COOP:KN) was established in 1965 by tea, coffee and sisal farmers whose cooperative savings groups could not obtain banking services. Cooperatives are widespread in Kenya, and much of Africa, and they remain about 20% of the bank’s business. The bank has an active consultancy devoted to helping in the formation of new cooperatives as well as assisting existing co-ops flourish.

How profitable are these banks? Very. The two publicly traded banks, Equity and Co-op, have returns on equity exceeding 25% and show growth in both loans and earnings per share in excess of 40% annually. Family Bank, not yet publicly traded, is not quite as profitable as the other two banks or showing as rapid growth through year-end 2010 but is still doing very well.

Perhaps the most revolutionary banking product in decades is M-Pesa, transaction banking through simple 2-G mobile phones, which has spread like wildfire in Kenya. Following the introduction of M-Pesa by the mobile provider Safaricom (SAFCOM:KN) in March 2007, it is now utilized by 14.9 million people, or 65% to 70% of the adult population.

And this is not the very limited mobile banking service found in the US, but a full range of transaction services, including the purchase of goods and services, remittances, and bill-pay. For M-Pesa customers who link their phone to a bank, particularly the three above, a full banking platform is available including interest-bearing savings accounts and credit.

Innovation is not limited to cell phone banking. Seventy percent of Kenya’s 41 million people work in agriculture, typically very small-scale farming. Historically, banks have lent little to this sector because of its high risks, in part due to the highly volatile nature of crop production and prices.

Currently, Equity, Co-op and Family Bank are testing the use of index-based crop insurance, a low-cost insurance that will provide farmers a payout should total rainfall come in below some threshold level. This insurance, sometimes combined with forward purchase agreements for farmers’ crops by large financially sound buyers, will substantially reduce risks to borrowers and lenders, permitting an expansion of credit to this large sector.

New developments in mortgage lending are permitting lower income borrowers to build a roof over their heads. We met with Select Africa, a subsidiary of African Alliance, a leading pan-African securities firm, who provide incremental mortgages to their customers. Incremental mortgages are structured to safely and soundly meet the repayment abilities of lower income consumers.

The poor in much of Africa often build a home over years, first acquiring land, then building one room at a time with much of the labor provided by the owner. Now, some lenders are financing each stage, with each loan maturing in about two years and a new loan being granted only after the first is paid off. For example, a borrower may borrow enough to build the framing and roof, payoff that loan over time and then take out a new loan to finance the construction of outer walls. While it may take some years to finish the home, the financing never becomes overwhelming to the borrower. The loans may be as small as US$800 or as large as US$3,500. In addition, only days ago, Equity Bank announced their partnership with a Kenyan building supply company. Equity Bank will provide micro-mortgages to enable borrowers to purchase building construction materials for as little as US$2,000.

I left Kenya very encouraged by the financial institutions I had met. Unlike banking in much of the US and Europe, financial institutions are designing and introducing products that meet the needs of their customer base. Because so much of that potential customer base has been un- and underbanked to date and because that base is so large, the banks are having a huge positive social impact and have tremendous growth potential. It is really impressive to see what banking can be.

[Editor’s Note: Read more about Mike Abrahams’ approach to investing in Africa’s banks in this interview.]

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Banking on Africa’s Unbanked

Michael Abrahams knows banking. Since receiving his PhD in Economics from UC Berkeley, he has helped craft bank policy in Washington, analyzed bank financials on Wall Street, served on the boards of financial institutions, and advised a village-level savings and loan association in Uganda. Now he’s putting his extensive expertise to work as the General Partner of the New Markets Financial Fund, LP, which invests primarily in firms that provide banking services to underserved communities. African stocks constitute over 50% of the fund portfolio, which has posted a 16.6% CAGR since inception in January 2007 through year end 2010.

Mike graciously agreed to give me some insights into his investment approach last week.

 

You invest primarily in financial firms that cater to the un-banked. Why have you focused your fund in this way?

Michael Abrahams: This is an extraordinarily exciting market that is being pushed by both the demand and supply sides of the equation. The World Bank has estimated that there are 2.5 billion unbanked adults worldwide; while some have incomes too low to be served, this hurdle is declining every year. In addition, the demand for banking services increases more than proportionately with income, that is as incomes rise, the demand for banking rises even faster. This large and growing demand is being met by an increasing supply of services: technology and greatly improved operating strategies are enabling financial institutions to profitably provide the small accounts and transactions needed by many of these potential customers. While banking in the US is characterized by overcapacity, weak (if any) profitability and negative growth, our market, largely in emerging and frontier markets, is rapidly growing, has wide margins and is providing tremendous benefits to its customers.

Michael Abrahams, Portfolio Manager of the New Markets Financial Fund

It sounds like a pretty specific niche. How large is your investment universe?

MA: It is bigger than you may think. Last year, we totaled up the market cap of all publicly traded banks in emerging and frontier markets that we could find and it came to $2.3 trillion. This is an overestimate of our universe since there are banks in this group that serve a different niche within emerging and frontier markets than we have an interest, for example, wealthy individuals or corporations. However, it does give you an idea of the magnitude of this market.

It must have been rough sailing for these stocks a few years ago. How did you navigate the 2008 financial crisis?

MA: That was our second year and it was a challenge. However, we had been concerned since 2005 about the US real estate market and the US banking system. In 2008, we were heavily short US financials, something that helped mitigate our losses to about half that of the S&P500.

Tell me a bit about your investment process. What criteria do you use to size up a potential investment?

MA: We first make sure that we are relatively comfortable with the country where the company is headquartered. Then we’ll examine whether their strategy has a reasonable chance of success. When we find a company whose market and strategy we like, we evaluate its returns, how it generates those returns and how well it does so by looking at some of the contributors to earnings quality such as the net interest margin, the sources of non-interest income, and the level and trends in problem assets. I then like to rank potential and current investments by their PEG ratio to give me some idea as to how expensive the shares may be relative to other companies’ shares.

Sometimes companies change their strategies — particularly in a market that is growing in many new directions like this one. When they do, we re-evaluate our position. For example, African Bank Investments (ABL:SJ), a South African microlender, purchased one of the largest furniture dealers in South Africa a few years ago in order to accelerate the growth in their loan portfolio, in this case with furniture loans. But the retail furniture business is very different than the loan business and we sold our position.

You made a great call on a South African firm called Capitec Bank Holdings (CPI:SJ), which you’ve ridden to a 411% gain. What tipped you off that the stock would be a winner?

MA: Here was the key for me: the bank understood their target market, the un- and underbanked of South Africa, and designed the bank’s products and services specifically to meet their needs. None of their business appeared to be a rehash of existing products and services designed for wealthier customers. I can’t overstate the importance of this —translating an ATM panel into different languages, as we have seen in the US isn’t enough, it isn’t even a start. I felt Capitec had the right products and had done everything imaginable to drive their costs down so that they could profitably offer small accounts and services. In addition, unlike many others who serve or try to serve this market, Capitec has a strong focus on deposits. This is critical for their customers’ long term financial health and development and for Capitec’s long term funding stability. They had little to no competition among formal financial institutions, although some has since developed, and faced a market in South Africa of millions of potential customers. And they had margins you could drive a truck through. To make it better from my own selfish perspective, the little research coverage they got kept saying they were too expensive. They were too expensive if you compared them to FirstRand (FSR:SJ) or Standard Bank (SBK:SJ), but neither of them were growing at 40%+ a year with high returns on equity on unlevered capital bases.

And (you knew I was going to ask this) what was one of your biggest losers?

MA: Blue Financial (BFS:SJ). They had a really great story as a pan-African microfinance lender. However, they couldn’t execute on their strategy. I think in part because it was a more complex task to develop a pan-African lending platform than they expected and underwriting suffered as they sought rapid growth. They probably needed a more experienced and cautious management and board team than they had.

What is your biggest challenge as an Africa investor?

MA: The biggest challenge is politics. In the first quarter of 2011 alone, Egypt closed their market for almost two months and Cote d’Ivoire moved their exchange to Mali for a few months after the forces of the former President raided their offices. Turmoil continues there today. And on a smaller level, Net1UEPS (UEPS:US) has been volatile and a very poor performer for three or four years because of the ongoing uncertainty regarding contract discussions with their largest client, the South Africa social benefits administration.

The next biggest challenge is inadequate disclosure. It does vary. Many South African companies have excellent disclosure. Other countries and companies have much more limited disclosure. For example, some of the banks we have looked at in the Cote d’Ivoire release their full year end financials in October with the half year results about a month later.

Do you see any bargain African banks right now?

MA: There are many attractive investment opportunities. If I had to pick one today, I would pick Letshego (LETSHEGO:BG), the Botswana-based micro-lender. And we are looking very closely at expanding our investments in companies playing key roles in providing mobile phone banking. Paul Volcker said in 2009 that the only innovation in banking in the past 20 years was the ATM — I would add mobile phone banking which will have a much bigger impact.

You recently traveled to Nigeria. What is your take on its banking sector?

MA: Nigeria is a tough one. It is the most populous country on the continent with well-recognized problems with resource-dependency and corruption. However, things are improving on many fronts including banking and the regulation of banking which is more than we can say about the US. I will feel more confident in my ability to evaluate Nigerian banks when they shift to IFRS accounting from their current use of Nigerian Accounting Standards. There is huge potential in this market and there are some serious and dedicated people and institutions working on reforming it.

You don’t just invest in African banks, you’re personally involved in setting up village-level savings and credit associations on the continent. Has this work informed the way you manage your portfolio?

MA: Two experiences have influenced the way we look at our investments. The first is work training people in West Africa how to establish savings and credit groups through their local churches. The second was closer to home and was financing and then serving on the board of a Los Angeles based inner city check cashing company. Through both, I saw that the lives of the unbanked can be tremendously improved, if not changed, with basic banking services. But these services have to be designed to fit their needs; that is, offering them a $1000 CD, even if it is in Spanish, is not much help. But a savings account that they can regularly add a couple dollars to every week, pay some bills from and not be annihilated by service charges can be a hugely beneficial product. We look for well run companies able to profitably deliver products like this.

Disclosure: The New Markets Financial Fund holds a long position in Capitec Bank Holdings. Ryan Hoover holds long positions in Letshego Holdings and Net1UEPS.

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