NCB Head Office Jeddah, Saudi Arabia. Even before the coronavirus pandemic hit, the GCC’s financial-services industry was witnessing a wave of consolidation as banks sought ways to improve competitiveness, reduce operating costs and boost capital amid slowing economic growth. Image Credit: GULFNEWS ARCHIVE

Dubai: The offer from National Commercial Bank (NCB), Saudi Arabia’s largest lender by assets to acquire rival Samba Financial Group is likely to trigger a wave of mergers and acquisitions in the financial services sectors in Saudi Arabia and wider GCC, according to analysts.

In the proposed deal, NCB has offered to pay as much as $15.6 billion to Samba, approximately at a premium of 27.5 per cent to Samba’s share price.

Even before the coronavirus pandemic hit, the GCC’s financial-services industry was witnessing a wave of consolidation as banks sought ways to improve competitiveness, reduce operating costs and boost capital amid slowing economic growth.

Analysts say the NCB offer for Samba will inspire more such deal making in the context of economic compulsions that is making mergers looking attractive for banks. The proposed merger looks very much viable in the context of the economies of scale and cost savings the merger could bring.

Government support

“The Saudi government through various government entities owns 64 per cent of NCB and close to 50 per cent of Samba. Therefore, the chances of a deal being reached are better and the combined entity would benefit from a very high likelihood of government support, in case of need,” Ashraf Madani, a senior analyst at Moody’s said.

The combination of NCB and Samba Financial Group would create the third-largest lender in the GCC with total assets of about $210 billion, making it the region’s largest bank behind Qatar National Bank and First Abu Dhabi Bank.

A merger would be credit positive for NCB because its capitalization would strengthen and the deal would reinforce its position as Saudi Arabia’s biggest bank in terms of its market share of system-wide assets, according to rating agency Moody’s.

“NCB would benefit from Samba’s strong corporate and investment banking franchise and well-established risk management practices. The merger would combine NCB’s large franchise across most business lines and mass retail capabilities with Samba’s upper-middle-income retail presence and well-established corporate banking franchise,” said Christos Theofilou, a senior analyst at Moody’s.

NCB had about a 19 per cent share of total consolidated Saudi banking system assets at yearend 2019 and the merger will increase that market share to about 30 per cent and the deposits market share to 30 per cent, according to Moody’s. The potential merger could give NCB absolute control over the corporate market volumes in Saudi Arabia. Citigroup Inc said in a note.

Cost savings

NCB and Samba have slightly different business mixes, with Samba being more focussed on the Corporate and treasury markets while NCB has a larger allocation to the retail banking market than Samba. There is significant overlap which, in our view, provides scope for significant cost savings. On our estimates, a 10 per cent reduction in the combined cost bases could see the deal becoming 7-10 per cent accretive to earnings by the end of 2022 (assuming deal is completed in 2H20 and banks fully combine by end of 1H22)," said Hootan Yazhari, an analyst with Bank of America Merrill Lynch in a note .

Merger chart
Higher cost savings is one of the main attractions of the deal while revenue synergies give further upside. Image Credit: BofA Merrill Lynch

Stronger balance sheet, capital position

Moody’s said the merged entity’s tangible common equity ratio to adjusted risk weighted assets would increase to above 16 per cent on a pro forma basis from NCB’s 15.1 per cent at year-end 2019 because of Samba’s higher tangible common equity ratio of 17.6 per cent. NCB would benefit from Samba’s strong corporate and investment banking franchise, and robust risk management that translates into Samba’s cost of risk consistently being one of the lowest in Saudi Arabia.

“Samba has a sophisticated and well managed global market and treasury business that has the potential to prove useful for the combined entity’s larger balance sheet. Both banks have healthy funding and liquidity profiles, which will be maintained in the combined entity,” said a recent note from Moody’s.

Lower earnings, premium growth to push consolidation in insurance sector
Saudi Arabia’s insurance sector too is facing big challenges in terms of earnings and premium growth this year due to slowing economy resulting from low oil prices and the impact of COVID-19.
“Measures taken to contain COVID-19, including travel bans and curfews; lower oil prices, leading to delays or cancelations of nonessential infrastructure projects; and a general decline in disposable income due to the VAT increase and social benefit cuts could negatively affect gross written premium (GWP) growth and earnings prospects over the next year,” said Emir Mujkic, an analyst at Standard & Poor’s.
S&P anticipates that the number of insured individuals under medical policies will decline and that some employers will opt for more basic and cheaper medical cover for staff in an effort to save costs impacting the GWP. A slowdown in economic activity and consolidation in a number of sectors has already led to job cuts and cost-saving measures in recent years negatively impacting GWP growth.
Analysts expect relatively thin margins and slower underwriting growth will force many players to consider consolidiation. “Although scale is no guarantee of profitability, it does help insurers to dilute some of their expenses, which are relatively high in Saudi Arabia compared with other markets. We note that three of the 34 insurers have stopped writing business in recent years due to insufficient solvency capital,” said Mujkic.