Fitch: “Dominance of the Two Institutions Creates Barriers to Entry for New Participants”

Fitch: “Dominance of the Two Institutions Creates Barriers to Entry for New Participants”

Fitch: “Dominance of the Two Institutions Creates Barriers to Entry for New Participants”

The FINANCIAL -- Dominance of the two large institutions, TBC Bank and Bank of Georgia, capturing over 60% of the domestic market, creates barriers to entry for new participants and affects competition in the second-tier banking segment.

According to Fitch Ratings, it could drive further consolidation in the sector over the medium term. Meanwhile, smaller market players have been able to grow dynamically in previous years. Accordingly, Fitch does not expect this trend to reverse in the near future.

Last week, Societe Generale Group said that it has agreed to sell its majority stake in its Georgian subsidiary, Bank Republic, to Georgia’s second-largest bank TBC Bank.

TBC Bank had acquired Societe Generale’s 93.64% stake in Bank Republic for GEL 315 million (EUR 121 million), according to the deal, which is expected to be closed before the end of this year.

The transaction made TBC Bank Georgia’s largest bank, overtaking Bank of Georgia, by both loans and deposits, with its loan market share increasing by 7.3% to 35.7% and the deposit market share increasing by 5.3% to 34.5%.

In her interview with The FINANCIAL, Olga Ignatieva, Senior Director at Fitch Ratings CIS Ltd, gave her analysis regarding recent changes on the Georgian banking sector. 

“The presence of banks with financially strong foreign shareholders is generally positive from the point of view of the sector’s financial stability. At the same time, the effect of the exit of the foreign shareholder, Societe Generale, from the Georgian market in this case is likely to be limited given the moderate size of Bank Republic (around 7% market share by loans),” Ignatieva told The FINANCIAL. 

In July 2016, Fitch Ratings published a presentation on the Georgian banking sector. The presentation discusses the Georgian banking sector in the context of neighbouring emerging markets and reviews the specifics of the domestic market. Fitch highlighted that Georgia’s economic performance compares favourably with most of its neighbours. As a result, the banking sector was the fastest growing in the region, despite some moderation in lending growth from 2014.

The presentation also considers high retail lending penetration and its underlying risks in the context of rapid recent retail growth and high dollarisation rates. At the same time, Fitch noted that the asset quality and capitalisation metrics of Georgian banks have so far been more resilient than other Commonwealth of Independent States markets, albeit downside risks remain. The sector’s profitability also remained solid, despite the challenging environment and rising loan impairment charges, and performance outlook was stable. The presentation also discussed the funding structure of the banking sector, highlighting the high level of external debt, in particular relative to the country’s official reserves, that constrains the authorities’ ability to provide support to banks, especially in foreign currency.

Q. We have been hearing a lot of contradictory statements regarding the large number (totalling 21) of commercial banks operating in such a small market as Georgia. Can you share with us the experience of developed markets, what are the advantages and disadvantages of having such a big number of banks in general? (Or does the number matter at all?) 

A. Georgia is a developing market and we would rather consider comparisons with the neighbouring CIS and selected Central and Eastern European (CEE) markets. The number of banks by itself is less important - by this metric Georgia has one of the smallest numbers of institutions in CIS/CEE markets. Market size, its structure, concentration and barriers to entry are important characteristics of banking sector development. Institutions in healthy, highly developed and concentrated banking markets with meaningful barriers to entry are likely to possess strong franchises and benefit from pricing power, good client access and scale economies. In fragmented banking markets with very low barriers to entry, banks often struggle to obtain any competitive advantage/business scale or to earn adequate returns.

Q. During recent years we have been witnessing further expansion of two main players of the Georgian banking sector - TBC Bank (which purchased Constanta and recently Progress Bank and Bank Republic), and Bank of Georgia (which purchased TAO Privat Bank). What were the main factors that developed the ground for such changes on the market?

A. Growing financial institutions, in addition to organic expansion, do often exploit various opportunities available in the market, in particular when acquisition targets provide synergies for existing client franchises, product mix and/or geographical coverage. Recent acquisitions of smaller retail players by TBC Bank and Bank of Georgia have been complementary to their core franchises. In particular, Constanta, which specialized in micro lending, has allowed TBC Bank to develop a relatively new business line, while Bank Republic’s focus on mortgage and consumer lending matches the profile and strategy of TBC. Bank of Georgia’s acquisition of TAO Privat Bank, specialising in credit card business, contributed to the Bank’s strategic development of its retail banking business.

Q. Despite the big number of commercial banks in Georgia, there have always been two leading players (Bank of Georgia and TBC Bank) on the market. Consequently they were leaving just a small share of the operations to others. Can we predict that further expansion of these leaders will leave less room for growth to others?

A. Positive economic growth and the still moderate lending penetration in Georgia (as measured by a loans/GDP ratio of about 50%) suggest reasonable prospects for further credit growth. As per our observation, smaller market players have been able to grow dynamically in previous years and we do not expect this trend to reverse in the near future. The growth strategies of these institutions largely depend on their capitalisation levels and risk appetite but also on the capacity to withstand growing competitive pressures; however, this has been managed so far.

Q. Should we expect that the pressure from leading banks will further push other small banks to stop operations?

A. Dominance of the two large institutions capturing over 60% of the domestic market creates barriers to entry for new participants and affects competition in the second-tier banking segment. It could drive further consolidation in the sector over the medium term, in our view. At the same time, we note that smaller players, which generally find their niche and focus on the servicing of smaller businesses and retail clients, still enjoy relatively wide margins and report reasonable financial metrics.

Q. Considering all the pros and cons of SocGen’s departure from the Georgian market and further expansion of the already-leading TBC Bank, do you think that Central Bank, which is obliged to control anti-monopolistic policy, should have objected to the deal?

A. That is something for the Georgian authorities to consider. However, it should be noted that Georgia already had two quite dominant banking institutions prior to the announcement of the latest transaction.