For most banks the past 18 months have been a turbulent time, buffeted first by the impact of a fall in global asset prices, followed by high-profile defaults of several large regional corporates and the collapse in real estate values.

I have been saying for some time there should be consolidation as the UAE has too many banks

Michael Tomalin, chief executive officer of NBAD

National Bank of Abu Dhabi (NBAD), the largest Abu Dhabi bank and second largest bank in the UAE, has managed to navigate through the financial crisis better than many. It had just $10m of exposure to Saad Group and AH al-Gosaibi & Brothers, two Saudi groups that defaulted on billions of dollars of debt. Its Dubai World exposure totalled $231m.

Increased profits for the National Bank of Abu Dhabi

In the first quarter of 2010 the bank reported a 34 per cent increase in profit compared with the same period in 2009, reaching more than AED1bn ($272m). This was despite the bank continuing to take an aggressive stance on provisioning for bad loans.

Key fact

NBAD profits for first quarter 2010 reached more than AED1bn, a 34 per cent increase on the same period in 2009

Source: NBAD

By the end of March, NBAD had put aside AED1.66bn of provisions against a total loan book of AED134bn and impaired loans of AED1.78bn. The bank’s chief executive officer, Michael Tomalin, says that although he expects to see some increase in bad loans, the bank has been building up a large cushion of provisions.

“Our non-performing loan [NPL] levels are fairly low, but we are expecting them to go up so have been taking the maximum amount of provisions we can while still being capital efficient,” says Tomalin.

NBAD Quarterly performance
    Profit AED m Loans AED bn Deposits AED bn
2008 First quarter 874.545 92.77 92.181
  Second quarter 1001.505 106.459 89.274
  Third quarter 650.658 112.535 97.233
  Fourth quarter 492 115.432 103.481
2009 First quarter 770 115.871 97.868
  Second quarter 907 124.25 111.7
  Third quarter 913.973 128.19 111.673
  Fourth quarter 429 132.2 121.205
2010 First quarter 1031 133.6 114.7
  Second quarter 1001 135 112.2
Source: NBAD

“We are in a position where even if NPLs doubled, we have set aside collective provisions large enough to be able to cover that, although that’s not to say that I think they will rise that much, just that we are well covered.”

That attitude of cautious provisioning matches with Tomalin’s cautious optimism about the outlook for the UAE banking sector. “The market is still in difficulty and credit conditions are still tough,” he says. “But the first order impacts [of the global financial crisis on the UAE] have been recognised and are being addressed.”

“The second order effects are still to be dealt with though. Companies that were not directly affected in the turbulence can get affected because they are in a chain. So if credit is more difficult to get, if payments are late, if credit becomes more expensive, that all puts companies under stress,” Tomalin adds.

Because of this, he says bankers will have to be “patient, long-suffering and work closely with their clients” to avoid situations where stressed companies cease to be going concerns. “Banks have to behave responsibly in this environment,” he says.

“And besides, restructuring loans is not necessarily a bad thing. We have restructured loans on better conditions than we had before, with more secured cashflows, better security margins and higher pricing.”

Among just three of the largest banks in the UAE, more than AED15bn of loans were restructured in 2009.

Clearly the UAE banking market faces a challenging time ahead. Tomalin says this is partly because the banking system is still dealing with loss of foreign money that had flooded into the UAE, betting on a revaluation of the dirham against the dollar. He estimates that up to 20 per cent of the banking system may have left the country as it became clear that a revaluation would not occur and the financial crisis forced international investors to take their money back home to shore up other investments.

That left a huge hole that the UAE is still dealing with, not least because, as Tomalin says, a lot of the money was lent out on a longer duration than it had come in on. He points to several other factors that left UAE banks struggling to fund themselves.

Firstly, the international capital markets closed, shutting off the option of replacing the hot money with bond funding.

Secondly, the interbank market closed as lenders became increasingly concerned about the ability of other banks to repay loans, even ones made on a short-term basis. Thirdly, international banks became less active in the UAE markets as they tried to address problems in other parts of the world.

Interbank market

NBAD is one of a handful of UAE banks that has managed to raise money from the capital markets, most recently borrowing $750m from international investors in the first quarter of 2010. But generally banks in the UAE are reluctant to issue new bonds because of the high interest costs they have to pay. The interbank market has improved though.

“Up to a month the interbank market is quite active and day-to-day liquidity is available,” says Tomalin. “But there is still not much of a market for term money.”

Solving the liquidity problem is a more difficult task, says Tomalin. “Probably something in the order of AED50-100bn would be needed to square the books, but then even that doesn’t necessarily provide what is needed to grow the economy going forward.”

Whether additional government funding to help get banks lending will be forthcoming is uncertain. Tomalin thinks that rather than a wide-ranging programme of putting deposits in the banks to help them address deposit shortfalls, the UAE government may be more selective.

“This is a growing economy and there are buildings to construct, projects to finance, and infrastructure to develop. So I expect to see a lot more projects financed in the capital markets, or through government borrowing that they deposit directly into a project company,” he says.

“To some extent the economy can get going again through the government directing funds to projects they think should be done. But that doesn’t benefit the private sector very much.”

Because of its ability to raise money from the capital markets, NBAD does not have a funding shortfall like some other banks, but the competition to attract deposits will slow down growth.

Tomalin says that as a result of the withdrawal of hot money, banks have been offering customers high levels of interest to attract deposits and shore up their books.

“We have allowed some marginal deposits to go because we will not take part in a bidding war to keep them, but of course we still make sure we meet our statutory ratios,” he adds.

This will impact the banks’ ability to grow its lending book. “We don’t think it’s healthy to bid up the price of deposits so our policy is to control the growth of our assets and our balance sheet in line with deposits. So we start with how much we have and then lend it, rather than the other way round, which I think suits the central bank.”

UAE bank consolidation

Internationally, the stress that the financial crisis has put on many banks has sparked a wave of consolidation as stronger banks buy up weaker ones. So far there is little sign of that trend reaching the UAE, despite the hype that followed the merger of Emirates Bank and National Bank of Dubai to form Emirates NBD in October 2007.

“Consolidation is not on anyone’s agenda,” Tomalin says. “I have been saying for some time there should be consolidation as the UAE has too many banks. For an economy of the size of the UAE, with global trading partners, the banks here are quite small. Given the size of our economy, I think the UAE should have three or four banks of global consequence.”

He adds: “I think we should think the unthinkable. But it’s a question of buyers and sellers having a mutual interest, and in my experience of working on deals for other people the seller always has an exaggerated view of the price of their business.”

If acquisitions do not occur, Tomalin says that a handful of winners from the regional banking market might emerge anyway.

“As we globalise some clear winners will emerge. It may take longer than [it would] through acquisitions, but in 10-15 years I think we will find about 10 Middle East and North Africa banks, which dominate the markets they operate in.”

For NBAD, he says the bank will continue with its organic growth strategy that has seen the company build a wide network in Egypt, Switzerland, London, Paris and most recently the bank has received a licence to start operating in Malaysia.

“We are natural builders rather than buyers,” says Tomalin.

As other banks in the region feel the stress of the financial crisis, NBAD has a good opportunity to move ahead.

Its close links to the Abu Dhabi government should benefit the bank as the emirate continues to invest in development.

Tomalin will be hoping that continuing to invest in NBAD while other banks concentrate on shrinking their cost base, will give the bank a significant advantage as the economy returns to growth in 2011.