An overview of banking in Bangladesh and the possible impact of operationalizing nine new banks in the banking industry

1. Background
On April 4, 2012, the Bangladesh Bank (BB) approved three new banks, the
sponsors of all of which are Non-resident Bangladeshis. Following this six
more banks were approved on April 8, 2012. The six most recently approved
were drawn from a short-list of 16, of a total of 37 applications. Meanwhile, the
three approved Non-resident Bangladeshis bank applications were drawn
from a pool of five Non-resident Bangladeshis bank applicants.
Since mid-2011, the issue of setting up new banks has been a topic of much
debate in local print and broadcast media. On September 27, 2011, BB had
issued a circular, seeking applications for new banks. Application
requirements included a paid-up capital of BDT 4 billion to be paid by
shareholders, caps on proportion of share ownership per shareholder,
stipulations on size of the board, a squeaky clean credit history (no record of
loan default in last five years) to list a few.
The primary role of the Non-resident Bangladeshis Banks, as envisioned by
BB, will include inwards remittance of foreign currency, attracting trade
customers, and creating FDI inflow into Bangladesh by raising funds from the
large but widely dispersed Non-resident Bangladeshisis population. The
increasing importance of inward remittances from the Bangladesh diaspora
was highlighted in an earlier report.
Analysts:
Sajid Huq Amit
sajid.huq@bracepl.com
Farjad Siddiqui
farjad.siddiqui@bracepl.com
Bank Sector Update: Nine New Banks for
Bangladesh
April 09, 2012
Figure 1: Country-wise count of scheduled banks
10
20
30
40
50
Bangladesh* Pakistan Nigeria Kenya
Number Scheduled of Banks
* The existing bank count stood at 47 prior to these approvals
Source: Bangladesh Bank, Central Bank of Nigeria, State Bank of Pakistan and Central Bank of Kenya

2. Bank Sector Update: Nine New Banks for
Bangladesh
In fact, it was not clear last year if more than a few bank licenses would
be approved. International Financial Institutions discouraged the
formation of new banks; given the sector already has 47 scheduled
banks, 30 of which are listed private commercial banks.
Proponents of allowing new banks have made the following arguments:
 The Bank sector penetration in Bangladesh is a meager 15%
compared to 32% in India, and 22% in Pakistan).
 The Bank sector has had an average annual deposit growth rate of
19.31% in 2007-2011. This is high by any standard, considering in
Pakistan bank sector witnessed an average deposit growth rate of
13.60% in 2007-2011 and Nigeria 15%, over 2009-2011. In frontier
economies, this is partly an outcome of social mobility manifested by
an increasing awareness of bank products. Secondly, it is also a
result of sales drives by banks and their increasing numbers of
branches.
 In Bangladesh, the figures for interest rate spread (IRS) and net
interest margin (NIM) are quite high by global or regional standards.
As of FY11, the average IRS and NIM for the Bank sector was
4.95% and 4.10%, respectively.
Figure 2: Country-wise banking sector penetration
15%
22%
32%
23%
30%
47%
10%
20%
30%
40%
50%
Bangladesh Pakistan India Vietnam Philippnes Indonesia
Source: Global Insight, Fitch and IFC
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
2007 2008 2009 2010 2011E
Bangladesh Pakistan Sri Lanka Vietnam
Figure 3: Country-wise banking sector interest rate spread
Source: World Bank and BRAC EPL Research

3. Bank Sector Update: Nine New Banks for
Bangladesh
 The very low penetration, sustained YoY deposit growth of near
20%, and very high IRS and NIM indicate that the Bangladesh bank
sector is not necessarily at stage when it cannot accommodate
competition.
 Leading Bangladesh banks run very profitable business unrelated to
their spread income operations and the outlook for most of these are
bright. These non-core operations include banking for the middle-
market/SME; fee-based businesses such as remittance operations;
and mobile banking businesses that are at an early stage and
forecasted to drive growth long-term.
 A more conventional non-core bank business in the form of
commissions-based trade financing is also expected to see better
days once electricity and infrastructure bottlenecks are addressed. It
would be difficult to set a timeline to when trade financing will pick up
as all the external conditions are favorable: high manufacturing costs
in China, slowdown in Europe and increasing demand for lower-end
and middle-end RMG, low labor costs in Bangladesh, and
considerably deep sector and product experience of Bangladeshi
RMG manufacturers. The variable in the form of infrastructure
bottlenecks will have to be addressed. Going by McKinsey’s forecast
of Bangladesh RMG manufacturers doubling output by 2015, at least
by 2014, even trade financing would pick up for the bank sector.
However, 47 banks is a high count and the new banks will certainly
create competition at a time when asset and deposit bases are
concentrating and liquidity outlook is a concern. The six banks that were
approved on Sunday, April 8 will have to address the following macro
and investment climate realities:
 A high inflationary environment is a severe detriment to bank sector
profits, and even more so for conventional bank models that rely on
spread-income business. New banks will be faced with the brunt of
high possibly double-digit inflation, if government borrowing
forecasts are anything to go by. Government borrowing, quite
simply, crowds out private lending, raises lending rates and inflation.
The energy demand-supply gap (around 2000MW/day) is increasing
as a consequence of increasing urban migration and
industrialization. If the recent history of the availability of foreign and
donor funds is anything to go by, bank borrowing may be resilient, as
maybe inflation. Thus, new banks that wish to do core banking
business in Bangladesh are likely to encounter very high cost of
funds.
 New banks that wish to profit from trade commissions are likely to
struggle first because of slowing exports and curbed imports.
Commission income from trade has a better longer-term prospect
however, for those that can afford wait out the current external
sector challenges.
 New banks that wish to operate in the SME space may find it difficult
initially to first develop a large enough nation-wide network enabling
deposit growth necessary to justify the cost of loan collection and
recovery as well as the inevitably higher non-performing loan ratios
encountered by SME operations. Few nationwide NGOs have the
sort of geographical penetration that SME-focused businesses

4. Bank Sector Update: Nine New Banks for
Bangladesh
seek, and almost all the existing ones have existing partnerships
with banks. Thus barriers to entry for new banks in the SME space
are high.
However, the three Non-resident Bangladeshis banks that were
approved prior to the recent six, present a more interesting proposition.
Since they aim to focus on inward remittances, a growth sector for
Bangladesh, the Non-resident Bangladeshis banks are worth a closer
look:
 Non-resident Bangladeshis have easier access to Non-resident
Bangladeshis communities and associations, than do local private
banks operating in Bangladesh. Increasingly, local private banks
have realized the importance of growing their representation of
senior officers in migrant labor destinations. As local private banks
develop best practices to grow their remittance operations hitherto
dominated by Islami Bank - Non-resident Bangladeshis banks can
be expected to have a competitive advantage by not having to
prioritize servicing the citizens over the Diaspora. Moreover, there is
empirical evidence to suggest that Non-resident Bangladeshis share
a significantly greater degree of empathy with another Non-resident
Bangladeshis.
 Despite the increasing competition in the remittance operations of
existing banks, at least 40% of money sent back home by
Bangladeshis overseas travels through the hundi channel. This is a
USD 10 billion dollar plus market – the potential market for Non-
resident Bangladeshis Banks.
Our top picks are unaffected near-term (FY2012-FY2014):
Islami Bank: The new Non-resident Bangladeshis banks will take at
least another 1 year to start operations. Moreover, remittance
business is largely dependent on customers’ confidence. As the
entrepreneurs of Non-resident Bangladeshis banks are US and UK-
based, they are expected to capture a very small portion of
remittance income from Middle-East region (~60% of inward
remittance come from ME). Currently, Islami Bank has over 120
international correspondents, mostly in the Middle East, who assist
in channeling inward remittances – this scale is of course not easily
imitable.
Islami’s demand for fresh funds as borne out by 2011 has well-met
on account of the demand inelasticity towards its deposit products,
being the only fully shariah-compliant bank in Bangladesh, in an
otherwise nascent Islamic Bank sector. The new banks are not
expected to have a direct impact on Islami’s deposit collection
FY2012-2014.
Prime Bank: Of course when the new banks are fully operational,
there will be greater competition for deposits, cost of funds of banks
upwards. However, this is expected to take time and is contingent
upon how well-run these new banks are, which is a question mark.
Bangadeshi bank customers demonstrate a considerable degree of
brand loyalty as is evidenced from the high spreads foreign banks
enjoy ~9.3%. In 2011, one-year fixed deposit rates at well-

5. Bank Sector Update: Nine New Banks for
Bangladesh
established banks like Prime reached a peak of 12.5% while several
NBFIs had offered up to 15%. Meanwhile, Prime’s deposits grew
28% in 2011 YoY, which bears out the brand-consciousness of
Bangladeshi bank customers.
Prime’s remittance business is also expected to be largely
unaffected as 57.73% of total remittance originates from the Middle
East and only 17.4% from the UK and the US.
National Bank: National Bank, at present, remits the second-largest
volume among private commercial banks. Moreover, its partnerships
with Western Union Money, ASA (a leading NGO with 3,000 outlets
in 64 districts of Bangladesh), and Social Islami Bank underscores
its potential for penetration in the rural market. National Bank is a
first generation bank (set up in 1983) and is still a leading player
which has ensured a brand loyalty and customer base. In fact, its
pricing power is noteworthy from the 5%-plus IRS every year in 2006
-2011. National Bank’s operations should not be affected
significantly in the near-term horizon by the new banks’ entry.
BRAC Bank: BRAC Bank’s association with the SME loan product
in Bangladesh has allowed it to thrive under challenging liquidity
conditions. BRAC Bank is one of the three in our top picks list –
along with Islami and Prime. BRAC Bank’s SME dominance takes
advantage of BRAC’s (the largest global NGO) penetration, with
regard to loan disbursement and collection. BRAC Bank’s recent
acquisition of Bikash, a mobile-banking service, will further
consolidate its SME dominance using telecommunication
technology. These economies of scale that BRAC Bank enjoys will
be very hard to emulate for new banks.
In sum, it will be a challenge for the new banks to adapt to the ongoing
climate of liquidity constraint and the trick will be to grow by focusing on
non-interest income related operations, such as commission income,
fees income, and perhaps investment income from portfolio investments.
The challenges to growth have been elaborated earlier.
Another objective of this report has been to highlight, challenges of new
banks notwithstanding, the growth opportunities in the Bangladesh Bank
sector. Banking products globally are increasingly commoditized and the
case for other Asian and particularly frontier economies is pretty similar
with regard to the growth prospects of non-core bank operations as
opposed to spread-income based ones.
In Bangladesh, the high mobile phone penetration and NGO penetration
offer existing technologies and distribution networks for banks to employ.
Given the low base of bank penetration, technology-based banking
services that seek more inclusive business models, will fare well in the
intermediate run, and sustainably so. Trade financing is also expected to
be a growth area if the manufacturing outlook that several leading global
advisory firms forecast, materializes. Interest rate spreads should
decrease near-term amid increasing competition and liquidity tightening.
However, spreads in Bangladesh are still higher than in many parts of the
world, underscoring the strength of the banking sector and investment
opportunities therein.

6. Bank Sector Update: Nine New Banks for
Bangladesh
IMPORTANT DISCLOSURES
Analyst Certification: Each research analyst and research associate who authored this document and
whose name appears herein certifies that the recommendations and opinions expressed in the research
report accurately reflect their personal views about any and all of the securities or issuers discussed therein
that are within the coverage universe.
Disclaimer: Estimates and projections herein are our own and are based on assumptions that we believe to
be reasonable. Information presented herein, while obtained from sources we believe to be reliable, is not
guaranteed either as to accuracy or completeness. Neither the information nor any opinion expressed herein
constitutes a solicitation of the purchase or sale of any security. As it acts for public companies from time to
time, BRAC-EPL may have a relationship with the above mentioned company(s). This report is intended for
distribution in only those jurisdictions in which BRAC-EPL is registered and any distribution outside those
jurisdictions is strictly prohibited.
Compensation of Analysts: The compensation of research analysts is intended to reflect the value of the
services they provide to the clients of BRAC-EPL. As with most other employees, the compensation of
research analysts is impacted by the overall profitability of the firm, which may include revenues from
corporate finance activities of the firm's Corporate Finance department. However, Research analysts'
compensation is not directly related to specific corporate finance transaction.
General Risk Factors: BRAC-EPL will conduct a comprehensive risk assessment for each company under
coverage at the time of initiating research coverage and also revisit this assessment when subsequent update
reports are published or material company events occur. Following are some general risks that can impact
future operational and financial performance: (1) Industry fundamentals with respect to customer demand or
product / service pricing could change expected revenues and earnings; (2) Issues relating to major
competitors or market shares or new product expectations could change investor attitudes; (3) Unforeseen
developments with respect to the management, financial condition or accounting policies alter the prospective
valuation; or (4) Interest rates, currency or major segments of the economy could alter investor confidence
and investment prospects.
BRAC EPL Stock Brokerage Capital Markets Group
Sajid Huq Amit Head of Research sajid.huq@bracepl.com 01755 541 254
Parvez Morshed Chowdhury Research Analyst parvez@bracepl.com 01730 357 154
Ali Imam Investment Analyst imam@bracepl.com 01730 357 153
Khandakar Safwan Saad Research Associate safwan@bracepl.com 01730 357 779
Farjad Siddiqui Research Associate farjad.siddiqui@bracepl.com 01730 727 924
Kallol Biswas Research Associate kallol.biswas@bracepl.com 01730 727 930
BRAC EPL Research
www.bracepl.com
121/B Gulshan Avenue
Gulshan-2, Dhaka 1212
Phone: +880 2 881 9421-5
Fax: +880 2 881 9426
E-Mail: research@bracepl.com
Institutional Sales and Trading
Delwar Hussain (Del)
Head of International Trade
& Sales
del.hussain@bracepl.com 01755 541 252