Banks in Kyrgyzstan face numerous challenges beyond the accessibility problems caused by the country's mountainous terrain. A distrust of conventional banking and strong position of microfinance institutions means the central Asian state is under-penetrated by conventional lenders, a situation that is slowly but surely starting to change.

With 24 banks and 289 branches, the formal banking sector in Kyrgyzstan only reaches a small fraction of the country’s 5.72 million population. According to a World Bank report, a mere 4% of adults had a bank account in 2012, and the figure is unlikely to have risen dramatically in the past two years.

However, Kyrgyzstan's 600 or so microfinance institutions (MFIs) are more spread out geographically and are active competitors in the country's loan markets. In 2010, MFIs had a total loan portfolio of Kgs9.9bn ($211m), according to the Association of Micro Finance Institutions in Kyrgyzstan.

Changing streams

Despite this seeming advantage of MFI-style lending, Bai Tushum & Partners, founded in 2000, has transformed itself into a bank – in anticipation of new business opportunities.

What started as a non-governmental organisation (NGO) offering loans to rural agricultural clients in Kyrgyzstan – the country is heavily reliant on its agricultural output – grew into a microcredit institution. With changes made to the governance of the business and an expansion in the branch network, Bai Tushum also moved its headquarters to the capital city of Kyrgyzstan, Bishkek.

“[By] 2011... Bai Tushum had become a very diversified lender focused on the micro, small, and medium-sized enterprises in Kyrgyzstan,” says Zina Sanyoura, a board member at Bai Tushum as well as a senior investment manager at global private equity firm Bamboo Finance. “As its clients’ businesses developed, they started to request other types of banking services, such as bank accounts, savings products, clearing services, payment services, etc – services that Bai Tushum was not able to offer. In order to continue serving the needs of its clients, offering a holistic suite of financial services, Bai Tushum needed to transform into a regulated bank.”

In a two-step process, Bai Tushum moved from being a pure credit provider to taking deposits from 2011. The full banking licence was obtained in 2012, which also allows Bai Tushum to provide payment and foreign exchange services.

Loan importance

Bai Tushum ended 2013 with Kgs6.835bn in assets, the seventh highest in the country, a loan portfolio of $91m, net profits of Kgs11m and a deposit base four times higher than it was in 2012. But its profitability was still largely connected to its loan portfolio, according to Ms Sanyoura.

“Once the institution settled into the transformation process, the operating culture gradually changed from a credit-only institution into a comprehensive financial services provider,” she says. “Management brought in banking expertise that complemented the existing skill set, while the sales team was trained. This effort is now starting to bear fruit, as the sources of revenues are diversifying away from the credit operations to other services being provided to [Bai Tushum's] growing client base.”

Meanwhile, other microfinance institutions are considering transforming themselves into a bank. Finca, a microfinance business with operations in Kyrgyzstan since 1995, as well as in 21 other countries, has also applied for a banking licence, according to Ms Sanyoura.

Still, it is not expected that all microfinance providers can and will transform into banks. The majority of the 600 or so MFIs fall into categories of NGO-financed funds, pawn shops and other credit companies, and are therefore likely to continue to serve in their limited niche markets. 

Largest banks in Kyrgyzstan by assets

Profitable banking

The business of banking in the Kyrgyzstan is a profitable one. In 2013, the average return on equity across the country’s 24 banks was 18%, according to data from the National Bank of the Kyrgyz Republic (NBKR). Kyrgyz Investment and Credit Bank, one of the country’s largest banks, with some $300m in assets, boasts a return on equity of about 18.5%.

“With a total of $2.15bn of assets in the banking sector, the market remains relatively small,” says Kwang-Yong Choi, CEO at Bishkek-based KICB. “We are the most well-capitalised bank in the country with a capital size of more than $50m. But the sector is very dynamic and regulations are supportive of the banking sector’s growth.”

Kyrgyzstan has liberal bank legislation, including a relatively uncomplicated procedure for obtaining a banking licence, which also applies to international banks.

UniCredit’s subsidiary, Optima Bank, along with KICB and Demir Kyrgyz International Bank, represent about 40% of the banking sector’s $2.15bn of assets (as of the end of 2013), and are all majority foreign-owned banks. However, the three banks together only operate 36 branches across the country, according to data from the NBKR.

Mountains to climb

Kyrgyzstan’s landscape is dominated by mountains, which make up about 94% of its land. This means that there is only limited road access across Kyrgyzstan’s about 200,000 square kilometres, and goes a long way to explaining the low number of available bank branches.

“The countrywide presence of the banks is still limited,” says Mr Choi. “The banks don’t have enough resources to be able to make a business case for expansion because an appropriate return on investment is uncertain.”

For these reasons, banks are often, at least initially, focused on corporate banking. Kyrgyzstan, bordering China, Kazakhstan, Tajikistan and Uzbekistan, is a country dominated by agriculture and trade with Kazakhstan and China.

“Clients are primarily corporate customers, who have deposits, but this is mainly flow money, so you can only utilise some of the deposits for credit activities because of the short maturities,” says Mr Choi, who adds that there still is room for expansion, especially in the retail space. “But the issue is purchasing power and disposable income is still low, with the nominal gross domestic product only about $7.2bn, which makes taking deposits from the market quite challenging.”

A question of trust

Apart from the low income base, retail clients are also a tough target because of the country’s history of banking crises and upheavals, which has led to an atmosphere of distrust in the banking sector.

“After the collapse of the Soviet Union, many people lost everything they kept in the banks and they now keep as much as possible in their pockets,” says Camille Huret, senior investments officer at asset management company ResponsAbility. “The bankruptcy of Asia Universal Bank did not help either.”

In 2010, the then largest bank in Kyrgyzstan, Asia Universal Bank, was nationalised, declared insolvent and restructured, and several other banks and businesses had supervisory action taken against them.

Across the Kyrgyz population, savings are often reinvested into immovable assets such as stock, cattle and other farming goods, or even kept in cash, Ms Sanyoura says. But with regulatory efforts to develop the banking sector encouraging individuals to engage more, she expects to see an uptick in financial penetration levels.

“The market for deposits is very competitive,” she says. “We try not to go into a price war and so far this has not been a practice in the market because it would create a lose/lose situation for everybody.”

While there is no price war, the banking environment is competitive. Optima Bank advertises a '+1%' campaign to lure deposits of individuals to its institution. The extra 1% of interest is offered to clients and new customers looking to open a deposit facility with the bank.

To cover a wider area, Optima Bank has also introduced unmanned devices for automated bill payments, so-called 'payment terminals', which allow users to pay through national payment cards as well as international Visa cards.

“This innovation in the payment sector has certainly brought important benefits to users in the form of low commissions and efficient and easily accessible services, even in remote areas,” says Beibut Kapyshev, chairman of the board at Optima Bank. “We are planning to increase the number of terminals, especially in regional cities, by the end of the year.”

A wider reach

Still, the reach of the traditional banking sector remains restricted. “Having a bank account is not very convenient if it takes you five hours to get to a branch [should there be no provision for] mobile banking,” says Ms Huret at ResponsAbility. “One of the main advantages for microfinance is that they have a wide branch network with offices in the entire country, and reach out into even very remote villages.”

However, the microfinancing sector has also attracted opposition against its business model. From 2012, lobbying against the sector and the high interest rates charged by some MFIs was on the increase, according to Ms Huret, and this was followed by the introduction of a series of laws.

One of the most significant was the law on limitation of usury activities, which applies to the whole financial sector. The law, introduced in September 2013, effectively sets a cap on the interest rates financial institutions can charge on loans. The cap is calculated by the NBKR on the basis of the weighted average nominal interest rate of loans provided by financial institutions plus 15%. But, according to the law, the cap is only intended to provide guidance.

Still, the NBKR followed this up with recommendations to the sector to decrease interest rates. “But to go a bit further, the NBKR suspended one of the big [MFI] players for two months because it hadn’t decreased its interest rates in the way the NBKR had told it to,” says Ms Huret. “According to the law, the institution didn’t have to decrease interest rates. This case made a lot of noise in the sector but in the end, interest rates kept decreasing.”

Such an interest rate cap can put pressure on the profitability of the financial sector as a whole, but especially on microfinance businesses. The 15% leeway, as added into the calculation of the cap, aims to consider the additional operational cost it represents to serve clients of the microfinance sector compared with large corporates, according to Ms Huret.

“The cap, however, is established regardless of the currency in which the loans are issued and, over the past two years, the cost of funding in dollars was on average 800 basis points to 1500 basis points below the cost of funding in som,” she says. “Microcredit companies are not allowed to issue their loans in dollars, so they have to borrow in som or hedge themselves against the currency risk.”

MFIs are already disadvantaged by relying only on the lending business, and by significantly higher borrowing costs compared with the banking sector. This makes the outlook for the microfinance sector less rosy than it was only a year ago.

While not all MFIs have the scope to transform into fully fledged banks, the advantages the banking licence entails for Bai Tushum are striking. It would therefore not be surprising to see attempts by other larger players in Kyrgyzstan's microfinancing market to move in the same direction.


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