Sri Lanka’s banking sector could create more private equity investment opportunities in the near-term as Basel III related requirements begin to take full effect, according to a report from CT CLSA Securities, the broker and deal partner in Sri Lanka of capital markets investment group CLSA.
The report noted that the Basel III norms with regard to the liquidity coverage ratio, net stable funding ratio and leverage will force local banks to raise capital from investors in order to meet regulatory requirements. Sri Lanka issued the new local capital requirements in late 2016. These take full effect at the start of 2019.
“If the markets are not ready to go with rights issuance, some banks such as the Union Bank of Colombo and Cargills Bank are set to go with private equity placement,” said Sanjeewa Fernando, a strategist at CT CLSA Securities in Colombo.”
Basel III is an internationally agreed set of measures developed by the Basel Committee on Banking Supervision in response to the financial crisis of 2007-09, aimed at strengthening the regulation, supervision and risk management of banks.
Sri Lanka’s banking sector has maintained capital ratios above the stipulated minimum level under Basel III, indicating improved risk absorption capacity of the sector, according to the report titled Banking on Fundamentals. By end 2020, the capital of licenced commercial banks is expected to improve further with better earnings and fresh capital by way of private equity injections or listings, the report added.
Lower valuations are another attractive entry point for private equity investors.
According to the report, Sri Lankan licenced commercial banks offer much attractive value propositions, with low valuations coupled with high expected returns, as compared to its regional peers. For example, Sri Lankan banks’ price-to-earnings ratio as at 8 August 2018 are showing a 5.6x multiple, compared with 16.7x in India, 11.3x in Bangladesh, and 12.4x in Pakistan.
Meanwhile, private companies in Sri Lanka are showing earnings growth of up to 40 percent, effectively funding themselves through their earnings, instead of needing capital injection from private equity, Fernando added.
Chetan Gupta, managing director of Samena Capital, a Dubai-based investment firm focused on the subcontinent, Asia, Middle East and North Africa, agreed that the banking sector is an attractive sector in a growing economy like Sri Lanka.
He explained, however, that Samena has chosen to focus on the consumer sector because it gives the firm a more diversified play into the country via various channels into Sri Lankan consumers.
Samena invested about $35 million in the consumer-focused conglomerate Softlogic Holdings in January 2018. “SoftLogic is the largest healthcare, largest retail and the fastest growing insurance business in the country, and we like that we have exposure to multiple legs of the consumer market. We are favourable and positive towards the country, we like the underlying consumer space. However, we want to mitigate our risk and have the ability to deploy incremental capital across different sectors.”
Most private equity deals in the country are focused on Sri Lanka’s growth story, with investments mainly in healthcare, education, hospitality, export sectors, as well as infrastructure. Private equity deals in the country include TPG Growth’s acquisition of a 28 percent stake in Asiri Hospital Holdings from Actis in 2015 as well as TPG’s $113 million majority stake in the Union Bank of Colombo in 2014, the country’s biggest buyout deal to date.
However, even then, private equity investing in the country remains a slow and steady pursuit, Gupta noted.
“You’ve got to have a medium-term view and a near-term view. Sri Lanka will not demand you to do five transactions a year, it just hasn’t happened yet. But what you want to find is a partner who can provide you with multiple avenues of scaling up the investment.”