Clare Nuttall in Almaty -
Official data on non-performing loans is only the tip of the iceberg and drastic action is needed to stop the mountains of debt from dragging Kazakhstan's economy into a lengthy recession, warns KazInvestBank's chief executive, Adnan Ally Agha.
KazInvestBank is an unusual proposition in Kazakhstan. A local start-up focused on the corporate sector, it has an international management team and is backed by the European Bank for Reconstruction and Development, and Citigroup Venture Capital International; together the two institutions hold 45% of the bank. It is also unusual in having steered clear of the cheap debt bonanza that left many Kazakh banks struggling with heavy repayments. Ally Agha is emphatic on the subject of cheap foreign debt, which he says was the driving force behind the country's growth in the middle of this decade, and is now its greatest failing. "Too much money was being thrown at a country that was not ready to invest this much capital into productive resources, so a lot of it was invested into real estate and unproductive resources. This is what happens when there is a lot of money sloshing about in the system," Ally Agha tells bne, pointing out that a similar situation emerged in both Spain and Dubai.
In Kazakhstan, banking sector assets grew from $5bn to $100bn in just five years. "The banks, the individuals and the corporates all took leverage on like there was no tomorrow. I knew guys in their early 30s, some of whom didn't have a job or any business experience, but had $20m lines of credit to buy real estate. This is one of the most highly leveraged economic systems in the world."
KazInvestBank largely avoided real estate, although it has had to write off a handful of loans in the sector. Ally Agha recalls three years ago when real estate prices were increasing by 10% a month. "I wouldn't say we anticipated such a global and widespread crisis, but we certainly anticipated something happening when we saw real estate prices in Almaty surpass the EU and approach London levels," he says.
During the boom years, a significant part of lending activity was related to cheap financing for risky and highly leveraged start-ups. According to Ally Agha, using classical western definitions of non-performing loans (NPLs), the number is above 50%, although this doesn't imply that losses will be that high, it's simply the base indicator. "People in the real sector, who had businesses with cash flow, would borrow for real estate investments or to fund a start-up using their core business as collateral. Today, we see companies with production, sales and a good brand, but their turnover is $50m a year and their debt is $200m, because they used their balance sheets to do this funny business," says Ally Agha. "The banks are now trying to push all this debt from the non-performing segments of the market onto the real sector. You wouldn't believe the pressure being put on these companies."
KazInvestBank started out targeting the top companies in the real sectors of the economy, often going head to head with international banks like HSBC and Citigroup. In fact, many of the management team, Ally Agha included, are ex-Citi. Initially, it was a struggle, but "after the crisis started, our strategy became very successful because we had liquidity and the big boys didn't," he says. "We started being able to get through the cracks, wherever they were."
The bank has always been positioned to be available for sale to a major western strategic investor and has had two close calls already. "The sad part is, I think we lost both opportunities because those investors didn't know then what they know now about the banking system," says Ally Agha. "I think we will be acquired within the next two years. We have a very strong management platform and we are still small enough that if we did have some problems with our asset portfolio, it wouldn't be material in money terms. However, an acquisition would depend on how investors view Kazakhstan's real economy and banking sector."
An investment would put KazInvestBank in a position to ramp up in the local market. At present, the bank is expanding on a small scale, focusing on places like Atyrau where it is seeking to pick up business with oil and gas and service companies. By contrast, HSBC has the firepower to expand much more aggressively. "We could do the same as HSBC if we had the right strategic partner," says Ally Agha. "At KazInvestBank we don't quite have the appetite or capital to take on our competitors on a serious way, although we are taking them on in a niche, value-added way."
But while things are going relatively well at KazInvestBank at present, the bank is small enough that if problems persist in Kazakhstan, it will be dragged down with the rest of the economy. This comes back to the problem of debt. Ally Agha believes that the impact of the anti-crisis measures has been minimal. Their effects have been limited by the lack of lending capacity and flexibility of the banking system, which is very important for regaining economic momentum. Far from turning a corner, the economy is in gradual freefall. "It's like a progressive disease. If you don't treat the disease, it doesn't sit still. All we have done so far is give a lot of painkillers," he says.
Ally Agha says the solution is easy enough - say goodbye to the international investors. "The cash this frees up can then be injected into the economy in the form of haircuts on debt for companies in the productive part of the economy - the real sector - taking an equity position in exchange and putting in professional financial management," he explains. "There is only one problem: banks have to create sufficient provisions to recognize the scale of non performing loans before western investors will accept significant haircuts. People have been talking about this, but it's a very macro-decision and would have to come from the government rather than the regulator. Without this action, the economy will stagnate." Only then, he says, will it make sense to start rebuilding the banking sector, and introducing stricter regulation.
Looking ahead, Ally Agha sees two courses Kazakhstan's economy could take, depending on how the debt crisis is tackled. Under the optimistic scenario, the government would fix the debt problem, and put the economy on a steady footing with new concepts of corporate governance and management. When this is combined with revenues from Kashagan and other projects, Kazakhstan will be in a fantastic position, he says. The more pessimistic scenario is that the problem would be solved only partially. "In three years time, the government will be receiving money from Kashagan, making subsidies and building infrastructure, but diversification of the economy will be negligible," he warns. "Kazakhstan is two countries - the natural resources sector and the real sector - and it will always be two countries. The question is, how far you can close the gap between them."
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