Regulation: Philippines remains a tough nut to crack

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The country’s banking industry is growing fast. New laws designed to encourage foreign investment make it easier for offshore firms to wholly purchase local lenders. But there are plenty of barriers to entry aside from regulation.

by Richard Morrow

Benigno Aquino III_R-600
Philippine president Benigno Aquino III

The image of foreign banks may be taking a pounding across many parts of the world, but in at least one Asian country they continue to get the red carpet treatment: the Philippines. 

The country’s government is eager to see more foreign banks onshore. This desire was underscored on July 15 last year when president Benigno Aquino III signed Republic Act No. 10641, 'An act allowing the full entry of foreign banks in the Philippines’. 

The rule does exactly as described, permitting non-Philippine banks to wholly acquire local lenders, establish fully owned banking subsidiaries in the country and set up branches with full banking authority. It also lets foreign banks hold up to 40% of the overall assets in the banking sector. 

Previously foreign institutions had been limited to a 60% maximum ownership in the voting equity of local banks or their subsidiaries. 

The rationale behind the new bank law is simple: it was designed to entice foreign banks in to help stimulate the Philippines’ rather meagre levels of foreign investment and help develop its adolescent bank industry. 

Philippine banks have had success recently in selling stakes to overseas investors. On September 30 the insurance division of Taiwanese financial group Cathay Financial agreed to buy a 20% stake in Rizal Commercial Banking Corp. (RCBC), the Philippines’ ninth-largest lender by assets, at P17.9 billion ($400 million). Then on December 23 Malaysia’s sovereign wealth fund, Khazanah Nasional, bought a 2% stake in BDO Unibank from majority owner SM Investments for an undisclosed sum.

These sales followed the earlier decision by Singaporean bank leader DBS to sell its remaining 9.9% stake in Bank of the Philippine Islands (BPI) in December 2013. It sold 5.6% to GIC, Singapore’s sovereign investment company, and 4.3% to Ayala, the Philippines conglomerate that is now the biggest shareholder in BPI. 

Judging by their acquisitions in Thailand and Indonesia, [the Japanese] appear most interested in control. And they like big banks. They don’t have a lot of patience to build small banks
A head of Philippines investment banking

Standard Chartered is reported to be weighing up the sale of its Philippines unit. The bank declined to comment on the story, but if true it is an indication of its lingering financial vulnerability and need to refocus its strategy. 

There are many reasons foreign banks might be attracted to the Philippines. Loan growth is high, penetration low – particularly outside metro Manila – and banks are very well capitalised at Basel III standards, with low levels of non-performing loans. 

But the potential withdrawal of StanChart from the Philippines points to a fundamental weakness of the country’s banking sector: fragmentation. 

The country’s top 10, family-controlled banks dominate this pocket-sized industry, with roughly two thirds of its assets. A set of smaller banks sits below them, while hundreds of tiny rural and trade banks dot the rest of the country outside Manila. 

This combination of factors makes the country’s banking sector, appealing as it is, a tough nut for foreign players to crack. 

Vigorous and robust

There are plenty of good reasons for foreign banks to gain entry into the Philippines. 

The country’s economy is vigorous and robust, growing by 6.1% in 2014 and 7.2% the previous year. JPMorgan believes it will expand 6.4% this year. Meanwhile Moody’s raised the sovereign’s foreign currency debt rating to Baa2 in December, and Standard & Poor’s assigned a triple-B rating last May. 

This has helped drive foreign direct investment – admittedly from miniscule levels. Bangko Sentral ng Pilipinas (BSP), the country’s central bank, says FDI grew by 64% to reach $5.32 billion for the first 10 months of 2014. In a report it boasted that "the increase in net FDI inflows during the period was buoyed by favourable investor outlook on the Philippine economy on the back of sound macroeconomic fundamentals". 

The investment primarily went into the financial and insurance, manufacturing, real estate, wholesale and retail trade, and transportation and storage sectors. There is tremendous growth potential too. Maybank ATR Kim Eng Securities, a southeast Asia brokerage, noted in a January 29 report that only 27% of Filipinos have a bank account.

The Philippines’ banking sector has thrived during this period. The BSP says lending by universal and commercial banks in December grew by 16.8% to P4.41 trillion, on top of 20.1% growth in November. 

That has observers excited. Moody’s analyst Alka Anbarasu notes the Philippines’ banking sector is the only system among 70 covered by the ratings agency in the region that has a positive outlook. "It’s an outlier among banking systems, which largely reflects its growth and our expectations for more improvements in the country’s [macroeconomic] fundamentals," she says.