BY BENARD AYIEKO The World Bank recently reported that Kenya’s financial sector is the third largest in sub-Saharan Africa. It makes significant contribution to economic growth and job creation. Therefore, there is need for increased support especially at policy level to realize real development associated with financial sector successes such as greater financial inclusion. The introduction of policy reforms in the sector will enable the country to realize meaningful and inclusive economic growth and development. To underline the importance of the financial sector reforms to an economy especially for developing countries like Kenya, the World Bank Group board of executive directors in May this year approved an International Development Association credit of Sh3.7 billion to support Kenya’s financial sector projects with a sole aim of strengthening the legal, regulatory and institutional environment. The success of this initiative is meant to help the country realize improved financial stability and record increased affordable and long-term financing. This is good news for a promising economy like ours. One of the key issues that this facility is projected to achieve is to facilitate easier access to affordable credit and reduce the cost of finance which economic analysts have identified as a major bottleneck to the growth of entrepreneurship, Small and Medium Enterprises and creation of employment opportunities. World Bank partnership is meant to foster stronger policy framework, better regulatory environment and develop the relevant market infrastructure that is needed to support holistic development, efficiency and the integrity of the financial sector. Happily, the programme under the partnership focuses on banks, insurance and pension schemes. All of who are key players in the financial sector. Kenya’s financial sector is made up of commercial banks, non-bank financial institutions, mortgage companies, foreign exchange bureaus, development finance institutions, pension schemes, insurance companies, private equity firms, Savings and Credit Co-operative Societies (Saccos), among others. It is against this backdrop that the recent developments in the banking sector caught the eyes of many financial experts – the assenting in to law of the Banking (Amendment) Bill 2015 by the President. Though popular among Kenyans, the move was heavily opposed. While signing the Bill into law, the President acknowledged that Kenyans had been “disappointed and frustrated” with lack of sensitivity by banks, which levied huge interest rates. Borrowers will henceforth be able to access credit from commercial banks at a maximum interest rate of 14%. To make the news sweeter for borrowers, some banks had gone ahead to implement the interest rate caps law using the Kenya Banks Reference Rate (KBRR) as opposed to the CBR. With the current KBRR standing at 8.9%, the move to use KBRR brought smiles on the faces of borrowers as it meant that the effective lending rate would be 12.9% and interest earning rate on deposits would be 6.23% for local currency earning customer deposits. This is the initial confusion that hit the market when the law began to be operationalised. However, the Central Bank of Kenya (CBK) as the banking sector’s regulator and the ultimate overseer of the financial sector activities came out to clear the air by issuing instructions that commercial banks should use the CBR and not KBRR as the base rate to price loans. This has brought to the fore one key fundamental question on how Saccos should re-position themselves in the wake of the new law capping interest rates. Hitherto, Saccos have enjoyed huge interest rate disparity between what they charge and what banks have been charging borrowers for far too long. At some point last year, when some commercial banks were charging interests between 25% to 30% on unsecured personal loans – excluding other fees and charges such as administration, processing, valuation, legal and commitment fees, among others; Saccos were lending to their members at an affordable rate of 12% for normal loans. That time, the difference in lending rates for the banks and Saccos was between 13% and 18%. As the new regime of interest rate caps sets in, that gap has narrowed completely to 2%. On interest rates applicable on deposits, the industry average was around 5% for commercial banks and 9% for Saccos, the difference between the two being 4%. On sector average, the spread in the lending and deposit rates between banks and Saccos was 20% and 3% respectively. Again, with the advent of the new interest rates caps, the deposit rate between banks and Saccos has reduced significantly. Though pegged on individual Sacco performance, if Saccos average deposit rate charged on members deposits remains at 9% while banks’ deposit rate in the new interest regime holds at 7.35%, then this points to a differential of 1.65%. Saccos have no option but to re-invent the wheel in order to remain competitive and relevant in the new interest rates dispensation. A transformational strategy is all that Saccos need. They must undergo a serious rebirth – one that if it doesn’t put them at par with commercial banks, it should at the very least make them competitive based on the new realities that are unfolding in the financial sector. If the implementation of the new law takes-off hitchlessly, then banks could pull a significant market share from both real and perceived Saccos clientele. This is why analysts are calling on Saccos to stamp their authority in the market by way of developing a well-crafted reincarnation business growth strategy – one that will emphasize on the important role that Kenya’s Sacco movement play not just in the local financial scene but also in the region, continent and globally. It should be recalled that Kenya’s Sacco sub-sector is the largest in Africa serving an estimated 50% of the total population either directly or indirectly. Of the total number of registered co-operative societies, over 50% are Saccos whose core business is to mobilize members’ savings and advance them affordable loans. The principle being that a member can only borrow three times his/her savings at 1% interest per month. This is the reason why Saccos must be the next point of focus as the new interest rate caps regime takes shape. No policy maker will ignore a financial sub-sector that has nearly 20 million co-operators representing an estimated three quarters of the total population that directly or indirectly depends on the activities of Saccos to earn a living and a key source of employment for youths and women. Worth noting is the fact that Kenya’s Sacco sub-sector is the largest in Africa, accounting for slightly over 62%, 65% and 63% of the continent’s savings, loan and assets respectively. Therefore, to remain competitive, Saccos must wake up to the reality that the issue of restrictive membership to a common bond is old-fashioned and out of touch with our dynamic financial sector. They have to broaden their membership so that they can grow their respective share capital to have the financial muscle to meet their customers demand for affordable credit. To ensure they don’t lose clients to banks in search of quick loans, Saccos need to abolish the use of guarantors for members seeking loans who more often than not breach financial confidentiality of the loanees or in some cases refuse to guarantee their friends and colleagues. Even though guarantorship is meant to cushion Saccos against non-performing loans and to enhance recovery of money from defaulters, the emphasis on guarantorship as the collateral to loans is estimated to cost Saccos a significant revenue loss. Such potential loanees will instead opt out of borrowing from Saccos in preference for slightly high-priced loans from banks because banks will meet their needs faster and without third party involvement (by guarantors). The net effect being that it will eat into Saccos’ bottom lines. Another way of ensuring that Saccos hold onto a significant market share in the financial sector is the need to invest in robust marketing drives. Until recently, most Saccos gave their marketing departments a wide berth and instead considered such departments to be a cost centre as opposed to being the real engine for driving their growth strategy. In a competitive business environment, no sales can be realized without proper marketing. It is through marketing that Saccos will be able to recruit more members, retain those that they have and position their brands and products competitively to the general public and within the industry. Unlike commercial banks, Saccos growth hinges on two factors; membership and loan growth. It is only through aggressive marketing that there can be a turnaround on the membership numbers and uptake of loans. Saccos’ greatest income earning assets are loans. The more you recruit members, the higher the probability that they will take up loans hence create interest income for the Sacco which leads to growth in profits which are then distributed to members inform of dividends on their shares and interest on their savings at the end of the financial year. Another window that Saccos could utilize to remain competitive is by ensuring that they tap into the diaspora market, which is too huge to ignore. A report by Central Bank early this year showed that Kenyans working abroad sent home Sh13.8 billion in January alone, a slight increase from the Sh13.5 billion that was sent in December. A diaspora strategy that offers Kenyans an opportunity to save and invest by Saccos will definitely tap into such remittances that could raise their capital, deposits and revenues. The impact on Saccos net earnings will be positive. There is also an urgent need for cheaper sources of funds for Saccos. Creation of a pool of funds where Saccos can borrow at a lower rate so that they can lend onwards to their members at lower interest rates preferably below 12% will attract the eyes of both existing and potential members. Luckily, there is talk that the Ministry of Industrialization and Enterprise Development is, in collaboration with Saccos, in the process of putting in place mechanisms to establish a share trading platform for Cooperatives, with a view to providing a window to raise the necessary capital and mechanisms to realize the true value of the Cooperative shareholding. This will help in solving the problem of low capital base that limits expansion and innovation for Saccos. In the end, it will create unlimited sources of affordable credit to finance various members’ programmes that remain a great hindrance to their growth and competitiveness in the financial sector. There has also been concerns about Saccos monthly repayment deposits that are comparatively higher than those of banks for a similar loan amount owing to the fact that Saccos loans attract shorter repayment periods than banks. This affects members’ disposable income and individual cash flows adversely. To catch the eyes of borrowers, Saccos should match or even exceed the banks repayment periods by offering flexible repayment terms. The new directive by Central Bank warning commercial banks against introducing new or increasing existing transaction fees without its approval provides a window for Saccos to come out aggressively to position their product offerings as being transparent and attractive to them since they don’t attract extra or hidden charges. Additionally, they need to inform the public that their interest rates are not subject to any form of fluctuations as is the case with banks since the Central Bank Rate is a preserve of the Monetary Policy Committee – the CBR could rise depending on the prevailing monetary and fiscal conditions and return lending rates to a higher level that is detrimental to borrowers. The message to Saccos members should be crystal clear that there is no processing fees, no ledger fees, among others. This will restore members’ confidence in borrowing from Saccos. The lowering of interest rates by banks due to the new law is partly a blessing for Saccos since they will be able to borrow money from banks at lower lending rates and lend them to their members at a lower rates too especially for their premium products such as special loans, home loans, land loans, merchandise loans among others. The net effect is that most members will take fresh loans or top-up existing ones which ensure that Saccos will leverage on increased loan volumes to earn more income hence boost their net earnings. To achieve this, Saccos will have to re-adjust the terms of existing premium loans to make them more attractive to their members. By lending to members at a lower interest rate, Saccos will be able to create more affordable credit for their members and eventually mitigate on what would otherwise have caused haemorrhage on their revenue stream. The kind of competition that awaits Saccos as the implementation of the new interest rate caps takes effect is one that will put the management of Saccos on toes. Unless urgent, precautionary and solid measures are put in place, the effect of this law to the Sacco sub-sector will be akin to what happens when “disruptors” factors come into an industry. The degree of ‘disruption’ could vary depending on the cluster of Saccos – the Deposit Taking and Non-Deposit Taking, commonly referred to as Front Office Services Activity (FOSA) and Back Office Services Activity (BOSA) respectively. My prediction is that we are likely to see changes in regulations from the Ministry of Industrialization and Enterprise Development which regulates BOSA through the department of cooperatives and Sacco Regulatory Authority (SASRA) which regulates FOSA. The regulators key area of concern will be how to evaluate Saccos lending rates to keep them competitive, adjust minimum capital requirements, compliance, affordable sources of funds, governance, modern technology, financial reporting requirements, core business and diversification to guard against potential revenue leakages, product development, among others. The regulators’ supervisory actions will guarantee stability and inspire confidence in the Saccos industry but the onus of remaining competitive and relevant in the prevailing financial environment remains the sole responsibility of Saccos. A well-thought out industrial strategy will make the capping of interest rates mince meat to Saccos. Any reactions to the contrary will be like changing a punctured wheel on a moving car.