How investors can value KCB stock post-National Bank deal

There is no doubt KCB now firmly controls National Bank of Kenya (NBK) as a subsidiary business. The final touch to this transaction was the listing of additional 143 million KCB Group shares, on October 4, 2019, at the Nairobi Securities Exchange, being the new shares that KCB offered to NBK shareholders in exchange for control.

That leaves some 42 million shares that will now be compulsorily squeezed out. But as the dust settles, the focus now shifts on what’s next. As I said before, this transaction is a pure liability game for KCB; and here’s how it plays out.

KCB and NBK combined create the largest tax collection platform with the ability to scale collections up to Sh300 billion, surpassing Citibank and Standard Chartered, the current leaders in collections. Total collections between the two banks was just shy of Sh230 billion last year. With such a quantum, the floating component of collections becomes even more sticky.

Usually, banks have an arrangement where they sweep collections to the Kenya Revenue Authority accounts on a T+2 basis (after every two days). The thing with sweeping is that, as the sweeping door revolves, there will always be some ‘unswept’ money (or float) hanging around due to the lag. This unswept component is huge a bonus, and often can be invested in other assets to generate returns and also does provide liquidity support in tough times.

Further, KCB onboards some Sh60 billion of government and parastatal (public sector) deposits. But make no mistake. KCB already had huge public sector deposit book (standing at Sh174 billion in 2018).

This acquisition now concretises its public sector franchise, that also turns the bank into a preferred resolution vehicle. Essentially, this transaction eliminates the ‘government discount’ that the stock market has typically assigned the KCB stock. The question of what’s next largely speaks to utilisation, and I see two potential strategies.

First, with a strong public sector franchise, KCB is now positioned to be the biggest beneficiary of any move (especially by Parliament) to domicile all public sector related (government ministries, departments and agencies) project funds in a State-owned financial institution.

All indications point to such moves bearing fruit soon. From a valuation standpoint, I am adjusting upwards, on this basis alone, the liquidity premium embedded in the bank’s balance sheet.

Second, upon fully integrating NBK’s operations, KCB will be presented with the chance of not returning the NBK licence and can instead use it to escalate its digital proposition by opening a deposit-funded full digital shop.

With over 17 million customers, the cost of conventional client maintenance can cut an income statement into ribbons. And indeed, the conventional brick-and-mortar distribution is no longer a proposition. Digital delivery becomes the distribution norm rather than the exception.

Of course the issue of NBK’s loan book quality (and the potential to weaken KCB’s balance sheet) doesn’t escape anybody’s attention. However, the issue, in my view, is overplayed and it should not be a valuation issue, for the simple reason that loan non-performance is now system-wide.

That notwithstanding, the elimination of government discount as well as utilisation of NBK assets should now count towards the valuation of KCB stock.