MEEZAN BANK LIMITED – Analysis of Financial Statements Financial Year 2003 – Financial Year 2010

Meezan Bank Limited (MEBL) is a publicly listed company, first incorporated on January 27, 1997. It is the pioneer of Islamic banking in Pakistan and started its operations from March 2002.

It started operations as an investment bank in August of the same year. In January 2002, in an historic initiative, Meezan Bank was granted the nation’s first full-fledged commercial banking licence dedicated to Islamic Banking, by the State Bank of Pakistan.

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COMPANY SNAPSHOT
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Name of company Meezan Bank Limited
Nature of Business Banking
Ticker MEBL
Profit After Taxation FY ’10 Rs 1,649,588,000
Profit After Taxation FY’09 Rs 1,595,465,000
Share price (avg. over Jan’10-Dec’10) Rs 15.73 per share
Market Capitalization as on 31st December 2011 Rs 10,983,551,150
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The banking sector is showing a significant paradigm shift away from traditional means of business, and is catering to an increasingly astute and demanding financial consumer who is also becoming keenly aware of Islamic Banking.

This Islamic banking industry has surpassed growth rates of conventional banks. Rapid growth of the industry has been accompanied by good financial performance and specific industry niche. The capital to risk-weighted ratio has remained above the 8 percent required level, and NPLs ratios have been considerably low, that places the Bank at the top of the industry.

In FY10 JCR-VIS upgraded the credit rating of the bank. The long-term entity rating of A+ was upgraded to AA- with stable outlook, while the short-term rating was maintained at A1.

The bank’s main shareholders are leading local and international financial institutions, including ‘Pak-Kuwait Investment Company’, the only AAA rated financial entity in the country, the ‘Islamic Development Bank of Jeddah’, and the renowned ‘Shamil Bank of Bahrain’. The bank has an internationally renowned, very high caliber and pro-active Shariah Supervisory Board presided over by former Justice Maulana Muhammad Taqi Usmani.

Meezan Bank is the largest Islamic Bank operating in Pakistan with a network of 222 branches in 63 cities, up 10% from the number of branches in 2009. The bank offers a complete range of Islamic products and services including car leasing and home mortgages.

The bank’s retail banking network is supported by 24/7 banking services – these include 169 ATMs, Internet Banking and a 24-hour Call Center. Among the products launched during this year were Meezan Business Plus, a Mudaraba-based account that offers an array of free services for businesses, Meezan Euro Savings Account and Meezan Pound Savings Account.

Meezan Bank was awarded the Best Islamic Bank of Pakistan for the fifth consecutive year in 2010 by the Islamic Finance News and the Best Islamic Financial Institution in Pakistan in 2010 by Global Finance.

In Pakistan Islamic banking emerged as a response to both religious and economic needs. Efforts for economy wide elimination of Riba started during 1970s and most of the significant and practical steps were taken in 1980s. The mid-80s attempt was a significant step in the evolution of Islamic banking system in the country. In a technical sense it was the most advanced model compared to any other model being practiced anywhere in the world at that time. However, that system fell apart as it did not adequately address issues such as putting in place an effective Shariah compliance mechanism, giving emphasis to capacity building, and opting for a flexible and evolutionary approach.

The initiative to reintroduce Islamic Banking in Pakistan was launched back in 2001 when the government decided to promote Islamic banking in a gradual manner and as a parallel and compatible system that is in line with best international practices. Following the decision of the government to shift to interest free economy in a phased manner without causing any disruptions the effort was envisaged to be based on a market driven and flexible approach. The Islamic Financial Services segment is an increasingly important constituent of the financial sector in Pakistan and has grown in size and diversity in just a few years. The participants of the Islamic Banking Industry are all strong players with a sound capital base, compliant with SBP’s MCR requirements uniformly applied to both conventional and Islamic Banks, which restricts entry into the sector without the requisite sound financials.

The figures below (‘Names of Banks’: courtesy SBP Islamic Banking Bulletin, December 2010; Figure 1.2, 1.4, 2.1.1., 2.2.1., and 3.2.1: courtesy SBP Quarterly Performance Review of the Banking System, December 2010) show the major market players in the Islamic banking industry and their penetration into the market in terms of the number of branches.

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Type Name of Bank No of
Branches 3
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Islamic Banks
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Al Baraka Islamic Bank 81
Banklslami Pakistan Ltd 70
Dawood Islamic Bank Ltd 42
Dubai Islamic Bank Pakistan Ltd 51
Meezan Bank Ltd 223
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Islamic Branches of Conventional Banks
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Askari Bank Ltd 29
Bank Al Habib Ltd 8
Bank Alfalah Ltd 80
Faysal Bank Ltd 10
Habib Bank Ltd 19
Habib Metropolitan Bank 4
MCB Bank Ltd 14
National Bank of Pakistan 8
Soneri Bank Ltd 6
Standard Chartered Bank 15
The Bank of Khyber 21
The Royal Bank of Scotland 3
United Bank Ltd 5
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Islamic Banks represent Rs 263 billion ie 67.33% while Islamic Banking Branches of commercial banks represent Rs 127 billion ie 32.37% of the deposits of the Islamic banking industry. This can be compared to 5,450 billion net deposits of the entire banking industry in Pakistan, ie the share of Islamic banking in net deposits is 7.16%. In the advances category, IBs hold Rs. 120 billion ie 66.70% whereas IBBs hold Rs. 60 billion ie 33.30% of the share. This can be compared to Rs. 3,349 billion of total advances of the banking industry, ie the share of Islamic banking is 5.39%. Keeping in view of the higher share of deposits, this reflects reluctance of Islamic banks to extend financing leading to a lower ADR.

IBs own 66.81% while IBBs possess 33.19% of the net assets of the banking industry. Compared to the entire banking industry, the share of Islamic banking in net assets category is 6.68%. In the shareholders’ equity section, IBs have 69.31% and IBBs have 30.69% of the equity of Islamic banking. The share of Islamic banking equity in the total banking system’s equity is 6.66%.

When compared with the statistics for the entire Islamic banking industry, Meezan Bank owns 32.44% of the assets, 30.04% of the advances, 33.60% of the deposits and 23.67% of the equity, ie, Meezan Bank is the market leader in Islamic banking. However, when we compare Meezan Bank with the statistics of all Islamic Banks, ie the banks established solely for the purpose of Islamic banking, Meezan Bank has 48.56% of the assets, 45.04% of the advances, 49.90% of the deposits and 34.43% of the equity.

The relatively low share of advances suggests that Meezan Bank is cautious in extending financing and has a lower proportion of equity, which indicates to the possible problems in its capital adequacy ratio. The capital adequacy of Meezan Bank in FY10 was 12.41%, well above the required CAR of 10%. However, this can be compared to a CAR of 12.77% in FY09, ie, the CAR decreased by 2.82% over FY’09-10. The CAR of Meezan Bank is relatively lower compared to the CAR of the Pakistani banking system, which averages at 14% as shown in Figure 3.2.1.

The banking environment in FY10 has been characterised by a surge in government borrowings from financial institutions, particularly the banking sector. As a result yields on government securities increased throughout 2010. As Figure 2.2.1 shows, the yield on 3 month T-Bills increased from approximately 12.5% in September 2010 to approximately 13.25% in December 2010. This has enabled banks to earn riskless and easy money, reducing their focus on financing activities.

As shown in Figure 1.2, banks’ investment in government securities has increased from approximately Rs. 1250 billion to above Rs. 1500 billion. As regards the Islamic banking industry, Rs. 89 billion of Ijarah Sukuk was auctioned by the Government of Pakistan in the last quarter of FY10. This enabled Islamic banks to invest their excess liquidity into a profitable avenue. Meezan Bank, as the leader in Islamic banking, was the largest participant in both the issues, picking up a total of Rs. 18 billion.

As a result, the earnings assets to assets ratio of Meezan Bank has been 77.33%, higher than the Islamic banking industry’s 74.94%. The yield on earning assets of Meezan Bank has also been significantly high at 4.14%, compared to the industry’s yield on earning assets of 1.90%. Return on assets comparison shows Meezan Bank’s ROA at 1.07%, compared to an industry average of 0.46%. Similarly, the return on deposits of Meezan Bank in FY10 was 1.26%, compared to an industry average of 0.58%.

These facts indicate the well-positioned status that Meezan Bank enjoys in the Islamic banking industry, and the well managed investments portfolio, which leads to high profitability. This observation is further strengthened by observing the cost of funding earning assets, which is lower for Meezan Bank at 16.56% compared to 16.89% for the industry. Thus Meezan Bank is able to generate funds efficiently and has to pay out a lower return on deposits as compared to other IBs/IBBs.

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Statistics Meezan Islamic
Bank Banking Industry
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Advances to Deposits Ratio 41.35% 46.25%
Earning Assets to Assets 77.33% 74.94%
Yield on Earning Assets 4.14% 1.90%
Cost of funding earning assets 16.56% 16.89%
Earning Assets to Deposits 91.31% 91.64%
Provisions and Bad Debts Rs.1,496,000,000 Rs.3,134,000,000
Provisions to Advances 2.76% 1.74%
Return on Assets 1.07% 0.46%
Return on Deposits 1.26% 0.58%
Debt to Asset 92.84% 90.27%
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However, Meezan Bank seems to be hesitant in extending financing through the various Islamic modes. This can be deduced from the advances to deposits ratio, which stands at 41.35% for Meezan Bank, compared to 46.25% for the industry. This indicates a lower proportion of advances in Meezan Bank’s assets portfolio.

As shown in Figure 1.4, this reflects a general trend in the Pakistani banking industry of banks’ reluctance to extend consumer/corporate loans, since banks are still recovering from the aftermath of the surge in non-performing loans in 2008-09 and the resulting decrease in banks’ profitability caused by the high provisioning required for these NPLs (see Figure 2.1.1).

Although the SBP offered respite to banks in October 2009, by allowing banks to recognize 40% of NPLs amount as Forced Sale Value, in the context of the floods, which hit Pakistan in the latter half of FY10, financing activities have become further restricted. As a result the assets to deposits ratio of the entire banking system has been consistently falling, and loan growth has only recently picked up towards the end of December 2010.

The reluctance of Meezan Bank to engage in financing activities is explained by the provisions to advances ratio, which is higher at 2.76% compared to 1.74% for the industry. This indicates that the infection in Meezan Bank’s loan portfolio has been greater than the infection prevalent in the Islamic banking industry, since the already extended non-performing loans have necessitated a greater amount of provisioning.

The debt to assets ratio of Meezan Bank at 92.84% has been higher than the industry average of 90.27%. This is due to the lower equity of Meezan Bank and its higher percentage of deposits, as compared to the industry. The lower proportion of equity of Meezan Bank and its implications have been mentioned earlier.

Stock performance (FY10)

Stock returns volatility of weekly continuously-compounded returns shows that the standard deviation of MEBL’s stock returns is 2.88%. The future stock returns are expected to vary with a standard deviation of 2.88%, indicating very low projected volatility of stock returns. This shows that Meezan Bank enjoys high investor confidence, which leads to a consistent share price. Meezan Bank has successfully positioned itself as the premier Islamic bank.

Beta analysis generates the beta of MEBL stock to be 0.28 against a (KSE-100 index) market beta of 1.00, as given by the slope of the trend line. This shows that MEBL stock is much less risky compared to the market, and experiences very low price fluctuations. However, this also implies low possibility of short-term returns on the stock. A low degree of scatter is observed on the plot, showing that investor confidence in MEBL is steady and consistent.

RECENT PERFORMANCE (FY10)

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Rupees in 000s FY’09 FY’10 % Change
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Income Statement
Profit/ return earned on financings,
investments and placements 10,102,060 12,290,549 21.66
Return on deposits and other dues expensed 4,969,916 6,606,474 32.93
Net spread income 5,132,144 5,684,075 10.75
Provisioning
Provision against non-performing
loans and advances – net 1,430,536 1,330,057 -7.02
Provision / (reversal) for
diminution in value of investments – net 88,640 46,862 -47.13
Provision against off balance sheet obligations 37,682 100.00 –
Provision against amounts
due from financial institutions 81,875 100.00 –
Net spread after provisioning 3,612,968 4,187,599 15.90
Other income
Fee, commission and brokerage income 529,260 615,752 16.34
Dividend Income 189,973 321,898 69.44
Income from dealing in foreign currencies 752,904 1,381,044 83.43
Gain on Sale of Investments 76,160 97,155 27.57
Other Income 49,507 59,181 19.54
Total other income 1,597,804 2,475,030 54.90
Total net spread after provisioning/other income 5,210,772 6,662,629 27.86
Other expenses
Administrative expenses 3,530,161 4,460,804 26.36
Other Provisions / write-offs/ (reversals) -60,859 18,306 -130.08
Other Charges 1,747 56,559 3137.49
Total other expenses 3,471,049 4,535,669 30.67
Profit before taxation 1,739,723 2,126,960 22.26
Taxation 714,372 477,372 -33.18
Profit after taxation 1,595,465 1,649,588 3.39
Basic earnings per share 1.71 2.36 38.01
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In line with the favourable investment environment, profit earned on financings, investments and placements increased by 21.66% from Rs. 10.10 billion in FY09 to Rs. 12.29 billion in FY10. However, the return expensed on deposits increased by a greater 32.93%, from Rs. 4.97 billion in FY09 to Rs. 6.61 billion in FY10. This led to a net 1075% increase in net spread income, from Rs. 5.13 billion in FY09 to Rs. 5.68 billion in FY10.

As a result of the decrease in financing activities coupled with the FSV benefit which enabled banks to recognise a higher Forced Sale Value of NPLs, the provisioning against NPLs decreased by 7.02% over FY’09-FY’10. This led to 15.90% increase in net spread after provisioning from Rs. 3.61 billion in FY09 to Rs. 4.19 billion in FY10.

A 16.34% increase in fee, commission and brokerage income, 69.44% increase in dividend income and 83.43% increase in income in dealing in foreign currencies caused the total other income to increase by 54.90% from Rs. 1.60 billion in FY09 to Rs. 2.48 billion in FY10. The total spread/other income thus increased by 27.86% from Rs. 5.21 billion in FY09 to Rs. 6.66 billion in FY10.

However, an increase of 30.67% in other expenses, mainly on account of the 26.36% increase in administrative expenses due to the expanding number of branches, led to a net 22.26% increase in profit before taxation, from Rs. 1.74 billion in FY09 to Rs. 2.13 billion in FY10. Net taxation decreased by 33.18%, leading to a 3.39% increase in profit after taxation from Rs. 1.60 billion in FY09 to 1.65 billion in FY10. The earnings per share, however, increased by 38.01% from Rs. 1.71 per share in FY09 to Rs. 2.36 per share in FY10.

Financial performance (FY03-10)

Return on assets decreased from 1.34 in FY09 to 1.07 in FY10 due to a 23.29% increase in total assets over from Rs. 126 billion in FY09 to Rs. 155 billion in FY10. Return on deposits also decreased from 1.67 in FY09 to 1.26 in FY10 due to a 30.64% increase in deposits from Rs. 100 billion in FY09 to Rs. 131 billion in FY10.

Return on equity decreased by a smaller proportion, from 16.42 in FY09 to 14.89 in FY10 due to an 8.51% increase in equity from Rs. 10.2 billion in FY09 to Rs. 11.1 billion in FY10. This shows that, although Meezan Bank has managed to increase its assets and deposits through its aggressive branch expansion strategy, it has not yet been able to increase its revenues accordingly.

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Breakup of Deposits-Rupees in 000s FY’09 FY’10 % Change
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Customer-fixed deposits 32,351,628 44,517,241 37.60
Customer-savings deposits 36,357,769 48,406,231 33.14
Customer-current accounts-non remunerative 28,666,058 36,970,326 28.97
Customer-margin deposits 525,275 649,920 23.73
Financial Institutions remunerative 2,419,546 512,706 -78.81
Financial Institutions non remunerative 11,172 13,904 24.45
Total 100,331,448 131,070,328 30.64
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The improvement in the deposits category has been a net 30.64% increase over FY09-10. This increase is reflected across all categories of deposits, though customers’ fixed, savings and non-remunerative deposits have been mainly responsible for the increase. However, it should be noted that financial institutions’ remunerative deposits have decreased substantially by 78.81% over FY09-10. This shows that Meezan Bank has not been active in interbank lendings during FY10 and has instead cut down on its call placements and reverse repo transactions.

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Modes of Financing-Rupees in 000s 2009 2010 % Change
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Murabaha financings 14,529,212 19,121,616 31.61
Net investment in Ijarah 6,527,339 4,193,128 -35.76
Net book value of investments in Ijarah 1,498,191 3,467,234 131.43
Export refinance under Islamic scheme 4,581,948 4,887,546 6.67
Diminishing musharakah – housing 3,003,063 2,680,995 -10.72
Diminishing musharakah – others 7,541,277 13,096,430 73.66
Musharakah financings 80,531 70,531 -12.42
Istisna financings 3,729,059 6,565,529 76.06
Tijarah financings 665,260 1,468,736 120.78
Labbaik financing 3,959 4,547 14.85
Financings against bills- salam 601,802 744,180 23.66
Financings against bills – murabaha 434,864 100,717 -76.84
Staff financings 443,101 580,105 30.92
Loans, cash credit, running finances, etc 598,594 865,015 44.51
Total financings 44,238,200 57,846,309 30.76
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Total financing before provisions increased by 30.76% from Rs. 44.24 billion in FY’09 to Rs. 57.85 billion in FY’10. The increase was mainly due to a 31.61% increase in murahaba financing, 73.66% increase in the non-housing diminishing musharaka category, and 76.06% increase in istisna financings over FY09-10. However, net investment in Ijara decreased by 35.76% whereas the net book value of investments in Ijara increased 131% over the same period.

The earning assets to assets ratio increased from 102.78 in FY09 to 77.33 in FY10 due to a 125.55% increase in investments and 22.65% increase in financings, although borrowings by financial institutions decreased by 69.53% over FY’09-FY’10. However, the yield on earning assets decreased from 9.30 in FY’09 to 4.14 in FY’10. This was because a lower profit after taxation was realized, due to the surge in administrative costs resulting from the increase in number of branches. The cost of funding earning assets increased from 4.43 in FY09 to 5.52 in FY10 indicating that the ability of Meezan Bank to generate low cost deposits has decreased in FY10.

Non-performing loans increased by 25.18% from Rs. 3.65 billion in FY09 to Rs. 4.57 billion in FY10 in the aftermath of the floods and depressed economic environment of the country. The NPLS to advances ratio increased slightly from 8.26 in FY09 to 8.43 in FY10. The provisions to NPLs ratio decreased from 39.20 in FY09 to 29.12 in FY10, on account of the FSV benefit as mentioned earlier. The overall asset quality of Meezan Bank remains doubtful.

The equity to assets decreased from 7.68 in FY09 to 7.16 in FY10, due to a 23.29% increase in assets compared to an 8.51% increase in equity over FY09-10. Equity to deposits also decreased from 9.49% in FY09 to 8.45% in FY10, due to a greater 30.64% increase in deposits. This indicates a weakening solvency position of Meezan Bank. The earning assets to deposits decreased from 106.60 in FY09 to 91.31 in FY10, showing that the required increase in earning assets has not been achieved to cover the increased return expensed on the additional deposits of Meezan Bank.

The average share price remained almost the same at Rs. 15.73 per share in FY10 as compared to Rs. 15.74 per share in FY09. While this indicates steady investor confidence in MEBL stock, it also reflects negligible growth of Meezan Bank over FY09-10, ie the low growth of profit after tax. Although the earnings per share increased significantly from Rs. 1.71 per share in FY09 to Rs. 2.36 per share in FY10, it was not reflected in the share price, ie the investors do not perceive a significant growth in MEBL’s stock value. The price earnings ratio thus decreased from 9.20 in FY09 to 6.67 in FY10. The market to book value ratio also declined from 1.03 in FY09 to 0.99 in FY10.

Future outlook

The Islamic financial assets are expected to cross $1 trillion by 2010 in other words 12% of domestic banking industry share by 2012. The Islamic Banking industry continues to grow in Pakistan and six-full fledged Islamic Banks are now in operation. It is interesting to note that the conventional banks are increasingly realising the huge potential market backed by the untapped and steadily growing appetite for Islamic banking products; hence the drive for entering this market is based on business considerations in addition to religious considerations. As the level of awareness and understanding of Islamic Banking remains very low, this might pose as a threat to the credibility to the full-fledged Islamic Banks like Meezan. For this reason, there is a need for all banks to act in concert and help build awareness of Islamic Banking throughout the country.

The size of Islamic Banking is expected to reach US$1.3 trillion worldwide in near future. At present over 1,100 institutions offer Islamic finance service across the globe. Size of investments in Islamic banking system reached Rs.424 billion till 2010 in Pakistan and the government is taking measures to encourage it. Coupled with the fact that global sukuk issuance this year is expected to surpass US$35 billion recorded in 2007 (when it sustained the highest issuance level), Islamic banking is certainly growing and is here to stay.

Meezan Bank is committed to its Vision of establishing Islamic banking as banking of first choice. The priority is to ensure that Islamic banking products and services are available across the length and breadth of Pakistan; this will be achieved by:

1. Growing the branch network: The Bank intends to renew its aggressive branch growth strategy and add 53 new branches during the year. This will take the total branch network of the Bank to 275 giving it excellent network capability critical for the effective market penetration of a commercial bank.

2. Deepen the existing and add new Alternate Delivery Channels: 50 new ATMs will be added to the existing network of 169 ATMs. Plans are underway to up-grade the Bank’s 24 hour Call Centre and additional functionality including out-bound campaign-management will be added. A major new initiative will be launch of the Bank’s mobile banking platform. The intention is to substantially increase customer outreach and also support the financial inclusion programme of the SBP.

3. Improve systems and controls: Significant focus is being given to improvement of systems and controls in the Bank. As a part of this initiative, an internal control unit has already been set-up. In addition, substantial investment is being made in new software applications including state of the art KYC and AML software, among others.

4. Improve training and development: As the Bank expands, sourcing and retaining the right quality of human resource is an increasingly significant challenge. Accordingly, the Bank will build on its existing training and development infrastructure, balancing Shariah-based training and branch banking training.

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