PCEO's Message, Management Discussion & Analysis

as appeared in Annual Report 2016

YBhg Dato' Ahmad Zaini bin Othman

OVERALL REVIEW

The year 2016 was globally another year fraught with heightened economic uncertainties and this has had an effect on the country, hampering growth across most industries. The unfavourable conditions were further exacerbated with the decline of the Malaysian Ringgit, at one time reaching the lowest of RM4.50 against the USD. Hence amidst this backdrop, the poor growth trend of the local banking industry persisted and hit another low of 5.3% for year 2016.

Having anticipated these gloomy prospects, we decided to tread the period with great prudence by undertaking selective business growth, increasing funding levels to further strengthen liquidity and ensuring an efficient cost management. Our aspiration to emplace MBSB on a banking platform did not waver despite the aborted negotiations for a proposed merger with Bank Muamalat Malaysia Berhad. Instead, closing the gap initiatives were resumed to advance the company’s level of banking readiness.

Selective business expansion was made possible as the Government continued to roll out key infrastructure projects allowing us to secure financing for the awarded contracts. The infrastructure rollouts helped to offset a decline in property construction, enabling ample opportunities and stable industry financing growth of 7.0% in 2016 from 7.6% in 2015. The display of such commitment and steadfastness by the Government is certainly welcomed and appreciated as it directly contributes to the country’s economic growth. Due to this, we made deeper market penetration in the space of the affordable housing. We strengthened our relationship with a few Federal and State Government implementing agencies by financing their appointed developers. As a result, we have granted financing approvals for affordable housing development amounting to more than RM2.0 billion.

Meanwhile, our relatively young venture in the SME market through equipment financing business has produced a significant outcome last year as new markets were established in the Northern and Southern regions. Evidently last year was another period that asset growth was delivered by the corporate segment as we had foreseen the lacklustre mood in retail.

Though retail growth had lagged behind corporate, new acquisitions were made based on enhanced risk parameters to preserve asset quality. We had also adopted more effective monitoring and preventive strategies to manage our retail accounts. The early care approach was an important aspect to detect initial warning signs before deterioration could occur. Concurrently, our impairment program entered a second year last financial period as we maintained our commitment to complete the three-year program regardless of conditions in the operating environment.

The move to further strengthen funding program materialised with a capital raising exercise undertaken in June 2016 of RM1.7 billion. This has helped us to meet prudential requirements as well as business expansion needs. Consequently, the shareholders’ funds rose to a level of RM6.72 billion as at 31 December 2016, a relatively strong position for a small-sized financial institution. Funding through deposit has also increased by 7.1% as new depositors were acquired despite the intense competition.

We took actions in recent years to rigorously monitor our operating costs as managing costs of funds became a persistent challenge and affected the interest and profit income. In relation to this and as a result of viability concerns too, we had reviewed the branch network and undertook a rationalisation exercise. This includes relocation and closure of certain Sales and Service Centres (SSC) to ensure we maintain a profitable and efficient network. Nonetheless, we ensured a seamless process was emplaced so as not to compromise our customer service level.

Overall, MBSB has managed to successfully weather another demanding year by accomplishing its targeted plans which include the impairment program. It was imperative that we navigate well in an increasingly tough environment to sustain profitability level.

ECONOMIC REVIEW

As with most countries in the region, the Malaysian economy had also faced challenges domestically as well as abroad during the year 2016. Poor sentiments amongst consumers persisted as they were confronted with higher costs of living, employment uncertainties and a volatile Ringgit Malaysia currency. This was marked with protracted weak retail sales growth estimated at 3.0% for 2016 and 2.0% for 2015. There was also a decline in property transactions as consumers continued to hold back on investments and spending. Accordingly, the banking industry’s growth weakened to 5.3% in 2016 from 7.9% in 2015 which is the slowest pace since 2003.

Meanwhile, crude oil prices had also dropped to as low as USD30 per barrel requiring the Government to recalibrate its Budget 2016. Fortunately OPEC reached an agreement to curtail oil output and rebalance the global crude oil prices in November 2016. Subsequently early this year we had seen a price improvement to USD50 per barrel.

The volatility in the Malaysian Ringgit had also worsened conditions as the currency deteriorated significantly against the USD and other major currencies. This volatility was partly attributable to the US Federal Reserve rate hike and subsequent expectations of increases which caused outflows of foreign funds from emerging markets including Malaysia. There had been disposals of Government’s bonds and local equities and volatility may remain with the high foreign shareholdings.

Changes to the US political scene have also triggered uncertainties globally and caused great reservations as the new administration sent messages of anti-trade policies and seemed to be in favour of protectionism dogma. The first casualty was the US’ immediate withdrawal from Trans-Pacific Partnership which Malaysia is a part of and this was a considerable setback to the countries involved as significant progress has been achieved in the 10 years spent to conclude the trade agreement.

Any business entity irrespective of size would be striving to overcome most of these challenges last year. Thankfully the Government had played a substantial role in cushioning some of this impact by initiating and driving various fiscal measures particularly in the construction industry to boost the overall economy. The financing to the construction sector increased by 7.0% in 2016 with sizeable pipelines of rail and highway infrastructure projects to be embarked on this year onwards.

Additionally, noteworthy development projects in the property sector are being driven by Government-linked companies which include Bandar Malaysia, KL 118 and KWASA Damansara. Other key thrusts such as PR1MA and Projek Perumahan Penjawat Awam 1Malaysia (PPA1M) that focus on affordable housing continued to gain momentum providing immense business opportunities to MBSB. For year 2016, while transactions in the property segment have declined by 12% and 19% in terms of volume and value respectively, we believe that the affordable segment offers a more resilient demand and holding power.

Bank Negara Malaysia (BNM) has also eased conditions by maintaining very accommodative interest rates for businesses and consumers alike. Several measures have been implemented to stabilise the ringgit and mitigate currency headwinds. In support of the Government’s initiatives to ensure rakyat is able to own a home through the affordable housing, BNM has also relaxed its lending guidelines on first homeowners for PR1MA houses. The industry applauds such adjustments as this helps to ensure efforts by PR1MA achieve its intended objectives.

BUSINESS REVIEW

As the environment became increasingly challenging, it became imperative for MBSB to exert all efforts to ensure sustainable profits and to preserve shareholders’ value. Our strategic business plan for 2016 was formulated based on this premise and most of the targets and KPIs outlined in the Plan were mainly achieved.

Selective Asset Growth

As projected, we maintained our momentum in the expansions of the corporate segment for 2016. The end target of 30:70 in terms of financing asset composition between corporate and retail remained and in recent years, has shown progress. The corporate growth achievements have gradually moved us towards the desired target and as at 31 December 2016, the ratio stands at 19:81 (2015: 15:85).

In growing the business from the corporate segment, MBSB’s participation remained in the property development sector but to certain targeted locations and developers. A very prudent approach was adopted as consumers became weary too in purchasing high end products offered by the developers. To compensate for this lacklustre response, we had then strengthened our position in the affordable housing segment and granted financing approvals amounting to over RM2 billion for 2016. Financing was granted for developments that had been rolled out in several states including Selangor, Perak, Melaka and Sabah. Our participation is in the form of bridging and contract financing for PPA1M and PR1MA developers.

The move to enter the SME market two years ago with equipment financing business continued to bear commendable results. Approvals have grown by 98% from previous year 2015 and for the year 2016, total approvals secured have exceeded half a billion ringgit mark. For these new SME customers, we began offering other financial products and services such as commercial property financing as well as depositary.

To further diversify corporate revenue, we had also participated in the financial guarantee facilities led by a key financial guarantor institution. It marked an important doorway to capture sizeable fee income and similar opportunities for future transactions. We continued undertaking receivables’ financing with stable and sound cooperatives as this has proven to be a reliable revenue stream for MBSB.

On retail business, we took cognisant of a more subdued environment but efforts were multiplied to ensure existing assets were preserved and quality remained. We launched variable rate financing for PF-i both for BIRO and non-BIRO customers as a shift away from fixed rate financing. New packages were also introduced especially for PTPTN borrowers who have stable employment but needed improved scorecards to reflect their present financial standing. For last year, we were able to grow disbursement of PF-i by 14%.

As for home financing, it remained a daunting challenge to make marked improvements in market share as low financing rates was a key deciding factor for most consumers. For the first few months of the year, we had lagged behind target and a revision of strategies was then undertaken. Special end-financing packages were developed for those developments that we financed, rendering them as unique to MBSB. The developers also played a role in contributing their part to the special schemes enabling our marketing teams to have a competitive edge over other competitors.

Raising Healthy Funding Level

To fund the financing of both corporate and retail asset growth mentioned above, we had undertaken a series of funding activities throughout the year. In addition to the capital raising exercise of RM1.7 billion, there was a Cagamas securitisation of RM585 million as well as noticeable improvement in deposi t level . Total deposit grew from RM28.6 billion (2015) to RM30.6 billion. Our strong relationship with Government-linked entities and agencies provided the continued support to raise deposit level. The deposit growth was achieved despite an overall decline of depositors by 5.5%.

The capital exercise meanwhile has helped to increase our Treasury’s investments in liquefiable assets as part of meeting the prudential requirements. The investment stood at RM9.2 billion as at 31 December 2016 rising from RM7.6 billion (2015) and income generated from this investment has increased by 37%. With the new set up of a Fixed Income Desk in full operations last year, our Treasury has moved closer to operating and behaving like a bank-like Treasury, capable of generating income for the entity.

On new offering, a new product Business Account-i was introduced for our corporate financing customers to help provide MBSB with an additional source of low cost deposits.

OPERATIONAL REVIEW

Our main operational objectives for 2016 include closing the gap initiatives to behave and operate like a full-fledged Islamic financial institution, increase operational efficiency as well as having an effective and prudent management of costs.

Closing The Gap Intact

Closing the gap process resumed following the aborted negotiations for a proposed merger with Bank Muamalat Malaysia Berhad. We began with the conversion of our conventional hire purchase accounts to the Islamic AITAB (Al-Ijarah Thumma Al-Bai’). It ran in phases and with the completion of Phase 2, we have converted 80% of hire purchase accounts to the Islamic AITAB, carrying total outstanding balances of over RM25.5 million.

New compliance activities had been implemented in line with business expansion as well as with the new regulatory requirements imposed. These activities include safety health checks on Foreign Account Tax Compliance Act (FATCA), Personal Data Protection Act (PDPA), shariah compliance and BNM’s Responsible Financing Guidelines.

Concurrently, group risk management was further strengthened with initiatives covering credit, market and operational risks. Amongst them include the enhancement of corporate credit scorecard, the updating of Fraud Framework, development of Stress Testing Framework and periodical Risk Bulletins to reinforce the risk culture amongst the workforce at MBSB.

Boost Efficiency Level

As the company continued with its impairment programme while operating on a very competitive landscape, it was essential to constantly monitor our operational costs to preserve bottom line numbers. Hence, we carried out a branch rationalisation exercise following a review of our service network. We closed Labuan branch and downsized eleven branches. Additionally, Kajang and Batu Caves SSCs were relocated to more viable locations and at the improved convenience of our customers. This exercise had resulted in a very lean and efficient network as well as reduction in overheads.

On retail collections where efficiency and speed in collecting monthly instalments is paramount, the Division’s manpower has been streamlined and internally split between secured and unsecured assets to ensure greater focus and efforts. The function has also been centralised at the Head Office and additional collection agencies were hired. To expand our collection channels, we have added JomPay that has over forty banks participating and an online banking of another banking group.

FINANCIAL REVIEW

We are pleased to note that while the year 2016 has not been without its fair share of challenges, we were able to conclude it with financial results consistent with the previous financial year. For Financial Year Ended 2016 (“FYE 16”), MBSB registered Profit Before Tax of RM338.42 million in comparison to RM355.03 million achieved in the previous FYE 15. Although there was a marginal decline of RM16.61 million or 4.68%, revenue has improved by 7.37% from RM3.05 billion (FYE 15) to RM3.27 billion (FYE 16).

The main contributor to revenue continued to be from the retail financing assets but this has been on a declining trend due to slow asset growth in recent years. Nonetheless, revenue from the corporate segment has been on the rise as a result of business expansions. Last year we had grown the corporate financing assets by close to 30%.

Total income at RM1.41 billion (FYE 16) was a slight increase of 3.56% from previous RM1.36 billion (FYE 15) and is largely due to the higher income from the Islamic banking operations. We continued to build up our Islamic financing assets in line with the strategic direction to become a full-fledged Islamic financial institution. As at 2016, Islamic assets make up approximately 84.97% of the total loans and financing assets.

The company also undertook its second year of the three-year impairment program with operating profit of RM1.12 billion absorbing the allowances for impairment losses on loans, advances and financing of RM777.27 million. It is always important for us to reiterate this fact to all our stakeholders that the impairment is essentially being absorbed out of business profits and not through other means. It is also part of our efforts to conform to the banking standards.

Total gross financings and loans stood at RM35.28 billion, an increase of RM1.17 billion from RM34.11 billion (FYE 15). Asset quality remained intact and manageable with net Non-performing Loan and Financing ratio (NPLF) of 2.87% consistent with the previous year of 2.81%. On another positive note, the Financing/Loans loss coverage ratio had advanced to 109.24% from 92.23% (FYE 15).

Total deposit from customers stood at RM30.61 bi l l ion which grew from RM28.59 billion (FYE 15). There had been int ense compet i t i on for depos i t s throughout the year but we were fortunate for the support from our corporate deposi tors and wi th the increasing contribution from SSCs for retail deposit.

Cost to income ratio (CIR) of the company at 20.82% remained amongst the top in the industry as compared to the industry average of 49.7%. This was an improvement from 22.66% in 2015. In addition to the factors previously mentioned, costs were also managed with the hiring of manpower mainly targeted for corporate business expansions.

MOVING FORWARD

We are currently in the negotiation process for another merger and acquisition (M&A) exercise and as required by the authorities, would need to conclude it by the end of June 2017. Despite the process, we had developed a strategic business plan for 2017 to ensure company stays on track to deliver value to its shareholders regardless of the outcome.

We foresee similar challenges to the local economy this year but there will still be many pockets of opportunities and activities to spur economic growth. Fortunately as well the Government would continue with its commitment to implement key infrastructure projects which include the KVMRT Line 2, Pan Borneo Highway and East Coast Rail Link. On the affordable housing segment, the Government under Budget 2017 has committed to build over 30,000 units of PR1MA and to complete 30,000 units of PPA1M with estimated values of approximately RM11 billion and RM6 billion respectively. On commodities, palm oil prices have also been trending upwards for the last year with prices expected to remain favourable in 2017.

All these represent various business opportunities to be captured by MBSB, in line with its targeted expansions in selected segments. Financing disbursements from home mortgage is expected to improve this year with several schemes that have been emplaced leveraging on our bridging developers. We also plan to expand the Islamic product range to be more competitive and begin pursuing the conversion of our conventional assets and liabilities to the Islamic concepts.

MBSB has progressed significantly over the last eight years when it began its ambitious transformation program and having arrived at the present state, it would now need to strongly leverage on what it has achieved to create a solid industry position and a stronger future. Hence, “Solidifying the Future” is aptly chosen as the business theme for the new financial year 2017 to bring the whole workforce together in accomplishing this vision.

ACKNOWLEDGEMENT

I wish to take this opportunity to express my sincere appreciation to the Board of Directors and Shariah Advisory Committee (SAC) for their great wisdom and insight, our shareholders particularly the Employees Provident Fund (EPF) for their lasting support and all employees at MBSB for their renewed commitment and dedication each time a new year unfolds.

I thank Cik Ravinder Kaur and Dr Sa’adan bin Man for their contribution as well as Board and SAC members respectively and wish them success on their new pursuits. I wish to also welcome our new Board members, Encik Sazaliza bin Zainuddin, Datuk Johar bin Che Mat and Puan Lynette Yeow Su-Yin to an exciting new journey with MBSB.

Thank you.

DATUK SERI AHMAD ZAINI BIN OTHMAN
President and Chief Executive Officer

22 March 2017