Extract from 2013 Annual Report
Bank of Georgia I am very pleased to report a record 2013 full year rofit of GEL 209.3 million, up 16.6%, supported by record revenue of Gel 545.5 million. Earnings per share, also a record, stood at GEL 5.93 OR £ 2.07, up 13.6% in lari terms. The return on our shareholders' average equity was 18.6%. 2013 results reflect the robust performance of underlying businesses, balance sheet strength, efficiency gains and strong profitability in spite of slow economic growth throughout most of the year.
Economic growth in Georgia, which has for a number of years been a tailwind for us, was lower than expected and resulted in a slower start to the year. However, we witnessed a significant pick-up in business activity after the Presidential elections in October 2013, which saw the candidate of the ruling Georgian Dream Party win a landslide victory. GDP growth was estimated at 1.7% for the first nine months of 2013, but picked up after the elections to reach 7.1% in the fourth quarter. The future also seems optimistic as the IMF forecasts 5% GDP growth in 2014. The state budget was run at a surplus for the first nine months of 2013. In Q4 2013, in order to reach the target level of deficit for the year, spending accelerated particularly on infrastructure projects, resulting in a large increase in the supply of Lari. This in turn caused a small correction in the GEL/US Dollar exchange rate. In February 2014, however, the Lari reversed some of its losses against the major currencies and started to appreciate. In 2013, the National Bank of Georgia (NBG) remained a net buyer of US Dollars, purchasing US$335 million during the year.
In this letter, I would like to review 2013 by highlighting certain key performance measures, analysing the drivers of the results and the underlying strategic initiatives that we believe are fundamental to our success. Our medium-term strategy continues to centre around the 3x20 story that aims at achieving a 20% growth rate in our loan book, 20% Return on Average Equity and a 20% Tier I Capital ratio.
Below, I will start with three strategic initiatives launched over the last several years, which are now driving the diversification of our revenue that shapes our performance.
We began implementing our Express Banking strategy in 2012 by rolling out small-format, Express branches offering predominantly transactional banking services to clients through ATMs and Express Pay Terminals. The aim was to make banking relationships simple, faster, cheaper and convenient for both our existing customers and for the emerging bankable population. A Self-Service Terminal can be described as a small bank by itself as it allows a wide array of payment services ranging from current account top-ups and loan repayments to utility bill payments and metro ticket purchases. In 2013, we installed 764 new Express Pay Terminals throughout Tbilisi resulting in 985 total Express Pay Terminals as of the end of the year. We are now leaders in Georgia in the payment systems market. We have combined our travel card for the Tbilisi bus and metro (of which we are the sole provider) and our contactless card with a loyalty programme linked to the customer’s current account to create an “Express Card” and have issued over 240,000 such cards in 2013. At the end of the year we had more than 430,000 Express cards outstanding. The effects of the successful execution of our Express Banking strategy are numerous and far reaching and are now expressed in our financial performance that I will be describing below.
Started in 2010 from bad loans, our real estate strategy was to transform those loans into a successful business, and the process has been a textbook case of turning a problem into an opportunity. Our m2 Real Estate operation, which develops real estate property previously repossessed by the Bank, had a 40% IRR in 2013 and has become an integral part of the Bank’s mortgage strategy, supporting the mortgage loan book development.
During the past few years, with a view to diversifying our revenue streams and growing our non-interest income, we have taken decisive steps to grow and vertically integrate our Insurance and Healthcare businesses. BGH and Aldagi are currently preparing to list Aldagi’s Healthcare-related business on an international stock exchange. In 2013, Aldagi, our Insurance and Healthcare subsidiary, contributed 10.9% to our Company’s revenue and 12.0% to its profit.
As a result mainly of these, but also of less visible strategic actions, we delivered another exceptional year in terms of profitability, despite the backdrop of a slower-growth economic environment. At 7.8%, NIM held up better than we expected, withstanding the downward pressure from excess liquidity throughout the year that was largely a function of the subdued loan demand prevailing for most of the year. We attribute the resilience of our NIM to a number of factors, including our established market leadership that translates into superior distribution capability and pricing power. The most important contributor to our strong NIM in 2013, however, was the markedly reduced Cost of Funding. In the first half of 2013, we substantially reduced deposit rates, which significantly drove down our overall Cost of Deposits from 7.3% to 5.6%. It is important to note, however, that these deposit rate cuts have not compromised the inflow of deposits as the client deposit balances increased by 18.5% year-on-year. In addition, despite the lower deposit rates offered by the Bank compared to the market, our market share in retail deposits declined by only 0.7%. We consider these developments to be a true testament to the strength of our franchise and the brand name of our company. The reduction of deposit costs, combined with the superior access to capital markets demonstrated by the issuance of the 2017 Eurobond tap of US$150 million, enabled us to price the oversubscribed placement with a low interest rate level of 6.125%. Last, but not least, the increase in current account balances was made possible by the roll-out of the Express Banking strategy. Compared to last year, Retail Banking current account balances grew by GEL 89.6 million, up by 45.7%. We intend to continue decreasing our Cost of Funding, one of the main competitive advantages and central to our profitability. Our Express Banking strategy is expected to further increase our current account balances – the cheapest source of funding. In addition, our superior access to capital markets will enable us to maintain our flexibility in optimising our liability structure.
2013 was the fourth straight year that we have combined business growth with improved efficiency as evidenced by a declining Cost to Income ratio. This year, our revenue growth of 9.5% compares to 2.0% growth of our operating expenses, certainly a result of the overall vigilance with our costs across the board. More importantly, the improved efficiency is linked to our Express Banking strategy. We became a formidable player on the retail market through expansion by means of low-cost Express branches that has paved the way for transactional banking. The existing full-scale branches are now focusing on offering value-added products, while technology-intensive Express branches enable us to offer basic banking products and services at minimal cost. In addition, one of the strategic objectives of Express Banking, which is to bring the previously un-banked/emerging bankable population to Bank of Georgia, is now bearing fruit. The tailor-made products and services that became accessible for our new clients at our Express branches is a powerful and low-cost client acquisition method. In 2013, the number of new clients joining the Bank exceeded 190,000, up 18% from last year. Our improved cost efficiency is one of the main reasons our banking operation was able to service its substantially increased client base without growing its headcount, which focuses on IT and remote banking services. On a stand-alone basis, Bank of Georgia’s full-time employees decreased by 4.3%.
Going forward, cost discipline will remain a main focus. We are targeting to reduce our Cost to Income ratio to approximately 37% in the next three years. We believe the Express Banking strategy will be the main contributor to the further improvement. The development of Express Technologies will allow us to scale up the business with minimum operating costs.
Loan Book Growth and Improving Asset Quality
The strength and the efficiency of this growing franchise is the cornerstone of our solid competitive position and is also linked to our ability to grow our loan book in the low loan demand cycle in 2013. As the largest bank in the country, Bank of Georgia is best positioned to benefit from the de-dollarisation trends that have translated into a pick-up of Lari denominated credit growth. In addition, our competitive strength on the liability side as evidenced in the ability to reduce funding costs without compromising deposit funding, allowed us to achieve 13.9% loan book growth that cost us 130 bps on the Loan Yield, which compares to the 170 bps reduction of our Cost of Deposits. The result was that we didn’t compromise our profitability as demonstrated by the continuing strength of our NIM. We are constantly keeping a watchful eye on asset quality by following prudent risk management policies. Strongly supported by our diversified loan book, our NPLs grew by only 14.7%, comparing favourably to the loan book growth rate. Our Cost of Risk for the year stayed at the top of our targeted range at 1.4%, while our Q4 2013 Cost of Risk of an annualised 0.9% was a noteworthy improvement over the Q3 2013 Cost of Risk of 1.6%, also attributable to the slowdown of the economy in the first half of the year.
Strategic Initiatives Going Forward
Building upon our 3x20 strategy adopted in 2011, we are set to deliver on our key strategic priorities for the next three years. We are determined to maintain our market leadership, which gives us economies of scale as well as superior distribution and pricing power. Our market leadership is built on our strong Retail Banking and Corporate Banking businesses, which together are the backbone of the Bank of Georgia franchise. We see the strong growth potential of Solo Banking, our premier banking business, by means of increasing our currently relatively low penetration in the mass affluent segment. The expansion of our Solo Banking will be strongly supported by the offerings of our Investment Management products and services. The further development of our Express Banking business, which is at the heart of our retail strategy, is directly linked to Express Technologies, and we intend to continue investing in IT, which we consider pivotal for the future of the banking industry. We plan to build the growth on the back of further diversified revenue sources. Knowledge and understanding of the market, both Georgian and regional, and proven superior access to international capital will be the drivers of our Investment Management business growth. In 2013, we have combined our wealth management, research, advisory, and brokerage businesses under Investment Management. We intend to launch our first Investment Management products during 2014 and plan to continue to build upon them with the aim to create an important fee-generating business. Expansion through our payments business in Georgia has already started, and the newest addition is the Express Merchant business, which is an additional revenue source of income from small retailers that are not yet part of the card payment system. We will be focusing on turning payment systems into a significant base for our revenue generation and we are also preparing to leverage our knowledge of IT and payment business by beginning to export IT and payment business outside of Georgia. Looking back, I am proud of how much has been achieved. Entrepreneurial spirit is at the heart of Bank of Georgia’s culture and is one of our strongest assets. It has resulted in the creation of a very strong franchise that will be very difficult to match and even harder to displace. Such success in turn has created a new important task for us. We now have to manage the size, which in our case means striking the right balance as we seek to maintain our entrepreneurial spirit as we further institutionalise our achievements. In 2014, this will be one of our main tasks. Our first step to this end is the recently launched Bank of Georgia University that will help with the identification and development of talent within the Group. 2013 was a momentous year in terms of share price performance, which increased 113% since year-end 2012, outpacing most of our peers. In 2013, Bank of Georgia was the third largest growth stock in the FTSE 250. Average daily liquidity increased by more than 65% to 200,000 shares in 2013. Our long-term investors, namely East Capital and Firebird, significantly reduced their holdings, which led to the widening of our institutional shareholder base, contributing to the improvements in stock liquidity and free float. Our shareholder base is now far more diversified than a year ago: non-emerging market focused institutional shareholders make up c. 36% of our shareholder base compared to just 15% a year ago.
At the 2014 AGM, the Board intends to recommend an annual dividend of GEL 2.0 per share payable in British Pounds Sterling at the prevailing rate. This represents an increase of 33.3%, compared to the annual dividend of GEL 1.5 per share last year, a payout ratio of 33.7% and a dividend yield for shareholders of 2.9%, calculated on the basis of the year-end 2013 results and using the 31 December 2013 share price of £23.95.
I would like to thank the members of our Board for their engagement and invaluable input and congratulate the management team and more than 11,000 employees of the Group for the strong performance this year. We are looking forward to a busy and exciting year ahead of us. The key strategic initiatives that we undertook a few years ago are gaining momentum and while we made considerable progress this past year, I believe we have much more work ahead of us to realise the great potential of the Bank of Georgia Group. We are confident in our competitive position and remain focused on delivering value to our shareholders, lenders, customers and employees.
As part of a number of significant changes in regulations in the UK, this Annual Report contains a Strategic Report, which is set out on pages 10 to 27. The Strategic Report has been reviewed and approved by the Board of Directors of BGH on 10 April 2014 and I hereby sign the Strategic Report on behalf of the Board of Directors of BGH.
Chief Executive Officer