• Home
• Islamic Finance
• News Article

Islamic banking: Blazing fast growth but increasing fragmentation

By Philip Atkinson of BDO Consulting
On the surface, Islamic banking is in rude good health. It has survived the ravages of the global financial crisis, the Eurozone crisis and the Arab Spring largely unscathed. The sector continues to prosper throughout the MENA region and is particularly strong in the GCC.

Just take a look at the figures. In 2010, Islamic banking assets increased to USD 416 billion, representing a five-year CAGR of 20% compared to less than 9% for leading conventional banks. This growth trend is forecast to continue within the MENA region as Islamic banking assets are forecast to more than double to circa USD 990 billion in 2015 which represents a CAGR of 19% from the 2010 levels of USD 416 billion.

Islamic banking market share has crossed the 25% threshold in the GCC, which suggests Islamic banks are starting to compete with the conventional banks. However, despite this phenomenal performance, there is no room for complacency.

The relatively small size of most Islamic banks, with an average asset base of USD 13 billion, which is a third of conventional banks, will inhibit any one bank's ability to exploit upcoming infrastructure projects announced or under way (estimated to be at USD 1.9 trillion in the GCC) if the industry remains fragmented. In addition, rationalizing the cost base and synergies are potential key drivers for M&A in Islamic banking as their profitability has lacked growth historically in spite of growth in their overall asset base.

Islamic banking has shown little consolidation and has become more fragmented over the years and this is likely to get worse in the short to medium term with a further 100-plus Islamic banks forecast to open in the region by 2020. Between 2004 and 2009, there were 61 M&A transactions in the MENA region involving banks; only eight of these involved Islamic banks either as an acquirer or the target.

The historically low volumes of M&A activity in Islamic banking are due to several factors:

• The complexity of integrating and making conventional banks Shariah-compliant after being acquired
• Islamic banking has been around for a short period of time and so there have been historically not enough potential buyers to acquire
• The relatively small size of Islamic banks makes acquisitions difficult
• Strong performing economies enabled Islamic banks to achieve organic growth
• Reluctance to account for the additional provisions for non-performance
• The shareholding structure of different Islamic banks has limited the appetite for M&A
• A further obstacle is similar to a self-fulfilling prophecy: due to the lack of historical M&A activity, finding pricing benchmarks is difficult, making Islamic banks reluctant to undertake M&A.

In addition, Islamic banks face the traditional concerns of M&A such as synergies and economies of scale not being realized.

BDO has been approached by several Islamic banks to review and develop their future strategic plans. Based on several discussions with the top management of these institutions, it seems that despite the obvious attractions of M&A within the industry, M&A is still not high on the agenda of the board meetings of Islamic banks. It seems the historical dilemmas still prevails and the sector will need to address these to make the paradigm shift. Additionally, regulators and regional governments may need to further incentivize and facilitate mergers.

Philip Atkinson is a director of BDO Consulting and leads the team in Bahrain. He is an award-winning corporate financier with over 20 years of experience gained in practice and industry acting as both adviser and deal principal.

© Zawya 2012

---

© Copyright Zawya. All Rights Reserved.

---