Alrayyan Bank of Qatar - Financial Assessment 2011-2014 - Example

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EXECUTIVE SUMMARY

This financial analysis report explores the financial performance of Masraf Al Rayan Bank within the Islamic banking industry for purposes of evaluating its performance and financial growth. This report seeks to review the bank’s strategies and the insights that the bank’s shareholders can rely on when making sound investment decisions. The report therefore aims at coming up with a conclusion and recommendations upon which prospective and current bank shareholders can utilize when investing. The introduction of the report gives an overview of the company and the Islamic banking industry, the environment where the bank operates. It then expands to financial analysis by focusing on the financial ratios dated 2011, 2012, 2013 and 2014. The ratio analysis covers the chairman’s statement in the 2014 consolidated annual report and the bank’s consolidated income statements and consolidated balance sheets. Various financial statement ratios including operating, liquidity, activity and shareholder ratios from the year 2011 to year 2014 are computed. A conclusion is drawn from the ratio analysis to determine if the bank’s shares are attractive to a shareholders or if the bank can be considered a prospective investment venture. Moreover, recommendations to an existing shareholder is made on the option of either selling or holding the shares.

Introduction

Masraf Al Rayan (QRC) is a Qatar-Based Islamic Bank providing banking, financial, investment and brokerage services through a network of 12 branches. The bank was incorporated in January 2006 is regulated and licensed by Qatar Central Bank. This is the second largest Islamic bank in Qatar by market value, and its business structure comprise of three main division: retail banking, wholesale banking and private banking. The bank is listed on the Qatar Exchange and its top 20 shareholders are blue chips in the Qatar investment. In 2014 Masraf Al Rayan Q.S.C acquired Islamic Bank of Britain Plc. (IBB), which was the only bank in the UK that was Sharia compliant. IBB was formed in 2004 and it had over 50,000 customers and it able to offer a wide range of sharia compliant financial products in UK. Some of these services include current, savings and business banking account, Home purchasing plans and buy to let purchase plans.

As stated earlier the bank is listed in Qatar SE, and the symbol is MARK, the stock type is Ordinary, and currency used in trading the stock is QAR. The current financial figures as at 2016 are as follows:

EBIT 2016

1964 M

Net income 2016

1977 M

P/E ratio 2016

12.79

Capitalization

25425 M

Yield

5.07%

The main aim of this report is critically analyze the company’s fundamentals from a shareholder perspective and determine whether the current or potential shareholder should buy, hold, or sell the company’s stock.

Background

Formerly Islamic Bank of Britain (IBB), Masraf Al Rayan Bank was founded in 2004 and in 2006, it was licensed by Qatar Central Bank and incorporated as Qatari Shareholding Company under the Qatar Commercial Company law. On 24th July 2014, the bank was renamed Masraf Al Rayan Bank, and became the UK's only wholly Sharia compliant retail bank. The bank is segmented into three major segments: Corporate Banking, Retail saving money and Al Rayan Investment. The Corporate Banking segment gives a scope of Islamic subsidized and non-supported credit offices, store administrations, speculation admonitory, cash trade offices, benefit rate swaps, financing syndication and different administrations to corporate, business and multinational clients. The Retail saving money segment gives venture accounts administrations, charge card and Islamic financing to retail and individual clients. Lastly, the Al Rayan Investment segment is organized into two divisions: the administration of the Bank's arrangement of recorded and private values and finances and land ventures; and the improvement and operation of the Bank's speculation items, resource administration and venture position business.

The bank has made important strides and overcome major milestone with 2014 being its most remarkable year in terms increased investment, shareholders’ trust and profitability. In 2014, the chairman, in the annual report announced the dramatic increase in profitability due to the strategic initiatives and capital injection undertaken during the year. Although the bank had recorded a loss of £5.5 million in the year 2015, the loss was transformed into a £1.2 million profit, including the £0.7 million deferred tax. The operating income of £4.4 million recorded in 2013 more than doubled in 2014 to £11.8 million at the close of the financial year in 2014. This trend shows that the bank is recovering from its past performance and has proven to increase the value of the shareholders through enhanced profitability.

Inception of Islamic Banking

The analysis of the inception of Islamic banking, basic operating business models and principles in essential to the shareholders of the bank as it provides important insights into the extent to which the Masraf Al Rayan Bank, being an Islamic bank can meet the personal objectives of the shareholders.

Islamic Finance is a dynamic implementation of Islamic Law (Sharia’a) in financial institutions. The Islamic banks operate in agreement with the principles of value addition as fully governed by the Sharia principles. There are various key principles of Islamic banking that govern its operation, the central one being the prohibition of payment of interest (Riba) (Geelani, 2005). Such transactions are viewed as socially unacceptable and selfish driven. The Quran provides that “Allah has permitted trade and has forbidden riba” (Al-Baqarah, 2: 275).

The scheme of profit and loss sharing between the banks and the people is essential in Islamic banking (Athanasoglou et al., 2005). This encourages the Muslims to work hard and save their money in banks with an aim of becoming partners as opposed to creditors (Kettel, 2011). The Islamic banking model aims at achieving and controlling prosperous economy adjacent to socio benefits (Al-Janabi, 2012). M.A.M. 2012). Consequently, the bank, the depositor and the borrower all undertake to share the benefits and the risks of financing a business investment (Chapra and Ahmed, 2012).

In agreement with Islamic laws making profits by speculation, gambling and interest earnings are also termed as unlawful (Lewis, 2005). As such, Islamic banking is founded on the rule of barring both the profits and losses and risks by the investors. Among all the terms and conditions of doing business according to Islamic principles, Musharaka and Mudaraba are the earliest sharia'a- compliant Islamic banking modes of financing (Chong and Liu, 2008). Even though the Islamic banking philosophy has strictly banned the interest earning business but does allow for investment with managed risks where the investors bear the risks (Al-Tiby, 2012).

It is also worth noting that al the financial transactions in the Islamic banks are required to be asset-banked (Akhter et al., 2011). In this case, Islamic banks are different from the secular banks are they are prohibited from making money out of money (Khan and Bhatti, 2008). Hence, the money has to be invested in productive business and the profit generated is deemed revenue to be shared between the bank, the borrowers and the investor (Khamis et al., 2010).

However, like the secular banks, Islamic banks also rely on international financial reporting tools and uses financial ratios for analysis. The shareholders also rely on this information for decision making on investment matters. Important ratios include a profit margin, profit to expense, earnings per share, cash ratio, loan to deposit ratio, return on asset, return on equity, and current ratio, cash and portfolio investment to deposit and loan to asset ratio.

The Value of Masraf Al Rayan’s Financial Information to a Shareholder

The information provided in the financial statements of the company is very valuable to the shareholders as it helps in major decision making especially when it comes to selling or holding on share investments in the bank. Since the shareholders are the owners of the bank, they need the most important information, which is the financial performance of the bank in order to determine the future of their holding shares in the company. Before a shareholders decides whether to dispose the shares of the bank or hold on them, financial information in the annual reports serves as a major tool for decision making.

The information provided in the annual financial reports is also essential to the shareholders in terms of making long term plans and decisions. Since the management of the bank, especially the chairman is responsible for taking important decisions in the running of the company such as the strategic plans and future policies, the shareholders rely on the annual financial report to evaluate the bank’s strategic plan and assess them in accordance with their individual plans and goals. For instance, the intention of the Masraf Al Rayan (MAR) to purchase most of the shareholding and the bank’s consideration of such an intention proved to be very strategic to the future performance of the company. Also, the rebranding of the company is a strategic move that was undertaken to improve the performance of the company. Through the analysis of these strategic plans, the shareholder is able to examine the direction of the Bank and the vision of its management towards ensuring the objectives of the shareholders are met.

Shareholders rely on the financial information provided on the annual reports to assess their credibility and potential or securing credit or extension of credit to finance any future investments. Borrowing funds to finance future investment is an important source of financing in business but it is highly dependent on the credit worthiness of the borrower. This could be from a wide variety of borrowing and lending organization such as banks, insurance companies, savings and loan organizations. In order to assess the viability of this an option, the debt to equity ratio and the acid test ratio must be assessed to determine the likelihood of a bank loan being approved for Masraf Al Rayan Bank. These ratios are indicative of the strength of Masraf Al Rayan Bank to repay the loan. If the management of the bank has operated in a way that it cannot get the required loans extended, the shareholders will be in a better position to assess their position for purposes of making future investment plans. This information is also important since the creditors will use it too to demand for higher interest rates, which may limit the value of the shareholders in the company.

Other than the existing shareholders, the information in the financial report has great value to prospective shareholders, those who have surplus capital and would wish to invest it in a profitable venture. The annual financial report is an important decision making tool that shows how the company has progressed historically and whether there is potential for growth and profitability. For instance, the assessment of the growth in revenues of Masraf Al Rayan Bank indicates an upward trend from 2011 to 2014. The growth in earning per share can be exemplified in the figure below. A prospective shareholders relying on this information would therefore find Masraf Al Rayan Bank a profitable investment.

Source: Financial Times

The Financial Objective of Masraf Al Rayan Bank

The financial reports of Masraf Al Rayan Bank indicates that the financial objective of the bank is to maximize the value of the shareholders through enhanced growth and expansion. The analysis of the banks trend over the 3 years from 2011 to 2014 shows the commitment of the management towards strategic implementation of decision that enhance the growth of the bank. The bank’s stakeholders including the shareholders, the employees, and the customers can rely on this trend to be optimist about the future prospects of the bank.

The bank has a clearly articulated strategy to boost the assets in its existing sectors of Commercial Property Finance and Home Purchase Plans provided to the GCC and UK individuals and businesses. The company targets to use the rapidly increasing growth in its deposits to fund asset targets for purposes of delivering a balanced wholesale and retail finding plans. This is an important milestone that will benefit the shareholders especially the long term shareholders with plans to increasing their assets in the bank several folds.

The growth objective of the bank also satisfies personal objectives of long-term investors and shareholders through the assurance that the bank has the confidence of the consumers. This can be exemplified by the increase in the capital following the dramatic capital injection in 2014. The bank has continued with the opportunity to provide the SME sector with finance and strength the housing market, especially given the increasing desire of entities and individuals in the GCC area to invest in the UK. By examining the bank’s balance sheet, there is evidence of increased financing of the customers, which increase to £450.3 million in 2014, a record 86% increase from the previous year. The Commercial Property Finance increased by 304% to reach £138.5 million while the Home Purchase Plan financing rose by 50% to reach £311.6 million. Another area that is attracting to the shareholders is the increase of the retail and wholesale deposits which increased by 59% and 53% respectively to reach £509.8 million and £31.7 million respectively.

It is also prudent to note that the management of the bank has been highly reputable in promoting the value of the shareholders without any cases of mismanagement or negligible objective evidence of fraud, corruption or impairment. The board has proved to be highly experienced, and the management competent, exceeding the assets of the bank to £2billion in 4 years. This is an important objective to long term shareholders as it not only builds shareholders’ confidence, but also that of other stakeholders, especially the customers.

Ratio Analysis

The accounting ratios calculated in this section are based on the financial statements of Masraf Al Rayan Bank of 2014, 2013, 2012 and 2011. The calculated ratios together with the consolidated income statement and consolidated balance sheet of Masraf Al Rayan Bank of 2014, 2013, 2012 and 2011 are shown in the Appendix section as supporting documentation. This section will focus on four categories of ratios including profitability, liquidity, activity and shareholder ratios. These ratios are analysed in the following subsections.

Profitability Analysis

The profitability ratio measures the company’s ability to generate a good return on its resources which is primarily derived from the income statement. The ratios used in this computation are the operating profit margin and returns on capital employed.

Return on Capital Employed (ROCE)

ROCE is the profit or returns generated on the total capital invested into Masraf Al Rayan Bank operations and it represents long–term investment in the business or owners’ capital plus long–term liabilities. ROCE are most often regarded as the pre-eminent measure of a company’s profitability.

The return on capital employed of Masraf Al Rayan Bank increased from 2.76% to 3% from 2012 to 2013, but then dropped to 2.56% in 2014. This shows that the capital employed in the bank’s operations was used more efficiently in the financial year 2012/2013 thereby creating more operating profits compared to the previous year 2011/2012 (ACCA Paper F7, 2009). Capital employed comprises equity and long-term finance (ACCA Paper F7, 2009). The increase in the ROCE between 2012 and 2013 implies that the increase in the long-term sources of finance was successfully used properly to generate profits. On the other hand, the decline in ROCE between 2013 and 2014 implies that the bank had not yet utilized the sources of finance at its disposal to generate profits. The high performance in ROCE in 2013 can be attributed to be the reason for the increase in deposits by the customers. However, the company may not have implemented its strategies to invest the money and generate profits. This is attributed to the fact that Muslim banks generate their profits through investment in productive investment, which requires some time before profit realization (Azam and Siddiqoui, 2012).

Operating Profit Margin

Operating Profit Margin measures what proportion of a company's revenue is surplus, after paying for variable costs that relate to the on-going operation of the company. This ratio is important for the shareholders of Masraf Al Rayan Bank as it provides important insights related to the extent to which the bank is able to reduce its lending price without compromising on its profitability. A good operating margin is required for Masraf Al Rayan Bank to be able to pay for its operating costs and promote its profitability.

The operating profit margin increased from 2012 to 2013, from 66.09% to 70.9%, which denotes that the bank had a higher cost efficiency in operating expenditure. This increase can also be attributed to the decrease in total expenses payable by the bank. However, moreover, the operating profit margin increased further to 78.4% in 2014, a remarkable growth in operating profit and a reduction in the total expenses of the company. Given the capital injection in the bank in 2014, the growth in the operating profit margin can be attributed to the ability of the bank to finance its expenses and not using a large percentage of sales for the same. This ratio implies that the bank can generate more operating profit from sales, which promotes a stronger profitability (Hudgins and Rose, 2013). Consequently, this will equip the bank with the required ability to survive in the current times.

Liquidity Ratio

Current ratio

The current ratio examines the ability of a company to meet its financial obligation by utilising its current assets to offset its current liabilities. This ratio is important to the shareholders of Masraf Al Rayan Bank as it is related to the liquidity of the bank and may affect the chances of the bank from taking advantage of investment opportunities due to low liquidity.

The current ratio for Masraf Al Rayan Bank in 2012 was 0.55, which is lower than 1. This means that the company has a reduced ability to meet its short term financial obligation. Such a lower current ratio means that for every £1 in current liabilities, there is only £0.55 of current assets. As such, it places the bank at a risky position. In 2013, the current ratio grew to 0.76 which indicates an improvement in the liquidity of the bank. Although this was a slight improvement, still it does not equip the bank with enough financial freedom when it comes to financing of short term liabilities. The current ratio dropped slightly to 0.73 in 2014 despite the increase in the capital. Hence, the shareholders should not only consider the current ratio of the bank, but also its operating cash flow as it is in a better position to provide a true reflection of the bank’s state of liquidity. In this case, Masraf Al Rayan Bank’s 2014 low current ratio is supported by a strong operating cash flow and the company has a more enhanced power to finance it short term liabilities.

Networking capital to sales ratio

The working capital turnover ratio measures the extent of a company’s liquidity by examining the extent to which the company is able to efficiently utilize its working capital. This ratio is important to the shareholders of Masraf Al Rayan Bank as it is an essential analytical tool used in determining whether the bank operates efficiently in turning the working capital into sales.

The networking capital to sales ratio of Masraf Al Rayan Bank shows a very low trend as it is negative for the four years under analysis in this research. In 2012, the networking capital to sales ratio was at a low of -1.7 which improved slightly in 2013 to reach -.65. However, the ratio declined again in 2014 to reach a low of -.98. This is a worrying trend to the shareholders as it shows that the company is not able to utilize its working capital efficiently, hence the negative networking capital to sales ratio. However, it is worth noting that the networking capital to sales ratio is generally dependent on the industry upon which the company operates as each industry has its own liquidity needs (Athanasoglou et al., 2005). Despite the low networking capital to sales ratio, it would be prudent for the shareholders to examine the historical trends in the productivity of the working capital and use it to make more informed decisions as the dynamics in the Islamic banking institutions may limit the extent to which the efficiency of the working capital may be reflected in the ratio (Khan and Bhatti, 2008).

Activity Ratios

Total asset turnover

The total asset turnover ratio of a company measures the company’s ability to utilize its assets to successfully generate sales. This ratio is an important decision making tool for the Masraf Al Rayan Bank shareholders as it provides essential insights into how the current and fixed assets as all combined to generate the sales in the bank.

The total assets turnover ratio of the company exemplifies a consistently low trend from 2011 to 2014. In 2012, the total assets turnover was 3.45% which indicates that the efficiency of the bank to use its assets to generate sales was very low, and the sales comparison to the total assets depicts a very sluggish relationship. The ratio increased slightly to a low of 3.67% in 2013 before declining again in 2014 to a low of 3.2%. The trend of the low total assets turnover ratio in the bank at the point where its performance is remarkably high shows that there could be a problem with one of the categories of total assets such as the fixed assets, receivables or the inventory. Moreover, it would be prudent for the bank’s shareholders to note that activity ratios are specific to various industries since each industry has its special activity needs (Athanasoglou et al., 2005). A comprehensive analysis of the balance sheet shows that the bank is operating at a profit and it is able to survive the current global economic situation (Kassim and Abdulle, 2012).

Shareholder Ratios

Price/Earning

The price is the current price of the stock, and the current price of MARK is 33.90. The EPS used is the most recent in the financial statements, from the company’s income statement the bank uses basic and diluted earnings per share (EPS). To determine the growth, the P/E of the last three years will be used. From the ratios as calculated on the appendix, the P/E has been decreasing YoY, which is an indication that the company’s expected growth is decreasing. For the last three using the current stock of MARK it is clear that P/E has been decreasing, which implies that the shareholders of the company should anticipate a lower growth of the company in the future. When a company’s P/E is decreasing it is a warning to a shareholder that the growth is sluggish. Therefore, as a shareholder of the company the stock would be either a buy or a hold, and then watch the market until the company start increasing its P/E.

Price/Book Ratio

This type of ratio is used to compare the company’s current market price to its book value, the main approach used is to dividend the company’s current share price by the book value per share. The book value is the total assets less intangible assets and liabilities divide by total owners’ equity. The P/B ratio is very vital in relation to value investing, and it can be used as score card to evaluate whether the stock is valuable to a current or potential shareholder of thee company. High P/B is can be an indication that the company is overvalued, and low P/B can be an indication that the company is undervalued, however it can be a true reflection of the company’s status. P/B is a very important metric especially when a company has a negative earning, since such a company can’s be assessed using P/E ratio. A good P/B should be < 2, therefore since the P/B for the bank Masraf Al Rayan (QRC) is greater than 2, it can be a reflection that the company is overvalued, since the P/E has been decreasing YoY.

Earnings per share

The earning per share can be extracted from the consolidated income statement for the specific year. The Earning per share has been increasing YoY, which is a strong fundamental of the company. However, the Earning per share has not be increasing significantly as expected. The sluggish increase in earnings per share is a reason for holding the share for holding the Masraf Al Rayan (QRC).

The following is a graphical presentation of the company’s Earnings per share (Markets.ft.com, 2016)

Conclusion

Masraf Al Rayan (QRC) has made some tremendous growth over the past five years, the acquisition of IBB is also a very important aspect to the company since it improved the company’s balance sheet. The company’s board of management has been very instrumental in ensuring that the bank has attained a competitive advantage in the banking industry of Qatar, and the corporate governance in the bank indicate that the company is well managed and investors can have confidence in the bank. Masraf Al Rayan (QRC) shares have traded mostly in a fluctuation manner, but there has been a growth in the company’s stock. The only way that the stock will improve is if the fundamentals of the stock improves, and tis will see the share price of the stock reach highs of 40.00. The macro-economic aspects are very important in the banking industry since they impact the forex reserve. When the USD strengthens and the QAR weakens, the bank is will incur losses that will affect the profitability and consequently the share price. The loan book is also very important, when the loan book improves the company is expected to have a strong fundamental that will improve the shareholders’ value. The bank is an Islamic bank, and all the products that the bank offers are mostly sharia compliant. Therefore, the main regions where the bank is expected to grow is regions where Islam is hugely practiced. Therefore, the bank has restricted itself to one form of business model

Recommendations

The investment strategy for Masraf Al Rayan (QRC) is neutral, and this is based on the slow growth of the bank for the last three years. The Price/Earnings (PE) has been decreasing for the last three years, and based on this, the stock can be recommended as a “sell.” The Price/Book value (P/B) is also very high since it is greater than 2, which can be an indication that the bank stock price is overvalued. The earning per share has been increasing over the years due to an enhanced profitability, and this would be recommended as a “buy” for an investor who is looking for dividends, speculative, or a short term purposes. The main risk of the bank is the Forex and oil prices variables, QAR is weakening due to strengthened Dollar and also the current global oil prices are decreasing. Qatar is an oil producing country, and the GDP relies heavily on Oil, if the prices of the oil decreases the economy of the country is affected and this will affect institutions like the banking sector. Therefore based on these macroeconomic variables and risk analysis the stock should be recommended for “sell” or “hold” until the global oil prices start increasing. The following table can be used to explain why the bank’s stock should either be sold or held for some time.

Price/Book ratio <2.0

×

Widened Gross Margin (YoY)



Increased Return on Assets (YoY)



Operating cash flow >0

×

Decreased Debt/Equity Ratio (YoY)

×

Incresed Current ratio (YoY)

×

Increased Asset Turnover Ratio (YoY)

×

Increased Earnings per share

×

Zero share dilution



Total Risk Score:

3/9

From thee above analysis that have been derived from the calculated ratios, as a shareholder Masraf Al Rayan (QRC) I will sell my shares since the fundamentals of the bank are very weak and they don’t seem to improve since as analyzed from the company’s annual report. After that, I would buy more shares for speculative purposes and hold them in wait for the new growth trend.