Ladies and gentlemen, here are your digital banks

After a wait of about a little over 9 months, the State Bank of Pakistan (SBP) has finally decided to raise the curtain on the successful applicants that have been allowed to set up the much anticipated digital banks. The objective is simple and oft repeated: Pakistan has a huge unbanked population with access to finance statistics nothing short of being terrible. The central bank has been edging towards increasing the financial inclusion numbers and it has been gunning to do so by moving its focus on digital financial services.  

For the sake of brevity, we will keep the context short: traditional banking requires opening branches at locations that are remote and opening such branches with a sizable capital expenditure does not make a business case for conventional banks. These are the locations where conventional banks could do much more through their digital leg of banking. Contrary to this, banks have not been able to roll out meaningful digital financial services to improve Pakistan’s financial inclusion statistics. 

The State Bank has since been gunning to pave inroads for new age banking players such as fintech startups and introduced different regulatory regimes. The regulatory framework for electronic money institution (EMI) licences was announced in 2019. Earlier, the PSO/PSP licences were introduced and in January 2021, the central bank itself launched Pakistan’s first instant payment system RAAST. In the beginning of 2022, the regulatory framework for digital banks was announced and by March, the State Bank received as many as 20 applications from leading banks such as HBL, UBL, Alfalah and JS, microfinance banks, domestic fintech companies, foreign fintech companies and large business groups that formed a consortium with partners that know banking.   

The prime objectives of the central bank with regards to digital banks are to promote financial inclusion and improve access to credit for unserved and underserved segments, affordability of digital financial services, new financial technologies and innovation, fostering new set of customer experience and developing the digital ecosystem. The framework allowed two types of licences: digital retail bank (DRB) and digital full bank (DFB). 

DRBs would cater to the retail segment like individual customers and small and medium businesses, whereas DFBs may deal with corporate, commercial and retail customers. Both licences were open to existing banks, international fintech companies and domestic ones such as EMIs, and business groups with a fintech or banking partner. As per the requirement by the central bank, DRBs are required to have minimum capital of Rs1.5 billion at the time of pilot, Rs2 billion at commercial launch, Rs2.5 billion in the first year after commercial launch, Rs3 billion in the second year and Rs4 billion in the third year. 

Likewise, DFBs, which can target corporate customers, need a minimum capital of Rs6.5 billion at pilot stage, Rs8 billion in the first year after commercial launch and Rs10 billion in the second year. In this backdrop, the central bank evaluated the 20 applicants on various parameters that included fitness and propriety, experience and financial strength; business plan; implementation plan; funding and capital plan; IT and cybersecurity strategy and outsourcing arrangements, etc. “Further, all the applicants were given the opportunity to present their business case to SBP,” the central bank said.  

After an exhaustive process lasting a little less than 10 months that involved presentations after presentations by applicants, interviews, lobbying and deliberations by the committee at the SBP that decided these licences, the central bank announced names that got the NOC to set up five digital banks. These names are EasyPaisa, KT Bank, Hugo Bank, Raqami and Mashreq Bank. The State Bank is yet to confirm to Profit how many of these, and which ones, are setting up digital retail banks (DRB) and which ones would be digital full banks (DFB). 

The understanding in the industry is that all five of these applicants would be setting up DRBs and according to a senior source in the industry, two out of these five would be setting up Islamic banking operations, meaning they will be Shariah compliant, while three of them would be conventional. 

There is excitement surrounding the announcement and there is also nervousness. It could lead to something meaningful that would change the financial services industry for good or it could be a miss of epic proportions. We don’t know that yet. But what we do have now are five names and what each of them is capable of doing in this space.

EasyPaisa  

The first in line is EasyPaisa, a mobile wallet which leverages a network of branchless banking agents by virtue of being a subsidiary of Telenor Bank to provide financial services to the unserved and underserved segments. EasyPaisa is backed by telco Telenor and Chinese Ant Financial, which owns the biggest fintech in the world AliPay.  

But things have not been great at Telenor Bank and EasyPaisa. The microfinance that owns EasyPaisa has been running losses. Telenor Bank’s accumulated losses stood at a whopping Rs44 billion by end of the third quarter of 2022. The bank received an equity injection of $30 million, of which $15 million is expected to be received in November 2022 and the remaining in 2023.

One of its main sponsors, Telenor Group, has recently been looking to sell its stake in Telenor Bank, after patiently supporting it throughout difficult times. 

In fact, banks like MCB Bank had been in the process of conducting due diligence of Telenor Bank to buy Telenor’s stake. So what could have possibly led to the regulator being considerate towards EasyPaisa for the licence? While the SBP has refused to comment on what were the considerations behind granting a NOC to individual applicants, some considerations are obvious. Firstly, EasyPaisa by all counts is a big success story in financial services and has managed to substantially increase financial inclusion in the country — the core objective of the digital banks.  

Secondly, from a regulator’s perspective, it would not look nice if, after Telenor, Ant Financial at some point in future also mulls selling its shares and exiting Pakistan because of the big losses in the past. Ant Financial is part of the Chinese AliBaba Group and according to a source in the industry, EasyPaisa sponsors including Ant have brought in about $300 million FDI into Pakistan for EasyPaisa operations. Letting a company like Ant exit Pakistan does not augur well for Pakistan.  

From a Telenor Bank/EasyPaisa and Ant Financial’s perspective, they already have the use cases for individuals and micro and small businesses. And if the limitations of the microfinance bank are removed by acquiring a digital bank licence, losses can be controlled.  

For instance, to comply with the regulatory requirements of the digital bank licence, Telenor Bank, which has 56 branches across the country, would be bringing it down to 25 branches, the maximum number of branches a digital bank is allowed to operate, and eventually shutting down all branches after a period of three years.  

Under the microfinance bank licence, the regulations require operating branches which increases costs. “Under the microfinance bank regulations, if an entity is giving out a loan to someone at a particular location, there needs to be a branch within a 50-kilometre radius of that location,” Mudassar Aqil, the CEO of Telenor Bank and EasyPaisa tells Profit. 

In fact, Mudassar cites the limitation with respect to operating a minimum number of physical branches which is removed by a digital bank licence as one of the key reasons why EasyPaisa required the digital bank licence. The digital bank licence further removes limitations with regard to the size of loans that can be disbursed which can improve the topline.

All this makes a compelling case for Ant Financial to double down on EasyPaisa with a $35 million commitment (the minimum capital requirement for five years) and for the regulator to give them the licence and keep Ant Financial in Pakistan. 

So now that they have got the NOC to set up a digital bank, what does EasyPaisa plan to do with it? Mudassar Aqil says that for all practical purposes, EasyPaisa had been operating as a digital bank before but under a microfinance licence. Payments, lending, and all of it can be done on the EasyPaisa app. They operate a wallet and could lend to individuals and small businesses but with some limitations.  

So the first step would be the conversion from the microfinance licence of Telenor Bank to the digital bank licence. “In the second phase, the use cases that will be developed and besides ones that we have now, would be targeting freelancers and small businesses,” says Mudassar Aqil. 

“In the case of individual customers, there is a lot of scope for innovative products and there are many exciting things that we are working on,” Mudassar said, without divulging specific details. “RAAST QR is going to be a big opportunity, we will leverage that. We will also leverage our relationship with retail merchants. And then we will build a value proposition of credit in this. This is one area we are specifically looking at.” 

EasyPaisa’s plans also include launching, if regulations allow, fractional gold saving products for women. The fractional gold-saving product will allow women that can not buy expensive gold products in one go, to invest fractional amounts, say Rs100 each day, in gold. Furthermore, through its app, EasyPaisa plans to enable opening of accounts with asset management companies without any paperwork. 

EasyPaisa would be setting up a digital retail bank (DRB). Mudassar says they are squarely focused on small and medium enterprises, where the gap in financial services exists so conversion to a digital full bank licence might not be the way to go for EasyPaisa. Further, Mudassar confirmed that their operations have been conventional and would remain the same under the digital bank licence, while they could consider opening window operations for Islamic services in the future. 

While we are at it, EasyPaisa’s competitor, JazzCash, was also one of the applicants for a digital bank licence but couldn’t get it despite strong credentials such as in the fields of experience in financial services, strong backers in Veon and promotion of financial inclusion in the country. 

So why couldn’t JazzCash cut it for the licence? Multiple sources in the industry said that it could be because JazzCash is owned by a telco, Jazz, and works with Mobilink Microfinance Bank as a partner. Meanwhile EasyPaisa is owned by a microfinance bank. Being owned by a telco comes with its baggage of interests of the telco superseding that of fintech. Whereas in the case of a bank, the interests are aligned. 

Aamir Ibrahim, the CEO of Jazz, did not comment on specific reasons why JazzCash was not able to get the licence while EasyPaisa was, when contacted by Profit. He, however, did feel the process was not fair, without giving any specific details. Nonetheless, Aamir is ready to move on and his team at Jazz also conveyed to Profit that they have accepted the State Bank’s decision because the digital banks regime is bigger than Jazz or any individual company. 

“We welcome the new entrants & hope that collectively we can pave the way for greater financial inclusion & build the digital banking & payments ecosystem,” wrote Aamir Ibrahim on Twitter on January 14. 

KT Bank

The second in the list is KT Bank which is going to be set up by a consortium of three companies. The first of these consortium allies is Kuda Technologies which operates and owns Kuda Bank operational in the UK and Nigeria, and which has grown to become the biggest fintech company in the country with nearly 5 million customers. Kuda Bank was valued at $550 million in their last funding round in August 2021. Its money app allows payments, savings and investment options and the bank lends through Kuda Microfinance Bank 

The other partner is Pakistan’s Fatima Fertilizer, and The City School being the third equity partner. KT Bank could have a strong use case in agri-financing. In fact, access to credit in agriculture is one of the areas the SBP has been focused on and government owned banks such as Zarai Taraqiati Bank, tasked to improve agricultural financing, have not been able to live up to the promise. 

Fatima Fertilisers, which is part of one of the biggest industrial conglomerates in the country, has excellent exposure to farmers and their financial requirements. According to a high-ranking official at one of the fintech companies that we spoke to, the problem of reliable data is solved in agriculture through partners like Fatima Fertilisers. “They know how much fertiliser is needed per acre, they know the purchase cycles and there is the ready availability of documents of land ownership for lending purposes.”

Fatima Group has for some time been interested in buying a bank. They were one of the bidders for acquiring Samba Bank. And tried to acquire it through the EMI TAG that Fatima Ventures was an investor in. Wallet operations of the digital bank could be used for disbursing salaries of thousands of employees of Fatima Group as well as the City School, besides making payments to vendors and farmers in the case of Fatima Group. 

The team at Kuda Technologies had a busy schedule and couldn’t take out the time for an interview until the publication of this article, for a more comprehensive view on their plans for Pakistan.  

Hugo Bank 

Hugo Bank is also going to be set up by a consortium of three companies: Getz Bros, Atlas Consolidated, and M&P. Getz Bros is primarily in the business of distribution of pharmaceuticals, agricultural, biomedical, technical and consumer products. 

Atlas Consolidated on the other hand owns Singaporean fintech company HugoSave, which is a digital bank in Singapore that offers saving, spending and investment options. M&P (Mueller & Phipps) is a logistics company involved in the business of courier and COD deliveries. 

Kamran Nishat, the CEO of M&P, did not respond to Profit’s request for an interview for a comprehensive view on what the digital bank licence means for them. According to sources in the industry, M&P had earlier been deliberating about getting an electronic money institution (EMI) licence but chose not to because EMIs, because they can not lend directly, would have a problem generating profits. 

M&P is actually one of the biggest partners of EasyPaisa through its branches which act as agents for EasyPaisa. These branches could be turned into bank branches of its own under the digital bank licence, from where cash-in and cash-out could be done, as well as places where loans could be obtained. Further, they could get into the business of COD financing and pay merchants upfront for COD orders.  

Mashreq Bank 

Mashreq Bank is one of the largest conventional banks in the Middle East and also has a brick-and-mortar presence in Pakistan. Mashreq Bank’s digital bank offerings in the middle east include specialised banking solutions for startups and SMEs, and calls itself the “Best Digital Bank” in the MiddleEast. 

A financial services industry expert, with tonnes of experience, in background conversations with Profit, said that Mashreq Bank is a success story in the UAE. “The State Bank wanted new people, new players and new technologies coming in the financial services sector. Mashreq Bank fits that criteria.” 

“Digital Banks are a $250-300 million dollar game. Its not a $10 or $20 million dollar game. Initial capital may be $25 million but this is not where it is going to end so you need to have deep pockets to be a bank,” he says. “Mashreq Bank fits the bill of deep pockets, Mashreq Bank fits the bill of innovation they are going to bring, fits the bill of expertise in financial services.” 

Mashreq Bank is the oldest private bank in the MiddleEast, having been founded in 1967. Its founder, Abdul Aziz Ghurair, sits on a multibillion dollar fortune according to Forbes and the bank is majority owned by the Ghurair family – one of the richest families in the MiddleEast – through two different investment firms.   

On the technology side, “Mashreq has been investing in technology and has been known for its innovation in this market for a good 50 years,” said Subroto Som, former head of Retail Banking Group for Mashreq Bank in an interview. “We were the first ones to bring a digital only bank for retail called neo. We are the first to bring a digital only bank for the small businesses called NeoBiz.” 

“NeoBiz is initially aimed at startups and small businesses. We have a large number of them coming to life in the UAE. And they particularly find it very difficult to open a bank account for their financial transactions. They have to visit a branch multiple times and it could take anywhere between three days to 25 days to open an account,” says Som. 

“With NeoBiz, you don’t need to visit a branch and it could be open within a day or at max three days. Once an account is opened, for all your transactions, the app NeoBiz is sufficient.” 

Pakistan has now an estimated 800 or more startups. And they could make use of a digital banking platform like NeoBiz in Pakistan. According to the CEO of a leading fintech company in Pakistan, what Mashreq Bank could do in the MiddleEast might not be replicated easily in the Pakistani market. “Think of NeoBiz as being a product for the developed world, while Pakistan belongs to the developing world,” he says. “For Pakistan, they might have to come up with different offerings.”  

Mashreq Bank did not respond to Profit’s request for an interview to understand their plans for a digital bank in Pakistan. .  

Raqami  

Being set up by a consortium of two Kuwaiti companies, Raqami – derived from Urdu word Raqam (money) – is the fifth applicant which received the central bank’s blessings to start a digital bank. The group behind Raqami comprises the oldest and one of the world’s biggest sovereign wealth funds, the Kuwait Investment Authority through Pakistan-based Pak-Kuwait Investment Company (PKIC). KIA has $738 billion in assets under management. The other equity partner is also a Kuwait-based company, Enertech Holding Co. which is a developer, investor and operator in the energy sector.  

What is different at Raqmi is that none of the companies that will be setting up the consortium have experience running a financial services institution, unlike all of the other companies that have been granted a licence. What they do have is extraordinary financial heft. But how was that enough to set-up the bank?

The State Bank regulations with regards to digital banks allows a person savvy in financial services and financial technologies to set up a digital bank, preferably with equity partners. That person in this case is none other than Nadeem Hussain, a financial services industry veteran.  

To Nadeem’s credit is the creation of Tameer Microfinance Bank (now Telenor Bank) and EasyPaisa. As his brainchild, Easypaisa put itself on the map and the ship was steered by Nadeem until he successfully (and lucratively) exited after Ant Financial came in. Today, the success of EasyPaisa is presented as a case study at leading business schools like INSEAD and at international development organisations like International Finance Corporations. Nadeem Hussain is also the founder of Planet N, a technology focused investment firm, and sits on the board of Planet N portfolio startups in Pakistan. In fact in June 2021, PKIC invested $3 million into Planet N to boost investments in startups.  

Nadeem’s credentials are nothing short of stellar which should certainly qualify him to set up a digital bank. He has, however, faced a conflict of interest situation because in July of 2022, the president of Pakistan appointed 10 members to the board of the State Bank. One of the persons appointed to the board was Nadeem Hussain, raising a natural conflict of interest in his appointment because of his interest in Planet N which has investments in fintech companies and because he was one of the applicants for a digital bank licence.  Nadeem resigned from the position on January 11 citing the same conflict of interest. 

“The Central Bank Board is not part of the Licencing awarding process.  It’s is entirely a management decision. In fact they came to know about the successful applicants when it became public knowledge,” Nadeem told Profit. 

Now that Raqami has successfully received the licence, what does it plan to do? Firstly, Raqami is going to be a Shariah compliant digital retail bank (DRB) which will be setting up its Shariah board soon. Secondly, it would be focusing on creating use cases for providing access to finance to kiryana merchants.  

“We are a lending bank. We will be lending to SMEs, to agriculture. We will be leading in lending, not in payments. Payments is also important but we will be prioritising lending,” says Nadeem Hussain, who is the executive director of Raqami and would serve as the CEO of Raqami for the first two years. “We will be doing data-based lending instead of collateral-based lending.”  

Raqami would also be focused on open banking, allowing any player in the industry to connect with Raqami through APIs. “Startups for instance, if they want to lend and have data, we would open our platform to them,” says Nadeem. 

Having spent so much time in the financial services industry, Nadeem has developed this optimism that anything can be done in the financial services industry if the use cases are thought out ingeniously. In that, he counts customer journeys as being very important. 

“Why would someone want to open an account with me if I am giving the same customer journey as a commercial bank?”   

A main point of pessimism surrounding digital banks is that the wealthy customers are all captured by conventional banks, leaving a population that is relatively very less wealthy for digital banks to be able to accumulate healthy deposits. Nadeem has that confidence that it can be done, citing the example of EasyPaisa that today boasts deposits worth Rs 32 billion and millions in transactions. “EasyPaisa successfully increased their deposits because their use case targets the unserved and underserved. It all depends on what you offer,” says Nadeem. 

 Why possibly banks and other fintech companies could not get it 

Industry officials and central bank sources are all united on one point: existing commercial banks do not need digital banking licences. There is nothing that a digital banking licence would allow them to do that they cannot already do with their current full banking licences. One of the industry sources also said that all the banks that applied would have been qualified to get the DRB licence and deciding which one should get it would have been a problem. And if one of them got it, it would not be okay with the other banks.  

But perhaps the most important point in why banks possibly could not get a licence, according to an industry expert, is that the banks could have possibly used the licence to expand their existing portfolios instead of creating new ones, thus limiting the possibilities and affecting SBP’s objectives with regards to digital banks and giving sense that the banks planned to use this licence to remove one competitor from the list. On the other hand, new companies would have made a better use of the licence by incorporating new technologies and creating products and that would actually target the unserved and underserved segments of the population.  

Banks have long been complaining that because of their legacy operations, they don’t have the DNA for digital financial services at their respective banks and through the digital bank licence, they could set up an all digital entity to fix the issue. This explanation falls short of being rational. Because the non-existence of the digital DNA is a bank issue which should be fixed within the bank, and the central bank should not bear any responsibility of fixing it. 

On the other hand, some of the fintech companies in Pakistan are relatively new and might not have the required experience in delivering digital financial services in the Pakistani market. For instance all the EMIs are less than two years old. While the regulations allow the EMIs to convert to a digital bank licence if they have a minimum one year experience of delivering digital financial services, the regulations say that the SBP may advise them to have “an extended period of experience if the EMI’s performance is not considered satisfactory by the SBP.  

Nigerian fintech company OPay, for example, was not able to get SBP’s approval to set up a digital bank despite having the backing of SoftBank and Sequoia Capital because, according to a source at the company, they are relatively new in Pakistan and haven’t been able to deliver satisfactory performance on their current business of PoS acquiring. Secondly, the Nigerian fintech company seems to have a lack of commitment to the digital bank regime and is actually scrambling to get its hands on any licence. 

OPay is seeking a PSO/PSP licence, and EMI licence and at the same time it is gunning to buy a microfinance bank. “To top it off, one of OPay’s subsidiaries, SeedCred, has recently attracted negative press and attention on social media for its nano lending operations which are considered exploitative,” the source said. 

SeedCred has recently been making highlights because of the deceptive marketing, predatory rates and aggressive recovery tactics through their app Barwaqt. One of the most hyped international fintech companies that was an applicant for the digital bank licence, South Africa-based Tyme Bank, which has all the required credentials to set up a digital bank in Pakistan, reportedly could not get the licence because of their requirements of banking on cloud for which regulations did not exist. The situation here gets more complicated.  

You see the rumour mill has been churning some interesting stuff. That the State Bank might be announcing two more digital bank licences soon, increasing the number from five to seven. One of these would be given to Tyme Bank while the other to DBank of former SAPM Tania Aidrus. The speculation gets stronger that the central bank might be announcing two more licences because the SBP has announced a framework for banking on cloud, which hints at an arrangement for accommodating Tyme Bank for a licence. 

Why cloud? Because banks and fintech companies face issues with scaling due to lack of adequate infrastructure to support computing functions. With cloud, financial institutions can move their computing functions and data to domestic or international cloud service providers for improved services. 

The State Bank has not officially confirmed or denied if two more NOCs are on the cards. .  

What next?

None of this means that all the candidates that have been granted NOC will be able to set up digital banks successfully if the SBP is not satisfied with what’s to come. The next step of the process requires setting up an unlisted public limited company – all SBP regulated entities are set up as public unlisted companies – with the Securities and Exchange Commission of Pakistan (SECP) within a time period of six months. After this, the applicants would be applying for an in-principle approval of the State Bank, followed by pilot operations, leading to the commercial launch. If at any point in time, the State Bank is not satisfied with the operations of these banks, the SBP could increase the time for pilot operations or revoke it altogether, in case of any serious breach of rules.

Editor’s note: An earlier version of this article erroneously mentioned that Ant Financial was trying to sell its stake in Telenor Bank when it was actually Telenor Group that was trying to sell its stake in the bank. The error is regretted.