Given the impact the conflict between Russia and Ukraine is having on distant global markets, one would have thought that the countries in the neighbourhood would have become economic wastelands. Not so.
The bank, which listed in May 2018, has offered a year-to-date return of 0.96%, and a one-year return of 1.81%, contrasted with a year-to-date return for the FTSE250 index overall of -15.8% and a one-year return of -17.04%
Bank of Georgia’s shares have ranged from 960p to 1,734p over 52-weeks, closing yesterday (8th August) at 1,684p. The bank has a market capitalisation of GBP823m and offered an earnings-per-share of 15.22p
Given the local conditions – Georgia shares an 894km de jure border with Russia – and the backdrop of general economic malaise, this is quite remarkable.
Beneficiary of chaos
“Georgia has benefitted from a distortion in the markets,” explained Michael Oliver, adviser to the CEO, Bank of Georgia Group PLC, “…it’s a transportation, trade and logistics hub in the Caucasus – part of the old Silk Road. As the northern route [through Russia] has closed, and there are ongoing issues in the Black Sea, trade is now taking the Georgia route.”
“Our ports, railways and highways are operating at full capacity,” Oliver added.
Oliver explained that although Georgia was still a developing market, it was very modern, technologically-savvy and characterised by and young, outward-looking, entrepreneurial culture. Domestic growth was primarily driven by SMEs, and the country was a natural way point between the manufacturing nations of Asia, and the consumer nations of Europe.
There have been issues with Russia in the past. In 2008 there was a 12-day war between Russia and Georgia, which resulted in Russia annexing Abkhazia and South Ossetia in the South Caucasus. Oliver said: “Russia got what it wanted in 2008, and since then has largely left Georgia alone.”
In the current conflict, “Georgia has been keeping its head down; which is quite pragmatic and prudent,” said Oliver.
The relationship between Russia and Georgia is a strange one. It has its tensions, but Russians and Georgians generally get along. “Georgians are not ethnically Slavs – so Russia can’t use the same nationalistic argument it has used in Ukraine to promote its ambitions,” said Oliver.
In fact, since the coronavirus pandemic, around 100,000 Russians have relocated to Georgia, as the country has a pleasant climate, is very beautiful and is an attractive business destination. The émigrés are generally young entrepreneurs, often working in IT and technology, and have been a welcome addition to Georgia’s already youthful, educated and modern workforce explained Oliver.
Overall, the geo-political risk in Georgia is benign. James Hamilton, an analyst at Numis, which covers Bank of Georgia said: ““Georgian geopolitical risk is a key aspect of the equity debate for Bank of Georgia. However, we believe this risk has diminished given how events have unfolded in Ukraine, something reflected in the currency markets with the lari strengthening against the dollar by some 13% this year.”
Oliver added: “You’d be hard pushed to fund a currency that has performed better against the dollar than the [Georgian] lari.”
Hamilton continued: “The length and outcome of the war in Ukraine is clearly uncertain, but the strength of sanctions and Western support (militarily and otherwise) for Ukraine, make it less likely in our view that Russia would subsequently look to engage with Georgia.”
“We’re not seeing the effects of a potential global recession coming through in Georgia,” said Oliver: “there won’t be a recession in Georgia like there is likely to be in the rest of Europe – instead we are expecting high single, to low double-digit growth in the economy, following 10% growth last year.”
Bank of Georgia shows high profitability
The banking sector in Georgia accounts for most of the financial sector and is large relative to the whole economy, according to the Black Sea Trade & Development Bank (BSTDB). Despite the pandemic crisis, the sector remains healthy and maintains large capital and liquidity buffers, while NPLs remain at low levels.
In addition, banks’ large loan loss provisioning enables the sector to withstand potential deterioration in asset quality. As a result, possible extension of the pandemic and the economic challenges related to it will not have a material impact on financial health. The biggest challenge of the banking sector in Georgia is dollarization that has been declining for the last five years but remains at a relatively high level.
Commercial banks play a major role in the financial sector in Georgia as they hold 95% of total financial sector assets, the highest level among BSTDB member countries. The banking sector in Georgia is relatively large with total assets amounting to 115% of GDP as of the end of 2020. Assets mostly consist of loans, amounting to 77% of 2020 GDP. The volume of loans relative to the size of the economy in Georgia is one of the highest among the BSTDB member countries. Deposits are the main source of funding for the banking sector as they amount to 67% of total liabilities. More than half of deposits are collected from the retail sector, which is a more stable source of funding.
Borrowed funds are also an important source of funding as they account for 23% of total liabilities.
Fifteen banks operate in Georgia; 13 of them are foreign-owned. “To all intents and purposes, the Georgian banking sector is duopoly, comprising of TBC Bank and Bank of Georgia” said Oliver, “but with TBC looking at cross-border expansion [into the former-Soviet republics], especially Uzbekistan, we are the primary domestic-player – and as such can give the best exposure to the growth of the Georgian economy.”
The banks in Georgia are very well regulated – up to EU standards in terms of Basel III compliance. “Bank of Georgia has a very conservative risk profile. Georgia saw non-performing loans (NPLs) nudge up a bit during the coronavirus pandemic, but the Central Bank instituted a up-front provisioning across the sector to deal with the increased NPL risk. Since 2020 we’ve seen economic recovery coming through strongly. We still have a priced-in 100 basis points (bps) to 120bps to deal with NPL risk, but NPLs are actually running lower than anticipated.”
According to BSTDB, the Georgian banking sector has the lowest level of NPLs among BSTDB member countries and among the lowest in the wider region. NPLs have been low for many years and by the end of 2020, they accounted for only 2% of total gross loans. Due to the subsidies introduced by the government to the sectors most hit by the pandemic and banks’ moratoria decisions on debt service, the full impact of the pandemic is not yet reflected in the actual NPLs. To address the potential worsening of loan quality stemming from the current slowdown of economic activity, banks increased loan loss provisioning considerably in early 2020. As a result, the current volume of provisions is well above the actual level of NPLs. Hence, even a significant worsening of the credit portfolio could be absorbed before having material impact on banks’ profitability and capital positions.
Georgia has a strong repayment culture, explained Oliver, and a strong regulatory environment. The Bank of Georgia has delivered +15% growth, with a return-on-equity of 20%. The banking sector in Georgia has been growing rapidly over the last four years, with both deposit and loan growth rates at double digit levels.
Before the pandemic, loans were growing on average at around 17% in annual terms. Since the pandemic, however, the growth rate slowed and by the end of 2020, it was down to 9%. Deposits, on the other hand, grew rapidly in 2020, accelerating markedly in the second half of the year; by the end of 2020 deposit growth reached 21%. Growth in local currency deposits was particularly pronounced as the annual growth rate reached 41% by the end of the year.
Oliver said that Bank of Georgia was focussed on retail and corporate customers, leaving infrastructure investment to international development banks and multilaterals. The bank was already currently comfortably above the Basel III requirement being introduced by the Central Bank.
“A large proportion of our loans are fully-collateralised…” said Oliver, “…more so than you see in the West.”
Ronak Gadhia, an analyst for EFG Hermes, covering Bank of Georgia said: “Bank of Georgia is one of the two largest banks in Georgia with a loans and deposits market share of 36.4% and 35.5% as of FY21. The bank’s ROE rebounded from 12.5% in FY20 to 25.8% in FY21 driven by a decline in the cost of risk, strong loan and fee income growth. We forecast the ROE to remain elevated at 24.2% in FY22 as the cost of risk is still below the normalised range, fee income growth remains robust due to the bank’s digitation initiatives and margin expansion due to sector wide increase in asset yields. In the medium term, we forecast the ROE to decline to 21.4% by FY26 driven by normalisation of cost of risk and decline in financial leverage.”
“Overall, given our average ROE forecast of 21.9% over FY21-26e, we maintain our positive outlook on the bank, especially after the recent valuation de-rating,” Gadhia said.
EFG Hermes maintains a ‘Buy’ rating with a target price of 2,970p; Numis has a ‘Buy’ rating, with a target price of 4,016p; and Peel Hunt has a ‘Buy’ rating with a target price of 2,287p.
Oliver reiterated: “We have no state-ownership; we have no oligarch-ownership; we have no family-ownership; we are 100% owned by western financial institutions.”
Bank of Georgia makes a compelling case for investment, giving exposure to a rapidly developing market on the fringe of Europe with excellent upside potential, but through a London-listing owned by institutional investors.