An interview with Muhammad Aurangzeb, President & CEO - HBL 'We have to be a tech company with a banking licence'

Muhammad Aurangzeb joined HBL on April 30, 2018 as the President & CEO. Before joining HBL, Mr. Aurangzeb was the CEO for JP Morgan's Global Corporate Bank based in Asia, with a rich international banking experience of over 30 years in other senior management roles at ABN AMRO and RBS based in Amsterdam and Singapore.

Aurangzeb is the only Pakistani to be invited to the exclusive membership of the Global CEO Council organized by WSJ / DowJones group, and has been elected as the Chairman of the Pakistan Banks Association and Director of the Pakistan Business Council. Mr. Aurangzeb received his BS and MBA degrees from The Wharton School (University of Pennsylvania).

In his conversation with BR Research, Mr. Aurangzeb talked in depth about the macroeconomic situation in the country, financial inclusion and documentation, and HBL's plans for digitization. Following are the edited excerpts of the conversation:

BR Research: What is your view of the economy in the last one year or so, and what is your outlook?

Muhammad Aurangzeb: On the economic front, we are at the early stages of economic stabilization program. Things are looking up on the external account front to a certain extent: remittances have held their position; exports from the quantum perspective have increased; imports have come down. The balance of payment position has improved and the government has been able to access capital markets.

HBL has been mandated along with Citi and CICC to have the inaugural sovereign Panda issue to access Chinese markets. Then there are some of the privatization proceeds especially on the LNG side that are expected to come in. The BoP and hence the current account situation appears to be in the right place, which is reflected in the currency as well. Growth should start coming back from next year, and a lot will depend on the fiscal side which is a tough nut to crack.

BRR: What’s your view on the interest rates?

MA: There has been some respite in the inflationary momentum. And there has been a clear indication from the central bank in its monetary policy announcements that the rates have peaked out. International oil prices are behaving and the currency is stable. These factors should reduce the inflationary pressures going forward. The discussion now is when will there be a rate cut and by what quantum. One thing I would like to highlight is that we are too early in a stabilization program, and I don’t see a major reduction in the rate structure in this fiscal year.

BRR: Can there be a token reduction?

MA: Yes, a token reduction of 25 to 50 bps is something that might come by in my view. Can there be a step reduction? Not in this fiscal year at least.

BRR: How much is the rising interest rate environment affecting your NPLs?

MA: There clearly is stress which is developing on the portfolio. This is natural. But there are no alarm bells ringing. We know the sectors that are affected like cement, auto, steel rerolling etc. but I don’t see a huge ballooning of NPLs. I think it is manageable at this stage, especially if the banks work jointly with the clients, restructure where willingness is there. The banks will have to take a more proactive view of the client rather than a reactive strategy adoption.

BRR: What is your view of the currency?

MA: The currency has strengthened by 2-3 percent recently on alternate basis, and exporters have been selling forward. As long as the balance of payment position is stable, the currency would be stable. There could be a natural 5-7 percent depreciation, but certainly not a steep change in this fiscal year.  The State Bank has done a very good job in terms of managing the inflows and outflows and allowing the banks to use their net open positions to do the necessary procurements, which has helped the currency to move towards market-based mechanism.

BRR: There exists a criticism that Pakistan should first have gone for Panda bonds, build yield curve there and then go for Eurobonds and get better prices. What is your view?

MA: My view is that we already have benchmarks for Eurobonds and Sukuks. Secondly, most of the central banks including Fed have gone into monetary easing; so there exists liquidity and investors are actually looking for yield. Also, it makes ample sense for Pakistan to access the Chinese capital markets for diversification. So in my view, the timing is on point as we might get a very good investor appetite and good prices in the next 4-6 weeks, before investors start closing the window, which is about Christmas time.

BRR: How much do you think we would be able to fetch from Eurobonds and Sukuk?

MA: Getting something below $500-600million doesn’t make sense. I would be surprised if it’s something under $1-2 billion.

BRR: Now that the Fed rates are coming down and the two percent interest differential is becoming more lucrative for Pakistan. How much money do you see coming in? There is this perceived risk of foreign portfolio investment as hot money by many market players. How do you see that?

MA: Much like the institutional inflows on the equity side, I see no reason why the fixed income of the debt side should not be tapped for the fixed income investors. What we have heard is around $350-400 million in the country. It can and should go up because there is enough differential as an incentive. One of the issues that was being discussed between SBP and the FBR was more on the taxation aspect than the interest differential side.

My own view is that there will be more institutional inflows as there certainly is interest. However, we are in early stages and $350-400 million is a small amount. We could increase this by attracting investors with not only bigger amounts but also longer tenures. And with the current monetary easing around the central banks, we should be able to attract more money around the current interest differential.

BRR: Assuming that a big inflow of $4-5 billion comes into the country in the next 12-18 months, the market concern is that the capital market is not ready to absorb this kind of a shock. What is your take on it and how useful do you think this would be in the formation of the capital markets?

MA: Even without the institutional inflows, I believe that the capital markets in general need a real fillip in Pakistan. Capital markets, especially the debt capital market has taken a reverse gear in the last few years. When I left the country in early 2000s, we were talking of not only the institutional bonds for WAPDA but also retail bonds. However, for various reasons including the liquidity which was available with banks, the reliance for bank capital and financing has become huge.

We need debt capital market as diversification of asset class for long-term investments. If we are able to develop the debt market along with the long term yield curve, the banks will be able to deploy their capital and increase the velocity of their capital. The depth and the liquidity are just not there today.

To answer your question whether we would be able to manage the institutional inflow, I don’t know. I personally think that it should be manageable. But we should also look at it in the context of developing not only the international but also the domestic capital markets.

BRR: Could you elaborate on how we could develop the domestic debt capital market?

MA: We need to work with SECP closely in terms of some changes in rules and regulations. We need to create an appetite in the investor base; and work with SBP in developing certain relaxations around SPV structure etc. At this point in time, HBL is in an advanced stage of moving towards securitization and at least launching the first tranche in the next two to three months.

BRR: Coming to the real problem at hand, what issue on the fiscal side is most excruciating?

MA: The most obvious one is documentation and expanding the tax base. The 8-9 percent tax to GDP ratio is simply not sustainable. The addition of 500,000 taxpayers is a good sign, but we need much more to hit the 15-16 percent tax to GDP ratio. From our perspective, the government should stay the course – this short term pain is absolutely required to get out of the rut. It is not just us but many emerging economies that are in this mess of twin deficit that need to be structurally fixed. The government is trying very hard and we fully back them up.

BRR: But efforts for documentation have actually resulted in money going out rather than coming in. How can this be fixed in your opinion?

MA: That’s a tough one. I think the only thing is to stay firm and stay the course, but I also think phasing it in is important because trying to do things overnight has had reverse impact. There should be no question on what is the objective and why it is needed; how it is done is what should be worked upon including communication and sitting down with the stakeholders and tax experts.

BRR: Financial inclusion is very low in the country and it needs to be increased for various reasons. What is HBL’s plan in the next three to five years for digitization and financial inclusion?

MA: Technology is a clear priority for us. We have to start thinking like a technology company with a banking license. Why I emphasize on this is the huge chunk of unserved or undeserved population. The answer is not in brick and mortar setup. That is why we launched Konnect by HBL back in August 2018, which in some sense is like Easypaisa and Jazzcash. We now have around 49,000 agents and the account opening can be done digitally or through these agents.

Since its launch, we have been able to acquire additional 3.4 million accounts where 25 percent of these new accounts are owned by women. Compare that to around 50 million bank accounts in the country with 10-12 percent owned by women. This is financial inclusion of underserved and unserved population that either belongs to low income group or doesn’t have physical access to banking network.

Then other chunk of the population that I also believe is underserved and unserved is the millennials. We have been testing the financial inclusion of the youth bulge by launching earlier this year the asset side of our balance sheet on our app. You can apply for small loans from Rs50,000 to Rs500,000 through our mobile application if you fall in the target age segment of the population and we get back to you within two to three hours and your account is credited in 24 hours. We have roughly around 11,000 customers and have disbursed over Rs1.5 billion. Since we were doing the asset side, we thought why not try the credit cards. We launched that on our app six weeks back, and we have received 5000-6000 applications so far, where 75 percent of those are in the age bracket of 25-35 years.

In one year with these efforts, we have come from 12 million account holders to 15.5 million. Our own view is that we will continue to growth by 2-3 million per year. The other thing I want to mention is that we have signed with Dr Sania Nishtar, the BISP mandate where we will be disbursing the government’s support funds to roughly around 6 million people. Now the idea is to take it digital through ATMs, debit cards as it will benefit us in reducing costs and the government in mitigating the element of fraud to a big extent. This will help us cross 20 million clients by next year. These efforts in financial inclusion will help us go towards 50 million client base over the next 4-5 years. The key thing that will mainstream technology into our bank is our data strategy. It is all about big data and how we harness that data both on the origination side and the risk mitigation side. We have invested in the infrastructure; the data governance is in place; and now we are training a team of data scientists through an AI firm based out of Singapore. The set of reports which will start coming through will help us in ATM cash optimality, support for analytics for the anti-money laundering threshold, predictive modeling etc.

The SBP has recently announced the National Payment Systems Strategy which was all about digitization, and I have no doubt that in the next three to four years this payment business is going to commoditize, and the value of a bank would be at the prepayment space or the post payment space. What should be wakeup call for the banks here is the entry of Ant Financial and Ali Baba in Pakistan. I say this because China has the second largest economy in the world and the largest banks in the world starting with ICBC, while 90 percent of the payment business in China is outside the banking industry. So I am very clear and so is our board that we have to go with a real sense of urgency around this digitization process.

BRR: What are you doing on the agriculture financing side?

MA: Agriculture is roughly 19 percent of the GDP today while the sector only has a 5 percent share in credit outlay. In that HBL has a 20 percent market share in agriculture financing, which is pretty good, but the reality is that we have a long way to go. And the country has a long way to go. What we are now trying to do is bring technology in this segment as well. There are quite a few things happening. Since the beginning of the year, we have become the first bank to integrate our systems with Punjab Land Records Authority, which will give access to the land title document through the system that used to take days for farmers to access. We have also started using farm applications where we have started geotagging the farms, which gives us information about the farmer as well as the crop evolution. This helps us in risk mitigation. We have to focus on capacity creation, not just financing.

Outside technology, we are the first one to have gone into warehouse receipt financing where we have started off with wheat. The benefit of this is that the crop will becomes an asset class itself. The farmer benefits from the ease in liquidity as they are able to sell when the price is right, plus they have the comfort that they have the accredited warehouse receipt. And in my view all this should help in increasing the agriculture financing in the country.

But here I would like to add that we need to stop thinking in silos and start thinking horizontally. The good thing is that it has begun to happen in Pakistan, and there is a need to scale it up.

BRR: The lending to the SMEs is very low. How can we increase SME financing and what is HBL doing about it?

MA: Apart from the target that are given to us to achieve, we have to understand the interlinkage between agriculture, SMEs and LSM. Secondly, we have to start taking brave ideas to the face. HBL has the largest book in the country and we will continue to move forward.  We are already offering program based lending like small business financing, POS financing, etc., but we need to do more. And ultimately, what will move this segment forward is the capacity creation along the interlinkage I’ve just talked about.

BRR: Coming to the corporate investment banking, how is it going for HBL?

MA: We are very fortunate that we have received 19 awards in corporate investment banking this year. What makes a powerful combo is a good balance sheet, capital market access, project finance advisory. We are very fortunate to have these. We received 4-5 regional awards this year around the Belt and Road Initiative. These included awards for project financing and project advisory. Out of the 4000MW power generation added this year including that at Thar and others, HBL has either been on the project financing side or the arrangement side.

The reason why I believe that our corporate investment bank will continue to do well is because we take a view on the client: who our client is, where is it, what are the needs today, and most importantly where is it headed tomorrow. And then we take ideas to our client.

The other thing that we are beginning to do in corporate investment banking that we were not doing before is utilizing our international network more effectively. HBL is the only bank in Pakistan that is going to be present in 13 locations going forward that include Bangladesh, Maldives, Sri Lanka, UAE, Bahrain, Oman, UK, Brussels, Zurich, Turkey, Singapore, and China. We are doubling up in China and it will soon become a second home market for us.

We have a branch in Urumqi; we got the RMB license in the shortest possible time so we are very grateful to the regulators there. As we speak, we have applied to upgrade our rep office in Beijing. This is important because we are currently dealing roughly with 100 plus Chinese corporates and we have around 15 Chinese national bankers who are working with us in Karachi, Gwadar and Islamabad. Since we have been part of CPEC and in larger context Belt and Road Initiative, we have been offered to serve in countries that are part of the Belt and Road Initiative but don’t have Chinese banks there. This will help us emerge as a regional bank in the next two to three years. We are humbled to be the largest bank in the country. But I am looking beyond borders now.

BRR: HBL had a bitter experience in the U.S. What happened there and how did you come out of it?

MA: There were operational lapses. But in any case, we are not looking back; we are moving forward and in the last 18 months, we have run a business transformation program – not only a compliance program – where the idea is to bring our KYCs, AMLs, sanctions, sub action monitoring standards to international level and get our Businesses to own and manage the client.

BRR: What is your view of Pakistan’s progress on FATF and what in your opinion should the government do going forward?

MA: One thing is clear that the seriousness of the government is huge in some of the steps they have taken in terms of putting the governance in place and in terms of putting some structures in place. The new national risk assessment framework is a very comprehensive document. Things that have come under the risk assessment framework start with acknowledgement that we have issues that need to be fixed. Compared to the 2017 report, 2019 report has things listed as medium to high risk that were previously not even part of the assessment, which is a step in the right direction.

The government is doing its job, and wherever we can assist as an institution we are stepping up. However, one thing that is important here is to level set expectations, because the journey from acknowledging the issue to taking corrective steps to validation is not only hard but also takes time.

BRR: Housing finance is visibly low in the country, which is a big stumbling block for creating middle class. What are the key issues in this segment?

MA: From the industry perspective, this has been a tough nut to crack. The Prime Minister is actively pursuing the foreclosure laws in the courts and we are hopeful that good news will come our way pretty soon. This has been the biggest irritant for housing finance.

Then there are issue like asset-liability mismatch, affordability and the presence of a regulatory body to discipline the whole equation that plague housing finance. HBL now wants to step up in a very meaningful way. We are in touch with Naya Pakistan Authority, because that’s where the scale is.  We are looking for meaningful projects whether it’s through developer financing or at the offtake stage.

BRR: There are so many cases lingering in the banking courts, and SBP too has been vocal on addressing the issues. How do you see things moving from here?

MA: As a chairman of PBA, I have been very vocal on this issue, and we had requested the Chief Justice of Pakistan to appoint a banking judge in each high court who would conduct hearings on a day to day basis with time bound conditionality like on the criminal side.

I am very grateful to the Chief Justice of Pakistan for his swift response and action. We have banking judge appointed in Sindh High Court and the hearing of the cases has begun on a day to day basis. We have to follow-up with other high courts.  One thing is important; banks should be with their clients through the cycle. With our willing clients we should restructure where we can, or provide them some relief where we can rather than running into litigation right away. Litigation comes in where the banks have the capacity but are not willing. Our aim should be to be willing bankers.