KPMG Sri Lanka Banking Report July 2021

Sri Lanka Banking Report – July 2021
Sri Lanka
Banking
Report
Issue 7
July 2021
KPMG Sri Lanka
© 2021 KPMG, a Sri Lankan partnership and a member firm of the KPMG global organization of independent member firms affiliated with KPMG International Limited, 1
a private English company limited by guarantee. All rights reserved
Table of Contents
04 06 08
Executive Foreword Banking Sector
Summary Highlights
46 50 55
At the Going Digital, Standing firm
Intersection of Faster on shifting
Resilience and sands
Relevance
13 24 29
Economic Future of the Banking Banking Sector
Overview Sector through a Analysis
Chairman’s lens
61 63 70
Future of Retail Acknowledgements About KPMG
Banking
Foreword
The pandemic has radically changed the environment in
which financial services operate. Its catalytic impact has These are pivotal times for retail banking. As the industry
been obvious – super-charged digitization sparking new adjusts to the effects of COVID-19 and looks towards the
business models, redefined customer relationships; it future, the landscape is very different. Banks must
ushered in an unexpected era of remote working and negotiate a multitude of shifting factors — from changing
sharpened minds around the ESG agenda. Take a step customer behaviours to economic headwinds, intensifying
back however, and the greatest impact has been the competition, regulatory pressures and technological
definition of resilience and relevance and how these two disruption. Driven by COVID-19, the social and economic
concepts underpinned the industry’s response to landscape has been radically reshaped while customer
COVID-19. needs and expectations continue to dynamically evolve.
Value and price are becoming equals for customer loyalty.
Responsibility for delivering the benefits of many Consumer spending has been impacted by both a
emergency COVID-19 measures agreed by government, decrease in disposable income and the psychological
central bank and regulators fell on the banks. To alleviate impact of COVID-19.
the pressure and ensure that banks could continue to
support customers, CBSL relaxed capital and liquidity In the wake of the COVID-19 pandemic, the cost agenda
requirements, extended reporting deadlines and has been elevated to a new level of importance. A clear
reprioritised supervisory programmes, in some cases majority of banks are looking to intensify and accelerate
cancelling or postponing non-critical activities. However, their cost transformation programs, in many cases
as the pandemic evolves and banks continue to be called significantly. Those banks that are bold and successful in
on to help, significant challenges to their profitability and their cost transformation programs will be strongly
future financial resilience are emerging. positioned for success
Achieving cost efficiencies while still maintaining robust Fintech and challenger banks may also potentially feel the
cyber security is a complex task at the best of times. pressure – as they will be unable to differentiate themselves
COVID-19 has significantly impacted the complexity of by paying higher interest rates in the close to zero
this challenge. Not only are banks being faced with environment, while there could also be a ‘flight to safety’ as
increased cost pressures, but they also had to quickly customers begin to place deposits with large established
adapt to the changes required to their security framework players instead.
to defend against adversaries, seeking to capitalize on
new ways of working, namely employees working from As we begin to emerge from the pandemic and Sri Lanka’s
home, and whose home systems may be less well economy starts to turnaround, it is important to understand
protected. the role that banks and financial institutions will play in its
recovery and in supporting other businesses, both large and
As Sri Lanka begins to recover from the third wave and the small, as they attempt to find their footing once again.
distribution of vaccinations are picking up speed, the big As banks and financial institutions shift gear from response to
question is whether there is light at the end of the tunnel? recovery, they will have many key issues to consider.
Despite the positive turn of events, there still remains Resilience in the face of these concerns and challenges will
much uncertainty regarding the changes this new reality determine who will prevail in the new reality. Leadership lives
will bring and whether the trends that arose from the at the intersection of resilience and relevance.
pandemic will continue to remain.
KPMG Sri Lanka brings to you the seventh issue of the Sri
We however believe that the banking sector capital Lanka Banking Report with key discussions on the
strength is high that it will be able to make it through this performance and trends of the 2nd Half of 2021, focusing on
crisis. The larger banks tend to be well-diversified across the implications of COVID-19 on the financial sector as well
investment banking, wholesale and consumer lending as as the importance of “Driving Change for a stronger
well as asset and wealth management. Future”.
But many smaller or mid-sized banks are less diversified.

The crisis could become more challenging for them if it
deepens further or carries on for an extended period.
To be the
Clear Choice
Ranjani Joseph
Partner, Head of Banking
Services & Markets,
KPMG Sri Lanka
Executive Summary
Sri Lanka’s economy in 2020 is a story of two halves, with The recovering economy was supported by a growing
the COVID-19 pandemic and the lingering effects of the banking sector, which recorded improved results in 2H2020.
Easter Sunday Attacks impacting 1H2020, alongside a rapid Gross Loans and Advances rose 11.9% YoY in 2020 to reach
turnaround being displayed in 2H2020. LKR 9.1 Tn.
However, the third wave of the pandemic since April 2021 However, significant government borrowings remains a
has caused the economy, especially in sectors such as concern, with Government of Sri Lanka (GoSL) borrowings
tourism and international and domestic trade to have a late increased to LKR 4.5 Tn in 2020 and continuing strongly into
recovery in fully returning to pre-pandemic levels. Such 2021. Credit to the private sector, which grew at a modest
happenings dampened initial positive sentiment that a 6.5% YoY in 2020, lent out LKR 374.0 Bn, higher that the
recovery was fast approaching, which was encouraged by LKR 235.5 Bn recorded in 2019.
the activity in several sectors and the levels of confidence
displayed throughout the latter part of 2020 and 1Q2021. The 21.6% YoY increase in deposits in 2020 came in despite
policy rates being at historical lows, as spending restrictions
While the country’s Gross Domestic Product (GDP) caused individuals and businesses alike to limit spending
contracted 1.6% year-over-year (YoY) and 16.4% YoY in plans. The build-up in deposits which has boosted liquidity
1Q2020 and 2Q2020, respectively, this was offset by levels in the banking sector is expected to provide tailwinds
growth of 1.3% YoY each in 3Q2020 and 4Q2020, resulting to support loan growth in 2021.
in a full-year decrease of 3.6% YoY. Prior to the third wave,
there was an uptick in economic growth in 1Q2021
recording 4.3% YoY.
Total banking sector Net Interest Income (NII) declined by As the virus took hold again from April 2021, the short-term
2.2% YoY in 2020 mainly due to declining interest rates outlook for GDP growth and the banking sector turned sour
and the extension of debt moratoria, which saw a Phase 3 as the economic activities fell into semi-dormancy, of which
extension through to September 2021. The Net Interest the spillover effects would befall on the banking sector by
Margin (NIM) continued to trend lower, falling to 3.1% in way of softened growth, lingering impairments and
2020 from 3.6% in 2019. With the advent of the third wave deceleration in earnings from the original projections.
of the pandemic the CBSL provided another round of
moratorium from 15 May 2021 for three and a half months The delayed but gradual turnaround is likely to be supported
to provide payment relief for the borrowers. This latest by the expected economic recovery along with the aggressive
phase relief does not cover those in the passenger vaccination drive, a low interest rate environment, improving
transport and tourism sectors, who continued to be business and consumer confidence, and the GoSL push
covered via the phase 3 moratorium extension. towards industrial development.
The burden on the banking sector was alleviated by timely

fiscal and monetary support from the Central Bank of Sri
Lanka (CBSL), as well as pent-up demand for funding. The
pandemic highlighted banks’ respective risk management
strategies, reflected through capital and liquidity buffers
which strengthened through 2020, re-iterating the flexibility
and robustness of the banking sector.
Although higher provisions for loan defaults came into

effect (Management Overlay), listed banks in Sri Lanka
ended 2020 with higher earnings in 2H2020 versus
1H2020, evidence that the banking sector is a proxy for
broader economic performance. The overall economy also
rebounded in 2H2020, growing 1.3% YoY in 3Q2020 as
well as 4Q2020, offsetting declines of 1.6% YoY in 1Q2020
and 16.4% YoY in 2Q2020. Sector gross NPLs declined
slightly in 2020 (4.9% in 2020 compared to 4.7% in 2019),
but we note that this needs to be viewed with caution
given the extension of the moratorium.
Banking Sector
Highlights
Sector looks past the Banks flushed with liquidity

pandemic for robust ready to be unleashed
growth in 2021 as loans
Sri Lanka’s banking sector emerged largely unscathed Banking sector liquidity reached its highest level in 2020, with
from 2020 after successfully navigating a period of almost all banks reporting Statutory Liquid Asset Ratios
economic turmoil brought on by the COVID-19 pandemic. (SLARs) much higher than the 20% minimum requirement.
The banking sector benefitted from: While the regulatory reprieve received on categorizing certain
assets under liquid assets gave some comfort to banks, the
 Timely and proportionate assistance from the Central sharp spike in liquidity was the result of three key factors
Bank of Sri Lanka (CBSL) following the onset of the pandemic:
 The rapid, ‘V’-shaped recovery of the economy in

1 Soaring deposits resulting from people and
2H2020, assisted by pent-up demand, and fiscal and
businesses stockpiling cash in bank accounts
monetary stimulus
2 Anemic loan growth

The pandemic and its economic malaise showcased the
sector’s ability to withstand shocks. This was reflected by 3 Capital augmentation – organic and inorganic
banks’ capital and liquidity buffers, which gained strength
rather than weakening, proving their resilience and shock- Underlying reasons:
absorption capacity.  Soaring deposits
 Anemic loan growth
Although some risks persist, such as opaque asset quality  Capital augmentation (organic and inorganic) by banks
and an uncertain path to full economic recovery, the  Cheaper debt in LKR and foreign currency
banking sector -- as well as the broader economy -- was
largely looking past the pandemic for better prospects All these factors helped buttress banks’ liquidity profiles to
before the restrictions were re-imposed from mid-April to achieve,
contain the third wave of the virus
SLAR
The sector expected better fortunes from 2021 onwards,
stemming from:
31.0% 37.3%
 Growth in private loans due to the historically low At end-2019 At end-2020
interest rates.
 Economic policy tilt towards a domestic industrial
Loan-to-Deposit Ratio
renaissance (under the national policy framework,
‘Vistas of Prosperity and Splendor’)
 Improving business and consumer confidence.
 Political and policy stability
88.7% 81.6%
In 2019 In 2020
However, the resurgence of the virus from mid-April and
its toll on the broader economy soured the sentiments,
This indicates fewer loans amid rising deposits, albeit this
damaging the prospects for the sector but the sector
decline reversed with the acceleration in loans during
would push ahead.
1Q2021.
Banks remain Earnings beat expectations

growth hungry to pull off record results,
Flushed with liquidity and possessing mostly stable capital
profiles, the banking sector now stands ready to open
lending spigots. LCBs have been looking for growth, which
although…….
has largely evaded them since 2018 as a result of rising Total banking sector earnings in absolute terms reached all-
interest rates and weak borrowing sentiment. time highs
What to expect in 2021

 CBSL has indicated that it expects a 14% increase in
2020
private sector credit, translating to over LKR 850.0 Bn in
fresh credit.
2019 LKR 135.3 Bn
 The banking sector has set its sights on expanding its Over October -
lagging asset base.
December 2020
LKR 111.1 Bn (4Q2020)
Although the virus resurgence in the 2Q2021 prompted the Over October -
CBSL to revise this target down to 12%, this remains a December 2019
higher growth than in 2020, and appears achievable given
(4Q2019)
the performance so far.
&
Asset quality fared better &
than expected, but LKR 193.7 Bn LKR 230.1 Bn
caveats remain In 2H2019 In 2H2020
Gross NPL ratio, performed better in 2H2020 than in

1H2020, signaling that the worst maybe over for the
banking sector in terms of troubled loans. Earnings too recorded QoQ growth in every quarter between
1Q2020 through to 4Q2020, reflecting relative resilience
despite the magnitude of the pandemic-induced economic
However, concerns remain regarding the true picture of
shock. This was followed by a record high earnings season in
asset quality once the moratoria still applying to a section
1Q2021.
of the loan book comes to an end.
Despite back-to-back loan repayment holidays granted by

the CBSL starting from April 2020, each subsequent
reprieve was less broad-based and more targeted than the
previous round. Asset quality further improved in 1Q2021
but the virus snag in 2Q2021 and its resultant stresses on
borrowers could keep credit costs elevated through the
remainder of the year, albeit at 2020 levels.
The relative indicator of profitability in the sector, Return on

Equity (RoE), which is also the barometer of how attractive ….impairments were higher
the sector is to stockholders, climbed over the years.
on account of loans and
Below 11% since
December 2018
2018 bond investments
During 2020, banks substantially increased provisions for
11.3% in 2020 possible loan defaults, referred to as Expected Credit Losses
(ECL) in IFRS 09 parlance, as lockdowns and other restrictions
December 2020
took a heavy and lingering toll on the repayment capacity of
individuals and businesses.
16.2% 2021
in1Q2021 As a result, both Individual Impairments − the credit costs of
individually significant loans − as well as Collective
This strong performance was partly due to the growth in
Impairments − the provisions made for the entire loan
private sector credit which re-emerged in 2H2020, resulting
portfolio not captured under Individual Impairments – rose
in cumulative private sector credit at the figures below:
substantially as banks made significantly higher provisions to
capture the impact on borrowers from the challenging
economic conditions.
LKR 235.5 Bn 2019
However, we expect that the economy’s recovery momentum
will result in a solvent clientele, especially small businesses,
and trigger easing of impairments in 2021, providing tailwinds
LKR 374.0 Bn 2020 for the sector’s bottom-line, which was already set for a surge
from higher loan growth. However fresh stresses from the
resurgence of the virus could cause impairments to remain
This growth further gained momentum in 1Q’21 with the elevated at levels seen in 2020.
LCBs disbursing nearly Rs.220Bn in fresh private credit.
Performance was also positively impacted by the improving

margins, easing loss provisions and regulator removing
taxes which were considered punitive on the sector, i.e.
the Debt Repayment Levy and Nation Building Tax (NBT)
on financial services.
Operational benefits Funding costs declined

shown with digitization The banking sector’s funding costs declined substantially, as a
and lockdowns
result of:
 Lowering interest rates on deposits and other sources of
Despite its broader health and economic damage, the funds.
pandemic and the resultant social distancing requirements

spurred the drive towards digitization.  The build-up of higher low-cost funds in the banking
system.
It is assessed that the pandemic brought nearly five
years of digital advancement in a single year. While there was an increase in deposits, notably the Current
and Savings Accounts (CASA) base improved, reversing a
Alongside this, banks were able to keep costs under check years-long decline in the low-cost deposit base.
and reduce Cost-to-Income ratios across the board through
the measures below which also resulted in economies of Meanwhile, borrowings made in the local market as well as
scale: from DFIs were coming in at relatively lower yields, resulting
in an overall decline in banks’ cost of funds.
1 Maintaining fewer brick-and-mortar While the internal capital generation occurs with robust
earnings, the banks continue to add more capital by way of
operations during lockdowns
diversifying their funding mix.
2 Implementing conscious cost-cutting
3 Holding off on investments in physical

branches and seeing less depreciation
4 Implementing significant on-boarding of

clients to digital platforms
While this is already seen from the improved efficiency

matrices through 1Q2021, repeated disruptions into in-
person activity will add a tailwind to the current transition
into digitalization.
Economic Overview
Third wave delays Sri Lanka

2021 economic recovery
The third wave of the COVID-19 pandemic in May and June We feel an economic recovery is likely to commence towards
2021 which led to the GoSL restricting the general public’s the last quarter of the 2021 and in the early periods of 2022,
movement is likely to lead to a delay in the initially stemming from economic turnaround in major global markets
anticipated economic recovery in the country. as a result of successful vaccine rollouts, but also due to a
resumption in domestic trade, consumption and
Commencing May 2020, the COVID-19 pandemic and the manufacturing as well as the local vaccine roll-out.
inherent uncertainty surrounding it led to economic
disruptions in Sri Lanka and around the world. Initial actions Improving domestic conditions and low
of GoSL to minimize the spread of infection included
implementing full and partial lockdowns (March 2020 to interest rates to help recovery
May 2020), disallowing travel for foreigners and locals and
restricting imports. Many consider the steps to have been The Sri Lankan economy contracted 3.6% YoY in 2020 and is
successful, relative particularly to the impact of the indeed a story of two halves. In 1H2020, despite the fiscal
pandemic in other countries. However, in October 2020, stimuli introduced during the latter part of 2019 as part of the
two major COVID-19 clusters were identified that saw significant tax cuts (direct and indirect) introduced post the
localized restrictions being temporarily re-imposed, Presidential Election of November 2019, Sri Lanka’s GDP
delaying a quick return to business as usual. As a result, in contracted by 1.6% YoY in 1Q2020 and 16.3% during
2021 the country continues to operate under a ‘new 2Q2020 due to the COVID-19 pandemic and the associated
normal’ that includes social distancing and the wearing of slowdown of the global economy. Agricultural production was
face masks. also impacted by adverse weather conditions.
Amid the pandemic, in August 2020 the country voted in a

new government with a two-thirds majority, providing
much needed political stability. The country’s economic
progress has been volatile over the past few years, as a
result of a divided government since 2015, the Easter
Sunday Attacks in April 2019 and the significant impact of
the COVID-19 pandemic due to Sri Lanka’s high
dependence on global markets and the country’s
interconnected supply chains.
In 2H2020, however, with lockdowns easing, the country Unemployment rose steadily in 2020 compared to 2019,
showed signs of a gradual recovery as GDP grew 1.3% reaching a high of 5.8% in 3Q2020 before declining to 5.2%
YoY in 3Q2020 and 1.3% YoY in 4Q2020. in 4Q2020 (4.5% in 4Q2019), as the labour force participation
rate fell to 50.1% in 4Q2020 from 52.3% in 2019. This rate
In terms of the performance of key sectors in 2020: increased to 5.7% in 1Q2021.
Agriculture contracted 2.4% YoY and was the least
affected, compared to the Services and Industry sectors, Gross domestic product
which contracted 1.5% YoY and 6.9% YoY respectively. 100.0 9.1% 10.0%
8.4%
8.0% 8.0%
Quarterly real GDP growth by sector, 75.0 5.0% 5.0% 6.0%
2019-2020 4.5%3.6%
3.3% 4.0%
3.5% 3.4% 2.3%
50.0 2.0%
10.0%
0.0%
5.0% 25.0 -3.6% -2.0%

-4.0%
42.1 56.7 65.3 68.4 74.3 79.4 80.6 82.4 87.4 88.4 84.0 80.7
0.0% 0.0 -6.0%
200920102011201220132014201520162017201820192020
USD Bn
-5.0%
Nominal GDP - USD Bn (LHS)
-10.0%
This reflects the economic impact of the pandemic, with job

-15.0%
losses as well as salary cuts affecting consumption, which is
a key growth driver that accounts for about 70% of the
-20.0%
economy.
-25.0%
Agriculture Industries
Services Unexpected resilience in foreign worker remittances to Sri
Lanka greatly supported the weakened country reserves.
Remittances fell between March and May 2020 as a
As a result, Sri Lanka is likely to remain ranked as a lower-
combined result of lockdowns, layoffs and poor economic
middle income country (downgraded in July 2020),
performance, among others, but picked up over June-
according to the World Bank classification, on account of
December 2020, with total inflows reaching USD 7.1 Bn in
GDP per capita declining to USD 3,852 in 2019 from USD
2020, up 5.8 % YoY.
4,081 in 2018, on the back of currency depreciation
outpacing economic growth.
This trajectory continued into 2021, as cumulative worker
remittances during January and May 2021 were up 18.2%
Tourism activity, which had already seen a 31.5% YoY
YoY. Further, the CBSL maintains positive expectations as it
decline in 1Q2020 due to the prolonged impact of the
forecasts remittances for 2021 to reach USD 8.0 Bn, up from
Easter Sunday Attacks, worsened with the closure of the
a previous estimate of USD 7.5 Bn.
airport to minimise the spread of COVID-19. During January
to June 2021 Sri Lanka welcomed only 16,908 tourist
arrivals compared to 507,311 in 1Q2020. Sri Lanka closed it Providing such remittances an additional two LKR on each
borders to international tourists during 2Q2020. USD and encouraging workers to use formal channels of
money transfers over previously used informal channels are
seen to have contributed this growth.
In January 2021, the country officially re-opened its borders
to international travelers, resulting in 9,629 tourist arrivals in
1Q2021 compared to 507,311 in 1Q2020.
The CBSL reduced policy rates and the Statutory Reserve

Ratio (SRR) as part of its monetary easing measures to
reduce costs of borrowing and improve market liquidity.
Concessional credit schemes and debt moratoria were
introduced to support Small and Medium Enterprises
(SMEs) and individuals affected by the COVID-19
pandemic.
The consensus on outlook is that the country is expected

to record positive growth in 2021, albeit lower than
previously expected, on the heels of policy stimulus
measures and an improved business outlook.
The onset of the third wave led to revisions in Sri Lanka’s

GDP growth for 2021. The CBSL currently indicates an
economic growth of 5.0%, softening from the originally
projected 6.0%, as large swaths of economy remained
sub-dormant during 2Q2021 due to virus induced
restrictions .
Other global agencies such as the Asian Development

Bank and World Bank have offered more conservative
projections at 4.1% and 3.4%, respectively. Moreover, in
April 2020 the International Monetary Fund (IMF) lowered
its forecast to 4.0% from 5.3%.
Inflation remains elevated as import

restrictions and currency depreciation
take effect while virus related
restrictions caused supply chain
disruptions
In 2020, inflation as measured by the National Consumer As a consequence of restricting select food imports and
Price Index (NCPI) reached 6.2% YoY (measured as a 12- disruptions to domestic supply chains, food inflation rose to
month moving average), notwithstanding lower 12.2% YoY, with the government having to step in to
consumption and import restrictions on select consumer introduce controlled prices on several essential items, with
and non-consumer goods. little success in taming the rising prices.
As a consequence of restricting select food imports and

disruptions to domestic supply chains, food inflation rose to
12.2% YoY, with the government having to step in to
introduce controlled prices on several essential items, with
little success in taming the rising prices.
YoY Inflation
9%
8%
7%
6%
5%
4%
3%
2%
1%
0%
Mar-20
May-20
Jan-20
Jan-21
Oct-19
Oct-20
Nov-19
Nov-20
Dec-19
Dec-20
Jul-20
Apr-20
Jun-20
Sep-19
Feb-20
Aug-20
Sep-20
Feb-21
Target inflation NCPI CCPI
However, improvements in external conditions as well as in

domestic aggregate demand conditions may briefly lead to
higher inflation in the medium term. A further impact could
come from the CBSL continuing to pump significant liquidity
into the system to provide stimulus to the economy beset by
the pandemic; but this could threaten price stability in the
next 12 months. However, the Monetary Board has indicated
that they stand ready to decelerate pace of stimulus if they
see signs of sustained price pressures.
Declining tax revenues from tax cuts

combined with lower economic activity
result in widening budget deficit; all
three major external rating agencies
downgrade
The full impact of the pandemic and the post-Presidential

Since then, food inflation has dropped to 11.5% YoY in Election 2019 tax cuts were reflected in tax revenue declining
January 2021, further falling to 10.0% in May 2021. Non- to LKR 1,216.5 Bn in 2020, down 29.9% YoY. As previously
food inflation remained tepid, at around 1.5%, yet rose to mentioned, import restrictions further impacted tax revenue,
1.7% in May 2021 on a weakening currency. A further given that almost half of GoSL’s tax coffers is made up of
uptick can be expected once the current ban on non- import-related taxes. Tax revenue in 2020 fell short of the
essential goods is lifted and the LKR adjusts to that CBSL estimate of LKR 1,305.0 Bn.
demand-and-supply mechanism.
As expected, the combined effects of COVID-19 relief

The CBSL is keen to keep average annual inflation within expenses, low tax revenue and rising recurring costs
its desired range of 4 to 6% as they believe the recent bout translated into an increase in the deficit to LKR 1,667.7 Bn
of inflation is transitory and will not be persistent because it over January-November 2020 (up 42.0% YoY).
was driven predominantly by supply side disruptions, and
not demand side pressures.
Government Fiscal Operations 2019-2020 Foreign reserves continued to deplete in

4,000
3,500 2020
3,000
2,500 At the end of 2020, gross official reserves were estimated at
2,000 USD 5.7 Bn, falling to USD 4.0 Bn by June 2021. The steady
1,500
decline in 2020 reserves was the result of Sri Lanka repaying
1,000
a maturing USD 1.0 Bn sovereign bond in October 2020,
500
instead of rolling the debt over.
0
2019 2020
Total Revenue and Grants Expenditure and Net Lending
Gross official reserve assets

The CBSL projects that the budget deficit will widen to 11.0 6
5.2 5.1
8.8% of GDP in 2021 from the estimated 7.9% in 2020 due 4.9
4.7 4.74.74.7
4.3 4.6 4.6 4.64.5 4.5 5
to the impact on revenue collection offsetting controlled 9.0 4.1 4.5 4.54 .5 4.2 4.24.14.3
3.9
3.7 4
expenses. However, with the loss of tax incomes during USD Bn 3.4 3.5
3.2
3.0
Months
2Q2021 due to restrictions on economic and public’s 7.0 2.72.7 3
activity, as well as the unexpectedly high expenditure on
virus containment is likely to cause further increases in the 2
5.0
budget deficit. Further tax incentives are proposed to 1
stimulate the economy, mainly for the agriculture sector, as 6.07.67.26.78.98.38.57.67.87.57.67.57.97.57.26.56.77.17.46.75.95.65.74.84.64.14.54.04.0
3.0 0
well as incentives to facilitate private investment.
Such measures include five-year income tax exemptions

Gross official reserve assets
for those involved in farming (fisheries, livestock and
Months of Imports Source: CBSL
agriculture), a seven-year tax holiday for the renewable
energy sector, and a 10-year tax holiday for investment in
select recycling sites to promote reuse of construction
The country’s trade deficit significantly contracted in 2020 to
material.
USD 5,978 Mn compared to USD 7,997 Mn for 2019, as a
drop in exports was offset by a greater decline in imports
Reforms to tax collection are also being proposed.
from GoSL measures to ban imports of non-essential items
Moreover, a 40% tax is to be applied to businesses
and restrict imports of select commodities as a means of
involved in betting and gaming, as well as the manufacture
bolstering domestic production and preserving the currency.
and sale, or import and sale, of alcohol. GoSL presented a
medium-term macro-fiscal strategy that aims to contain the
As a result, all three key categories of imports ̶ consumer
debt-to-GDP ratio at 75.5% by 2025 from 101.0% in 2020.
goods, intermediate goods and investment goods ̶ declined,
However, the World Bank forecasts Sri Lanka’s debt-to-
with the reduction in imports of fuel, textile and textile
GDP ratio will rise to 115% in 2021 and reach 119.6% by
articles, personal vehicles, and building materials being key.
2023.
The trade deficit is anticipated to expand to 3.3% of GDP in
2020.
In April 2020, Fitch Ratings downgraded Sri Lanka’s
sovereign credit rating, while in September 2020, Moody’s
Over January-December 2020, the external current account
Investors Service downgraded Sri Lanka’s long-term
deficit narrowed to USD 910 Mn from USD 926 Mn for the
foreign currency issuer and senior unsecured ratings to
same period a year earlier, mainly due to better-than-expected
Caa1 from B2. This is expected to further increase the cost
foreign worker remittances. The CBSL expects the external
of servicing foreign debt. Further, in December 2020, S&P
current account to record a USD 500 Mn surplus in 2021.
Global Ratings downgraded Sri Lanka’s long-term credit
ratings to CCC+/C from B-/B. It projected the fiscal deficit
to be 10.2% of GDP in 2021.
As at end-April 2021, the GoSL’s outstanding foreign debt However, in February 2021, the CBSL noted that the GoSL’s
was USD 35.1 Bn. International Sovereign Bonds (ISBs) debt service obligations had all been duly met to date. The
accounted for almost 46.7%, or USD 16.4 Bn, of the CBSL also provided a medium-term objective of bringing
foreign currency debt stock. Total debt service payments down the public debt’s foreign-to-domestic ratio from 43.57%
for 2020 amounted to USD 4.3 Bn, of which USD 2.8 Bn to 33.67%.
was principal repayments and the balance USD 1.5 Bn
interest payments. Stability of currency to be supported by foreign
funding
The debt-to-GDP ratio stood at 101.0% at end-2020, with
Foreign funding received in the past 12 months:
current and short-term fiscal pressure-induced borrowings
likely to push the ratio over 110% by end-2021.
 April 2020: GoSL receives loan of USD 128.6 Mn
from the World Bank.
Government’s external foreign currency
debt servicing
5.0  July 2020: GoSL reached an agreement with China
4.0 Development Bank to obtain a USD 140 Mn loan in
3.0 two tranches.
USD Bn
2.0
1.0  July 2020: GoSL completed a USD 400 Mn debt
0.0 swap with the Reserve Bank of India.
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
Principal Interest  Oct 2020: GoSL received a USD 90 Mn grant from

China.
 March 2021: The GoSL and People’s Bank of China

entered into a bilateral currency swap agreement for
~USD 1.5 Bn, with the agreement valid for three
years.
 April 2021: USD 500 Mn received as the second

tranche of a USD 1.2 Bn Support from China. The
first USD 500 Mn was released in 2020.
Furthermore, following funding is expected
 Standby SWAP agreement of ~USD 1.5 Bn with

the People's Bank of China.
 Special SWAP facility of USD 1.0 Bn being

negotiated with India.
 USD 250 Mn worth SWAP facility from the

Bangladesh Bank expected in July 2021.
 USD 800 Mn under the IMF SDR allocation

expected in August 2021.
 The SAARC Finance SWAP facility from the

Reserve Bank of India valued at USD 400 Mn in
August 2021
Pressure on exchange rate despite GoSL’s

protectionist measures
The exchange rate continued to experience intermittent The CBSL extended the ban on Licensed Commercial Banks
volatility in 2020, particularly because of what the CBSL (LCBs) and National Savings Bank from purchasing sovereign
termed “speculative market behavior.” Demand for gold credit bonds from 23 March to 23 April 2021. Subsequently
continued, rising 28.4% in 2020 to reach LKR 353,596.8 per the ban was lifted in June 2021.
Troy ounce, which also put pressure on the currency.
In addition, the CBSL maintained the bank suspension on
Following a 2.6% YoY depreciation of the LKR versus the facilitating the import of motor vehicles and all non-essential
USD in 2020, the LKR depreciated at a higher 7.9% in 2021 goods except medicine and fuel. Further, the CBSL issued
up to 31 June 2021, rising rapidly to LKR 200 against the rules relating to the receipt of export proceeds into Sri Lanka,
USD by 15 April 2021. Moreover, the Sri Lanka Rupee also introduced in February 2021 and later revised.
depreciated against the Euro, Australian Dollar and Sterling
Pound and Indian Rupee .
LKR per USD

205
200
195
190
185
180
175
170
Sep-20
Jan-20
Jul-20
Jan-21
Jul-21
Mar-20
Mar-21
May-20
May-21
Nov-20
The key points:
 Exporters are to repatriate their entire

export proceeds within 180 days from the
date of shipment. Also, within 30 days upon
The Colombo Stock Exchange (CSE) recorded a net
the receipt of such export proceeds into Sri
outflow, from both the primary and secondary market, of
Lanka, exporters are to convert 25% (with
USD 225.0 Mn in 2020 compared USD 35.0 Mn in 2019.
exceptions up to 10%) from and out of the
There was a cumulative net outflow of USD 553 Mn of
total of said exports.
foreign investment in the rupee-denominated government
securities market in 2020.
 In mid-2020, the CBSL brought into effect
temporary regulatory measures on outward
To strengthen the exchange rate, GoSL in April 2020
remittances for a period of six months. In
introduced a Special Deposit Accounts (SDAs) with higher-
January 2021, this was extended for a
than-market interest rates to encourage remittances from
further six months from 2 January.
dual citizens, Sri Lankans and others. As at 7 April 2021,
the SDAs had attracted deposits amounting to USD 360.3
Mn.
CBSL’s accommodative monetary policy stance’

likely to extend into 2021 CBSL Treasury Bill Holdings (LKR Bn)
In 2020, the CBSL significantly relaxed its monetary policy
1,100.0
and adopted numerous measures to support local 1,000.0
900.0
businesses, including debt moratoria for individuals and
800.0
businesses affected by the COVID-19 pandemic, and 700.0
600.0
provided concessional credit schemes for SMEs. 500.0
Commencing March 2020, policy rates and the SRR were 400.0
300.0
reduced several times, lowering borrowing costs and 200.0
bringing additional liquidity into the money market. 100.0
0.0
May-2020
May-2021
Jan-2020
Jan-2020
Jan-2021
Oct-2020
Nov-2020
Dec-2020
Jul-2020
Apr-2020
Apr-2021
Jun-2020
Jun-2021
Aug-2020
Sep-2020
Feb-2021
Mar-2020
Mar-2020
Mar-2021
In June 2020, the CBSL further reduced the SRR to 2.0%,
adding LKR 115 Bn to the domestic money market. This
followed the SRR cut in March 2020, which saw LKR 65.0 Overnight market liquidity amounted to LKR 91.2 Bn as at
Bn of additional liquidity injected into the market. As such, June 2021, up from LKR 30.6 Bn as at 12 March 2020, prior
there was a notable decline in both lending rates and to the first country-wide lockdown.
market deposit rates, with many market interest rates
dropping to historically low levels.
Further, the CBSL significantly increased its holdings in
Policy Rates treasury bills to LKR 725.2 Bn as at end-2020 from LKR 78.0
14.0% Bn as at 12 March 2020, further increasing this to LKR 919.2
12.0%
Bn as at June 2021.
10.0%
8.0%
6.0% Overnight Market Liquidity (LKR. Bn)
4.0%
2.0% 300.00
0.0%
250.00
Apr-19
Jun-19
Feb-20
Apr-20
Jun-20
Feb-21
Apr-21
Jun-21
Aug-19
Aug-20
Oct-19
Oct-20
Dec-19
Dec-20
200.00
AWPLR (Monthly) Standing Lending Facility Rate
Standing Deposit Facility Rate 150.00
100.00
As such, there was a notable decline in both lending rates
50.00
and market deposit rates, with many market interest rates
dropping to historically low levels. 0.00
May-2020
May-2021
Jan-2020
Jan-2021
Oct-2020
Nov-2020
Dec-2020
Jul-2020
Apr-2020
Apr-2021
Jun-2020
Jun-2021
Feb-2020
Aug-2020
Sep-2020
Feb-2021
Mar-2020
Mar-2021
In June 2021, CBSL continued to keep the Standing

Deposit Facility Rate (SDFR) at 4.5% and the Standing
Lending Facility Rate (SLFR) at 5.5%. In comparison, as at Moreover, the CBSL lowered banks’ capital conservation
30 January 2020, the SDFR was 6.5%, SLFR was 7.5% buffer requirements to provide further liquidity and spur the
and SRR was 5%. economy.
While the CBSL does not expect deposit rates to decline

further, taking into consideration the high levels of excess
liquidity in the domestic money market and subdued
inflationary pressure, it is of the view that there needs to
be a sustained downward adjustment of lending rates to
support economic growth.
Domestic credit growth driven

by public sector
In 2020, there was a notable increase in domestic credit Amount Outstanding (Rs. Bn)
extended to the public sector, rising 22.5% YoY to LKR 1.0 7000
Tn, to many entities we feel were loss-making state-owned
6000
enterprises.
5000
Moreover, net credit to the government grew to LKR 4.5 4000
Tn, up 64.4% YoY in 2020, as the GoSL borrowed heavily 3000

to fund pandemic-related and recurring expenditure,
2000
making good use of the prevailing low interest rate regime.
1000
Such borrowings continued in 2021, increasing 45.0% YoY
in May 2021, compared to a 33.5% YoY rise in May 2020. 0
Mar-20
Mar-21
May-20
May-21
Jan-18
Jan-19
Jan-20
Jan-21
Oct-20
Nov-20
Dec-20
Jul-20
Apr-20
Apr-21
Jun-20
Aug-20
Feb-20
Sep-20
Feb-21
Net Credit to the Government (NCG)
Credit to Public Corporations
YoY Growth
Credit to the Private Sector
70%
60%
50% The modest growth of bank credit to the private sector was
40%
seen even before the impact of the pandemic. For instance,
30%
20% there was a deceleration in private sector credit growth in
10% 2019 as a result of low business confidence, high lending
0%
rates and the economic impact of the Easter Sunday attacks
Mar-20
Mar-21
-10%
May-20
May-21
Jan-18
Jan-19
Jan-20
Jan-21
Oct-20
Nov-20
Dec-20
Jul-20
Apr-20
Apr-21
Jun-20
Aug-20
Feb-20
Sep-20
Feb-21
of 2019.
Net Credit to the Government (NCG)

Businesses appear to be cautious in tapping into bank credit
Credit to Public Corporations
even at low borrowing costs. Moreover, rising Non-
Credit to the Private Sector
Performing Loans (NPLs), which increased credit risk, appear
to have made banks more cautious in lending to businesses.
With the need to make more provision for loan losses, banks
may not be able to reduce lending rates as expected.
In March 2020, private sector credit hit a high of LKR 120.0
Bn before falling to LKR 13.0 Bn in April 2020. Thereafter,
While a similar sentiment was seen in January 2021, which
outstanding private sector credit among LCBs fell for a
recorded modest private sector credit growth of 6.9% YoY,
consecutive three months before staging a rebound in
private sector credit encouragingly picked up pace in April and
August 2020 that has continued.
May 2021, rising 8.2% YoY and 10.5% YoY respectively.
Within the first five months of 2021, credit granted was about
Despite significant rate cuts, private sector credit growth LKR 330.6 Bn closing in on the entirety disbursed in 2020
only grew 6.5% in 2020, underscoring slow economic (LKR 374.1 Bn). However, the CBSL’s initial projection of 14%
activity in 2020. YoY private sector credit growth was revised down to 12% in
May 2021. This is likely to continue to grow, driven by excess
liquidity in the money market coupled with low lending rates
and more loans expected to be given to Micro, Small and
Medium enterprises (MSMEs).
Bond yields witnessed a downward

shift in 2020
While bond yields trended slightly lower between March

2019 and March 2020, there was a notable decline
Bond Yields
between June 2020 and July 2020 as the CBSL 12.0% 25.0%
implemented several measures to boost liquidity in 10.0% 20.0%

response to the COVID-19 pandemic.
8.0%
15.0%
For instance, 5-year treasury bonds dropped from 8.55% 6.0%
10.0%
on 3 June 2020 to 6.31% by 22 July 2020. Similarly, 10- 4.0%
year treasury bonds fell from 9.02% on 3 June 2020 to 5.0%
2.0%
6.85% by 22 July 2020.
0.0% 0.0%
Mar-19
Mar-21
May-19
May-20
Jan-20
Jan-21
Oct-19
Nov-20
Dec-19
Dec-20
Jul-20
Apr-20
Apr-21
Jun-19
Jun-21
Aug-19
Sep-19
Feb-20
Aug-20
Sep-20
The treasury bond market saw an exit of foreign
investments amounting to USD 553 million in 2020. ISB
3 months T-bill (LHS) 1 year T-bill (LHS)
yields rose significantly in 2020 and peaked in May as most
foreign funds had to reallocate funds as a response to the 5 year T-bond (LHS) 10 year T-bond (LHS)
financial effects of the pandemic. 10 year ISB (RHS)
While ISBs due in July 2021 recorded a 42.6% yield as at

end-October 2020, this declined to 31.7% by end June To ease pressure on the exchange rate and taking into
2021. account possible outflows of foreign exchange by banks, with

effect from 23 March 2021 National Savings Bank and LCBs
were suspended to purchase Sri Lanka ISBs up until 23 April
In February 2021, the yield on 1-year treasury bills (T-bill)
2021. On 23 April 2021, this directive was extended until
passed 5.0% for the first time since July 2020. Similarly,
further notice. However, in June 2021 the ban was lifted,
the yield on 10-year treasury bonds passed 8.0% in March
subject to conditions such as its purchase should be from
2021 for the first time since June 2020.
fresh borrowings from overseas and it should be established
to the satisfaction of the regulator.
Future of the
Banking Sector
through a
Chairman’s lens
Exclusive discussion with Jegan Durairatnam – Chairman DFCC Bank PLC
Financial institutions across the world are monitoring and dealing with the effects of the COVID-19 pandemic and working
towards to understand the immediate challenges to society and economies, and the long-term impact on the
interconnected financial system. They are also using the expertise to help themselves and their customers to make good
decisions in today’s highly volatile operating environment.
Banks are at the front-line of the economic disruption brought about by the COVID-19 pandemic. The impact has created
major effects on the banking industry, and It won’t be an easy ride ahead and it is essential for banks to strengthen the
operational resilience and business continuity planning to weather this storm.
To better understand the challenges faced by the banking industry and the key aspects which are driving change in the
post-pandemic era, Jegan Durairatnam, Chairman, DFCC Bank PLC, shared his views on the future of the banking industry
and the steps banks and regulators must take in order to stay afloat in the new reality and embrace the “new normal”.
Banks must wear two hats
We have seen the trend of specialised banks gradually

transforming into commercial banking over the last few
years.
He emphasised on the need to have banks which focus on

long term project-based lending which was the role
previously played by the specialised banks. He emphasised
that DFCC, continues to recognise the importance of
leveraging from its long-standing reputation and experience
in the field of development banking despite the transition
into the new business model as a one-stop shop by
entering the commercial banking sphere.
When a bank is heavily focused on project-based lending it

also needs to evaluate the associated long-term risks
based on scenario analysis.
With first-hand experience of being in the driving seat,

from his previous top management positions in the
commercial banking sector, including the role as Chief
Executive Officer, Jegan believes that for any bank in
commercial banking space, being Street Smart is of
utmost importance.
Banks must wear two hats,

while focusing on long term
risks, the banks also need to
be sensitive to the emerging
trends and respond fast to
customer behaviour
In order to safeguard from this risk, Jegan stressed on the

important role capital adequacy plays in safeguarding banks
from long term risk by providing the financial stability and
highlighted how all big players in the industry consider it to
be a priority.
He emphasised that banks must keep this in mind and focus

Steering through the on supporting this sector by expanding service lines which
pandemic cater to the unique needs of these businesses.
In light of the challenges faced by businesses and individuals

As we move through unchartered territory, banks struggle in repaying loans as a result of the adverse effects of the
with understanding the best course of action to follow that pandemic, the Central Bank of Sri Lanka implemented a debt
would not only ensure their own survival but support the moratorium to provide some relief. Speaking on the impact
country with recovery of the economy. that it has had on banks, Jegan expressed that while
continuously extending the moratorium may benefit the
“Banks and Financial institutions must draw their attention public at large to an extent, it puts banks and financial
towards restructuring of operations and processes in order institutions in a very challenging position. “Although the
to facilitate increased cash flows to face the ongoing concept of the moratorium itself might not be harmful,
COVID-19 crisis”, says Jegan. He pointed out that SME’s extending it continuously without carefully planning for the
and Entrepreneurs account for 75-80% of Sri Lanka’s future implications can be a real concern”.
economy, therefore, making them key components in
driving economic recovery is vital as we attempt to come He also stated that the moratorium schemes should be
out of the implications of the pandemic. differentiated, especially in terms of different industries based
on the specific requirements of the respective industries.
Mr. Jegan Durairatnam

Chairman - DFCC Bank PLC
Going digital and being Decisive and significant role of

innovative Regulators
While digitalisation has been gaining momentum over the COVID-19 has led to an upsurge in risk of cyber-attacks and
past few years, it has immediately shifted into high gear as security breaches for banks in Sri Lanka. In order to address
COVID-19 forced individuals and businesses to resort to this challenge, “Framing a national perspective on cyber
technology in order to survive. Jegan believes that is vital security risk and money laundering is of utmost importance”
that Technology be Embraced. However, cultural change says Jegan. The entire banking system in the country must
will not happen overnight, adopting new technology unite in finding a centralised solution to this common
requires time and effort. He also mentioned that while challenge rather than working in isolation. The most important
digitisation poses a lot of benefits, it is important that it is step being the introduction of standardised tools and central
also balanced with the human touch. repository of information to mitigate cyber security and
money laundering threats to all banks and financial institutions
Banks must focus on innovative new products that cater to in the industry.
the new generation and allow current products to naturally
fade away with time Digitalization will lead to a number of new players entering
the field, which will bring in positive changes and will also
expose the industry to a number of new risks. Accordingly,
the regulators will have to play a Decisive and Significant role
in mitigating these risks by introducing relevant national
Digitisation needs to be policies and procedures which will also ensure standardised
processes and deliverables in the banking sector, says Jegan.
a balanced with the
Although banks and financial institutions in Sri Lanka have
human touch shown keenness to adopt cloud technology, regulators have
not yet given approval due to lack of relevant guidelines and
regulations. Jegan believes that while regulators may have
reasons for restricting access to cloud technology due to
confidentiality etc, it is also important that solutions are found
to address those concerns in order to allow banks to take
In the face of digitisation, new players may overtake the advantage of this revolutionary technology.
existing incumbents in the industry. To maintain
competitiveness among banks, Jegan’s view is that when
adopting technology, processes of the bank must be
transformed in a unified manner such that the customers
should be able to receive all their services at the same
bank as opposed to shopping around banks for different
services.
Building cost resilience The Role that Professional

In the face of the economic downturn, businesses have
service firms need to play
struggled to adjust their cost models. Many businesses
have had to cut back on employee salaries and let go of
When asked how professional firms could play a part in
staff in order to stay afloat. However, the banking sector
assisting banks to navigate through the unchartered territory,
has stood tall in the face of this crisis and found that
Jegan responded that one of the key issues banks currently
survival was possible by building cost resilience, without
face is absence of/ unreliable/ incomplete financial
needing to bid goodbye to employees who they believe
statements of SME’s and Family businesses. Smaller scale
have all been integral to the success of the banks.
companies are still struggling to present comprehensive
financial statements, which leaves banks in a difficult position
Employees have had to adapt to new working
when evaluating cashflow projections and borrower’s ability
environments, be it social distancing or working from
to repay. However, this sector is vital to Sri Lanka’s economy
home, but the banks have kept the momentum going
and therefore providing financial assistance to this sector is a
despite all these changes and does not believe that they
prime responsibility of the banking industry. Professional
will face staff retrenchments in the foreseeable future.
service firms should also appreciate the importance of this
emerging sector and assist these businesses by assisting and
Digitization of course will compel banks to redeploy some guiding them in introducing the required processes, internal
staff cadre to fit into the new working model of the banks. controls and thereby generating reliable and complete
A continual asking of how things can be done better and financial statements. This will in turn facilitate these
more efficiently is very important and that requires a shift businesses to obtain required credit facilities with ease and
in mindset in most organizations. Cost optimization should speed.
not be seen as restricting activity or innovation, but rather
as a commitment to continuous improvement.
Become a source of disruption
Disruption is inevitable and unstoppable. Rather than resisting

it, Banks and Financial institutions must strive to become a
source of disruption. Jegan firmly believes in this concept and
even goes on to say he would like to see banks “marrying”
disruption. In his view, owning a space in disruption is the
best way forward and the way to achieve this is to “create an
environment within the bank that is welcoming to
entrepreneurs, so that the bank is in the front seat viewing
the new possibilities and trends these entrepreneurs hope to
see in the future and therefore have first choice in selecting
which force of disruption the bank wants to be a part of”.
Mr. Jegan Durairatnam – Chairman

DFCC Bank PLC
Banking Sector
Analysis
Overview of financial performance

Banking sector as at 31 December 2020
Licensed commercial banks (LCBs)
Total assets Total assets Total Total
(LKR Bn)*** (USD Bn) assets assets
(LKR (USD Bn)
Bn)***
Total LCBs 12,8 28 .8 68 .8
State banks Foreign banks
1. Bank of Ceylon 2,983.0 16.0 14. The Hongkong & Shanghai Corporation Ltd 424.7 2.3
2. People’s Bank 2,230.1 12.0 15. Standard Chartered Bank 207.4 1.1
Local b anks 16. Deutsche Bank AG 63.7 0.3
3. Com m ercial Bank of Ceylon PLC 1,736.2 9.3 17. Indian Overseas Bank 53.7 0.3
4. Hatton National Bank PLC 1,291.9 6.9 18. Citibank 50.9 0.3
5. Sam path Bank PLC 1,110.3 6.0 19. Bank of China 50.7 0.3
6. National Developm ent Bank PLC 626.8 3.4 20. State Bank of India 33.7 0.2
7. Seylan Bank PLC 557.7 3.0 21. MCB Bank Ltd 32.2 0.2
8. DFCC Bank PLC 465.1 2.5 22. Public Bank Berhad 11.5 0.1
9. Nations Trust Bank PLC 337.6 1.8 23. Habib Bank Ltd 11.2 0.1
10. Pan Asia Banking Corporation PLC 176.9 0.9
11. Union Bank of Colom bo PLC 122.9 0.7
12. Am ana Bank PLC 94.2 0.5
13. Cargills Bank Ltd 46.5 0.2
Licensed specialised banks (LSBs)
Total Total Total
Total assets assets assets assets
(LKR Bn) (USD Bn) (LKR Bn) (USD Bn)
Total LSBs 1,8 37.4 9.9
4. Housing Developm ent Finance Corporation
1. National Savings Bank 1,363.8 7.3 60.8 0.3
Bank of Sri Lanka
2. Regional Developm ent Bank 221.8 1.2 5. Sri Lanka Savings Bank Ltd* 61.9 0.3
3. Sanasa Development Bank PLC 123.6 0.7
*Estimate
** LKR/USD rate at 31st December 2020 used to convert LKR values at 2020 year end.
Note: Indian (operating) , Axis & ICICI (ceased operations; CBSL approved for cancellation of license) banks have been excluded under foreign
banks due to unavailability of data
Banking sector asset growth nearly tripled in 2020 from

2019 levels, increasing 17.1% YoY to LKR 14,666.3 Bn in
assets with a net loan portfolio of LKR 8,817.2 Bn.
Asset base comparison of select banks
3,000
Domestic Systemically Important Banks (D-SIBs),
2,500
comprising Bank of Ceylon (BOC), People’s Bank (PB),
LKR Bn
Commercial Bank (COMB) and Hatton National Bank 2,000
(HNB), dominate Sri Lanka’s banking sector and accounted 1,500

for 56.2% of industry assets as at end-2020, with the two 1,000
state banks, BOC and PB, holding a combined 35.5% share
500
of total industry assets.
-
PB
HNB
SCB
UBC
NSB
BOC
COMB
ABL
NTB
DFCC
SAMP
SEYB
HSBC
RDB
NDB
PABC
This section analyses all listed LCBs and other banks with
an asset size above LKR 200 Bn. These banks collectively 2019 2020
accounted for approximately 88% of total industry assets
as at end-2020.
Banking sector analysis significant growth in loans

and advances as GoSL funding requirements spike
Gross loans and advances reached LKR 9.1 Tn in 2020, up Steady economic growth is likely to generate demand for
11.9% YoY. Private sector credit accounted for about half funds in the form of bank loans for consumption and
the total amount but only grew 6.5% YoY. Net credit to the investment. For example, the Index of Industrial Production
government reached LKR 4.5 Tn in 2020, up a staggering (IIP), the Purchasing Managers’ Index (PMI) and construction
62.7% YoY, as the Government of Sri Lanka (GoSL) sector activities as measured by cement production have
borrowed to meet COVID-19 related and other recurring been improving since May 2020, creating demand for more
expenses. GoSL has continued to borrow heavily in 2021, bank financing for working capital, expansion and new
with loans and advances increasing 63.1% YoY in January investments.
2021 and 61.9% YoY in February 2021.
Gross loans and advances at LCBs rose by 12.6% YoY in Gross loans and advances
2020 (vs a five-year CAGR of 14.3% over 2015-
2020) and were less affected than LSBs. LSBs 2,400
accounted for about 8.8% of total gross loans and

2,000
advances in 2020 and grew 5.5% YoY, significantly
below the five-year CAGR of 11.9% over 2015-2020.
1,600
This also led to the decline of the banking sector’s Loan-to-
Deposit ratio to 81.6% at end-2020 from 88.7% at end-
1,200
2019.
800
We expect credit growth to drive bank income in 2021, as
private sector credit increased by 10.5% or LKR 330.6 Bn
400
in the first five months of 2021, despite the pandemic
induced restrictions during 2Q2021. Based on our analysis, 0
banks have budgeted for 10-15% asset growth in 2021
PB
HNB
SCB
UBC
NSB
BOC
COMB
ABL
NTB
SAMP
SEYB
HSBC
RDB
NDB
PABC
DFCC
and, therefore, total banking sector assets could reach LKR

2.2 Tn more than current levels; private sector credit alone 2019 2020
is estimated to contribute LKR 850 Bn, although this was
revised down to LKR 750 Bn in May given the slowdown in
the momentum during 2Q2021.
Loans turned a corner in Saubagya COVID-19

2H2020 as banks renaissance facility
opened their spigots supporting businesses
Gross Loans and Advances, private sector credit in In 2020, the CBSL offered COVID-affected businesses a new
particular, turned a corner in 2H2020 after remaining refinancing facility for working capital titled ‘Saubagya COVID-
subdued from April 2020 through July 2020. Credit to the 19 Renaissance Facility’.
private sector grew 5.8% between June 2020 and
December 2020, compared to only 0.6% in 1H2020. The program saw high demand that led to the initial six-month
refinancing facility of LKR 50.0 Bn being increased to LKR
The appetite for credit and the acceleration in 150.0 Bn in June 2020, with the deadline extended to end-
disbursements were evident during the three months September 2020. Subsequently, due increase in loan
through March 2021 (1Q2021) when the credit consistently applicants, the LKR 150 Bn limit was also dropped.
grew MoM before the restrictions were re-imposed from
Loans ap plications vs loans disbursed under the Saub agya
April. COVID-19 Renaissance Facility (as at 15 Oct 2020)
45,000
This, together with improvement in margins and asset 40,000

35,000
quality boosted the banking sector earnings to record its
30,000
highest ever quarterly earnings performance in 1Q2021. 25,000
20,000
Key components of the economic revival plan included 15,000
monetary stimulus in the form of consecutive cuts to key 10,000

5,000
policy rates and a refinance scheme titled, ‘Saubagya Covid
0
LKR Mn
- 19 Renaissance Facility’ that released nearly LKR 178 Bn

PB
HNB
SCB
UBC
BOC
COMB
ABL
NTB
DFCC
SAMP
SEYB
Others
HSBC
RDB
NDB
PABC
worth of CBSL liquidity by way of working capital loans at
4%, as well as money market liquidity at record high levels.
Value of Loan Applications Registered by CBSL
Other macro-prudential measures such as slashing rate

caps on administrative loan products and setting lending As at 15 October 2020, the Saubagya COVID-9 Renaissance
targets on priority economic sectors also helped the Facility had approved LKR 177.9 Bn in total loans for 61,907
banking sector to disburse more private sector loans than applicants, of which over LKR 133.2 Bn had already been
in 2019, despite the pandemic challenges of 2020. disbursed among 45,582 applicants.
The twice upsized Covid-19 Refinance Facility received a In 2020, LCBs expanded outstanding private sector credit by
three-month extension to its original six-month grace LKR 374.0 Bn, up 6.5% YoY compared to LKR 235.5 Bn in
period, upon requests to provide further relief to borrowers 2019 (up 4.2% YoY vs 2018). The latest data could well be a
affected by the second wave of the virus. forerunner for solid private credit disbursements in the next
few months.
In 2020, LCBs expanded outstanding private sector credit by

LKR 374.0 Bn, up 6.5% YoY compared to LKR 235.5 Bn in
2019 (up 4.2% YoY vs 2018). The latest data could well be a
forerunner for solid private credit disbursements in the next
few months.
Growth in sectoral credit Product-wise breakdown

of gross loans and
Loans to the broader agriculture and fishing sectors
showed signs of picking up pace starting January 2020,
advances
when the new administration slashed borrowing costs and
unleashed a large stimulus package to aid domestic
production. Agricultural and fishing sector loan growth,
which had slumped to 0.2% YoY in December 2019, A more granular analysis of the distribution of gross loans and
picked up over 2020 despite pandemic challenges to advances based on product indicates that a significant share
record 3.9% YoY growth in December 2020. of each bank’s outstanding loans is composed of ‘Term
Loans,’ which typically have a broad definition and are
Loans to the industrial sector accounted for nearly 40% of therefore often clubbed together with several other products
total outstanding loans and advances in the system by by some banks, making meaningful comparisons between
end-2020. Loans to the industrial sector picked up through banks difficult. However, there are clear signs of an increase
January to March 2020, before plateauing from April 2020 in Housing Loans towards year-end, as well as a rise in
to June 2020 due to COVID-19 related economic Personal Loans, reflecting an increase in loans channeled into
restrictions. However, loans to the industrial sector started consumption fueled by low interest rates.
growing again from October 2020 through December
2020, rising 4.7% YoY, benefitting from government Term Loans and Overdrafts composed the largest share of
policies, tax cuts and low-interest loan schemes aimed at gross loans (69.1% in 2020) and grew 13.8% and 7.3% YoY,
industries engaged in value-added exports. respectively, in 2020 despite recording growth of 1.7% and
13.8% in 1H2020, compared to 2H2019. This was due to
Within the industrial sector, loans to the construction 11.9% growth in Term Loans and a 5.7% decline in
sector accounted for 21.1% of total outstanding loans and Overdrafts in 2H2020 compared to 1H2020. Personal Loans
advances in the commercial banking system and reached showed the strongest growth, up 58.9% YoY in 2020, despite
LKR 1.3 Tn, up 12.6% YoY, benefitting from the low increasing only 4.3% in 1H2020 compared to 2H2019,
interest rate regime. reaffirming the pick-up in consumption. Trade Finance and
Credit Card Loans witnessed the steepest declines in 2020,
Loans to the second largest segment, the Services sector contracting 7.2% YoY and 3.3% YoY, respectively.
(28%), however, remained a sore spot, albeit representing
the largest segment of the economy. After bottoming out Composition of gross loans and advances - 2020
in December 2019, services sector loans hit its first snag
in April 2020 due to pandemic-related restrictions, which 100.0%
continued until June 2020. Although loans to the sector

80.0%
started picking up from July 2020 through September
2020, the October 2020 lockdown slowed down loan 60.0%
growth and resulted in only 1.4% YoY growth in
40.0%
December 2020 compared to 3.1% growth in December
2019. 20.0%
The services sector is highly susceptible to lockdowns, as 0.0%

PB
HNB
SCB
UBC
NSB
BOC
COMB
ABL
NTB
DFCC
SAMP
SEYB
HSBC
RDB
NDB
PABC
it largely involves in-person dealings. Therefore, social

distancing and the inability to engage in remote work Term Loans Overdrafts Trade finance
adversely impacted sector performance. Personal Loans Housing loans Lease receivable Credit cards
Pawning Staff loans Personal loans
and Advances, accounted for 27% of total loans in the
system by end-2020. Loans to the agriculture and fishing *Note: HNB, SAMP, SEYB, DFCC, HSBC, NTB, PABC, UBC, and ABL do
sectors accounted for only 7.7%, given that they are not separately disclose personal loans. We expect these to be captured
typically small-ticket loans. under term loans.
Outlook Deposits: CASA ratio

The outlook for loans to the private sector remains
favourable in 2021 after nascent growth in 2H2020, unless
increased due to limited
there is a complete shutdown of the economy as a result
of a third wave. Further, all policies point towards
unrestrained credit growth as the economy is still operating
opportunities
Deposits, the primary source of funding for LCBs, grew at a
with significant slack. However, the two months long
robust 21.6% YoY in 2020, or by LKR 1,978.7 Bn, almost
economic restrictions through June 21 to contain the virus
double the growth in loans and advances in the system.
spread and its lingering effects could soften the growth in
Domestic and foreign currency deposits grew 21.5% YoY
loans, albeit that will still be higher than in 2020 and likely
and 22.0% YoY, respectively, in 2020. 2014.
meet the revised private credit growth target of 12%,
equivalent to about LKR 750 Bn for the full year.
Deposits increased to 83.1% of total sector liabilities at end-
2020 (compared to 81.6% at end-June 2020), the highest
In addition to the expected economic growth and
level recorded since
regulatory support, several other factors could play a
catalyzing role in bringing more vigor to loan growth.
Total deposits
These include:
3,000
 Historically low interest rates: The Monetary Board
slashed the maximum interest rate on Housing Loans to
2,500
7% in December 2020 for salaried individuals
2,000
 Banks possessing substantial excess liquidity
1,500
 The 20% minimum lending growth target for the Micro,
Small and Medium Enterprise (MSME) sector in effect 1,000
since January 2021
500
 The domestic industrial and business policy tilt under
the policy framework of the incumbent government. -
PB
HNB
SCB
UBC
NSB
BOC
COMB
ABL
NTB
SAMP
SEYB
HSBC
RDB
NDB
PABC
DFCC
Funding, capital and 2019 2020
liquidity strengthened LSB deposits grew to LKR 1,553.6 Bn, with companies
stockpiling cash as they rushed to build liquidity by way of
deferred investments, held off on operational expenditure
The funding profile of the banking sector remained solid in and expanded working capital cycles to conserve cash,
2020, led by the record pile-up of deposits and new capital resulting in a build-up of deposits in banks . This reflected
injections by way of equity and debt, cushioning capital and growth of 21.6% YoY in 2020 (vs a five-year CAGR of
improving capital adequacy. 15.2% over 2015 to 2020). LSB deposit growth was also
driven by reduced consumption from lockdown-influenced
restrictions.
However, as the economy returns to normal operating

Current Account Savings Account (CASA)
conditions, cash deposits are likely to be utilised for retail
ratio
spending such as fashion, entertainment, travel and leisure,
80%
and all types of activities that were put on hold in 2020 ̶
driving consumption and the economy. This expectation is 70%
supported by an increasing Consumer Confidence Index Small Caps
60% Large Caps Mid
(CCI), which rose from the 41 recorded in December 2020
Caps
to 44 in March 2021. However, the CCI remains below the 50%
68 recorded in July 2020.
40%
Another notable development in the deposit build-up of 30%

2020 was that the banks were able to reverse the years-
20%
long decline in low-cost deposits, measured through the
CASA ratio. 10%
Composition of deposits - 2020 0%

100%
80%
2019 2020
60%
40%
20%
0%
BOC COMB HNB NDB DFCC NTB SCB UBC
Demand Deposits Savings Deposits

Fixed/ Time Deposits Other Deposits
This was due to salaried individuals’ monthly pay-check

being left in their savings accounts during the lockdown,
while companies’ cash balances were also building up in
their current accounts. As people stockpiled their earnings
in banks, unspent salaries typically went into a savings
account each month. Similarly, companies preserved their
liquidity as they.
As a result, the banking sector CASA ratio improved to

34.8% by end-2020 from 31.6% at end-2019. The CASA
ratio of the small-caps averaged 41.5% at end-2020
compared to 36.9% recorded at end-2019. The CASA ratio
of mid-caps increased slightly to an average 34.9% at end-
2020 compared to 33.0% at end-2019. Large-caps showed
an average CASA ratio of 34.8% at end-2020 compared to
31.0% a year ago.
The rising CASA is a boon for the banks at a time of

declining margins, as it allows the sector to maintain low
funding costs despite lending rates that have descended to
all-time lows.
Net interest margin

 The decline in lending rates throughout 2020 to historically
low levels in response to massive monetary stimulus (the
continued to decline with

monthly AWPLR fell 418 basis points in 2020 to 5.82%).
This was partially due to modification methods under
SLFRS 9, requiring the day-one loss arising from the loan
rates at their lowest but moratorium to be recorded against interest income.
improves in 2021 with  A rapid decline in the yields of government securities as

significant assets (excess liquidity) were placed in treasury
deposit re-pricing bills and bonds earnings, resulting in only a nominal yield.
 The introduction of interest rate caps in August 2020 on

Net Interest Income (NII) for the overall banking sector select administratively managed loan products such as
declined 2.2% YoY in 2020 to LKR 1,042.4 Bn. The Credit Cards, Housing Loans, Overdrafts and Gold-backed
situation was more pronounced in 2Q2020 and 3Q2020, Loans.
which saw NII fall by 3.3% and 3.9% YoY, respectively.
 Interest in Suspense on account of delinquent loans,
Interest income which rose slightly compared to 2019.
250
200 The impact on LCBs was significantly greater than on LSBs.

NII at LCBs declined by 3.3% YoY in 2020 (vs a five-year
150
CAGR of 10.5% over 2015-2020), as opposed to LSBs, which
LKR Bn
100 grew 5.8% YoY (in line with the five-year CAGR over 2015-
50 2020).
0
While it is not atypical for NII and the NIM to come under
PB
HNB
SCB
UBC
NSB
BOC
COMB
ABL
NTB
DFCC
SAMP
SEYB
HSBC
RDB
NDB
PABC
pressure when interest rates are on a fast descent, 2020 has

2019 2020 been abnormal for the sector due to payment holidays which
had to be extended to a large swathe of loans, foregoing
Net interest income interest income. In addition, loan growth did not pick up as
80 quickly as expected in response to the historically low interest
70 rates, as the pandemic-induced shock reverberated
60 throughout the economy for a prolonged period. As a result,
50
LKR Bn
the banking sector’s NIM slipped to 3.1% in 2020 from 3.6%

40
in 2019
30
20
10
0
PB
HNB
SCB
UBC
NSB
BOC
COMB
ABL
Net interest margin (NIM)

NTB
DFCC
SAMP
SEYB
HSBC
RDB
NDB
PABC
2019 2020 7%
6%
The poor performance in NII can be attributed to the
5%
following reasons:
4%
3%
 Payment holidays and/or the moratorium on loans
granted from 1 April 2020 (there was already a segment 2%
of loans under moratorium prior to the pandemic, for the 1%

tourism sector on account of the Easter Sunday attacks 0%
in 2019).
* (See Special Notes on Treatm ent of Moratorium on page 45 )
2019 2020
Non-interest income However, in a more recent development January 2021, the

CBSL decided to suspend banks from entering forward
contracts of foreign exchange for a period of three months to
prevent parties from over-speculating on the LKR-USD
Non-interest income, of which the larger share is net fee
exchange rate, which has witnessed undue pressure since
and commission income, rose 10.7% YoY in 2020 to LKR
the beginning of 2021.
358.1 Bn.
Causes for fee incomes to decline in 2020:

Non-interest income
400  Regulatory mandated suspension (or refunding) of fee and

350
300 commission incomes to provide relief to customers
250
200 affected by the pandemic, as instructed in March 2020.
150
100
50  Slowdown in overall credit growth, as loans largely drive
0
2015 2016 2017 2018 2019 2020 fee income.
As a result, net fee & commission incomes, which otherwise

Non-interest income increased mainly due to net other partly offsets pressure on NII, could not play that role in 2020
operating income, which strengthened due to net gains due to the unique circumstances created by the pandemic.
from de-recognition of financial assets such as debt
Outlook
securities. The gains were also supported to a lesser
degree by foreign exchange gains from spot and forward
contracts, and foreign currency reserve revaluation gains.
We expect the NIM to show a slight improvement, or at least
Net fee and commission income bore the brunt of the settle at 3.5% through 2021, considering the deployment of
pandemic-induced challenges, with the exception of fee excess liquidity as loans and re-pricing in deposits under low
incomes generated from increased digital banking as rates. As loan growth starts to gain pace, NII is expected to
individuals and businesses shifted to remote banking due fare better in 2021, providing much-needed heft at the topline
to movement restrictions, as well as trade-related fee for the banking sector.
incomes to a lesser degree.

The banking landscape is expected to shift to a high-volume,
The de-recognition of financial assets such as treasury bills low-margin model as the Sri Lankan economy is operating in a
and bonds accumulated through parking excess liquidity in historically low interest rate environment.
government securities helped these assets to record higher Meanwhile, non-interest income will also gather pace with
capital gains in 2020 as falling interest rates enabled banks the restoration of fee and commission income as economic
to book higher capital gains. activity gains momentum as seen from the interim reports of
almost all listed banks for 1Q2021.
However, banks being made to maintain restraint on
financing imports amid the current crunch on foreign liquidity
could slow the fee and commission incomes as well as other
forex related incomes during 2021.
Provisions peaked in 2020 Provisions attached to loans and advances stemmed from:
 Stringent evaluation of individually significant borrowers

for signs of trouble, whether or not under a payment
In 2020, provision for Bad and Doubtful Debts and Loan
holiday.
Write-offs rose by a substantial 55.0% (reaching a total
LKR 222.5 Bn), due to the bleak economic outlook created
by the pandemic and the downgrade of the sovereign  All banks assuming the worst-case scenario for the
rating by international rating agencies. macroeconomy under the Economic Factor Adjustment
(EFA) under Collective Impairment of ECL, resulting in
higher impairments.
If there was a single line item which weighed heavily on
banks earnings in 2020, it was ‘impairment,’ coming as a
 Downgrading of loan segments operating in high-risk
double whammy ̶ through loans, as well as through SL-
industries (such as tourism, passenger transport and other
ISBs and SLDBs held by the banks.
industries affected by a prolonged pandemic impact)
Impairment charge on gross loans & advances - 2019 through Stage-wise brackets (from Stage 1 to Stage 2 to
100% Stage 3), resulting in heavier provisions and Non-

Performing Loans (NPLs) in the worst case. If a customer
32%
descends to Stage 3, considering their increase in
75% 46%
62% Probability of Default (PD), the banks recognise further
69% 73% 69% 65%
80% 77% 77% 73%
88%
82% impairment on account of loans under moratorium,
30%
50% assuming potential negative implications once the
34% moratorium expires. This is referred to as ‘Management
13% 17%
25% 18% 3% 12% Overlay’.
23% 16% 39% 8%
13% 5%
21% 5% 20% 16% 20% 15% 20%
7% 11% 13% 13%
7% 7%
0% The situation was exacerbated by banks having to book
higher impairments on their investments in dollar-
denominated bonds − Sri Lanka International Sovereign
Stage (I) Stage (II) Bonds (SLISBs) and Sri Lanka Development Bonds (SLDBs) −
as they were required to apply a higher loss rate under the PD
specified by Moody’s Investors Service after the rating
agency downgraded Sri Lanka by two notches to Caa1 from
Impairment charge on gross loans & advances - 2020 B2 at the end of September 2020. Risk of holding such bonds
further rose in 2Q2021 with the increase in the foreign
100%
currency funding and liquidity risks facing the Sri Lankan
36% sovereign.
63% 73% 63% 65% 69% 70% 72% 80%
85% 85% 80%
75% 42%
18% As a result, provision cover measured by the Total Provision
23% 18% 19%
13% 10% 2% 5% 25% Coverage Ratio 1 in the banking sector reached 61.3% in
15% 20% 3%
19% 8% 15% 17% 20% 18% 22%
50% 8% 13% 11% 9% 7% 2020 from 52.3% in 2019, the highest since December 2017,
while the same for the LCBs climbed to 64.7% in 2020
36%
63% 73% 63% 65% 69% 70% 72% 80%
(54.0% in 2019), the highest since March 2018.
85% 85% 80%
25% 42%
18%
Meanwhile, the Specific Provision Coverage Ratio of the
23% 18% 19%
13% 10% 2% 5% 25%
3%
8% 15% 20% 15% banking sector surged to 51.7% in 2020 from 42.4% in 2019.
19% 17% 20% 18% 22%
0% 8% 13% 11% 9% 7%
Stage (I) Stage (II) Stage (III)

Stage (I) Stage (II) Stage (III)
Non-performing loans
NPLs sector-wide as at end-September 2020 (latest available)
The banking sector’s Gross NPL ratio ended 2020 only
were reported, with the manufacturing sector recording the
slightly weaker YoY, at 4.9% compared to 4.7% at end-
highest NPL ratio at 8.7%, followed by trade at 7.4%,
2019 and dropping steadily from 5.4% in June 2020 and
agriculture at 6.9%, tourism at 6.8% and construction at
5.3% in September 2020.
6.4%.3.
While the asset quality as measured by the Gross NPL ratio Gross NPL of banks – 2019-2020
further improved to 4.6% at the end of the 1Q2021 due to 14.0%
improving economic conditions, credit costs are likely to be 12.0%
on par with 2020. This would be due the expiry of relief 10.0%
measures affecting asset quality as well as concerns on 8.0%
6.0%
borrower’s solvency. CBSL launched a fourth round of
4.0%
moratorium on loans from 15 May 2021 to provide
2.0%
payment relief to the affected borrowers.
0.0%
NPLs peaked in 1H2020 but moderated during the second

half of the year, in what appears to be the result of the
Gross NPL 2019 Gross NPL 1H2020 Gross NPL 2020
regulator intervening to launch broad-based payment
holidays in the financial system.
After the first round of moratoria phased out in September
LCBs fared even better in containing delinquencies, with an 2020, banks did not record a sharp increase in NPLs, perhaps
NPL ratio of 4.7% by end-2020 compared to 4.6% in 2019. indicating that borrowers had started servicing their loans.
On an absolute basis, however, Gross NPLs rose by 15.7% Moreover, reflecting the gradual return to ‘normal’ business
YoY in 2020 . activity, there was a drop of as much as 50% in moratorium
applications for the second round of relief extended in
October 2020. Therefore, although asset quality in 2020 was
LSBs, which typically carry relatively higher NPLs than
only slightly weaker versus 2019, reported NPLs could mar
LCBs, recorded 6.9% compared to 5.5% in 2019.
the true picture as a section of loans remain under payment
1. Total provision coverage ratio is the ratio of specific holidays or moratorium, while another section was either
provisions and general provisions to non-performing restructured or rescheduled by the banks.
advances net of interest in suspense.
2. This was implemented via Circular No. 04 of 2020,

titled ‘Relief Measures to Assist COVID -19 affected
Businesses and Individuals’ and subsequent
extensions, part of a wide-ranging relief package to
Outlook
arrest the economic fallout from the pandemic.
While the outlook remained largely positive for provisions for
Banking sector NPL
credit and other assets in the 1Q2021, conditions turned dour
6.0% 5.6% 5.4%
4.9% as the virus related restrictions from April third week took a
4.7%
5.0% heavier toll on the borrowers while delaying the recovery in
4.0% 3.6% the MSME sector which forms the bulk of the moratoria.
3.8% 3.2% 3.2%
2.8%
3.0% 2.5% 2.4%
2.1%
2.0% 1.3%
However, a faster-than-anticipated economic recovery,
coupled with a restoration of the cashflows disrupted by the
1.0%
pandemic in economic segments related to tourism,
0.0%
entertainment, exports and other in-person services, could
soften the provisions.
Gross NPL ratio Net NPL ratio
Capital: Borrowings Equity
and Equity A few banks also raised equity through private placements
and equity-like bonds in 2020. In October 2020, USD 50 Mn
(~LKR 9.2 Bn) was raised by Commercial Bank of Ceylon
PLC, for a 10.5% stake in the bank to a consortium of three
Borrowings investors led by IFC.
Bank of Ceylon raised LKR15.0 Bn in BASEL III-compliant

Borrowings by way of corporate debentures, call
Perpetual Bonds, which qualifies under Additional Tier I
borrowings and refinance borrowings in the rupee market
Capital, through two issuances in June and November 2020.
surged by little under LKR 99.4 Bn in 2020 compared to a
decline of LKR 47.0 Bn in 2019. This may be due to the
larger banks in particular seeing significant growth in In June 2020, National Savings Bank, announced the issuance
deposits due to inflows from finance companies and of a similar bond to raise LKR 5.0 Bn to bolster its capital and
smaller banks. sought a rating on the instrument from ICRA Lanka Limited.
The momentum is expected to continue, as seen from the
Given the lower interest rate environment, there were 8 announcement by NDB in March 2021 of the investment of
primary debt issuances in 2020, lower than the 11 in 2019. USD 3 Bn by Norfund, the Norwegian Development Finance
Institution, in return for a 9.99% stake in the bank via a
private placement. Norfund has also stated that it would
Net foreign currency borrowings declined by LKR 86.6 Bn
participate in NDB’s LKR 8.0 Bn right issue should there be
in 2020 due to foreign currency settlements by banks. Even
any unsubscribed rights.
though foreign currency borrowings from DFIs gathered
momentum following the lockdowns, settlements
The banking sector’s ability to generate higher earnings in
outpaced fresh borrowings.
2020 also enabled the sector to cushion its equity base in
.
2020, providing further heft to the capital, with 11% of capital
Foreign borrowings by banks include:
funds being supported by improved earnings.
 A USD 60.0 Mn medium-term funding line raised by

Hatton National Bank by Proparco, the private sector
funding arm of the French Development Bank Agence
Française de Développement (AFD) in October 2020.
 USD 35.0 Mn raised by National Savings Bank from a

consortium of Indian banks in January 2021.
 Nations Trust Bank accessing USD 25.0 Mn from IFC as

a loan facility for on-lend to pandemic-affected
businesses.
A few other banks are already in discussion with several

Development Financial Institutions (DFIs) for further
funding in foreign currency as the banks leverage their own
balance sheet strength to raise money.
Capital adequacy and

liquidity positions remain
stable, backed by the regulator
Despite pandemic-induced shocks, the banking sector However capital adequacy depletes with the reduction in
maintained itself above the minimum capital adequacy value in foreign currency denominated government securities
requirements. The sector’s total Capital Adequacy Ratio such as ISBs, as there is a capital charge against the
(CAR) was 16.5% at end-2020, consistent with 1H2020 increased credit and market risk of holding them amid
and end-2019 levels. Meanwhile, the Tier 1 Capital ratio increase sovereign risk.
remained at 2019 levels of 13.0%, albeit slightly lower than
the 13.1% reported in 2018. Meanwhile the two ratios Total capital adequacy ratio
improved in 1Q2021 to 16.6%, and 13.3% respectively 25%
reflecting stronger earnings.
20%
Revised Capital Adequacy Requirement 15%
CET – I Tier I Tier I + II 10%

Requireme Requirement Requirement
nt
5%
D-SIB s (B ucket 1) 7.0% 8 .5 % 12.5 %
D-SIB s (B ucket 2) 7.5 % 9 .0% 13 .0% 0%
Non D-SIB s 6 .5 % 8 .0% 12.0%
PB
HNB
SCB
UBC
NSB
BOC
COMB
ABL
NTB
DFCC
SAMP
SEYB
HSBC
RDB
NDB
PABC
2019
LCBs and LSBs have been granted an additional two years CET 1 ratio
until December 2022 to meet their minimum core capital
25%
requirements of LKR 20.0 Bn and LKR 7.5 Bn, respectively.
This extension has helped some of the small banks but did 20%
not have an impact on mid-sized and larger banks that 15%
already met this criteria. 10%

5%
In a further move to support the banks’ capital, in 0%

PB
HNB
SCB
UBC
NSB
BOC
COMB
ABL
NTB
DFCC
SAMP
SEYB
HSBC
RDB
NDB
PABC
September 2020 CBSL-permitted banks were allowed to

sell up to 20% (to be gradually reduced to 15% within 10
2019 2020
years) of their shares to multilateral financiers such as IFC
Revised Requirement Previous Requirement
and Asian Development Bank, while others could do so
with the approval of the Monetary Board.
Tier 1 capital adequacy ratio
These interventions to preserve capital, alongside anemic 25%

growth in loans or risk-weighted assets, substantial
20%
retained earnings and new capital raising, helped the banks
15%
to remain above their minimum Capital Adequacy levels
through 2020, as required under their respective buckets 10%
re-classified by the CBSL: D-SIB (Bucket 1), D-SIB (Bucket
5%
2) and Domestic N-SIBs.
0%
2019 2020 Revised Requirement Previous Requirement

Liquidity
In 2020, several factors supported the banking sector to
SLAR (DBU)
build up liquidity beyond the level required by the regulator:
90.0%
80.0%
Lowered policy rates 70.0%
60.0%
 Reduction in the daily reserve requirement to 20% in 50.0%
April 2020 from 90%, with the aim of allowing LCBs to 40.0%
comfortably manage their respective overnight liquidity 30.0%
20.0%
requirements. 10.0%
0.0%
PB
HNB
SCB
UBC
NSB
BOC
COMB
ABL
NTB
DFCC
SAMP
SEYB
HSBC
RDB
NDB
PABC
 Lowering of the SRR in June 2020; this released LKR
115.0 Bn in additional liquidity into the domestic
economy.
2019 2020 Minimum SLAR requirement - OBU
 Changes in the definition of liquid assets used for the

computation of the Statutory Liquid Assets Ratio. SLAR (OBU)
90.0%
 Reduction in the LCR to a minimum requirement of 75.0%

90% in May 2020 from 100% previously.
60.0%
45.0%
 Lowering of the minimum requirement for the Net
Stable Funding Ratio to 90% in May 2020 from 100% 30.0%
previously. 15.0%
0.0%
 Restricted discretionary payments of LCBs in May 2020
until end-2020, including declaration of cash dividends
and repatriation of profits.
2019 2020 Minimum SLAR requirement - OBU
Furthermore, slow growth in loans in 2020 led to a

reduction in the Credit-to-Deposits and Borrowings ratio by
Liquidity ratios of the banking sector
407 basis points over the year, increasing sector liquidity.
150%
These factors combined to result in the banking sector

reporting a SLAR of 37.3% by end-2020 (under the 100%
Domestic Banking Unit), up from 31.0% in 2019, compared
to the 20% minimum requirement.
50%
In the Offshore Banking Unit, the SLAR reached 43.2% in

2020, down from 47.1% in 2019, as banks retired part of 0%
2015 2016 2017 2018 2019 1H 2020 2020
their foreign currency liabilities in 2020.
Credit to deposits and borrowings Liquid assets to total assets
SLAR - DBU Liquid assets to deposits
Outlook Meanwhile, data showed that internet-based payment

volumes increased by 56.8% YoY in 3Q2020. Operating
expenses declined by 3.9% YoY in 2020, resulting in the Cost-
Banks are expected to continue to remain well capitalized to-Income ratio declining to 75.7% in 2020 from 77.8% in
in 2021 as they continue to seek avenues to bolster capital 2019, buttressing earnings.
buffers. Organic capital growth also remains a possibility,
through capitalizing earnings, which are expected to be Banks have broadly decided to roll back earlier plans for brick-
substantially higher than in 2020 due to the improved and-mortar expansion in response to the reasonably
earnings potential amid accelerated loan growth. successful adoption of digital banking platforms by clients.
This will hold off most of the moneys earmarked for new
While the excess liquidity in the system is anticipated to branches, new staff and systems, thus saving overheads.
come down from 2020 levels through deployment as
relatively high-yielding loans and advances, banks are The prevalent work-from-home and flexible working
unlikely to come under any undue pressure to maintain arrangements would lower operational cost as banks adapt to
sufficient liquidity in 2021. the emerging new working arrangement after a reasonably
successful experiment during lockdowns. The repeated
Several banks have already announced capital disruptions into in-person activities should further embolden
augmentation plans for 2021 commensurate with their the banks’ shift to virtual platforms improved levels of
growth targets, and hence sector liquidity will continue to efficiency.
remain at comfortable levels, as the current excess liquidity
Cost-to-income ratio
appears to be more than required to meet the projected
growth in private sector credit and broader growth in loans
100%
and advances in 2021.
75%
50%
Banks significantly reduce 25%
cost-to-income ratios 0%
PB
HNB
SCB
UBC
NSB
BOC
COMB
NTB
DFCC
SAMP
SEYB
HSBC
RDB
Amana
NDB
PABC
The sector’s CIR declined in 2020, a result of limited branch

2019 2020
operations during lockdowns and bank-wide cost
rationalization measures instituted as soon as the
conventional banking business model was disrupted. Other
contributing factors included lower utility expenses, inter-
regional visit cancellations due to COVID-19, and
digitization of most transactions.
With movement restrictions and the need to work and

conduct business from home, individuals and small
businesses turned to digital platforms for banking services.
This was reflected clearly in digital fee incomes, which rose
by double digits, as well as in overall Net Fee &
Commission Incomes, which fell due to regulatory
mandated fee waivers and relatively slow activity.
Banks recorded profits supported by a resurgent

economy and regulatory support
Despite the substantially higher provisions for possible loan Return on Assets (ROA)
defaults necessitated by the pandemic and the
‘Management Overlay,’ listed banks recorded higher 6%
earnings in 3Q2020 and 4Q2020 versus the first half of the
5%
year.
4%
Banks largely mitigated the vagaries of the pandemic to

3%
deliver their best earnings performance in 2020, translating
into a 17.8% YoY increase in profit after tax. In 2020, 2%
Return on Equity (RoE) reached an average 11.3% (10.3%
1%
in 2019). before shot up to 16.0% in 1Q’21 on even
stronger earnings. 0%
RoE was in decline since 2018 due to the sustained build-

up of capital by the banking sector to stay in line with
mandated minimum capital levels. This situation was Return on equity (ROE)2019 2020
exacerbated by the slowdown in earnings growth due to

25%
subdued loan growth.
20%
The higher earnings and RoE in 2020 were predominately
supported by:
15%
Removal of the 7% Debt Repayment Levy and the 2%

10%
Nation Building Tax (NBT) on Financial Services, resulting in
a lower Effective Tax Rate for banks, Decline in operating
expenditure, Higher pre-impairment profits, resulting from 5%
the increase in private sector credit and other operating

incomes. 0%
Return on Assets (RoA), another measure of profitability

and efficiency, remained flat at 1.4% between 2019 and
2020 before sharply rising to 2.0% in 1Q2021, reflecting 2019 2020
higher efficiency in utilizing assets.
Outlook
For credit facilities not included under EMI Loans, such as
overdrafts, the banks converted the capital and interest due
during the period of the moratorium into a new term loan.
As provisions for credit losses are expected to soften in
2021 on the back of the resurgent economy, earnings could
Phase II: Moratorium (1 October 2020 to 31 March
gather further momentum from end-2020 levels.
2021)
This was amply evident from 1Q2021 listed banks’

earnings which soared by 70% YoY and 33% QoQ to For the Phase II Moratorium, starting 1 October 2020, banks
LKR.24.9 Bn, a record high. did not recognize the ‘Modification Loss,’ as they were
allowed to recover interest at the original Effective Interest
This growth would be in addition to higher NII and Fee and Rate (EIR) during the moratorium period.
Commission Incomes stemming from accelerated new
loan growth in 2021. However, with the resurgence of the Therefore, banks converted the capital and interest due
virus and its lingering impacts could slowdown the pace of during the Phase II Moratorium into a term loan, repayment
earnings growth in the year, although the earnings would of which will commence from 1 July 2021. The tenure of the
still be higher than in the FY20 from higher margins and new loan would generally be two years, but the specific
higher loans. terms and conditions can be agreed upon between the
borrower and the bank.
Phase III: Moratorium (1 April 2021 to 30

September 2021)
CBSL extended the In a more targeted round of relief, banks are to
moratorium and introduced accommodate payment holidays for leases on vehicles

engaged in the passenger transport sector, including the
other measures
tourism sector, and for facilities in the broader tourism
sector, given the lingering negative effects of the pandemic
on these sectors.
Phase I: Moratorium (1 April 2020 to 30

Banks will hold off on collecting the capital and interest
September 2020)
components of these leases and other facilities for six
months starting 1 April 2021. The moratorium on leases is
Under the ‘Modification Method’ prescribed in IFRS 9,
only recoverable from April 2023, unless along with the
banks recognised a ‘Modification Loss’ against interest
existing lease instalments falling due during this period for
income as the Day 1 impact of the Phase I Moratorium on
facilities ending before April 2023, financial institutions can
both capital and interest kicked in from 1 April 2020
recover interest upon the completion of the remaining
through to 30 September 2020. In this phase, banks were
tenure of the lease facility.
advised by the CBSL to recover the capital of those loans
under moratorium at the end of the loans’ tenure by adding
Phase IV : Moratorium (15 May 2021 to 31 August
an extended tenure equal to the period of the moratorium
(six months) and to charge interest of a maximum 7%, or a
2021)
rate agreed on with the borrower, for this extended period.
This mechanism applied to those loans categorised as The CBSL provided another round of moratorium from 15
‘Equal Monthly Instalments, (EMI) Loans, which are May 2021 for three and a half months to provide payment
facilities with a specific instalment value, due on a specific relief for the borrowers affected by the third wave of the
date of the month. These include term loans, personal pandemic.
loans, lease rentals and housing loans.
Going Digital,
Faster
The pace and the degree of digital transformation is accelerating in the wake of
COVID-19, with ever greater pressure to meet customers wherever they are. This
calls for flexible, ‘commerce everywhere’ business models, and a renewed focus
on employee experience to drive an enhanced customer experience.
Gaining a digital edge

To compete in the digital, post-COVID-19 age,
organizations must attain the capability to connect digitally
with customers, suppliers and employees. This means
addressing five key challenges:
Digital Acceleration Ways of working

Rapidly build a digital technology infrastructure, to The way in which work gets done has changed and
connect front, middle and back offices, organizations must adapt, to become nimbler,
encompassing HR, IT, finance, operations, scaling up or down swiftly, entering new markets
procurement, marketing, sales and customer and exiting old ones. COVID-19 has reinforced the
service. need for efficient remote working, but companies
also need to ‘shape’ their workforces, to ensure
they can access the skills they need — when they
Customer behavior need them. Many enterprises recognize the need to
Create customer-centric business models where radically change their shape, size, and structure, and
customers buy and engage through integrated to acquire a range of new skills. Through strategic
digital channels - increasingly with little or no reskilling initiatives, and by embracing the
physical contact. The customer experience must be professional ‘gig’ economy, they can benefit both
relevant, personalized, differentiated and workers and employers. Additionally, shared
competitive. To understand customer needs and services, partnerships, alliances and strategic use of
preferences, data and analytics should inform retired staff, brings access to vital talent on a short-
customer strategies and tactics across the to-medium term basis. The ‘workforce of the future
converging front office of marketing, sales, service ecosystem’ is becoming more and more digital,
and commerce. This can help achieve the increasingly augmented by automation as well as
appropriate customer experience economics. contingent workers.
Supply Chain and operations Resilience

Supply chain and operations must become more COVID-19 has demonstrated that the ‘digitally
reliable and responsive. By digitally connecting and enabled’ enterprise is in fact the ‘resilient’
working more closely with suppliers and service enterprise; digitally enabled organizations have the
providers, companies improve flexibility to respond capabilities to withstand the impact of pandemics
to fast-changing customer needs. Suppliers become (and other shocks) and should be far more agile on
an extension of the business and are involved in their path to recovery. And, because they benefit
strategy and product development, thus blurring from enhanced insights, these organizations are less
organizational boundaries. Indeed, the roles of dependent upon manual intervention, location and
varying players in the operations/supply chain may market forces.
change continually up or downstream, as the chain
becomes more modular in nature. By using internal
and external data, available in real time,
operations/supply chain leaders can use analytics to
assess both demand and cost to serve, pick up early
warning signals from the market and take swift,
decisive action. Over time, decision-making should
be enhanced by ever more advanced technologies
and cognitive capabilities. The result? Greater
operational resilience to ensure continued access to
products, materials, people and services.
Short-term priorities call for Customer behaviour –

long-term, digital solutions The driver for centricity
COVID-19 has caused leaders to rethink their priorities, There are three defining characteristics of customer-centric,
with an emphasis on immediate challenges. The leaders digitally connected businesses
we surveyed highlight significant challenges like falling
revenues, security concerns and interrupted supply chains, 1. They think ‘outside-in’ and intimately understand the
which have focused minds on the here and now and evolving consumer and the marketplace
demand immediate action. In addressing these concerns,
they are also starting to realize that the inexorable shift to
2. They create engaging customer experiences
digital has become today’s — rather than tomorrow’s —
wherever the customer may be
priority.
3. They execute seamlessly, by connecting the whole

Top 5 COVID-19-related priorities enterprise and delivering as one.
RS
The COVID-19 difference… rising
customer centricity
01 02 03
Loss of Increased Supply chain COVID-19 has focused minds even more keenly on
revenue security risk delays/breakdown
customers, with a significant majority of respondents saying
their organizations are accelerating such initiatives.
04 05 Among top digital Proportion of

Development of Modified service delivery transformation respondents
new channels to arrangements to accommodate objectives pre- accelerating
serve customers health and safety requirements COVID-19 these initiatives
Strategic priorities amplified 28% 44%

since COVID-19 Staying connected to
market dynamics and
digital signals
RS Driving revenue
Improving customer experience 32% 58%

Adding new digital capabilities Creating a customer-
centric digital commerce
system
Creating a digital business model
Building new digital products and services

46% 67%
Improving the customer
experience
Building digital platforms for customer-facing
systems
The COVID-19 diﬀerence… the future of work

Employees incentivized/ mandated to wear
49% personal protective equipment at work 39% Limit the number of people in each in-
person meeting
Increased physical distance between

47% workspaces 35% Onsite workplaces brought back at reduced
capacity to support social distancing
Mandatory temperature checks and travel

46% histories for visitors prior to workplace entry 35% Employees allowed to work from home until
they’re comfortable returning onsite
Increased need of tech support as Employees brought back to work in stages

43% employees return to the office 30% to reduce financial risk
Permanent move to a partial or full work-

41% Maintain restrictions on noncritical business
travel 26% from-home operating model
Digital transformation priorities across the eight capabilities

of a connected enterprise Responsive operations
and supply chain
Integrated partner
80% Seamless
interactions and
commerce
and alliance
ecosystem 50% 75%
Experience
Innovative
products and 50% 71% centricity by
design
services
Insight-driven
strategies and
62% 67% Digitally enabled
technology
actions
63% architecture
Aligned and empowered

workforce
Five actions you can take now

Operations/supply chain Ways of working
Invest in real-time, predictive models, rethink the roles Focus on the capabilities you need in a future
of each player in the supply chain, and introduce a connected enterprise, and plan how to access these
more collaborative relationship with suppliers, to resources via permanent, gig economy or other
increase innovation and flexibility. partnerships, while investing in upskilling — especially
in digital skills. Rethink the balance between physical
and virtual assets and human resources, embracing
automation.
Customer
Put your customers first — at the heart of strategy.
Become insight driven — know your customers at a
deep and profound level. Practice customer foresight -
to anticipate customer needs and become organized
Resilience
around the customer and able to meet the customer Consider the technologies that can get you closer to
wherever they are. the customer, and help you manage a constant,
heightened risk environment, particularly cyber
security, governance and ethics. Your technology
investments should be aligned with your wider
Digital acceleration strategic goal of customer centricity — which means
If you’re not digitally transforming at pace, the chances focusing on the eight capabilities of a connected
are you’ll be left behind. Converge digital with broader enterprise.
strategy, to swiftly adopt new technologies and
flexible, modular — in some cases virtual —
organizational structures.
©©2021
2021KPMG, a Sri Lankan partnership
partnershipand a member
a memberfirm ofof
the KPMG global
globalorganization ofof
independent
independent member
memberfirms affiliated with KPMG International Limited, a
private
KPMG,
English
a Sri
company
Lankan
limited
and
by guarantee. All rights
firm
reserved
the KPMG organization firms affiliated with KPMG International Limited, 50
At the
Intersection of
Resilience and
Relevance
As financial services firms emerge from the initial disruption of the pandemic,
many will be asking whether they are resilient and relevant enough to thrive in
the new reality.
The pandemic has radically changed the environment in

which financial services operate. Its catalytic impact has
been obvious. It accelerated digitization by at least 5 years.
It sparked new business models and technologies. It
ushered in an unexpected era of remote working and
decentralized workplaces. It sharpened minds around the
Environmental, Social and Governance (ESG) agenda.
It changed the relationship between financial services

firms and their customers. In the space of months, it did all
of this and more.
Take a step back, however, and what starts to become

clear is that the greatest impact of the pandemic has been
on the definition of resilience and relevancy in the financial
services space. It is the rapid evolution of those two
concepts that have underpinned financial services
organizations’ responses to the pandemic. And it is those
two concepts that will drive the strategy going forward.
A new reality emerges

Resilience and relevance have always been the
cornerstones of the financial services industry. From the
very earliest days, customers wanted resilience and
relevance. Over the centuries, the definition of ‘resilience’
and ‘relevance’ continued to evolve as social expectations
and market realities changed.
Now the definition has changed once again. Hitherto,

most conversations about resilience in the financial
services sector gravitated around financial resilience.
Since the pandemic, this focus has rapidly broadened to
include a wide range of operational and market
resilience considerations.
Regulators, customers and executives all want to know

that financial services organizations (and their wider
ecosystems) are able to withstand a much broader basket
of risks than simply financial ones.
The definition of relevance has also rapidly changed. In the

past, market presence was tantamount to relevance; if you
built a robust financial services infrastructure, customers
would eventually come. Yet that is no longer true in
today’s environment. Customers have a wide range of
alternatives and options when it comes to their money and
their finances. Market presence and brand name are no
longer enough to secure loyalty.
Find the intersections

The key to defining your future strategy as a financial
institution, therefore, rests in your ability to remain resilient
and relevant on an ongoing basis, adapting your strategy
and activities as the definition of the two changes.
There are a handful of ‘intersection’ points where resilience

and relevance coalesce. These are the areas where,
perhaps, most financial services executives should be
focusing first.
The impact that people, values and culture have on both

resilience and relevance.
Customers want service providers that share their values (relevance). Employees want to
work for companies that stand for more than just making shareholder profits (relevance and
resilience). And, according to a recent survey of Financial Services CEOs by KPMG
International, purpose also leads to more confident decision-making in a crisis (resilience).
How digital drives both relevance and resilience.
Digital enabled the rapid shift to the new reality workforce, delivering
unprecedented resilience when the sector needed it most. Digital also
enables the creation of new and innovative business models, products
and channels which enhance relevance for customers and stakeholders.
Management of costs
Lower costs enhance resilience and lead to new operating

models which enhance relevance, customer focus leads to
more relevant products and services as well as a more
resilient customer base, or even risk management which has
an obvious impact on resilience but, when approached
holistically, can also enhance relevance.
What should you do now? Time to get real

The financial services executives and leaders should start Unfortunately, not every financial Institution will be able to
by looking at your organization’s present and future through make the jump. Indeed, many will undoubtedly start to
the lens of resilience and relevancy. Consider the recognize they lack sufficient skills, resources, technologies
intersection points and how the definition of the two or capabilities to achieve the types of changes they require
concepts are changing. Take the time to understand your in order to remain resilient and relevant into the future.
stakeholder and customer needs related to resilience and Organizations and executives will need to be very honest
relevance. Think about whether your organization is about what they can practically achieve with the resources
meeting those needs. at their disposal.
Over the coming year, expect to see massive changes in

the market as players start to grapple with – and eventually
overcome – these challenges. Some of the largest and
most innovative will double down on their efforts to build
their own market-leading capabilities that drive resilience
and relevance.
The vast majority of financial institutions, however, will

likely choose to either leverage new technologies, tap into
managed service models or enter into new alliance
relationships in order to bridge existing gaps and secure the
capabilities they require to remain resilient and relevant in
the new reality. We will also see a significant number of
organizations succumb to the pressure. Expect to see an
uptick in merger and acquisition activity around the world
as some organizations realize the gap is too wide (or the
effort too exacting) for them to win in their chosen
markets.
Future of
Retail
Banking
Becoming a Connected Bank takes commitment and determination.
Achieving it has become more important than ever before. It is the key to
providing consumers with the enhanced customer experience that is
fundamental to future success.
Signals of change Key purchase drivers

Retail banking faces a more complex environment than
perhaps ever before. Driven by COVID-19, the social and Value for money
economic landscape has been radically reshaped while
customer needs and expectations continue to dynamically Ease of buying
evolve.
Trust in the brand
Customer
My personal safety
The global impact of COVID-19 has accelerated consumer
expectations and shifted priorities. Those banks that are
Customer experience
able to deliver seamless and personalized experiences to
their customers, based on relevant data and insights will be Range of products and services
best placed to grow market share.
Staff/people policy
Competitive Direct communications
Incumbent banks are being challenged from all sides for

Brand’s values match my own
market by a combination of neo banks and non-traditional
participants. Longer term, customers will turn to alternative
Support for local communities
providers if their needs can be met more effectively.
Brand’s social conscience
Economic Brand’s approach to the environment

The adverse economic headwinds of COVID-19 will
challenge retail banking margins. Traditional profit pools are Personalization
under threat causing retail banks to rethink their business
and operating models in order to achieve profitable growth.
Regulatory
Globally, regulators will take an interventionist approach to
increase competition, drive greater enterprise resilience,
increase cyber security, protect data and support
vulnerable customers. Retail banks will need to remain
agile in their risk management approach.
Technological
Technology will continue to redefine the relationship
between customer and retail bank. Banks need to prioritize
their investment in current technologies in order to enable
profitable growth and future agility, as well as to
substantially reduce the cost of operations through
automating manual, paper-based processes.
Competitive signals
Incumbent banks are being challenged from all sides for transfer funds using a telephone network without the
market share by a combination of neo banks and non- complexity and fees of bank accounts. These are significant
traditional participants. Globally, the market has been threats for incumbent banks who have been able to rely on
flooded with a new wave of growing neo banks. direct customer relationships to ensure ‘stickiness’ and an
Unburdened by legacy technology and operating with opportunity to sell additional products and services.
greater agility, neo banks are able to offer personalized However, it is not all bad news for the incumbent banks.
experience and seamless interaction craved by a
generation who demand a smart digital experience. Neo banks are still not widely used as a primary banking
service. This is likely due to customer inertia or feeling that
Incumbents are also being challenged by a series of non- there is a lack of trusted viable alternative especially in light of
traditional players. In Asia, social media platforms such the recent pandemic. However, we believe over the longer
as WeChat have enjoyed success in offering banking term, customers will turn to alternative providers if their
services. Similar well-established online retailers such as needs can't be more effectively met.
Alibaba have begun to offer banking services drawing on
their advanced technology and well-established customer Neo banks may defer profitability for scale and move towards
base. The market has also seen the introduction of more larger, more exclusive customer base, thus challenging retail
specialist providers, operating in previously unexplored banks. Retail banks need to decide where to emulate
areas of the market. In Africa and Asia, micro-financing competitors or band together to form partnerships to retain
providers like Paytm are enabling unbanked customers to competitive advantage.
Economic signals
The adverse economic headwinds of COVID-19 will Half of respondents across all global markets feel this is
challenge retail banking margins. With traditional profit more important now than pre-COVID-19.Income will be
reduced due to an increase in bad debt and low interest
pools under threat, retail banks need to consider changes
rates limiting the capital available to retail banks for more
to their business and operating model. Digital profitable lending activity and applying further pressure to
transformation has become an imperative for retail banks’ margins. We see some international banks retrenching
success. from global markets and putting greater focus on their
home markets. This is likely to have implications for
customers. The viability of existing credit models within
The global economy remains in recession with the timing banks will be reduced, leading to a tightening of credit and
and path to recovery unclear. Consumer confidence is limiting the appetite to lend until confidence is restored
low, with redundancies commonplace. With the route to
“Just over half of consumers feel financially
economic recovery uncertain, value for money has comfortable or secure versus 43 percent who feel
become the single most important factor in customer overwhelmed or vulnerable”
decision-making.
Financially overwhelmed
Financially sensitive  Much worse off

 Struggling to cover
 Slightly worse off essentials
 Stopped non-essential  Overwhelmed and anxious
purchases 28%
 Vulnerable
15% Financially comfortable
 Not affected financially

Financially secure  Spending as before
 Better off  Calm
 Spending as before on 44%
essentials, but have 13%
deferred major purchases
 Optimistic
Regulatory signals
Globally, regulators are likely to take an interventionist
approach to increase competition, drive greater enterprise
resilience, increase cyber security, protect data and
support vulnerable customers. Regulators will also need
to balance the need for banks to extend credit to support
economic recovery efforts.
During the ongoing COVID-19 pandemic, many

governments have provided stimulus funding to protect
consumers and the wider economy. We expect this
interventionalist approach to continue with regulators
given sharper teeth to push forward with the regulatory
agenda.
A growth in cyber attacks — for criminal gain or as

disruptive weapon — will result in an increased regulatory
focus on security and cyber controls. How these operate
in a cloud-based environment will become a particular
area of scrutiny.
Data privacy regulation will accelerate. Regulation will

Regulators will continue to drive competition through focus on collection and ownership of personal and biometric
intervention, reducing barriers to entry and targeting data in the context of emerging technology. Additionally, it
incumbents with ‘open banking’ style requirements to will be critical to balance privacy with the introduction of
open up APIs to access account information and payment various forms of open banking/finance occurring in many
functionality. Open Data ecosystems will create broader markets. Increased clarity of requirements coupled with
and more complex interactions with players from different greater enforcement by local regulators will be needed to
sectors where the regulatory landscape is not level. underpin customer trust.
Compliance with these regulations will not only present
an increased overhead for banks, but will also challenge
The disruptive impact of COVID-19 will mean that
their top line growth as new ‘digital first’ competitors
enterprise resilience remains a top priority for regulators
flood the market.
globally. Requirements will focus on providing continuity of
technology systems and business services, with clear
Unfortunately, the lasting financial impacts of COVID-19 business interruption a planning to manage incidents.
will lead to a higher number of vulnerable customers.
Banks will need to have a clear and justifiable approach to “Retail banks need to consider how well they are
identifying and managing diverse types of vulnerable organized to efficiently fulfil their significant regulatory
customer, supporting them in appropriate ways. and compliance obligations.”
Technological signals
Technology will continue to redefine the relationship Many banks will need to accelerate and scale their own
between customers and retail banks. Our research infrastructure and cloud programs to drive digital
indicates efforts around a digitally enabled technology functionality, fulfilment and personalization — which will
architecture, experience centricity, and insight-driven often be in partnerships or joint ventures with agile,
strategies and actions will be among banks' top priorities innovative fintech players. They will need to utilize
to support their digital transformation moving forward. sophisticated data & analytics information to target the right
products and services to individual customers, with the right
Retail banks continue to invest in technology to achieve frequency, through the right channels.
cost reduction, process improvement and efficiency.
Cloud solutions, for example. are replacing the traditional It will also be key that banks have an unrelenting focus on
use of data centers at some banks looking for increased the operational resilience and security of their services,
security, greater resilience and scalability. Seventy-five particularly against cyber attacks, as more services move
percent of our survey respondents said they are online and to digital. In the middle and back offices, it will be
leveraging cloud computing to enable their digital crucial to leverage new technologies to move processes
transformation. onto a more digital footing, replacing manual and paper-
based operations with greater levels of automation and
The growth in the power of data & analytics and the straight-through processing.
increase in the volume of data available has enabled
greater personalization of all customer interactions from New technology has given rise to a set of new interaction
marketing through to sales, on-boarding and servicing. channels such as APIs which are being embraced by leading
Seventy-one percent of our survey respondents said it is a financial services firms to reach new customers. Technology
key priority to support their digital transformation moving will continue to evolve at pace and emerging concepts such
forward. as augmented reality and distributed ledger technology will
further redefine the nature of banking services.
“Retail banks need to decide which combination of
technologies to invest in to enable profitable growth The above technologies will combine to redefine the bank-
and future agility.” customer relationship, making banking more personalized
across customer devices.
However, many incumbent banks may not currently be
using the information as effectively as they could. Now, with low code development, ease of integration
Furthermore, open banking/open data is reshaping global capabilities and cloud, the technology element of digital
ecosystems and creating new business models that transformation is no longer the difficult part. It is within
banks should evaluate. the other signals where the challenges lie.
Leading banks are already systematically deploying

automation solutions such as RPA and chat bots to
increase efficiency and leverage insights. This will
become the default approach in the bank of the future.
Business models in the

market today
There are five main types of retail banking business Money transfer providers
models we see in the market today.
These banks have the main objective of furthering
financial inclusion. They usually have a limited
Full service banks range of basic banking products, such as deposit
These are banks that provide the full range of accounts and remittances, but have a widespread
banking services across broad customer network either through branches or networks
segments, from retail and business banking to provided by others such as retailers or post
commercial and investment banking. Most of offices.
these banks already provide bancassurance or E.g. Western Union, PayPal
wealth management related products and
services.
Digital wallet providers

Banks that employ the wallet model focus on the
customer experience in digital transactions. They
Specialist banks are typically born from fintech companies that
Specialist banks focus on retail and small interface with social media platforms, and have
business customers and tend to have a strong expanded to provide deposit and lending services.
understanding of the needs of their target E.g., WeChat Pay, Ant Financial, Paytm
customer segment. The bulk of their revenue
tends to be interest income from products such
as mortgages. This category also includes the The signals of change are driving an evolution across the
small digital neo banks. retail banking sector, and our research tells us that in
E.g., DBS, Equitable Bank, Monzo order to achieve profitable growth and better manage the
impacts, banks will need to pivot to business model
ecosystems to succeed in the future.
Consumer credit providers

Consumer credit focused banks mainly target
under-served sections of the community. These
banks often started out as non-bank financial
institutions such as auto loan providers, subprime
credit card providers or gold lenders, but have
since taken deposits to reduce their funding
costs.
E.g., American Express, Mastercard
Banking business models

of the future
In the future, we believe three retail banking models are With large customer bases and benefiting from rich
more likely to dominate the market, including a new type customer transaction history data, the success of these
of ambient bank. The customer will be core to the banks will be facilitated by open banking — which could
strategies of all three models. also enable big tech companies to take a slice of the
action and perform an increasing number of banking
transactions for their customers.
Universal banks
Universal bank margins are being squeezed on
both ends, with high operating costs and
downward pressure on transaction fees and
Ambient banks
interest income. Consequently, universal banks Ambient banks don’t act as standalone entities, but
need to be data driven and develop ecosystems rather are the ‘invisible’ agents embedded within
of their own drawing on their large customer everyday Internet of Things (IoT) devices to
base. This will enable them to expand into new facilitate transactions. Having access to data from
profit pools, such as helping consumers and many IOT devices also will give the bank a deeper
households save in major spend categories, like understanding of customers’ spending habits and
utilities, groceries, telco/internet, etc. The ability credit needs.
to utilize transaction data will be key to this, to
enable a deeper understanding of customer The ambient bank is an enabler of ecosystems
behavior and opportunities to support them. such as those of Samsung and Microsoft. As a
result, the focus is on building and providing APIs,
Universal banks will retain some of their branch micro services and modular based technology
network, whether to serve high margin customer architecture.
segments that desire in-person interaction, or
rural communities that lack digital proficiency and Some traditional banks are exploring the ambient
access. Despite this, the operating model will bank model. FINN by ING Bank, for instance, allows
need to be as automated as possible to drive smart devices to make autonomous payments on
cost efficiency. behalf of the user. Goldman Sachs has launched an
API portal for developers, seeing itself as an API
producer in the ecosystem.
Transaction-focused banks
Transaction-focused banks are primarily
We believe one key attribute of the banking
payment service providers by nature. They are
business models of the future will be a greater
heavily focused on unit economics, having to
resilience to economic shocks such as those
ensure that the unit cost of transactions can be
resulting from COVID-19.
covered by revenue to guarantee sustained
profitability. They adopt a highly focused model
and target specific customer segments,
constantly innovating on those sets of customer
needs to expand their services.
Strategic themes
There are five strategic themes that we believe will
significantly impact all three business models.
Strategic theme I. Universal banks II. Transaction-focused banks III. Ambient banks
B2B and B2C m odel — B2B and B2B2C m odels — B2B m odel — am bient banks
1. Identifying and exp erience-centricity is crucial
and universal banks have to
transaction-focused banks
interface with m ultiple
are part of everyday IOT
devices and will create
serving customer
needs leverage their large volum es of ecosystems and have to innovative p roducts and
transactional data to create provide seamless interactions services on the back of the
digitally enabled, insight and commerce with them . growth of sm art, connected
driven strategies. technologies’.
Minim al em ployee costs as

2. Focusing on and
Cost pressures result in
universal banks reducing
High em phasis on automation
as transaction costs need to be focus is alm ost entirely on
driving cost provision of technological
their branch network and lower than revenue. There is a
efficiency
achieving operational efficiency need to invest in digitally infrastructure such as APIs.
by creating responsive enab led technology
op erations and supply chains. architecture to drive process
efficiency.
Evolution of front office Front office is m ore technology Front office is m ore technology
workforce towards millennials oriented and the workforce is oriented and workforce is
m eans universal banks need to focused on back office activities focused on back office rather
3. Adop ting new ways em brace new ways of working rather than customer than customer interactions.
of working to create an aligned and interactions. Agility com es from technology
emp owered workforce. Agility com es from technology and autom ation. Escalations are
Agility com es from skilled and autom ation, with bank m anaged by AI as data
workforce and technology. em ployees shifting their focus scientists build strategic
Bank em ployees shift their to m anage strategic policies direction into algorithm s.
focus to m anaging strategic and escalation.
policies and escalation.
4. Comp lying with
Risk and regulatory Evolving risk and regulatory Risk and regulatory
increased volume of
framework already fully framework, with som e cross- framework still nascent. High
regulatory driven
change developed, with pace of sector regulations applicable levels of cyber and tech risks
regulatory change increasing. (e.g. e-com merce). Fraud risk from IOT as each product and
Full set of established banking and incorrect transactions can device becom es a potential
risks and regulations apply. represent a large proportion of cybersecurity vulnerability.
total costs.
5. Identifying role
within wider Universal banks act as the Participants of as many Emb edded in ecosystems as
ecosystems ecosystems as possible,in enab lers. They are part of
anchor of ecosystems, creating
integrated p artner and order to increase volume of services and products, within
alliance networks. transactions and therefore IOT devices such as televisions,
revenue. refrigerators or cars.
Standing firm on
shifting sands
COVID-19 will be a catalyst for greater digitization of the banking and finance
industry as we expect a permanent shift from customers to digital services and
channels. We predict M&A activity to rise as incumbents make larger strategic
investments and pursue bolder M&A deals to accelerate their transformation
efforts.
COVID-19 Overall impact

on the banking sector The contraction in economic activity is having adverse
Profitability and credit consequences on credit quality as banks are increasing loan
loss provisions.
management/cost of risk
The low interest rate scenario, along with the significant

Securitization landscape
impact of the COVID-19, is reducing the core banking
profitability in mature markets. Financial institutions are The corrective actions of governments aims to mitigate the
thus shifting towards commission-based income from the risk profiles through further incentives
likes of payments and tech businesses.
for disposals.
One of the immediate effects of the health emergency on

It is likely that the future market of synthetic securitizations
the real global economy is the increased credit risk of
may require a revitalization after recent developments and
corporate and retail clients of the banks. In order to
important economic impacts that could come as a result.
continue financing the real economy and support its
recovery, banks are called to distinguish between purely
Over the past few years, several European banks have
temporary phenomena, destined to reabsorbed in a short
finalized important disposal operations of impaired loans,
time, and longer lasting impacts which would require
contributing to a significant reduction of the NPL ratio. Among
actions of management and reclassification.
the prominent evolutionary trends in the market, it is possible
to identify the strong interest on the unlikely-to-pay (UTP)
The primary aspects to be considered are:
loans, the birth of a fervent secondary market for bad debts
and the amalgamation of homogeneous large-ticket asset
 The forward-looking information update — in classes in the construction of portfolios intended for the
particular, the way in which new information must be market i.e. so-called single names.
incorporated into risk parameters needs to be carefully
analyzed, given the peculiar nature of COVID-19. This
may last for a lesser time than cyclical downturns
induced by economic-financial causes.
 The update of the ‘default rates’ which needs to take

into account any waivers granted by the authorities in
relation to only temporary phenomena of expiry of the
creditworthiness.
 The definition of the most appropriate timescales for

updating the ‘recovery rates’ in order to be able to
factor in the positive effects — albeit inevitably in
the medium term — deriving from the credit
recovery policies which could introduce forms
of deferred payments or agreements on
longer maturities (restructuring debt, etc.).
Customer relationship and COVID-19 eight impacts on

commercial models
Although COVID-19 may lead to a crisis in the overall
banking M&A
economy, the impact on the banking system and on the After a period of record M&A activity over the past decade,
bank-customer relationship can also be defined as a the banking industry is now facing unprecedented disruption.
‘positive discontinuity’ for the purpose of digitization of
the sector and the ability to offer an excellent customer M&A activity was down compared with that of the previous
experience. year. In terms of deal activity:
 Some acquisitions and divestitures have still been
Banks, even the most territorial and branch-centric ones, completed, particularly those near to signing and/or
are forced to encourage the use of channels that have closing, and some others have accelerated to overcome
never been their strategic priority. This phase would be additional disruption from COVID-19.
particularly complex, which banks need to address by
demonstrating real proximity with their customers.  Some deals have been put on hold due to the high
volatility in the financial market, as well as uncertainty over
The clear understanding by banking operators of their gap business resilience, while a few others have been
in the provision of services, becoming more tangible than canceled.
ever before with COVID-19, could make them even more
inclined to accelerate the digital transformation path Within this context, we expect banking M&A activities to
through partnerships and collaborations within the fintech increase in the future, primarily driven by domestic
community. consolidation aimed at improving bank efficiency and at
creating larger scale in order to compete with international
peers.
Operational resilience and business
continuity management In addition, acquisition of fintech and digital solutions
capabilities will have a key role in the M&A landscape to help
banks re-design their business models in order to survive in
The provision of technological innovation can play an
the long run in a low interest environment.
important role in guaranteeing the business continuity of
the banks: the activation and enhancement of robotics
Acceleration in global domestic consolidation
solutions or artificial intelligence (e.g., Advanced BOTs that
Domestic consolidation is likely to pick up pace with
support the processes of adoption of the technologies
the objective of increased operating efficiency at the
displayed on the channels direct) and mobility (e.g.,
national level in order to compete worldwide.
platforms for the management of promoters and systems
authorizations), if applied to critical processes, would allow
Rescue and restructuring deals to soar
for an easier protection in case of absence of staff.
Troubled banks may face rescue, restructurings and
nationalizations deals as governments/central banks
Given the necessity to have an unpredictable availability of
inject liquidity.
infrastructural resources, there is a clear opportunity also
for the financial sector to evaluate the benefits of applicable
Cloud technologies. NPL growth may overtake loan growth
Banks with high exposure to stressed industries
(hotels, restaurants, travel, oil & gas, etc.) are likely to
face an increase in NPLs and a worsening of the
asset quality. This could serve as potential
opportunity for asset management companies and
PE investors.
PE firms to reassess their investment plans Specialty finance and challenger-banks

Distressed valuation in the banking space may Specialty finance and challenger-banks are the new
represent a good entry point for some PE firms business model with a strong potential for superior
that are currently evaluating areas to invest their profitability; this new banking model is likely to get
liquidity. the opportunity to acquire market shares in the
lending space and could be involved in potential M&A
Fintech acquisition by traditional players transactions.
As funding sources dry up, struggling fintech firms
with limited market experience (especially online Boost for digital solutions
lenders) may be forced to seek collaboration or COVID-19 represents an opportunity to foster greater
acquisition by traditional financial institutions and use of digital capabilities. Fintech and digital solution
PE funds. players, such as payments solutions and instant
lending companies, are likely to get involved in M&A
Revival of distressed M&A transactions with traditional banks to increase their
There could be several opportunities for distressed operational efficiency.
investors given the deep discount that financial
institutions are facing in the stock market.
Moreover, buyers having surplus funds could take
advantage of low prices in the current scenario.
Key deal drivers under the lens

01 Fintech to roar
Top 3 picks  Fifty-six percent of key markets expect fintech

startups to have either a steady or strong
impact.
 India, Indonesia, South Africa and Chile are

markets to watch.
02 Regulators eyeing deals
 Forty-eight percent of key markets expect either a

steady or strong impact by regulatory
agencies/bodies.
 China, India, Australia, Indonesia, Italy, and

Luxembourg are markets to watch.
03 NPL markets in full swing
 Non-performing loan portfolio sales- . Thirty-six

percent of key markets expect either a steady or
strong impact by NPLs.
 China, Japan, India, Singapore, Thailand, Italy and

Chile are markets to watch.
Acknowledgements
The following KPMG staff have made significant contribution towards the
development of this publication.
Dhinali Peiris
Associate Director
Corporate Finance, Deal Advisory
Kasun Gunawardhana
Manager
Corporate Finance, Deal Advisory
Maheshini Senanayake
Senior Manager
Sales and Markets
Aadil Sulaiman
Senior Executive Digital Marketing
Sales and Markets
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Sri Lanka Banking Report – July 2021

KPMG Sri Lanka

But many smaller or mid-sized banks are less diversified.

The burden on the banking sector was alleviated by timely

Although higher provisions for loan defaults came into

Sector looks past the Banks flushed with liquidity

 The rapid, ‘V’-shaped recovery of the economy in

2 Anemic loan growth

Banks remain Earnings beat expectations

What to expect in 2021

Gross NPL ratio, performed better in 2H2020 than in

Despite back-to-back loan repayment holidays granted by

The relative indicator of profitability in the sector, Return on

Performance was also positively impacted by the improving

Operational benefits Funding costs declined

 Lowering interest rates on deposits and other sources of

Despite its broader health and economic damage, the funds.

pandemic and the resultant social distancing requirements

2 Implementing conscious cost-cutting

3 Holding off on investments in physical

4 Implementing significant on-boarding of

While this is already seen from the improved efficiency

Third wave delays Sri Lanka

Amid the pandemic, in August 2020 the country voted in a

5.0% 25.0 -3.6% -2.0%

This reflects the economic impact of the pandemic, with job

The CBSL reduced policy rates and the Statutory Reserve

The consensus on outlook is that the country is expected

The onset of the third wave led to revisions in Sri Lanka’s

Other global agencies such as the Asian Development

Inflation remains elevated as import

As a consequence of restricting select food imports and

However, improvements in external conditions as well as in

Declining tax revenues from tax cuts

The full impact of the pandemic and the post-Presidential

As expected, the combined effects of COVID-19 relief

Government Fiscal Operations 2019-2020 Foreign reserves continued to deplete in

Gross official reserve assets

Such measures include five-year income tax exemptions

Principal Interest  Oct 2020: GoSL received a USD 90 Mn grant from

 March 2021: The GoSL and People’s Bank of China

 April 2021: USD 500 Mn received as the second

Furthermore, following funding is expected

 Standby SWAP agreement of ~USD 1.5 Bn with

 Special SWAP facility of USD 1.0 Bn being

 USD 250 Mn worth SWAP facility from the

 USD 800 Mn under the IMF SDR allocation

 The SAARC Finance SWAP facility from the

Pressure on exchange rate despite GoSL’s

LKR per USD

The key points:

 Exporters are to repatriate their entire

CBSL’s accommodative monetary policy stance’

In June 2021, CBSL continued to keep the Standing

While the CBSL does not expect deposit rates to decline

Domestic credit growth driven

Moreover, net credit to the government grew to LKR 4.5 4000

Tn, up 64.4% YoY in 2020, as the GoSL borrowed heavily 3000

Net Credit to the Government (NCG)