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FirstHalf2016KenyaListedBanksReport,&CytonnMonthly-August2016Disclaimer: The views expressed in this publication, are those of thewriterswhere particulars are notwarranted.Thispublicationismeantforgeneralinformationonly,andisnotawarranty,representation,adviceorsolicitationofanynature.Readersaretherebyadvisedinallcircumstances,toseektheadviceofaregisteredfinancialadvisor.

ExecutiveSummary

Fixed Income: Yields on Government securities were on an upward trend during the month. Kenya’sinflation rate for themonthofAugust came in at 6.3%,down from the6.4% recorded in July and thePresidentassentedtoTheBankingAct(Amendment)Bill,2015;

Equities:TheequitiesmarketwasonadownwardtrendwithNASI,NSE20andNSE25decliningby5.2%,8.9%,and10.6%,respectively,takingtheirYTDperformancesto-7.4%,-21.3%and-16.1%,respectively.KenyanlistedbanksreleasedtheirH1’2016resultsrecordingcoreearningspersharegrowthof15.8%fromsametimelastyear;

PrivateEquity:Energy, ICT,andFMCGsectorscontinued towitness increasedprivateequityactivity inAfricaduringthemonthdrivenbyhighfundraisingactivities,competitionandthecontinent’sexpandingmiddleclass;

Real Estate:The cost of real estate development is likely to reduce following increased production ofalternativebuilding technology, tax incentives formassdevelopments and the introductionof capsonenvironmentalauditcharges.

FocusoftheWeek:WiththereleaseofH1’2016resultsbybanks,weexaminethestateofthebankingsectorinKenya,thetransitionthesectorisfacingandtheregulatoryenvironment.

CompanyUpdate

• Thisweek,webeganourannual6-weekUSDiasporaRoadShow,whereweshallmeetandinteractwith investors across several states. Join the team for a presentation and Q&A session oninvestmentopportunitiesinKenyaavailabletotheUSDiasporacommunity.Findoutwherewewillbenexthereandregister:USDiasporaRoadShow

• CytonnReal Estatewould like to introduce Taraji Heights, an integrated lifestyle developmentlocatedapproximately2kmfromRuakatowncenterona2.8-acresitetouchingLimururoad.Thisisoneofourinvestmentreadyproductsofferingbetween25%-30%returntobuyers.Theproject,whoseestimatedvalue isKshs2.5bn,will compriseof (i) residential apartmentswith2 and3bedroomoptions,(ii)aretailcomponent,and(iii)aboreholeandsewertreatmentfacility.WearecurrentlyatthedesignstageandaretargetingtobreakgroundinQ1’2017.Ourclientsareournumberoneagendaandassuchweareextendingaspecialofferopenonlytothem.Thiswillbeforalimitednumberofunitsat15%discountfromtheintroductoryprice.EarlystageinvestorsinourotherRuakaDevelopment,TheAlma,haverecordedcapitalgainsashighas55%,annualized,sincepurchasingtheirunitslessthanoneyearago.Seeintroductorypricesoutlinedbelow:

APARTMENTTYPE UNITSONOFFER

INTRODUCTORYPRICE(KSHS)

CLIENTOFFERPRICE(KSHS)

2BedUnits 9 7,900,000.0 6,720,000.03BedUnits 14 11,500,000.0 9,780,000.0Total 23

• Toinvestinanyofourcurrentorupcomingrealestateprojects,pleasevisitCytonnRealEstate.Wecontinuetoseeverystronginterestinourproducts,particularlyTheAlma,whichisnow50%soldandhasdeliveredanannualizedreturnfor55%p.a.forinvestorswhoboughtoff-plan.We

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have12investmentreadyprojects,offeringattractivedevelopmentreturnsandbuyer'sreturnsofaminimumof25%p.a.Seefurtherdetailshere:Summaryofinvestmentreadyprojects

• Our Senior Investment Analyst, Duncan Lumwamu, discussed the performance of the BankingStocks followingthesigningofTheBankingAct (Amendment)Bill,2015,whichcapped interestratesinKenya.SeetheLink:DuncanLumwamuonCNBCAfrica

• Wearecomingupwithaquarterlynewsletter–SharpCents,whichseekstoinformthemarketabout different trends in the market. The next quarter’s edition is themed “AlternativeInvestments–TheNextFrontier”.Weinviteyoutosharewithuscontent(700-1,000words)inlinewiththeabovethemeandweshallbeawardingthewinningarticle(s)ofthequarter.Pleasesendinyourarticlestocommunications@cytonn.comby16thSeptember2016

• WearecurrentlycarryingoutasurveyonthehospitalityindustryinKenyaforareport,whichweareworkingon,thatwillaidinunderstandingtheconsumer’sneeds,tastesandpreferences.Kindlyassistusbyfillingoutthequestionnairehere:Questionnaire:Hospitality

• Wecontinuetobeefuptheteamwithseveralongoinghires:CareersatCytonn.

FixedIncome

TreasurybillssubscriptionsincreasedduringthemonthofAugust,withoverallsubscriptionscominginat144.1%comparedto95.5%inJuly.Yieldson182-dayand364-dayT-billsincreasedduringthemonthby65bpsand13bps,toclosethemonthat11.1%and11.5%,from10.5%and11.4%,respectivelyattheendofJuly. The 91-day T-bill remained unchanged at 8.3%, having witnessed a 35 bps decline, with a 200%subscriptionrateinthelastweekofthemonth.TheincreaseinyieldsduringthemonthwasonaccountofGovernmentborrowinggiventhenewfiscalyear.However,atthetailendofthemonth,yieldsdeclinedby35bps,6bpsand48bps for the91-day,182-dayand364-daypapers following theenactmentofTheBankingAct(Amendment)Bill,2015,whichislikelytoleadtomoredemandforGovernmentSecuritiesinthemediumtermasbanksshyawayfromlendingtothemoreriskysectorsoftheeconomy.

The91-dayT-billiscurrentlytradingbelowits5-yearaverageof10.4%,havingwitnessedadownwardtrendinthepreviousthreemonthstowardsthecloseofthelastfinancialyear.Thetrendforthe91-daypaper,however, reversed thisweek after the signing of TheBankingAct (Amendment) Bill, 2015, a probableindicative direction of interest rates in the coming months despite the pressure from Governmentborrowinggiventhenewfiscalyear.

Intheprimarybondmarket,thegovernmentissueda10-yearfixedcouponbondtoraiseKshs25.0bnforbudgetarysupport.Thebondwasoversubscribedwithaperformancerateof105.2%.Yieldsonthebondcameinat15.0%,inlinewithourrecommendationthatinvestorsshouldbidwithintherangeof14.6%-15.5%.Theyieldsongovernmentbondsremainhighdrivenby(i)theupwardpressureoninterestratesasaresultofgovernmentborrowingforthe2016/2017fiscalyear,and(ii)thedisparityinliquiditydistributioninthemoneymarket.

22.5%

11.7%

8.3%

Average=10.4%

5.0%7.5%10.0%12.5%15.0%17.5%20.0%22.5%25.0%

Jan-15

Feb-15

Mar-15

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5

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6

Aug-16

91-dayT-billRate's5-yearAverage

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Inthesecondarymarket,bondturnoverincreasedby5.9%toKshs21.7tnfromKshs20.5tninJuly.Thisisattributedtoimprovedliquiditythatsawtheinterbankratedeclineslightlyto5.4%attheendofAugust,from5.6%attheendofJuly.InthemonthofAugust,themostactivebondwasIFB/1/2016/9,withitsyielddroppingfrom13.5%atissueto12.6%attheendofthemonth,asinvestorscrystallizedtheirgains.TheNSEFTSEbondpriceindexdeclinedby0.2%duringthemonthastheyieldsongovernmentbondsrose.

Duringthemonththeinterbankratewasrelativelyunchangedendingthemonthat5.4%from5.6%atthecloseofJuly,despiteanetliquidityreductionofKshs36.5bn.TheliquidityreductionwasasaresultofT-billprimaryissues,paymentoftaxesbybanksandreverserepomaturitiesofKshs81.3bn,Kshs79.3bn,and Kshs 54.5 bn, respectively.We noted in our CytonnWeekly #28 that the interbank rate is oftendeterminedbytheliquiditydistributionswithinthebankingsectorasopposedtothenetamountanditfurtherindicatesthatallbanksdonottradefreelywitheachotherinthemoneymarket.

allvaluesinKshsbn,unlessstatedotherwiseMonthlyLiquidityPosition–Kenya

LiquidityInjection LiquidityReductionTermAuctionDepositMaturities 26.1 T-bondsales 0.0GovernmentPayments 74.9 TransferfromBanks–Taxes 79.3T-bondRedemptions 14.1 T-bill(Primaryissues) 81.3T-billRedemption 58.6 TermAuctionDeposit 1.0T-bill/T-bondRediscounting 0.0 ReverseRepoMaturities 54.5T-bondInterest 8.0 Repos 6.1ReverseRepoPurchases 0.0 ReposMaturities 4.0 TotalLiquidityInjection 185.7 TotalLiquidityWithdrawal 222.2

NetLiquidityReduction (36.5)

AccordingtoBloomberg,yieldsforthe5-yearand10-yearEurobondsissuedin2014decreasedmonthonmonthby0.7%and0.5%to4.9%and7.2%from5.6%and7.7%lastmonth,respectively.Sincethemid–January2016peak,yieldsonKenyanEurobondhavedeclinedby3.9%and2.4%onaccountofimprovingmacro-economicconditions.However,owingtothesigningofTheBankingAct (Amendment)Bill,2015investorsimmediatelyreactedtothenewsnegativelyasindicatedbytheweekonweekriseintheyieldsonthe5-yearand10-yearEurobondsastheyincreasedby0.1%and0.3%,respectively.

7.3%

4.9%

5-yearCoupon,5.9%

10-yearCoupon,6.9%

4.0%

6.0%

8.0%

10.0%

19-Jun

-14

19-Jul-14

19-Aug-14

19-Sep

-14

19-Oct-14

19-Nov-14

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-15

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-15

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ar-15

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ay-15

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-15

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ar-16

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ay-16

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-16

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KenyaEurobondYields

10-Year 5-Year 5-yearCoupon 10-yearCoupon

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InAugust,theKenyaShillingwasstableagainsttheUSdollar,closingthemonthatKshs101.4,onaccountofdollardemandfromimporters,especiallyfromtheenergysectorbeingoffsetby(i)dollarinflowsfromthe tourismsector,and (ii) inflows fromdiaspora remittances.Onayear todatebasis, theshillinghasappreciatedby0.9%againstthedollar.Goingforward,theshillingislikelytocomeunderpressureintheshorttermasforeigninvestorsexitbankingstockslistedontheNairobiSecuritiesExchange,followingthesigningofTheBankingAct(Amendment)Bill,2015,whichis likelytoaffectthebanks’profitability.We,however,expecttheCentralBankofKenya(CBK)toutilisetheforeignexchangereserve,whichcurrentlystands at 5.1 months of import cover, to support the currency in case of an adverse forex marketmovement.

InflationforthemonthofAugustcameinat6.3%,downfrom6.4%recordedinJuly2016,contrarytoourprojectionof6.7%-6.9%.Thisfallwasdrivenbya0.2%declineinbothfoodandnon-alcoholicbeverageprices coupledwith a higher base effect of last year. Going forward, we expect inflation to be stablethroughouttheyearfollowingthepostponementofthelevyonpetroleumproducts,whichwouldhavehadanuptickeffectonfoodandfuelprices.

ParliamentpassedTheBankingAct(Amendment)Bill,2015,whichsoughttoputacaponinterestrates,whichwaseventuallysignedbythePresidenton24thAugust2016.Theamendmentplacedacapon(i)lendingratesat4.0%abovethebaserate,and(ii)depositratesat70.0%ofthebaserate.AshighlightedinourCytonnReport#33,weareoftheviewthatthemovewasnotthebestandishighlylikelythatitwilllead tomoreeconomicproblems in the longer-term,bigger than theone thebill intends to fix. InourweeklytopicalontheImpactoftheInterestRateCap,welookedatthepotential impacttheActmighthaveontheoveralleconomyandcompiledalistofthepotentiallosersandwinnersofthisregime.Whatstood out was that eventually, the end-consumer, whom the amendment sought to protect mighteventuallyendupbeingthebiggestloser.However,banksareseekingclarityontheoperationalisationoftheActfromtheCBKgiventhatitisnotclearwhatthe“baserate”isandifonimplementation,whetherthebankswill re-priceallexisting facilitiesor just thenewones.CBKhasgivenbanksanultimatumonimplementingthenewlaw,withadeadlineof14thSeptember.Ourviewisthatbankswillmostlikelycutdownontakinginterestearningdepositsandpushconsumerstotransactionaccounts,lendtoasmallersegmentofprimeclientsanddirectmorefundingtogovernmentsecurities;wewilllikelyseestronggrowthinnon-bankfinancesector,whichisnotundertheambitofthebillcappingrates.

TheParliamenthaspassedabill thatrequiresTreasurytobeconsultedbyCBKbeforeabank isplacedunderreceivership.Thisdemonstratespublicdissatisfactionwiththeprocessesanddisclosuresleadingtotherecentbankreceivership,henceanattempttotametheGovernor’spowers.

The government is ahead of its domestic borrowing target for this fiscal year, 2016/2017, havingborrowedKshs53.2bnforthecurrentfiscalyearagainstatargetofKshs29.8bn(assumingapro-ratedborrowingthroughouttheyearofKshs229.6bnbudgetedforthefullfiscalyear).Interestrates,whichhadreversedtrendsduetoGovernmentborrowinggiventhenewfiscalyear,characterizedbyanuptickininflationratesandtightliquidityinthemoneymarket,arelikelytowitnessdownwardpressureowingtothesigningofTheBankingAct(Amendment)Bill,2015.It isduetothisuncertaintythatweadviseinvestorstobebiasedtowardsshorttomedium-termpapers.

Equities

DuringthemonthofAugust,theequitiesmarketwitnessedsignificantvolatilityandendedinadownwardtrendwithNASI,NSE20andNSE25decliningby5.2%,8.9%,and10.6%, respectively, taking theirYTDperformances to declines of 7.4%, 21.3%, and 16.1%, respectively. The monthly equities marketperformancewasdrivenbylossesinbankingstocks,withallthelistedbanksdeclining.ThebiggestlosersinthebankingsectorwereEquity,HFGroup,Co-op,andI&MHoldings,whichdeclinedby34.6%,31.5%,30.8%and28.6%,respectively.

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Duringtheweek,theequitiesmarketwasonadownwardtrendwithNASI,NSE20andNSE25decliningby0.7%,0.9%,and1.9%,respectively.ThetopmoversfortheweekwereSafaricom,KCBGroup,andEquity,cumulativelyaccountingfor81.3%ofthemarketturnover.SincetheFebruary2015peak,themarkethasbeendown42.2%and24.0%fortheNSE20andNASI,respectively.

Equitiesturnoverincreasedby29.6%duringthemonthtoUSD174mnfromUSD134.3mninJuly2016.ForeigninvestorswerenetbuyersforthemonthofAugust,withnetinflowsofUSD36.7mn,comparedtonet inflowsofUSD9.7mnwitnessed inJuly2016,takingadvantageoftherelatively lowerstockpricesduring themonth.Key tonote, foreignerswerenetsellersat thebeginningof the lastweekofAugustfollowingthesigningofTheBankingAct(Amendment)Bill2015,butlatercamebacktothemarkettowardsthe end of themonth, taking advantage of the lowmarket prices, particularly in banking stocks.Wemaintain our expectation of stronger earnings growth in 2016 compared to 2015, with an estimatedearningsgrowthof12.5%,supportedbyafavorablemacroeconomicenvironment.

Themarketiscurrentlytradingatapricetoearningsratio(PE)of11.9x,versusahistoricalaverageof13.7x,andadividendyieldof4.8%versusahistoricalaverageof3.4%.ThechartsbelowindicatethehistoricalPEanddividendyieldsofthemarket.Thelasttimethemarketdividendyieldapproached5%wasinDecember2011,andfromthereweexperiencedabout3yearsofstrongmarketrecovery.Webelievewearenottoofarfromtheonsetofanothermarketrecoveryandwewillbere-evaluatingourequitiesrecommendationinthenextweekly.

ListedBanksH1’2016Results.

11.9x

8.0x

10.0x

12.0x

14.0x

16.0x

18.0x

20.0xNASIP/E

4.8%

0.0%

1.0%

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Average=3.4%

Average=13.7x

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DuringthemonthofAugust,KenyanlistedbanksreleasedtheirH1’2016resultsrecordingcoreearningspersharegrowthof15.8%,upfromagrowthof4.7% inH1’2015. Insummary, the listedbankscanbecategorizedintofourmainbuckets:

• Thestronggrowthbanks:Bankswithabove20%earningspersharegrowth.StandardChartered,HFGroup, I&MHoldings, and CFC Stanbic. It’s notable that these banks aremore focused oncorporateclientele.StandardCharteredhasrecoveredfrompoorH1’2015performance

• Thestablegrowthbanks:Bankswith10%andaboveinearningspersharegrowth.Co-op,Equity,KCBGroup,andDTBBank

• Anaemicgrowthbanks:Bankswithbelow10%earningspersharegrowth.NICBank• Negativegrowthbanks:BarclaysandNationalBank.

Belowisasummaryofthekeymetrics:

ListedBanksH1'2016EarningsandGrowthMetrics

Bank CoreEPSGrowth DepositGrowth LoanGrowth NetInterestMarginFeeincometo

OperatingRevenue LoantoDepositRatio

H1'2016 H1'2015 H1'2016 H1'2015 H1'2016 H1'2015 H1'2016 H1'2015 H1'2016 H1'2015 H1'2016 H1'2015StandardChartered 34.8% (37.6%) 16.9% 11.0% (7.3%) (6.4%) 9.5% 9.3% 31.3% 28.2% 59.9% 75.5%HFGroup 26.3% 2.3% 6.2% 35.3% 7.0% 28.8% 6.7% 5.8% 16.7% 15.2% 134.5% 133.5%I&MHoldings 22.6% 21.5% 13.1% 21.9% 7.6% 20.6% 7.2% 6.7% 25.1% 28.6% 90.5% 95.1%CFCStanbic 22.2% (41.6%) (2.7%) 39.2% 0.3% 23.6% 5.5% 5.3% 42.1% 43.2% 77.9% 75.5%Co-operativeBank 18.7% 32.3% 12.0% 24.6% 8.0% 23.6% 9.1% 8.8% 32.1% 33.6% 79.5% 82.5%EquityGroup 18.0% 11.8% 6.5% 39.7% 13.6% 27.0% 10.8% 10.5% 33.8% 41.1% 84.3% 79.0%KCBGroup 13.6% 13.1% (2.2%) 26.0% 8.4% 31.4% 8.7% 7.4% 31.6% 36.7% 80.2% 72.4%DTB 11.3% 10.7% 24.7% 27.1% 10.2% 34.8% 9.1% 8.8% 20.8% 25.6% 82.6% 93.5%NICBank 2.9% 9.8% 6.5% 12.5% 3.6% 14.9% 7.4% 6.3% 26.2% 30.6% 100.1% 103.0%BarclaysKenya (10.2%) 7.5% 11.9% 10.3% 14.8% 4.0% 10.7% 10.7% 31.6% 32.3% 83.8% 81.7%NationalBank (70.0%) 123.1% (1.6%) 6.4% (9.3%) 30.6% 7.2% 7.9% 23.6% 38.3% 67.8% 73.5%

WeightedAverage 15.8% 4.7% 8.9% 25.1% 7.3% 19.8% 9.2% 8.7% 31.1% 34.1% 80.7% 81.6%

Keyhighlightsfortheresultsare:

• Loangrowthvsdepositgrowth:Averageindustrydepositgrowthwasfasterthanloangrowth,indicating the slowuptakeand issueof loansduringH1’2016. Tieronebanks registered fastergrowth indeposits indicating the flight-to-safety following theplacementofChaseBankunderreceivership,withasimilarstrongerfastergrowthinloans,yearonyear

• Increaseinloanlossprovisions:Bankingsectors’profitabilitywasaffectedbyhighlevelsofnon-performingloans,leadingtoincreasedloanlossprovisionswithanaveragegrowthof122.4%fromH1’2015.Theprevailinghighlevelsofnon-performingloansareasaresultofspill-overeffectsoftheexpensivecostoffinancingloanswitnessedinthelatterpartof2015andinQ1’2016.CBKhasstepped in to offer increased oversight that will see banks become more disciplined inprovisioning,whichwillseethelevelofprovisioningremainhighthisyear

• Exposure to South Sudan: Due to the devaluation of the South Sudanese Pound, banks thatoperateinthecountryi.e.EquityBank,KCBGroupandCFCStanbichavelostsignificantvalueontheirassetshencerecordinglowerthanexpectedreturn.

Fordetailedearningsnotesforeachofthelistedbanks,seelink:CytonnResearch

ListedInsuranceCompanies’H1’2016Results.

Listed insurance companies, with the exception of Liberty Holdings, released their H1’2016 results inAugust,recordingcoreearningspersharedeclineof10.0%,downfromadeclineof3.9%inH1’2015.

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Belowisasummaryperformanceoflistedinsurancecompanies:H1’2016CoreEPSgrowthvsH1’2015

ListedInsuranceCompanies’H1'2016EPSGrowthInsurance H1'2015 H1'2016CIC 33.4% 48.2%Jubilee 24.5% 4.9%KenyaRe 20.3% 4.1%Britam (77.3%) (41.9%)Sanlam (32.5%) (148.6%)Average* (3.9%) (10.0%)*-MarketCapWeighted

FollowingthereleaseoftheH1’2016resultsbylistedinsurancecompanies,weareupdatingourcoverageofthecompanies,whichwillbereleasinginthecomingweeks.

Fordetailedearningsnotesforeachofthelistedinsurancecompanies,seelink:CytonnResearch

Duringthemonthwehadseveralearningsreleases:

• BamburireleasedtheirH1’2016results,whichwealreadycovered,seeBamburiCementEarningsNoteH1’2016.

• ARMCementreleasedtheirH1’2016results.Foramorecomprehensiveanalysis, seeourARMCementEarningsNoteH1’2016.

AsindicatedinourCytonnWeekly#33,ChaseBank(InReceivership)attainedapprovalfromtheCBKtoresumeitstermdeposit-takingandlendingactivities.FollowingthelenderbeingplacedunderreceivershipinApril2016,KCBGroupwasappointedbyKenyaDeposit InsuranceCorporation(KDIC)asthereceivermanagertohelpreviveitsoperations.KCBGroupplannedtoscaleback50.0%ofitsresourcesfromChaseBank(IR)bytheendofAugust2016andfinally100.0%inSeptember.Thismonth,theCBKisexpectedtocalluponinvestorstobidforthebuyoutofamajoritystakeinChasebankinordertoreviveitsactivitiesfully.Weapplaudtheregulator,CBKfortheexpeditedmovetoreopenChaseBank,thefirsttimeeverabankhasbeenclosed,putunderreceivershipandre-opened,increasingconfidenceintheKenyanBankingsystem.However,themarketexpectsmoretransparencyintermsofconditionsandconsiderationsleadinguptoaReceivershipdecisionandtheprocessofappointingareceivermanager.

TheUKGovernment development fund, CDCGroup, announced itwill acquire a 10.68% stake in I&MHoldingsfollowingapprovalbytheCompetitionAuthorityofKenya(CAK)duringthemonth,joiningthetopfourlargestshareholderslist.CDCGroupwillpurchase6.25%and4.43%fromDEG–aGermaninvestmentanddevelopmentcompany-andPROPARCO–aParis-baseddevelopmentfinancialinstitution,respectivelyasdetailedinourCytonnWeeklyReport#16.CDC’sfinancialsectorexperienceandexpertisewillplayaroleinimprovingI&MHolding’sstrategy.

During themonth, CBK released their bank supervision Annual report for 2015, which indicated that,DiamondTrustBank(DTB)andCommercialBankofAfrica (CBA)hadamarketshareof5.3%and5.6%,whichisabovetheCBKbenchmarkof5.0%forTierIbanksthusqualifyingforTierIclassification.ThetwobanksgrewtheircustomerdepositbasestoKsh148.3bnandKshs126.6bninFY’2015fromKshs122.0bnandKshs102.1bninFY’2014forCBAandDTB,respectively.DTBandCBAmovetoTierIledtoanincreaseinTierIbanks’combinedmarketshareto58.2%inFY’2015from49.9%inFY’2014.TierIIbanks’combinedmarketsharedeclinedto32.4%inFY’2015from41.7%inFY’2014.DTBmoveduptworankstoseventhin2015fromninthin2014.ThismovehighlightstheaggressivestrategybyDTBtogrowboththefundingofits balance sheet and disbursement of loans. As indicated in our CytonnWeekly #31, DTB is pursuingsustainablegrowthofitssubsidiariesinTanzania,Uganda,andBurundi,whichcontributedapproximately26.0%ofthebank’srevenuesinFY’2015.

Belowisourequitiesrecommendationtable.Keychangesfromourpreviousrecommendationare:

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• WehavefinalisedonourcoverageoftheListedKenyaBankingSector.Pleasefindthereporthere:H1’2016BankingSectorReport

• BAT(K)hasmovedfroman“Accumulate”recommendation,withanupsideof19.1%toa“Buy”recommendationwithanupsideof23.2%,followinga1.4%w/wpricedecline

• SanlamKenyahasmovedfroman“Accumulate”recommendation,withanupsideof16.2%toa“Buy”recommendationwithanupsideof22.9%,followinga14.2%w/wpricedecline.

allpricesinKshsunlessstated EQUITYRECOMMENDATION

No. CompanyPriceas

at29/07/16

Priceasat

31/08/16

m/mChange

YTDChange

TargetPrice*

DividendYield

Upside/(Downside)** Recommendation

1. KCBGroup*** 32.0 27.8 (13.3%) (36.6%) 42.5 7.5% 60.7% Buy2. Centum 43.5 36.3 (16.7%) (22.0%) 56.7 2.4% 58.8% Buy3. HFGroup 19.0 14.2 (25.3%) (36.2%) 19.8 9.2% 48.6% Buy4. BamburiCement 166.0 166.0 0.0% (5.1%) 231.7 7.8% 47.4% Buy5. Co-opBank 14.5 11.0 (24.1%) (38.9%) 15.2 6.8% 45.0% Buy6. ARM 32.0 28.3 (11.7%) (32.3%) 40.3 0.0% 42.7% Buy7. Britam 12.6 10.4 (17.5%) (20.0%) 14.2 2.4% 38.9% Buy8. KenyaRe 19.7 20.0 1.3% (5.0%) 26.6 3.6% 36.9% Buy9. EquityGroup 38.0 27.5 (27.6%) (31.3%) 34.2 7.7% 32.1% Buy10. CICInsurance 4.3 3.7 (15.1%) (41.1%) 4.7 2.5% 31.3% Buy11. I&MHoldings 101.0 82.5 (18.3%) (17.5%) 101.1 3.9% 26.4% Buy12. DTBK*** 156.0 142.0 (9.0%) (24.1%) 173.2 1.8% 23.8% Buy13. BAT(K) 842.0 830.0 (1.4%) 5.7% 970.8 6.2% 23.2% Buy14. SanlamKenya 40.5 34.8 (14.2%) (42.1%) 42.7 0.0% 22.9% Buy15. NIC 32.3 28.0 (13.3%) (35.3%) 30.8 3.5% 13.5% Accumulate16. CfCStanbic 82.5 76.5 (7.3%) (7.3%) 75.5 7.9% 6.6% Hold17. JubileeInsurance 470.0 470.0 0.0% (2.9%) 486.6 1.8% 5.4% Hold18. Barclays 10.1 9.8 (3.0%) (27.9%) 9.2 9.7% 3.6% Lighten19. Liberty 14.0 17.0 21.1% (13.1%) 17.2 0.0% 1.6% Lighten20. Standard

Chartered***209.0 191.0 (8.6%) (2.1%) 169.9 6.6% (4.4%) Sell

21. Safaricom 19.1 20.0 4.7% 22.7% 16.6 3.6% (13.4%) Sell22. NBK 7.6 7.0 (8.6%) (55.9%) 2.7 0.0% (61.2%) Sell*TargetPriceasperCytonnAnalystestimates **Upside/(Downside)isadjustedforDividendYield ***IndicatescompaniesinwhichCytonnholdssharesin Accumulate–Buyingshouldberestrainedandtimedtohappenwhentherearemomentarydipsinstockprices. Lighten–Investortoconsiderselling,timedtohappenwhentherearepricerallies

WeareneutralwithabiastopositiveonEquitiesgiventhehigherearningsgrowthprospects,supportedbyafavorablemacroeconomicenvironment.

PrivateEquity

TherehasbeenalotofinterestinAfricabyprivateequity(PE)investorsandthemonthofAugustwitnessedanumberoftransactionsinenergy, infrastructure,financialservices,andtechnology.OfinterestisthatsomeofthedealsizeshavebeenrelativelysmallcomparedtowhattypicallymostPEfirmsseektotakeup.Thesedealsinclude:

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TheRockefellerBrothersFundjoinedtheinvestorconsortiumbackingLekelaPower,therenewableenergyjoint venture between private equity firm Actis and developer Mainstream Renewable Energy, bycommitting to investUSD10.0mn.Lekelapower is looking to invest in fourmorewind farms inSouthAfrica,awindfarmandtwosolarplantsinEgypt,aswellaswindfarmsinSenegalandGhanawithagoaltoconstructover1.3GWofnewpowercapacityacrossthecontinentby2018.

AccordingtoPreqin’sreportontheinfrastructuredealsmarketinAfrica,theenergysectorcontinuestodominate infrastructure investments inAfrica.Themajorityofdeals inAfricasince2013havebeen forenergy infrastructure at 60.0% as the emphasis on electricity generation and transmission in Africaintensifies.Themajorityoftheenergydealsat92.0%weretransactedforrenewableassets,includingtheUSD2.8bnBatokaGorgeHydroelectricProjectinZambia,thelargestinfrastructuredealcompletedsince2013, as domestic and international fundmanagers attempt to harness the geographical potential forrenewableenergyinAfrica.

EmergingAfricaInfrastructureFund(“EAIF”),loanedUSD20.0mntoHeliosTowersAfrica(“HTA”),aspartofsyndicatedloanworthUSD105.0mn,tofinancethepurchaseofapproximately950telecommunicationstowers in theDemocraticRepublicofCongo(DRC).EAIF isa leading investor indigitalcommunicationsinfrastructure in Sub-Saharan Africa, with this being its fifth partnership with HTA due to its skilled,dependable,reliableandwhollysupportivemanagement.

TheInternationalFinanceCorporation(IFC),hasthisweekcommittedtolenduptoUSD4.5mntoTropicalHeatLimited,aspicesandsnacksmakerinKenya,inordertoassistthecompanytofinancetheirexpansionplans,whichincludetheconstructionofanewfactoryonaneight-acrepieceoflandinLimuru.

Zoona,anAfricanfinancialtechnologycompanythatoffersemergingentrepreneursaplatformtoprovidemoneytransferandotherservicestounbankedconsumers,successfullyraisedUSD15.0mninthesecondroundoffinancing,withitsmainparticipantsbeingIFC,AccionandQuonaCapital,4DiCapital,OmidyarNetworkandTheLundinFoundation.ThisfundwillbechanneledtowardsscalingupZoona’soperationsasthetechnologyfirmaimstoreach10marketsand30millionactiveconsumersacrossAfricaby2020.

OldMutualInvestmentsGroup(OMIG)andNigeria'sSovereignInvestmentAuthority(NSIA)haveagreedtosetuptwofundstoinvestinrealestateandagricultureinNigeria.ThiswouldbedonethroughjointlyraisingUSD500.0millionfundtoinvestinrealestateandanotherUSD200.0milliontoinvestinagriculturalprojects.TheinvestmentventurecomesasaresultofaslumpinoilrevenuesinNigeria,whichhashadnegativeimpactsonNigeria’sGDPforthefirstquarterof2016,decliningby0.4%.

PrivateequityinvestmentactivityinAfricahascontinuedtoimprove,asevidencedbytheincreaseinthenumberofdealsanddealvolumes into the region,with fundscontinuing toprefer financial services,energy,healthcare,education,andITsectorsalthoughinfrastructure,realestate,andnaturalresourcesare gaining ground. We remain bullish on PE as an asset class in Sub-Saharan Africa given (i) theabundanceofglobalcapitallookingforinvestmentopportunitiesinAfrica,(ii)attractivevaluationsintheprivatesector,and(iii)bettereconomicgrowthprojectionscomparedtoglobalmarkets.

RealEstate

Realestatecontinues tobeoneof thekeydriversofgrowth in theeconomy.Despite thesectorbeinglucrative, capital raising into the sectorhas remaineda challengeand that iswhywehave seenmanydevelopersseekalternativesourcesofcapital.InthemonthofAugust,wesawtwofirmsseektofundraisefromthecapitalmarketmarketsthroughtheissuanceofREITsandEquitylistingsprospects.

a) SuperiorHomesannouncedplanstolistontheGrowthEnterpriseMarketSegment(GEMS)oftheNSE,subjecttoregulatoryapproval.Ifthebidsucceeds,thedeveloperbehindtheGreenParkEstateinAthiRiverMachakosCountywillbethe2ndrealestatecompanytolistonthe

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bourseafterHomeAfrika,whichlistedin2013.SuperiorHomeshasagoodtrackrecordinrealestatedevelopmentandwe think thecompanymightbeable to list if theyare toget thetimingright.

b) FusionCapitalfailedtolistitsREITinthemarketasitdidnotmeetthethresholdforlistingofaminimumof7investorsand50%subscriptionrate.TheREITrecordeda37.9%subscriptionrateraisingKshs873.8mnoutofthetargetedKshs2.3bnfromonly4investors.FusionCapitalwill,therefore,havetoraiseadditionalcapitalthroughprivateplacementandonlyusedebtasalastresorttofundamixed-usedevelopmentinMeru.AsperourCytonnWeekly#32–RealEstateListingsinKenya,webelievethesuccessfulfundraisingfromthemarketshallbesupportedby(i)institutionalsupportbeforelaunching,(ii)increaseproduct-knowledgetothewider market, (iii) improve corporate governance around issuances, and (iv) provide aminimumreturnguaranteetothebuyersandclarityregardingexitstrategiestobuildinvestorconfidence.

Innovation into the real estate sector continues and the adoption of the use of Alternative BuildingTechnology(ABT)forconstructionislikelytoincreaseinfuture.InAugust,ChinaWuYibrokegroundonconstructionofaKshs10.0bnfactoryalongMombasaRoadKenya.Inthepast,uptakeofABTinKenyahasbeenlowduetoinsufficientinformationoftechnologyandmistrustonitsqualityanddurability.However,inourview,useofthetechnologywillsolvetheundersupplyoftheresidentialhousingthroughenablingfasterconstructionandatlowercosts.Theuseofpre-castblockssignificantlyreducesconstructionperiodsbyupto50%asthepre-castblockscomereadyforassembly,whiletheuseofEPSlowersconstructioncosts as its use results in lighter structuresmaking them ideal for construction of high rise buildings.Through sensitization, uptake for this technologywill enablemass housing construction andmeet thehousingneedsoftheKenyanpopulation.

Asanincentivetoincreasedevelopmentandthusbridgethehousinggapinthecountry,Parliamenthastabledaproposalthatseekstolowerthenumberofunitsrequiredtoqualifyforataxrebatefrom1,000to400units.ThroughamendmentofTheFinanceBill2016,developerswillpay15.0%inincometaxesforconstructingatleast400residentialunitsannually.Bydoingthese,weexpectincreasedinvestmentintheresidentialsector,asdevelopersseektobenefitfromtheincentivesissued.Thenumberofunitsismuchlowerandwehaveacoupleofdeveloperswhoaresettobenefitfromthis.

Onthestatutoryfront,projectswillnowpayforenvironmentalauditsbasedontheirrisklevelafterNEMAdisregarded the Treasury’s declaration abolishing these charges in June this year. Investors have sinceSeptember2013beenpayingaminimumofKshs10,000or0.1%ofprojectcostwithoutanupperlimit,making itcostlier for largeprojects.Undernewregulations,developerswillpayamaximumof0.1%ofprojectcostsbutwithinthefollowingpriceranges:

a) High-RiskProjects–Theseincludemegarealestateprojects,roads,largehotels,miningandenergyplantsandwillattractamaximumofKshs40.0mnandaminimumofKshs50,000

b) Medium-Risk Projects – These include hotels less than 150-bed capacity, petrol stations,shopping centers, office blocks and stores not exceeding 10,000 square meters. ThedeveloperswillpayaminimumofKshs20,000andamaximumofKshs10.0mn,while

c) Low-RiskProjects–Theseincludechurches,busparks,andstadia,whichwillattractafeeofbetweenKshs10,000andKshs3.0mn.

ThehospitalitysectorreceivedaboostinAugustashotelsrecordedfullbookingswhenNairobihostedtheTokyoInternationalConferenceonAfricanDevelopment(TICAD).ThegrowingMICEtourisminNairobihasbeendrivenbyitsstatureasaregionalhub,infrastructuraldevelopment,andpresenceofmulti-nationalfirmsinthecountry.Weexpectincreasedinvestmentinthesectordrivenbyimprovedsecurity,liftingoftraveladvisoriesandimprovinginfrastructure.Constructionofadouble-deckerhighwaylinkingJKIAtotheNairobi-Nakuru Highway is likely to create opportunities for hotel development. The elevated dual-carriagewaywilleaseaccesstoWestlandsandRironiareasforinternationalstravellersandreducesnarl-

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upsalongtheMombasaHighway.Inaddition,thegovernmenthasallocatedKshs1.5bnforpromotionandmarketingofKenya’stourism,whichifwell-utilisedwillincreasetheprofitabilityofthesector.

PropertytransactionsresumedfollowingtheappointmentofLandControlBoards(LCB)inNairobi,Kajiado,Kiambu,Nakuruand6othercounties.TheGovernmenthaddisbandedallLCBsoncorruptionallegationsinApril 2016. Themovewill enablepropertydealers anddevelopersobtain consent for sale, transfer,partitioningandamalgamationofagriculturalland,andcontinuityofprojects,whichwouldhaveotherwisestalled.However,transactionsarestillfrozenin21othercounties.

We expect increased development activity as developers are likely to take advantage of the recentintroduction of a cap on interest rates at 4% above the base rate as well as the tax incentives fordevelopmentofhousingunits.Inaddition,theriseinpropertypricesislikelytoslowdownduetoreducedcostofborrowingfordevelopment.

KenyaBankingSectorH1’2016Report

FollowingthereleaseoftheH1’2016resultsbybanks,weundertookananalysisontheKenyanBankingsectortopointoutanymaterialchangesfromtheQ1’2016bankingreport.Inthisreport,werecommendtoinvestorswhichbanksarethemostattractiveandstableforinvestmentfromafranchisevalueandfromafuturegrowthopportunityperspective.

The report is themed“Transitioncontinues, toamore regulated,yet innovativeenvironment”as theissuesfacingthebankingsector,whichisundergoingatransition,stillpersist.Therearesomekeyareasoftransition,whichwillchangethebankinglandscapeinKenyagoingforward:

1. Increased Regulation – There has been a number of regulatory developments that seek tointroducemoreregulationwithinthebankingsector.Theseinclude;

a) TheBankingAct(Amendment)Bill,2015-Thebillwassignedintolaweffectivelycappingloanratesat4.0%abovethebaseratewithafloorondepositpricingat70%ofthebaserate.AshighlightedinourCytonnReport#34,weanalysedthepotentialimpactofthelawtothegeneraleconomyandcameupwiththepotentialwinnersandlosersofthisregime,

b) Amendment of The Kenya Deposit Insurance Corporation Act – The Parliament haspassedabillthatrequiresTreasurytobeconsultedbyCBKbeforeabankisplacedunderreceivership,

c) InternalCapitalAdequacyAssessmentProcess(ICAAP)-TheCentralBankofKenya(CBK)hasdevelopeddraftguidelinesonICAAPthatseekstoenablebanksandmortgagefinanceinstitutionsindeterminingthelevelofcapitaladequatetocoverfortheirrespectiverisks.Undertheguidelineallbanksandmortgagefinanceinstitutionsarerequiredtoformulatetheir own ICAAP that ensures that overall internal capital levels are adequate andconsistentwiththeirstrategies,businessplans,riskprofilesandoperatingenvironments.

2. SectorRealignment– Thebanking sector continues to be characterisedby sector realignment,through;

a) Strategic Initiatives -Bankshavecontinuedtodiversify theirbusinesses intonon-bankservices;I&MHoldingshasacquiredBurbidgeCapital,asitseekstogrowitsbusinessintotransactionadvisory.KCBGrouphasopenedKCBCapitaltotapintothesamespace

b) Innovative Banking – In order to continue recording strong revenue growth, in postinterestratecapenvironment,bankswillhavetocomeupwithinnovativeproducts,withpossibilities of focus on transaction based banking, which could be targeted towardsmeetingspecificcustomerneedsandhenceprotectingtheirNIMs. Inourview,wesee

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innovationintermsofproductofferingsandcostcontainmentbeingthekeydifferentiatorinthisregimeofpricecontrol.

Basedontheabove,wethinkconsolidationisgoingtohappeninthenear-termtoacquiretheweakerbanks.Butwethinkthestrongbankswillbeabletoprotecttheirmarginsbysimplylimitinganyinterestpaying accounts in favour of transaction accounts, and limiting loans to prime clients and investingbalanceofdepositsingovernment.Subprimeclientswillneedtofindnon-bankfinancialsolutions.

BelowaretheoperatingmetricsforlistedbanksinKenya:

H1'2016ListedBankingSectorMetrics

BankCoreEPS

Growth

DepositGrowth

LoanGrowth

NetInterestMargin

NPLRatio CosttoIncome* ROaE ROaA

StandardChartered 34.8% 16.9% (7.3%) 9.5% 12.8% 39.0% 18.4% 3.2%HFGroup 26.3% 6.2% 7.0% 6.7% 9.8% 52.3% 12.6% 1.9%I&MBank 22.6% 13.1% 7.6% 7.2% 4.9% 34.2% 25.3% 3.9%CFCBank 22.2% (2.7%) 0.3% 5.5% 3.2% 60.0% 11.7% 2.3%Co-opBank 18.7% 12.0% 8.0% 9.1% 4.5% 45.3% 24.7% 3.7%EquityGroup 18.0% 6.5% 13.6% 10.8% 4.7% 50.0% 26.9% 4.5%KCBGroup 13.6% (2.2%) 8.4% 8.7% 9.0% 47.9% 24.7% 3.7%DTBBank 11.3% 24.7% 10.2% 9.1% 4.0% 38.3% 20.7% 2.6%NICBank 2.9% 6.5% 3.6% 7.4% 10.6% 35.3% 17.8% 2.8%BarclaysBank (10.2%) 11.9% 14.8% 10.7% 5.6% 51.8% 21.1% 3.2%NationalBank (70.0%) (1.6%) (9.3%) 7.2% 11.3% 64.6% (20.9%) (2.1%)H1'2016WeightedAverage 15.8% 8.9% 7.3% 9.2% 6.7% 45.7% 20.6% 3.1%H1'2015WeightedAverage 4.7% 25.1% 19.8% 8.7% 3.6% 48.0% 23.8% 3.4%AverageisMarketcapweighted*WithoutLoanLossCharge

With GDP growth prospects for 2016 at 5.8%, Kenya’s listed banks recorded improved EPS growth inH1’2016 of 15.8% compared to the H1’2015 growth of 4.7%. This was on the back of an improvedmacroeconomic environment, which saw interest rates decline to below historical average levels asevidencedbytheinterbankandthe91-dayT-billratesdecliningto2.3%and7.1%,respectively.Withthebankingsectorcontributing10.1%toGDP,astronggrowthexhibitedbythesectorisbeneficialtodrivetheeconomyastheprivatesectorisnotcrowdedoutandasbankscanaffordtotakeupsomeriskandloanoutmoretothesector.However,asaresultoftheinterestratecap,wemightwitnesscontractionoftheprivatesectorcreditgrowthasbanksopttoloantothegovernmentwhichisconsideredriskfree.

Thegrowthcurrentlywitnessedinthesectorisasaresultofthesector’sabilitytodevelopproductsthatrespond to the needs of Kenyans, such as (i) convenience and efficiency through alternative bankingchannelssuchasmobileandagencybanking, (ii) increasedfinancial inclusionandbankingthe informalmarket,and(iii)ademographicboostinKenya,suchasagrowingmiddleclass,whichhasledtoincreaseddemandforintermediaryservicessuchasbanking.Goingforward,bankswillmostlikelycutdownontakinginterest earning deposits andpush consumers to transactional accounts, lend to a smaller segment ofprime clients anddirectmore funding to government securities;wewill likely see growth innon-bankfinancesector,whichisnotundertheambitoftheBankingAct.

Therearethreetakeawaysfromthetableabove:

• Thesectorrecordeda15.8%coreEPSgrowth,withallbanksrecordingdoubledigitgrowthexceptNICBank,BarclaysBankandNationalbankwhichgrewat2.9%,(10.2%)and(70.0%),respectively,

• Banks registered high growth in non-performing loans,with theNPL ratio at 6.7% in H1’2016comparedto3.5%inH1’2015,and,

• NationalBankwastheonlybankthatreportednegativereturnonequity.

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Asperouranalysisonthebankingsector,fromafranchisevalueandfromafuturegrowthopportunityperspective,belowisthecomprehensiverankingofthelistedbanks.

CYTONN’SH1'2016BANKINGREPORTRANKINGS

BanksFranchiseValueTotal

ScoreTotalReturnScore

WeightedH1'2016Score

H1'2016rank Q1'2016rank

Equity 52.0 4.0 23.2 1 2KCBGroup 59.0 1.0 24.2 2 1Co-operativeBank 60.0 3.0 25.8 3 3I&M 69.0 6.0 31.2 4 5DiamondTrustBank 71.0 5.0 31.4 5 6StandardChartered 72.0 10.0 34.8 6 7Barclays 75.0 9.0 35.4 7 4CfCStanbic 83.0 8.0 38.0 8 9NIC 87.0 7.0 39.0 9 8HousingFinance 105.0 2.0 43.2 10 10NBK 123.0 11.0 55.8 11 11

Majorchangesinclude:

• Barclaysbankdroppedtoposition7fromposition4aspertheQ1’2016BankingSectorreport,mainlydrivenbyapoortotalreturnscore,havinganupsideof4.6%

• EquityGroupemergedtop,havingbeenposition2aspertheQ1’2016BankingSectorreportdrivenbyastrongfranchisescore,whereitemergedtop.

Foracomprehensiveanalysisontherankingandmethodologybehindit,seeourCytonnH1’2016BankingSectorReport

-------------------------- Disclaimer: The views expressed in this publication, are those of the writers where particulars are not warranted- as the facts may change from time to time. This publication is meant for general information only, and is not a warranty, representation or solicitation for any product that may be on offer. Readers are thereby advised in all circumstances, to seek the advice of an independent financial advisor to advise them of the suitability of any financial product for their investment purposes.