African Banking: The Productivity Opportunity

In 2022, African banks are showing growth, despite significant headwinds, including macroeconomic uncertainty.

According to new research by McKinsey regarding the productivity opportunity, revenues have recovered and are now higher than prepandemic levels, driven by sustained volume increases, higher interest rates, and stable risk costs.

However, banking return on equity (ROE) in all African geographies except Kenya, still remains one to two percentage points (pp) below pre-COVID-19 levels, despite a strong rebound in 2021. Part of the reason for this is that many of the downward pressures on ROE in African banking predate the pandemic. To return to profitability, banks may therefore need to look deeper to address productivity blocks within the sector.

Profitability in Africa’s five biggest banking markets (Egypt, Kenya, Morocco, Nigeria, and South Africa) has been on a steady decline, decreasing by an average of two pp over the past six years. Egypt has experienced the steepest decline (–9.5 pp), followed by South Africa (–2.7 pp). Coming off of a low base, Nigeria is the only major African economy that has seen an increase in banking ROE since 2016 (3.6 pp), driven by a decline in risk costs following Nigeria’s economic reforms post the 2015–16 recession, a partial recovery of oil prices, early easing of COVID-19 restrictions and Central Bank of Nigeria (CBN) forbearance measures.

“African banks are costly to run, with an average cost-to-asset ratio of between 4 and 5 percent, almost twice as high as the global average. At the same time, the economic environment within which many African banks operate, often characterized by lower bancarization rates and loan-to-deposit ratios, means that the domestic revenue pools offer fewer scale benefits.

This suggests that banks may need to review their cost base and operating models, especially if they want to keep investing into technology and increase access to the banking system,” says Francois Jurd de Girancourt, a partner in McKinsey’s Casablanca office and leader of the firm’s Financial Institutions Group in Africa.

McKinsey analysis suggests that African banks may need to achieve productivity gains of between 25 and 30 percent if they are to restore prepandemic profitability. In many respects, the pandemic and a tightening global economy have already prompted most banks to begin this journey. To help accelerate progress, the firm is suggesting six productivity streams that could be considered as part of a holistic response to the productivity opportunity.

1. Retail: Embracing the ‘phygital’ reality

For African banking, our analysis finds that digital adoption is between 20 to 30 percent; however, it could be higher. In Latin America and Asia, for example, digital adoption is around 50 percent, while in other global markets, it is as high as 72 percent. As service and sales in digital channels continue to gain prominence globally alongside the more traditional physical channels, there are two key levers African banks could consider driving further digital adoption and embrace the “phygital” reality.

     2. Central and back office: Considering a path to zero operations

One of the key trends shaping the future of central and back office is the hyperdigitization of work. Our research suggests that there is more than 50 percent automation potential across selling, general, and administrative expenses (SG&A) functions and 40 to 60 percent cost-savings potential from using automation in these functions. Leading banks are increasingly moving toward zero-based operations with the implementation of automation and digitization across the banking value chain. Despite several years of investment in lean, digital, and automation, we estimate that a significant part of the banking value chain remains dependent on manual tasks, driving 60 to 70 percent of costs.

    3. Support functions: Moving from transactional to value-added partner

African banks could consider adopting lean ways of working as a basic building block. Embedding an outward-looking and commercially focused orientation in support functions could help banks anticipate and respond more quickly to a rapidly evolving environment. Banks could also deploy digital and analytics technologies to generate relevant insights for the business.

     4. IT: An opportunity to accelerate technology adoption

To move to the next level, IT banking departments may want to consider accelerating their migration of applications and infrastructure to the cloud. Cloud-enabled technology has now reached a tipping point, and McKinsey analysis indicates that banks could double the productivity of their IT engine by deploying newer-age technology platforms. Additionally, by automating infrastructure deployment and switching to a DevOps model that automates manual tasks and enables the management of complex environments at scale, teams can rapidly and reliably implement and innovate for their customers.

     5. Real Estate: Flexibility is the new watchword

Hybrid working is now the norm. This provides African banks with an opportunity to rethink their use of physical assets. For example, banks could offer employees more workplace flexibility with an opportunity to work from home. Cloud platform migration could introduce a work-from-home/anywhere policy for its contact center employees. Such shifts in working conditions have the potential to offer employees a better work–life balance, a more tailored employee experience, and could have a positive impact on diversity, equity, and inclusion efforts as well as performance.

    6. Procurement: Digital collaboration and advanced analytics

Next-generation procurement improvements could include a focus on the acceleration of automation and digital collaboration. Investing in digital capabilities allows banks to automate processes and create transparency. For example, a “control tower” for the procurement function that captures and shares data could help to drive 100 percent visibility across the organization. This, in turn, could enhance efficiency, leading to shorter cycle times and contributing to tighter controls and compliance scalability with the option for immediate decision-making on spend requests. Ultimately, this could help to embed a stronger culture of accountability within the organization.

“If African banks are able to prioritize their productivity in these six areas, they could help optimize their cost base, better allocate financial resources to fuel growth areas, and partially counter ROE erosion. There is also an opportunity to lower cost-to-serve consumers and assist governments in the drive to advance financial inclusion, unlocking the next wave of growth,” says Jurd de Girancourt.