Abyssinia’s Salary Increase Propels Banks to Reconsider Employee Retention, Operational Costs
The Bank of Abyssinia’s decision to significantly raise its employees’ salaries has garnered much attention in the banking industry. Most notably, it’s caused some institutions to re-evaluate their pay scales to remain competitive and maintain their employees in an industry especially noted for its human resource scarcity. However, behind the buzz their decision has generated lies an important question: How will increased competition and regulation impact Ethiopia’s still nascent banking sector, especially vis-à-vis human resources? Some argue changes will propel banks to make critical decisions about the efficiency of their institutions, thereby strengthening the overall sector. Others, however, believe these are burdensome and may compromise the viability of some banks. EBR’s Ashenafi Endale spoke with industry insiders and consulted research studies to gain insight into this crucial financial issue.
Ever since the partial liberalisation of the financial sector, the banking industry has been one in which robust activities have taken place – ones that highlight larger trends in the Ethiopian economy. The latest buzz throughout the sector is Bank of Abyssinia’s (BoA) decision to drastically increase employees’ salaries.
Two months ago, the bank introduced a new salary and benefit scheme, which increased the president’s salary to ETB100,000, the highest in the industry. The increment has also put the salary of clerks at the department level between ETB15,000 and ETB16,000; department managers between ETB26,000 and 37,000; directors of departments between ETB37,000 and ETB42,000; and vice presidents up to ETB60,000.
BoA’s move has come after Deloitte, the renowned global consulting firm, conducted a study on the company’s strategy for the next five years. The bank introduced the salary increment after it registered a 27Pct profit increment last fiscal year compared to the previous one.
Established in 1996, BoA is one of the first private banks in the country. Its paid-up capital has reached ETB1.5 billion and its deposit balance stood at ETB14.3 billion. They also have nearly 200 branches.
“We introduced the salary increment in order to acquire the human power that will enable us to implement new strategies,” Mulugeta Asmare, President of the Bank, told EBR. “We do not think it will have an impact on other banks.”
Although Mulugeta says the salary increment will not have a ripple effect in the banking industry, others argue BoA’s move will have a domino effect due to the scarcity of experienced human resource in the sector.
Business strategists have long pointed to worker compensation as a key influencer of employee loyalty. According to a survey conducted by the human resource recruitment website CareerBuilder, 88Pct of respondents said that salary was an important determinant in their loyalty to a particular place of employment. Furthermore, 70Pct said “increasing salaries is the best way to boost employee retention, while 58Pct pointed to better benefits.”
Human resource experts argue that retention is a key issue facing businesses, especially those functioning in relatively weaker markets – and companies have a keen interest in incentivising their employees to stay. This is because recruiting new employees to join a company in order to mitigate high turnover is a costly endeavour. According to Deloitte, the total cost of losing an employee can be nearly double the salary of the worker who left. This is because there are costs associated with hiring new staff, including job advertisement expenses and training a new employee.
Aditionally, Deloitte points out that there are costs associated with hiring an employee that are difficult to predict. These include lost productivity, lost employee engagement and customer service errors, as new employees take longer to adapt to new office environments and are less adept at solving problems. They also say that when there is significant turnover within a company or sector, it affects the culture of the workplace because the remaining employees begin to ask why there’s personnel movement, which may influence disengagement or lost productivity.
Now that BoA has made a significant salary increase, employees in the industry are taking notice and may leave their respective banks. To mitigate this, managers in other banks are also preparing to respond to the salary increment. “The move by Abyssinia forces us to make a huge salary increment beyond our plan” says Abie Sano Mohammed, President of Oromia International Bank (OIB). “Although we have been making salary increments annually, now we are revising the scale itself.”
According to a branch manager of one of the young banks who spoke on the condition of anonymity, BoA’s decision is significant because it forces other banks to react in some way, straining the resources of a relatively young sector – and begging larger questions about the way each company functions. “Operational costs in the banking industry are increasing annually at a high rate,” he argues. “This will increase the burden of banks that are already struggling to cut back unnecessary costs and move forward with their plans and the ones established by the government” or other banks.
Despite concerns regarding the survivability of banks when confronted with increased banking regulations and intra-sector competition, research suggests the changes spurred by this dynamic may actually be beneficial for the industry’s development. A 2014 study funded by the International Monetary Fund entitled “Financial Sector Reforms, Competition and Banking System Stability in Sub-Saharan Africa” found that “[a] salient feature of structural financial sector reforms is enhanced competition in the banking industry, with the attendant stability-fragility trade-off.”
Specifically, the study found that “in the East African countries…financial sector reforms stimulated competitive pressures in the banking industry.” These reforms, whether brought by the central bank or competitors, are key in strengthening a particularly weak banking sector: “Compared to other economies, the Sub-Saharan Africa financial system is broadly bank-based and weakly contestable, therefore, any systemic bank failures would have serious contagious repercussions in these economies.”
The study asserts that robust financial sector reforms will not only strengthen banks but also improve accuracy in predicting and dealing with economic shocks – a key tool for fragile developing economies: “[I]ncreased competition…corresponded with increased lead time to bank distress episodes. However, it is worth noting that, the stability of the banking system in a liberali[s]ed and competitive economy is contingent on government pursuing sound macroeconomic policies and enhancing effectiveness of institutions to allow the banking sector to thrive.”
To this end, last fiscal year the National Bank of Ethiopia (NBE) set various goals for the industry, insisting banks expand their branches by 25Pct annually, investing 2Pct of their income towards human capital development and raising their paid-up capital to ETB2 billion by 2019/20. As a result, the 17 commercial banks are crafting strategies that will save them from the challenges ahead.
However, in addition to economic impacts like meagre export performance, a lacklustre culture of saving, inadequate infrastructure and limited skilled employees, the NBE’s stiff regulations and the obligatory purchase of NBE bills, competition in the industry is escalating banks’ operating costs, which will have a big impact on their profits and growth targets.
Operating costs are expenditures that a business spends as a result of performing its normal business operations. It includes expenditures on rent, phone, utilities, fixtures, equipment, inventory, marketing budgets, insurance, payroll, and professional services, among other items.
According to stakeholders, the likely impact of the BoA’s salary increment is that it will burden comparatively small banks, which cannot pay huge salaries and compete to attract the scarce skilled labour in the industry.
“It is well-known that young banks cannot withstand challenges and changes that arise unless they grow quickly,” says the manager. “This is another challenge that will test the endurance and commitments of younger banks.”
A study from KPMG, another global consulting group, echoes these sentiments, stating that there are unique challenges facing financial institutions that “have to focus on regulator [and competitor] driven measurements, such as delivering minimum capital and liquidity ratios and complying with new resolvability requirements.” To best cope with these changes, they recommend individual banks look inward, at the way their institution functions: “Banks adapting quickly to these changes will emerge as winners in the marketplace. Solutions must be found which encompass new business models, operating models, customer demands and legislative constraint.”
With this in mind, even the strongest banks in the sector – like Awash International Bank (AIB) and the state-owned Commercial Bank of Ethiopia (CBE) – are conducting internal studies with the aim of introducing new salary scales. “In the past, the bank has been making salary increments but now we are preparing to revise the scale, which we will introduce soon,” says an officer at AIB, who spoke to EBR on the condition of anonymity.
Abie shares a similar sentiment: “We were already revising our salary scheme before BoA announced their salary increment. So now we see that we have to make a big salary increment.” He says rather than investing in human capital development, every bank wants to seize the industry’s scarce human resource, which he believes is harmful.
Since Ethiopia’s banking industry is characterised by an oligopoly market structure, Abie argues that a single bank could cause a change in all other banks in the industry. “It will not be beneficial for a given bank to make a move that will ultimately hurt itself and the entire industry,” he stresses.
Established 13 years ago as the country’s tenth private bank, OIB has close to 3,000 employees, 203 branches as of March 2016, and nearly 600,000 clients. Of its total branches, 141 are outside Addis Ababa, which fulfils the NBE’s requirement that two-thirds of bank’s branches must be outside the capital. The bank’s paid-up capital reached ETB950 million and its deposit stood at ETB9.6 billion. OIB’s management has decided to raise its capital to ETB3 billion, which it will achieve within the next four years, according to Abie.
He says that opening a branch requires ETB5 million to ETB7 million. This is excluding its operating expenses. Furthermore, a lack of infrastructure outside Addis Ababa significantly increases a bank’s operating cost. “The increasing salary and benefit cost with other expenses is making it impossible to open branches outside of the capital.”
Aside from increased salaries, rent expenses are another costly budgetary item, according Abie. “Building owners are asking for ETB600 per square metre and a five-year down payment in advance,” he explains. “I do not know how banks can introduce big salary increments under such circumstances. At the end of the day, the impact of the escalating operating costs will be a burden on the banks and the public.”
On the other hand, Yohannes Ambissa, Director of Human Resources at the Cooperative Bank of Oromia (CBO), says that the move of BoA does not have a direct effect on his bank: “CBO and BoA operate in different climates. We serve the cooperatives by focusing on agriculture and export; therefore, most of our branches are outside the capital, so most of our employees have to speak Oromiffa, while BoA mostly operates in the capital. There is not much employee flow from CBO to BoA or vice versa. It could have had a big impact if it was the CBE that made the increment, because CBE is highly active outside the capital.”
The CBO introduced a new growth and business strategy in January 2016. Half of the bank is owned by cooperatives that have 4 million members engaged in the agriculture sector. Established 12 years ago, it currently has 200 branches, 70Pct of which are outside the capital. It also has close to 900,000 clients. Currently it has 2,186 employees and its paid-up capital has reached ETB1 billion, while its deposits stand at ETB 9 billion.
According to Yohannes, interest expenses have been a major component of the bank’s expenditures; however, as of last fiscal year, salary and benefits proved most burdensome, amounting to ETB200 million, followed by general administrative cost. “The operating cost of the bank has been increasing at 30Pct to 45Pct,” he told EBR.
He says another challenge is it is difficult to find experts in the industry, especially people who are knowledgeable in fields like law, credit, IT, and business: “When you get one in those areas, they lack expertise of the banking industry. However, we invest in the human capital and try to benefit as much from the investment since the investment must bring productivity. It is good when a bank profits and increases salaries, but you also have to consider not causing inflation.”
Fikru Woldetinsae, Marketing and Communications Director at Wegagen Bank, also believes that the banking industry is subject to regulatory and competitive pressures in an environment with limited resources, without service diversification and specialisation. “All banks serve the same product and use scarce resources from the same pool. Since a move of a given bank affects the others, banks must make their moves from the industry perspective,” he argues. “The number of people with bank accounts in the country is less than 20 million and we know the NBE’s push is to reach the remaining 80 million in order to maximise financial inclusion. However, this must be done by minimising operating costs and investing in technology.”
He says the market in Addis Ababa is saturated. “If we could use technologies effectively, we can end the current brick and mortar system, which will be obsolete in four years. Most of what banks do in their branches can be done by ATMs,” he argues. “There are ATMs that can check cash notes and deposit. Banks must work on ATM, Internet, card, PoS and mobile banking.”
Wegagen has 185 branches, 72 of which are located in Addis Ababa. Their total expenses increased from ETB431.3 million in 2013/14 to ETB556 million in 2014/15, out of which ETB323.7 million is for salary and benefits, and ETB225.8 for general and administrative matters. Its profit after tax increased from ETB318.4 million in 2013/14 to over ETB352 million in 2014/15, while its earnings per share decreased from ETB261 to ETB244, during the same period.
Although information obtained from Wegagen shows that the staff turnover rate for the 2014/15 fiscal year was 5Pct, the bank increased its salary twice last fiscal year; the first time voluntarily and the second as a response to the industry players, sources at the bank told EBR.
Deloitte studied the pay scale and growth strategy of Wegagen, which currently has 20 different salary levels. The bank is to adjust the salary scheme, “but not to respond to BoA. We only consider the industry,” says Fikru.
“If we open 50 branches every year, each branch needs at least 10 to 14 employees. You cannot hire fresh graduates for all those positions, plus there is inflation. [We] must offer better salaries to attract experienced employees from the industry,” he argues. “Therefore, banks snatching employees from one another is intensifying. It is a challenge for the industry, which is under pressure because of many regulations and changes in recent years.”
Although salary increment is one mechanism of retaining staff, most banks also provide affordable loans for their employees to acquire properties. Dashen and CBE have both utilised this strategy.
In fact, Dashen recently developed a strategy to pay a percentage of the cost of purchasing houses and vehicles. Employees with two years of service can buy properties with 95Pct loans from the bank at a 6Pct interest rate. Employees with at least ten years of service and who have previously taken such loans can buy properties, 80Pct of whose cost can be covered by the bank at a 9Pct interest rate. Employees with 20 or more years of service and had taken such loans twice previously are eligible for a third loan with 70Pct financing.
Although such strategies are beneficial to employees and help banks maintain employees, not all employees are eligible to access the funding and many prefer salary increases.
Expert analysis, including the aforementioned KPMG report, note that the banking industry is facing a period of unprecedented pressure, since customers have become more demanding and less forgiving. Additionally, NBE’s risk management expectations are more burdensome than before, while investment in new technology has become compulsory and costly.
On top of these, the global economy is recovering slowly from the financial crisis that began in 2008, which has reduced global demand for commodities and exports, thereby reducing banks’ revenues that come from export earnings, remittances and credit.
Stakeholders in the banking industry say in such a tumultuous operating environment, reducing operating expenses should be the number one objective for commercial banks in Ethiopia. This includes implementing new strategies, cost minimisation and increased reliance on innovative banking technologies.
According to a study conducted by Steven Fries, Deputy Chief Economist, and Anita Taci, Principal Economist at the European Bank for Reconstruction and Development entitled “Cost Efficiency of Banks in Transition”, there are at least two reasons for banks to focus on cost efficiency:
“First, efficiency gains increase the resources associated with operation of payments systems and with intermediation of savings into investments. This means, just like productivity gains in other economic sectors, greater cost efficiency in the banking industry contributes directly to overall economic development. Second, cost efficiency may be associated with other dimensions of bank performance that contribute to overall development, such as disbursing more productive loans.”
Global experience demonstrates that cost efficiency comes with lower nominal interests and a higher intermediation ratio. In other words, greater macroeconomic stability and competition in the banking industry, as well as the development of supportive institutions, promote cost efficiency.
Circumstances for cutting operating costs vary and studies conducted on the matter suggest that cutting many of them can be done efficiently. For instance, according to an article from the Harvard Business Review entitled ‘Strategies for Staying Cost Competitive’, managers should regularly do a “strategic cost analysis to identify the severity of the impact of the rise of operating cost in their company as well as rival companies.”
The article suggests that the first step in this strategic analysis is to diagnose the changing cost economics in all activities of the company. This involves constructing a value chain, a diagram that shows the value added at each step in the whole market process and exposes shifting cost components. Since the rise of operating cost affects each company in an industry, assessing long-term shifts in the cost position of a given company and its competitors is imperative.
This kind of analysis, according to the article, provides a backdrop for formulating an effective strategy and defence to avoid or escape from the competitive pricing trap, which not only hurts a given company but the industry as a whole. Identifying shifts in key cost components and assessing competitive shifts are the final stages to factoring in cost economies.
Managers of banks in Ethiopia also laud the benefit of focusing on cost efficiency. “The higher operating cost is a result of the large demand gap and increased competition, which has big impact on the profits and profitability of the banks,” argues Abie. “Earnings per share are decreasing, the rate of increment of operating cost is high and its gap with profit increment is narrowing. If this continues, the operating cost will become equal to earnings and there will be no profit. The earnings per share in the banking industry 10 years ago was around 70-80Pct and now it is between 40 and 50Pct.”
He says this is why the industry cannot continue like this. “Employees expect salary increments each year. If the bank gets good profit, it will be possible to [meet their expectations]. But for this to happen, the brick and mortar banking system must be replaced,” he argues, emphasising the toll branch expansion is taking on banks.
As a way forward, Ephrem Mekuria, Communications Manager at the CBE, argues that investment in the human capital development is needed to stabilise the industry: “You cannot always keep your employees, even with a good salary, because human resource issues in any sector are dynamic. It needs a continuous development from the base and succession. Although most of the private banks in the industry have taken managers and even presidents from the CBE, this has little impact on us, since we replace them from our own pool, which comes from our training centre.”
Sources at the bank told EBR that after the recent salary increment of BoA, the CBE is preparing a new salary scheme, after requests from the bank’s labour union. However, Ephrem stresses the CBE is a state-owned entity and cannot respond directly to BoA’s recent salary increment. “However, we offer big job opportunities, trainings and career development opportunities, and different benefits, including health insurance and enabling employees to acquire properties through loans.”
After the acquisition of the former Construction and Business Bank, which merged with the CBE last year, the state-owned giant currently has 28,000 employees.
Last year, the bank opened a training centre, which trains 500 people per year at different levels. Currently CBE has more than 1,100 branches and its total assets reached ETB384.6 billion as of June 2016.
Abie argues committing 2Pct of the profit for human capital development investment is necessary to solve the expertise shortage in the industry. “Each bank should do its part towards the development of human capital in the banking sector,” he says. “We might succeed together or fail.”
Fikru, on the other hand, says increased competition and dynamism in the industry present an opportunity for the private sector. A company can open a training centre that can provide the industry with quality human resource. “Universities must consider this,” he stresses. “Otherwise the banks must unite and do it themselves.” EBR
4th Year • October 16 2016 – November 15 2016 • No. 44