Hail Mary

FirstRand was, until recently, South Africa’s largest bank by market value, built on an astonishing 28-year run since it was founded through the merger of Rand Merchant Bank (RMB), First National Bank (FNB), and insurance company Momentum.

The bank, which occupies a sprawling block at Merchant Place in the heart of Sandton, incubated some of South Africa’s powerhouse financial service firms too, including OUTsurance and Adrian Gore’s Discovery.

And yet there is a distinct sense that FirstRand — blindsided by an immense R17.7bn liability in the UK as part of a regulatory crackdown on hidden commissions paid by vehicle lenders — is scrambling to find its mojo and reassert its once-towering presence.

“FirstRand used to be head and shoulders above all the other South African banks when it came to innovation,” says Zwelakhe Mnguni, chief investment officer at Benguela Global Fund Managers. “All its franchises were on top of it — FNB in retail banking, WesBank in car finance, and RMB in investment banking — but there’s a sense it took its foot off the pedal.”

Capitec, in particular, gobbled millions of customers at the lower end of the market, while challengers such as Discovery Bank tilted at the top. It has left FirstRand with, if not quite an identity crisis, then certainly with serious questions over its strategy.

Over the past decade, rivals such as Standard Bank and Absa, facing the same question, have leant into their expanding African franchises. But FirstRand, true to its eccentric character, did something quite unexpected: it bought a bank in the UK called Aldermore in 2017 for R20bn, into which it could fold its MotoNovo finance division.

Betting on the UK turned out to be an epic mistake.

The seeds of the crisis were sown in 2024, when MotoNovo lost a landmark legal case.

There, a UK court ruled that a 34-year-old man, Marcus Johnson, who had bought a Suzuki Swift in 2017 for £4,600, hadn’t been told about £1,650 in “hidden” commissions which the car dealer had been paid by MotoNovo.

“He did not know that the advertised price which he agreed to pay was substantially more than the [recommended] retail price, and that the difference was largely accounted for by commission which the lender had to pay to the dealer,” the UK court ruled.

In other words, banks had secret commission deals with car dealers, which obliged them to place business with the lender “however uncompetitive that may be” as a quid pro quo.

A later Supreme Court case overruled aspects of that finding, pointing out that the commission becomes part of the overall distribution cost. But it still found the credit agreement to be “unfair” on Johnson, and ruled that FirstRand must repay the commission.

Critically, this wasn’t just FirstRand — all the UK banks did it— so this case sparked a wider regulatory crackdown as the Financial Conduct Authority (FCA) launched an industry-wide “redress scheme” that would cost the banks billions.

In March, the FCA announced the terms: 12.1-million people could seek “redress” in a scheme which the authority’s CEO, Nikhil Rathi, said would put £7.5bn “back into people’s pockets”.

FirstRand was far from the worst offender — it is only ninth on the list — with Lloyds, Santander and Barclays at the top, followed by carmakers including Ford, BMW and Volkswagen.

But translate that into rands, and it’s a whole other story.

Two weeks ago, FirstRand released the calculations, much to the horror of its shareholders: the R17.7bn it will finally have to set aside to cover the fine is a full R11.9bn more than it had originally expected. Alarmingly, this will shrink its full-year profit for the year to June by between 4% and 9%.

The bank, fuming about this, railed against a “disproportionate and unfair” decision, even as it ran up a white flag, saying it would sell out Aldermore. Owning a UK consumer finance entity, where this kind of thing can happen, is no longer “within the group’s risk appetite”, it said.

Assigning blame

The deeper question, though, is whether FirstRand was just in the wrong place at the wrong time. Or was it culpable, not just in how it handled the provisions for such a fine, but also in allocating so much capital to a country where the regulatory risk was always high?

On this score, analysts are divided.

Radebe Sipamla, a portfolio manager at Mergence Investment Managers, says the 2017 purchase of Aldermore seemed “emotional”, even if this R17.7bn fine couldn’t have been foreseen.

“At the time in 2017, there was a lot of noise about the ANC elective conference, and it was far from certain that Cyril Ramaphosa would win,” he tells the FM. “They were wary of what could happen in South Africa, and there was a sense that they were scrambling to find hard currency earnings, so perhaps the due diligence was less rigorous than it might have been.”

Sipamla says once FirstRand took over Aldermore and looked under the bonnet, it discovered a bank in need of a technology upgrade, one that wasn’t as formidable a challenge as it first appeared.

Others agree that as much as FirstRand is the collateral damage of the wider effort to hold banks accountable in the UK, it isn’t exactly blameless.

“I do believe there was an error in FirstRand’s capital allocation judgment in entering the UK in the first place,” says Adrienne Damant, an analyst at Avior Capital Markets. “The timing of the transaction was when South Africa was struggling, and management teams searched for growth.”

This has now cost it plenty. Forget the R20bn it paid for Aldermore, that R17.7bn fine alone is equal to 2.7 times the total profit made in the UK over the past decade from motor finance.

That’s a whole lot of money, and effort, for less than nought.

Slashing returns

If FirstRand believes it is the victim of an “unfair” penalty, it must be doubly unfair that it is Mary Vilakazi who, as the highly rated CEO of the bank, is mopping up this mess.

Vilakazi joined FirstRand as chief operating officer only in 2018 — a year after the Aldermore deal was consummated — and was elevated to the top job in 2024.

Her trajectory is inspiring: born in Alexandra, Joburg, she secured a bursary to study accounting at Wits. After graduating with honours, she became one of the youngest partners at PwC at the age of 27, before she left accounting for the corporate sector.

In an interview with the FM, Vilakazi says if anyone could have predicted what would happen with Aldermore, they’d have been a genius. “What we experienced in the UK is very unfortunate. It happens. I don’t think we anticipated that we could be operating in the UK and end up with a redress scheme that far exceeds the money that we would’ve made,” she says.

In retrospect, was the UK acquisition the smartest use of capital?

“I want to do my predecessors justice here,” says Vilakazi. “There have been a number of very good decisions made by the group over the years. There has been responsible investing. We don’t sit here with a very long list of things we got wrong. And you also have to look at capital deployment in existing customer franchises as well.”

On this score, you’d have to concede the South African bank is roaring, based on the best profitability metric, its return on equity (ROE).

For the six months to December, the engine room, FNB, made R13.1bn in profit, an astonishing ROE of 41%, while RMB made R5.4bn (an ROE of 20.6%) and WesBank delivered R1.2bn (an ROE of 21%).

The laggard was Aldermore, which delivered R1,74bn in earnings, at a weak ROE of just 9.2%.

These figures underscore why so many believe the UK debacle is a blessing in disguise, since it forces FirstRand to return home.

Here, FirstRand’s chunky returns have been its secret sauce. Overall, FirstRand’s ROE sits at 21.1% — ahead of Standard Bank (19.3%), Nedbank (15.4%), Absa (15%) and Investec (13.6%). Only Capitec, which seems to operate in a different universe, trumped it with an ROE of 31%.

And despite Aldermore, FirstRand’s half-year results to December show the bank is still at the top of its game back home: customer deposits exceeding R1-trillion, a cost-to-income ratio of 48.3% and more than 12-million customers.

Regulatory overreach

Still, companies are ultimately judged on their capital allocation decisions and credibility with investors. The problem with Aldermore is that FirstRand initially set aside only R5.8bn to cover the FCA fine — then shocked investors by radically hiking this to R17.7bn.

So, should it have been more forthcoming, not to mention more accurate, in its provisioning? Should MotoNovo have recognised earlier that it might have been overcharging its own customers?

“This is a train smash,” says veteran asset manager Terence Craig, who argues the UK blunder has been characterised by “poor disclosure” and “underprovisioning” for the fine. “Because they didn’t adequately provide earlier, they were reporting profits much higher than they should have been,” he says.

Vilakazi rejects this argument.

“Even now, we are still working through the details. But I think we have done exactly what we have promised,” she says. “Every time we have landed on a number, it was with proper explanation around what assumptions we have made.”

She argues that the larger-than-expected share of the provision related to the loans written after the 2021 rule changes — a surprise since the practice of discretionary commissions had been banned by then, so the bank hadn’t expected this portion of the book to be affected.

Fixed commissions should not be treated as causing compensable harm, Vilakazi says, adding that the FCA has taken its regulatory interpretation “to the next level”.

And, she argues, the size of the bill has wrong-footed every UK bank.

This is true. Santander’s fine is now at £461m, and the Spanish lender’s UK boss, Mike Regnier, has warned that this “overreach” by the regulator will cause “significant harm” to banks. Lloyds, which owns Britain’s largest car financier, Black Horse, had to hike its provision to £1.95bn.

Anchor Stockbrokers analyst Ilan Stermer agrees with Vilakazi, saying there was no “wilful negligence” in its provisions. The liability kept expanding as the FCA widened its investigation, he says.

But Stermer does say that FirstRand might have been a bit naive to have assumed that the UK regulator would apply the law as clarified by the courts, rather than extending its reach.

In the end, FirstRand’s real mistake may not have been sloppy provisioning, but misreading the regulatory environment and expecting the FCA to behave like a conventional rule-bound regulator.

Stermer says this brought to a head a brewing strategic debate: if you are operating in a jurisdiction where the regulator can change the rules “just about willy-nilly”, do you want to keep allocating capital there?

Africa: fad or future?

The question is, if FirstRand’s big bet on the UK has come unstuck, where will it go next? Where will it allocate its proceeds from selling Aldermore?

A recent research report from SBG Securities said there are a number of options, including hiking its stake in the JSE-listed fintech payments company Optasia beyond 26%.

The best returns have come from South Africa, where it is fabulously placed in its commercial and retail bank

—  Zwelakhe Mnguni

Mnguni says FirstRand could do worse than bolstering its local franchise.

“The best returns have come from South Africa, where it is fabulously placed in its commercial and retail bank. So it wouldn’t be the worst thing for it to come home and focus on strengthening its local franchises,” he says.

Sipamla says either way its risk appetite will be muted for a while. “Especially after what happened with Aldermore, you won’t see them buying a West African retail bank, or anything like that,” he says.

Asked about this, Vilakazi gives clues, but isn’t definitive. She says FirstRand is looking to expand its “relatively small” corporate bank as well as in the mass consumer market, while there are also “meaningful opportunities” in the rest of Africa.

“We’ve got strategies to grow in those respective markets, including Mozambique. So that still stands. We’ve been on the lookout for opportunities in Kenya and hopefully something converges at some stage,” she says.

This is significant, because Africa is all the rage right now.

Earnings from Absa’s banks in 12 African countries outside South Africa soared 25% in the year to March, providing nearly a third of its profit. And Standard Bank’s operations in 19 African countries outside South Africa clocked up R19.5bn last year, contributing 40% to its profit.

FirstRand is far behind, with just 10% of its profits coming from African countries outside its home base. It is strongest in Botswana, Eswatini and Namibia, but is still modest in Ghana, Zambia and Nigeria.

Evidently, East Africa is a focus. Nedbank, too, is getting serious about that region, having announced the purchase of 66% of Kenya’s NCBA Group in January for R13.9bn.

But Sipamla warns that though Africa might be doing swimmingly now for Absa and Standard Bank, this isn’t without risk. “For many years, we saw the impact of wild foreign currency movements in Standard Bank and Absa. FirstRand was far more conservative — it didn’t have the risk appetite for operations where forex volatility could wipe out all your equity in a single year,” he says.

Here is where it gets interesting. FirstRand now has 26% in Optasia — a fledgling pan-African payments fintech operator — which will give it exposure to many of these markets.

Optasia, launched in 2012, uses credit scoring underpinned by AI to create “individual credit profiles”. Theoretically, this allows banks and lenders to properly assess their risk and “expand financial inclusion to previously unbanked populations”.

So, for instance, if a business owner asks FNB for a loan, it could use Optasia’s credit scoring models to assess whether that person has a higher propensity to pay — giving it greater control over individualised risk-based lending.

Evidently, Vilakazi believes this will help expand FirstRand’s reach.

“Can we do more to grow in that lower end of the retail market where it’s very competitive? Can we do more to leverage our business bank? Can we work a lot closer to retail? Can we explore more opportunities outside South Africa? The answer is yes to all,” she says.

Don’t panic

To some analysts, it feels as if the Aldermore debacle has rattled FirstRand, inducing a strategic confidence crisis. As the first major hiccup for a bank that has sailed through crises until now, this wouldn’t be unjustified.

But Mnguni feels that pivoting into the bottom end of the retail market — crowded with the likes of GoTyme Bank, Capitec and furniture retailers such as Pep — is a low-value strategy.

“They’ve got a solid market in the mid- to upper-income clients. But in the mass market, transaction values are low, risk is higher, and there is now huge competition. This wouldn’t be smart,” he says.

Sipamla, however, feels that FNB has an edge in this market: it has innovated plenty on payments, including implementing lower profit margin payment platforms like PayShap while others dithered. And Optasia’s fintech could provide the edge that no-one else has.

“If they can learn from Optasia to produce better risk models, this would give them superior lending models to Capitec. Sure, Capitec has paid the school fees, and knows this market, but it doesn’t mean FNB won’t be able to compete very effectively,” he says.

Either way, Vilakazi isn’t panicking.

She points to the strength of FirstRand’s existing franchises, and argues that despite Aldermore, the barometer remains fixed on whether it remains relevant to its customers, and does business at a good margin.

“If we lend to the right people, and we’re there for businesses that actually require the help, that for us is a good outcome,” she says.

As it is, the Aldermore story could still have a different ending. As analysts from RBC Capital Markets put it, it is “highly likely that at least one, if not multiple” of the banks and car firms would challenge the FCA ruling in a higher tribunal.

Vilakazi won’t say if FirstRand will appeal — “I’m inclined to not answer that question,” she says.

One thing she is clear about, however, is that even if the liability is reduced, FirstRand won’t stick it out in the UK. While she “quite likes” the Aldermore business, “unfortunately it’s a consumer facing business and we think that operating in that regulatory regime is not for us”.

In the end, Vilakazi says: “We just have other more interesting opportunities that we can rather direct our energies to.”

— Additional reporting by Antoinette Steyn and Ruby Delahunt