Mr. Rajan Brito, Chairman of the DFCC Bank has urged the need for consolidation in the banking industry saying that maximum efficiency was not possible within fragmented industry space occupied by many players.

In his chairman’s statement in the bank’s annual report he argued that "the case for consolidation is strong, especially in the banking industry."

Looking at two aspects of the question, he said on the one hand there is a need for raising additional equity capital by banks to strengthen the base for loan growth and customer support while on the other there was a need for cost rationalization and profitability enhancement for economy of scale and operational homogeny.

"All these require a minimum critical mass and cannot be achieved efficiently, if at all, in a fragmented industry space occupied by many players," he said.

Brito also complained about the high level of taxation to which banks here are subject, pointing out that the combination of financial VAT and corporate tax is approaching 60%.

"In this scenario the return on equity is sub-optimal and not commensurate with the market risk as far as long-term investors are concerned," he said.

"This means that the raising of equity capital, already a difficult feat under the currently depressed stock market conditions, may only be possible with a steep discount to fair value for most banks, even if the market was to improve substantially."

The DFCC Bank had during the year under review grown profit after tax (PAT) at bank level by 3% although at group level PAT was down 8%.

The bank’s CEO, Mr. Nihal Fonseka, reported that the group profit at Rs.2.07 billion was 8% less than the previous year.

The report indicated that this was partly due to the decline in profitability of the DFCC Vardhana Bank where the PAT for 2008 was down to Rs.111 million from the previous year’s Rs.153 million.

Fonseka explained that the demand for new project loans had declined and the bank had also been compelled to take a more cautious approach on credit expansion.

This was particularly so on granting fixed rate finance leases "due to clear signs of stress in that segment."

He reported that net interest income on customer advances have been affected by the contraction of the portfolio through the year as well as higher non-performing loans on leases.

"However, a judicious allocation of assets to high yielding government securities countered this decline," he said.

The bank had also booked capital gains on the disposal of matured equity investments and these have helped negate the adverse impact on high provisions for possible credit losses.

Brito indicated that the DFCC has been required to reduce its 95.6% holding of DFCC Vardhana Bank to 15% by 2012. He regarded this as an opportunity to transform the bank and recast the group to be well positioned to meet the challenges ahead while maximizing value to shareholders.

"All available options are being considered and studied with a view to selecting the strategy that would best achieve these objectives," he said.

As regards DFCC’s shareholding in its associate, Commercial Bank of Ceylon, where it has a 26.9% interest, they have been required to reduce the holding to 15% by October 2008.

Court proceedings have been filed in this regard seeking time until 2012 to effect the reduction and meanwhile the DFCC will abide by the Central Bank direction limiting its voting rights to 10% and other restrictions imposed by court on voting.

DFCC has a share capital of Rs.1.3 billion and a share premium of Rs.3.2 billion in its books. It carries retained earnings of Rs.0.8 billion as at March 31, 2009.

The Bank of Ceylon with 14.55% is the largest shareholder of the DFCC followed by HNB (12.28%) and the Life Fund of the Sri Lanka Insurance Corporation (11.23%). Distilleries Company too had 6.43%.

Net assets per share as at March 31, 2009 stood at Rs.110.90, up from Rs.108.62 the previous year and the share traded at a high of Rs.130 and a low of Rs.52. This compared to a trading range of Rs.200 to Rs.115.50 the previous year.