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People underestimate how much you can learn about a company just by reading its published accounts.

I illustrated this in my January 2019 column in the magazine "Islamic Finance News" by downloading and summarising the track record of Bank of London and the Middle East plc. They show a pattern of small losses in the good years, interspersed with very big losses in the bad years.

You can read my article below.

Making money in UK Islamic banking is tough

This month, I have done something anyone could do for themselves. The Bank of London and the Middle East Plc (“BLME”) is the largest dedicated Islamic bank in the UK. I downloaded BLME’s annual reports and summarised them.

They results are horrible. BLME did make profits in 7 out of the 11 years, but the best result, a profit of £4.3 million in 2013, was only 1.8 % of shareholders’ funds. Banks typically aspire to have a return on equity exceeding 10%. In the other four years, the bank made large losses. Since starting, BLME has lost its shareholders a cumulative £31.6 million.

There are many reasons why BLME has found life so difficult.

Firstly, the decade since the global financial crisis has been hard for most banks. Regulators have imposed many additional risk management costs upon banks such as increased anti-money-laundering compliance amongst others.

These additional costs come on top of the unavoidable operating costs of any bank such as having an internal audit department, financial accounting systems, a board of directors etc.

All costs of this kind bear much more heavily on a small bank such as BLME than they do on much larger conventional banks. For example, at the end of 2017 Barclays plc had shareholders’ funds of £66 billion, making it 300 times larger than BLME. Barclays has a much larger base over which to spread its overhead costs.

As well as the inefficiencies from being small, being a new player in the market is always hard. Banks make money by using their own capital plus money from customers (“deposits”) to finance other customers. Most of the finance is provided using customers’ money.

For example, Barclays plc had assets (mainly customer financings plus cash and investments held for prudential purposes) of £1,133 billion, which is 17 times its capital of £66 billion. In comparison, at the end of 2017 BLME’s total assets of £1,026 million were only 4.6 times its shareholders’ funds of £220.5 million. The lower that ratio, the harder it is for a bank to make money. BLME has simply not managed to scale up its deposit taking and financing activities sufficiently to earn a reasonable rate of return on its equity.

Finally, there is another problem from being a new bank. It is harder to find reputable customers to finance at an acceptable rate of profit return. BLME has clearly suffered from this problem. The accounts show that in the years when there were big losses, they arose from impairments. That is accounting terminology for the losses you suffer from providing finance to businesses which are no longer likely to pay you back.