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1.      Introduction

The Ethiopian financial sector has long been dominated by government-owned institutions, with the state-owned Commercial Bank of Ethiopia holding a virtual monopoly. For years, Ethiopia has been one of the few countries, even in Africa, that has restricted foreign investment in its banking industry.

The government has cited several reasons for this protectionist policy. First, there were concerns that allowing foreign banks to operate in Ethiopia could undermine the government's ability to control the economy, as the country's financial system was considered immature, and the regulatory framework is weak. Additionally, there were fears that the technological and expertise advantages of global banking giants would overwhelm domestic institutions, leaving domestic investors uncompetitive.

However, the government's stance has started to shift in recent years. Practical necessity and optimism about the potential economic benefits have led Ethiopia to begin liberalizing its banking sector. The first step was the amendment to the Banking Business Proclamation No. 592/2008, which took place in September 2019 and lifted the restriction on foreign nationals of Ethiopian origin investing in banks and introduced new provisions to enhance the safety, soundness, and effectiveness of the banking system.

This legal update focuses on the entry modalities for foreign banks that are being introduced in the latest draft of the revised Banking Business Proclamation (‘Revised Proclamation’). While the topic of Ethiopia's financial sector liberalization is broad and worthy of analysis on various aspects, such as merger and acquisition regulations and corporate governance reforms, this legal update will only concentrate on the new provisions of the Revised Proclamation that are related to modalities of entry of foreign banks.

2.      Entry Modalities of Foreign Banks in Ethiopian Banking Business Sector

The Revised Proclamation introduces several options for foreign banks to enter the Ethiopian market. The significant and key change is allowing domestic banks to sell equity to foreign institutions or merge with them. The Revised Proclamation outlines four specific entry modalities for foreign banks:

•          Setting up a subsidiary;

•          Opening a branch;

•          Establishing a limited-function representative office; and

•          Purchasing shares in existing Ethiopian banks.

Foreign ownership in any one bank is capped at 40% of the total subscribed shares of the domestic bank. Generally, while the Revised Proclamation covers these broad entry mechanisms, finer details such as profit repatriation are left to be addressed in separate Directives to be issued by the National Bank of Ethiopia (‘NBE’ or ‘central bank’).

Overall, Article 10(1)(a) of the Revised Proclamation represents a significant step in opening Ethiopia's banking sector to international players to have equity shares in domestic banks, albeit with certain restrictions. The four modalities of entry are briefly discussed as follows:

2.1.   Setting Up a Subsidiary

The Revised Proclamation clearly allows for the foreign banks to invest in Ethiopia by setting subsidiary in Ethiopia. The Revised Proclamation states that the minimum initial capital required to establish a foreign bank subsidiary shall be determined by the Directive from NBE. Additionally, a foreign bank subsidiary, irrespective of the form of business organization, shall have board of directors composed of foreign parent bank, other shareholders (if any) and domestic resident non-shareholder Ethiopians and details of their composition and fit and proper criteria shall be determined by the Directive of NBE. NBE is fully empowered to regulate and control the formation and governance of the subsidiaries of foreign banks in Ethiopia.

2.2.    Through Opening a Branch

Under the Revised Proclamation, foreign banks may now be permitted to establish wholesale deposit-taking branches or non-deposit-taking branches in Ethiopia. However, a foreign bank will not be allowed to open both types of branches simultaneously.

NBE is expected to issue a directive outlining the specific permissible activities for foreign bank branches operating in the country. Foreign banks will be required to permanently assign and remit a minimum capital amount, as determined by the Ethiopian central bank, to fund their Ethiopian branch operations. Additionally, the foreign bank must guarantee prompt payment of all branch liabilities and observe the constitutional rights of its employees.

Non-deposit-taking foreign bank branches will be limited to lending, loan repayment collection, and managing borrower deposit accounts opened for loan disbursement purposes. They may also obtain financing from foreign sources as per the Directives of NBE. Finally, each foreign bank with a branch in Ethiopia must appoint a senior country officer who meets the central bank's "fit and proper" criteria to represent the bank, manage its branch operations, submit reports, and serve as the key point of contact with NBE.

2.3.   Foreign Bank Representative Offices in Ethiopia

In addition to permitting the opening of foreign bank branches, the Revised Proclamation also allow for the establishment of foreign bank representative offices in Ethiopia. These representative offices will be limited to representational functions only, such as liaison, marketing, research, and other similar activities as specified in Directives of NBE.

Representative offices of foreign banks will not be permitted to engage in any banking or financial services activities. Their role will be strictly confined to activities like networking, market research, and promotional functions to support the foreign parent bank's interests in the Ethiopian market. The precise permissible activities for representative offices will be further defined in the forthcoming directives of NBE on the matter.

2.4.   Equity Ownership of Foreign Banks in Ethiopian Banks

The Revised Proclamation allow foreign nationals and foreign-owned Ethiopian organizations, other than foreign banks, to acquire shares in Ethiopian banks. However, there are limits on the level of foreign ownership. Direct shareholding by strategic foreign investors is capped at 30% of the domestic bank's total subscribed shares, while non-strategic foreign individual and institutional investors are limited to 5% and 10%, respectively, of the domestic bank’s total subscribed shares. The aggregate foreign shareholding in any Ethiopian bank cannot exceed 40% of the total subscribed shares of the domestic bank.

Exceptions to these ownership limits may be granted by NBE on a case-by-case basis, especially to facilitate the acquisition of a distressed domestic bank by a well-established, reputable and financially sound foreign bank. Foreign investors must fund their bank shareholdings through foreign direct investment in foreign currency, though dividend earnings may be reinvested in local currency within the ownership caps. Dividends, salaries and proceeds from share sales or bank liquidations can generally be repatriated, subject to the central bank’s directives. The central bank also reserves the right to impose additional conditions on the corporate governance and prudential requirements for foreign bank subsidiaries and branches operating in Ethiopia.

3.      Conclusion

The latest draft of the Revised Proclamation represents a significant step towards opening Ethiopia's historically state-dominated banking industry to foreign investors participation. The Revised Proclamation introduce four options for foreign banks to enter the Ethiopian market, by setting up subsidiaries, opening branches, establishing representative offices, and purchasing stakes in existing domestic banks.

While there are still some restrictions, such as limits on foreign ownership levels, this reform signals Ethiopia's shift towards a more liberalized financial sector. The success of this opening will depend on the implementation details and how the market responds. Overall, it indicates an important transition as Ethiopia seeks to modernize its banking system and attract more international expertise and investment as well as foreign currency. The changes could have far-reaching implications for the country's economic development and the competitive dynamics within its financial industry.

Disclaimer:  This brief legal update and notes are provided solely for general informational purposes. Million Alemu Legal Services does not assume any responsibility or liability for actions taken based on the information contained in these legal notes. They are not intended to constitute legal advice or a legal opinion, and users should not rely on them as a substitute for professional legal counsel.

Million Alemu Legal Services is well equipped with expertise in Ethiopian Banking and Investment laws. If you need any legal assistance of any kind, you are welcome to contact the firm.

This legal update is compiled by Yideg Sale who is Legal Associate at Million Alemu Legal Services.