Equity Bank has said it will lease up to 60 per cent of Airtel Kenya’s network capacity in a deal that will allow the bank to become the region’s first mobile virtual network operation (MVNO).

The Nairobi Securities Exchange -listed bank said on Monday that the agreement with Airtel will allow it to issue the telco’s customers with the bank’s branded Sim cards. The platform will offer voice, data and a mobile money transfer service to take on Safaricom’s M-Pesa.

Under the partnership, the bank will disburse loans and offer cash transfer services for its eight million customers. The deal, analysts said, could reshape the future of payment systems in the region by combining financial services and technology more closely than was previously thought possible.

Seven years into the rollout of Kenya’s revolutionary mobile transfer service M-Pesa by Safaricom, regional banks are increasingly considering mobile phones an important distribution channel.

In the year ending March 2014, Safaricom said M-Pesa revenues hit Ksh26.6 billion ($305.2 million), up 21.6 per cent from the previous year.

While most banks in the region offer some form of Internet and mobile banking services, Equity’s launch is significant because this will be the first time a bank of its size — with a customer base of 40 per cent of Kenya’s 20 million mobile subscribers — has partnered directly with a telco.

The bank expects at least three million of its mobile banking customers to move to its new network.

Equity said it will roll out the MVNO service in Kenya in July, after securing the licence early this year, adding that it will expand the service across other markets in Uganda, Rwanda, Tanzania and South Sudan where it has operations.

“We have agreed on a variable cost model where we only pay for what we use. Essentially, it lowers our entry costs while at the same time allowing Airtel to cash in on its current idle capacity,” said Equity Bank’s chief executive officer James Mwangi.

Equity will be taking on competitors like Kenya Commercial Bank (KCB), who have raised the ante on mobile banking, as they seek to distribute products cheaply, run the back office and enhance cross-selling products.

KCB’s mobile banking services, Mobi Bank and M-Benki, allow customers to transfer money from their bank accounts to their mobile phones and vice versa. KCB’s customers can also transfer money from their bank accounts to other bank accounts, whether with KCB or another bank.

READ: KCB launches M-Benki in race for micro-deposits

While the latest deal gives Equity Bank an entry into the mobile phone business, it also points to new paths that regional telcos — a number of which are loss making — could take as they seek to exploit excess capacity on their networks.

“It’s about maximising on our assets; the more customers both Equity and Airtel get, the more value we create for our respective shareholders,” said Adi Youssefi, CEO of Airtel Kenya.

Many regional telcos are struggling to build capacity usage because of low customer numbers, a factor that has lowered their earning potential and slowed down investment in infrastructure.

Data shows that in the past three years, the Kenyan telecoms market has posted muted growth, with revenues growing 9.7 per cent between 2008 and 2011.

This scenario, a study by consulting firm EY shows, means that the weaker players are cancelling or delaying non-essential capital expenditure due to reduced profitability. As a result, mobile penetration has also remained flat, with large swathes of the rural landscape yet to be covered, concludes the study.

The study was commissioned by Essar Telecom Kenya, the operator of yuMobile, before its announcement that it was looking for bidders to take over the Kenyan operations earlier this year. Telcos are now thinking of new strategies.

READ: Will Kenya end up with two or three major mobile operators?

“It’s the perfect win-win situation. It gives this telco a chance to at least recoup running costs; they previously made nothing,” said Erick Munywoki, a research analyst at Old Mutual.

Across the region, smaller players have struggled to make profits. In Uganda, Airtel and MTN control more than 80 per cent of the market, leaving the remaining stake to five other players. In Kenya, Safaricom controls about 75 per cent of the market, leaving the three other players to share 25 per cent among themselves.

“Increasing the network usage gives some of these players a chance to break even,” said Kuria Kamau, an analyst at Kestrel Capital.

The entry of Equity Bank is expected to intensify competition for the country’s mobile payment sector — which has been controlled by Safaricom — resulting in reduced costs and increased penetration.

Equity said it will cap the cost of sending cash at an upper limit of Ksh25 ($0.28) to send money to any network. Safaricom currently charges a maximum of Ksh110 ($1.26).

But, while Equity is not expected to offer competition on the voice segment — sources told The EastAfrican that the firm will charge at least Ksh0.1 above Airtel’s current rates — the firm’s primary focus on using the MVNO to grow its share of the payments market could present a challenge to Safaricom’s dominance.

“We do not feel these changes will bring about any significant value-destroying competition. The main competitive focus is likely to lie in the payments space, which is being spurred by regulatory initiatives that focus on e-government,” said Standard Investment Bank (SIB) in a note to investors.

Its entry into the mobile money transfer segment, as well as an increase in the product variety of its mobile-based financial services, will help Equity Bank attract smaller deposits and reduce expensive branch-based transactions.

Equity Bank does more transactions through agency banking than it does through its branches. Using agencies helps the bank cut costs, and increases customer satisfaction.

According to the World Bank, about five per cent of the cost of a loan is due to expensive deposits, implying that mopping up more deposits would cut operational costs for the bank.

Equity Bank estimates that as much as 96 per cent of Kenya’s transactions are cash-based.

In Safaricom’s estimates, the M-Pesa service handled an average of Ksh100 billion ($1.14 billion) per month — about $30 million per day — in the year to March 2014.

The biggest growth came from business-to-persons and persons-to-business transactions, which grew by about 70 per cent compared with the 16 per cent growth for person-to-person transactions.

Safaricom and Equity see this opportunity for growing business-driven transactions as key in driving future growth: Companies pay an average of one per cent of the value of each transaction to payments providers — in this case, Safaricom and Equity.

To lock in this market, Safaricom has recruited about 120,000 outlets on its Lipa na M-Pesa service—which allows customers to pay for good and service through M-Pesa. Equity says it will distribute 300,000 smartphones to merchants, allowing them to process payments from its MVNO and cardholders.

“The primary focus is on payments. We want to grow our merchandise payments. Each Sim card we offer will serve both as a debit and credit card,” said Mr Mwangi.

The card payment segment is Equity’s fastest growing business, expanding by an average of 90 per cent per year over the past four years. Currently, the company processes about Ksh1.2 billion ($13.79 million) in merchandise business, generating Ksh40 million ($0.45 million) in earnings per month.

The entry of Equity comes at a time when the government is forging ahead with plans to digitise its payment systems and abolish cash payments in the public transport sector.

But even as Equity enters the mobile payment market, analysts say Safaricom’s entrenched market dominance will pose a serious challenge for the lender.

For example, whereas Safaricom has in excess of 90,000 M-Pesa agents, Equity has just 11,000.

Second, going by the poor portability results, it is unlikely that customers will be willing to ditch their current Safaricom Sim cards for Equity’s — though the bank says it will give customers who are not willing to shift to its network the option of adding a thin film on top of their current Sim cards enabling them to use its mobile service.