Al Salam Bank B.S.C.

The market, and how big it really is

Bahrain is a small, saturated banking market attached to a sovereign in serious fiscal difficulty. The domestic equity market was worth BHD 7.93bn at 30 June 2026, financials 65.5% of it, and Al Salam 8.8% and the second largest financial after National Bank of Bahrain.

The bank calls itself Bahrain's largest Islamic financial institution. That claim comes from the issuer, so it needs an outside check. Built bottom-up from the listed Bahraini Islamic banks, Al Salam's BHD 8.05bn of assets sits against Bahrain Islamic Bank at BHD 79.1m of market value and Khaleeji Bank at BHD 47.2m, and Kuwait Finance House Bahrain is now inside Al Salam. The claim holds among Islamic banks, not against the conventional ones: National Bank of Bahrain and BBK are both larger by market value.

Named competitors

National Bank of Bahrain, 49% owned by the sovereign fund Mumtalakat and majority owner of Bahrain Islamic Bank, is the largest domestic bank by market value at BHD 1.23bn, and BBK follows at BHD 1.06bn. Khaleeji Bank and Bahrain Islamic Bank compete directly for Islamic retail deposits at a fraction of the size.

Barriers, and whether they hold

The barrier is a Central Bank of Bahrain retail licence plus the deposit franchise a branch network brings. It stops a new entrant and does nothing against the five incumbents already inside. Pricing power is where the evidence thins: Al Salam raised its return on equity mainly by adding acquired balance sheet and shifting funding and asset mix, not by charging Bahraini borrowers more. Genuine pricing power shows as a widening margin on a stable book, and this book has been rebuilt four times in four years.

Regulation and the fiscal backdrop

One regulatory change bears directly on the numbers. Bahrain introduced a 15% domestic minimum top-up tax for multinational groups with consolidated revenue above EUR 750m, effective from 1 January 2025. Al Salam clears that threshold and has subsidiaries in Algeria, Seychelles and the UAE. The separate draft 10% corporate income tax, referred to the legislature on 29 December 2025 and still not enacted, expressly excludes groups already inside the top-up tax, so 15% is the rate that matters here. The group's effective rate in 2025 was 7.6%. It will not stay there.

The backdrop is worse. S&P cut Bahrain to 'B' from 'B+' in November 2025 and Fitch followed on 23 February 2026, lowering the country ceiling to 'BB' and cutting its operating environment score for Bahraini banks to 'b'. Both carry stable outlooks; Moody's moved its unsolicited B2 outlook to negative in April 2026.

Funding and the capital stack

Customer deposits of USD 15.00bn fund two thirds of the USD 22.82bn balance sheet, and that granular funding base is the best thing about this bank.

The equity stack is where most published ratios on this name go wrong. Total owners' equity of BHD 749.7m splits into BHD 462.4m of common equity, BHD 209.1m of tier 1 mudaraba and BHD 78.1m of minorities. Screens dividing market value by BHD 749.7m show 0.96 times book and make the stock look cheap; on common equity it is 1.52 times.

The tier 1 mudaraba is doing more work than it looks

The group raised BHD 162.5m of perpetual tier 1 capital in 2024 and BHD 51.0m more in 2025. The coupon cost BHD 4.0m then BHD 11.0m, about 6.0% on the average balance and 14.3% of profit to owners. It sits inside the 23.6% capital ratio, ranks ahead of ordinary holders, and lifts reported return on common equity because it funds assets without adding shares.

Survivability in a downturn

Start from what the bank earns before losses. Net operating income in 2025 was BHD 240.2m and operating expenses BHD 111.7m, so pre-provision profit was BHD 128.5m, covering the BHD 36.0m impairment charge 3.6 times. Triple the cost of risk and BHD 20.5m of pre-tax profit survives. Take a fifth off pre-provision income as well and the group is at roughly break-even, below the BHD 11.0m tier 1 coupon. At a 23.6% capital ratio against a Central Bank of Bahrain minimum of 14.0% for systemic banks, a year like that would not threaten solvency. It would stop the ordinary dividend.

Distributions, and what a holder actually receives

The board recommended 15% of paid-up capital for 2025, 8% cash and 7% shares, BHD 44.1m in total. The cash element is BHD 23.5m, 36% of profit to ordinary holders. Declared as 8 fils on the pre-bonus count, it is 7.4 fils restated onto today's count, a yield of 3.3%. Consensus expects about 4.4% for 2026.

The share element is not a distribution. It hands every holder more paper and the price adjusts, so earnings and dividends per share are not comparable year to year unless restated: the BHD 65.8m earned for ordinary holders in 2025 is 20.7 fils on today's count, not the 22.7 fils reported.

Model. A residual income model on common equity, because a bank's debt is its raw material and a free cash flow discount would be meaningless. It values the book a shareholder owns today and adds the present value of returns earned above the cost of equity. It is cross-checked below against a dividend discount model, which values only the cash actually paid out.

The panel says two things at once and both are true. On earnings the stock is unremarkable: 9.6 times trailing against 9.7 times for Bahraini financials and 8.9 times for the market. On assets it is expensive: 1.52 times common book against 1.08 times for the sector, and 2.83 times tangible book. On yield it is the weakest of the group, 3.3% against 5.6%, because it pays out a third of earnings while peers pay out most of theirs.

The row that argues against this note. National Bank of Bahrain trades at 2.10 times book on a 14.7% return, dearer than Al Salam at 1.52 times on a comparable return. On that comparison Al Salam is the cheaper Bahraini bank and this note's caution looks misplaced. Two things answer it: National Bank of Bahrain is 49% sovereign-owned and yields 6.4%, so it is bought as a quasi-sovereign income holding, and its book carries far less acquisition goodwill. Concede the narrower point, that against domestic peers Al Salam is not expensive.

The row that supports it. Dubai Islamic Bank earns a slightly higher return on equity than Al Salam, from a sovereign rated AA by Fitch, and trades at about 1.2 times book with fourteen analysts covering it. A Bahraini bank at 1.52 times, from a 'B' rated sovereign and with two contributing analysts, is being paid a premium for the wrong risk.

Assumption block

Cross-checks. A dividend discount model values only the cash reaching a holder. From restated 2025 earnings of 20.7 fils, growing 15% then falling 5% as tax arrives, then 5% a year with payout rising to 75%, it gives BHD 0.174. A justified price to book on the same inputs gives 1.22 times, or BHD 0.185.

Where they disagree. The dividend model sits 12.5% below. The gap is retained earnings: Al Salam pays out a third of profit and reinvests the rest above its cost of capital, which residual income credits at once and a dividend model only when the cash appears. If that reinvestment does not earn its return, the dividend model is right.

Coverage, and where we differ

Coverage is thin. MarketScreener shows two contributing analysts, a mean target of BHD 0.265 and an outperform consensus. Their estimates imply net income of BHD 85m for 2026 against BHD 91m here, and BHD 96m for 2027 against BHD 89m. Neither service names its houses, so neither is a sourced consensus and neither enters the model.

The anchor sits 25% below the aggregated target, and the sensitivity grid below locates the disagreement: at an 11.0% cost of equity and a 16.0% terminal return the model gives BHD 0.269, the street number. The street assumes today's returns survive the 15% top-up tax and a contracting economy, and that a 'B' sovereign supports an 11% cost of equity. This note assumes neither.

Bear case

The carry trade runs out. Since December 2024 the group has added USD 2.01bn of sukuk against USD 0.98bn of financing, funded partly by BHD 213m of new perpetual capital and BHD 566m of term financing. That works while the spread is wide and stops when the curve flattens, when Bahraini paper widens against the group's funding cost, or when the regulator objects. Return on equity then falls towards the 13% of 2023, worth BHD 0.165.

Tax and the cycle arrive together. The effective rate goes to 15%, costing BHD 6.8m, and the cost of risk doubles from a base where non-performing facilities are already 4.2%. There is no geographic hedge here: one small economy, one peg, one regulator. Profit to owners falls towards BHD 55m and the shares re-rate to the sector's 1.08 times book, or BHD 0.160.

The book is thinner than it looks. Nearly half of common equity is goodwill from four transactions in three years, tested with management's own projections. If the acquired consumer books underperform, that testing produces a write-down. The capital ratio would not move, since goodwill is already deducted from regulatory capital, but the book the market pays 1.52 times for would shrink.

Bull case

The returns are real and they last. The macro is milder than the headlines: the IMF expects output to fall only 0.5% in 2026 before rebounding 4.5% in 2027, and non-oil activity, where the bank lends, grew 2.2% in the first quarter. Cost to income has fallen from 50.7% to 44.1% and a 23.6% capital ratio leaves room to grow without issuing shares. At a 15% terminal return and an 11.3% cost of equity the shares are worth BHD 0.244.

Fee income re-rates the group. ASB Capital reached USD 6.0bn of assets under management by the 2025 year end and holds mandates including a USD 2.75bn Saudi sukuk programme. If asset management and takaful grow to a third of group profit, a sum-of-the-parts view would value it above a single bank multiple.

Limits of desk research

Six things this note could not establish, each of which would move the range. Stage 3 coverage and the sector concentration of the financing book, though the headline non-performing ratio of 4.2% is disclosed. The split of the USD 5.85bn sukuk portfolio between Bahraini sovereign and other issuers, its duration, and how much is at fair value rather than amortised cost, which drive the largest quantified risk in section 08. The consideration for the Gulf African Bank and Seef Properties disposals. Call dates and reset terms on the tier 1 mudaraba. The metrics the executive bonus is measured against. Goodwill by cash-generating unit, the group figure here being derived from disclosed returns on equity and tangible equity rather than read from the balance sheet.