"However, the ratings are moderated by SMIB’s higher than industry level of non-performing loans (NPLs) and the substantial negative gap in its short-term asset-liability maturity mismatch (ALMM)."
SMIB, a licensed specialised bank under the Ministry of Finance, can provide loans for housing and agricultural purposes but its main role is as an institution that fulfils the government's "social obligations," to promote home ownership for the masses, it said.
"Despite its conservative lending in the recent past, the bank’s NPLs have increased and remain significantly higher than its peers’," RAM Ratings Lanka said.
SMIB's gross NPL ratio of 37.02 percent as at end-December 2009 remained unchanged as at end-September 2010.
The high bad loan ratio resulted from a concentration of lending against the Employees' Provident Fund (EPF), a state pension fund.
"The high NPL levels mainly stem from its EPF-backed lending portfolio, which accounted for about 48.75 percent of total its total loans as at end-September 2010," RAM Ratings said.
"However, we note that SMIB bears no default risk for these loans as they are backed by the borrowers’ EPF funds."
Nevertheless, the statement said, the bank’s NPL ratio on conventional mortgages remained weak at 14.81 percent as at end-September 2010 compared with an industry average of 10.14 percent.
"Its social obligation of lending to the low- and middle-income segments exerts downward pressure on the bank’s credit quality, due to its customers’ weaker repayment ability."
The rating agency said that SMIB’s focus on long tenured mortgage loans funded by its short term deposit base has rendered its ALMM position weak.
"While the negative gap in the bank’s ALMM had narrowed, we expect the gap to widen again as it expands its loan book. Nonetheless, SMIB’s liquidity issues are moderated by its strong deposit franchise, anchored by state support."
Public deposits took up 79.89 percent of SMIB’s total funding as at end- December 2009.
"Owing to its state ownership and its social agenda, SMIB derives financial flexibility from the government."
However, RAM Ratings Lanka said it has accorded limited benefit to this financial flexibility given the bank’s restricted scope owing to its focus on housing loans and the fact that its role can be easily replicated by bigger and more systemically important state-backed financial institutions.
The rating agency said SMIB’s performance had strengthened during the period under review with the bank's net interest margin (NIM) at 4.44 percent for the December 2009 financial year compared with 3.47 percent the year before.
"This ameliorated further to 8.21 percent as at end-September 2010, as delinquent loans had not been re-priced downwards while deposit rates were reduced in line with market rates," it said.
"Costs, however, had not increased in line with its NIM as the bank had continued its operations with its existing 12 branches. Therefore, its Return on Assets (ROA) and return on equity (ROE) climbed up to 0.76 percent and 4.97 percent as at end-December 2009.
The ratios strengthened further to 3.89 percent and 24.94 percent as at end-September 2010.
"In tandem with its healthier profit showing, the bank’s internal rate of capital generation (IRCG) improved to 3.05 percent in the December 2009 financial year before advancing further to 13.50 percent as of end-September 2010," the statement said.
The rating agency said it deemed SMIB’s capital adequacy healthy as its risk-weighted capital-adequacy ratios (RWCARs) are well above the regulatory minimums.The bank’s tier-1 and overall RWCARs clocked in at 25.82 percent and 26.51 percent as at end-September 2010."