Fitch revises outlook on 5 banks to negative; downgrades PLC; affirms HNB

Jan 22, 2020 (LBO) – Fitch Ratings has revised the Outlook to Negative from Stable on the Long-Term Issuer Default Ratings (IDR) and National Long-Term Ratings of the following Sri Lanka-based banks and has affirmed their ratings:

  • Bank of Ceylon (BOC),
  • National Savings Bank (NSB) and
  • DFCC Bank PLC (DFCC)

Fitch has also revised the Outlook to Negative from Stable on the National Long-Term Ratings of the following Sri Lanka-based banks and non-bank financial institutions and has affirmed their ratings:

  • People’s Bank (Sri Lanka) (PB),
  • Commercial Bank of Ceylon PLC (CB) and
  • Serendib Finance Limited

At the same time, Fitch has downgraded People’s Leasing & Finance PLC’s (PLC) National Long-Term Rating to ‘A+(lka)’ from ‘AA-(lka)’ and affirmed the IDR at ‘B-‘ with a Stable Outlook.

Fitch has also affirmed Hatton National Bank PLC’s (HNB) National Long-Term Rating at ‘AA-(lka)’ with a Stable Outlook.

The revision of the Outlooks follows Fitch’s Outlook revision on the Sri Lankan sovereign dated 18 December 2019. Fitch has revised its assessment of Sri Lanka’s operating environment to ‘b’/negative, from ‘b’/stable, primarily to reflect the risk of doing business in the jurisdiction, which we believe could heighten in the medium term. Increased macroeconomic volatility could pressure the banks’ and non-bank financial institutions’ credit profiles should the sovereign’s credit profile deteriorate further. The operating environment has a high influence on the banks’ ratings, as it is likely to constrain their intrinsic credit profiles through its effect on financial and non-financial key rating factors.

KEY RATING DRIVERS
IDRS, VIABILITY RATINGS, NATIONAL RATINGS AND SENIOR DEBT

BOC
The IDR of BOC is at the same level as its Viability Rating and Support Rating Floor. Fitch expects extraordinary support for BOC to stem from its quasi-sovereign status, its role as one of the key lenders to the government, full state ownership and high systemic importance.

BOC’s Viability Rating is highly influenced by our view of its operating environment and reflects its thin capitalisation (common equity Tier 1 (CET1): 10.1% at end-9M19) and asset-quality pressure (gross non-performing loan ratio for the bank: 5.4% at end-9M19; 2018: 3.6%). This is partly balanced by a stronger domestic funding franchise than that of most sector peers; BOC had a 21.1% share of banking-sector deposits at end-9M19.

NSB
The IDRs of NSB are driven by our expectation of modest sovereign support, as indicated by its Support Rating Floor, which is aligned with the sovereign’s IDR. Fitch has not assigned a Viability Rating to NSB, as it is a policy bank. Fitch believes extraordinary state support for NSB stems from its policy mandate of mobilising retail savings and investing them in government securities. The NSB Act contains an explicit deposit guarantee and Fitch is of the view that authorities would support the bank’s depositors and senior unsecured creditors to maintain confidence and stability in the system.

DFCC
DFCC’s IDRs and National Long-Term Rating are driven by its Viability Rating, which is highly influenced by our view of its operating environment. It also reflects above-average capitalisation (Fitch Core Capital ratio of 15.9% at end-June 2019), which compensates for the risks stemming from its developing commercial-bank franchise, deteriorating asset quality (gross non-performing loans ratio: 4.8% at end-9M19, 2018: 3.3%) and weak earnings. The Negative Outlook on the IDR stems from the Negative Outlook on the sovereign rating and the effect on the operating environment should the sovereign’s credit profile deteriorate further. The Negative Outlook on DFCC’s National Long-Term Rating reflects our view that the bank’s capital buffers, despite its above-average capitalisation, may not be able to sufficiently counterbalance pressure from the weakening operating environment on its already-weak profitability and funding profile relative to that of peers rated ‘AA-(lka)’.

DFCC’s Sri Lanka rupee-denominated senior unsecured debt is rated at the same level as its National Long-Term Rating, as the debentures rank equally with other senior unsecured obligations.

PB
PB’s National Long-Term Rating reflects Fitch’s expectation of extraordinary state support based on its quasi-sovereign status, its role as one of the key lenders to the government, full state ownership and high systemic importance.

CB
CB’s National Long-Term Rating is driven by its intrinsic financial strength and is highly influenced by our view of its operating environment. It also reflects its established domestic franchise as Sri Lanka’s third-largest bank, broadly stable earnings performance and established domestic-deposit franchise (11.6% share of banking-sector deposits at end-9M19), which underpins its funding and liquidity profile. The Negative Outlook reflects our assessment of the sovereign’s credit profile, which could constrain the bank’s rating upon a further deterioration in the operating environment.

Serendib
Serendib’s rating is driven by Fitch’s view that its parent, CB, would provide Serendib with extraordinary support, if required. CB’s ability to support Serendib is reflected in its credit profile, which is underpinned by its standalone strength and Serendib’s small size. The support assessment also takes into account CB’s full ownership of Serendib, support record via multiple equity infusions and the subsidiary’s increased level of integration with its parent. The Negative Outlook reflects the potential weakening of CB’s ability to support Serendib.

PLC
PLC’s IDRs and National Long-Term Rating reflect its intrinsic credit profile, as we believe the rating based on its standalone strength is now higher than if based on the expectation of extraordinary support from its parent, PB. This follows the rating action on PB.

We believe PB’s ability to provide extraordinary support has weakened, even though we assess PB’s propensity to support PLC as unchanged. PLC’s standalone profile takes into account its strong domestic franchise among domestic non-bank financial institutions, underpinned by its linkage to PB and its market share (around 12% of non-bank financial institution-sector assets at end-9M19), as well as its high-risk appetite stemming from exposures that are more susceptible to operating conditions.

PLC’s ‘b-‘ standalone profile and IDR are already low on the international rating scale and adequately reflect the downside risk to its operating environment and credit profile from any further weakening in the sovereign’s credit fundamentals. However, we assess PLC’s standalone profile to be incrementally weaker on the National scale, driving the downgrade of its National Long-Term Rating.

PLC’s Sri Lanka rupee-denominated senior unsecured debt is rated at the same level as its National Long-Term Rating, as the debentures rank equally with other senior unsecured obligations.

HNB
HNB’s National Long-Term Rating is driven by its intrinsic financial strength and reflects its strong domestic franchise as Sri Lanka’s fourth-largest commercial bank, adequate capitalisation (CET1 ratio: 14.0% at end-9M19) and generally better-than-average financial profile. This is counterbalanced by a high-risk appetite and deteriorating loan quality (gross non-performing loans ratio for the bank: 4.7% at end-9M19, 2018: 2.8%). The affirmation of HNB’s rating reflects the bank’s ability to better withstand a weaker operating environment than other ‘AA-(lka)’ and ‘A+(lka)’ rated peers.

HNB’s Sri Lanka rupee-denominated senior unsecured debt is rated at the same level as its National Long-Term Rating, as the debentures rank equally with other senior unsecured obligations.

The Negative Outlook on the ratings of banks whose ratings are driven by state support reflects the Negative Outlook on the sovereign. The Negative Outlook also reflects the constraint placed on the Viability Ratings of BOC, DFCC and the intrinsic credit profile of PB and CB through the operating environment.

SUBORDINATED DEBT
The old-style Basel II Sri Lanka rupee-denominated subordinated debt of BOC, DFCC, CB and HNB and the Basel III compliant Tier 2 Sri Lanka rupee-denominated subordinated debt of DFCC, CB and HNB and are rated one notch below their National Long-Term Ratings to reflect subordination to senior unsecured creditors. The Basel III compliant debentures include a non-viability trigger upon the occurrence of a trigger event, as determined by the Monetary Board of Sri Lanka.

SUPPORT RATING AND SUPPORT RATING FLOOR
BOC and NSB’s Support Rating of ‘4’ and Support Rating Floors of ‘B’ reflect the state’s ability and propensity to provide support given the banks’ high importance to the state and high systemic importance.

DFCC’s Support Rating of ‘5’ and Support Rating Floor of ‘No Floor’ reflect Fitch’s assessment that state support may be possible, but timely sovereign support cannot be relied upon in light of the sovereign’s weakened financial ability. Furthermore, the bank’s franchise is small, with a market share of around 3% of system assets, against 8%-11% for the larger private banks.

RATING SENSITIVITIES
IDRS, VIABILITY RATINGS, NATIONAL RATINGS AND SENIOR DEBT
Changes to Sri Lanka’s sovereign rating or Fitch’s perception of state support for the banks could result in a change in the banks’ IDRs, National Long-Term Ratings and/or in the Outlook on BOC, NSB and PB.

BOC
A downgrade of BOC’s IDRs and National Long-Term Rating would most likely result from negative rating action on the sovereign, which could constrain the bank’s Viability Rating through a weakening in the operating environment and weaken the state’s ability to support the bank. This would result in a lower Support Rating and Support Rating Floor.

BOC’s Viability Rating is most sensitive to deterioration in the operating environment, leading to sustained weakening of BOC’s key credit metrics. The Viability Rating may also come under pressure if there is a continued decline in capitalisation.

NSB
A lower expectation of state support through the state’s weakened ability to provide support, a substantial change in NSB’s policy role or a deviation from mandated core activities, indicating the bank’s reduced importance to the state, could trigger a rating downgrade.

DFCC
DFCC’s ratings are constrained by the sovereign rating. The Outlook on DFCC’s National Long-Term Rating may be revised to Stable if the bank can sustain capital buffers to sufficiently cushion its weaker asset quality amid higher operating environment-related risks.
An inability to sustain capital buffers that counterbalance increased operating environment risk alongside a weaker franchise could pressure the bank’s IDRs and National Long-Term Rating.

The senior debt ratings will move in tandem with the National Long-Term Rating.

CB
An increase in operating-environment related risks or deterioration in capital buffers could pressure CB’s rating. Upside for the rating is constrained by the sovereign rating and our assessment of the operating environment.

Serendib
Weakening links with the parent or a downgrade of CB’s National Long-Term Rating could trigger a rating downgrade on Serendib. A rating upgrade would most likely result from a significant increase in Serendib’s strategic importance to its parent through a greater role within the group.

PLC
Rating upside for PLC is limited given the challenging operating environment and the Negative Outlook on PB and the Sovereign. A weakening in strategic linkages between PLC and its parent would also be negative for our support assumptions.

Upside for PLC’s National Long-Term Rating is most sensitive to positive rating action on the sovereign, as this could strengthen PB’s ability to provide support to PLC to a level above our assessment of PLC’s standalone profile. This would include a revision of our Outlook on the sovereign rating to Stable from Negative.

With regards to downgrade triggers, PLC’s National long-term rating is likely to be more sensitive to any weakening in its credit profile, compared with its already-low IDRs on the international scale. Deterioration in PLC’s standalone profile would most likely be due to a weakening in its operating environment and related risks or an increase in its risk appetite that weakens its asset quality and capital buffers.

The senior debt ratings will move in tandem with the National Long-Term Rating.

HNB
A rating downgrade could be triggered by a significant increase in risk-taking and operating environment-related risks, which could weaken the bank’s asset quality and capital buffers. Upside for HNB’s rating is constrained by the sovereign rating and our assessment of the operating environment.

The senior debt ratings will move in tandem with the National Long-Term Rating.

SUBORDINATED DEBT
Subordinated debt ratings will move in tandem with the National Long-Term Rating. The subordinated debt ratings are also sensitive to divergence between the final Bank Rating Criteria, when published, and the current Exposure Draft.

SUPPORT RATING AND SUPPORT RATING FLOOR
The state’s lower ability signalled through a lower sovereign rating, and propensity to support systemically important banks, could result in a downgrade for BOC and NSB’s Support Ratings and Support Rating Floors. DFCC’s Support Rating and Support Rating Floor are sensitive to the sovereign’s ability to provide support.

The rating actions are as follows:

BOC:
Long-Term Foreign-Currency IDR affirmed at ‘B’; Outlook revised to ‘Negative’ from ‘Stable’
Long-Term Local-Currency IDR affirmed at ‘B’; Outlook revised to ‘Negative’ from ‘Stable’
Short-Term Foreign-Currency IDR affirmed at ‘B’
Viability Rating affirmed at ‘b’
Support Rating affirmed at ‘4’
Support Rating Floor affirmed at ‘B’
National Long-Term Rating affirmed at ‘AA+(lka)’; Outlook revised to ‘Negative’ from ‘Stable’
Basel II compliant Sri Lanka rupee-denominated subordinated debentures affirmed at ‘AA(lka)’

NSB:
Long-Term Foreign-Currency IDR affirmed at ‘B’; Outlook revised to ‘Negative’ from ‘Stable’
Long-Term Local-Currency IDR affirmed at ‘B’; Outlook revised to ‘Negative’ from ‘Stable’
Short-Term Foreign-Currency IDR affirmed at ‘B’
Support Rating affirmed at ‘4’
Support Rating Floor affirmed at ‘B’
National Long-Term Rating affirmed at ‘AA+(lka)’; Outlook revised to ‘Negative’ from ‘Stable’

DFCC:
Long-Term Foreign-Currency IDR affirmed at ‘B’; Outlook revised to ‘Negative’ from ‘Stable’
Long-Term Local-Currency IDR affirmed at ‘B’; Outlook revised to ‘Negative’ from ‘Stable’
Short-Term Foreign-Currency IDR affirmed at ‘B’
Viability Rating affirmed at ‘b’
Support Rating affirmed at ‘5’
Support Rating Floor affirmed at ‘No Floor’
National Long-Term Rating affirmed at ‘AA-(lka)’; Outlook revised to ‘Negative’ from ‘Stable’
Sri Lanka rupee-denominated senior unsecured debentures affirmed at ‘AA-(lka)’
Basel II compliant Sri Lanka rupee-denominated subordinated debentures affirmed at ‘A+(lka)’
Basel III compliant Sri Lanka rupee-denominated subordinated debentures affirmed at ‘A+(lka)’

PB:
National Long-Term Rating affirmed at ‘AA+(lka)’; Outlook revised to ‘Negative’ from ‘Stable’

CB:
National Long-Term Rating affirmed at ‘AA(lka)’; Outlook revised to ‘Negative’ from ‘Stable’
Basel II compliant outstanding subordinated debentures affirmed at ‘AA-(lka)’
Basel III compliant Sri Lanka rupee-denominated subordinated debentures affirmed at ‘AA-(lka)’

Serendib:
National Long-Term Rating affirmed at ‘A+(lka)’; Outlook revised to ‘Negative’ from ‘Stable’

PLC:
Long-Term Foreign-Currency IDR affirmed at ‘B-‘; Stable Outlook
Long-Term Local-Currency IDR affirmed at ‘B-‘; Stable Outlook
National Long-Term Rating downgraded to ‘A+(lka)’ from ‘AA-(lka)’; Stable Outlook
Sri Lanka rupee-denominated senior unsecured debentures downgraded to ‘A+(lka)’ from ‘AA-(lka)’

Hatton National Bank PLC
National Long-Term Rating affirmed at ‘AA-(lka)’; Stable Outlook
Sri Lanka rupee-denominated senior unsecured debentures affirmed at ‘AA-(lka)’
Basel II compliant outstanding subordinated debentures affirmed at ‘A+(lka)’
Basel III compliant Sri Lanka rupee-denominated subordinated debentures affirmed at ‘A+(lka)’