Moody’s Investors Service (“Moody’s”) today took rating actions on five Azeri banks, namely, International Bank of Azerbaijan (IBA), Kapital Bank OJSC (Kapital Bank), OJSC XALQ BANK (Xalq Bank), Joint Stock Commercial Bank Respublika (Bank Respublika), and OJSC Bank of Baku (Bank of Baku). These follow the upward revision of the Azeri banking system’s Macro Profile to “Weak-” from “Very Weak+” given the improving operating conditions in the country.
Specifically, Moody’s has:
(1) upgraded to b2 from b3 the Baseline Credit Assessment (BCA) and Adjusted BCA of IBA, affirmed the BCA and Adjusted BCA of Kapital Bank at b1, affirmed the BCA and Adjusted BCA of Xalq Bank, Bank Respublika and Bank of Baku at b3;
(2) affirmed the long-term local and foreign currency deposit ratings of IBA at B1, Kapital Bank at Ba3, Xalq Bank at B2, Bank Respublika and Bank of Baku at B3.
(3) changed the outlooks on the long-term local and foreign currency deposit ratings of IBA and Bank of Baku to positive from stable; the outlooks on the long-term local and foreign currency deposit ratings of Kapital Bank, Xalq Bank and Bank Respublika were changed to positive from negative;
(4) affirmed the long-term local and foreign currency Counterparty Risk Ratings (CRRs) and the long-term Counterparty Risk Assessments (CR Assessments) of all five banks;
(5) affirmed the short-term ratings and assessments of all five banks.
Please click on this link https://www.moodys.com/viewresearchdoc.aspx?docid=PBC_ARFTL444014 for the List of Affected Credit Ratings. This list is an integral part of this Press Release and identifies each affected issuer.
CHANGE IN THE MACRO PROFILE TO ‘WEAK-‘ FROM ‘VERY WEAK+’ REFLECTS IMPROVING OPERATING ENVIRONMENT IN AZERBAIJAN AND EXERTS UPWARD PRESSURE ON BANKS’ RATINGS
The rating actions take into account Moody’s decision to change the Azeri banking system’s Macro Profile to “Weak-” from “Very Weak+” to reflect the improvements in the operating environment for Azeri banks, which will gradually translate into the improvement of the banks’ standalone credit profiles, in particular, asset quality and profitability assessments. The gradual lifting of pandemic restrictions and recovering global oil prices will underpin GDP growth and ease operating conditions for banks and their borrowers in the next 12-18 months. These exert upward pressure on Azeri banks’ credit profiles. The positive outlooks of the aforementioned long-term ratings of all Azeri banks (except for IBA) reflect the resulting upward pressure on these banks’ intrinsic financial strength (or BCAs).
Government support measures for borrowers, which equalled 4.6% of GDP in 2020, along with loan restructuring provided by banks have mitigated the adverse impact of the pandemic and lockdowns on borrowers. The government was able to support the economy through cash handouts to low income families, unemployment benefits, the temporary creation of public jobs, wage and tuition subsidies, and discounts on utility bills in 2020. The stability of the manat despite highly volatile oil prices in 2020 has supported the quality of foreign-currency denominated loans, which accounted for 30% of total loans at the end of 2020. Moody’s expects real GDP growth at 3.5% in 2021 underpinned by the relaxation of coronavirus-related restrictions on activity and movement as well as higher oil and gas production. Over the next 2-3 years, Moody’s estimates economic growth to average around 3%.
Moody’s rating methodology for banks includes an assessment of each individual country’s operating environment, expressed as a Macro Profile, which is designed to capture system-wide factors that are predictive of the propensity of banks to fail. The Macro Profile assigned to each bank informs the financial factors, which are key inputs into the determination of each bank’s BCA.
The change of outlook on the bank’s local and foreign currency long-term bank deposit ratings to positive from stable reflects the positive outlook on Azerbaijan’s Ba2 long-term issuer and senior unsecured debt ratings.
The upgrade of the bank’s BCA and Adjusted BCA to b2 from b3 reflects resilient performance of loan portfolio through pandemic as well as IBA’s strong profitability and capital adequacy levels. The affirmation of the bank’s local and foreign currency long-term bank deposit ratings at B1 reflects improved creditworthiness of the bank, and Moody’s assumption of a high support to the bank from the government of Azerbaijan resulting in one notch of the support uplift from the bank’s BCA of b2.
IBA’s exposure to sectors and segments, which were significantly affected by the pandemic-induced economic disruption, was modest last year – which limited the adverse effect on the quality of the bank’s loan portfolio. Moody’s estimates the level of problem lending (defined as Stage 3 loans under IFRS 9 standards) and restructured loans at 5-6% and 2-3%, respectively, of gross loans at year-end 2020, while the share of net loans remains modest at less than 30% of total assets. Moody’s estimates IBA’s capital adequacy in terms of tangible common equity (TCE) to risk-weighted assets (RWA) at 33.3% as of year-end 2020 and considers its capital cushion along with pre-provision revenue strong enough to absorb higher provisioning charges following the partial migration of restructured loans into problem lending in the next 12-18 months.
The affirmation of the bank’s BCA and Adjusted BCA at b1 and the local and foreign currency long-term bank deposit ratings at Ba3 reflects healthy performance of the loan book as well as strong net profit and capital cushion. The change of outlook on the bank’s local and foreign currency long-term bank deposit ratings to positive from negative reflects the expected improvement of the bank’s standalone credit profile in the next 12-18 months.
For a number of years Kapital Bank’s loan book has been of better quality than that of its peers, given the bank’s focus on its existing deposit clientele, including payroll customers, budget recipients and pensioners. As of year-end 2020 the share of problem loans accounted for 3.3% of gross loans (year-end 2019: 4.6%). Consistently solid capitalisation with TCE/ RWA of 22.3% at year-end 2020, and strong bottom-line profitability enable the bank to absorb expected losses and pay out dividends as in previous years. Moody’s expects that the bank’s capital adequacy will remain broadly stable over the next 12-18 months, with the bank’s solid internal capital generation balanced against its relatively high dividend payout ratio.
The affirmation of the bank’s BCA and Adjusted BCA at b3 and the local and foreign currency long-term bank deposit ratings at B2 reflects the bank’s gradually improving asset quality metrics coupled with its ample capital adequacy level. The change of the outlook on the bank’s local and foreign currency long-term bank deposit ratings to positive from negative reflects the expected improvement of its standalone credit profile in the next 12-18 months.
Xalq Bank’s direct exposure to industries affected by the coronavirus pandemic is limited at around 10% of the bank’s total loans. According to bank management data, Xalq Bank’s problem loans, including those loans restructured because of the pandemic, were at 12.8% of the bank’s gross loans as of year-end 2020, down from 15.0% a year earlier.
The coverage of problem loans by loan loss reserves was only 55% as of year-end 2020. Moody’s expects that the bank may face the need to build up its loan loss reserves in the next 12-18 months. Xalq Bank’s capital buffer appears sufficient to absorb additional losses, as its regulatory Tier 1 capital ratio was at 22.7% as of 1 March 2021, coupled with solid pre-provision earnings.
The affirmation of the bank’s BCA and Adjusted BCA at b3 and the local and foreign currency long-term bank deposit ratings at B3 reflects healthy quality of the loan portfolio through pandemic. The change of outlook on the bank’s local and foreign currency long-term bank deposit ratings to positive from negative reflects the expected improvement of the bank’s standalone credit profile in the next 12-18 months amid the enhancing operating environment.
Despite material focus on small and medium enterprises (SME) lending and unsecured consumer lending, the impact on Bank Respublika’s loan book from pandemic and lockdowns has been modest so far. This is attributed to strong underwriting standards, stable USD/AZN exchange rate despite volatile oil prices, and the scale of state support provided to households, entrepreneurs and SMEs in Azerbaijan in 2020. The share of nonperforming loans overdue more than 90 days increased to 2.8% of total loans as of year-end 2020 up from 1.3% a year earlier. Furthermore, 20% of gross loans were restructured in 2020, according to management. Moody’s expects that predominant part of restructured loans will return into payment schedule by the end of 2021, while the bank’s problem loan ratio will remain in a single-digit area. The rating agency expects that the bank’s TCE/RWA ratio will remain broadly stable and fall within 11%-12% range over the next 12-18 months, with the internal capital generation balanced against the expected increase in provisioning charges.
Bank of Baku
The affirmation of the bank’s BCA and Adjusted BCA at b3 and the local and foreign currency long-term bank deposit ratings at B3 reflects the resilience of the bank’s credit profile amidst the pandemic. The change of the outlook on the bank’s local and foreign currency long-term bank deposit ratings to positive from stable reflects the expected improvement of its standalone credit profile in the next 12-18 months.
According to bank management data, loans overdue by more than 90 days were around 8% of the total loan book at the end of 2020, and the coverage of these loans by loan loss reserves was close to 100% as of the same reporting date. On top of this, approximately 10% of the bank’s loans were restructured as of the same reporting date, and the rating agency expects that migration of some of these loans to problem loan category will generate incremental credit losses.
Mitigating these risks are Bank of Baku’s ample net interest margin and its significant loan loss reserves already set aside the problem loans. The bank’s capital level is also strong with the regulatory Tier 1 capital adequacy ratio of 19.5% reported as of 31 December 2021.
GOVERNMENT SUPPORT ASSUMPTIONS UNCHANGED FOR ALL AFFECTED BANKS
Moody’s considers the probability of government support for IBA’s and Kapital Bank’s deposit ratings to remain high, while that for Xalq Bank’s deposits to be moderate. This reflects the first two banks’ larger asset and loan book size as well as higher systemic importance. The government support results in one notch of uplift for the three banks’ deposit ratings from their respective BCAs. Moody’s assumes low probability of government support for deposit ratings of Bank Respublika and Bank of Baku which does not result in any notches of uplift for the two banks’ deposit ratings.
FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS
An improvement of the asset quality metrics coupled with sustainable good profitability and capital levels through the cycle, may lead to an upgrade of the banks’ BCA and deposit ratings in the next 12-18 months. Concurrently, the upgrade of Azerbaijan’s sovereign rating could result in the upgrade of IBA’s deposit ratings.
The positive outlooks signal that a rating downgrades are unlikely over the next 12-18 months. The rating outlooks could be changed to stable or negative if there were signs of erosion of the banks’ financial fundamentals, namely asset quality, capitalisation and profitability, which are not currently expected. Concurrently, the ratings of IBA, Kapital Bank and Xalq Bank could be downgraded if the government of Azerbaijan appeared less likely to continue its support to these banks.
The principal methodology used in these ratings was Banks Methodology published in March 2021 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1261354. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.