NSB and People’s Bank ratings lowered as they face escalated risks following political crisis

The S&P Global Ratings (S&P) this week said that it had lowered its long-term issuer credit rating on National Savings Bank (NSB) and People’s Leasing & Finance PLC (PLC) to ‘B’ from ‘B+’ in line with the lowering of Sri Lanka’s sovereign credit rating.

At the same time, S&P affirmed the long-term issuer credit rating on DFCC Bank at ‘B’.

The outlooks on the long-term ratings are stable. In addition, the rating agency affirmed our ‘B’ short-term issuer credit rating on all the three entities.

S&P also lowered the issue rating on NSB to ‘B’ from ‘B+’. PLC has no outstanding debt securities.

“We lowered the longterm issuer credit rating on NSB and PLC to reflect S&P Global Ratings’ view that the Sri Lankan banking sector is facing escalated stress following political turmoil, slowdown in pace of reforms, and slower economic growth than we expected.

“We affirmed the ratings on DFCC despite the higher risk from the operating environment because the bank’s capital assessment already captures these risks at the current rating level,” S&P said.

The rating agency lowered the sovereign rating on Sri Lanka based on their assessment that the current political standoff has weakened the sovereign’s external financing conditions and reduced the likelihood that further reforms will improve Sri Lanka’s macroeconomic fundamentals and institutionalize sustainable policy frameworks over the next 12-18 months.

The downgrade also factors in weakening of the sovereign’s external position given that weak rupee and rising bond yields have reduced the government’s ability to access international capital markets.

S&P also believe that the Sri Lankan government no longer has the financial ability to provide extraordinary support to its banking system in a stress scenario.

“We consider it unlikely that Sri Lankan financial institutions would be immune to rising credit pressure on the sovereign and the broader operating environment.

In our view, this weakened external position of the sovereign has heightened imbalances in the operating environment for the banks.

We expect the external financing pressure faced by the sovereign to hurt the broad economy, including the banking system. This accentuates the economic risk for banks in Sri Lanka.

Continued high loan growth at about 16 percent (annualized) for first half of 2018, despite the economy slowing down sharply to 3.3percent (in 2017), adds to the imbalance,” S&P noted.

The rating agency said it has witnessed increasing credit stress for banks in Sri Lanka, partly due to lower-thanexpected GDP growth.

“The asset quality for these banks has deteriorated more than we expected. The banks’ non-performing loans (NPLS) rose to 3.6 percent by endaugust 2018, from 2.5 percent at end-2017 (compared with our expectation of 3-3.2 percent by end-2018).

Slower GDP growth, a depreciating rupee, and rising interest rates have partly contributed to this increase. Given the heightening economic risk, we expect NPLS to rise further to 4.5 percent-5 percent over the next 12-18 months, but remain within our tolerance level for a BICRA 9 system.”

S&P also said the increased economic risk would also require banks to maintain higher risk-adjusted capital to take care of the additional risk in the system.

Sri Lankan banks are already seeing higher pricing for their external funding, which could negatively affect their profitability. S&P believes the large state-owned banks may be required to tap the external markets at higher costs to finance the sovereign’s bond repayments.

“In a low-probability and high-impact downside scenario, if the political turmoil escalates or prolongs, uncertainty could spread to the banking sector and cause funding stress or liquidity outflows,” S&P said.

People’s Leasing & Finance PLC

The rating on PLC reflects the credit profile of the People’s Bank group, of which PLC is a core entity. The rating on PLC is equalized with the group’s credit profile.

S&P has revised PLC’S standalone credit profile (SACP) to ‘b’ due to the worsening operating environment. PLC’S dependence on wholesale funding and its concentration in commercial vehicle financing also constrain the rating.

The company’s moderate capital and earnings temper these weaknesses.

The stable outlook on PLC reflects our expectation that PLC will remain a core entity of the People’s Bank group at least for the next 12 months because commercial vehicle leasing will remain a large and profitable business for the group.

S&P doesn’t see any upside potential for the rating over the next 12 months.

The rating agency said it may downgrade PLC if the People’s Bank group’s capitalization reduces substantially.

National Savings Bank

S&P said the rating on NSB reflects their view that the Sri Lankan government will almost certainly provide extraordinary support to the bank in a stress situation.

The rating agency has revised NSB’S SACP to ‘b’ from ‘b+’, due to the worsening operating environment.

“Our assessment of the SACP benefits from the bank’s superior funding and liquidity metrics. A statutory guarantee on 100 percent of deposits and a requirement to invest 60 percent of deposits in government securities support the bank’s liquidity and funding. NSB’S low risk-adjusted capital ratio tempers the strength.

The stable outlook on NSB reflects the outlook on its parent, the government of Sri Lanka. We expect the bank’s critical role and link to the government to remain unchanged over the next 12 months.

The most likely change (up or down) to our rating and outlook on NSB will be from a change in the creditworthiness of the government of Sri Lanka,” S&P said.

DFCC Bank

The rating agency said the rating on DFCC reflects the bank’s limited deposit base and weak capitalization.

“DFCC’S satisfactory business position, earnings, and asset quality temper these weaknesses. We assess the bank’s SACP as ‘b’.

Our stable outlook on DFCC Bank reflects our view that the bank will maintain its credit profile despite tough operating conditions in Sri Lanka over the next 12 months,” S&P said.

The rating agency said it may lower the rating on DFCC if the bank’s risk-adjusted capital ratio declines below 3 percent.

This could happen if DFCC’S profitability is lower or if its loan growth exceeds S&P’S expectations.

“We are unlikely to upgrade DFCC over the next 12 months,” the rating agency said.