PAN ASIA BANKING CORPORATION PLC
Fitch Ratings has maintained the Rating Watch Negative (RWN) on
Key Rating Drivers
Substantial Risks Remain: The RWN reflects the potential for the bank's creditworthiness relative to other Sri Lankan national scale ratings to deteriorate due to the potential stress on its funding and liquidity, and its significant exposure to the sovereign via investments in foreign- and domestic-currency instruments that raise the risks to its credit profile.
We believe that the sharp rise in inflation, depreciation of the local currency and other economic stresses can distort the bank's underlying financial performance in the current operating environment.
Constrained Foreign-Currency Liquidity: The sovereign's default on its foreign-currency obligations has exerted significant pressure on PABC's foreign-currency liquidity position, given its large holding of foreign-currency government securities (8% of assets at end-1H22). Access to foreign-currency funding has been severely dampened in light of the sovereign's debilitated credit profile, which has resulted in the bank having to rely on limited flows of remittances and export proceeds to meet its foreign-currency obligations.
Weakening Operating Environment: Our assessment of Sri Lankan banks' operating environment reflects the pressure on the banks' already stressed credit profiles following the sovereign's default on its foreign-currency obligations. It also captures the rapid deterioration in the broader economy, including increased interest rates, very high inflation and acute currency depreciation. These economic stresses have limited PABC's operational flexibility.
Asset-Quality Pressures Increasing: Fitch expects PABC's impaired (stage 3) loan ratio to increase in the near-to-medium term due to borrower repayment capacity weakening as economic conditions rapidly deteriorate. The bank's sizeable exposure to the government's foreign-currency instruments adds to asset-quality pressure. Impaired loans accounted for 6.3% of total assets at end-1H22, with an additional 8% of assets in international sovereign bonds and Sri Lanka Development Bonds.
Heightened Capital Impairment Risks: We believe capital deficiencies would arise if the bank were to absorb a haircut on its foreign-currency government securities, a highly likely scenario. Increased asset-quality risks, weaker earnings retention alongside bloated risk-weighted assets from the rupee's sustained depreciation will exert significant pressure on the bank's capitalisation metrics in the near term, in our view.
Credit Costs to Erode Earnings: We believe the sovereign default and the increasing economic headwinds pose significant downside risks to PABC's profitability. Earnings pressure is already evident from the decline in the bank's operating profit/risk-weighted asset ratio to 1.1% by end-1H22 from 4.0% at end-2021 as credit costs eroded 83% of the bank's pre-impairment profits.
Economic Volatility Weighs on Business: We believe PABC's business profile, like that of most domestic peers, is highly vulnerable to the intensifying risks in the domestic market, given the high concentration of its business profile on the weak and unstable Sri Lankan economy. This, in turn, could potentially limit the bank's ability to generate and defend business volume.
Concentrated Risk Profile: PABC's elevated risk profile, similar to that of local peers, reflects the deterioration the operating environment has rendered on the credit quality of its borrowers. This is further exacerbated by PABC's exposure to the foreign-currency instruments issued by the government. The bank also has a sizeable concentration in government pension- or salary-backed lending, which accounts for over a third of its loans.
Rating Sensitivities
Factors that could, individually or collectively, lead to negative rating action/downgrade:
The RWN reflects rising risks to the bank's rating from funding stresses, which could lead to a multiple-notch downgrade. We expect to resolve the RWN when the impact on the issuer's credit profile becomes more apparent, which may take more than six months. Developments that could lead to a multiple-notch downgrade include:
funding stress that impedes PABC's repayment ability;
significant banking-sector intervention by authorities that constrains the bank's ability to service its obligations;
a temporary negotiated waiver or standstill agreement following a payment default on a material financial obligation;
Fitch's belief that PABC has entered into a grace or cure period following non-payment of a material financial obligation.
A downgrade of the sovereign's Long-Term Local-Currency Issuer Default Rating (CCC, Under Criteria Observation) could also lead to a downgrade of the bank's rating.
Factors that could, individually or collectively, lead to positive rating action/upgrade:
There is limited scope for upward rating action given the RWN.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
RATING ACTIONS
Entity / Debt
Rating
Prior
Natl LT
BBB-(lka)
Rating Watch Maintained
BBB-(lka)
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