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Fitch Ratings Agency makes new report on Azerbaijan-based banks

29 March 2012 10:23 (UTC +04:00)

However, credit impairment remains significant following rapid pre-crisis growth, and loan recoveries are hampered by weak governance and transparency in the corporate sector and a still depressed real estate market. Limited profitability and often moderate capital cushions restrict banks’ ability to absorb losses, and the system, like the broader economy, remains highly exposed to any significant negative oil price shock.

Fitch expects loan growth in 2012 to remain broadly in line with the 21% expansion reported for 2011. New credit is being extended primarily to the retail and SME segments, an expansion supported by the currently moderate leverage in the economy: loans/GDP stood at 20% at end-2011, with loans/non-oil GDP at 45%. However, weaknesses in the corporate sector, a deceleration of real GDP growth rates and the tighter monetary stance of the authorities are constraining credit expansion.

Sector development is also undermined by the capital deficit of the International Bank of Azerbaijan (IBA), the country’s largest bank accounting for nearly 35% of system assets. In February 2012, after a protracted period of capital ratio breaches by IBA, the authorities announced a recapitalization plan for the bank involving contributions of both subordinated debt and equity. Although these measures will help to bring IBA’s capital ratios into compliance with statutory requirements, Fitch believes they are likely to be still insufficient relative to the bank’s asset quality problems (see ’Fitch Maintains IBA’s IDR on RWN; Downgrades Viability Rating’, dated 27 February 2012 at www.fitchratings.com).

The level of non-performing loans (NPLs, 90 days overdue), estimated by Fitch based on a survey of rated banks, stabilized at a high 14% at end-2011. However, restructured/rolled-over exposures, equal to at least a further 11% of loans, suggest potential for additional future impairment recognition. In addition to deficiencies in the operating environment, asset quality has been undermined by often weak loan underwriting at banks. Increased competition for SME and retail borrowers also carries a risk of less stringent credit standards in this segment.

Against this background, Fitch considers the capital cushions of the majority of rated banks to be only moderate. Excluding IBA, the loss absorption capacity of Fitch rated banks (calculated as the maximum total amount of reserves that they could create without breaching minimum capital requirements) stood on average at around 12% of their aggregate loan books at end-2011. The agency notes that weak internal capital generation (reflected in a sector return on average assets of 1% in 2011) is likely to persist on the back of more moderate growth, continuing recognition of credit impairment from legacy loans, tighter competition and the limited scale and high cost bases of many banks.

Fitch expects that, barring external shocks, the system will continue its slow recovery, supported by generally comfortable liquidity resulting from the fast growing retail deposit base. The loans/deposits ratio was still a high 1.5x at end-2011, although non-customer funding comes mainly from government agencies and international financial institutions, mitigating refinancing risks.

The Viability Ratings of Fitch-rated Azerbaijan banks are currently in the ’b’ category or below, and the agency does not expect any marked upward movement in the medium term given weaknesses in the operating environment and the banking system. IBA’s Long-term Issuer Default Rating of ’BB+’/Rating Watch Negative continues to reflect the agency’s base case expectation that the authorities will ultimately provide sufficient capital support for the bank.