Tashkent, Uzbekistan (UzDaily.com) -- Fitch Ratings has affirmed Joint Stock Innovation Commercial Bank Ipak Yuli’s Long-Term Issuer Default Ratings (IDRs) at ‘B’ with Stable Outlook and Viability Rating (VR) at ‘b’.

Fitch has withdrawn the bank’s Support Rating and Support Rating Floor as they are no longer relevant to the agency’s coverage following the publication of our updated Bank Rating Criteria on 12 November 2021. In line with the updated Criteria, we have assigned Ipak Yuli a Government Support Rating (GSR) of ‘No Support’.

The IDRs of Ipak Yuli are driven by its intrinsic creditworthiness, as captured by its ‘b’ VR. The VR reflects the bank’s limited franchise, high dollarisation and untested quality of the bank’s loan portfolio, due to high growth in recent years. The VR also reflects the bank’s high profitability, diversified funding base and reasonable capitalisation.

Ipak Yuli’s impaired loans (Stage 3 under IFRS) ratio was 6.3% at end-1H21, little changed from 6.4% at end-2020, compared with 2.1% at end-2018. Stage 2 loans were a high 28% of total loans. Total impaired loans were 72% covered by loan loss allowances (LLA) and, net of allowances, amounted to 8% of Fitch Core Capital (FCC). The unseasoned nature of the bank’s portfolio is due to a significant share of loans in grace periods and some being still on credit holidays (about 29% combined at end-1H21). Credit risks also steam from high loan-book dollarisation (38% at end-3Q21) and borrower concentration (top 25 borrowers represented 34% of gross loans).

Ipak Yuli has a strong record of healthy profitability. High net interest margin of 11% in 1H21 (2020: 12%) and good operating efficiency with a cost-to-income ratio of 42% result in a solid pre-impairment operating profit of 9.7% of average loans in 1H21 (annualised; 2020: 9.2%). We believe pre-impairment profit is adequate to absorb potential further pressure from the pandemic.

Impairment charges as a share of average loans peaked at 3.8% in 2020, but moderated in 1H21 to 0.7%, annualised. Thus, annualised return on equity improved to 32% in 1H21 from 20% in 2020 and Fitch’s benchmark profitability - operating profit-to-average risk-weighted assets ratio - strengthened to 5.5% from a moderate 3.5% in the same period.

We view capitalisation as moderate, given the bank’s rapid growth and untested loan quality. The FCC- to-regulatory risk-weighted assets ratio decreased to 14.5% at end-1H21 from 16% at end-2020, as lending growth exceeded internal capital generation. Regulatory capitalisation is also moderate with a Tier 1 ratio of 12.2% and a total capital ratio of 15.8% at end-3Q21, compared with 10% and 13% regulatory minimum requirements.

We estimate the bank could book impairment reserves equal to a modest 3.4% of gross loans before breaching its statutory Tier 1 limit of 10%. However good pre-impairment profitability allows the bank to absorb higher credit costs without putting pressure on capital.

Ipak Yuli is almost equally funded by customer accounts (51% of liabilities at end-1H21) and wholesale funding (49%). A high share of current accounts (38% of liabilities) results in a reasonable 5.9% cost of funding in 1H21 (2020: 5.3%), while concentration of customer accounts is moderate.

Wholesale funding is almost fully represented by loans from international financial institutions, which are mainly attracted under general SME development programmes. About 30% of the bank’s wholesale funding at end-1H21 matured in 12 months. Liquid assets comprised about 22% of the bank’s assets at the same date and, net of EUR12 million wholesale debt repayments, they covered about 24% of customer accounts at end-1H21.

The GSR of ‘No Support’ factors in Ipak Yuli’s low market share (2.1% of system assets at end-3Q21) and thus limited systemic importance. Support from private shareholders cannot be reliably assessed and is therefore not factored into the ratings.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

The bank’s IDRs and VR could be downgraded as a result of material deterioration in asset quality leading to substantial increase in impairment charges and larger losses. Furthermore, the VR could be downgraded if rapid loan growth results in weaker capitalisation with the FCC ratio sustainably below 12% or regulatory capital ratios decreasing below regulatory requirements.

Factors that could, individually or collectively, lead to positive rating action/upgrade:

Upgrade of the bank’s IDRs and VR would require a substantial improvement in Uzbekistan’s operating environment and a strengthening of the bank’s business model, underwriting standards and asset quality while maintaining strong capitalisation and profitability metrics.