The rating reflects Kafolat’s state ownership, the company’s strong operating profile, its relatively strong capital position and positive profitability. The rating is negatively impacted by reserving risk and the relatively low quality of the insurer’s investment portfolio.

The state and state-owned companies hold a combined 93% interest of Kafolat. Of this, 66.51% was held by The Ministry of Finance at end-9M16. Another 11.72% and of 7.77% are held by the National Bank of External Economic Activity and by a state-owned mining company Navoi Mining and Mettalurgical Combinat. The remaining shareholders, which hold a combined 14% of shares of the company, have stakes of less than 3% each. The Uzbek state provided relatively strong support for the state-owned companies via considerable capital injections in previous years, which allowed the companies to form a sound capital base and to adapt to growing business volumes.

Kafolat’s capitalisation is supportive of the rating. According to Fitch’s Prism factor-based capital model, Kafolat’s risk-adjusted capital score was ‘very strong’ based on 2015 results. The insurer nominally maintains sufficient capital relative to its business volumes with a Solvency I-like statutory ratio of 317% at end-9M16.

Kafolat’s capital could be exposed to the risk of reserving deficiency for the workers compensation line. The long-tail nature of the risk and the absence of the government guarantees on such risk, plus regulation of tariffs and sums insured significantly increase the reserving risk on this line. Kafolat does not test the sufficiency of this reserve in a run-off scenario, as this is not required by the regulator.

In Fitch’s view, Kafolat’s investment portfolio is of low quality. This reflects the average credit quality of bank deposits, which accounted for 53% of the company’s total investment portfolio at end-2015. Local banks are mainly constrained by sovereign risks and rated in the ‘B’ category. Furthermore, Kafolat’s ability to achieve greater diversification is limited by the narrow local investment market.

Kafolat has been profitable in the last two years. Net profit has been earned through investment, which considerably offset its volatile underwriting performance in 2011-2015. The net result in 2015 was robust with a return on equity (ROE) of 12.1%, albeit down from 18.6% in 2014.

Despite double-digit growth of gross written premium (GWP) in 2015 an increase in administrative expenses weakened the combined ratio to 97% (2014: 86%). The administrative expense ratio increased to 59.9% in 2015 from 50.6% in 2014. Fitch believes that a reduction in administrative costs is an important area of focus for Kafolat, which would be beneficial for its financial performance and earnings.

Kafolat’s underwriting result for compulsory lines benefited from a strong loss ratio of 23.2% in 2015 (2014: 23.1%). Apart from compulsory lines, Kafolat writes a range of voluntary lines, which include property and liability, health and accident insurance, financial risks and export risks. Property insurance accounted for 30% of net written premiums in 2015, with a loss ratio of 15.1% (2014: 4.3%).

Kafolat is the third-largest insurer in Uzbekistan by GWP, with 10.5% of the market in 2015. Unlike that of the sector, compulsory lines have dominated Kafolat’s business mix, accounting for 69% of GWP in 2011-2015.

A change in Fitch’s view of the financial condition of the Republic of Uzbekistan or a significant change in the insurer’s relations with the government would likely have a direct impact on Kafolat’s ratings.

Fitch Ratings said that sustained reserving deficiencies leading to operational losses or capital depletion could also lead to a downgrade.