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Rating Action:

Moody's takes rating actions on four Azerbaijani banks

14 Jun 2017

London, 14 June 2017 -- Moody's Investors Service has today taken rating actions on four Azerbaijani banks. Moody's downgraded the Baseline Credit Assessments (BCAs) and downgraded the long-term local- and foreign-currency deposit ratings of OJSC XALQ BANK, Joint Stock Commercial Bank Respublika (Bank Respublika), OJSC Bank of Baku and VTB Bank (Azerbaijan). The outlooks on the long-term local- and foreign-currency deposit ratings of all four banks remain negative.

The rating actions reflect worsened financial fundamentals of Azerbaijani banks amid prolonged unfavorable operating conditions and the negative impact from local currency devaluation, in particular significantly deteriorated asset quality, net losses due to heightened credit costs and/or foreign exchange losses, materially eroded capital buffers and vulnerable funding and liquidity. Funding conditions for Azerbaijani banks have been constrained by very high level of deposit dollarization, a lack of local-currency liquidity, volatile customer deposit base and limited and costly access to capital markets. This led Moody's to lower the macro profile of Azerbaijan, Government of (LT Issuer Rating Ba1, Outlook: Rating Under Review) to "Very Weak+" from "Weak-". Moody's expects pressure on Azerbaijani banks to persist given: (1) subdued lending prospects and net losses, (2) a high provisioning burden and tighter regulation requiring additional recapitalization, (3) persistently high dollarization of funding, resulting in large foreign-currency mismatches and reliance on costly hedges.

Please click on this link http://www.moodys.com/viewresearchdoc.aspx?docid=PBC_196057 for the List of Affected Credit Ratings. This list is an integral part of this Press Release and identifies each affected issuer.

RATINGS RATIONALE

Please click on this link http://www.moodys.com/viewresearchdoc.aspx?docid=PBC_196057 for the List of Affected Credit Ratings. This list is an integral part of this Press Release and provides, for each of the credit ratings covered, Moody's disclosures on the following items:

• Principal Methodology

-- OJSC XALQ BANK

The downgrade of OJSC XALQ BANK (Xalq) BCA to caa1 from b3 and downgrade of the long-term deposit ratings to B3 from B2 with a negative outlook is driven by ongoing material pressure on its asset quality and profitability.

As of year-end 2016, Xalq reported impaired loans of 14.7% of its gross loan book. In addition, the loans with renegotiated terms accounted for 24.6% of the total and otherwise would be past due or impaired. The adverse impact is aggravated by the bank's significant single-name concentration of the loan portfolio with the 20 largest exposures exceeding 400% of Tier 1 equity.

Moody's believes that the bank's loan book will require additional provisioning charges in the next 12-18 months as loan loss reserves at 7.9% will prove insufficient to cover the credit risk. Under the central scenario the bank will be marginally profitable or break-even owing to elevated credit costs.

As of 1 May 2017, the bank reported regulatory Tier 1 and total capital adequacy ratios of 14.5% and 15.4%, respectively, which significantly exceed the regulatory thresholds of 5% and 10%, respectively. However, Moody's considers Xalq's capitalisation as modest in the context of its robust regulatory Tier 1 ratio and total capital adequacy on the one hand, and relatively low provisioning level on the other hand.

-- JOINT STOCK COMMERCIAL BANK RESPUBLIKA

The downgrade of Bank Respublika's BCA to b3 from b2 and downgrade of its long-term deposit ratings to B3 from B2 with a negative outlook reflects the bank's heightened credit costs given worsened asset quality, its loss-making performance and its need for additional capital support in light of its provisioning requirements and a further tightening in capital regulation.

As of end-2016, the bank's nonperforming loans overdue more than 90 days (NPLs) amounted to 8.8% of gross loans, and restructured loans comprised another 15%, according to bank's management data. Around 15% of loans were written off in 2016. Loan loss reserves at 5.9% of gross loans provide NPL coverage of only 67%, suggest further provisions will be required in the next 12 months.

Given that the bank's recurring pre-provision income is unlikely to cover additional provisioning expenses, it will require new capital. In order to support the bank's capitalization, shareholders provided AZN20 million Tier 1 capital injection in Q3 2016, and plan to inject additional AZN 20 million within the next three months. Moody's believes that this will help to absorb new provisioning charges in 2017, but will leave the absolute amount of capital buffer limited, just above the minimum regulatory requirement. The bank's total regulatory capital amounted to AZN52 million (vs the minimum regulatory amount of AZN) as of end 2016 and Tier 1 and total capital adequacy ratio (CAR) accounted for 10.8% and 17.6% respectively (vs the minimum of 5% and 10%) as of the same date under local GAAP. A further tightening of capital requirements and a potential asset quality deterioration will further exacerbate the need for external capital support.

-- OJSC BANK OF BAKU

The downgrade of OJSC Bank of Baku (BoB) BCA to caa1 from b3 and downgrade of the long-term deposit ratings to Caa1 from B3 with a negative outlook reflects heavy net losses over the last two years along with material capital erosion.

According to its local GAAP accounts, BoB recognized a net loss of AZN15.3 million in 2016 and AZN16.8 million over the first four months of 2017, due to elevated provisioning charges along with weakened pre-provision income as a result of the bank's net loan book contraction. This resulted in capital falling to AZN53.7 million as of 1 May 2017, just above the minimal regulatory threshold of AZN50 million.

Moody's expects that the bank will remain loss-making in the next 12-18 months and thus needs an equity injection to meet the regulatory requirements. In addition, the bank's business model, focused on high-risk unsecured consumer lending, is not sustainable in the current environment due to weakened debt servicing capacity of the households.

-- VTB BANK (AZERBAIJAN)

The downgrade of VTB Bank's (Azerbaijan) (VTBAZ) BCA to caa3 from caa1 and long-term deposit ratings to B3 from B2 with a negative outlook reflects markedly deteriorated asset quality, elevated provisioning charges and consequent drop in capitalization. At the same time, current deposit ratings continue to incorporate a very high probability of affiliate support from Russia-based Bank VTB, JSC in case of need (Bank VTB, JSC, FC deposits: Ba2 stable, BCA: b1).

VTBAZ's problem loans (those individually impaired plus those not impaired but 90 days or more past due) surged to 75.8% of gross loans as of end-2016 from 29% in 2015, mainly driven by a deterioration in foreign-currency loans (72% of the loan book in 2016). The bank currently complies with CBA's capital adequacy requirements under local GAAP, given received deposit from VTB Russia, which serves as a guarantee against problem loans according to the agreement with the regulator. However, the picture differs under IFRS which does not consider guarantee deposit from the parent bank to be a substitute for loan loss reserves against the respective problem loans. Following significant loan impairment charges of AZN119 million as of end-2016, the bank had negative capital of AZN128 million. Shareholders target to resolve bank's capitalization in the next few months, either through direct capital injections or through a partial conversion of existing funding from VTB to the bank's capital. Funding from VTB comprised AZN293 million interbank deposits (including blocked AZN137.7 million guarantee deposit, which serves as a cushion against problem loans under local GAAP) and subordinated debt of AZN22 million.

Moody's expects the shareholders to recapitalize the bank as they have done in the past. VTB group has shown commitment to the bank's financial support through a track record of capital injections and funding allocation

WHAT COULD MOVE THE RATINGS UP/DOWN

The ratings could be lowered if financial fundamental, namely asset quality and capitalization of the affected banks erode beyond Moody's current expectations. Conversely, improvement in loss absorption capacity, a recovery in profitability, a reversal of the current negative trends in asset quality, along with improvements in the Azerbaijani operating environment could enable a positive rating action.

REGULATORY DISCLOSURES

Please click on this link http://www.moodys.com/viewresearchdoc.aspx?docid=PBC_196057 for the List of Affected Credit Ratings. This list is an integral part of this Press Release and provides, for each of the credit ratings covered, Moody's disclosures on the following items:

• Lead Analyst

• Releasing Office

• Person Approving the Credit Rating

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Petr Paklin
Asst Vice President - Analyst
Financial Institutions Group
Moody's Investors Service Limited, Russian Branch
7th floor, Four Winds Plaza
21 1st Tverskaya-Yamskaya St.
Moscow 125047
Russia
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Nicholas Hill
MD - Banking
Financial Institutions Group
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Releasing Office:
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

No Related Data.
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