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Rating Action:

Moody's takes rating actions on four banks in Azerbaijan

31 Mar 2020

London, 31 March 2020 -- Moody's Investors Service, ("Moody's") today took rating actions on four Azeri banks. Moody's affirmed the Baseline Credit Assessments (BCAs), Adjusted BCAs and the long-term local and foreign currency deposit ratings of International Bank of Azerbaijan (IBA), Kapital Bank OJSC, OJSC XALQ BANK (XALQ), and Joint Stock Commercial Bank Respublika (Bank Respublika). The outlooks on the long-term local and foreign currency deposit ratings of IBA were changed to stable from positive. The outlooks on the long-term local and foreign currency deposit ratings of Kapital Bank OJSC, XALQ and Bank Respublika were changed to negative from stable and positive, respectively.

Concurrently, Moody's affirmed the four banks' long-term local and foreign currency Counterparty Risk Ratings (CRRs) and their long-term Counterparty Risk Assessments (CR Assessments). The banks' short-term local and foreign currency deposit ratings and short-term local and foreign currency CRRs of Not Prime and short-term CR Assessments of Not Prime(cr) were also affirmed.

Please click on this link https://www.moodys.com/viewresearchdoc.aspx?docid=PBC_ARFTL421643 for the List of Affected Credit Ratings. This list is an integral part of this Press Release and identifies each affected issuer.

RATINGS RATIONALE

Today's rating actions reflect the deteriorating operating environment from the coronavirus (COVID-19) outbreak in Azerbaijan, the recent oil price drop, and the associated downside risks to Azeri banks' standalone credit profiles. Moody's expects that the spread of the coronavirus and unprecedented stringent measures taken by the government of Azerbaijan (Ba2 stable) to stem the spread of coronavirus will be disruptive to economic activity. These shocks will be compounded by the oil price collapse, given the importance of this industry to the country's economy.

Moody's believes that the coronavirus-related restrictions will likely hit small and medium-sized enterprises (SMEs), as well as individuals employed in the most affected sectors, in particular, non-food retail, catering, transportation, tourism and other services. The BCAs of Azeri banks are particularly exposed to:

- Worsening asset quality: despite the announced support measures for economy and SMEs in particular, the rating agency expects a material increase in problem loans and the cost of risk as companies and individuals struggle to deal with their sudden change in economic circumstances;

- Deteriorating capitalization: the drop in oil prices has increased the risk of a local currency depreciation which would inflate the risk-weighted assets (RWAs) of the banks with higher share of asset dollarization and hence cause a decline in capitalization.

The negative outlooks assigned to the aforementioned ratings of Azeri banks (except IBA) reflect the resulting pressure on these banks' intrinsic financial strength (or BCAs).

-- IBA

The change of outlook on the bank's local and foreign currency long-term bank deposit ratings to stable from positive reflects the relative resilience of IBA's creditworthiness to the aforementioned external shocks.

The affirmation of the bank's BCA and Adjusted BCA at b3 as well as local and foreign currency long-term bank deposit ratings at B1 reflects the balanced risk profile of the bank. On the one hand, IBA is exposed to credit risks stemming from an expected deterioration of its borrowers' creditworthiness amid a weaker economic environment and the coronavirus outbreak, as well as market risks related to its short foreign-currency position at AZN1.4 billion as of 1 March 2020. On the other hand, the share of the loan portfolio is relatively limited at about 23% of total assets as of end-2019, while the largest loans are provided to state-related companies which may count on state support in case of need.

Moody's estimates IBA's capital adequacy in terms of tangible common equity (TCE) to RWA at 33.1% as of end-2019 and considers its capital cushion along with pre-provision revenue strong enough to absorb both higher provisioning charges on the loan portfolio as well as negative revaluation of its short foreign-currency position in stressed scenario.

-- Kapital Bank OJSC

In Moody's view high reliance on unsecured consumer lending (73% of gross loans at mid-2019) exposes the bank to an asset quality deterioration if economic conditions continue to worsen owing to either the coronavirus outbreak or a prolonged period of low oil prices. This is reflected by the change of outlook on the bank's local and foreign currency long-term bank deposit ratings to negative from stable.

The elevated credit risks are partially mitigated by (1) the bank's focus on its existing deposit clientele, including payroll customers, budget recipients and pensioners with relatively predictable and stable cash flows; (2) the modest share of net loans at 36% of total assets at end-2019; and (3) its limited share of foreign-currency lending (12% of total).

The affirmation of the bank's BCA at b1 also reflects the good loss-absorption capacity of the bank against the expected pressure from the worsening environment. The bank posted strong net income of AZN134.7 million in 2019, which translates into a 3.3% return on total assets, as well as a high Tier 1 ratio at 14.9% as of 1 March 2020 under local GAAP.

-- OJSC XALQ BANK

The affirmation of XALQ's B2 deposit ratings and the change of the ratings outlook to negative from stable reflects, on the one hand, the high vulnerability of the bank's asset quality metrics to the potential weakening of the creditworthiness of its borrowers negatively affected by the coronavirus outbreak and low oil prices, and on the other hand, the bank's currently solid pre-provision revenue generation and sound capital adequacy, which are expected to dampen somewhat the negative effect.

A high 76% of XALQ's loan book was foreign currency-denominated loans as of 1 February 2020, the highest proportion amongst Moody's rated banks in Azerbaijan, and the rating agency estimates that only approximately a half of borrowers have sufficient foreign currency revenues to match they foreign currency loan repayments, which makes both XALQ and its borrowers highly vulnerable to the risks of a devaluation of the Azeri manat in case of a prolonged period of low oil prices. XALQ has limited exposure to SMEs, consumer loans and industries most vulnerable to the consequences of coronavirus outbreak, but approximately 10% of the bank's loans are issued to trading companies and hotels (including hotel construction projects). Moody's expects the bank's profitability to be negatively affected by higher credit losses and net interest margin contraction. However, the bank' capitalization is solid: its statutory Tier 1 ratio reported as of 1 February 2019 was 20.4%, well above the regulatory minimum requirements.

-- Bank Respublika

The change of outlook on the bank's local and foreign currency long-term bank deposit ratings to negative from positive reflects the higher vulnerability of the bank's risk profile to external shocks largely owing to elevated exposure to borrowers likely to be more affected, in particular SMEs (55% of gross loans at mid-2019) and individuals (24%).

The affirmation of the bank's BCA and Adjusted BCA at b3 is driven by the relatively good loss absorption capacity, strong underwriting standards, a modest loan book (34% of total assets as of end-2019) as well as limited foreign-currency lending (16% of gross loans at end-2019). In 2019, Bank Respublika posted robust pre-tax net profit of AZN20.4 million and reported a Tier 1 ratio at 10.3% as of 1 March 2020 under local GAAP.

GOVERNMENT SUPPORT ASSUMPTIONS UNCHANGED FOR ALL AFFECTED BANKS

Moody's considers the probability of government support for IBA's and Kapital Bank's deposits to remain high, while that for XALQ's deposits to be moderate. This reflects the first two banks' respective sizes and systemic importance and results in two and one notches of uplift, respectively, for these banks' deposit ratings from their respective BCAs.

ENVIRONMENTAL, SOCIAL AND GOVERNANCE CONSIDERATIONS

The rapid and widening spread of the coronavirus outbreak, deteriorating global economic outlook, falling oil prices, and asset price declines are creating a severe and extensive credit shock across many sectors, regions and markets. The banks have been one of the sectors affected by the shock given an expected deterioration in asset quality, profitability and capital adequacy.

We regard the coronavirus outbreak as a social risk under our ESG framework, given the substantial implications for public health and safety. Today's action reflects the impact on Azeri banks of the breadth and severity of the shock, and the deterioration in credit quality it has triggered.

Moody's does not apply any corporate behavior adjustment to Azeri banks as a part of today's rating action, and does not have any specific concerns about their corporate governance, which is nevertheless a key credit consideration, as for most banks.

PRINCIPAL METHODOLOGY

The principal methodology used in these ratings was Banks Methodology published in November 2019 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1147865. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

Factors that would lead to an upgrade or downgrade of the ratings:

Upgrades in bank deposit ratings are unlikely given the current negative outlooks (except IBA) and worsened operating environment. The resilience in loss absorption capacity could enable stabilization of the rating outlooks in the next 12-18 months.

The ratings could be downgraded or the ratings outlook could be changed to negative (in the case of IBA) if the financial fundamentals, namely asset quality, capitalisation and profitability of the affected banks were to be eroded materially.

REGULATORY DISCLOSURES

The List of Affected Credit Ratings includes additional disclosures that vary with regard to some of the ratings. Please click on this link https://www.moodys.com/viewresearchdoc.aspx?docid=PBC_ARFTL421643 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:

• Releasing Office

For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.

For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security 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.

The ratings have been disclosed to the rated entity or its designated agent(s) and issued with no amendment resulting from that disclosure.

These ratings include both solicited and unsolicited ratings. As a result, Moody's considers the Rated Entity and/or any Related Third Party to be participating in the ratings process, thereby providing general access to internal documents and management. Please refer to the List of Affected Credit Ratings for more details regarding solicitation. For additional information, please refer to Moody's Policy for Designating and Assigning Unsolicited Credit Ratings available on www.moodys.com.

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

Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1133569.

At least one ESG consideration was material to one of the credit rating outcomes announced and described above.

The below contact information is provided for information purposes only. Please see the ratings tab of the issuer page at www.moodys.com, for each of the ratings covered, Moody's disclosures on the lead rating analyst and the Moody's legal entity that has issued the ratings.

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
Vice President - Senior 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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