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Tuesday January 31st, 2023

Sri Lanka bank – finance company mergers could deny credit to some borrowers: Fitch

ECONOMYNEXT – A proposal in Sri Lanka’s budget for 2021 to merger finance and leasing companies with their parents will result in customers with a higher risk profile being denied credit, Fitch Ratings said.

“FLCs typically cater to sub-prime customers, which banks have very little appetite for,” the rating agency said.

“However, if the proposed mergers are enforced, we expect the risk appetite of the amalgamated bank to be lower than the simple aggregated risk appetite of the parent and the FLC subsidiary, as the FLC business is unlikely to be a core business line for the parent.”

In a re-organization of finance companies, banks bought some of the best capitalized finance companies.

As a separate entity, finance company subsidiaries could also pay slightly higher rate of interest.

Fitch said ratings of banks which merge with their subsidiaries are unlikely to be affected in the short term as the risks of the subsidiary were already factored in.

“However, the extent of the impact of absorbed FLCs on banks’ business models and their consolidated risk and financial metrics, particularly asset quality and profitability, will be important for the banks’ ratings in the medium term,” Fitch said.

“We believe banks will be reluctant to absorb their FLCs due to the significant difference between their risk profiles and underwriting practices, leading to elevated challenges in achieving effective management.”

Sri Lanka however has a large number of deposit taking finance companies, which are small and are less able to absorb shocks, though two of the biggest in the sector have also failed, partly due to regulatory forbearance and the lack of a mandatory resolution framework based on capital thresholds, analysts say.

Sri Lanka has seen higher levels of monetary instability and output shocks under a so-called ‘flexible inflation targeting’ regime, where consumption falls after each currency collapse, led to spikes in bad loans.

Two currency crises came quickly on top of each other (2015 and 2018) after Sri Lanka’s soft-pegged central bank dropped its policy rate band in favour of targeting a call money rate, as it also targeted a perceived output gap, critics have said.

“The sector continues to struggle with lack of access to capital, muted income generation and very weak asset quality despite the regulatory moratoriums for stressed loans,” Fitch said.

Fitch said the fragmentation at the lower end – where 33 FLCs, out of the total 44, accounted for only around 31 pecnt of sector assets – have posed challenges to Sri Lankan financial-sector stability, despite the sector’s moderate 8 percent share of financial-sector assets at end-2019.

The full statement is reproduced below

Sri Lankan Banks’ Ratings Unaffected by Proposed FLC Mergers

Mon 23 Nov, 2020 – 3:09 AM ET

Fitch Ratings-Colombo-23 November 2020: The mergers of Sri Lankan finance and leasing company (FLC) subsidiaries with their parent banks will not have an immediate impact on the banks’ ratings, says Fitch Ratings.

The agency’s assessment of our rated banks is based on their consolidated credit profiles and already factors in the risks of having subsidiary FLCs.

However, the extent of the impact of absorbed FLCs on banks’ business models and their consolidated risk and financial metrics, particularly asset quality and profitability, will be important for the banks’ ratings in the medium term. The proposal was announced in the government’s budget speech for 2021.

We believe banks will be reluctant to absorb their FLCs due to the significant difference between their risk profiles and underwriting practices, leading to elevated challenges in achieving effective management.

FLCs typically cater to sub-prime customers, which banks have very little appetite for. However, if the proposed mergers are enforced, we expect the risk appetite of the amalgamated bank to be lower than the simple aggregated risk appetite of the parent and the FLC subsidiary, as the FLC business is unlikely to be a core business line for the parent.

The proposal affects five Fitch-rated banks with FLC subsidiaries – Hatton National Bank PLC (AA+(lka)/Negative), which owns HNB Finance Limited (AA-(lka)/Negative), Commercial Bank of Ceylon PLC (AA+(lka)/Negative), which owns Serendib Finance Limited (AA-(lka)/Negative), Sampath Bank PLC (AA-(lka)/Stable), which owns Siyapatha Finance PLC (A(lka)/Stable), Bank of Ceylon (AA+(lka)/Negative), which owns Merchant Bank of Sri Lanka & Finance PLC, and People’s Bank (Sri Lanka) (AA+(lka)/Negative), which owns People’s Leasing & Finance PLC (A+(lka)/Stable).

These subsidiaries’ assets account for 0.5%-7.7% of their group assets (median: 3%) and 0.5%-26% of profit before tax (median: 5%).

The government’s budget speech, presented on 17 November 2020, reiterated the importance of consolidation in the FLC sector, which has been on the cards since 2014 when the Central Bank of Sri Lanka (CBSL) announced its ‘Master Plan for the Consolidation of the Financial Sector’.

It led to several banks acquiring FLC subsidiaries in 2014 and 2015, including the acquisition of HNB Finance (then Prime Grameen Micro Finance Limited) by Hatton National Bank and Serendib Finance (then Indra Finance Limited) by Commercial Bank of Ceylon.

Fitch thinks consolidation in the Sri Lankan FLC sector is positive for its long-term stability, but will not necessarily ease its near-term challenges.

The sector continues to struggle with lack of access to capital, muted income generation and very weak asset quality despite the regulatory moratoriums for stressed loans. For details, see Sri Lanka Finance and Leasing Dashboard: FY20, published 19 October 2020.

These headwinds and the fragmentation within the FLC sector at the lower end – where 33 FLCs, out of the total 44, accounted for only around 31% of sector assets – have posed challenges to Sri Lankan financial-sector stability, despite the sector’s moderate 8% share of financial-sector assets at end-2019.

The CBSL has taken regulatory action against several FLCs that failed to meet capital requirements, including cancellation of licences held by The Finance Company PLC and suspension of the business activities of ETI Finance Limited and Swarnamahal Financial Services PLC.

We expect significant increase in M&A activity within the FLC sector in next 12-24 months, even among standalone small FLCs, as there are at least 20 that are currently facing capital challenges, either on an absolute basis or to meet the regulatory capital ratios.

Several FLCs have already announced potential mergers, including Abans Finance PLC (BB+(lka)), which is on Rating Watch Evolving to reflect its potential amalgamation with Softlogic Finance PLC.

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Sri Lanka shares down for 2nd day as tax hike, delay in Chinese debt assurance weigh

ECONOMYNEXT – Sri Lanka’s shares edged down on Tuesday as worries over delay in financial assurances from China which is mandatory for a $2.9 billion dollar IMF loan and rise in protests against tax hike kept investors in check, analysts said.

The main All Share Price Index (ASPI) edged down by 0.28 percent or 24.62 points to 8,865.05. It fell for the second session after hitting more than three-month high.

“The market is looking for more macro cues because of faster Chinese debt assurance was expected. The market is also hit by fall in corporate earnings due to high taxes,” an analyst said.

China has given an initial response on debt re-structuring to Sri Lanka though analysts familiar with the process say it is not a ‘hard assurance’ sufficient for the IMF program to go through.

The International Monetary Fund is working with China on extending maturities of Chinese loans to defaulted countries like Sri Lanka, as there is resistance to hair-cuts, Managing Director Kristalina Georgieva told reporters on January 14.
The earnings for first quarter are expected to be negative for many corporates with higher taxes and rising costs. However, investors had not expected earnings to be low in the December quarter because of year end pick ups on heavy counters, the analyst said.
Earnings in the second quarter of 2023 are expected to be more positive with the anticipation of IMF loan and possible reduction in the market interest rates as the tax revenue has started to generate funds.

However, the central bank said the IMF deal is likely in the first quarter or in the first month of the second quarter.

The most liquid index S&P SL20 dropped by 0.64 percent or 17.74 points to 2,764.51 points.

The central bank has said it could cut interest rates in future when the country sees fall in inflation, which has already started decelerating.

The market saw a turnover of 1.7 billion rupees, slightly lower than the month’s daily average of 1.8 billion rupees and while being significantly lower than 2022’s daily average turnover of 2.9 billion rupees.

The bourse saw a net foreign inflow (NFI) of 93 million rupees extending the net offshore buying to 413 million rupees so far this year.

Top losers were LOLC, Royal Ceramics Limited and Hayleys. (Colombo/Jan31/2023)

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Sri Lanka exports fall in December as global recession weighs

ECONOMYNEXT – Sri Lanka’s merchandise exports earnings fell 9.7 percent in December year-on-year as the island nation saw a drop in buying from its key export destinations which are facing a looming recession after the Russia-Ukraine war.

The earnings from the merchandise exports recorded $1.04 billion  in December 2022 compared to the same month in the previous year as per the data released by the Sri Lanka Customs.

“This was mainly due to the decrease in export earnings from Apparel & Textiles, Tea, Rubber based Products, and Coconut based Products, Food & Beverages, Spices & Essential Oils and Fisheries products,” the Export Development Board (EDB) said in a statement.

“The reason for this decline was due to the ongoing recession in major markets due to rising cost of production, energy etc. Imports declined sharply due to inflation and demand for goods and services are reduced.”

However, Sri Lanka saw a record export earning of $13.1 billion in 2022 due to increased demand in the key exports throughout the year

Earnings from all major product sectors except Electrical & Electronic components as well as Diamonds, Gems & Jewellery fell in December.

Exports of Apparel & Textiles decreased by 9.6 percent to $480.3 million in December 2022.  Export earnings from Tea fell by 3 percent to $107.3 million, Rubber and Rubber Finished products dropped 20.3 percent to $74.5 million,

However, export earnings from the Electrical & Electronics Components increased by 16.18 percent to $42.9 million in December 2022, while Diamond, Gems & Jewelry jumped 35.7 percent to $30.8 million. (Colombo/Jan31/2023)

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Sri Lanka records over 6,000 dengue cases in first three weeks of January

ECONOMYNEXT – Sri Lanka recorded over than 6,000 dengue cases in the first three weeks of January 2023 after a spell of heavy monsoon rain though a drop in cases is likely from February, officials said.

Health officials identified 6,204 dengue patients by January 22, up from 5,793 recorded in the corresponding period last year.

“A rise in cases can be observed in the November-January period with the heavy rain due to the northeast monsoon,” an official from the National Dengue Control Unit told EconomyNext.

Of all reported cases, 46.3 percent were from the Western Province, official reports showed.

Akuressa, Batticaloa, Eravur, Trincomalee, Madampe, Badulla, Eheliyagoda, Kegalle, Kalmunai North and Alayadivembu MOH areas were identified as high-risk areas for dengue during the third week of January by the health officials.

“We are expecting a decline in dengue cases soon. The Western province is always in the top position with the highest number of dengue cases. Apart from that, we are seeing a higher number of cases during this period in areas like Puttalam, Jaffna districts. A certain number of cases have also been recorded in the Kandy district,” the official said.

“Usually the cases peak in December, but they decline by February. This year, too, we are facing this scenario. There is an increase of dengue during the months of November, December and January”.

Due to the economic situation in the country, the Public Health Inspectors (PHIs) in an earlier report said, diesel and pesticides are not being provided by the ministry.

However, rejecting the allegation, the official from the NDCU said the government has provided enough funds for get the necessary pesticides but it is being used according to a scientific method to avoid building a resistance in the dengue mosquito.

“The recommendation is to do the fogging if there is a dengue outbreak or if there are few patients reported from the same locality.

“If you use this pesticide haphazardly, the mosquitos will develop resistance against it,” the official said, adding that there are adequate stocks of the chemical available. (Colombo/ Jan 31/2023)

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