Fitch assigns ratings to Sri Lanka’s HDFC Bank

Fitch Ratings has assigned Housing Development Finance Corporation Bank of Sri Lanka (HDFC Bank) a National Long-Term Rating of ‘BBB(lka)’ and a Stable Outlook. 

At the same time, Fitch has assigned HDFC Bank’s proposed senior debentures of up to Rs. 4 b an expected National Long-Term Rating of ‘BBB(lka)(EXP)’ and outstanding senior secured debentures a National Long-Term Rating of ‘BBB(lka)’. A full list of rating actions is at the end of this rating action commentary.

The proposed issuance, which will have tenors of five and 10 years and carry fixed and floating coupons, will be listed on the Colombo Stock Exchange. HDFC Bank expects to use the proceeds to reduce asset and liability maturity mismatches.

The final rating on the issuance is subject to the receipt of final documentation conforming to information already received.

Key rating drivers

National ratings and senior debt

HDFC Bank’s rating reflects Fitch’s expectation that the bank would receive extraordinary support from the state, if needed, given that the State effectively holds 51% of the bank. It also reflects Fitch’s view of the bank’s quasi-policy role in supporting the State’s initiatives to develop more housing for low- and middle-income families. However, the potential for State support is lower than for larger state-owned banks in Sri Lanka due to HDFC Bank’s lower systemic importance.

The State holds most of its stake in HDFC Bank through the National Housing Development Authority, a State-owned corporation that is tasked with formulating and implementing the national housing policy. The rest of the stake is held through the Condominium Management Authority and the Urban Development Authority. The majority of board members represent State institutions.

Housing loans accounted for 91% of HDFC Bank’s total loans at 1H15. The bank has the authority to grant to members of the Employees Provident Fund (EPF) housing loans that are secured against EPF balances (34.5% of total loans at 1H15). 

HDFC Bank’s reported gross NPL ratio has been extremely high (20.88% at 1H15) due to non-payments on EPF-backed housing loans, which are often used by individuals to access the balances in their EPF accounts. The Central Bank of Sri Lanka annually reimburses the bank for the instalments of EPF-backed loans that are in arrears for over three months.

HDFC Bank’s capital ratios have been declining alongside the expansion in its assets. Regulatory capital ratios benefit from zero risk weights accorded to housing loans backed by EPF balances. 

HDFC Bank is required to meet a minimum capital requirement of Rs. 5 b as a licensed specialised bank by 1 January 2016. The Central Bank Has granted approval to extend the deadline to comply with the minimum capital requirement to 1 January 2018. Fitch believes that although the bank is likely to meet the first interim target of Rs. 3 b, an infusion may be needed in order to meet the Rs. 5 b requirement as internal capital generation may not be sufficient.

Interest rate risk is significant for HDFC Bank, given the maturity mismatches between its assets and liabilities. Management is looking into regular issuance of medium- to long-term debentures as a means of reducing asset and liability maturity mismatches.

The outstanding and proposed debentures are rated in line with HDFC Bank’s National Long Term Rating. The issues rank equally with the claims of company’s other senior unsecured creditors. Fitch has not provided any rating uplift for the collateralisation on the senior secured debentures as the secured debentures’ recovery prospects are considered to be average and comparable with those of the unsecured notes in a developing legal system.

HDFC Bank was established as a building society in 1984. It was converted into a government corporation in 2000 and then into a regulated licensed specialised bank in 2003.

Rating sensitivities

National ratings and senior debt

A change in Fitch’s expectation of State support to HDFC Bank due to a weakening of the linkages with the State, including a dilution of State’s majority ownership of the bank or a revision of Fitch’s view of HDFC Bank’s policy role, could result in a downgrade of the ratings. 

The ratings on the proposed and outstanding debentures will move in tandem with HDFC Bank’s National Long-Term Rating.

The rating actions are as follows:

National Long-Term Rating assigned at ‘BBB(lka)’; Outlook Stable  Outstanding senior secured debentures assigned ‘BBB(lka)’ rating Proposed senior unsecured debentures assigned ‘BBB(lka)(EXP)’ rating