Sunday 08, October 2017 by Georgina Enzer

Arab African International Bank’s Ratings Affirmed with a ‘Stable’ Outlook

Capital Intelligence Ratings (CI Ratings or CI), the international credit rating agency, today announced that it has affirmed Arab African International Bank’s (AAIB) Long- and Short-Term Foreign Currency Ratings (FCRs) both at ‘B’ with a ‘Stable’ Outlook.

CI Ratings recently upgraded the Bank’s Long-Term FCR to ‘B’ in line with the upgrade of Egypt’s Sovereign Long-Term FCR to ‘B’. The Bank’s FCRs, which remain constrained by CI’s sovereign ratings for Egypt ('B'/'B'/'Stable'), denote significant credit risk given that the Bank’s capacity for timely fulfilment of financial obligations is vulnerable to adverse changes in internal or external circumstances. At the same time, the Bank’s Financial Strength Rating (FSR) is affirmed at ‘BB’ in view of the Bank’s strong capital adequacy, sound loan asset quality, good liquidity (subject to systemic risk), strong profitability at both the operating and net levels, and strategic shareholders. The major factors constraining the FSR are exposure to sovereign risk and the still challenging operating environment, as well as the high concentrations seen in government securities, loans and customer deposits. The Outlook for the FSR is affirmed at ‘Stable’. The Support Rating is affirmed at ‘3’, reflecting CI’s assessment of a high likelihood of shareholder support. In case of need, official liquidity support would also be available from the Central Bank of Egypt (CBE).

Egypt succeeded in meeting the IMF’s preconditions to qualify for much needed financial assistance to support economic reforms, and ease pressure on foreign exchange reserves and foreign currency liquidity in the local market. Although the programme should provide some respite for the government by stabilising the country’s external liquidity and alleviating acute foreign currency shortages, CI considers implementation risk to be high given the depth and socially-sensitive nature of many of the planned reforms. The flotation of the Egyptian Pound (EGP) in November 2016 (one of the conditions imposed by the IMF) has since increased foreign currency inflows into the Egyptian banking system and ended the parallel market. Egypt also scrapped the last major control on capital transfers introduced after the 2011 political uprising in an effort to limit the flight of capital.

Despite the ongoing high credit risk prevalent in Egypt’s economy, AAIB’s loan asset quality remains very acceptable, reflecting a sound credit policy and prudent risk management. The Bank has a very low level of restructured credits in its portfolio, while effective remedial measures have historically limited the migration of past due not impaired loans overdue by less than 90 days to the non-performing loan (NPL) category. That said, credit risk in the economy remains elevated and therefore a resumption of growth in NPLs seems probable. Loan-loss reserve cover for NPLs increased further from an already strong level as the Bank set aside a significant level of precautionary provisions in 2016. However, in the event that economic conditions deteriorate further, AAIB as a corporate bank would be particularly vulnerable to weaker asset quality given its high borrower concentration.

A mitigating factor in this regard is the Bank’s solid capital base – denominated in USD − which provides an effective buffer against possible unforeseen setbacks. Notwithstanding a significant component of regulatory Tier 2 funds, both the Bank’s total capital adequacy ratio and the ratio of total capital to total assets remain at a very sound level and well above the sector average. These metrics are supported by a good rate of internal capital generation, the result of a moderate dividend payout ratio along with strong net profitability. Another important risk mitigant is AAIB’s effective risk absorption capacity as demonstrated by its strengthened operating profitability.

AAIB’s net profit continued to grow lifted by higher net interest income and non-interest income, notwithstanding a considerably larger provision charge. Operating profit continued to grow significantly while the ratio of operating profit to average total assets also increased to a strong level. Consequently, the Bank produced a robust return on average assets, although it remained below that of the top tier private sector banks in Egypt. This is largely a function of AAIB’s comparatively smaller exposure to high yielding Egyptian government bonds and limited high margin retail lending activity, which has the effect of restricting the net interest margin and overall gross income. Operating efficiency nonetheless remained excellent as measured by the cost-to-income ratio.

The Bank’s liquidity is high and underpinned by customer deposit funding. The noted decrease seen in customer deposits in 2016 is due to the effect of the EGP devaluation (AAIB’s financial statements are reported in USD). However, as is the case with other Egyptian banks, AAIB’s liquidity is subject to systemic risks in the event of an adverse sovereign or political event. This is particularly the case with respect to foreign currency liquidity, notwithstanding the recent improvement seen in Egypt’s external liquidity position. The authorities have removed almost all official restrictions on transfer and withdrawal of foreign currency deposits. Although AAIB’s customer deposit base remains concentrated, liquidity and funding risks are mitigated by consistently high balance sheet liquidity. The Bank’s active involvement in the interbank market is reflected in its comparatively larger share of bank placements in total assets, this being partly a reflection of increased USD liquidity in the market. AAIB has consistently been a net lender of funds in the interbank market over the last four years.

AAIB was incorporated as an Egyptian joint-stock company in 1964 under a special law in order to carry out a comprehensive range of commercial banking activities. The Bank’s majority shareholders are CBE and Kuwait Investment Authority, with 49.37 per cent each. In March 2016 the CBE stated that 40 per cent of AAIB’s shares would be offered through an initial public offering (IPO) – half to be sold by the Egyptian government and the other half by the Bank’s Kuwaiti investors. While maintaining its core competence as a corporate bank, over the years AAIB has expanded its retail business, notably retail customer deposits (and to a lesser extent retail loans). AAIB operates a mid-sized network of 88 branches and 284 ATMs, as well as e-banking services. As at end Q1 2017 the Bank’s total assets were $9.92 billion and total capital was $1.51 billion.

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