Capital Alliance PLC

ICRA Lanka reaffirms the issuer rating of [SL]A- for Capital Alliance PLC

InstrumentRated Amount                   (LKR Mn)Outstanding Amount            (LKR Mn)Rating Action
Issuer ratingN/AN/A[SL]A- (Stable); Reaffirmed

Rating action

ICRA Lanka Limited has reaffirmed the issuer rating of [SL]A- (pronounced SL A minus) for Capital Alliance PLC (CALT or “the Company”). The outlook on the rating remains Stable.

Rationale

The rating continues to factor in CALT’s position as of one the leading standalone primary dealers in Sri Lanka with an established track record. The rating also notes the good internal controls and robust IT systems, and synergies emerging from group entities which offer other financial services such as equity broking, asset management and corporate advisory. Due to an adverse interest rate environment, the company earned a net loss of LKR 154 Mn in 9M FY2022 vis-à-vis net profits of LKR 966 Mn and LKR 737 Mn in FY2021 and FY2020, respectively. The core capital of the company stood at LKR 2.7 Bn in December 2021 (LKR 2.7 Bn in March 2021 and LKR 2.0 Bn in March 2020), against the current regulatory limit of LKR 2.0 Bn;  the capital profile was augmented by an IPO of the Company in December 2021 which raised LKR 412 Mn in fresh equity. Further, the risk weighted Capital Adequacy Ratio (CAR) stood at 346.86% in December 2021 (30.72% in December 2020), above the regulatory minimum of 10%; portfolio duration stood at 0.15 (years) in the same period. ICRA Lanka considers CALT’s current level of capitalization to be adequate to withstand near-term rises in interest rates. However, if further capital infusions are needed, ICRA Lanka envisages that support from promoters would be available.  

The rating also factors in the improvement in the ALM profile due to the currently low duration portfolio. The liquidity risk is further mitigated by liquid nature of the portfolio, access to CBSL funding and availability of bank funding of about LKR 725 Mn in December 2021. Going forward, the ability of CALT to maintain healthy earnings and capitalization, commensurate with the risks inherent to a primary dealer business, would be a key monitorable.  

Outlook: Stable

The outlook may be revised to “Positive” based on further improvement in CALT’s capital profile and its ability to operate profitably across cycles, whilst maintaining comfortable liquidity. The outlook may be revised to “Negative” in case of significant weakening in the earnings, liquidity and capitalization profile or in case its portfolio shifts away from government securities.

Key rating drivers

Credit strengths

One of the leading stand-alone primary dealers in Sri Lanka: As one of the largest stand-alone primary dealers in Sri Lanka, CALT had a total asset base of LKR 4.7 Bn in December 2021 (LKR 11.6 Bn as on March 2021). Further, CALT has an experienced management team headed by its group CEO (founder), who has 30 plus years of experience in the PD industry, of which 21 years was spent at CAL group. The trading operations are backed by an in-house research team as well robust IT and risk management systems. In addition, the presence of group entities offering various related financial services such as equity trading, asset management, and corporate advisory brings in synergistic benefits.

Modest credit risk profile: CALT’s portfolio comprises of government securities (treasury bills, bonds and reverse repos on treasury securities) and quoted equity. Hence, the portfolio is susceptible to interest rate risk stemming from adverse market interest rate movements. Company has so far not ventured into corporate debt given the illiquidity of this segment in Sri Lanka; therefore, it currently has no exposure to credit risk.

Improvement in the liquidity profile: Typically CALT holds a longer duration portfolio funded by shorter duration repo borrowings, which creates a liquidity risk through a negative ALM mismatch. However, as of December 2021 the ALM mismatch stood at positive 32.8% in the less than 7- day bucket and positive 47.9% in the less than one year bucket, vis-à-vis the negative mismatches of 27.4% and 50.4%, respectively, in December 2020. The improvement in the ALM profile is due to a decrease in portfolio duration to 0.15 (years) as of December 2021 from 1.44 (years) in March 2021 and 2.72 (years) in December 2020; the PD industry tends to maintain short duration portfolios in rising interest rate environments.  Moreover, the highly liquid nature of the portfolio, availability of bank funding lines (as in December 2021, CALT had unutilized credit lines totaling LKR 725 Mn) and access to CBSL funding, provide comfort from a liquidity perspective.

Credit challenges

Vulnerability to adverse market rate movements: In FY2021 and FY2020, due to a favorable interest rate environment, the company reported net profits of LKR 966 Mn and 737 Mn, respectively. However, as interest rates started to rise, CALT reported a net loss of LKR 154 Mn in 9M FY2022, largely because of trading losses (of about LKR 220 Mn). ICRA Lanka expects the market interest rates to rise further in the short term driven mainly by inflationary pressure. Thus,  CALT remains vulnerable to future trading losses and fair value losses, which could impact its earnings and capital profiles. However, the shorter duration portfolio (of about 0.25) which management expects to maintain in the near term, mitigates against the interest rate risk.

Moderate capital buffer over current regulatory limit; company was able to raise fresh equity through an IPO: The risk weighted capital adequacy ratio (CAR) stood at 346.8% in December 2021 (regulatory limit is 10%), compared with 30.72% in December 2020, due to CALT’s low portfolio duration and portfolio size (portfolio stood at LKR 4,566 Mn in December 2021 vis-à-vis LKR 12,606 Mn in December 2020). The company raised fresh equity capital of LKR 412 Mn via a IPO in December 2021 and paid dividends of LKR 300 Mn in 9M FY2022 out of FY2021 profits (dividends of LKR 250 were paid in FY2021). The net worth stood at 2.7 Bn in December 2021 (LKR 2.7 Bn in March 2021 and LKR 2.0 Bn in March 2020), whereas gearing stood at 0.7x in the same period (3.1x in March 2021 and 5.9x in March 2020).

Vulnerability to unfavorable regulatory changes: Any adverse regulatory changes, such as increasing capital requirements for primary dealers and controls on repo/reverse repo transactions, has the potential to impact primary dealer performances, including CALT’s.

Analytical approach: For arriving at the ratings, ICRA has applied its ratings methodologies as indicated below: Links to applicable criteria:  ICRA Lanka Rating Methodology for Primary Dealers

About the Company:

CALT is a licensed primary dealer in government securities in Sri Lanka. The Company is 79.4% held by Capital Alliance Holdings Limited, which is the holding company of the group, offering various financial and investment solutions including fixed income trading, stock broking, asset management and financial advisory. For the year ended March 31, 2021, CALT reported a net profit of LKR 966 Mn on a total asset base of LKR 11.6 Bn vis-à-vis a net profit of LKR 737 Mn on a total asset base of LKR 14.4 Bn in March 31, 2020. During the 9 months ended December 31, 2021, the Company reported a net loss of LKR 154 Mn on a total asset base of LKR 4.7 Bn vis-à-vis a net profit of LKR 997 Mn on a total asset base of LKR 12.7 Bn in the same period of the previous fiscal.

Key financial indicators of CALT– Audited
 FY2020FY20219M FY2021*9M FY2022*
Net Interest Income 339368313161
Net Trading Profit 9631,1971,203(195)
Net Operating Income 1.3131,5701,521(26)
Profit after Tax 737966997(154)
Net worth 2,0102,7232,7582,681
Trading Portfolio 14,29411,50512,3834,574
Total Assets 14,37011,56512,6774,738
Return on Equity 36.68%35.49%48.18%-7.67%
Return on Average Assets 5.79%7.46%9.83%-2.53%
Capital Adequacy Ratio 22.20%54.11%30.72%346.86%
Gearing (times) 5.923.113.450.70
Stock in Trade/ Net worth (times) 7.114.224.491.71

*Unaudited

Rating history for last three years:
Analysts
Apsara Thurairetnam
+94-766781590
apsara@icralanka.com

Sahil Udani
+91-22-6114 3429
sahil.udani@icraindia.com

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