UB Finance Company Limited

ICRA Lanka revises the rating outlook of UB Finance Company Limited

InstrumentRated Amount (LKR Mn)Rating Action
Issuer ratingN/A[SL]BB; Reaffirmed, Outlook revised to Stable from Negative

Rating action

ICRA Lanka Limited has reaffirmed the issuer rating of UB Finance Company Limited (“UBF” or the Company) at [SL]BB (Pronounced SL double B). The outlook on the rating is revised to Stable from Negative.

Rationale

The revision in the outlook factors in the significant improvement in UBF’s capitalization profile following the recently completed rights issue. The company reported a Networth of LKR 2,748 Mn in Oct-21 as compared to the regulatory minimum requirement of LKR 2,000 Mn. UBF’s capital profile deteriorated significantly since 2018 because of weak profitability and adjustments required as per the revised regulatory capital computation norms and very specifically due to the one-time IFRS-9 transition adjustment of LKR 430 Mn in FY2019. As a result, the Central Bank of Sri Lanka (“CBSL”) placed a lending cap of LKR 9.8 Bn and deposit cap of LKR 7.2 Bn on the Company, which was revised to LKR 8.1 Bn and LKR 5.8 Bn respectively in Aug-20. The recently completed rights issue of around LKR 2 Bn from Union Bank of Colombo PLC (UBC or the parent; rated [SL]BBB/stable) resulted in the removal of these lending and deposit caps. As at Oct-21, regulatory Core Capital Ratio and the Capital Adequacy Ratio was 30.12% and 30.27%, respectively, well above the regulatory minimum requirements.

ICRA Lanka also notes UBF’s somewhat stable asset quality indicators with its gross NPA (GNPA) at 15.87% in Sep-21 in comparison to 16.18% in Jun-21 and 19.57% in Sep-20, despite the challenging macro-outlook. This moderation was as a result of the focus on recoveries in 90 days plus buckets. The rating also takes note of the marginal growth of the portfolio following the removal of lending caps and the improvement of the overall risk profile of the lending portfolio, with exposure to risk product segments such as SME lending, moderating. However, the overall asset quality levels of UBF will be a key monitorable, going forward. 

Outlook: Stable

The outlook revision to “Stable” from “Negative” reflects the improvement of the capital profile with the support extended from the parent, which has resulted in the lending and borrowing restrictions to be removed and the improvement of the asset quality profile. The outlook may be revised to “Positive” in case of improvements in asset quality indicators and earnings profile of the Company. The outlook may be revised to ‘Negative’ in case the Company is unable to improve its asset quality and earnings profile.  

Key rating drivers

Credit strengths

Operational, managerial and financial support from the parent: UBF is a 92% owned subsidiary (94% by voting rights) of Union Bank of Colombo PLC (“UBC rated [SL] BBB/stable). The Bank along with the strategic partner Shorecap II Limited has infused close to LKR 1.4 Bn to UBF since 2011 and recently infused around LKR 2 Bn. UBF is further strengthened by the appointment of new board members representing TPG, a global private investment firm and the parent company. ICRA Lanka expects the capital and operational support from UBC to continue, going forward. 

Improved capital profile following the completion of the rights issue: Following the rights issue of around LKR 2 Bn by the parent company in Oct-21, UBF reported a tangible net worth of LKR 2,748 Mn as compared to the regulatory minimum requirement of LKR 2,000 Mn. UBF had not complied with the regulatory minimum Core Capital requirement since Mar-18 and capital adequacy requirements since Jan-19 due to the one-time IFRS 9 transition adjustment of LKR 430 Mn, adjusted for FY2019, which had a significant impact on UBF’s overall capital position. ICRA Lanka notes that the company is now compliant with the upcoming LKR 2.5Bn minimum capital requirement in Jan-22. As at Oct-21, regulatory Core Capital Ratio and the Capital Adequacy Ratio was 30.12% and 30.27% respectively, as compared to the regulatory requirement of 7.00% and 11.00%. The lending and the deposit caps that have been placed on the Company have been removed by Oct-21.

Credit challenges

Stabilised asset quality indicators, but remains under pressure: UBF reported a Gross NPA of 15.9% as in Sep-21 (19.6% in Sep-20) as compared to the Licensed Finance Company (“LFC”) sector’s gross NPA of 12.7% in Sep-21 (12.9% in Sep-20). Moderate asset quality indicators were partly due to depletion of the portfolio and weaker collections due to the challenging macro-conditions. ICRA Lanka notes that the company has recorded improvements in absolute NPA levels after Jun-21. High NPAs were noted particularly in its working capital and other business-related exposures, segments which the company has curtailed.  The rating also takes comfort in the improved recovery efforts within the 90+ days buckets after Jun-21 which was successful in controlling the slippages into the NPA category bucket. The provision coverage ratio of the company stood at 54.9% in Sep-21 as compared to 49.5% in Mar-21 and 45.1% in Mar-20. Going forward, the company’s ability to arrest incremental slippages and reduce the NPAs by recovering some of the large ticket exposures are crucial from a rating point of view.

Modest scale of operations and limited franchise: UBF operates with a modest portfolio of LKR 7.6 Bn as in Sep-21 (LKR 7.5 Bn as in Mar-21 and LKR 8.5 Bn as in Mar-20). The Company offers lease and vehicle backed loans (43% as in Sep-21), working capital financing (21%), HP Loans (13%), Fixed Deposits backed loans (10%), Gold loans (8%) and others (7%). Key asset classes in the lease and vehicle backed loan category includes cars, light commercial vehicles, lorry, van and bus which accounted for 24%, 12% 11%, 6% and 2% of the total portfolio respectively as in Sep-21. Going forward, UBF is expected to focus on auto loans and gold loans.

Moderate profitability: ICRA Lanka notes that, the overall profitability of the company was affected by the lending and deposit caps what were in place, during the last 2 years. However, UBF’s Net margins improved in 6MFY2022 due to the reductions in cost of funds with the sharp decline in systemic interest rates and the marginal growth of the portfolio. Improvements were noted in the ROA and ROE of the company to 0.05% and 0.58% respectively in 6MFY2022 as compared to -0.47% and -5.46%, respectively in FY2021 (0.05% and 0.70% in FY2020). The Net Interest Margin (“NIM”) of UBF rose to 7.87% in 6MFY2022 as compared to 6.35% in FY2021 (5.23% in FY2020), on account of lower cost of funds due to the lower interest rate regime prevailing during the period along with the marginal growth of the portfolio. The operating expenses of the company increased to 5.05% as compared to 4.71% in FY2021 (4.78% in FY2020) along with the credit cost which increased to 2.96% as compared to 2.43% in FY2021 (1.69% in FY2020). Going forward, company’s ability to improve overall profitability by managing credit cost and operating expenses will be crucial, as the room for lending margin expansion will be limited.

Analytical approach: For arriving at the ratings, ICRA Lanka has applied its rating methodologies as indicated below.

Links to applicable criteria:  ICRA Lanka’s Credit Rating Methodology for Non-Banking Financial Institutions

About the Company:

UB Finance Company Limited (UBF) was formerly known as The Finance & Guarantee Co. Ltd. It was incorporated in 1961 and, operated as a Finance and Real estate development company. In 2011, Union Bank of Colombo (UBC) acquired majority stake in the Company with a capital infusion of LKR 600 Mn. The Company also received a capital infusion of LKR 500 Mn from a private equity investor- ShoreCap II Ltd.  As in April 2018, UBC and ShoreCap II Ltd held about 73% (81% voting rights) and 12% (13% voting rights) respectively in UBF. Initially, UBF was involved in real-estate development and financing. The Company still has some of its old loan portfolio, which is completely in the NPA category. Presently, the Company focuses on retail asset classes (vehicles loans/ leases) and gold loans.

During FY2021, UBF reported a Loss After Tax of LKR 41 Mn (which includes a one off deferred tax asset and ESC write off adjustment of LKR 83 Mn) on a total asset base of LKR 8,187 Mn as compared to a PAT of LKR 5 Mn on a total asset base of LKR 9,350 Mn in FY2020. During the 6MFY2022, UBF reported a PAT of LKR 2 Mn on a total asset base of LKR 8,258 Mn.

Key financial indicators
LKR MnFY2019 (Audited)FY2020 (Audited)FY2021 (Audited)6MFY2022 (Unaudited)
Net Interest Income721593592323
Profit after Tax205(41)2
Net worth770768738729[1]
Loans and Advances (Net)8,7857,7396,9016,921
Total Assets11,1279,3508,1878,258
Return on Equity2.1%0.7%-5.5%0.6%
Return on Assets0.2%0.1%-0.5%0.1%
Gross NPA18.1%18.6%15.8%15.9%
Net NPA6.2%10.2%8.0%7.2%
Capital Adequacy Ratio5.7%2.6%4.6%30.1%
Gearing (times)[2]13.110.89.89.8
Rating history for last three years:

Analysts
Sanduni Kankanamalage
+94-777478138
sanduni@icralanka.com  

Rasanga Weliwatte
+94-773553564
rasanga@icralanka.com

[1] Equity infusion by way of a rights issue was finalised in Oct-21

[2] Gearing adjusted for revaluation reserves


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