Rating of LOLC Development Finance PLC is placed on watch with developing implications

Instrument	Rated Amount (LKR Mn)	Rating Action
Issuer rating	N/A	[SL]A-; rating put on watch with developing implications

Rating action:

ICRA Lanka Limited, subsidiary of ICRA Limited, a group company of Moody’s Investors Service, has placed the issuer rating of [SL]A- for LOLC Development Finance PLC (“LDFP” /”the Company”, formerly known as BRAC Lanka Finance PLC) on watch with developing implications.

Rationale:

The rating action of placing the issuer rating on watch with developing implications follows the rating action on the LOLC Group. The LOLC Group holds about 99% stake (LOLC Holdings PLC 55.55% and Commercial Leasing & Finance PLC 44.34%) in the Company as in Sep-19. The rating reflects the significant operational, managerial and financial support from the LOLC group. The rating takes note of the modest credit profile of LDFP’s borrowers and, its weakened asset quality and earnings profile. ICRA Lanka takes note of the currently adequate capital structure and asset liability maturity profile of the Company. LDFP’s ability to improve the credit quality and earnings by controlling new slippages and maintaining an adequate capital profile would be crucial from a rating perspective.

Key rating drivers:

Credit Strength:

Continuous financial and managerial support from the parent company; LDFP is a 99% subsidiary of the LOLC group with a 55% and 44% held by LOLC Holdings PLC (LOLC) and Commercial Leasing & Finance PLC (CLC) respectively. LOLC group has continued to provide financial, managerial, and operational support to the Company.  Going forward, the holding company has also committed funding support for future expansions of the Company. LOLC provides operational and managerial support to the Company through its shared service framework.

Adequate near-term capital and, liquidity profile; LDFP reported a regulatory Tier I ratio (“Tier I”) and Capital Adequacy Ratio (“CAR”) of 12.5% and 13.5% in Sep-19 as compared to the regulatory requirement of 6.5% and 10.5%. SLFRS 9 adjustment of LKR 139 Mn in FY2019 and the sharp growth reported in HIFY2020 have contributed to the moderation of capital ratios from the Mar-19 levels of 15.2% (CAR) and 14.2%% (Tier-I) respectively. The gearing was reported at 4.95 times in Sep-19, the gearing moderated during FY2019 as the portfolio levels declined vis a vis March 2018. The Company reported a positive short-term cumulative (< 1 year) ALM mismatch of 10.59% in Sep-19 as compared to 22.13% in Mar-19. The short term positive mismatch has reduced as a result of increased short-term borrowings in the six months ended Sep-19. Going forward, the Company is expecting to grow the deposits with a granular composition.

Credit Challenges

Modest credit profile of the target customers: LDFP is a licensed finance company with presence in 66 locations. The Company reported a portfolio of LKR 14.2 Bn in Sep-19 with a Y-o-Y growth of 13%; the Company was faced with a Y-o-Y degrowth of 13% during FY2019. The Company consolidated its portfolio, while discontinuing the Group Microfinance operations as this segment was faced with high slippages post the Government’s announcement on write off of micro finance facilities in 2018. As a result, the Group microfinance exposure reduced from 87% in Mar-18 to 64% in Mar-19 and to 38% in Sep-19. In HIFY2020, LDFP diversified the portfolio by offering Micro Individual loans, Micro Enterprise Development loans, Micro Housing loans and micro leasing for used 3wheelers to its customers. The Company envisages a high 50-55% growth in FY2021. The gross NPA ratio of the Company increased to 7.44% in Mar-19 as compared to 1.64% in Mar-18. The sharp increase was due to write off announced by the government for microfinance customers who got affected by the floods in FY2018. As of Sep-19, the Gross NPA ratio reduced to 7.71% before peaking to 8.26% in Jun-19, partly supported by the growth in the portfolio. In line with the reduction, the new slippage ratio moderated to 1.97% in Sep-19 and 5.89% in Jun-19 as compared to 16.14% reported in Mar-19. The Company’s ability to maintain the quality of the new credit generations and control new slippages would be key rating sensitivities.

Weakened earnings profile due to increasing credit cost: LDFP’s credit cost to average assets ratio increased to 5.9% in FY2019 as compared to 3.5% in FY2018, due to higher slippages. The Company was also faced with moderation in interest margin because of the increase in the cost of funds and as yields moderated because of portfolio decline. Consequently, in FY2019, the Company reported a loss of LKR 154 Mn.  In H1FY2020, the credit cost moderated to 2.5%, as the Company directed most of its resources to collection and recovery activities. Lower credit cost supported profitability in H1FY2020, as it reported a profit of LKR 54 Mn. Going forward, improvement in the operating efficiency and, controlling credit costs would be crucial for incremental profitability.

Analytical approach: The rating reflects the significant operational, managerial and financial support from the LOLC group.  For arriving at the ratings, ICRA has applied its rating methodologies as indicated below.

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

About LOLC Group:

Setup in 1980, Lanka Orix Leasing Company PLC (LOLC) has evolved itself from a financial services provider to a holding company which has interests in financial services, insurance, manufacturing, trading, plantations, leisure and energy. The ORIX Corporation of Japan which had 30% of LOLC since its inception, has presently divested the same. The group has diversified geographically into Cambodia, Myanmar, Indonesia and Pakistan.

During the FY2019, LOLC group reported a net profit of LKR 19.6 Bn on a total Asset base of LKR 1,044 Bn compared to the net profit of LKR 19.2 Bn on a total Asset base of 822 Bn in the previous fiscal. During the HIFY2020, LOLC group reported a net profit of LKR 12.8 Bn on a total Asset base of LKR 1,221 Bn

Key financial indicators – LOLC (Consolidated)

In LKR Mn	FY2018	FY2019	HIFY2019	HIFY2020
Net Interest Income	46,254	53,904	25,943	28,896
Profit after Tax	19,190	19,635	7,040	12,818
Net worth (adjusted for revaluation reserves)	109,949	143,307	122,173	188,772
Loans and Advances	549,976	707,278	619,597	803,918
Total Assets	822,239	1,043,747	926,763	1,221,164
Return on Equity	18.6%	15.5%	12.1%	15.4%
Return on Assets	2.6%	2.1%	1.6%	1.3%*
Gross NPA	1.70%	2.31%	2.59%	2.61%
Net NPA	N/A	N/A	N/A	N/A
Capital Adequacy Ratio	N/A	N/A	N/A	N/A
Gearing (times)	5.5	5.5	5.8	4.8
Gearing adjusted for revaluation reserves and goodwill on acquisition (times)	6.7	6.5	6.9	5.5

*RoA after adjusting the LKR 5.2 Bn gain on acquisition of Sunbird Bioenergy (SL) Ltd

About LDFP:

BRAC International established its Sri Lankan operations as an NGO in 2004 to serve the tsunami affected community in southern and eastern provinces. Subsequently, along with LOLC as a joint venture, it acquired Nanda Finance PLC (incorporated in 1961) to extend microfinance. In 2014, the Company became a wholly owned subsidiary of Commercial Leasing & Finance PLC (CLC, 99% owned subsidiary of LOLC), when BRAC International divested its holding. In May 2017, LDFP raised additional capital amounting to LKR 1.3 Bn by way of a rights issue which was fully subscribed by LOLC. Post the rights issue, LOLC became the largest shareholder with a 55.6% holding, while CLC held 44.3% share.  LDFP is a licensed finance company and it is in the business of providing group microfinance, micro lease and individual loans to its customers.

During the FY2019, LDFP reported a loss of LKR 154 Mn on a total asset base of LKR 13.8 Bn compared to a net profit of LKR 362 Mn on a total asset base of LKR 16.5 Bn in the corresponding period of the previous fiscal. The Company reported a net profit of LKR 53 Mn during HIFY2020 on a total asset base of LKR 16.1 Bn in Sep-19.

Key financial indicators-LDFP

In LKR Mn	FY2018	FY2019	HIFY2019 (Unaudited)	HIFY2020 (Unaudited)
Net Interest Income	2,807	2,750	1,492	1,192
Profit after Tax	362	(154)	(34)	53
Net worth	2,826	2,559	2,766	2,616
Loans and Advances	13,529	11,134	11,775	13,054
Total Assets	16,494	13,839	14,380	16,071
Return on Equity	18.32%	-5.71%	-2.44%	4.12%
Return on Assets	2.46%	-1.01%	-0.44%	0.71%
Gross NPA	1.64%	7.44%	5.18%	7.71%
Net NPA	-0.89%	-0.70%	-1.45%	-0.32%
Capital Adequacy Ratio	20.84%	15.16%	16.30%	13.54%
Gearing (times, adjusted for revaluation reserves)	4.70	4.29	3.98	5.02

Rating history for the last three years

ANALYST CONTACTS

Mr. Dasith Fernando +94 11 4339907 dasith@icralanka.com	Mr. Rasanga Weliwatte +94 11 4339907 rasanga@icralanka.com
Mr. A.M Karthik +91 44 45964308 a.karthik@icraindia.com

RELATIONSHIP CONTACT

Mr. W. Don Barnabas   +94 11 4339907 wdbarnabas@icralanka.com