August 1, 2017 / 12:37 PM / 22 days ago

Fitch: WAEMU Banks Face Struggle to Meet New Capital Rules

(The following statement was released by the rating agency) LONDON, August 01 (Fitch) Many banks in West African Economic and Monetary Union (WAEMU) countries will likely struggle to meet new regulatory capital requirements being phased in from January 2018, Fitch Ratings says. The rules, adopted by the region's council of ministers in line with the international Basel 2 framework, will move banks closer to international standards and strengthen their creditworthiness. But concentrated exposures to single-name borrowers will probably remain a weakness. The WAEMU countries are Benin, Burkina Faso, Cote d'Ivoire, Guinea-Bissau, Mali, Niger, Senegal and Togo. By end-2022, WAEMU banks will have to meet a minimum common equity tier 1 capital ratio of 7.5% and a minimum total capital ratio of 11.5%, both inclusive of a 2.5% capital conservation buffer. Additional systemic and countercyclical capital buffers, yet to be defined, will also be required. This implies a significant step-up from the 8% minimum total capital ratio under the existing Basel 1-based approach. The denominator in these ratios will also change, due to the move to Basel 2 risk-weighted assets. The direction and magnitude of change will depend on banks' risk exposures, but the overall impact of the new framework will be significantly higher capital requirements in aggregate. Banks below the 7.5% minimum common equity (plus conservation buffer) tier 1 ratio will face dividend restrictions, with banks reporting the weakest ratios forced to retain all their earnings. This will help build capital, but we expect many banks will start with considerable shortfalls relative to the 11.5% minimum total capital ratio. The IMF says only 80% of the region's 102 banks met the Basel 1 minimum total capital ratio of 8% at end-June 2016. Some banks may have to raise equity, merge with stronger banks or alter their mix of risk-weighted assets to address shortfalls. Hybrid debt issuance is unlikely to be a solution, given the lack of debt markets. We calculate that total equity for the region's banks represented 8.1% of total assets at end-2015, based on the most recent data available from the region's banking regulator, Banque Centrale des Etats de l'Afrique de l'Ouest. This indicates fairly weak capital, particularly given the country risks, volatile operating environments, concentrated exposures to single-name borrowers and high levels of impaired loans. According to the regional regulator, impaired loans were 11.6% of gross loans at end-2015; the IMF reported a figure of 15.6% at end-September 2016. In our view, impaired loans are likely to be understated in WAEMU countries because public sector loans are rarely classified as impaired and loan classification is flexible in some countries. High exposure to single-name borrowers undermines WEAMU banks' capital adequacy, with single large exposure limits set at 75% of regulatory capital, far higher than under the international Basel framework (25% of tier 1 and tier 2 capital). IMF data shows only 65% of banks were compliant with the 75% limit at end-June 2016. A limit of 75% means banks can be highly exposed to losses from the failure of a single counterparty. Our experience of rating sub-Saharan African banks shows the largest risks can be extremely high. The top 20 risks can represent 70%-80% of total loans and the largest borrowers can bump up against the 75% regulatory capital limit. High single-name exposures reflect the credit demand from large corporates and public sector companies relative to the size of the banking sectors, underdevelopment of retail lending and banks' reluctance to lend to SMEs, which they consider more risky. While the 75% limit is set to be reduced, we do not expect these factors to change significantly in the near term and it will be difficult for banks to reduce concentration risk. Contact: Janine Dow Senior Director, Financial Institutions +44 20 3530 1464 Fitch Ratings Limited 30 North Colonnade London E14 5GN Mahin Dissanayake Director, Financial Institutions +44 20 3530 1618 David Prowse Senior Analyst, Fitch Wire +44 20 3530 1250 The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings. Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: peter.fitzpatrick@fitchratings.com. Additional information is available on www.fitchratings.com ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. 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