Sri Lanka Insurance ‘CCC+’ rating confirmed, new Grand Hyatt investment to weaken RBC

ECONOMYNEXT – Fitch Ratings has confirmed a ‘CCC+’ rating of state-run Sri Lanka Insurance Corporation saying proposed ‘super gains tax’ will reduce profits and a 6 billion rupee investment in Grand Hyatt will reduce risk based capital ratios.

Sri Lanka Insurance had strong risk based capital (RBC) ratios of of 434 percent for life and 241 percent for non-life which were above industry average and regulatory requirements.

“Fitch believes SLIC’s additional investment of LKR6 billion in the Grand Hyatt project, as directed by the Sri Lankan government, will weaken the RBC ratios,” the rating agency said.

“…[H]owever, the impact will be manageable because of the insurer’s large total available capital base.”

SLIC had invested two billion rupees out of the six by May 2021.

The Grand Hyatt project was one of several private firms expropriated by the government in 2011, undermining Sri Lanka’s investment framework.

Fitch Affirms Sri Lanka Insurance Corporation’s IFS Ratings at ‘CCC+’/’AA(lka)’

Fitch Ratings – Colombo/Sydney – 24 Nov 2021: Fitch Ratings has affirmed the Insurer Financial Strength (IFS) Rating of Sri Lanka Insurance Corporation Limited (SLIC) at ‘CCC+’. Fitch typically does not apply Outlooks to ratings in the ‘CCC’ category or below.

The agency has simultaneously affirmed SLIC’s National IFS Rating at ‘AA(lka)’ with a Stable Outlook.

KEY RATING DRIVERS

SLIC’s ratings reflect its ‘Favourable’ business profile and its high exposure to sovereign-related investments, equity securities and non-core subsidiaries. The ratings also factor in the insurer’s capital position and financial performance that are better than that of the domestic insurance industry.

Fitch assesses SLIC’s business profile as ‘Favourable’ compared with other Sri Lankan insurance companies because of the leading business franchise, diversified participation and stable business lines across life and non-life insurance sectors, and the large domestic operating scale. SLIC was Sri Lanka’s second-largest life and non-life insurer, based on gross premiums in 1H21 and the largest in terms of total assets. In light of the market rankings, Fitch scores SLIC’s business profile at ‘b-‘ under our credit-factor scoring guidelines on the international rating scale.

SLIC’s high exposure to sovereign and sovereign-related investments caps its investment and asset risk score on the international rating scale at ‘cc’ under Fitch’s credit-factor scoring guidelines. The insurer’s Fitch-calculated risky assets ratio on the international rating scale was 529% in 2020 (2019: 275%), an increase due mainly to the downgrade of the Sri Lankan sovereign rating to ‘CCC’ from ‘B-‘ on 27 November 2020.

SLIC’s regulatory risk-based capital (RBC) ratios of 434% for life and 241% for non-life at end-1H21 were well above the industry average and the 120% regulatory minimum.

Fitch believes SLIC’s additional investment of LKR6 billion in the Grand Hyatt project, as directed by the Sri Lankan government, will weaken the RBC ratios; however, the impact will be manageable because of the insurer’s large total available capital base. The insurer had already invested LKR2 billion out of the total additional requirement of LKR6 billion in May 2021.

Fitch’s Prism Model score dropped one level to ‘Somewhat Weak’ in 2020, from ‘Adequate’ in 2019, due mainly to the increased investment risks on the international rating scale as a result of the downgrade of the sovereign rating. Fitch views SLIC’s Prism Model score as commensurate with the international IFS Rating.

Fitch expects the government’s proposal on 12 November 2021 to introduce a 25% one-off tax on companies with taxable income over LKR2 billion for the fiscal year ended 31 March 2021, if implemented, may put pressure on near-term earnings and limit capital accumulation.

In addition, the government’s proposed introduction in 2022 of the 2.5% social security contribution on annual turnover exceeding LKR120 million, may affect earnings.

SLIC’s underwriting profitability, however, is supported by its scale advantages and prudent underwriting practices. The insurer has consistently maintained its Fitch-calculated non-life
combined ratio below 100% for the past six years. The ratio improved to 88% in 2020 (2019: 95%) before normalising to 98% in 1H21. The improvement in 2020 was due mainly to reduced non-life insurance claims following Covid-19 lockdowns. SLIC’s three-year average return on equity of 10% was satisfactory.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to negative rating action/downgrade:

IFS Rating

– A further increase in SLIC’s investment and asset risks on a sustained basis;

– Significant weakening in SLIC’s business profile, for instance, due to a weaker franchise, operating scale or business risk profile;

– Deterioration in the Fitch Prism Model score to well below ‘Somewhat Weak’ for a sustained period;

– Failure to maintain underwriting profitability for a sustained period.
National IFS Rating

– Significant weakening in SLIC’s business profile, for instance, due to a weaker franchise, operating scale or business risk profile;

– Deterioration in the RBC ratio below 350% for life and 200% for non-life for a sustained period;

– Deterioration in the non-life combined ratio well above 100% for a sustained period.

Factors that could, individually or collectively, lead to positive rating action/upgrade:

IFS Rating

– Significant reduction in SLIC’s investment and asset risks on a sustained basis;

– Sustained maintenance of SLIC’s ‘Favourable’ business profile;

– Maintenance of the Fitch Prism Model score well into the ‘Somewhat Weak’ level on a sustained basis.
National IFS Rating

– Significant reduction in SLIC’s investment and asset risks on a sustained basis while maintaining its ‘Favourable’ business profile and capitalisation at current levels.

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