MARC has affirmed Kuwait Finance House (Malaysia) Berhad's (KFHMB) long-term and short-term financial institution (FI) ratings of AA+/MARC-1 and concurrently affirmed the FI ratings of AAA/MARC-1 on its parent bank, Kuwait Finance House K.S C. (KFH) based on public information. The outlook on the ratings is stable. KFHMB’s long-term rating is notched down from that of its parent bank, premised on MARC’s expectation of a very high likelihood of parental support, stemming from KFHMB’s position as a strategically important subsidiary and from the parent bank’s past record of extending support to the subsidiary. The rating agency also considers the risk of potential removal of parental support as low in view of the importance attached to KFHMB as KFH’s growth vehicle in the region.

KFHMB’s financial profile exhibits a strong capital position and improved profitability but remains moderated by asset quality weakness. The bank’s financing portfolio rebounded strongly with an annualised growth rate of 9.5% for the first half of the financial year ended June 2014 (1HFY2014), following financing contractions in FY2011 and FY2012. MARC notes that the credit expansion phase began in FY2013 following the completion of business consolidation and restructuring exercises. Credit growth has now been directed to business financing, particularly to construction, real estate and trading and manufacturing segments; KFHMB has also added two branches in 1H2014 to a total of 15 (2013: 13) to support its expansion.

KFHMB registered a net profit of RM94.4 million in FY2013 (FY2012: RM63.5 million) on the back of significant write-back of impairments on financing, advances and other receivables amounting to RM108.1 million (2012: RM14.5 million). The bank continues to have a high cost structure as reflected by its cost-to-income ratio of above 70%. In 1H2014, net profit was RM46.6 million (1H2013: RM56.1 million) as the increase in financing income was offset by lower non-financing income and lower write-backs. KFHMB’s asset quality remains weak as evident in its high gross impaired financing ratio of 7.5% as at end-June 2014 (Islamic banking industry average: 1.3%), although there has been a gradual decline in outstanding impairments (FY2013: 10.6%). For 1H2014, outstanding impaired financing declined to RM513.4 million (end-2013: RM690.6 million). Nonetheless, the bank’s financing loss coverage ratio level of 79.8% remains below the Islamic banking industry average of 126.6% during the same period.

As at end-1H2014, KFHMB’s Tier 1 and total capital ratios remains strong at 16.7% and 19.9% respectively despite a decline from the previous year (2013: 17.4%; 21.2%). The decline was due to higher risk-weighted assets (RWA) stemming from the bank’s financing growth and a lower capital base of RM1,555.1 million (end-2013: RM1,569.1 million) which is attributed to the treatment of the Subordinated Murabahah Tawarruq of US$100 million as non-Basel III-compliant Tier II instruments. However, following the recent approval obtained from Bank Negara to recognise the Subordinated Murabahah Tawarruq as a Basel III-compliant instrument, the Subordinated capital was reinstated to its full amount in September 2014.
 
MARC observes that KFHMB has a significantly high gross financing-to-deposit ratio of 139.1% as at end-1HFY2014 against the Islamic banking industry’s average of 83.0%. Nonetheless, liquidity concerns are somewhat moderated by the Subordinated Murabahah Tawarruq from its parent, which is an important source of liquidity for KFHMB.

The affirmed ratings and stable outlook on parent KFH incorporates MARC’s expectation of ready and timely support from the Kuwaiti government, given the bank’s systemic importance to Kuwait’s banking system; KFH has leading domestic market share in financing and deposits. These factors notwithstanding, KFH’s recent financial performance has been weighed down by the challenging environment in the Middle East countries where it predominantly operates. Its gross financing contracted by 2.0%, and at the same time, impairment rate rose to 12.2% in 2013. With a view of reducing KFH’s reliance on the Middle East region for growth, financing to outside of the region has increased, standing at 45.3% of total financing in FY2013 compared to 23.2% in FY2012. 

In tandem with the contracted financing portfolio, KFH’s financing income declined by 0.4% to KWD571.4 million in FY2013. This was, however, offset by the 19.6% increase in its non-financing income, particularly from realised gains in the sale of real estate properties as well as higher fees and commissions. As a result, total income increased by 7.3% to KWD996.2 million.

MARC understands that the recent change in key personnel at KFHMB will have no bearing on the bank’s operations and business strategy. The ratings and outlook of KFHMB are dependent on KFH. Any weakening in parental support from KFH and/or dilution in ownership would result in the lowering of KFHMB’s ratings.

Contacts:
Sonia Lim, +603-2082 2267/ sonia@marc.com.my;
Oo Chin Kai, +603-2082 2260/ chinkai@marc.com.my;
Sharidan Salleh, +603-2082 2254/ sharidan@marc.com.my.