Fitch Ratings Lanka has today affirmed Standard Chartered Bank, Sri Lanka Branch's (SCBSL) National Long-term rating at 'AAA(lka)'. The Outlook is Stable. SCBSL's rating reflects the financial strength of, Standard Chartered Bank PLC (SCB), of which SCBSL is a branch and part of the same legal entity. SCB is rated 'A+'/Stable, which is higher than Sri Lanka's foreign currency IDR of 'B+'/Negative. SCBSL accounted for 0.3% of SCB's total assets at FYE08.

In FY08, SCBSL entered into oil derivative contracts with Ceylon Petroleum Corporation (CPC), a state-owned entity. The contracts were drawn up under ISDA documentation standards and the Sri Lanka branch was a signatory in keeping with regulatory requirements. In Q408 CPC suspended payments on these contracts pending an inquiry by the Monetary Board of Sri Lanka into the legality of these contracts. SCBSL has classified these dues, about LKR18bn until the expiration of contracts in July 2009, for capital adequacy purposes as non-performing assets; as such the bank's total and core capital adequacy ratios fell to 11.3% and 10.7% respectively at Q109 (FYE07: 15.6% and 17.3%). Fitch notes that capital adequacy could deteriorate further depending on SCBSL's and the regulator's provisioning policy in relation to these dues. No provision had been made on these dues at Q109.

The full impact on SCBSL's capital position is yet to be seen as both SCBSL and CPC are currently in the midst of legal proceedings in relation to this payment. Fitch notes that in the event the outcome of these proceedings results in a non-payment, or the court decision is preceded by an increase in provisioning, the capital base of SCBSL would not be sufficient in withstanding a write-down of these dues. Nevertheless, Fitch is of the view that timely support would be available from SCB to meet creditor and depositor obligations, if required. Any support, however, is dependent on any regulatory restrictions or delays in remitting money into Sri Lanka, none of which is envisaged at the moment.

The significant capital adequacy impact of the high CPC exposures, together with limited lending opportunities in the prevailing economic environment, have contributed to a 9.6% contraction in SCBSL's loan book (excluding CPC) in Q109. Fitch expects loan growth to remain constrained in FY09 on account of this exposure and its impact on capital.

SCBSL is funded mainly by deposits which have proved to be stable despite negative publicity to the local branch in Q408 on account of these transactions. Rupee and foreign currency liquidity have remained healthy with the bank reporting a statutory liquid asset ratios of 32.5% and 33.6% at its domestic and off-shore banking unit, respectively, at H109.

Pre-tax profit increased 39% to LKR5,302m in FY08 driven by non-recurring fee income and higher margins in a previously rising interest rate environment. However, higher effective tax rates in the bank sector resulted in a post-tax profit increase of just 8%. Lower margins, driven by the bank's large non-performing CPC exposure together with lower levels of non-interest income could result in lower returns on assets for SCBSL in FY09.

SCBSL commenced operations as a licensed commercial bank in 1892. It is the second-largest foreign bank in the country with an asset base of LKR104.6bn at end-Q109.]