Al Baraka Islamic Bank’s Ratings Affirmed

(MENAFN- Capital Intelligence Ltd) Capital Intelligence Ratings (CI Ratings or CI) today announced that it has has affirmed Al Baraka Islamic Bank’s (AIB) Long-Term Foreign Currency Rating (LT FCR) and Short-Term Foreign Currency Rating (ST FCR) at ‘B+’ and ‘B’, respectively. At the same time, CI Ratings has affirmed AIB’s Bank Standalone Rating (BSR) of ‘b’, Core financial Strength (CFS) rating of ‘b’ and Extraordinary Support Level (ESL) of Moderate. The Outlook on the LT FCR and BSR remains Stable.

The LT FCR is set one notch higher than the BSR given the moderate likelihood of extraordinary support from the Central Bank of Bahrain (CBB). Although we deem the Bahraini government to be willing to provide extraordinary support (despite AIB’s lack of systemic importance), its financial capacity may be limited as indicated by Bahrain’s sovereign ratings (‘BB-’/‘B’/Negative). The BSR is derived from a CFS rating of ‘b’ and an adjusted Operating Environment Risk Anchor (OPERA) of ‘b+’ − which is lower than the operating environment risk of Bahrain (‘bb-’) − due to the Bank’s considerable exposure to higher risk Pakistan. This exposure is almost exclusively via a foreign self-funding subsidiary Al Baraka Bank Pakistan (ABP).

OPERA is at a level indicative of significant risk and is driven by increased fiscal and external vulnerabilities in Bahrain arising from volatile oil prices, rising public debt, and the erosion of fiscal and foreign reserve buffers. The effects of Covid-19 have put additional strain of public finances, both in Bahrain and Pakistan. Bahrain currently has very limited capacity to absorb economic and financial sector shocks, although the risks are partially mitigated by financial support from other GCC states. Macroeconomic conditions in Pakistan remain difficult, reflecting the limited diversification of the economy, weaker economic growth prospects, limited foreign exchange reserve buffer, and moderately low monetary flexibility.

The CFS rating is primarily supported by AIB’s currently well capitalised balance sheet and comfortable liquidity position − the latter underpinned by customer deposit funding. The major rating constraints are concentrations in government Sukuk (Pakistan and Bahrain), and still weak net and operating profitability, notwithstanding a marginal improvement in the latter. The other credit challenges relate to a comparatively high NPF ratio as well as Stage 2 accounts, with capital impaired to some degree by unprovided NPFs. The difficult operating environments and elevated credit risk exacerbated by Covid-19 in Pakistan and Bahrain is also a rating constraint.

AIB is a relatively small bank with limited market shares of Shari’a compliant assets and deposits in both Bahrain and Pakistan, despite a series of past mergers at ABP. The modestly sized balance sheet and, in turn, limited pricing power renders the business model vulnerable to keen competition in both markets. That said, AIB is an important component of its Bahrain-based parent Al Baraka Banking Group (ABG), which operates Islamic banking subsidiaries across MENA and further afield.

The Bank’s balance sheet is well capitalised, with this remaining a major supporting factor for the ratings despite the modest contribution of CET 1 funds to regulatory capital. AIB had restored the CET 1 ratio and total CAR in 2019 to above CBB statutory requirements. Capital ratios, however, remain vulnerable to FX translation loss as well as potential net loss − the latter a function of AIB’s weak capacity to absorb possible new risk charges through P&L. Market risk exposure is assessed as being significant in the absence of a hedging strategy to mitigate movements in the value of the Pakistani Rupee (PKR).

Despite full retention of limited earnings in recent years, the rate of internal capital generation remains low − having returned to positive territory in 2019 following two successive years of negative rates due to net losses. In this regard, we consider AIB’s capital flexibility vulnerable to possible renewed losses. Moreover, although the parent ABG is considered to be willing to provide support, its capacity to provide higher quality CET 1 funds is uncertain given its own financial constraints. AIB’s leverage ratio of 10.9% at end-2020 remains at a satisfactory level, notwithstanding a decline.

AIB’s satisfactory liquidity is an important supporting factor for the ratings. Liquidity continues to be underpinned by customer deposit funding including the retail variety. The bulk of liquid assets remain deployed in government Sukuk (primarily Bahrain and Pakistan) and this, in of itself, produces high concentration risk. Bahrain government Sukuk can be sold under repurchase agreements with the CBB, while Pakistan sovereign Sukuk is freely traded in the secondary market in Pakistan. However, the actual liquidity available to AIB is considered less than that indicated by headline ratios given exchange controls in Pakistan (alongside the fact that Pakistani deposits cannot be used to fund Bahrain assets).

Customer liabilities – notably equity of investment accountholders (IAHs) − constituted the largest source of funding. Following successive moderate declines over the past, customer deposits grew further in 2020 driven primarily by ABP, which has seen significant customer deposit growth in recent periods. While seeking to pay down expensive corporate and SME deposits, AIB is also focused on gathering cheaper retail funds and reducing historical customer deposit concentrations. Notwithstanding some tightening of financing-based ratios at end 2020 (given faster growth in financings relative to customer deposits), the ratios of net financings to both customer deposits and stable funds remained sound. The Bank’s NSFR and LCR were also at a comfortable level. Although historically there has been a relatively high degree of customer concentration, the Bahrain and Pakistan markets are liquid and deposits can be readily mobilised on the basis of price.

A key rating constraint is AIB’s high and increased concentration of assets in low-rated Pakistan, as well as Bahrain government Sukuk (the former held directly by ABP). Aggregate government Sukuk exposure rose further to a high 2.76x of total equity in 2020, rendering regulatory capital vulnerable to possible impairment charges in the event of a sovereign distress scenario. Despite a recent mild improvement partially due to write-offs, AIB’s NPF ratio remains comparatively high and financing-loss reserve (FLR) cover is just adequate. The ratio of unprovided NPFs to total equity, however, declined to 9% in H1 21. Impaired facilities are broadly split between Bahrain and Pakistan. Meanwhile, given a still significant level of Stage 2 loans – compounded by the prevailing elevated credit risk in Bahrain and Pakistan due to the effects of Covid-19 − CI considers there is a high degree of probability that NPFs are likely to resume growth in H2 21. Financing asset quality pressures are also more than likely to manifest after regulatory forbearance measures expire in December 2021, resulting in potentially higher provision charges.

Despite a marginal improvement in 2019-20 and into H1 21, AIB’s ongoing weak profitability at both the operating and net levels is considered to be a major rating constraint in our view. Although the Bank’s capacity to generate net financing and non-financing income remains just adequate, operating and net profit are adversely impacted by a structurally high cost base. The Bank’s ongoing paltry operating profit renders loss absorption capacity inadequate, with this factor having pushed AIB into net loss in 2017-18. The net financing margin also narrowed in H1 21 and this factor contributed to modest net financing income growth. Although effective cost control has helped lower the cost to income ratio, cost efficiency metrics remains uncompetitive, suggesting additional cost containment measures may be warranted.

Rating Outlook

The Outlook for the LT FCR and BSR is Stable, reflecting our expectation that the ratings will not change over the next 12 months. Notwithstanding ongoing vulnerabilities coupled with the prevailing high credit risk in the Bahraini and Pakistani economies, we expect AIB to maintain asset quality, CAR, liquidity and profitability at broadly current levels.

Rating Dynamics: Upside Scenario

Although not our current expectation, the Bank’s LT FCR and BSR (or Outlook) could be upgraded over the next 12 months in the event profitability at all levels improved significantly with a clear trend established in this regard. AIB will also have to maintain other key financial metrics at more or less current levels.

Rating Dynamics: Downside Scenario

The LT FCR and BSR could be lowered by one (or more) notches over the next 12 months if its credit risk profile deteriorated significantly. This would include any significant setback particularly in relation to asset quality, capital adequacy and liquidity.

About the Ratings

The credit ratings have been issued by Capital Intelligence Ratings Ltd, P.O. Box 53585, Limassol 3303, Cyprus.

The following information source was used to prepare the credit ratings: public information. Financial data and metrics have been derived by CI from the rated entity’s financial statements for FY2016-20 and H1 2021. CI may also have relied upon non-public financial information provided by the rated entity and may also have used financial information from credible, independent third-party data providers. CI considers the quality of information available on the rated entity to be satisfactory for the purposes of assigning and maintaining credit ratings. CI does not audit or independently verify information received during the rating process.

The principal methodology used to determine the ratings is the Bank Rating Methodology, dated 3 April 2019 (see Information on rating scales and definitions, the time horizon of rating outlooks, and the definition of default can be found at Historical performance data, including default rates, are available from a central repository established by ESMA (CEREP) at

This rating action follows a scheduled periodic (annual) review of the rated entity. Ratings on the entity were first released in August 1994. The ratings were last updated in September 2020. The ratings and rating outlook were disclosed to the rated entity prior to publication and were not amended following that disclosure.

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Unsolicited Credit Rating

With Rated Entity or Related Third Party Participation: No
With Access to Internal Documents: No
With Access to Management: No

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