The Azerbaijani government's support for the troubled International Bank of Azerbaijan (IBA) has amounted to 27% of the country's 2016 GDP, Fitch Ratings wrote in a statement on August 4.
In the statement, the ratings agency reaffirmed Azerbaijan's foreign- and local-currency issuer default rating at 'BB+' with a negative outlook. It noted that the country's strong external balance sheet and low overall debt levels hang in the balance given its weak banking sector, underdeveloped and unpredictable policy framework, low governance indicators and overreliance on hydrocarbons.
In early May, state-owned IBA defaulted on $3.3bn worth of foreign obligations. The development came as a shock to its creditors and the holders of its eurobonds, because the bank had already been rescued from the brink of default in 2015 by the government and because creditors had received verbal assurances from Baku that the government would honour the bank's obligations. IBA filed for and was granted bankruptcy protection in the US.
The bank's largest creditor, Cargill Trade Finance, which is owed $715mn, was considering suing the bank before it obtained legal protection, the Minnesota Star Tribune revealed on August 5 after viewing court documents.
IBA eventually proposed and, in July, got approval for a plan to restructure its debt by swapping its obligations for sovereign ones, extending maturity terms and reducing interest rates.
In its rating update, Fitch Ratings notes that its analysts are "uncertain whether the current restructuring will be sufficient" because of the overall depressed operating environment in the banking sector.
Following a steep depreciation of the Azerbaijani manat in 2015-2016, the Azerbaijani banking sector sank into crisis. Eleven lenders had their licences revoked in 2016 and as many as a dozen others are said to be struggling with non-performing loans (NPLs) and insufficient capitalisation. The rate of NPLs as a percentage of total lending hit 24% at end-June, Fitch writes, while the capital adequacy ratio was a low 11.8%, below the minimum 12% ratio mandated by law.
The restructuring of IBA's foreign obligations will result in reputational damage to Azerbaijan and is likely insufficient to restore its financial health, the report continued, though a healthier IBA could play an important role in bolstering economic growth.
Meanwhile, the IBA debt restructuring will probably result in a reduction in Azerbaijan's net foreign assets from 81.1% of GDP at end-2016 to 65% at end-2017. Azerbaijan's external balance, fuelled by oil and gas exports, remains strong compared to its peers, despite the drop in oil and gas prices.
Sovereign wealth fund Sofaz had assets worth $34.8bn at end-June, amounting to 88% of GDP, and the country's current account returned to surplus for the first time since 2015 during the first quarter.
The Azerbaijani banking sector is further at risk from a high rate of dollarisation, which stood at 75% in May, the report concluded.