Fitch Ratings - Dubai - 29 Mar 2023: Fitch Ratings has upgraded Wifak International Bank's National Long-Term Rating to 'BB(tun)' from 'BB-(tun)'. The Outlook is Stable. Fitch has also affirmed Wifak's National Short-Term Rating at 'B(tun)'.

The upgrade of Wifak's National Long-Term Rating reflects the bank's improved credit fundamentals, in particular asset quality and profitability metrics. The upgrade also captures a more reasonable funding profile underpinned by increased inflows of deposits in recent years, accompanied by a reduction in funding costs.

 KEY RATING DRIVERS

Wifak's ratings are driven by its standalone creditworthiness. They reflect the bank's small franchise and high growth in the challenging Tunisian operating environment, which significantly weighs on Wifak's asset quality and overall credit assessment. The ratings also factor in the bank's improved profitability, albeit still modest, declining capitalisation, and a reasonable funding and liquidity profile.

Challenging Operating Environment: We expect real GDP growth to have remained moderate at 2.4% in 2022 and that it will slow down to 1.6% in 2023. The banks' operating environment is undermined by high inflation (10.2% in 2023), an unfavourable policy mix, political uncertainties, as well as a weak business climate due to uncertainties around the IMF disbursement of a USD1.9 billion fund facility to Tunisia.

Small Size, Islamic Franchise: Wifak is a small Islamic bank in Tunisia, with only 1% of system assets at end-2022. The bank has diversified away from its legacy leasing business (Ijara; equal to 41% of total financing at end-1H22) towards cost-plus financing (Mourabaha; 57%). It mainly focuses on non-retail customers, while also aiming to strengthen its retail franchise through continued expansion of its branch network and digital channels.

Heightened Risk Profile: Wifak's risk profile is inherently high given the challenging operating environment in Tunisia, the bank's high appetite for growth, and its focus on SMEs. However, we note Wifak's risk controls have improved in recent years through increased supervision of individual branches and centralised underwriting. The bank's high financing growth (CAGR of 25% since 2017) adds to asset quality seasoning risks but has also contributed to improved operating performance.

Asset Quality Improved; Remains Vulnerable: Wifak's impaired exposures (including off balance sheet) were a sizeable 8% of total exposures at end-2022, which is still below the sector average of 13%. Wifak's ratio has consistently reduced over the last four years owing to high growth, recoveries and write-offs. The bank's assets remain fundamentally vulnerable given the difficult operating conditions, while modest coverage of impaired financing (54% at end-1H22) will likely require extra provisioning in case of a prolonged deterioration in macro conditions.

Modest But Improving Profitability: Wifak's operating profit notably improved to around 0.5% of risk-weighted assets (RWAs) in 2021-2022 after a few years of net losses. Profitability was supported by a strong increase in the net financing margin in line with higher rates, stronger business volumes and higher non-financing income. The bank's operating performance can exhibit volatility depending on the level of impairment charges. These have historically fluctuated between 1.0%-1.5% of average financing.

Vulnerable Capitalisation: Wifak's Fitch Core Capital (FCC) ratio, which is similar to its regulatory Tier 1 ratio, reduced to 12.4% at end-2022 from above 20% at end-2018 due to high growth and modest internal capital generation. We believe the ratio will likely decline further considering ambitious growth plans but the bank aims to maintain it at around 10%. A sizeable stock of unreserved impaired exposures (28% of FCC at end-1H22) also weighs on our assessment of Wifak's capitalisation.

Reasonable Funding and Liquidity: Wifak's customer deposits were 70% of liabilities at end-2022, comprising a high portion of current and savings accounts. The Fitch-calculated financing/deposits ratio of 111% at end-2022 was in line with the market average. Highly liquid assets, net of wholesale funding maturing within the next 12 months, covered 16% of total deposits, which is only moderate. In case of need, the bank could raise additional liquidity (equal to another 17% of total deposits) from the central bank through its un-utilised secured funding facility.

RATING SENSITIVITIES

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

A downgrade would follow a deterioration of Wifak's FCC ratio to below 10% without a credible path to sustainably restore it above that threshold. This could come from aggressive growth rates that are not adequately compensated by internal capital generation. A sharp increase in Wifak's impaired financing ratio towards market-average levels would also weigh on its ratings.

A downgrade of the Tunisian sovereign would not necessarily affect the National Ratings because Wifak's credit profile relative to other Tunisian issuers may be preserved.

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

We see potential for the ratings to be upgraded over the next few years provided the bank improves economies of scale and keeps reasonable control of asset quality risks. An upgrade would also require an improvement in the bank's operating profit to consistently above 1% of RWAs and a build-up of the core capital ratio to sustainably above 13%.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

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