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Fitch Affirms VTB Georgia; Outlook Negative

December 19, 2008
Fitch Ratings-London/ Moscow-18 December 2008: Fitch Ratings has today affirmed the ratings of JSC VTB Bank (Georgia) (VTB Georgia), including its Long-term Issuer Default rating (IDR) of ‘B+’ with a Negative Outlook and its Individual rating of ‘D/E’. A full list of the bank’s ratings is provided at the end of this announcement.
VTB Georgia's IDRs continue to be driven by potential support from the bank’s largest shareholder, Russian state-controlled JSC Bank VTB (VTB; IDR ‘BBB+’/Outlook Negative), which currently owns a 77.6% stake. In Fitch’s view, VTB would have a strong propensity to support the bank, and the agency has received renewed assurances from VTB of its intention to provide such support following the August Russia-Georgian military conflict. At the same time, Georgian transfer and convertibility risks, as reflected in the Country Ceiling of ‘B+’, limit the extent to which VTB Georgia may be able to receive and utilise this support. The Negative Outlook on the bank’s IDR reflects the Outlook on the Georgian sovereign, and hence the potential for a downgrade of the Country Ceiling.
VTB Georgia’s Individual rating reflects the bank’s small size, high levels of loan impairment under the bank’s previous management, the limited track record of new management, the potential for asset quality and liquidity to deteriorate in a challenging operating environment and the bank’s possible exposure to a renewed escalation of tensions in Russian-Georgian relations.
However, the rating also considers currently reasonable loan impairment reserve coverage and capitalisation and the efforts of new management to strengthen governance and performance. VTB Georgia has also managed to maintain a reasonable liquidity cushion during H208, notwithstanding the sharp deposit outflow it suffered (largely in line with other Georgian banks) during the Russia-Georgia military conflict in August. To date, the conflict does not seem to have had a substantial negative impact on the bank’s franchise or its ability to operate on the Georgian market.
Asset quality is currently weak, with loans overdue by more than 90 days accounting for 9% of adjusted total loans (net of those guaranteed by VTB) at mid-December 2008 (down from 11.8% at end-H108 following write-offs). Fitch has been informed that all of the non-performing loans (NPLs) were granted under the previous management of the bank in 2006-2007, when credit underwriting appeared to have been weak. Fitch considers there to be potential for further deterioration in asset quality as the loan book seasons in a challenging operating environment, although reserve coverage of NPLs of 1.2x in statutory accounts at mid-December 2008 provides some cushion to recognise further impairment. Additional credit risk, as for most other Georgian banks, results from the high proportion of foreign currency lending (72% in end-Q308 statutory accounts).
The recent deterioration in asset quality follows write-offs during 2006-Q108 of GEL63m of loans (equal to around 2.5x end-2005 equity). These loans date back to the 1990s and were discovered to be non-performing following VTB’s acquisition of the bank. During 2007-Q108, a GEL84m recapitalisation (by means of a GEL45m equity injection and GEL39m gains on a securities transaction) was completed to offset these write-offs and more recent loan impairment. As a result, the equity/adjusted net loans ratio in the bank’s end-Q308 statutory accounts stood at a reasonable 21% (regulatory tier 1 ratio 16.9%). In H109, the bank intends to increase its capital by a further USD16m (equal to 56% of end-Q308 equity), although some of the new capital may be contributed as subordinated debt.
The Individual rating could be downgraded if the so far better asset quality record of the bank’s new management turns out to be unsustainable and loan impairment rises in a tough operating environment. Any renewed escalation of tensions in Russian-Georgian relations could also be negative for franchise and deposit stability, although in H208 the impact of such tensions on the bank has been largely manageable. In common with most Georgian banks, any sizeable depreciation of the GEL could also negatively impact both asset quality and deposit stability.
VTB Georgia (formerly United Georgian Bank) is the sixth-largest bank by assets in Georgia, and since January 2005 has been majority-owned by VTB. The European Bank for Reconstruction and Development holds an 8.9% stake. VTB Georgia aims to be one of the leading banks in the country, but market positions have slipped in 2007-9M08 as management has focused on strengthening its balance sheet and implementing management changes rather than achieving growth.

Rating actions as follows:
Long-term Issuer Default rating (IDR): affirmed at ‘B+'; Outlook Negative
Short-term IDR: affirmed at 'B'
Individual: affirmed at 'D/E'
Support: affirmed at '4'
Company — VTB Bank Georgia
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