Covenant breaches could affect the availability and cost of funding for Cambodian banks. In our view, the large banks we rate will ride this out, but if the current tolerance for covenant waivers abates, it could hurt smaller and weaker banks.
What's Happening
Three large Cambodian financial institutions have breached covenants on their borrowings in 2023. Institutional lenders typically require borrowers to maintain certain financial ratios, most commonly the NPL ratio. Asset quality ratios deteriorated in 2023 because of a slower recovery in key sectors such as construction, real estate, and hospitality. Delays in recognition of weak loans and sluggish loan growth also contributed.
The spike in NPLs (see chart 1) has exhausted the buffers that these banks had between the actual financial ratios and the covenant levels, leading to breaches. Among large financial institutions, ACLEDA Bank Plc, Hattha Bank Plc and LOLC (Cambodia) PLC, have breached their covenants. We expect the number of banks facing breaches could be higher than this, given that many smaller banks have reported an even sharper rise in NPLs and may be at higher risk of covenant breaches.
Chart 1
Why It Matters
Covenant breaches could affect the availability and cost of funding for Cambodian banks. Lenders could demand immediate repayments or higher spreads for the heightened credit risk. That said, breaches are occurring at a time when liquidity in the system is high and the need for funds low because the banks remain cautious about lending. This has alleviated some funding pressure.
Moreover, we expect rated Cambodian banks such as ACLEDA and subsidiaries of strong foreign parents to weather this episode with no major dent on their financials. They have, or are in the process of, negotiating waivers or relaxations on key financial covenants to cope with current economic conditions. While the process is taking time, our base case is that institutional lenders including multilateral agencies that lend to these banks will provide waivers and continue to maintain existing lines.
What Comes Next
We forecast that NPLs in Cambodia's broader financial system will continue to increase to 7.5%-8% of total loans in 2026. The initial wave of post-pandemic covenant breaches has been generally manageable, and lenders appear amenable to waivers. Overseas lenders, particularly international commercial banks, might be less tolerant of repeated and subsequent breaches. Such a situation could arise if the economy and the stressed sectors to which banks are most exposed struggle to recover. In such a scenario, smaller and weaker financial institutions could face a funding crunch and may be marginalized or in case of an extreme stress, fail.
Related Research
- Cambodian Banks: The Struggle Is Real, July 17, 2024
This report does not constitute a rating action.
| Primary Credit Analysts: | Ivan Tan, Singapore + 65 6239 6335; ivan.tan@spglobal.com |
| Deepali V Seth Chhabria, Mumbai + 912233424186; deepali.seth@spglobal.com | |
| Ruchika Malhotra, Singapore + 65 6239 6362; ruchika.malhotra@spglobal.com | |
| Secondary Contact: | Geeta Chugh, Mumbai + 912233421910; geeta.chugh@spglobal.com |
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