Islamic Finance

Fitch Ratings: Better Performance by Indonesian Islamic Banks but Challenges Ahead

Fitch Ratings-Jakarta-27 February 2019: Fitch Ratings says the Indonesian sharia banking sector's financial performance considerably improved during 9M18, reflected in better asset quality, higher profitability and stronger capitalisation. However, further development of risk management and corporate governance standards is key to improving its competitiveness with conventional banks.

The sector's non-performing financing (NPF) ratio improved to 3.2% (2017: 3.9%), the narrowest gap to conventional banks (2.6%) since 2013. This was mainly due to write-offs of legacy problem assets at the four largest sharia banks, which account for over 50% of the sector's assets. The NPF ratio is based on financing overdue by more than 90 days. 

Profitability improved significantly, reflected in a higher return on assets of 1.5% (2017: 0.8%) owing mainly to lower credit costs as a result of better asset quality. Nevertheless, it remains lower than the conventional banks' average of around 2.0%.

The Islamic banks' total capital adequacy ratio (CAR) rose to 21.3% (2017: 17.9%), helped by better profitability and capital raisings, including IPOs, at a few of the larger banks. This brought the CAR level closer to the conventional banks' average of 22.8%. Liquidity appears manageable, with the sector's financing-to-deposits ratio at 87.4%. This is much lower than the conventional banks' 93.8%.

Fitch expects financing at Indonesia's Islamic banks to continue to increase in double digits in 2019, supported by the sector's improved capitalisation and ample liquidity. However, we expect funding costs and asset quality in the sector to be pressured by higher domestic interest rates, although such challenges should be manageable for most banks.

Indonesia has the largest number of Islamic banks in the world, with a total of 75 banks at end-2018 consisting of 14 Islamic banks, 20 Islamic bank units and 41 Waqf banks. Indonesia's financial regulator, OJK, aims to increase the diversity and availability of sharia-compliant products as part of efforts to enhance financial inclusion. 

In the capital markets, corporate sukuk issuance only accounts for around 4% of the total corporate debt capital market, well below conventional issuance. However, Fitch believes that there is significant growth potential as issuers seek to diversify their funding sources and investors gain greater familiarity with Islamic debt.

Media Relations Contacts:

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