The challenges facing Saudi Arabia’s construction sector pose risks for banks, including rising nonperforming loans and higher provisioning costs, a Moody’s report claims.
The sector has been hard hit by tough economic conditions brought about by low oil prices in the past two years, and the project pipeline has substantially reduced.
Some of the kingdom’s biggest construction players, most notably Saudi Binladin Group and Saudi Oger, have been crippled by slow government payments and are struggling to pay workers’ salaries.
Moody’s report, entitled ‘Banking - Saudi Arabia: Challenges in the Saudi Construction Sector Pose Risks for Saudi Banks’, notes that the shorter pipeline and rising indebtedness is having a negative impact on the country’s banks.
It notes that Saudi banks’ exposure to the building and construction sector increased by 19.7 percent year on year as of June 2016. This is well above the 8.9 percent increase in total bank credit over the same period “and has contributed to a material increase in the sector’s indebtedness”.
The percentage of non-performing loans (NPLs) associated with the building and construction sector is already the highest when compared to other sectors, at 3.1 percent of gross loans as of the end of 2015, up from 2.8 percent the previous year, versus a total reported NPL ratio of 1.2 percent, Moody’s said.
It said it expected Saudi banks to face increased problem loans – expected to rise to 2.5 percent of gross loans in 2017 – and higher provisioning costs, over the next 12 months.
“The Saudi construction sector has been negatively affected over the last two years by slowing economic activity and fiscal consolidation measures, stemming from a lower oil prices environment,” said Olivier Panis, a vice-president and senior credit officer at Moody’s.
“We expect the pressures to continue as the Saudi government aims to reduce its large fiscal deficit. As a result, the building and construction sector will likely contribute materially to the increase in NPLs at Saudi banks -- we expect NPLs to rise to around 2.5 percent of gross loans in 2017, from around 1.5 percent estimated as of June 2016.”
“The building and construction sector in Saudi Arabia is already the main contributor to NPL formation at Saudi banks over the past five years and we expect this will remain the case in the coming quarters.”
However, Moody’s said it expected “the magnitude of asset quality deterioration to be within the banks’ profit margins”. In addition, the banks’ high capital buffers can absorb a material stress from downside scenarios in the building and construction sector. Loan-loss provisions are strong, representing around 178 percent of reported NPLs, while capital adequacy ratio and Tier 1 ratio stood at 18.3 percent and 16.4 percent respectively as of June 2016.
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