OREANDA-NEWS. Fitch Ratings has assigned Russia-based VSK Insurance Joint Stock Company's (VSK) Insurer Financial Strength (IFS) rating at 'BB-' and National IFS rating at 'A+ (rus)'. The Outlooks are Stable.

KEY RATING DRIVERS

The ratings reflect VSK's strong operating profitability, supported by investment returns, and the adequate quality of its investment portfolio. The ratings also factor in the insurer's weak risk-adjusted capital position and its high exposure to a single line with a deteriorating loss ratio (motor third party liability insurance - MTPL), somewhat weak liquidity position and uncertain financial flexibility.

VSK's capitalisation, as measured by Fitch's Prism factor-based capital model (Prism FBM), is below 'somewhat weak' based on 2014 and 2015 results. Its capitalisation strengthened modestly in 2015, due to higher net profit on the back of RUB1.6bn FX gains, which helped to support a 28% growth in VSK's insurance portfolio.

Fitch does not expect 2016 to see a notable strengthening in capitalisation as VSK continues to increase its business volumes and the expired months of 2016 do not point to a repeat of significant one-off income items. The acquisition of a local small insurer, BIN Insurance, in July 2016 may have a moderate negative impact on VSK's risk-adjusted capital position. From a regulatory perspective, VSK's capital is stronger with a Solvency I-like margin of 193% at end-1H16.

VSK has seen a sound improvement in its operating profitability as it reported a return on equity of 32% for 2015, up from 18% in 2014 (a five-year average of 8% in 2011-2015). This improvement was driven by strong investment income, which offset moderate underwriting losses in 2012-2015. The net result for 2015 was exceptionally strong due to FX gains on investments. VSK has been generating negative underwriting result in the last six years, with a combined ratio averaging 103%, although the figure has slowly improved to 101% in 2015.

Although the insurer has been improving its underwriting performance, Fitch notes a growing imbalance in VSK's business mix. The insurer nearly doubled the MTPL portfolio in 2015 as its share in net written premiums (NWP) increased to 40% from 23%. Although many motor underwriters recorded growth of their MTPL business due to increased MTPL rates by the regulator from 4Q14 and 2Q15, Fitch believes VSK has pursued a more aggressive growth strategy in MTPL than some other market participants. VSK's market share in the number of policies issued grew to 8.8% at end-1Q16 from 5.5% at end-4Q14.

In line with the sector, VSK's MTPL loss ratio deteriorated sharply throughout 2015. Based on VSK's in-house actuarial assessment, the loss ratio for the floating year ended in March 2016 stood at 77%, up from 62% a year earlier. Based on the company's 6M16 reporting, Fitch expects the weight of MTPL in VSK's portfolio to see further moderate growth for 2016.

Motor damage, which represented VSK's second-largest line at 28% of NWP in 2015, helped offset the deteriorating MTPL performance in 2015. The line's loss ratio improved to 64% in 2015, from an average of 84% in 2011-2014. This improvement was also in line with some of the insurer's peers.

VSK also writes a wide range of other lines, including commercial property and liabilities, homeowners' properties, health and accident insurance. Non-motor lines saw their share in VSK's NWP fall to 32% in 2015, from 41% in 2014. The loss ratio of the non-motor portfolio moderately deteriorated to 52% from 47% in the same period.

VSK's liquidity position remains weak, but is gradually improving, with the liquid assets-to - net technical reserves ratio at 85% at end-2015, versus 73% at end-2014.The average credit quality of VSK's investment portfolio was strong for the rating level.

VSK's investment and cash management policy has been largely determined by the credit facility extended by Sberbank of Russia (BBB-/Negative) to VSK's shareholder. Given the termination of this credit facility with Sberbank and the recent change in VSK ownership, VSK may review its cash management and investment strategy, particularly as Sberbank has not been providing significant distribution capabilities to the insurer.

VSK's beneficiary individual owner sold 45% of the insurer to Safmar Group in July 2016. Safmar is a diversified group with assets in the banking sector, construction, oil and gas, and other industries.

Fitch believes VSK's majority shareholder has rather limited financial flexibility to support VSK in case of need, as the insurer is the shareholder's key operating asset. On the other hand, Fitch believes that Safmar's ability and willingness to provide capital support to VSK is to some extent constrained by the group's minority stake in VSK and the insurer's consequently lower priority as capital recipient within the group, particularly taking into account the forthcoming merger of weak banks within the group.

RATING SENSITIVITIES

A downgrade could be triggered by increased exposure to MTPL, further deterioration of its loss ratio, or a weakening of VSK's operating performance leading to capital erosion as measured by Fitch's Prism FBM. A downgrade may also result from material deterioration in investment or liquidity risks.

An upgrade could be triggered by a profitable diversification of the insurance portfolio, or notable strengthening in VSK's risk-adjusted capital position, although Fitch sees the latter as a remote prospect over the medium term.