Fitch Ratings has downgraded Sri Lankaâs Long-Term Local-Currency (LTLC) Issuer Default Rating (IDR) to âCâ from âCCâ. The issue ratings on local-currency bonds have also been downgraded to âCâ from âCCâ. The Long-Term Foreign-Currency (LTFC) IDR has been affirmed at âRDâ (Restricted Default) and the Country Ceiling at âB-â.
The downgrade of Sri Lankaâs LTLC IDR reflects Fitchâs view that a sovereign local-currency debt restructuring process has begun, as parliament approved the governmentâs domestic debt restructuring plan on 1 July. On 4 July, the authorities launched a formal exchange offer to bondholders for those bonds that are eligible for the restructuring.
The debt restructuring announcement outlines a domestic debt optimisation (DDO) strategy, which includes treatment of Sri Lankaâs domestic debt as well as domestically issued foreign-currency debt. The key elements of the DDO includ: conversion of CBSLâs T-bills and provisional advances to the government into treasury bonds (T-bonds); exchange of superannuation fundsâ T-bonds into longer maturity T-bonds; exchange of outstanding Sri Lanka development bonds (SLDBs), which are US-dollar denominated but governed by local law, into new US dollar or Sri Lankan rupee instruments; and, restructuring of local-law foreign-currency denominated bank loans of the government.
The debt restructuring excludes banksâ holdings of Sri Lankan rupee-denominated treasury securities, but bank holdings of SLDBs will be affected.
In Fitchâs view, the proposed DDO will qualify as a distressed debt exchange (DDE) under our criteria, as it entails a material reduction in terms and is needed to avoid a traditional payment default. We will downgrade the LTLC IDR to âRDâ upon closing of the exchange offer and following confirmation that the exchange will be executed. The government plans to complete the exchange within July.
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