Johannesburg, 31 July 2018 — Global Credit Ratings (“GCR”) has downgraded the long term national scale rating of African Banking Corporation Limited from BBB(KE) to BBB-(KE) and affirmed the short-term national scale rating of A3(KE). The ratings have been placed on ‘Rating Watch’ and are expected to be reviewed by the end of October 2018.
SUMMARY RATINGS RATIONALE
Global Credit Ratings (“GCR”) has accorded the above credit ratings to African Banking Corporation Limited (“ABC”, “the bank”) based on the following key factors:
The downgrade of ABC’s rating from BBB(KE) to BBB-(KE) follows the bank’s sustained weakening in asset quality, diminishing profitability coupled with an eroding capital cushion. Ratings have been placed on watch, and could be lowered again, to reflect the risk that an anticipated capital injection may fail to materialise within the ratings watch period. GCR believes this capital injection could materially improve the capital adequacy of the bank, but the exact timing is uncertain. While upside rating potential is limited, a further weakening in asset quality and a deterioration in capitalisation may result in a negative rating action.
The bank registered a regulatory capital adequacy ratio of 15.1% at FY17 (FY16: 16.0%), 60bps above the regulatory minimum requirement of 14.5%. An increasing risk base, weak internal capital generation, and low loan loss reserving (albeit mitigated by a large amount of property collateral) further raises the risk of further capital deterioration over the next 12months, absent the recapitalisation.
ABC’s risk position deteriorated on the back of a challenging business environment in Kenya, which adversely affected the customers’ ability to service their obligations. NPLs increased to 17.8% at FY17 from 15.4% one year earlier. Additionally, the bank’s loan loss reserving is insufficient, and below the industry average of 43.9%, as reflected by a provisions coverage ratio of 12.3% at FY17. However, GCR notes that reserving improves significantly after factoring in the discounted value of property collateral held.
Classified as a Tier 3 bank in Kenya’s highly fragmented and competitive sector, ABC ranked 23rd at FY17 with a market share by assets of 0.7%. The bank has minimal systemic importance and a perceived competitive disadvantage against larger banks, especially in the structure of its funds. Positively, the bank appears to be addressing the structure and cost of funds, which has fed positively into its net interest margins.
ABC’s net interest income increased by 4.7% at FY17, though profitability for the bank declined as operating expense growth outstripped revenue growth over the year. The bank’s cost to income ratio of 81.7% at FY17 compared unfavorably to peers’ average of 49.7%. As a result, internal capital generation is low, core earnings were less than 0.5% of total assets at FY17. Importantly, we note this is an industry wide stress and profitability remained broadly in line with other Tier 3 banks.
The funding structure of ABC is also in line with that of other Tier 3 banks rated by GCR, with 91.3% of total funds coming from customer deposits. Fixed deposits, which are viewed as a relatively costly source of funding, contributed 73.8% to total deposits at FY17, resulting in above average cost of funding for ABC compared with peers. However, stability of these funds hinges on the bank’s ability to retain customers and the subsequent rollover of the deposits. Positively, the bank’s statutory liquidity ratio of 34.0% at FY17 was well above the regulatory minimum liquidity requirement of 20.0%.
A negative rating action could result from non-materialisation of the expected recapitalisation and/or a further deterioration in capitalisation and/or weakening in asset quality. Upside rating potential is limited, outside the expected capital injection improving capitalisation, alongside improved loan loss reserving and the continuing repositioning of the funding structure.
|NATIONAL SCALE RATINGS HISTORY|
|Initial rating (September 2010)||Last rating (October 2017)|
|Long-term: BBB(KE); Short-term: A3(KE)||Long-term: BBB(KE); Short-term: A3(KE)|
|Rating outlook: Stable||Rating outlook: Rating watch|
|Primary Analyst||Secondary Analyst|
|Simbarake Chimutanda||Nyasha Chikwengo|
|Credit Analyst||Credit Analyst|
|(011) 784-1771||(011) 784-1771|
|Sector Head: Financial Institution Ratings|
APPLICABLE METHODOLOGIES AND RELATED RESEARCH
Global Criteria for Rating Banks and Other Financial Institutions (March 2017)
African Banking Corporation Limited rating reports (2010-17)
RATING LIMITATIONS AND DISCLAIMERS
ALL GCR’S CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://GLOBALRATINGS.NET/UNDERSTANDING-RATINGS. IN ADDITION, GCR’S RATING SCALES AND DEFINITIONS ARE ALSO AVAILABLE FOR DOWNLOAD AT THE FOLLOWING LINK: HTTP://GLOBALRATINGS.NET/RATINGS-INFO. GCR’S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, PUBLICATION TERMS AND CONDITIONS AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE AT HTTP://GLOBALRATINGS.NET.
SALIENT FEATURES OF ACCORDED RATINGS
GCR affirms that a.) no part of the rating process was influenced by any other business activities of the credit rating agency; b.) the ratings were based solely on the merits of the rated entity, security or financial instrument being rated; and c.) such ratings were an independent evaluation of the risks and merits of the rated entity, security or financial instrument.
African Banking Corporation Limited participated in the rating process via face-to-face management meetings and other written correspondence. Furthermore, the quality of information received was considered adequate and has been independently verified where possible.
The credit ratings have been disclosed to African Banking Corporation Limited with no contestation of the ratings.
Information received from African Bank Corporation Limited and other reliable third parties to accord the credit ratings included:
• Audited financial results as at 31 December 2017 (and four years comparative numbers);
• Unaudited management accounts at 31 March 2018;
• Industry comparative data and regulatory framework.
The ratings above were solicited by, or on behalf of, African Banking Corporation Limited, and therefore, GCR has been compensated for the provision of the ratings.
GLOSSARY OF TERMS/ACRONYMS USED IN THIS DOCUMENT AS PER GCR’S FINANCIAL INSTITUTIONS SECTOR GLOSSARY
|Asset||A resource with economic value that a company owns or controls with the expectation that it will provide future benefit.|
|Asset Quality||Refers primarily to the credit quality of a bank’s earning assets, the bulk of which comprises its loan portfolio, but will also include its investment portfolio as well as off balance sheet items. Quality in this context means the degree to which the loans that the bank has extended are performing (ie, being paid back in accordance with their terms) and the likelihood that they will continue to perform.|
|Audit Report||A written opinion of an auditor (attesting to the financial statements’ fairness and compliance with generally accepted accounting principles).|
|Budget||Financial plan that serves as an estimate of future cost, revenues or both.|
|Capital||The sum of money that is invested to generate proceeds.|
|Capital Adequacy||A measure of the adequacy of an entity’s capital resources in relation to its current liabilities and also in relation to the risks associated with its assets. An appropriate level of capital adequacy ensures that the entity has sufficient capital to support its activities and that its net worth is sufficient to absorb adverse changes in the value of its assets without becoming insolvent.|
|Corporate Governance||Refers to the mechanisms, processes and relations by which corporations are controlled and directed, and is used to ensure the effectiveness, accountability and transparency of an entity to its stakeholders.|
|Credit Rating Agency||An entity that provides credit rating services.|
|Credit Risk||The possibility that a bond issuer or any other borrowers (including debtors/creditors) will default and fail to pay the principal and/or interest when due.|
|Debt||An obligation to repay a sum of money. More specifically, it is funds passed from a creditor to a debtor in exchange for interest and a commitment to repay the principal in full on a specified date or over a specified period.|
|Diversification||Spreading risk by constructing a portfolio that contains different investments, whose returns are relatively uncorrelated. The term also refers to companies which move into markets or products that bear little relation to ones they already operate in.|
|Equity||Equity (or shareholders’ funds) is the holding or stake that shareholders have in a company. Equity capital is raised by the issue of new shares or by retaining profit.|
|Financial Institution||An entity that focuses on dealing with financial transactions, such as investments, loans and deposits.|
|Financial Statements||Presentation of financial data including balance sheets, income statements and statements of cash flow, or any supporting statement that is intended to communicate an entity’s financial position at a point in time.|
|Impairment||Reduction in the value of an asset because the asset is no longer expected to generate the same benefits, as determined by the company through periodic assessments.|
|Interest||Scheduled payments made to a creditor in return for the use of borrowed money. The size of the payments will be determined by the interest rate, the amount borrowed or principal and the duration of the loan.|
|Liquid Assets||Assets, generally of a short term, that can be converted into cash.|
|Liquidity||The speed at which assets can be converted to cash. It can also refer to the ability of a company to service its debt obligations due to the presence of liquid assets such as cash and its equivalents. Market liquidity refers to the ease with which a security can be bought or sold quickly and in large volumes without substantially affecting the market price.|
|Liquidity Risk||The risk that a company may not be able to meet its financial obligations or other operational cash requirements due to an inability to timeously realise cash from its assets. Regarding securities, the risk that a financial instrument cannot be traded at its market price due to the size, structure or efficiency of the market.|
|Long-Term||Not current; ordinarily more than one year.|
|Long-Term Rating||Reflects an issuer’s ability to meet its financial obligations over the following three to five year period, including interest payments and debt redemptions. This encompasses an evaluation of the organisation’s current financial position, as well as how the position may change in the future with regard to meeting longer term financial obligations.|
|Margin||The rate taken by the lender over the cost of funds, which effectively represents the entity’s profit and remuneration for taking the risk of the loan; also known as spread.|
|Maturity||The length of time between the issue of a bond or other security and the date on which it becomes payable in full.|
|National Scale Rating||Provides a relative measure of creditworthiness for rated entities only within the country concerned. Under this rating scale, a ‘AAA’ long term national scale rating will typically be assigned to the lowest relative risk within that country, which in most cases will be the sovereign state.|
|Performing Loan||A loan is said to be performing if the borrower is paying the interest on it on a timely basis.|
|Provision||The amount set aside or deducted from operating income to cover expected or identified loan losses.|
|Rating Outlook||Indicates the potential direction of a rated entity’s rating over the medium term, typically one to two years. An outlook may be defined as: ‘Stable’ (nothing to suggest that the rating will change), ‘Positive’ (the rating symbol may be raised), ‘Negative’ (the rating symbol may be lowered) or ‘Evolving’ (the rating symbol may be raised or lowered).|
|Risk||The chance of future uncertainty (i.e. deviation from expected earnings or an expected outcome) that will have an impact on objectives.|
|Risk Management||Process of identifying and monitoring business risks in a manner that offers a risk/return relationship that is acceptable to an entity’s operating philosophy.|
|Securities||Various instruments used in the capital market to raise funds.|
|Security||An asset deposited or pledged as a guarantee of the fulfilment of an undertaking or the repayment of a loan, to be forfeited in case of default.|
|Shareholder||An individual, entity or financial institution that holds shares or stock in an organisation or company.|
|Short-Term||Current; ordinarily less than one year.|
|Short-Term Rating||An opinion of an issuer’s ability to meet all financial obligations over the upcoming 12 month period, including interest payments and debt redemptions.|
|Tier 2 Capital||Secondary capital is mainly made up of subordinated debt, portfolio impairment and 50% of any revaluation reserves and other specified regulatory deductions.|
For a glossary of terms please click here
GCR downgrades African Banking Corporation Limited’s rating to BBB-(KE); Rating Watch.