Fitch Ratings has affirmed United Bank for Africa (UBA) Plc’s ratings, including the Long-Term Issuer Default Rating (IDR) at ‘B’, and removed them from Rating Watch Negative (RWN). The Outlook is Stable. A full list of rating actions is below.
The removal of the RWN on UBA’s Long-Term IDRs, Viability Rating (VR) and National Ratings reflects Fitch’s view of receding near-term risks to the bank’s credit fundamentals from the economic fallout arising from the oil price crash and coronavirus pandemic.
In our opinion the impact of the economic downturn on UBA’s credit profile is tolerable at the bank’s current rating level and it will take several quarters before the full extent of the crisis on corporates and households is seen in its financial metrics. Since our previous rating action in March, regulatory forbearance on asset classification and banks’ own debt relief measures have significantly eased pressures on the sector’s asset quality. Debt relief measures are, nevertheless, temporary and with the eventual easing of fiscal and monetary support from the Central Bank of Nigeria (CBN), we see a material risk that bank asset quality could deteriorate faster, unless economic recovery gathers pace.
The Stable Outlook on UBA’s Long-Term IDR reflects our view that the bank’s rating has sufficient headroom at this level to absorb moderate shocks from sustained downside risks to the operating environment, the heightened level of risk in doing banking business and resulting risks to its financial performance over the next 12-18 months.
KEY RATING DRIVERS
IDRS, VR, AND SENIOR DEBT RATINGS
The IDRs and senior debt ratings are driven by UBA’s intrinsic creditworthiness, as defined by the bank’s ‘b’ VR. The VR considers UBA’s exposure to the Nigerian volatile operating environment, but also the bank’s healthy profitability and adequate capitalisation, providing reasonable capacity to absorb losses from the downturn. Asset-quality erosion has been limited to date, while our assessment also considers the bank’s sizeable non-loan assets, dominated by cash and balances, restricted deposits (comprising mainly cash reserve requirements held at the CBN) and government securities. Nigeria’s sovereign rating is ‘B’ with a Stable Outlook.
The ratings also reflect UBA’s pan-African franchise with subsidiaries in 19 countries outside of Nigeria (with 60% of net income and 29% of assets at end-1H20 coming from the rest of Africa). We believe UBA’s ability to capitalise on business and trade flows and to attract deposits across the continent is a competitive advantage relative to the peer group.
Asset-quality metrics compare well against the peer group’s with UBA’s impaired (Stage 3 under IFRS 9) loans-to-gross loans at 4.1% at end-1H20 (2019: 5.3%), supported by high reserve coverage at 104%. We also consider UBA’s lower oil and gas exposure at 21% of net loans compared with the sector average of 30% and the small size of the bank’s loan book at 33% of total assets. That said UBA continues to hold a significant stock of Stage 2 loans (19% of gross loans at end-1H20), which are concentrated by single borrower, exposing the bank to event risk. Over the next few quarters, we expect a moderate increase in UBA’s impaired loan ratio with its customers affected by recession, currency devaluation, US dollar shortages and distress in certain key industry segments, including the oil sector. At end-1H20, around 15% of the bank’s gross loans were subject to debt relief, broadly in line with the peer group’s.
UBA’s profitability metrics have been consistently strong through the cycle with an operating profit-to- risk weighted assets (RWA) of 5.4% at end-1H20, despite higher loan impairment charges and falling asset yields. Pressure on net interest income was to some extent offset by lower funding costs. For non-interest revenue, we believe the impact of regulatory changes on transaction fees should have bottomed out in 1H20 and higher transaction volumes as the economy begins to pick up should provide some cushion. Due to UBA’s geographical footprint further volatility in earnings could stem from the impact of currency translation of foreign operations, which has been large in recent years.
Capitalisation is expected to be under moderate pressure as RWAs are inflated by currency devaluation. Capital ratios have remained strong through the cycle and at end-1H20 its Fitch Core Capital/RWAs was 28.6%. This is driven by UBA’s low risk weight density due to the highly liquid nature of the bank’s balance sheet, including large holdings of government securities and financial collateral, which provides capital relief.
UBA’s loan-to-deposit ratio of 48% at end-1H20 reflects a liquid balance sheet comprising mainly investment securities and cash and placements, which helps to cover short-term maturity gaps in naira. We consider naira liquidity at the bank to be ample. The stability of its funding base comes from current and saving accounts, which have risen in 1H20 to make up 78% of UBA’s customer deposit base. Deposits now account for 81% of funding. UBA is not immune to the current foreign-currency shortage in Nigeria and has liquidity gaps at shorter maturities on a contractual basis. This creates a reliance on the stability of domiciliary deposits and loan repayments in foreign currency to meet its own debt obligations. Domiciliary deposits have shown stability over the last crisis in 2016 and have remained sticky in behaviour in 1H20.
UBA’s senior unsecured debt is rated in line with the bank’s Long-Term IDR, given that the likelihood of default on these notes reflects the likelihood of default of the bank. Fitch assigns a Recovery Rating (RR) of ‘RR4’ to this issue, reflecting average recovery prospects.
SUPPORT RATING AND SUPPORT RATING FLOOR
Sovereign support to banks cannot be relied on given Nigeria’s weak ability to provide support, particularly in foreign currency. The Support Rating Floor of all Nigerian banks is ‘No Floor’ and all Support Ratings are ‘5’. This reflects our view that senior creditors cannot rely on receiving full and timely extraordinary support from the Nigerian sovereign if any of the banks become non-viable.
UBA’s National Ratings reflect the bank’s creditworthiness relative to that of other issuers in Nigeria and are driven by the bank’s standalone strength. They are lower than the highest rated Nigerian peers’ due to UBA’s weaker profitability and capitalisation metrics. UBA’s National Short-Term Rating is the lower of the two possible options for an ‘A+(nga)’ National Long-Term Rating under Fitch’s criteria, reflecting potential risks to funding and liquidity from market instability.
Factors that could, individually or collectively, lead to positive rating action/upgrade:
Upside to the ratings is unlikely unless the bank sees a material improvement in operating conditions and the sovereign is upgraded.
A sustained improvement in financial metrics, in particular, capitalisation on a non-risk adjusted basis.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
Negative rating action on the sovereign and/or if our assessment of the operating environment is revised downward. The latter could be driven by persistent post-lockdown disruption, weak oil price and extended global economic turmoil, giving rise to a more severe economic and financial market fallout than currently expected.
UBA’s impaired loan ratio rises substantially above 5%, for instance due to material losses at regional operations, with the Fitch Core Capital ratio declining below 15% for a sustained period.
A severe tightening in the bank’s foreign-currency liquidity.
UBA’s senior unsecured debt is sensitive to a change in UBA’s Long-Term IDR.
BEST/WORST CASE RATING SCENARIO
International scale credit ratings of Financial Institutions and Covered Bond issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from ‘AAA’ to ‘D’. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit [https://www.fitchratings.com/site/re/10111579]
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of ‘3’. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch’s ESG Relevance Scores, visit www.fitchratings.com/esg.