Rating Action:
Moody's downgrades Capitec Bank to Ba2/NP; on review for further downgrade
Global Credit Research - 15 Aug 2014
Limassol, August 15, 2014 -- Moody's Investors Service has today downgraded Capitec Bank Limited's (Capitec) deposit ratings to Ba2/NP from Baa3/P-3, and its national-scale issuer ratings to Baa1.za/P-2.za from A2.za/P-1.za. In addition, the rating agency downgraded the bank's standalone bank financial strength rating (BFSR) to D, equivalent to a ba2 baseline credit assessment (BCA), from D+/ba1. Concurrently, all ratings were placed on review for further downgrade, with the exception of the short-term Not-Prime ratings.
The two-notch downgrade of the deposit ratings reflects two elements. First, Moody's view of the lower likelihood of systemic support from South African authorities to protect creditors, following the recent decision of the South African Reserve Bank (SARB) to include a bail-in of senior unsecured bondholders and wholesale depositors as part of the restructuring plan for African Bank Limited. Second, the lowering of the bank's standalone BCA to reflect the rating agency's heightened concerns regarding the risk inherent in Capitec's consumer lending focus, owing to weaker economic growth, reduced consumer affordability and high consumer indebtedness that are leading to higher credit costs for the bank.
The review for downgrade will focus on a forward-looking assessment of the shock absorption capacity afforded by Capitec's strong capital and liquidity buffers against risks stemming from the on-going challenging operating conditions in South Africa's unsecured lending market, which are likely to weigh on the bank's financial performance, and the risk of a deterioration of the funding conditions for unsecured lenders in South Africa.
RATINGS RATIONALE
REDUCED SYSTEMIC SUPPORT
The downgrade of Capitec's deposit ratings takes into account the removal of one notch of uplift for external support that was previously incorporated. Moody's considers that the likelihood of systemic support for Capitec, if needed, to fully protect senior creditors and depositors is now materially lower than previously thought, as implied by SARB's recent approach in resolving a similarly sized bank with a similar business model.
In Moody's opinion, SARB's willingness to proceed with a burden-sharing restructuring plan for African Bank Limited, involving debt holders and wholesale depositors, is a clear indication of a reduction in the likelihood of systemic support in a manner that would fully protect creditors. In this recent case of a peer institution, senior bondholders and wholesale depositors sustained losses of 10%, with subordinated bondholders incurring significantly higher losses. As a result, Moody's believes that the level of systemic support previously incorporated in Capitec's ratings is no longer appropriate.
HEIGHTENED CONCERNS REGARDING INHERENT CONSUMER LENDING RISKS
The lowering of the standalone BCA reflects Moody's heightened concerns regarding the inherent risks of Capitec's consumer lending focus, owing to weaker economic growth, reduced consumer affordability and high consumer indebtedness that have resulted to higher credit costs for the bank.
Despite the gradual diversification of Capitec's revenue base, amid its expanding transactional banking business, unsecured consumer lending continues to make-up the bulk of the bank's loan book. While Moody's acknowledges Capitec's sound provisioning and underwriting policies, this narrow undiversified lending focus remains affected by the recent economic slowdown, given reduced consumer affordability and high consumer indebtedness. Capitec's loan loss provisions over gross loans increased to 11.8% for the year-ended February 2014 from 8.7% the previous year.
RATIONALE FOR FURTHER REVIEW
The review for further downgrade reflects Moody's forward-looking concerns that the challenging operating environment in South Africa's unsecured lending market may weigh on Capitec's financial performance. Capitec's earnings will likely come under pressure amid increased loan loss provisions as consumers come under stress. South Africa's slowing economy (GDP quarter-on-quarter growth declined by -0.6% in Q1 2014) and labour unrest, coupled with the highly leveraged consumers (household debt to disposable income of a high 74.5% in Q1 2014), higher inflation (6.6% in June 2014) and a rising cost of living will continue to weigh on consumers' loan affordability.
Moody's acknowledges Capitec's very strong buffers in the form of capital (Tier 1 of 30.6% in February 2014), and high provisions and earnings (pre-provision income to risk-weighted assets of 22.7% for the year-ended February 2014) to absorb such increased loan losses compared to peers. However, the rating agency believes that Capitec is exposed to the deteriorating operating conditions and the inherent risks to its core business. For the year-ending February 2014, net impairment charges absorbed 59% of pre-provision profits (2013: 55%).
Moody's also believes that recent events related to African Bank signal potentially higher downside risks for funding towards unsecured lenders in South Africa. While Moody's recognizes that around two thirds of Capitec's funding is in the form of household deposits, it still maintains a reliance on wholesale funding. The recent developments could negatively impact both Capitec's wholesale and retail deposit funding profile and related cost going forward, particularly in the context of pressure on financial fundamentals from the challenging operating conditions for unsecured lenders.
FACTORS TO BE CONSIDERED IN THE RATING REVIEW
The review for downgrade of Capitec's ratings will focus on a forward-looking assessment of (1) the risk of asset quality deterioration and higher credit costs; (2) the bank's recurring earnings-generating capacity in light of challenging operating conditions; and (3) the bank's ability to maintain its current capital levels and funding sources in the challenging operating environment.
WHAT COULD MOVE THE RATINGS DOWN/UP
Capitec's ratings could be downgraded, if (1) its business model and loan growth generates elevated credit and liquidity-management risks; or (2) Moody's considers that the current challenging operating conditions will materially affect its asset quality, capital base and earnings power.
The rating review for downgrade indicates that there is limited upside potential for Capitec's ratings over the near-term.
Moody's National Scale Credit Ratings (NSRs) are intended as relative measures of creditworthiness among debt issues and issuers within a country, enabling market participants to better differentiate relative risks. NSRs differ from Moody's global scale credit ratings in that they are not globally comparable with the full universe of Moody's rated entities, but only with NSRs for other rated debt issues and issuers within the same country. NSRs are designated by a ".nn" country modifier signifying the relevant country, as in ".mx" for Mexico. For further information on Moody's approach to national scale credit ratings, please refer to Moody's Credit rating Methodology published in June 2014 entitled "Mapping Moody's National Scale Ratings to Global Scale Ratings".
PRINCIPAL METHODOLOGY
The principal methodology used in this rating was Global Banks published in July 2014. Please see the Credit Policy page on www.moodys.com for a copy of this methodology.
Headquartered in Stellenbosch, South Africa, Capitec Bank Limited had total assets of ZAR46.2 billion ($4.3 billion) as of February 2014.
REGULATORY DISCLOSURES
For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices.
For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the rating action on the support provider and in relation to each particular rating action for securities that derive their credit ratings from the support provider's credit rating.
For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.
For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this rating action, and whose ratings may change as a result of this rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.
Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.
Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.
Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.
Statement issued by Moody's Investors Service, August 15 2014
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