ֳ

Rating Action Commentary

ֳ Affirms 4 Romanian Banks, Upgrades Banca Comerciala Romana's VR

Thu 20 Oct, 2016 - 12:08 PM ET

ֳ-London-20 October 2016: ֳ has affirmed the Long-Term Issuer Default Ratings (IDRs) of BRD Groupe Societe Generale S.A. (BRD) at 'BBB+', Banca Comerciala Romana S.A. (BCR) and UniCredit Bank S.A. (UCBRO) at 'BBB', and Banca Transilvania S.A. (BT) at 'BB'. The Outlooks on BCR, BRD and BT's IDRs are Stable, and on UCBRO's Negative.

The agency has also upgraded BCR's Viability Rating (VR) to 'bb' from 'bb-', and affirmed the VRs of BT at 'bb' and UCBRO at 'bb-'. A full list of rating actions is at the end of this rating action commentary.

The upgrade of BCR's VR reflects the bank's improving asset quality based on strong execution of the non-performing loans (NPLs) resolution strategy put in place in 2014, and strong capitalisation, particularly in view of reduced levels of uncovered NPLs.

The asset quality of Romanian banks remains weak but has improved following NPL sales and work-outs, contributing to an overall decline of the non-performing exposures (NPEs) ratio of the sector to 11.3% at end-1H16 (EBA definition, National Bank of Romania's disclosure). Profitability benefits from lower loan impairment charges, in part due to recoveries, and renewed lending growth, in particular in retail lending. A good result in 2015 supported build-up of capital (BCR, and resumed dividend payments in 2016 (BT, UCBRO).

This week, the Romanian parliament approved a version of the Swiss franc conversion law which contained additional amendments to the one last seen and commented on by ֳ (see ֳ: Romania Banks Swiss franc Conversion - No Immediate Rating Impact dated 13 Oct 2016). ֳ understands that one of the changes introduced gives borrowers who have already accepted voluntary conversion of their Swiss franc loans with certain discounts offered by banks, the option to ask for a new conversion at historical exchange rates.

Although it is too early to assess the cost upon implementation, ֳ believes that there will be no financial impact on the VRs of BCR and UCBRO as these banks have no Swiss franc-denominated retail lending, and that the impact will be manageable for BT given the size of existing provisions for legal risks and the availability of its capital cushion to absorb the potential additional cost.

KEY RATING DRIVERS
IDRS, NATIONAL RATINGS AND SENIOR DEBT
BCR, BRD, UCBRO
The IDRs and Support Ratings of BCR, BRD and UCBRO reflect the high likelihood of support from their parents. BCR is Erste Group Bank AG's (Erste; BBB+/Stable/bbb+) 93.6%-owned Romanian subsidiary. UCBRO is 95.6%-owned by UniCredit S.p.A. (UC; BBB+/Negative/bbb+), and BRD is 60%-owned by Societe Generale (SG; A/Stable/a).

ֳ views the Romanian subsidiary banks, and the wider central and eastern European (CEE) region, as strategically important for the parent banks, despite the volatility in performance over the last few years. Their importance is evidenced by the record of support to date (in terms of funding and emergency liquidity support lines) and by substantial operational and management integration within the group. In addition, the potential cost of support would be manageable, given the small size of the Romanian subsidiary banks relative to parent group assets.

The IDRs of BCR and UCBRO are notched down once from their parents' IDRs. The Outlooks reflect those on their parent banks. ֳ would rate BRD's Long-Term IDR one notch below that of SG if country risks allowed. Currently, BRD's IDR is constrained by Romania's Country Ceiling (BBB+) and the Stable Outlook reflects that on the Romanian sovereign.

BT
BT's IDRs are driven by the bank's VR, and therefore share the same key rating drivers. The Support Rating of '5' and Support Rating Floor of 'No Floor' reflect ֳ's view that sovereign support, while possible, can no longer be relied upon for BT, as for most other commercial banks in the European Union.

VR
BCR
The upgrade of BCR's VR reflects the bank's further progress in resolving its large stock of legacy NPLs, the increase in coverage of impaired loans with IFRS reserves as well as improved loss absorption capacity through a stronger capital position.

BCR's asset quality remains weak but continues to improve, and ֳ believes the bank is on track with its strategy to reach an EBA NPE ratio in the high single digits by year-end (from 10.3% at end-1H16; bank standalone), given good execution of the NPL resolution strategy put in place in 2014 and an operating environment which appears favourable for collateral recoveries and further portfolio sales. The tighter underwriting and risk appetite put in place should result in better quality of new lending. Loan disbursements in 1H16 were mostly driven by retail unsecured and secured loans, and probably accelerated by high demand for PrimaCasa loans.

We view the bank's capitalisation as strong with ֳ Core Capital of 19% at end-1H16, particularly in view of low levels of unreserved impaired loans/FCC (10% at end-1H16). The bank has a sound funding and liquidity profile, with customer deposits accounting for 77% of total funding excluding derivatives. Parent funding accounted for a low 17% of total non-equity funding at end-1H16. Liquid assets, consisting mostly of cash and reserves with the central bank and unencumbered Romanian government securities eligible for repo with the central bank accounted for a high 55% of customer deposits at end-1H16.

ֳ expects earnings volatility to abate in 2017 - reported net income in 1H16 was supported by reversals of loan impairment charges (LICs), as the bank adjusted to better recoveries than expected when it booked its large LICs in 2014 (about EUR1bn). However, operating profitability will be under pressure from high levels of low-yielding liquid assets and to some extent from the unsettled operating environment for the Romanian banking sector. The GDP growth outlook is positive for the sector, but legislative uncertainty weighs on lending growth through tighter underwriting requirements. The outlook for retail loan growth in the single digits is favourable, but demand from corporates and SMEs remains muted.


BT
BT's VR reflects stable and strong profitability and internal capital generation through the cycle, strong capital cushions and a strong deposit funding base and liquidity position. It also captures still weak albeit improving asset quality.

Earnings capacity at BT has grown following the acquisition of Volksbank Romania (VBRO), which the bank successfully completed at end-2015. Its market share increased to 12.6% of total assets at end-1H16 (from about 9% at end-2014). Earnings growth is supported by a supportive GDP growth outlook, but limited by legislative risks in the operating environment, and by a pick-up in competition in the bank's target sector of SME lending. The large dividend payout in 1H16 is largely a one-off, reflecting the acquisition gains generated from the VBRO transaction.

Asset quality continues to improve but remains weak, and the bank reported an IFRS impaired loans ratio of 14.9% at end-1H16 (down from 15.7% at end-2015; IFRS impaired loans include all loans with specific provisioning adjustments). BT has reported less volatile asset quality than the sector average, and has also preferred in-house recoveries to the large NPL sales favoured by several of its peers. Its loan book is also more granular then peers, given its focus on SMEs and retail loans, and the bank maintains a higher share of local-currency loans (about 70% of gross loans) than the sector average (about 50%). It has reasonable coverage of problem loans with reserves.

BT's funding profile is a rating strength. At end-1H16, customer deposits accounted for a high 94% of total funding. At end-1H16, BT's liquidity position was ample. Unencumbered liquid assets (including mandatory reserves) were equivalent to 49% of customer deposits.

ֳ considers BT's capitalisation strong given its ֳ Core Capital (FCC) ratio of 17.8% at end-1H16, particularly given a low net impaired loans to FCC of 26%. BT's exposure to Swiss franc-denominated retail loans, following the successful campaign for voluntary conversion of such loans following the Volksbank acquisition, was a small 3% of gross loans at end-1H16. These exposures were around 50% covered by IFRS provisions. BT is however at risk if the Swiss franc conversion law allows those borrowers who have taken up their voluntary conversion offer (30% haircut to current exchange rates) to request a new contract at historical rates. ֳ estimates that even in such scenario BT's capitalisation would remain commensurate with a 'bb' VR.

UCBRO
UCBRO's VR reflects ֳ's view of the bank's weak, although improving asset quality, its only adequate capital levels, and the coverage of impaired loans by IFRS reserves below ֳ-rated peers. However, the VR also factors in the bank's solid pre-impairment operating performance and its ample liquidity.

UCBRO has progressed with the clean-up of its loan book in 2015 and 1H16, but asset quality in the loan book remains weak, with the 12.7% NPE ratio at end-1H16 slightly worse than the sector average. Asset quality should improve gradually and we expect new inflows of NPLs to be limited given current risk appetite, moderate levels of forborne loans, and the positive GDP growth outlook.

Sales of NPLs such as the EUR340m portfolio completed earlier this year should also contribute to further improvement, but we view a large-scale clean-up of the portfolio with write-offs and NPL sales as unlikely in the near term, given UCBRO's lower NPL coverage level and weaker capitalisation compared to rated peers. ֳ views UCBRO's capitalisation, with FCC of 13.48% and a CET 1 ratio of 12.14% at end-1H16 as only adequate, given a higher level of unreserved impaired loans (56% of FCC), and higher loan book concentrations than peers', in line with UCBRO's business model.

UCBRO's 1H16 profitability was supported by decreasing LICs and new lending growth, particularly in unsecured retail lending and mortgages, which helped to offset the margin pressure from low domestic interest rates and competition in the corporate segment.

UCBRO's funding profile is weaker than that of peers, in our view, as the bank is more reliant on corporate deposits and parent funding (32% of UCBRO's non-equity funding). Loans to customer deposits, 129% at end-1H16, are declining slowly but remain higher than at rated peers. The bank's liquidity profile is underpinned by high unencumbered liquid assets, including mandatory reserves, which accounted for a high 59% of customer deposits, and by the availability of ordinary liquidity support from the parent, if needed

RATING SENSITIVITIES
IDRS, NATIONAL RATINGS AND SENIOR DEBT
BCR and UCBRO's IDRs are sensitive to changes in their parents' ratings, or in ֳ's view of the commitment on the part of Erste and UC to their respective subsidiaries, or to the wider CEE region.

A downgrade of BRD's IDR would require SG's IDR to be downgraded to 'BBB+' or below, or a downward revision of the Romanian Country Ceiling, both of which ֳ currently considers unlikely. An upward revision of the Romanian Country Ceiling could lead to an upgrade of BRD's IDR, but limited to one notch. The IDRs and SR are also sensitive to a change in ֳ's view of the propensity of SG to provide support to BRD, which we currently consider unlikely.

BT's IDRs are driven by the bank's VR and therefore share its key rating sensitivities.

VRs
An upgrade of BT and BCR's VRs is unlikely in the near term. Over the medium term, an upgrade would require a material improvement in asset quality, and maintenance of strong capital and liquidity positions. For BCR, it would also require stabilisation of earnings and for BT, a stabilisation of the bank's institutional structure following the acquisition of VBRO. A downgrade of both bank's VRs could result from a material increase in risk appetite, a further deterioration in asset quality or materially weaker capitalisation.

An upgrade of UCBRO's VR would require a material reduction in impaired loan volumes and higher levels of coverage with IFRS provisions. Asset quality deterioration, and/or an increase in unreserved net impaired loans relative to capital could result in a downgrade.

The rating actions are as follows:

Banca Comerciala Romana S.A.
Long-term foreign currency IDR: affirmed at 'BBB'; Outlook Stable
Short-term foreign currency IDR: affirmed at 'F2'
Long-term local currency IDR: affirmed at 'BBB'; Outlook Stable
Support Rating: affirmed at '2'
Viability Rating: upgraded to 'bb' from 'bb-'
Banca Transilvania S.A.
Long-term foreign currency IDR: affirmed at 'BB', Outlook Stable
Short-term foreign currency IDR: affirmed at 'B'
Viability Rating: affirmed at 'bb'
Support Rating: affirmed at '5'
Support Rating Floor: affirmed at 'No Floor'

UniCredit Bank S.A.:
Long-term foreign currency IDR: affirmed at 'BBB'; Outlook Negative
Short-term foreign currency IDR: affirmed at 'F2'
Support Rating: affirmed at '2'
Viability Rating: affirmed at 'bb-'

BRD-Groupe Societe Generale S.A.
Long-term foreign currency IDR: affirmed at BBB+'; Outlook Stable
Short-term foreign currency IDR: affirmed at 'F2'
Support Rating: affirmed at '2'
Contact:

Primary Analyst
Sandra Hamilton
Director
+44 20 3530 1266
ֳ Limited
30 North Colonnade
London E14 5GN

Secondary Analyst
Ioana Sima
Analyst
+44 203 530 1736

Committee Chairperson
Artur Szeski
Senior Director
+48 22 338 6292


Media Relations: Elaine Bailey, London, Tel: +44 203 530 1153, Email: elaine.bailey@fitchratings.com.

Additional information is available on

Applicable Criteria
Global Bank Rating Criteria (pub. 15 Jul 2016)

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