Fitch Affirms Coronation Merchant Bank at ''B-''; Outlook Stable

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Tuesday, October 05, 2021 / 07:03 PM / by Fitch Ratings / Header Image Credit: Coronation Merchant Bank 

 

Fitch Ratings has affirmed Nigeria-based Coronation Merchant Bank Limited's (CMB) Long-Term Issuer Default Rating (IDR) at 'B-' with a Stable Outlook. The National Long-Term Rating has been upgraded to 'BBB+(nga)' from 'BBB(nga)', reflecting the bank's improved creditworthiness relative to that of other issuers in Nigeria.

 

Fitch has also withdrawn the Long-Term Local Currency IDR due to a publishing error.


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Key Rating Drivers

IDRS and Viability Rating (VR)

 

The Long- and Short-Term IDRs of CMB are driven by its standalone credit profile as expressed by its VR of 'b-'. Its VR reflects the bank's concentration in and sensitivity to Nigerian operating environment risks and is also constrained by the bank's niche franchise and structural funding and liquidity weaknesses resulting from the absence of a retail deposit license. This is balanced by the bank's sound asset-quality record and adequate capitalisation and performance, which constitute rating strengths.

 

The Stable Outlook reflects Fitch's view that risks to CMB's credit profile are captured in the current rating, with sufficient headroom under our base case to absorb the fallout from operating-environment pressures.

 

Operating conditions in Nigeria are gradually stabilising and Fitch forecasts 1.9% GDP growth in 2021, following a 1.8% decline in 2020. Our baseline scenario is that business volumes and earnings should continue to rebound in 2021, while the rally in oil prices is also a positive factor. Nevertheless, downside risks linger, given inherently volatile market conditions, with banks still exposed to foreign-currency (FC) shortages, potential further currency devaluation, rising inflation and regulatory intervention by the Central Bank of Nigeria (CBN).

 

CMB's company profile is a constraint on, and a factor of high importance to, the rating, reflecting the bank's niche - but leading - franchise as an independent Nigerian merchant bank engaged in corporate and trade finance, domestic capital markets and investment banking. It also considers CMB's small size (under 1% of banking-sector assets) and reliance on expensive, short-term and concentrated wholesale deposit and market funding. Management quality is a rating strength.

 

CMB has recorded zero Stage 3 loans since converting to a merchant bank in 2015, despite volatile market conditions, reflecting its prudent underwriting standards and risk controls. It reports no Stage 2 loans nor loans benefiting from Covid-19-related debt relief measures. Nevertheless, asset quality is sensitive to very high borrower concentrations (the 20 largest exposures equalled 2.6x equity at end-1H21) and FC-linked loans (51% of total loans). However, non-loan earning assets are large (43% of assets at end-1H21) - comprising mainly Nigerian government securities (B/Stable) held for liquidity and revenue purposes - and support asset quality.

 

CMB's profitability remains adequate, as indicated by operating returns on risk-weighted assets of 2.2% in 1H21 (four-year average: 4.7%), supported by fairly diversified revenue streams (non-interest income comprised 80% of operating income in 1H21), solid asset quality and good cost control (1H21: cost-to-income ratio of 57%, outperforming small-bank peers'). However, its fairly short performance record and potential for earnings volatility - resulting from high exposure to market-sensitive income - increases risks to profitability. Trading-related income made up a high 53% of operating income in 1H21.

 

The bank's profitability has also been negatively affected by margin pressure from low yield government securities (including special bills) and zero-earning restricted deposits with the CBN (equal to a combined 27% of total assets at end-1H21). In addition, its net interest margin (0.7% in 1H21) is inherently much lower than commercial banks' as CMB does not have a license to attract retail deposits - a cheaper source of funding.

 

CMB's Fitch Core Capital (FCC) ratio of 15.6% at end-1H21 is adequate but has more than halved since 2017, due to rapid loan growth. Its tangible equity/assets ratio fell to 7.7% at end-1H21 (end-2020: 8.3%; end-2019: 11.4%). CMB's total capital adequacy ratio (CAR) of 18.5% at end-1H21 is well above its minimum regulatory requirement of 10%, supported by an NGN25 billion five-year Tier 2 debt issue in 2020. We expect the CAR to stabilise between 12.5% and 15% over the medium term as asset growth outpaces internal capital generation.


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CMB's capital base also remains small in absolute terms, resulting in high single-name concentration risk and increasing the bank's sensitivity to individual credit events or unforeseen losses. Capitalisation remains sensitive to naira depreciation.

 

As a merchant bank, CMB relies on short-term wholesale funding, including a large share of corporate deposits (42% of funding), but also bank borrowings and commercial paper, which are price- and confidence-sensitive. Corporate deposits are concentrated by name, with the top 20 deposits forming 65% of total deposits at end-1H21. FC liabilities comprised 32% of CMB's liabilities at end-1H21, and are sensitive to investor sentiment and operating conditions, increasing refinancing and liquidity risks. 

 

Support Rating and Support Rating Floor

Sovereign support to CMB cannot be relied on given Nigeria's weak ability to provide support, particularly in FC. 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. Sovereign propensity to provide support to CMB is weak, in our view, given the bank's very low systemic importance. 

 

Rating Sensitivities

Factors that could, individually or collectively, lead to negative rating action/downgrade:

  • CMB's ratings are sensitive to a weakening in capitalisation, including a further increase in leverage, likely resulting from further rapid loan growth or material asset-quality deterioration (given its high borrower concentrations) that significantly erode its capital buffers. Tightening FC funding and liquidity due to adverse market conditions could be negative for its ratings given its wholesale-funding reliance.
  • A strategic shift towards higher-risk exposures, increased borrower concentrations or material operational-risk losses could also trigger a negative rating action, although this is not our base case.

 

Factors that could, individually or collectively, lead to positive rating action/upgrade:

  • A rating upgrade is unlikely at present given the bank's limited, niche franchise and constraints on its funding and liquidity profile.


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Other Debt And Issuer Ratings: Key Rating Drivers

National Ratings

 

The National Ratings of CMB reflect its creditworthiness relative to that of other issuers in Nigeria and are driven by its standalone strength. The upgrade of CMB's National Long-Term Rating reflects its increased creditworthiness relative to other Nigerian issuers'. Its National Short-Term Rating is the lower of two possible options for a 'BBB+(nga)' National Long-Term Rating under Fitch's criteria, reflecting weaknesses in the bank's funding and liquidity profile, which increase the vulnerability of default on its short-term local-currency obligations within Nigeria. 

 

Other Debt and Issuer Ratings: Rating Sensitivities

Factors that could, individually or collectively, lead to negative rating action/downgrade:

 

National Ratings

The National Ratings are sensitive to a negative change in Fitch's view of the entity's creditworthiness relative to other Nigerian issuers.

 

Factors that could, individually or collectively, lead to positive rating action/upgrade:

 

National Ratings

 

The National Ratings are sensitive to a positive change in Fitch's view of the entity's creditworthiness relative to other Nigerian issuers.

 

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.

 

ESG Considerations

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.


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