WorldStage Newsonline– GCR Ratings has downgraded Union Bank of Nigeria’s (UBN) national scale long-term and short-term issuer ratings to BBB-(NG) and A3 (NG) from BBB+(NG) and A2(NG) respectively.
This is coming after Fitch Ratings on 09 Aug 2024 downgraded Union Bank Long-Term Issuer Default Ratings (IDR) to ‘CCC’ from ‘B-‘ and its National Long-Term Rating to ‘B+(nga)’ from ‘BBB(nga).
Its Viability Rating (VR) by Fitch was also downgraded to ‘ccc’ from ‘b-‘. While all ratings have been removed from Rating Watch Negative. Fitch has also affirmed UBN’s Government Support Rating (GSR) of ‘no support’.
In a latest rating note, GCR Ratings, the emerging market Africa rating agency said concurrently, it has also downgraded the national scale long term issue rating of Union Bank of Nigeria Plc.’s N6.3 billion Series 2 Senior Unsecured Bonds to BBB-(NG) from BBB+(NG).
The rating outlook is revised to Evolving from Rating Watch Negative; according to GCR Rating note.
GCR said the rating downgrade on Union Bank of Nigeria Plc. reflects a material deterioration in capitalisation with the capital adequacy ratio (CAR) below the regulatory minimum of 10% for its licensed category.
The rating also recognises obligor and currency concentration in the loan book and increased percentage of stage 2 loans to gross loans relative to peers, the rating note said.
UBN’s good domestic franchise continues to support a stable funding structure and good liquidity, GCR said in the latest credit report on the bank.
The emerging market rating agency stated that the evolving outlook reflects possible changes in the credit profile of the Bank post-consolidation with Titan Trust Bank Limited, added that UBN’s capitalisation is a significant restraint to the ratings.
The ratings note said Union Bank is in breach of regulatory capital adequacy ratio (CAR) which settled at 7.1% as at 31 December 2023 from 14.4% in the prior year.
The breach, according to GCR, was caused by additional provisions on some major loans as required by CBN; and the impact of Naira devaluation on the Bank’s risk weighted assets.
The rating firm noted that significant portion of the Union Bank loan book is foreign currency denominated, which was 66.4% of the portfolio in 2023, up from 49.3% in financial year 2022.
The GCR core capital ratio – which includes regulatory risk reserves- also moderated to 10.9% as of 30 June 2024 from 11.6% in FY 2023 and 14.5% in 2022 registering within the low band of the rating firm’s assessment.
“We expect the GCR core capital ratio to register between 10%-12% over the rating outlook, predicated on positive earnings generation and retention as well as management’s plan to moderate risk asset creation and FCY exposures”.
Positively, loan loss reserve coverage of stage 3 loans was strong at 173.3% as of 30 June 2024 from 129.5% in 2023; and 43.2% year 2022. However, coverage of stage 2 and 3 loans was low at 13.2% as at the same date, according to GCR.
In view of the regulatory driven recapitalisation of the banking sector, UBN’s capital base could strengthen over the next 12-18 months through equity injection from its shareholders, GCR said, noting that risk is negative to Union Bank of Nigeria’s ratings.
The Bank’s asset quality metrics reflect high obligor concentration, increasing credit losses, high stage 2 loans and high foreign currency loans due to the impact of naira devaluation and general macroeconomic challenges, GCR said.
It said credit losses ratio of the bank printed at 5.2% as of 30 June 2024, a level that was above industry’s average. The Bank’s stage 3 loans as a percentage of gross loans improved to 3.7% as of 30 June 2024 from 3.8% in 2023 and 7.4% in 2022 following the reclassification of some stage 3 loans to stage 2.
GCR wrote that stage 2 loans to gross loans which historically averaged 22.0% (2018-2022) increased to 35.2% as at 31 December 2023 and further to 44.9% as of 30 June 2024, largely consisting foreign currency loans to power sector and syndicated oil & gas sector loans.
Analysts said although the management indicated these stage 2 loans were restructured and are now performing in line with restructured terms, GCR is of the opinion that the performance of these exposures remains susceptible to the weak macroeconomic environment.
Obligor concentration persists in the loan book, with the twenty largest obligors accounting for 68.2% of gross loans as of 30 June 2024 from 76.0% in 2023 and 66.0% in 2022.
The rating note emphasized that UBN’s top five obligors breached the regulatory single obligor limit (SOL) of 20% of shareholders’ funds as at the same date, due to the impact of naira devaluation.
The bank currently benefits from regulatory forbearance, with expectations that the planned recapitalisation could remediate the breaches barring any further devaluation in the local currency, GCR said.
It added that the percentage of foreign currency loans to gross loans remained higher than peers registering 66.0% as of 30 June 2024 versus 66.4% in FY 2023 and 49.3% in 2022.
The ratings also hint that UBN is in the process of converting these loans to local currency loans, but this will be subject to the availability of foreign currency.
Looking ahead, the Bank’s asset quality may remain pressured by the weak operating environment, GCR Ratings said in the report. The ratings note said UBN’s competitive position is a key rating strength, supported by a track record of over ten decades in the Nigerian banking industry.
GCR explained that the evolving outlook reflects possible changes in the credit profile of the Bank post-consolidation with Titan Trust Bank Limited.
FITCH RATINGS DOWNGRADE
Fitch earlier said the downgrades reflect the Fitch-estimated prolonged breach of the bank’s total capital adequacy ratio (CAR) requirement of 10% and uncertainties regarding the timeline for restoring compliance. Near-term prospects will depend on continued sound internal capital generation and a timely execution of the recapitalisation plan agreed by new management with the Central Bank of Nigeria (CBN).
Key Rating Drivers
UBN’s ‘CCC’ IDRs are driven by its standalone creditworthiness, as expressed by its Viability Rating (VR) of ‘ccc’. The VR reflects Fitch’s estimate that the bank has been in breach of its minimum regulatory capital and uncertainties regarding the timeline for restoring compliance. The VR is one notch below the implied VR of ‘ccc+’ due to capitalisation and leverage.
UBN’s National Ratings are the lowest across Fitch-rated banks in Nigeria, primarily reflecting the estimated breach of regulatory capital requirements.
Challenging Environment: President Tinubu has pursued key reforms since he assumed office in May 2023, reducing the fuel subsidy and overhauling monetary policy, including by allowing the naira to devalue by over 65%. The reforms are positive for Nigeria’s creditworthiness but pose near-term macroeconomic challenges for the banking sector.
CBN Intervention: The CBN removed the board and management of three banks, including UBN, on 10 January 2024, citing a range of infractions including regulatory non-compliance and corporate governance failings, while appointing a new chief executive officer. Progress is being made in reconstituting the board and the bank continues to operate as a going-concern.
High Concentration Risk: Single-borrower and industry concentrations are very high, with the top 20 loans accounting for 63% of gross loans at end-2023; or 2.9x Fitch Core Capital (FCC). Foreign-currency (FC) lending (50% of gross loans) is above peers’ and has inflated following the naira devaluation. Exposure to the weak Nigerian sovereign through securities and cash reserves at the CBN is also high at around 6x FCC at end-2023.
Vulnerable Asset Quality: Asset quality vulnerabilities stem from the bank’s high concentration risk, be it by sector or single obligor. The bank’s Stage 3 loans ratio of 3.5% at end-1Q24 was a marked improvement from recent years and we expect it to remain below the 5% CBN limit in the medium term. High Stage 2 loans (end-1Q24: 40% of gross loans) remain a key risk, having inflated significantly since 2023 due to the naira devaluation.
Boosted Profitability: UBN’s net profit increased 93% year on year in 1Q24 as revenues were boosted by large foreign-exchange (FX) and derivatives gains following the naira devaluation and higher net interest income. This led to noticeable improvements in UBN’s performance metrics with a return on equity 35% in 1Q24 (2023: 20%).
Capital Requirements Breach: Fitch estimates that UBN has breached its CAR (end-3Q23: 16.1%) requirement of 10% due to a significant increase in its regulatory risk reserve, which is deducted from capital for the purpose of capital adequacy computations. UBN plans to raise capital but the timeframe remains uncertain, particularly in view of the pending merger with Titan Trust Bank (TTB), UBN’s shareholder.
Acceptable but Vulnerable Liquidity: UBN is mainly funded by customer deposits (end-2023: 82% of total funding). Liquidity is good with a liquidity coverage ratio and a net stable funding ratio of 299% and 214%, respectively at end-1Q24. Cash and cash equivalents in FC covered a reasonable 19% of FC deposits at end-2023. However, funding and liquidity remain highly sensitive to investor sentiment and therefore subject to increased volatility.
Rating Sensitivities
Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade
A downgrade of UBN’s Long-Term IDR would require a downgrade of its VR.
A further downgrade of UBN’s VR could result from a further prolonged estimated breach of CAR requirements or a tightening in FC liquidity and deposit outflows as a result of the breach.
A National Rating downgrade would result from a weakening in creditworthiness relative to that of other Nigerian issuers.
Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade
An upgrade of UBN’s Long-Term IDR would require an upgrade of its VR.
An upgrade of UBN’s VR would require restoring CAR compliance, with sufficient buffers to tolerate a further naira depreciation, credit losses and credit concentration risk
A National Rating upgrade would result from a strengthening in creditworthiness relative to that of other Nigerian issuers.
OTHER DEBT AND ISSUER RATINGS: KEY RATING DRIVERS
The government’s ability to provide full and timely support to commercial banks is weak due to its constrained FC resources and high debt-servicing metrics. The ‘no support’ GSR reflects our view of no reasonable assumption of support for senior creditors being forthcoming should the bank become non-viable.
OTHER DEBT AND ISSUER RATINGS: RATING SENSITIVITIES
An upgrade of the GSR would require an improvement in the government’s ability to provide support, which would most likely be indicated by an increase in net international reserves and an improvement in debt-servicing metrics.
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.
ESG Considerations
UBN’s ESG Relevance Score for Governance Structure of ‘4’ reflects the dissolution of the board and management by the CBN. This has a negative impact on the credit profile, and is relevant to the ratings in conjunction with other factors.
The highest level of ESG credit relevance is a score of ‘3’, unless otherwise disclosed in this section. A score of ‘3’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. Fitch’s ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision.
UNCERTAINTY
Meanwhile, the two rating agencies GCR and Fitch did not reflect in their reports the current ownership of the bank despite that Central Bank of Nigeria (CBN) in January 2024 sacked the management and board which implies a takeover.
In a takeover scenario like this, the CBN essentially assumes control and ownership of the bank, at least until a new ownership structure is established.
While the ratings see UBN plans to raise capital as uncertain based on merger with Titan Trust Bank (TTB), the current ownership structure would be – Central Bank of Nigeria (CBN): 100% owner (or under its control).
The CBN’s takeover would supersede the previous ownership structure, and the bank would be operated under the CBN’s authority until further notice.
