Capital Intelligence Ratings (CI Ratings or CI), the international credit rating agency, has affirmed Banque du Caire's (BdC) Financial Strength Rating (FSR) at 'BB-'.
The rating is supported by the recent Tier 2 capital increase and improved capital adequacy ratio (CAR), comfortable liquidity (though still subject to systemic risk) and the strengthened loan-loss reserve (LLR) cover for non-performing loans (NPLs). Also supporting the FSR is the Bank's sound operating and net profitability despite a significant year-on-year (YoY) decline in Q1-Q3 2017. The factors constraining the FSR are the ongoing high sovereign and political risks along with elevated credit risk in the economy. Also constraining the FSR is the further decline in the already low total capital (which excluded subordinated debt) to total assets ratio and the customer concentrations seen in loans and deposits. The Outlook for the FSR remains 'Stable'. The Bank's Long- and Short-Term Foreign Currency Ratings (FCRs) are affirmed at 'B' and 'B', respectively, with a 'Stable' Outlook, in line with CI Ratings' Sovereign Ratings for Egypt ('B' /'B'/'Stable'). These ratings denote significant credit risk as the Bank's capacity for timely fulfilment of financial obligations is vulnerable to adverse changes in internal or external circumstances. BdC's Support Rating is maintained at '3', reflecting the high likelihood of official support from the authorities in case of need, as well as from its ultimate parent, government-owned Banque Misr (BM).
Egypt succeeded in meeting the International Monetary Fund's (IMF) preconditions in 2016 to qualify for much needed financial assistance to support economic reforms and ease pressure on foreign exchange reserves and foreign currency liquidity in the local market. Although the programme has provided some respite for the government by stabilising the country's weak external liquidity position, CI considers implementation risk to continue to be high given the depth and socially-sensitive nature of many of the planned reforms. Liquidity conditions in the banking system, however, are improving after official restrictions on the withdrawal and transfer of foreign currency deposits by individuals and corporates for the import of strategic commodities were removed following the devaluation.
The surplus liquidity generated by BdC since the political events (in 2011) continues to be deployed into local currency government paper, and to a lesser extent in bank placements, a strategy also followed by other Egyptian banks. This allocation of assets, however, has significantly increased the Bank's exposure to Egyptian government securities and produced high concentration risk. In common with peer banks, BdC's principal source of funding is customer deposits and in particular retail funds. Driven by sustained growth in customer deposits the Bank's liquidity remains comfortable as indicated by the net liquid asset ratio, reflecting the large holdings of government paper as well as bank placements. T-bills with maturities up to 12 months may be readily repo'd with the CBE. That said, there remain systemic risks to liquidity in the event of an adverse sovereign or political risk event − notwithstanding the IMF support. This is particularly the case with respect to foreign currency liquidity as net official foreign currency reserves may deplete once again.
While retail credits continue to make up the majority of the relatively small loan book, the share of corporate loans in the portfolio grew due to the increased value in EGP terms of existing USD-denominated corporate credits (following the EGP devaluation). The impact of exchange rate devaluation and higher interest rates is expected to be manageable for BdC. Nonetheless, along with the larger share of corporate loans, borrower concentrations have also increased to a rather high level which in turn elevates credit risk. The Bank's loan asset quality, however, improved in Q1-Q3 2017 as evidenced by the decline in NPLs and more than full LLR cover. Although BdC's ratio of NPLs to gross loans is currently below the improved sector average, it should be mentioned that credit stress remains elevated as clearly indicated by the considerable increase in Past Due Not Impaired loans in 2016. Indeed, in view of Egypt's still challenging economic outlook, credit risk is expected to remain high and a potential deterioration in BdC's loan asset quality over the near to medium term cannot be ruled out.
The Bank's Basel 2 CAR recovered to an adequate level in Q3 2017 following an injection of Tier 2 qualifying subordinated funds from the central bank in the previous year. Furthermore, in December 2017 the shareholder granted a new EGP2,000mn 7-year subordinated loan. Despite the further increase in CAR, the Bank's loss-absorbing capital remains limited as demonstrated by the low Tier 1 ratio. Indeed, BdC's ratio of total capital to total assets continued trending downwards to a low level in Q3 2017. In terms of leverage this was similar to the other two state banks, National Bank of Egypt and BM, but considerably higher than the sector average. CI considers stronger levels of Tier 1 capital as increasingly necessary given the industry-wide trends in capital management. In this regard it is worth mentioning that given BdC's sound profitability, dividend policy can be adjusted to bolster the rate of internally generated capital.
Notwithstanding the significant decline in BdC's operating and net profit as measured against average total assets in Q1-Q3 2017, profitability metrics continue to be sound, underpinned by robust net interest income generation and effective cost control. The still good operating profitability provides the flexibility to step up provisioning if necessary. BdC maintains a strong and better than sector net interest margin thanks to the dominance of high margin retail loans. However, non-interest income (NII) is characterised by volatility, mainly related to securities gains and losses. Fee and commission income growth recovered strongly YoY in the first nine months of 2017 lifted by higher contingent accounts (LCs and LGs) activity booked in Q4 2016, and remained the largest component of NII. The contribution of NII to gross income, however, remained modest and below that of other Egyptian banks.
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