Fitch Ratings has affirmed the Long-Term Issuer Default Ratings (IDR) of Taiwan-based SinoPac Financial Holdings Company Limited (SPH) and the principal subsidiary, Bank SinoPac (BSP), at 'BBB+', their National Long-Term Ratings at 'AA-(twn)' and their Viability Ratings (VR) at 'bbb+'.

Fitch has also affirmed the Long-Term IDR of BSP's wholly owned Nanjing-based subsidiary, Bank SinoPac (China) Ltd. (BSP (China)), at 'BBB+'. The Outlook on the Long-Term IDRs is Stable.

In addition, Fitch has upgraded BSP's Government Support Rating (GSR) to 'bbb-' from 'bb+', based on our reassessment of the government's support ability and propensity. The upgrade reflects our view that the Taiwanese government's propensity to support BSP is higher than our previous assessment, considering their moderate systemic importance with deposit market share of around 3.6% in a highly fragmented banking system, and the authorities' likely desire to maintain financial system stability.

We also believe the Taiwanese government's ability to support BSP is not constrained by the presence of domestic systemically important banks (DSIB) and non-DSIB government banks in the system.

Key Rating Drivers

BSP

Stable Credit Profile: BSP's Long-Term IDR is driven by its VR, which is in line with the implied rating. Its ratings and the Stable Outlook reflect Fitch's expectation that the bank will maintain the risk profile and adequate loss-absorption buffers amid a stable operating environment.

Short-Term IDR: BSP's Short-Term IDR of 'F2' is at the baseline option, which maps to its Long-Term IDR, as its funding and liquidity score of 'a-' does not meet the minimum 'a' funding and liquidity score to achieve a higher rating.

Stable Operating Environment: The operating environment score of 'a' with stable outlook takes into consideration Taiwan's economic resilience alongside prudent regulatory oversight. This should support the financial sector's stability despite global challenges, which may dampen external demand for high-tech exports. Covid-19 disruptions have eased and should have a limited impact on Taiwan's economic growth. We forecast Taiwan's economy to expand by 2.1% in 2023 and 2.5% in 2024 (2022: 2.4%).

Asset-Quality Risk Manageable: We expect a modest rise in BSP's impaired loans ratio (0.4% at end-3Q22), most likely from relief lending and offshore exposures. The relief lending limit accounted for 6.6% of its total loans; the actual outstanding is even lower and mostly consists of secured residential loans. The bank has a moderate loan/value ratio and its focus on owner-occupied mortgages should support the credit quality of its mortgages (43% of total loans at end-1H22). We expect BSP to remain selective in offshore lending, with mainland China exposure stable at 8% of total assets.

Improving Core Profitability: We expect modest loan growth, margin improvement due to rate increases in both the US dollar and Taiwan dollar, steady growth in lending and wealth-management fee income and modest credit cost to underpin BSP's moderately improving core profitability in 2023. We estimate its net income rose by 16% yoy in 9M22, due to loan growth, higher interest margins and fees, and modest credit costs, if excluding one-off gains from interbank placement and bond hedging.

Pressure on Capitalisation to Ease: We expect BSP to maintain adequate capitalisation through a planned rights issuance, profit retention and prudent growth in risk-weighted assets. Its common equity Tier 1 (CET1) ratio fell to 9.8% by end-1H22, from 11% at end-2021, due mainly to bond valuation losses arising from rate hikes and, to a lesser extent, dividend payout. We expect the ratio to rise towards 11% over 2023-2024, as its parent, SPH, plans to raise new capital of around TWD10 billion via a rights issue by end-1Q23 and inject most of the new capital into BSP to enhance the bank's capitalisation.

Sound Liquidity Profile: We believe Taiwan's ample system liquidity, along with BSP's modest growth and digital transformation, will help sustain the bank's sound funding and liquidity profile. The bank's loan/deposit ratio rose to 72% by end-3Q22 (sector average: 72%), from 66% at end-2021, as loan growth outpaced deposits growth. The bank's foreign-currency deposits remained sufficient to fund offshore lending with a low loan/deposit ratio for US dollars at below 50%.

SPH

Ratings Aligned with Bank Subsidiary: The ratings and Outlook on SPH are aligned with those of the principal subsidiary, BSP. Fitch expects SPH to remain a bank-centric company and to maintain a moderate common-equity double-leverage ratio (DLR, 113% at end-3Q22) at the holding-company level in the absence of acquisitions. BSP made up 90% of SPH's assets, which are highly integrated in terms of risk management, business strategy and branding.

Steady Onshore Growth: We expect Taiwan's stable operating environment to underpin SPH's steady onshore growth as well as financial performance. Improving profitability at BSP should help mitigate the earnings volatility at SinoPac Securities Corporation (SPH's second-largest subsidiary; around 8% of SPH's assets) due to stock market fluctuations. BSP contributed over 90% of SPH's net profit in 9M22.

Selective Offshore Growth: We expect SPH's offshore exposure to rise modestly on larger interest-rate increases in the US dollar relative to the Taiwan dollar. The group adheres to its strategy of providing cross-border financial services for customers in Taiwan, especially those with regional operations. We expect moderate growth in mainland China as the economic recovery stabilises, while other Asian countries, such as Vietnam and Singapore, may see higher growth momentum given a low base.

Temporary Headwind in Leverage, Liquidity: Fitch expects SPH's common-equity DLR to stay below 120%, although the ratio may rise temporarily in 2023. BSP is unlikely to pay any dividends in 2022, as local regulations restrict the payment of dividends when there is a decline in core capitalisation; BSP's core capitalisation declined in 2022 due to revaluation losses on its bond investments as interest rates rose. This is likely to result in increased borrowings at the holding-company level to fund dividends to its shareholders and increase SPH's near-term common-equity DLR.

That said, we do not expect SPH's common-equity DLR to rise further beyond 2023, as BSP is likely to resume dividend payments in 2024. Dividend income from BSP should cover SPH's dividend payout (of around 65%) as well as its interest and other operating expenses.

Rating Sensitivities

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

LONG-TERM IDRS AND VR

BSP

BSP's ratings could be downgraded if its risk or growth appetite significantly rises, leading to severe deterioration in asset quality, profitability and capitalisation. The ratings could also face pressure if the impaired loans ratio rises markedly to close to 4%, operating profit/risk-weighted assets weaken towards 0.8%, or the reported CET1 ratio falls on a sustained basis to significantly below 11%.

SPH

A downgrade of BSP's VR could trigger a similar move on SPH's ratings. In addition, a sustained increase in SPH's common-equity DLR - for example, from large-scale acquisitions - to above 120% may also lead to a rating downgrade for SPH.

SHORT-TERM IDR

The Short-Term IDRs of BSP and SPH would be downgraded if BSP's VR is downgraded and its funding and liquidity score is lowered to below 'bbb+'.

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

LONG-TERM IDRS AND VR

BSP

An upgrade appears unlikely in the medium term, in light of BSP's moderate franchise, profitability and capitalisation. However, the rating may be upgraded on a sustained improvement in financial matrix, for example, if the operating profit/risk-weighted assets ratio was to rise to above 2% (four-year average of 1.1% at end-1H22), or if its reported CET1 ratio were to rise above 14% (9.8% at end-1H22).

SPH

An upgrade of BSP's VR could trigger a similar move on SPH's ratings.

SHORT-TERM IDR

The Short-Term IDR of SPH could be upgraded if BSP's Short-Term IDR is upgraded. BSP's Short-Term IDR could be upgraded if its funding and liquidity score is revised to 'a' or above, although we view this as unlikely because of its moderate franchise.

OTHER DEBT AND ISSUER RATINGS: KEY RATING DRIVERS

NATIONAL RATINGS

The National Long-Term Ratings of BSP and SPH are at the high end of the rating scale, reflecting very low default risk relative to domestic peers. The Stable Outlooks on their National Ratings are in line with the Outlook on their Long-Term IDRs. The affirmation of the National Ratings indicates that there is no change in Fitch's view of their credit profiles relative to the rated universe of issuers based in Taiwan

BSP's GSR of 'bbb-' reflects a high probability of state support, if needed, based on its moderate systemic importance in Taiwan's highly fragmented banking system.

OTHER DEBT AND ISSUER RATINGS: RATING SENSITIVITIES

NATIONAL RATINGS

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

Changes in Fitch's perception of BSP's and SPH's credit profiles relative to the national-rating universe in Taiwan could affect their National Ratings. A downgrade of BSP's and SPH's National Ratings would arise from a weakening in their overall credit profiles on a relative basis to the national-rating universe.

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

Strengthening in their overall credit profile on a relative basis to the national-rating universe could lead to an upgrade of their National Ratings.

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

The GSR could be downgraded if Fitch believes BSP's perceived importance to the banking system has weakened.

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

An upgrade of BSP's GSR appears unlikely after the latest upgrade, as we expect the bank's systemic importance to remain moderate in the near term.

SUBSIDIARIES & AFFILIATES: KEY RATING DRIVERS

BSP (China)'s Shareholder Support Rating (SSR) of 'bbb+' is equalised with the parent's VR, and reflects our view of a high probability of extraordinary support from BSP, if needed. Fitch regards the mainland Chinese subsidiary as an integral part of the parent's cross-strait financial platform, which also includes BSP and its Hong Kong branch. BSP (China) provides the group's core products and services to its customers within the Greater China region. Fitch did not assign a VR to BSP (China) due to a lack of a significant standalone franchise in China.

BSP (China)'s Long-Term IDR is driven by the bank's SSR. BSP (China)'s Short-Term IDR is equalised with the parent's rating.

SUBSIDIARIES AND AFFILIATES: RATING SENSITIVITIES

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

BSP (China)'s ratings will move in tandem with the ratings of its parent, BSP. BSP (China)'s rating would be downgraded if BSP is downgraded, which would reflect the parent's reduced ability to support the subsidiary. Alternatively, there could be ratings downside if the perceived linkage between the subsidiary and its parent and/or its role in the group were to weaken significantly. This may be evident from a significant reduction in the group's shareholding and/or control of BSP (China).

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

Any upgrade of the parent's ratings is likely to lead to a similar move on BSP (China), assuming assumptions on support propensity are unchanged.

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. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579

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

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. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg.

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