CI affirms Egypt’s Banque Du Caire’s rating at ‘BB-’

Capital Intelligence (CI), the international credit rating agency, has affirmed Banque Du Caire’s Financial Strength Rating (FSR) at ‘BB-’, it said in a Thursday release.

CI cited the rating on the basis of Banque Du Caire comfortable liquidity, though subject to systemic risk, and strong profitability.

Ownership by state-owned Banque Misr, the second largest bank in the sector, also supports the FSR to a moderate degree. The factors constraining the FSR are ongoing sovereign and political risk factors, relatively low capital adequacy ratio (CAR), and the sharp increase in non-performing loans (NPLs), together with a fall in loan loss reserve (LLR) cover. Also constraining the FSR are the concentration risks in assets and to a lesser extent in customer deposits, ongoing elevated credit risk and the challenging operating environment. The Outlook for the FSR remains ‘Stable’. The Bank’s ‘B-’ Long-Term Foreign Currency (FC) Rating and ‘B’ Short-Term FC Rating are affirmed, with a ‘Stable’ Outlook, in line with CI’s 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 very vulnerable to adverse changes in internal or external circumstances. BdC’s Support Level is maintained at ‘3’, reflecting the agency’s view that the Bank will continue to be indirectly supported by the government (through state-owned Banque Misr). The likelihood of official support from the Central Bank of Egypt is also assessed high.

The ongoing elevated economic and political risks continue to weigh negatively on Egypt’s operating environment and all Egyptian banks as a group. Any significant increase in Egypt’s external financing needs could impact the foreign reserves buffer and may lead to renewed balance of payments pressures given the lack of access to international markets. Notwithstanding the demonstrated financial support for Egypt from Gulf Cooperation Council (GCC) countries, as well as the current moderate economic growth, the operating environment is expected to remain difficult and credit risks high.

BdC has made progress rebuilding its market share of total assets and customer deposits in Egypt’s steadily expanding banking system. Much of the surplus liquidity generated by the Bank in recent years has been channelled into local currency government paper, and to a lesser extent in net loans and advances, a strategy also seen at other Egyptian banks. In turn, this reallocation of assets has noticeably increased the Bank’s exposure to Egyptian government securities and culminated in issuer concentration risk. At the same time, BdC’s credit portfolio has grown rather swiftly over the same period, though this has been from a relatively low base, with most of the expansion driven by high-margin retail lending to employees of public sector entities. Consequently, the contribution of retail loans to total credit continued to increase, and this has helped reduce the high level of borrower concentration risk. However, NPLs have also grown considerably in both proportionate and money terms in the corporate segment during recent periods. While a rise in classified loans over time is a normal result of new loans added, the sharp acceleration in the Bank’s NPL growth rate suggests that credit stress has intensified amid the difficult economic conditions. The Bank’s LLR coverage for NPLs fell significantly from a previously strong level, although it has to be said that the amount of required provisions to restore full cover is rather small in relation to BdC’s operating profit.

Profitability metrics have continued to strengthen on the back of robust net interest income generation and effective cost control. Indeed, the ROAA (return on average assets) and operating profit to average assets ratios reached strong levels in 2014 and into the first nine months of 2015. The Bank’s good operating profitability provides the flexibility to step up provisioning requirements if necessary. Fee and commission income continued to enjoy healthy growth, in line with expanding business volumes. However, the contribution of non-interest income to gross income remained modest and below that of other Egyptian banks.

BdC’s CAR (Basel II) remains slightly below the statutory minimum requirement and the ratio of total capital to total assets is also still low and less than the sector average. CI considers that CAR is currently insufficient in view of industry-wide trends in capital management. Since a capital injection from Banque Misr appears remote in the current environment (and given the parent’s own capital constraints), other sources of capital, such as a subordinated debt issue, might have to be used. However, it is more than likely that over the near to medium-term BdC will have to rely on internal capital generation, through full earnings retention, to restore CAR to a satisfactory level.

In common with other Egyptian 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 lliquidity remains comfortable (though subject to systemic risk), reflecting the large holdings of government paper, as well as the comparatively low share of loans in total assets. That said, the local market is characterised by a shortage of foreign currency funds due to the significant depletion of the country’s international reserves. Although payments of letters of credit are permitted once the commercial transaction has been verified, there are restrictions on the transfer and withdrawal of foreign currency deposits by individuals and corporates, despite some easing in recent periods.