Banco Mercantil do Brasil S.A.

Transcription

1 CREDIT OPINION 27 August 218 Banco Mercantil do Brasil S.A. Update following confirmation of long-term ratings and outlook change to negative Update Summary Banco Mercantil do Brasil S.A. Domicile Belo Horizonte, Minas Gerais, Brazil Long Term Debt (P)Caa1 Type Senior Unsecured MTN - Fgn Curr Outlook Not Assigned Long Term Deposit Caa1 Type LT Bank Deposits - Fgn Curr Outlook Negative Please see the ratings section at the end of this report for more information. The ratings and outlook shown reflect information as of the publication date. Contacts Farooq Khan Analyst farooq.khan@moodys.com Henrique S Ikuta Associate Analyst henrique.ikuta@moodys.com Exhibit 1 BMB Key Financial Ratios Banco Mercantil do Brasil S.A. (BCA: ) 4% 14% 35% 12% 3% 1% 25% 8% 2% 6% 15% 4% 1% 2% CLIENT SERVICES 9.7% 6.6% % Americas Asia Pacific Japan EMEA Median -rated banks 16% Asset Risk: Problem Loans/ Gross Loans Capital: Tangible Common Equity/Risk-Weighted Assets Solvency Factors (LHS) Source: Moody's Financial Metrics.4% Profitability: Net Income/ Tangible Assets 3.4% 26.3% Funding Structure: Market Funds/ Tangible Banking Assets Liquid Resources: Liquid Banking Assets/Tangible Banking Assets 5% % Liquidity Factors (RHS) Liquidity Factors Alexandre Albuquerque VP-Senior Analyst alexandre.albuquerque@moodys.com On 22 August 218, Moody's confirmed all BMB's long-term ratings and assessments, concluding the review for downgrade commenced on 24 May 218. The outlook was changed to negative. The confirmation of ratings reflects the Brazilian Central Bank's recent approval of a capital increase, which should help ensure that its regulatory capitalization levels remain above new regulatory minima, including buffers, in 219. The confirmation also considers the bank s large share of stable yet short tenor deposit based funding, backed by moderate levels of liquid assets. However, the negative outlook reflects the heightened challenges the bank faces in generating sustainable earnings, and the risk that it's still weak asset quality could begin to deteriorate again, which could put downward pressure on capital. Solvency Factors RATINGS Moody's assigns a baseline credit assessment (BCA) of to Banco Mercantil do Brasil S.A. (BMB), which reflects the bank's heavily weakened asset quality, low adjusted capitalization levels and the challenges it faces in generating sustainable profitability. The bank's high delinquency ratio stems from the poor quality of the bank's small and medium sized companies (SME) loan book, which was particularly susceptible to Brazil's recession and subsequent slow economic recovery. The bank's capital generation and profitability has and will be pressured by constrained interest margin, its high cost base and limited expected loan growth. However, BMB's BCA is supported by its low reliance on market funds along with its adequate levels of liquid assets which is a credit strength.

2 Credit strengths» Adequate holdings of liquid assets» Low reliance on market funds due to large, albeit concentrated, depositor client base Credit challenges» Profitability challenges by constrained net interest margins» Asset quality to remain high driven by loans to small and midsized companies» Low capitalization levels to remain constrained given profitability pressures Rating outlook The outlook is negative and reflects the challenges the bank faces in generating strong and sustainable profitability. Factors that could lead to an upgrade» Given the negative outlook there is no positive pressure on the bank's ratings at present. However, the outlook could stabilize if the bank reports strong and sustainable growth in its profitability over the next twelve months, sufficient to allow it to maintain stable capital levels. Factors that could lead to a downgrade» The ratings could move down if the bank's earnings continue to decline, driven by a further increase in credit or operating costs, leading to a deterioration in capital levels. Key indicators Exhibit 2 Banco Mercantil do Brasil S.A. (Consolidated Financials) [1] Total Assets (BRL billion) Total Assets (USD billion) Tangible Common Equity (BRL billion) Tangible Common Equity (USD billion) Problem Loans / Gross Loans (%) Tangible Common Equity / Risk Weighted Assets (%) Problem Loans / (Tangible Common Equity + Loan Loss Reserve) (%) Net Interest Margin (%) PPI / Average RWA (%) Net Income / Tangible Assets (%) Cost / Income Ratio (%) Market Funds / Tangible Banking Assets (%) Liquid Banking Assets / Tangible Banking Assets (%) Gross Loans / Due to Customers (%) CAGR/Avg [1] All figures and ratios are adjusted using Moody's standard adjustments [2] Basel III - fully-loaded or transitional phase-in; LOCAL GAAP [3] May include rounding differences due to scale of reported amounts [4] Compound Annual Growth Rate (%) based on time period presented for the latest accounting regime [5] Simple average of periods presented for the latest accounting regime. [6] Simple average of Basel III periods presented Source: Moody's Financial Metrics This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page on for the most updated credit rating action information and rating history August 218

3 Profile Banco Mercantil do Brasil S.A. is headquartered in Belo Horizonte, Minas Gerais, Brazil, and acts as a traditional medium-sized retail bank with branches and service outlets strategically distributed in the main economic centers of the country. The bank has structured itself into specialty businesses, with an emphasis on payroll lending to retirees and pensioners. As of March 218, the bank s consolidated assets amounted R$9.4 billion, which made it the 39th largest in Brazil, responsible for.12% of the nation s market share by assets. Detailed credit considerations High delinquency rates driven by small and midsized company (SME) exposures We assign a caa2 score for BMB's asset risk, which reflects the persistently high level of delinquency ratios reported by the bank, mostly driven by the poor quality of its loan book with small and medium-sized companies (SMEs), which accounts for roughly 33% of BMB's total lending. The banks ratio of problem loans, as calculated by Moody's, to total loans was 9.3% as of June 218, down from 11.6% in March 217, yet rising from December 217 levels. The 9 day problem loan ratio for corporate clients reached 11.6% in June 218 and its high level continues to challenge the bank s asset quality despite the bank's attempts to decrease its exposures. In its SME loan book, the bank's exposures to economic sectors include civil construction (5% of loans), transport (3% of loans) as well as general construction, metals, foods, cargo transport and financial services that all represent close to 2% of loans each. As of June 218, consumer loans represented 69% of its loan book, with half of this being relatively low risk payroll loans. The bulk of BMB's payroll loan operations is oriented to retirees, to whom the bank also offers an unsecured loan on top of their existing payroll exposures, a riskier product. 9 day problem loans for its consumer business were 6.4% in June 218, in line with December 217. Importantly, BMB's delinquencies continue to remain high despite the bank s charge offs, which represent 1.2% of its loan book, net of recoveries, as of June 218. We anticipate BMB's asset quality to remain challenged in 218 in light of Brazil's slow economic recovery and seasoning in its consumer lending product which could increase asset risk further. BMB is focusing on another relatively high risk market segment, namely unsecured lending to its heavily indebted pensioner customer base, many of whom have already taken out the maximum permitted amount of secured loans. Low capitalization to remain given profitability pressures The caa3 score we assign for BMB's capital reflects the banks low capitalization levels measured by Moody's ratio of TCE to risk weighted assets (RWA). The low score for capital is also based on our view that BMB's capital base has and will continue to face challenges given profitability pressures. On 17 August 218, the Brazilian Central Bank approved a BRL 6 million capital increase, which we expect will raise the bank's Tier 1 ratio by 94 basis points to 9.9%. This will provide the bank an adequate cushion above Brazil s new regulatory minimum, which is set to increase to 8.5% by 219, including the capital conservation buffer. However, the bank s ratio of tangible common equity to risk weighted assets is considerably lower at just 6.6% due to the bank s large holdings of deferred tax assets, most of which Moody s deducts from capital due to their limited loss absorption capacity. Provisions and operating expenses will continue to constrain profitability We assign a score of caa3 for BMB's profitability that reflects the challenges the bank faces in generating healthy profitability in light of the constrained interest margins, elevated cost base and low expected loan growth. Net income as a percentage of tangible assets was.4% in the second quarter of 218 and.6% in the first half of 218. In large part, Banco Mercantil's profits in 216 and 217 were derived from sales of payroll loans to third parties. Following its capital increase, the bank plans to start growing its loan book again following a 7.3% contraction in 217. If successful, this could lead to a modest improvement in profitability. However, it is uncertain whether it will be able to grow its loan book and net income sustainably, particularly in light of increased competition for payroll loans, which is the bank's main product, and Brazil's current low interest rate environment. Moreover, the bank s bottom line is very vulnerable to further increases in its provisioning and operating expenses, which are already elevated compared to similar banking institutions in Brazil August 218

4 In such an event, the bank could potentially prop up earnings by selling assets to third parties, but this could result in significant further declines in its balance sheet, which could become unsustainable. Depositor concentration among its pensioner client base to remain BMB has a funding base with a relevant participation of deposits originated in the retail segment, which are steadier and have lower cost than deposits from companies and institutional investors. As of June 218, the sum of demand, savings and time deposits was approximately 83% of total funding structure and means that the bank has a low reliance on market funds. However, a high share of the bank's depositor funding comes from its pensioner client bases which adds a large degree of concentration risk and contributes to our assessment of b1 for BMB's funding structure. Adequate liquidity to counter limited market funding risk Our ba2 assessment for BMB's liquid resources reflects the adequate levels of liquid assets that the banks holds as shown by its ratio of Liquid Banking Assets / Tangible Banking Assets of 24.7% in June 218, which provides a solid buffer against its market funding exposures. BMB's management also actively avoids negative mismatches between tenures of assets and liabilities which is also positive for the BMB's liquidity. BMB's rating is supported by Brazil s moderate macro profile Brazil's Moderate - macro profile reflects the country's large and diversified economy, strong international reserves, and the improved effectiveness of monetary policy. However, the country's economic performance remains weak following two years of recession. Following an aggressive expansion in lending, particularly at the public sector banks, which led to concerns of a possible credit bubble, lending has been contracting steadily since midyear 216 and asset risks have remained relatively contained despite the depth and length of the country's recession. The slowdown in lending has also limited banks' needs for market funding. Although government owned banks' account for a 53% share of the loan market, their growth rate has been consistently declining, which will help reduce pricing distortion created by their previous loose lending policies. Support and structural considerations In the absence of a bail-in resolution regime framework in Brazil, the ratings of subordinated debts, bank hybrids, and contingent capital securities follow the Additional Notching Guidelines, as per the Rating Methodology: Banks. In these cases, the approach takes intoaccount other features specific to debt classes, resulting in additional notching from the adjusted baseline credit assessment (BCA) of the issuer. Government support We believe there is a low likelihood of government support for BMB's rated deposits and senior unsecured debt, which reflects the regional importance of the bank. However, on a nationwide basis, BMB has a modest market share of deposits. Counterparty risk assessments CR Assessments are opinions of how counterparty obligations are likely to be treated if a bank fails and are distinct from debt and deposit ratings in that they (1) consider only the risk of default rather than both the likelihood of default and the expected financial loss suffered in the event of default and (2) apply to counterparty obligations and contractual commitments rather than debt or deposit instruments. The CR assessment is an opinion of the counterparty risk related to a bank's covered bonds, contractual performance obligations (servicing), derivatives (e.g., swaps), letters of credit, guarantees and liquidity facilities. BMB's CR Assessment is positioned at B3(cr) and Not Prime (cr), which is one-notch above the bank's Adjusted BCA of, and, therefore, above the deposit rating of the bank, reflecting Moody's view that its probability of default is lower at the operating obligations than of deposits. The CR Assessment at BMB does not benefit from government support, as the government support is not incorporated in the bank's deposit ratings. About Moody's bank scorecard Our Scorecard is designed to capture, express and explain in summary form our Rating Committee's judgment. When read in conjunction with our research, a fulsome presentation of our judgment is expressed. As a result, the output of our Scorecard may materially differ from that suggested by raw data alone (though it has been calibrated to avoid the frequent need for strong 4 27 August 218

5 divergence). The Scorecard output and the individual scores are discussed in rating committees and may be adjusted up or down to reflect conditions specific to each rated entity. Rating methodology and scorecard factors Exhibit 3 Banco Mercantil do Brasil S.A. Macro Factors Weighted Macro Profile Moderate - 1% Historic Macro Ratio Adjusted Score Factor Credit Trend Assigned Score Key driver #1 Key driver #2 Quality of assets Solvency Asset Risk Problem Loans / Gross Loans 9.7% b2 caa2 Expected trend Capital TCE / RWA 6.6% caa3 Risk-weighted capitalisation Profitability Net Income / Tangible Assets.4% b1 caa3 Earnings quality Combined Solvency Score Liquidity Funding Structure Market Funds / Tangible Banking Assets b3 3.4% Liquid Resources Liquid Banking Assets / Tangible Banking Assets 26.3% Combined Liquidity Score Financial Profile Business Diversification Opacity and Complexity Corporate Behavior Total Qualitative Adjustments Sovereign or Affiliate constraint: Scorecard Calculated BCA range Assigned BCA Affiliate Support notching Adjusted BCA Instrument class Counterparty Risk Rating Counterparty Risk Assessment Deposits Senior unsecured bank debt Dated subordinated bank debt caa3 a3 ba1 baa2 Loss Given Failure notching b1 Deposit quality ba2 Stock of liquid assets ba3 Ba2 b3-caa2 Additional Preliminary Rating Notching Assessment b3 b3 (cr) caa2 Government Support notching Local Currency Rating B3 B3 (cr) Caa1 --- Foreign Currency Rating B3 -Caa1 (P)Caa1 Caa2 [1] Where dashes are shown for a particular factor (or sub-factor), the score is based on non-public information. Source: Moody's Financial Metrics 5 27 August 218

6 Ratings Exhibit 4 Category BANCO MERCANTIL DO BRASIL S.A. Outlook Counterparty Risk Rating Bank Deposits NSR Bank Deposits Baseline Credit Assessment Adjusted Baseline Credit Assessment Counterparty Risk Assessment Senior Unsecured MTN Subordinate Moody's Rating Negative B3/NP Caa1/NP Caa1.br/BR-4 B3(cr)/NP(cr) (P)Caa1 Caa2 Source: Moody's Investors Service 6 27 August 218

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8 CLIENT SERVICES 8 Americas Asia Pacific Japan EMEA August 218