Standard & Poor’s affirmed its 'B+/B' long- and short-term issuer credit ratings on Bank of Cyprus noting that the outlook is stable but there are obstacles ahead.
The rating agency also affirmed its ‘BB/B’ resolution counterparty long- and short-term ratings on the bank.
BoC recently successfully completed several actions to enhance its capitalization, however, the stock of problematic assets on the balance sheet remains high, with nonperforming exposures (NPEs) accounting for about 35% of loans as of March 31, 2019, the credit rating agency said.
“The rating action reflects our belief that while BoC has recently completed several capital-enhancing actions, including the issue of an additional tier 1 (AT1) instrument and the disposal of assets, its capitalization remains a rating weakness overall when compared to the risks the bank undertakes.”
S&P points to the very high stock of NPEs, at 35% of gross loans, (pro forma €2.7 billion NPE market sale, the so-called Helix transaction) and the tilt toward retail, small and midsize enterprises (SMEs), which, have historically proven more difficult to tackle.
It projects a risk-adjusted capital (RAC) ratio of 6.0%-6.5% by December 2020, up from 5.6% on December 31, 2018.
This is primarily due to the change in domestic tax law in March, allowing tax-loss carry forwards to be converted into deferred tax credits, the sale of its equity stake in CNP Cyprus Insurance Holdings in June 2019 and the offloading of highly risk-weighted NPEs from the Helix transaction.
“These positive drivers should be somewhat offset by capital depletion, due to BoC likely remaining loss making over the next two years.”
The agency says that the bulk of the outstanding legacy NPEs relates to retail and SMEs (68% of total NPEs), which have proven particularly difficult to work out given the weak payment culture in Cyprus.
“Additionally, if the proposed changes to the foreclosure law were finally approved in favour of borrowers, we would expect significant negative consequences for the Cypriot banking system.”
S&P said if foreclosure law did change banks would need to book additional credit losses and adjust the value of their collateral downward, while the pace of NPE reduction would decelerate and investors would likely walk away from buying Cypriot assets.
It anticipates that the departure of CEO John Hourican in September will not lead to material changes in the bank`s focus on restoring its business and financial profile and believes that new CEO Panicos Nicolaou, will implement the existing business plan.
The stable outlook on BoC reflects S&P expectation that the bank will continue to reduce risks on its balance sheet while maintaining its capitalization at current levels over the next 12-18 months.
BoC is expected to maintain its improved underwriting standards while expanding its loan book and gradually reduce NPEs organically (to 22%-28% by end-2020).
S&P said it could lower their ratings on BoC if the bank were to incur additional material credit losses that affected its capitalization and pushed the RAC below 5%, or if asset quality unexpectedly worsened.
It could also take a negative action if the bank failed to strengthen its operating profitability and efficiency and if they were to anticipate it remaining materially loss-making over the long term.
On the other hand, S&P could raise their ratings on BoC if the bank reduced NPEs faster than expected, so that the NPE ratio fell materially below 20% and, at the same time, it gradually improved its efficiency and its operating profitability prospects.
Ratings could also improve if easing economic risks, coupled with NPE reduction efforts, led to the RAC ratio standing sustainably above 7%.
Source: Financial Mirror