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Rating Action:

Moody's downgrades 77 Bank to A3; outlook stable

 The document has been translated in other languages

30 Oct 2019

Tokyo, October 30, 2019 -- Moody's Japan K.K. has downgraded the long-term and short-term deposit ratings, Baseline Credit Assessment (BCA), Adjusted BCA, and long-term Counterparty Risk Assessments (CRAs) of The 77 Bank, Ltd.

The ratings outlook is stable.

Today's rating action concludes the review for downgrade initiated on 29 August 2019, driven by the increasingly challenging operating environment that continues to pressure profitability.

The affected ratings and assessments are as follows:

- Baseline Credit Assessment (BCA): downgraded to baa2 from baa1

- Adjusted BCA: downgraded to baa2 from baa1

- Long-term bank deposit ratings (foreign/domestic): downgraded to A3 from A2

- Short-term bank deposit ratings (foreign/domestic): downgraded to P-2 from P-1

- Long-term Counterparty Risk (CR) assessment: downgraded to A2(cr) from A1(cr)

- Short-term Counterparty Risk (CR) assessment: affirmed at P-1(cr)

- Outlook changed to stable from rating under review

RATINGS RATIONALE

The downgrade of 77 Bank's long-term deposit ratings to A3 from A2 is driven by the structural challenges the bank faces in maintaining profitability, amid persistently low domestic interest rates and severe competition among banks. Continuously declining profitability has weakened the bank's ability to absorb losses and challenges the sustainability of the bank's business model.

Credit costs are currently low, but with net interest income declining and no substantial reduction in expenses, weak pre-provision profitability means that even a small increase in credit costs will significantly impact earnings.

Japan's shrinking and aging population over the past few decades poses challenges for the bank's traditional lending business models. Poor demographics form a major factor behind anemic economic growth, low interest rates and reduced credit demand, in turn pressuring margins.

To sustain loan yields and mitigate its weak profitability, the bank has been increasing its exposure to riskier loans, in particular by replacing its low-risk loans to large corporates with loans to local small and medium-sized enterprises. As a result, its risk-weighted assets have increased at a faster rate than its retained earnings, eroding its capital buffer.

At the same time, 77 Bank's liquidity is strong, supported by its solid deposit franchise, with a 43% share of its home market as of the end of March 2018, as well as by its large securities holdings. The bank's securities portfolio is highly liquid and has low credit risk, with about 74% invested in domestic bonds as of the end of March 2019. Furthermore, 77 Bank's consolidated loan-to-deposit ratio is improving moderately, although it was still low at 60% as of the end of June 2019.

77 Bank's baa2 BCA takes into account the bank's (1) strong liquidity, backed by its solid deposit base and large pool of liquid assets; (2) modest asset risk, supported by strong loan quality but tempered by its concentration in real estate loans and exposure to market risk; (3) weakening profitability; and (4) modest capitalization.

The bank's adjusted BCA is also at baa2, because Moody's has not incorporated any affiliate support in the rating.

The bank's consolidated nonperforming loan ratio improved to 2.05% at the end of June 2019 from 2.10% a year earlier. Nevertheless, this level remains high when compared Moody's rated regional banks, and is the result mainly of the earthquake and tsunami in March 2011 that affected the bank's core market.

The outlook on the ratings is stable, reflecting Moody's expectation that 77 Bank will maintain its strong liquidity profile, while profitability will remain pressured by the ultralow interest rate environment.

77 Bank's A3 long-term deposit ratings incorporate a two-notch uplift from the bank's BCA of baa2. The uplift reflects Moody's assumption of a very high likelihood of support from the Government of Japan (A1 stable), in times of need, given the bank's importance to the local economy in Miyagi Prefecture.

FACTORS THAT COULD LEAD TO AN UPGRADE

Moody's would consider upgrading 77 Bank's ratings if increases its profitability on a sustained basis without significantly raising risk, despite the challenging operating environment.

FACTORS THAT COULD LEAD TO A DOWNGRADE

Factors that could result in a downgrade of the ratings include (1) its TCE ratio falling below 8%; (2) a further weakening in its profitability, due to rising credit costs or losses from its securities portfolio; (3) deteriorating asset quality; or (4) weakening liquidity, due to an increased reliance on market funds or investments in less liquid assets.

The principal methodology used in these ratings was Banks (Japanese) published in August 2018. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

The 77 Bank, Ltd., headquartered in Sendai City, Miyagi Prefecture, is a regional bank in Japan. At the end of June 2019, the bank reported consolidated assets totaling JPY8.6 trillion.

REGULATORY DISCLOSURES

For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Tomoya Suzuki
Asst Vice President - Analyst
Financial Institutions Group
Moody's Japan K.K.
Atago Green Hills Mori Tower 20fl
2-5-1 Atago, Minato-ku
Tokyo 105-6220
Japan
JOURNALISTS: 81 3 5408 4110
Client Service: 81 3 5408 4100

Graeme Knowd
MD - Banking
Financial Institutions Group
JOURNALISTS: 852 3758 1350
Client Service: 852 3551 3077

Releasing Office:
Moody's Japan K.K.
Atago Green Hills Mori Tower 20fl
2-5-1 Atago, Minato-ku
Tokyo 105-6220
Japan
JOURNALISTS: 81 3 5408 4110
Client Service: 81 3 5408 4100

No Related Data.
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