New York, April 25, 2022 -- Moody's Investors Service ("Moody's") has today downgraded all long-term ratings and assessments assigned to Banco do Estado de Sergipe S.A. (Banese), including the bank's long-term local and foreign-currency deposit ratings to Ba3, from Ba2, as well as the baseline credit assessment (BCA) to ba3, from ba2. The bank's long-term local and foreign-currency counterparty risk ratings were also downgraded to Ba2, from Ba1, as well as the counterparty risk assessments (CRA) to Ba2(cr), from Ba1(cr). All short-term ratings and CRAs were affirmed at Not Prime and Not Prime(cr). The rating outlook was changed to stable, from negative.
A full list of the affected ratings and assessments is provided at the end of this press release.
RATINGS RATIONALE
The downgrade of Banese's BCA to ba3 reflects the deterioration in asset quality and profitability metrics the bank has reported since 2019, following the adoption of a strategy to increase business diversification by growing its portfolio of loans to small and midsize companies in the State of Sergipe. During the implementation of this strategy, the bank has focused on the acceleration of loan growth, which has led to a rapid increase in problem loans, particularly following the COVID-19 pandemic in 2020. In December 2021, Banese's problem loans accounted for 3.98% of gross loans, up from 3.14% one year prior and well above the 2.2% industry average ratio at year-end 2021.
We expect the bank's loan delinquency will continue to rise in the next 12 to 18 months, pressured by the weak operating environment in Brazil, especially in view of the negative effects of prolonged inflation on households' income, as well as the drop in companies' earnings volume stemming from lower business activity. Negative pressure on asset quality will likely be mitigated partially by a still adequate volume of loan loss reserves, at 4.83% of total loans and 121% of problem loans as of December 2021. Despite that, reserve coverage was below the range of 150%-250% the bank reported between 2018 and 2020 and well below the industry average of 244% as of December 2021.
In downgrading Banese's BCA to ba3, one notch below the median ba2 BCA in Brazil, Moody's also considered a more challenging scenario for the bank's profitability in the next 12 months as a result of stronger upward pressure on funding costs caused by the rapid hike in Brazil's policy rates on Banese's short-term floating-rate funding structure than on the bank's revenue origination from its long-term loan book, comprised mostly of fixed-rate operations. Because of the long-term nature of the bank's portfolio of payroll loans and mortgage financing, at 63% and 12% of gross loans, respectively, in year-end 2021, it will take longer time for Banese to reprice its loans at higher interest rates. In December 2021, the bank's net income to tangible banking assets was 1.1%, still below the average ratio of 1.6% from 2017 to 2019. The intense competition in the payroll loan segment will also likely weigh on Banese's net interest margins in 2022.
Banese's capitalization, measured by Moody's ratio of tangible common equity to adjusted risk weighted assets, declined to 8.2% in December 2021, from its 9%-9.5% historical average between 2019 and 2020, as a result of a rapid expand of its loan book in the past three years. We expect the bank's capital ratio will face further negative pressure in 2022, particularly if Banese carries out plans to grow its loan book at double-digit rates.
Banese's strong liquidity and stable core deposit funding structure are positive for the bank's credit profile. In December 2021, 68% of Banese's funding mix comprised low-cost demand, savings and judicial deposits, primarily from individuals and local companies. The ba3 BCA also incorporates Banese's entrenched banking franchise in its regional market, the State of Sergipe, supported by a steady deposit base and a relevant market share in retail lending operations, which is largely focused on offering financial products to the state employees.
FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS
Banese's BCA could be upgraded if the bank reports consistent improvement of its profitability and asset quality metrics in the next 12 to 18 months, while its continues to increase business diversification.
Conversely, the bank's BCA could face downward pressure if there is continued deterioration in asset quality metrics as a result of aggressive loan growth followed by an increase in loan losses, which could drain on capital.
METHODOLOGY USED
The principal methodology used in these ratings was Banks Methodology published in July 2021 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1269625. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.
LISTED OF AFFECTED RATINGS AND ASSESSMENTS
The following ratings and assessments of Banco do Estado de Sergipe S.A were downgraded:
.. Long-term local currency bank deposit rating: to Ba3 from Ba2, outlook to stable from negative
.. Long-term foreign currency bank deposit rating: to Ba3 from Ba2, outlook to stable from negative
.. Long-term local currency counterparty risk rating: to Ba2 from Ba1
.. Long-term foreign currency counterparty risk rating: to Ba2 from Ba1
.. Long-term counterparty risk assessment: to Ba2(cr) from Ba1(cr)
.. Baseline Credit Assessment: to ba3 from ba2
.. Adjusted Baseline Credit Assessment: to ba3 from ba2
The following ratings and assessments of Banco do Estado de Sergipe S.A were affirmed:
.. Short-term local currency bank deposit rating at Not Prime
.. Short-term foreign currency bank deposit rating at Not Prime
.. Short-term local currency counterparty risk rating at Not Prime
.. Short-term foreign currency counterparty risk rating at Not Prime
.. Short-term counterparty risk assessment at Not Prime(cr)
- Outlook, changed to stable from negative
REGULATORY DISCLOSURES
For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.
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.
The ratings have been disclosed to the rated entity or its designated agent(s) and issued with no amendment resulting from that disclosure.
These ratings are solicited. Please refer to Moody's Policy for Designating and Assigning Unsolicited Credit Ratings available on its website www.moodys.com.
Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.
Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at http://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1288235.
The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the EU and is endorsed by Moody's Deutschland GmbH, An der Welle 5, Frankfurt am Main 60322, Germany, in accordance with Art.4 paragraph 3 of the Regulation (EC) No 1060/2009 on Credit Rating Agencies. Further information on the EU endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.
The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the UK and is endorsed by Moody's Investors Service Limited, One Canada Square, Canary Wharf, London E14 5FA under the law applicable to credit rating agencies in the UK. Further information on the UK endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.
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.
Lucas Viegas
Vice President - Senior Analyst
Financial Institutions Group
JOURNALISTS: 0 800 891 2518
Client Service: 1 212 553 1653
Ceres Lisboa
Associate Managing Director
Financial Institutions Group
JOURNALISTS: 0 800 891 2518
Client Service: 1 212 553 1653
Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653