July 4, 2017 / 4:55 AM / 5 months ago

Fitch Affirms 3 Korean Policy Banks' IDRs; IBK's VR Rated 'a-'

(The following statement was released by the rating agency) SEOUL, July 04 (Fitch) Fitch Ratings has affirmed the 'AA-' Long-Term Issuer Default Ratings (IDRs) of South Korea's three key policy banks - Korea Development Bank (KDB), the Export-Import Bank of Korea (KEXIM) and Industrial Bank of Korea (IBK). The Outlooks on the Long-Term IDRs are Stable. At the same time, Fitch has assigned a Viability Rating (VR) of 'a-' to IBK. A full list of rating actions is at the end of this rating action commentary. Fitch has assigned a VR to IBK based on our view that IBK's operations have a significant commercial orientation, rather than being largely driven by its policy role, unlike the operations of the other two banks, which have no assigned VRs. KEY RATING DRIVERS IDRS, SUPPORT RATING, SUPPORT RATING FLOOR, SENIOR DEBT AND MARKET-LINKED NOTES The IDRs and Support Rating Floors of the three key policy banks are equalised with the IDRs of the South Korean sovereign (AA-/Stable). The ratings, along with the Support Ratings of '1', reflect Fitch's expectation that there is an extremely high likelihood the state will provide support to the banks, if needed. The expectation is based on the important policy roles the three banks carry out for the country's economy, the government's controlling ownership of the banks and the government's de facto solvency guarantee stated in their respective establishment acts. Under the acts, the government is obliged to make up for any losses incurred by the banks that are not covered by their reserves. KDB's policy role is to provide credit for fostering local industries, developing social infrastructures and resources and supporting corporate restructuring. Its policy role has been highlighted in recent years as it was part of the government's effort to restructure troubled shipping and shipbuilding companies. KDB is 100% directly owned by the government. KEXIM offers credit to exporters, importers and overseas investment projects. KEXIM specialises in providing loans and guarantees to overseas construction and vessel manufacturing projects with long-term maturity, which commercial banks shy away from. The bank is effectively under full government ownership (73% directly, 16% through KDB and 11% through the Bank of Korea at end-2016). IBK's policy mandate is to build up an efficient credit system for viable SMEs. Its policy function stands out when the financial system is under stress as the bank extends more credit to SMEs when commercial banks reduce their SME exposure. Fitch believes that the government is committed to keeping its controlling ownership of the bank (52% of the common equity directly, 2% through KDB and 2% through KEXIM at end-2016). The Stable Outlook on the three policy banks' Long-Term IDRs reflects that of South Korea's sovereign rating. The ratings of their senior unsecured debt, including global medium-term notes (GMTNs), US commercial paper (CP) and certificate of deposit (CD) programmes, are the same as the respective banks' Long-Term and Short-Term IDRs as they constitute direct, unconditional, unsecured and unsubordinated obligations of the banks. The rating on KEXIM's senior market-linked notes also reflects the principal-protected nature of the notes while the coupons vary based on market indicators. SUBSIDIARY AND AFFILIATED COMPANY Korea Development Bank, New York Branch is a branch of KDB. The rating on the branch's US CP programme is aligned with KDB's short-term debt rating because the CP programme's rating is sensitive to the same factors driving a change in KDB's short-term debt. IBK VR IBK's 'a-' VR is mainly driven by the bank's strong company profile backed by its sound risk-minded corporate culture and South Korea's resilient economy. With a significant local franchise (commanding about 22% and 13% of the system's SME loans and retail funding, respectively), IBK has a strong track record of delivering consistent performance through-the-cycle. The VR also takes into account disadvantages IBK has as a countercyclical policy lender especially when the banking system is under stress, as it is less flexible than the system's pure commercial banks. These disadvantages are in part offset by the ordinary support from its controlling shareholder, the government, particularly in terms of funding and capitalisation. IBK's SME-focused business model with its relatively limited large corporate exposure (5% at end-2016 vs. about 15% average of the local commercial banks) has helped IBK maintain a stable asset quality over the last decade. We view the universe of Korea's SME borrowers as well diversified and deep. Moreover, IBK's low single-borrower concentration in its loan portfolio, together with adequate risk-based pricing, has limited the risk of significant unexpected losses. IBK's ratio of loans classified as precautionary and below (2.9% at end-1Q17) as per the local regulator's loan-quality categorisation is likely to remain worse than the local commercial bank average (1.7%) given the relatively high underlying credit risks of SMEs compared with other stable sectors, such as mortgages. Nonetheless, the ratio has been quite stable, reflecting IBK's fairly diversified SME clientele. IBK's loan book is largely secured with collaterals and guarantees and its impaired loan losses have better reserve coverage than the average of local commercial banks. We expect IBK's Fitch Core Capital ratio (10.0% at end-1Q17) to gradually improve in the medium term given the bank's plan to moderate loan growth. The ratio has been notably lagging behind the local commercial bank average (13.4%), reflecting its relatively strong loan growth and the higher risk weighting applied to its SME exposure compared with household lending, the focus of many commercial banks in recent years. We also expect IBK to benefit from continued ordinary capital support from the government. IBK's loans-to-customer-deposits ratio (adjusted for loans and deposits to/from financial institutions as well as its debentures sold through retail branches) has been worse (130% at end-2016) than the commercial bank average (112%). IBK has strong access to the wholesale capital market, benefiting from investors' strong confidence in potential ordinary support from IBK's controlling shareholder. Fitch estimates IBK's underlying profitability, measured by operating profits/risk-weighted assets, to be about 1.1% in the near term. The ratio (1.0% in 2016) has been marginally better and less volatile than local commercial banks' (0.8%) for the last four years under the low interest rate and stable credit cost environment. RATING SENSITIVITIES IDRS, SUPPORT RATING, SUPPORT RATING FLOOR, SENIOR DEBT AND MARKET-LINKED NOTES The three key policy banks' IDRs, Support Ratings, Support Rating Floors, senior debt and market-linked notes' ratings are sensitive to a change in Fitch's assumptions about the banks' relationship with the South Korean government and the sovereign's rating. They would be directly affected by changes to South Korea's ratings or to the solvency guarantee under the policy banks' establishment acts. Fitch does not expect any significant changes to either in the near to medium term. IBK VR An upgrade may be prompted by sustainable improvement in the operating environment, which may further solidify its business model and financial profile. A significant improvement in its capitalisation may also cause an upgrade. Conversely, downgrade pressure may arise from a significant deterioration in the operating environment and/or its risk appetite, which may pressure asset quality and capitalisation. SUBSIDIARY AND AFFILIATED COMPANIES KDB New York Branch's US CP programme rating is sensitive to the factors driving KDB's short-term debt. The rating actions are as follows: KDB Long-term Foreign-Currency IDR affirmed at 'AA-'; Outlook Stable Short-term Foreign-Currency IDR affirmed at 'F1+' Support Rating affirmed at '1' Support Rating Floor affirmed at 'AA-' Senior unsecured debt (including GMTN programme) affirmed at 'AA-' Short-term debt (including US CP programme and GMTN programme) affirmed at 'F1+' KDB, New York Branch US CP programme affirmed at 'F1+' KEXIM Long-term Foreign-Currency IDR affirmed at 'AA-'; Outlook Stable Short-term Foreign-Currency IDR affirmed at 'F1+' Support Rating affirmed at '1' Support Rating Floor affirmed at 'AA-' Senior unsecured debt (including GMTN programme) affirmed at 'AA-' Market-linked securities affirmed at 'AA-(emr)' IBK Long-term Foreign-Currency IDR affirmed at 'AA-'; Outlook Stable Short-term Foreign-Currency IDR affirmed at 'F1+' Viability Rating assigned at 'a-' Support Rating affirmed at '1' Support Rating Floor affirmed at 'AA-' Senior unsecured debt (including CD programme) affirmed at 'AA-' Short-Term CD programme affirmed at 'F1+' Contact: Primary Analyst Matt Choi Associate Director +82 2 3278 8372 Fitch Australia Pty Ltd, Korea Branch 9F Kyobo Securities Building 97, Uisadang-daero, Yeongdeungpo-Gu Seoul 07327, South Korea Secondary Analyst Heakyu Chang Senior Director +82 2 3278 8363 Committee Chairperson Parson Singha, CFA Senior Director +662 108 0151 Summary of Data Adjustments - The analysts have made the following assumptions in analyzing the loan-to-customer-deposits ratio: - Customer deposits: IBK has a practice of selling its own debentures directly through its retail branches (in an amount which is publicly disclosed). 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