ACRA upgrades JSC "Bank DOM.RF" to A+(RU), changes outlook to Positive

The credit rating of JSC "Bank DOM.RF" (hereinafter, Bank DOM.RF, or the Bank) has been upgraded from A(RU) to A+(RU) to reflect the improvement in the Bank’s risk profile to satisfactory due to the change in the quality of the loan portfolio. The rating is also based on the Bank’s adequate business profile and capital adequacy, coupled with a satisfactory funding and liquidity position. Additionally, ACRA notes the high likelihood of support (in the form of capital and liquidity) from the Bank’s sole shareholder, JSC "DOM.RF" (ACRA rating — AAA(RU), outlook Stable; hereinafter, the Supporting Organization, or the SO), which is reflected in the addition of four notches to the standalone creditworthiness assessment (SCA).

The change in outlook from Stable to Positive reflects ACRA’s opinion on the possible influence of the Bank’s improved operating efficiency on its SCA over the 12-month horizon. Furthermore, ACRA believes that the upcoming merger of Bank DOM.RF and SME Bank JSC (hereinafter, SME Bank) does not entail significant risks for the financial stability of Bank DOM.RF due to the significantly larger scale of its operations and more developed risk management system. Also, in ACRA’s opinion, over the next 12 to 18 months, capital will continue to be injected into Bank DOM.RF, which will also facilitate smooth completion of the merger. When the merger finishes, the new company’s operations will continue to focus on the housing construction sector. If the most favorable scenario is realized, the merger may contribute to the growth of diversification and, as a result, the stability of the business of the new company, as well as increase its strategic importance.

Key rating assessment factors

The high likelihood of extraordinary support from the SO substantially underpins the final assessment of the Bank’s creditworthiness. ACRA notes that the Supporting Organization exercises complete shareholder and operational control over the Bank, whose bankruptcy may result in significant reputational and financial risks for the Supporting Organization. Furthermore, the Bank plays an important role in the implementation of the SO’s strategy.

The adequate business profile assessment (bbb) reflects the Bank’s position in the Russian banking market (as of November 1, 2020, the Bank was one of the top 20 credit organizations in Russia), and the relatively high diversification of its operating income (for 9M 2020, the Herfindahl–Hirschman Index stood at 0.26x). The Bank’s strategy focuses on achieving rapid growth primarily in the financing of construction projects and mortgages. The assessment of the Bank’s corporate governance quality is satisfactory. Complete shareholder control exercised by the SO allows ACRA to assess the transparency of the Bank’s ownership structure as high. In ACRA’s opinion, the merger of Bank DOM.RF and SME Bank will not have a material impact on the assessment of the combined company’s business profile.

The adequate capital adequacy position reflects the Bank’s consistently high loss absorption buffer and limited operating efficiency. As of November 1, 2020, the N1.2 ratio stood at 19.96% (30.58% as of November 1, 2019). The ratio has declined due to rapid growth of the Bank’s assets. ACRA expects the Bank to maintain a high level of capitalization over the next 12–18 months, including as a result of new capital injections. In ACRA’s opinion, the merger with SME Bank should not produce a significantly negative impact on capital adequacy indicators, given Bank DOM.RF’s considerable capital adequacy and expected capital injections. The Bank’s capacity to generate capital has declined in 2020 (61 bps for nine months of the year) and therefore the assessment of this indicator is still neutral. ACRA notes that the quality of the Bank’s operating income has improved (banking operations currently play a decisive role in the formation of this income) along with business profitability. From 2018 to September 2020, the net interest margin (NIM) averaged 2.95% (for 9M 2020 NIM exceeded 4% year-on-year). The cost-to-income ratio was higher than 60% for the same period (52.5% for 9M 2020). The Bank’s substantial loss absorption buffer allows it to withstand the cost of credit risk growing by more than 500 bps.

The risk profile assessment has been upgraded from weak to satisfactory due to the change in the quality of the Bank’s loan portfolio. As of September 30, 2020, the total volume of loans categorized as Stage 3 under IFRS 9 amounted to 17.1%, while the concentration of the portfolio on the ten largest groups of borrowers was 21%. Furthermore, the bulk of these loans were recorded on the balance sheet of DOM.RF Bank before the change of its controlling shareholder, and the coverage of such claims by reserves exceeded 93%. The share of Stage 3 loans, excluding loans provided before the current shareholder assumed control of the Bank, is well below 5%, while the share of loans provided to the ten largest groups of borrowers is 15.4%. In ACRA’s opinion, the Bank’s focus on developing mortgage lending will enable it to support the high credit quality of the portfolio, although the share of Stage 3 loans may grow if risks related to the deteriorating operating environment in 2020 are realized. In addition, ACRA assumes that the concentration of the loan portfolio may increase in light of the large volume of undrawn credit lines provided to major borrowers. Active development of lending to construction companies (the claims to which exceeded 100% of common equity in 2020) adversely affects the final assessment of the Bank’s loan portfolio quality. The risk profile is also constrained by aggressive growth of the loan portfolio (by more than 60% from October 2019 to September 2020). ACRA expects the portfolio to continue growing rapidly over the next 12 to 18 months.

The satisfactory assessment of funding and liquidity is based on the high dependence of the Bank’s resource base on funds of the largest creditors, which stems from the need to finance fast growth of the loan portfolio amid limited opportunities to increase liabilities. As of September 30, 2020, the share of funds of the ten largest groups of creditors was around 25% of the Bank’s liabilities. The Bank enjoys stable and predictable relationships with its key creditors and this reduces the influence of risks related to the high share of corporate funds in liabilities (more than 60% as of September 30, 2020). Assessing the Bank’s liquidity position, ACRA notes the continued imbalance of assets and liabilities by maturity (this is partly due to the fact that the Bank focuses on issuing long-term mortgage loans). According to ACRA’s assessments, the Bank has sufficient liquid assets over the 90-day horizon, however, the Bank’s ability to fulfill its obligations generally depends on the largest creditors’ willingness to extend the period of holding their funds with the Bank. As a significant amount of Bank DOM.RF’s resource base is formed by the shareholder’s funds, ACRA assesses the liquidity shortage risk as moderate.

Key assumptions

  • Merger of Bank DOM.RF and SME Bank in the next 12 months;
  • Strategy continuing to focus on development as a bank specializing in financing construction and mortgages prior to and after the merger with SME Bank.

Potential outlook or rating change factors

The Positive outlook assumes that the rating will most likely change within the 12 to 18-month horizon.

A positive rating action may be prompted by:

  • Improvement in operating efficiency and higher capital generation capacity;
  • Lower portfolio concentration on lending to construction firms;
  • Significant improvement in the liquidity position;
  • Lower dependence on the funds of the largest creditors.

A negative rating action may be prompted by:

  • Significant decrease in  capital adequacy ratios;
  • Deterioration of credit portfolio quality;
  • Growth in lending to the construction sector.

Rating components

SCA: bbb.

Adjustments: none.

Support: SCA + 4 notches.

Issue ratings

No outstanding issues have been rated.

Regulatory disclosure

The credit rating has been assigned under the national scale for the Russian Federation based on the Methodology for Credit Ratings Assignment to Banks and Bank Groups under the National Scale for the Russian Federation, the Methodology for Analyzing Member Company Relationships Within Corporate Groups, and the Key Concepts Used by the Analytical Credit Rating Agency Within the Scope of Its Rating Activities.

Disclosure of deviations from approved methodologies. When assessing the quality of the loan portfolio, its volume and the volume of problem loans were adjusted by the amount of loans issued provided in the period before JSC "DOM.RF" assumed control over JSC "Bank DOM.RF". This adjustment reflects ACRA’s opinion on the low probability of providing loans with similar characteristics under the current strategy of JSC "Bank DOM.RF".

The credit rating of JSC "Bank DOM.RF" was published by ACRA for the first time on June 13, 2017. The credit rating and its outlook are expected to be revised within one year following the publication date of this press release.

The credit rating was assigned based on the data provided by JSC "Bank DOM.RF," information from publicly available sources, as well as ACRA’s own databases. The rating analysis was performed using the IFRS consolidated statements of JSC "Bank DOM.RF" and the financial statements of JSC "Bank DOM.RF" drawn up in compliance with Bank of Russia Ordinance No. 4927-U dated October 8, 2018. The credit rating is unsolicited, and JSC "Bank DOM.RF" participated in its assignment.

No material discrepancies between the provided data and the data officially disclosed by JSC "Bank DOM.RF" in its financial statements have been discovered.

ACRA provided additional services to JSC "Bank DOM.RF." No conflicts of interest were discovered in the course of credit rating assignment.

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