Al Masraf – Ratings Affirmed with a Stable Outlook

(MENAFN- Capital Intelligence Ltd) Capital Intelligence Ratings (CI Ratings or CI) today announced that it has affirmed the Long-Term Foreign Currency Rating (LT FCR) and Short-Term Foreign Currency Rating (ST FCR) of Al Masraf at ‘A’ and ‘A1’, respectively. At the same time, CI Ratings has affirmed Al Masraf’s Bank Standalone Rating (BSR) of ‘bbb’, Core financial Strength (CFS) rating of ‘bbb-’ and Extraordinary Support Level (ESL) of High. The Outlook for the LT FCR and BSR is Stable.

The Bank’s LT FCR is set three notches above the BSR to reflect our assessment of the external extraordinary support available to the Bank from the UAE government (sovereign ratings: ‘AA-’/‘A1+’/Stable), a major shareholder. Given Al Masraf’s significant state ownership, as well as the government’s track record of supporting the banking system, CI considers the likelihood of extraordinary official support in the event of need to be high.

The Bank’s BSR is derived from a CFS rating of ‘bbb-’ and an Operating Environment Risk Anchor (OPERA) of ‘bbb’. The CFS reflects the Bank’s good operating profitability, sound liquidity supported by sizeable government deposits, and high capital adequacy and leverage ratios. The principal challenges for the Bank are high NPLs, capital impaired by unprovided NPLs, high customer concentration in loans and sector concentration in real estate. Slow global economic growth and elevated geopolitical risk in the region are also challenges (although the UAE economy is performing well on the back of favourable oil prices).

Our OPERA assessment reflects the UAE’s continuing dependence on hydrocarbons, although less so than neighbouring countries, with the economic risk partially mitigated by the support of the wealthy emirate of Abu Dhabi. It also reflects the overall sound financial position of the banking sector.

Al Masraf is primarily a corporate banking institution. Its customer franchise is small and undiversified compared to the larger banks in the country. However, the Bank enjoys business support, particularly on the funding side, from the UAE government. Over the last few years, the Bank has strengthened its core businesses, widened its product range, invested in technology and infrastructure and improved risk, compliance, control and HR functions. Remedial activities continue to take centre stage. With repayments and write-offs exceeding credit disbursals under the new and more stringent underwriting standards of the Bank, the loan book declined last year. High loan concentration levels partly arise from UAE’s limited economic diversification and the Bank’s comparatively small customer base. While concentration levels could improve as the business expands, they are likely to stay high.

Although NPLs have declined in money terms over the last few years on account of repayments, write-offs and recoveries, the NPL ratio has remained high due to steady credit contraction. We expect the growth in lending this year to have a favourable effect on the NPL ratio. Following exhaustive reviews of the loan book we believe that most of the Bank’s stressed loans are likely to have been identified and we also note that new impairments have been minimal over the last few years, indicating the successful implementation of tighter underwriting standards. The substantial decline in Stage 2 loans last year is also noted – however, the Bank’s Stage 2 loans to gross loans ratio is still moderately high compared to the sector average.

The loan-loss reserve coverage increased last year and is on par with the sector median ratio. We expect further improvements in this area in the coming years, especially in light of a proposed credit standard being introduced by the central bank which would require all banks to discount the value of collateral held against NPLs over a fixed period. Income generation remains strong and should be sufficient to absorb future provisioning expenses. The improving real estate market could help in the enforcement of collateral and accelerate the NPL recovery rate. However, it could take some years before asset quality parameters strengthen to a satisfactory level.
 
Although net profit and ROAA remain low, albeit improving, the Bank’s income generation capabilities continue to be good. Operating profit rose strongly in 2023 on the back of higher interest rates, a wider net interest margin (NIM) and increased investment securities, which offset a continuing decline in lending volumes. The Bank’s Q1 24 results have also been good, with operating profit continuing to rise y-o-y due to higher net interest income (NII) and lower operating costs. A better than peer-group average funding cost, partly reflecting the Bank’s government-owned status, and a good CASA ratio underspin the Bank’s higher than the sector average NIM and good NII growth in 2023. Non-interest income (non-II) is also growing, although it is still moderate. Operating costs have risen due to planned investments in staff and the businesses, however, the cost-to-income ratio is satisfactory. High provision charges have depressed net profit over the last few years, including in Q1 24. While we expect operating income to rise this year on the back of expanded business volumes, NIM is not likely to widen further given interest rates stabilised in the first half 2024 and could decline in the second half. The operating profitability ratio is likely to be maintained at a good level in 2024, but net profit and ROAA could continue to be adversely impacted by high provision charges.

Loan-based liquidity ratios eased last year and are at satisfactory levels, providing a reasonable cushion. However, ratios are tighter than the peer group average. Al Masraf’s CASA ratio rose substantially in 2023, following efforts to diversify the customer base. The Bank has also built a good stock of liquid assets and both the liquid asset and net broad liquid asset ratios are satisfactory. The government of Abu Dhabi, GREs and related parties continue to be major providers of funding for the Bank, and although the funds can fluctuate y-o-y, a core amount is regarded as stable.

Capital ratios are solid, better than the sector median and well above the regulatory minima. CET 1 capital accounts for the bulk of regulatory capital and the Bank’s Basel III leverage ratio is also high. The high capital ratios partly reflect the slow growth in risk-weighted assets (RWAs) over the last few years, but capital metrics could decline as business volumes grow and risk assets rise. We also note that capital is impaired by unprovided NPLs, although the level of impairment has fallen.

Rating Outlook

The Stable Outlook reflects our expectation that the ratings are unlikely to change over the next 12 months. This is substantially underpinned by the UAE government shareholding in the Bank, favourable changes in management and revamped risk management practices. The strengthening local economy is also a favourable development.

Rating Dynamics: Upside Scenario

An upgrade in the LT FCR and BSR or a favourable change in the Outlook over the next 12 months appears remote at this stage. Any improvements that arise over the coming year in asset quality and profitability would essentially bring the Bank’s key financial fundamentals in line with its pre-Covid position. A significant improvement beyond this seems unlikely at this stage.

Rating Dynamics: Downside Scenario

A lowering of the LT FCR and BSR by one notch or a revision of the Outlook to Negative over the next 12 months would be possible should the Bank’s credit profile deteriorate, capital buffers fall, or income generation capabilities decline.

Contact

Primary Analyst: Karti Inamdar, Senior Credit Analyst; E-mail: ...
Secondary Analyst: Darren Stubing, Senior Credit Analyst
Committee Chairperson: Morris Helal, Senior Credit Analyst

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