Daegu Bank, Ltd. -- Moody's confirms ratings of four Korean regional banks, concludes review for downgrade

Rating Action: Moody's confirms ratings of four Korean regional banks, concludes review for downgrade

Global Credit Research - 05 Aug 2020

Hong Kong, August 05, 2020 -- Moody's Investors Service has confirmed the ratings and assessments of four Korean regional banks.

The four banks are Busan Bank; Daegu Bank, Ltd.; Jeju Bank; and Kyongnam Bank.

The outlooks on all ratings of Busan Bank, Daegu Bank and Kyongnam Bank are changed to negative from ratings under review. For Jeju Bank, the ratings outlook is changed to stable from ratings under review.

Today's rating action concludes the review for downgrade initiated on 24 March 2020.

A list of all affected ratings and assessments is provided at the end of this press release.

RATINGS RATIONALE

The confirmation of the four Korean regional banks' ratings and assessments takes into account Moody's expectation that (1) asset quality will remain relatively stable; (2) economic capitalization will recover in the next 2-3 years after a temporary deterioration, because loan growth should normalize from the second half of 2020; and (3) earnings will remain low but stable without a significant increase in credit costs.

The negative impact from lower global demand and domestic consumption has been somewhat offset by the substantial liquidity support provided by the Korean government (Aa2 stable) via fiscal and financial policies to aid small and medium-sized enterprises (SME) and other borrowers affected by the coronavirus pandemic. For example, banks offered new loans, maturity extensions and reduced interest rates to borrowers directly affected by the outbreak on their existing loans and guarantees. Fiscal policy measures included a supplementary budget to support hospitals, businesses and low-income households. The Bank of Korea also cut its base rate to a historically low level, lowering funding costs for SMEs and sole proprietor business loan borrowers. These measures in turn support the asset quality and profitability of the four banks, which have high exposures to SMEs.

Moody's does not expect a material asset quality deterioration even after the expiration of above support measures, because the banks have been de-risking their loan portfolio in the past 2-3 years. In particular, the banks have increased the proportion of higher quality borrowers and lowered their exposures to risky sectors such as construction, shipbuilding, shipping, steel, chemical and auto parts manufacturers. Additionally, a gradual recovery in global demand and lower debt servicing burdens amid the low interest rate environment will also support banks' asset quality.

Finally, despite the Financial Services Commission's easing of regulatory funding and liquidity requirements, Moody's expects the banks to keep their funding and liquidity stable at levels close to the original regulatory requirements, because the relaxation is only temporary until the end of June 2021.

OUTLOOK

As an open economy with high trade dependence and tight integration into global supply chains, Korea is vulnerable to a prolonged slowdown to domestic and external economic activity

Against this background, the negative outlooks on Busan Bank, Daegu Bank and Kyongnam Bank reflect the risk of asset quality deterioration if domestic or global economic activity weakens beyond Moody's current expectation. This is due to the banks' concentrated exposures to SMEs in the tourism, services, food and beverage, and retail sectors, as well as their high exposure to the manufacturing sector because the banks are located in home regions that are manufacturing bases for the aforementioned risky sectors.

The stable outlook on Jeju Bank reflects Moody's view that affiliate support from Shinhan Bank (Bank Deposit: Aa3, Senior Unsecured: Aa3, BCA: a3, stable), via Shinhan Financial Group Co., Ltd. (Shinhan FG, A1 stable) will be sufficiently strong to offset downward pressure on Jeju Bank's credit profile. Furthermore, the operating environment of Jeju Bank has improved with a gradual recovery in domestic tourism to Jeju Island.

BUSAN BANK

Busan Bank's baa1 BCA reflects its (1) strong profitability, as indicated by its average net income/tangible banking assets of 0.6% from 2014 to 2019, which was higher than that of its domestic commercial bank peers; (2) moderate capitalization, with tangible common equity / risk weighted assets ratio higher than the average regional bank peers; and (3) strong funding because of its strong relationship with customers in its home region.

Its Adjusted BCA, which incorporates no affiliate support, is at the same level as its BCA.

Busan Bank's long-term deposit ratings of A2 incorporate two notches of uplift based on Moody's assumption of a very high probability of support from the Korean government in times of need. Moody's view of government support takes into consideration the systemic importance of Busan Bank and its parent, BNK Financial Group Inc. (BNK FG), to their home region. The very high likelihood of government support also takes into account the Government of Korea's strong capacity to provide support, and the government's track record of bailing out distressed banks.

DAEGU BANK, LTD.

Daegu Bank's baa1 Baseline Credit Assessment (BCA) takes into account the bank's (1) stable asset risk, driven by improvements in the quality of its loan portfolio, despite a slowdown in the economic growth of the bank's home region of Daegu and Gyeongbuk Province; (2) modest but stable capitalization compared with that of other regional bank peers; (3) modest but stable profitability; and (4) strong funding and stable liquidity, supported by its strong franchise in its home market.

Its Adjusted BCA, which incorporates no affiliate support, is at the same level as its BCA.

Daegu Bank's long-term deposit ratings of A2 incorporate two notches of uplift based on Moody's assumption of a very high probability of support from the Korean government in times of need. Moody's view of government support takes into consideration the systemic importance of the regional banks to their respective regions. The very high likelihood of government support also takes into account the Government of Korea's strong capacity to provide support, and the government's track record of bailing out distressed banks.

JEJU BANK

Jeju bank's baa3 Baseline Credit Assessment (BCA) reflects its (1) strong deposit funding and liquidity; (2) adequate capitalization; (3) weak asset quality; (4) modest profitability; and (5) high geographic concentration in the Jeju Island.

The recovery in Jeju Island is vulnerable to how the coronavirus pandemic is contained, and on whether domestic and ultimately overseas tourism recovers. A key risk to Jeju Bank's ratings is that of a significant flare-up of coronavirus infections that leads to widespread social distancing measures and a drop in tourism to Jeju Island. Such a scenario could pressure the bank's asset quality and profitability. In light of this, Jeju Bank's BCA incorporates one notch of negative qualitative adjustment to reflects its high geographic and sector concentration in Jeju Island.

Jeju Bank's Adjusted BCA of a3 incorporates a three-notch of affiliate support based on Moody's assumption of a very high probability of support from Shinhan Bank via its parent, Shinhan FG, in times of need. Jeju Bank's Adjusted BCA is positioned at the same level as Shinhan FG's notional BCA of a3.

Jeju Bank's long-term deposits ratings of A2 incorporate a one-notch uplift from the bank's Adjusted BCA of a3, based on Moody's assessment of a high probability of support from the Government of Korea if necessary. Moody's view on government support takes into consideration the systemic importance of Jeju Bank to Jeju Island despite its small size. The high likelihood of government support also takes into account the Government of Korea's strong capacity to provide support, and the government's track record of bailing out distressed banks.

KYONGNAM BANK

Kyongnam Bank's long-term deposits ratings of A2 rating incorporates its baa2 Baseline Credit Assessment (BCA) and a one-notch uplift for affiliate support from BNK FG, resulting in an Adjusted BCA of baa1. The identical ratings of Kyongnam Bank and Busan Bank reflect the importance of Kyongnam Bank to BNK FG. Moody's incorporates a two-notch uplift for government support to reflect the very high probability of support for Kyongnam Bank from the Government of Korea, if necessary.

Kyongnam Bank's baa2 BCA reflects its (1) modest capitalization; (2) strong funding because of its close relationships with customers in its home region; and (3) modest asset quality and profitability relative to domestic peers because of its high exposure to problem industries.

Kyongnam Bank's Adjusted BCA incorporates a one-notch uplift for affiliate support from BNK Financial Group Inc. Moody's expectation of very high support from Kyongnam Bank's sister bank, Busan Bank, via BNK FG reflects (1) BNK FG's 100% ownership of both banks; (2) the fact that the banks share the same group brand, BNK; and (3) the banks share reputational risks because of the proximity of their primary operating regions.

Kyongnam Bank's long-term ratings incorporate two notches of uplift based on Moody's assumption of a very high probability of support from the Korean government in times of need. Moody's view of government support takes into consideration the systemic importance of the regional banks to their respective regions. The very high likelihood of government support also takes into account the Government of Korea's strong capacity to provide support, and the government's track record of bailing out distressed banks.

For all four banks, their counterparty risk ratings (CRR) are positioned at A1/P-1, and the bank's counterparty risk assessment (CRA) is positioned at A1(cr)/P-1(cr). Korea does not have an operational bank resolution regime. Moody's therefore applies a basic Loss Given Failure approach in rating Korean banks. The starting point for the CRR and CRA are one notch above the bank's Adjusted BCA, to which Moody's then adds the government support uplift. For Busan Bank, Daegu Bank, and Kyongnam Bank, the CRR and CRA benefit from two notches of government support. For Jeju Bank, the CRR and CRA benefit from one notch of government support.

FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS

WHAT COULD MOVE THE RATINGS UP

For Busan Bank, Daegu Bank, and Kyongnam Bank, their ratings upgrade is unlikely given their negative outlooks. However, their outlooks could change to stable if macro-economic conditions in Korea improve and banks maintain sound credit metrics in line with their current ratings and assessments.

For Jeju Bank, Moody's could upgrade its long-term ratings if the operating environment for Korean banks improves, resulting in an upgrade of Korea's Macro Profile. Jeju Bank's long-term ratings may also be upgraded if financial strengths of Shinhan Bank or Shinhan FG improves, resulting in a higher level of affiliate support.

Moody's could also upgrade Jeju bank's ratings if its BCA is upgraded. The bank's BCA could in turn be upgraded if (1) the bank's profitability improves with its net income/tangible assets remaining above 0.8% on a sustained basis, while maintaining adequate capitalization; and (2) asset risk improves significantly with its problem loans/total loans dropping to below 0.5% without substantial write-offs or the sale of nonperforming loans (NPLs).

WHAT COULD MOVE THE RATINGS DOWN

Moody's could downgrade all four banks' long-term ratings if the operating environment for Korean banks deteriorates, resulting in a downgrade of Korea's Macro Profile. Any change in regulations that weakens the framework for government support could result in a downgrade of the banks' ratings. Moody's could also downgrade the banks' ratings if their BCAs are downgraded.

Moody's could also downgrade their BCAs if (1) asset risk rise significantly with problem loans to gross loans ratio rising by more than 150 basis points due to a prolonged domestic and global economic downturn; (2) banks' economic capitalization deteriorate significantly with nominal leverage deteriorating significantly from large credit losses or high loan growth; and/or (3) the banks' profitability weaken significantly with net profit to tangible assets deteriorating to lower than 0.3% on a sustained basis.

In addition to above, for Jeju Bank, Moody's could downgrade its ratings if the financial strengths of Shinhan Bank or Shinhan FG materially declines, resulting in reduced level of affiliate support.

For Kyongnam Bank, its long-term ratings may be downgraded if Busan Bank's BCA is downgraded.

The principal methodology used in these ratings was Banks Methodology published in November 2019 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1147865. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

Busan Bank, headquartered in Busan, South Korea, had total assets of KRW56.9 trillion (USD46.7 billion) at the end of March 2020.

Daegu Bank, Ltd. is headquartered in Daegu, and had total assets of KRW55.2 trillion (USD45.3 billion) at the end of March 2020.

Jeju Bank is headquartered in Jeju Island with total assets of KRW6.2 trillion (USD5.1 billion) at the end of March 2020.

Kyongnam Bank, headquartered in Changwon, South Korea, had total assets of KRW40.0 trillion (USD35.6 billion) at the end of March 2020.

LIST OF AFFECTED RATINGS

Busan Bank

- Long-term deposit rating (foreign currency and local currency) of A2 confirmed, outlook changed to negative from ratings under review

- Short-term deposit rating (foreign currency and local currency) of P-1 confirmed

- Long-term senior unsecured debt rating (foreign currency) of A2 confirmed, outlook changed to negative from ratings under review

- Senior unsecured MTN (foreign currency) (P)A2 confirmed

- Long-term counterparty risk rating (foreign currency and local currency) of A1 confirmed

- Short-term counterparty risk rating (foreign currency and local currency) of P-1 confirmed

- Long-term / Short-term counterparty risk assessment of A1(cr)/P-1(cr) confirmed

- Subordinated MTN (foreign currency) of (P)Baa2 confirmed

- Subordinate (foreign currency) of Baa2 (hyb) confirmed

- Baseline credit assessment and adjusted baseline credit assessment of baa1 confirmed

- Outlook changed to negative from ratings under review

Daegu Bank, Ltd.

- Long-term deposit rating (foreign currency and local currency) of A2 confirmed, outlook changed to negative from ratings under review

- Short-term deposit rating (foreign currency and local currency) of P-1 confirmed

- Long-term senior unsecured debt rating (foreign currency) of A2 confirmed, outlook changed to negative from ratings under review

- Long-term counterparty risk rating (foreign currency and local currency) of A1 confirmed

- Short-term counterparty risk rating (foreign currency and local currency) of P-1 confirmed

- Long-term / Short-term counterparty risk assessment of A1(cr) and P-1 (cr) confirmed

- Baseline credit assessment and adjusted baseline credit assessment of baa1 confirmed

- Outlook changed to negative from ratings under review

Jeju Bank

- Long-term deposit rating (foreign currency and local currency) of A2 confirmed, outlook changed to stable from ratings under review

- Short-term deposit rating (foreign currency and local currency) of P-1 confirmed

- Long-term counterparty risk rating (foreign currency and local currency) of A1 confirmed

- Short-term counterparty risk rating (foreign currency and local currency) of P-1 confirmed

- Long-term / Short-term counterparty risk assessment of A1(cr) and P-1 (cr) confirmed

- Baseline credit assessment of baa3 confirmed

- Adjusted baseline credit assessment of a3 confirmed

- Outlook changed to stable from ratings under review

Kyongnam Bank

- Long-term deposit rating (foreign currency and local currency) of A2 confirmed, outlook changed to negative from ratings under review

- Short-term deposit rating (foreign currency and local currency) of P-1 confirmed

- Long-term counterparty risk rating (foreign currency and local currency) of A1 confirmed

- Short-term counterparty risk rating (foreign currency and local currency) of P-1 confirmed

- Long-term / Short-term counterparty risk assessment of A1(cr) and P-1 (cr) confirmed

- Baseline credit assessment of baa2 confirmed

- Adjusted baseline credit assessment of baa1 confirmed

- Outlook changed to negative from ratings under review

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.

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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 https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1133569.

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.

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