Emirates NBD’s capital issuance creates more buffer against impairments

Dubai: Emirates NBD’s recent issuance of $750 million Additional Tier 1 (AT1) capital will boost its buffer against a potential surge in provisions, rating agency Moody’s said.

“The issuance is credit positive because it increases Emirates NBD’s regulatory capital buffers in a difficult operating environment,” said Mik Kabeya, an analyst at Moody’s.

Additional buffer

Moody’s analysts estimate the issuance increases ENBD’s regulatory Tier 1 capital ratio by 64 basis points to 17.5 per cent on a pro forma basis (based on risk-weighted assets as of 31 March 2020) from 16.8 per cent reported as of March 2020.

The bank’s increased regulatory capital provides it with an additional buffer to absorb provisioning charges as a result of asset quality deterioration, which we expect will be substantial for UAE banks this year because of the difficult operating environment.

- Mik Kabeya, an analyst at Moody’s

If the bank decides later this year to call its outstanding $500 million AT1, which has a first-call date on 17 September, the net increase in its Tier 1 capital ratio as a result of the $750 million AT1 issuance will be around 34 basis points, the rating agency said.

“The bank’s increased regulatory capital provides it with an additional buffer to absorb provisioning charges as a result of asset quality deterioration, which we expect will be substantial for UAE banks this year because of the difficult operating environment,” said Kabeya.

The UAE’s open economy has suffered twin shocks from the coronavirus pandemic and a significant drop in oil prices, which the rating agency expects, along with preexisting economic challenges, will lead to a contraction in the economy this year. Moody’s expects the overall real GDP of the UAE to contract by 5 per cent in 2020, compared with estimated growth of 1.7 per cent in 2019.

Problem loans & coverage

Data from Moody’s show as of March 2020, Emirates NBD’s ratio of problem loans to gross loans was 5.5 per cent, compared with December 2019, when the bank’s ratio was 5.6 per cent and the local average was 4.6 per cent. The balance of loans and advances that are not impaired but exhibit a significant increase in credit risk – classified in the stage 2 bucket under IFRS9 – remains manageable at 5 per cent of gross loans.

The rating agency said the bank a high problem-loan coverage ratio. The bank significantly increased its loan-loss reserves during the first quarter of 2020 on the expectation of increased credit losses because of the coronavirus crisis. The buildup in reserves also reflected continued alignment of Turkey-based Denizbank’s coverage ratio with that of the group, following ENBD’s acquisition of Denizbank last year.

The bank’s coverage ratio, calculated as loan-loss reserves divided by problem loans, according to Moody’s, increased significantly to 121 per cent as of March 2020 from 112 per cent as of December 2019, and remains markedly higher than the 92 per cent local average.

The bank’s cost of risk, calculated as loanloss provisions divided by gross loans, was 208 basis points in the first quarter of 2020, compared with 103 basis points during full-year 2019.

Profitability

Moody’s expect Emirates NBD’s profitability to decline but less so than that of its local peers, reflecting the benefits of the bank’s strong ties to the Dubai government and large companies, as well as its large retail franchise, geographical diversification in the region and large-scale operations.

“The bank’s resilient pre-provision income will provide some buffer, despite our expectation of it weakening this year as lower business volumes amid the coronavirus pandemic weigh on interest income and fee income, and lower interest rates and repayment relief offered to affected customers narrow interest margins,” said Kabeya.