Fitch Puts Wema Bank on ‘Ratings Watch Negative’ over Weak Capital
Fitch Ratings has again kept Wema Bank Plc on its rating watch negative (RWN), a first step towards potential downgrade, cited lender’s weak capital position amidst growing lending book.
The Ratings Company announced its decision on Wema Bank Ratings Watch Negative in a recent report as it expects the bank pending large capital-raising plan.
Similar to December, 2020 rating, the agency had in October rated Wema Bank Long-term Issuer Default rating B-, Short-term Issue Default Rating B and viability rating of b-.
MarketForces recalls that in the third quarter earnings season, the bank performance plunged significantly as lender’s earnings plunged due to economic lockdown, protests and stiff regulation effects.
While the economy struggles to heal, Wema Bank unaudited financial statement showed that loans and advances expanded 24.4% in 9-month of 2020 but profit after tax plunged 35.45%.
Following the 65% loan to deposit ratio target in the sector, the bank raised loan book from ₦289.24 billion at the end of 2019 to ₦359.80 billion.
In the period, the bank’s gross earnings slowed down 10.79% to ₦57.83 billion from ₦64.83 billion in 9-month of 2019.
However, net interest income rose significantly despite lower interest rate environment due to the Central Bank of Nigeria’s dovish stance.
Its unaudited 9-month result showed a 16.86% increase in net interest income, from ₦17.20 billion in 9M-2019 to ₦20.10 billion.
Meanwhile, the bank’s non-interest income line item plunged 27.61% year on year from ₦15.79 billion to ₦11.43 billion.
Amidst rising inflation rate, the bank was able to reduce operating expenses miniscule from ₦26.63 billion to ₦26.60 billion.
Weak bottom line dragged earnings per share by about 35% from 14.10 kobo to 9.20 kobo in the period.
Explaining why it placed Wema Bank on rating watch negative, Fitch stated that it reflects lender’s weak core capitalisation which is pressured by fast growth and by the impact of the economic downturn.
According to Fitch, these challenges have started feeding through into deteriorating asset quality and profitability.
In October, Fitch hinted that lender intends to have a significant capital raising over the next 12-18 months.
However, the Ratings recognised that there is a degree of uncertainty as to whether the capital increase will materialise given difficult market condition.
As for peers, it will take several quarters before the full extent of the crisis on corporates and households is seen in its financial metrics.
Analysts however noted that CBN forbearance on asset classification and banks’ own debt relief measures have significantly eased sector asset quality pressures.
However, Fitch detailed that debt relief measures are, nevertheless, temporary and with the eventual easing of fiscal and monetary support from the CBN, there remains a material risk that asset quality could deteriorate faster, unless economic recovery gathers pace.
Explaining further, the Ratings said Wema’s IDRs are driven by its standalone creditworthiness, as expressed by its ‘b-‘ Viability Rating (VR).
The VR primarily reflects Wema’s weak core capital ratios that are lower than peers’ and the increased vulnerability of its capital in the context of weakened earnings generation, continued credit growth and asset quality pressures as the bank’s loans season in the weaker domestic operating environment.
According to Fitch, capitalisation and leverage is a key rating weakness and is a factor of high importance to the VR.
The ratings also incorporate Wema’s small franchise, high credit concentrations and a weak funding structure.
In a report, the Ratings said Wema’s Fitch Core Capital (FCC) ratio of 12.1% at end of first half of 2020 is markedly below the peer average and has been declining in recent years due to strong loan growth.
It said the bank’s tangible common equity/tangible assets ratio of 4.4% at end-1H20 is also considerably below peers’.
Wema’s total capital adequacy ratio (11% at end of H1-2020) had only 100bp headroom over the bank’s 10% regulatory minimum requirement.
However, it recognised that H1-2020 unaudited earnings are excluded from this calculation.
A weak pre-impairment operating profit provides limited room to cushion the impact on capital from a potential spike in loan impairment charges.
“Wema plans to increase core capital through a significant rights issue within the next 12-18 months but uncertainty remains about these plans. High risk concentrations and growth remain the main risks to capital.
“Wema’s profitability metrics are considerably lower than those of rated peers due to a relatively weak net interest margin (NIM) and high cost-to-income ratio”, Fitch stated in the report.
According to Fitch, lender’s operating returns over risk-weighted assets declined to 1.2% in H1-2020 (on an annualised basis, from 2.6% in 2019).
This happened despite relatively small loan impairment charges incurred in response to the pandemic, driven by a decline in the bank’s net interest margin and net fees and commissions.
Similar to peers, Fitch Ratings expects Wema bank’s profitability to remain under pressure over 2H20 and 1H21 as operating conditions remain challenging.
It recalled that Wema’s impaired loans (Stage 3 loans under IFRS 9) ratio increased moderately to 5.6% at end of H1-2020 (from 3.0% at end-2019) due to the classification of several large exposures.
However, Fitch explained that this is broadly in line with the sector average.
It understands that strong loan growth in recent years has flattered the bank’s impaired loans ratio and may lead to a lag effect on loan quality.
Specific coverage of impaired loans (49% at end-1H20) is considered adequate when regarding collateral coverage and recovery expectations.
Meanwhile, Stage 2 loans (10.7% of gross loans at end-1H20) are lower than peers’ but are highly concentrated by single-borrower, including one large upstream oil and gas exposure.
Fitch considers that these loans, in addition to a material proportion of loans that are benefitting from debt relief measures (around 30% of gross loans at end-1H20, primarily repayment moratoria), may lead to pressure on asset quality.
As for peers, credit concentration is a key risk.
The report noted that single-borrower concentration is exceptionally high, with the largest 20 customer exposures at 4.5x FCC at end-H1-2020.
Of importance was the exposure to the oil and gas sector is material, representing 20% of gross loans or 196% of FCC, but Fitch stated that exposure to the riskier upstream segment is more limited than for peers.
Foreign currency lending (10% of net loans at end OF H1-2020) is lower than peers and Wema’s balance sheet is less dollarised and, therefore, we have less concerns around foreign exchange devaluation risks than we have for other banks.
Funding is mainly in the form of a customer deposits, the Ratings agency stated.
It stressed that Wema’s deposit base is less stable than peers’ due to a very high reliance on term deposits (59% of customer deposits at end of H1-2020) and only a moderate volume of retail deposits (33% of customer deposits).
The Ratings stated that single-depositor concentration is high, with the largest 20 depositors accounting for 24% of customer deposits.
However, Fitch considered liquidity coverage in both local and foreign currency adequate.
It rated Wema as a small Nigerian bank, accounting for 2% of domestic banking system assets and customer deposits, respectively, at end-2019.
In a report, Meristem Securities hinted that Wema Bank Plc Q2:2020 performance validates the firm’s earlier concerns over the bank’s increasing vulnerability.
The strong topline growth seen in prior years from 2015 to 2019 with average annual growth rate of 19.98% has now given way to a sharp decline (17.19%), from NGN20.98bn in Q2:2019 to NGN17.37bn in Q2:2020.
“While we acknowledge the role of the pandemic on the bank’s performance, we note with concern, regulatory headwinds which continue to constrain earning ability”, Meristem’s analysts stated.
Nevertheless, analysts revised topline outlook for the bank from modest to bearish on account of persistent low assets yield, unfavourable competitive position and regulatory-induced shocks.
Fitch Puts Wema Bank on ‘Ratings Watch Negative’ over Weak Capital