Fitch Ratings has changed the Outlook on Bank of Cyprus (BOC)' Long-term rating to Negative from Stable. At the same time the agency has affirmed the bank's ratings Long-term at A-, Short-term F2 and Individual C/D and Support 2.
The rating action reflects concerns regarding BOC's large stock of non-performing assets, which Fitch considers will impede the bank's ability to restore profitability to a satisfactory level.
BOC reported a sharp rise in non-performing loans (NPLs) in 2003, although part of the rise was a result of the application of a stricter definition of NPLs as prescribed by the Central Bank of Cyprus, which Fitch welcomed. To counter the increase of NPLs, BOC increased loan loss provisions to a higher-than-expected 110 million Cypriot pounds ($232 million) in 2003 to bolster its balance sheet and as a result reported a CYP 28 million loss.
However, in Fitch's view, there was also some deterioration in the quality of the loan book stemming from the current economic slowdown. Fitch had anticipated the bank using much of its earnings in 2003 to improve loan loss reserves coverage of its older NPLs', but did not anticipate a large increase in new NPLs. Consequenly the bank may have to make additional loan loss provisions in the future to bring its loan loss coverage to a level, which Fitch considers satisfactory, particularly given the further tightening of NPL definitions in 2004.
Fitch acknowledges the ongoing improvement in BOC's pre-provision operating profit in 2003, following the bank's review of its pricing policy for both loans and deposits, and its efforts to improve productivity by merging smaller branches, reducing the number of clerks and moving staff around the group. But Fitch cautions it will be difficult for BOC to raise profitability to a level considered adequate for a single A rating until the bank reduces the size of its NPLs and raises efficiency further.
Fitch notes that personnel wages in Cyprus are indexed to a cost of living adjustment, which creates earnings pressure when revenue generation slows. BOC also has a large funding shortfall in its defined benefit company pension scheme, estimated to be €116 million at end-2003, which will need to be funded by additional contributions.
Owing to the relatively mature and saturated market in Cyprus, BOC is continuing to expand its operations in Greece. The profitability of its Greek operations is good, demand for credit is strong and the bank has had success in attracting deposits. However, as BOC's Greek operations account for an increasing proportion of its total assets, it may become more difficult for the Cypriot government to provide support to Greek creditors with Cypriot tax-payers money should the bank ever run into financial difficulties. The agency also notes that on joining the EU, Cyprus will be subject to rules restricting the authorities' flexibility to provide solvency support to an insolvent institution.
BOC strengthened its capital adequacy ratios in 2003. In February it issued CYP 65 million of Tier 1 hybrid securities, and in October the exercise of BOC warrants enabled the bank to increase equity by CYP32m. BOC plans to maintain an EU total capital ratio in excess of 12 percent. — (menareport.com)
© 2004 Mena Report (www.menareport.com)
