Capital Breach: Fitch Downgrades Union Bank’s Ratings

Fitch Ratings has downgraded Union Bank of Nigeria Plc’s Long-Term Issuer Default Ratings (IDR) to ‘CCC’ from ‘B-’ and its National Long-Term Rating to ‘B+(nga)’ from ‘BBB(nga). The bank also had its Viability Rating (VR) downgraded to ‘ccc’ from ‘b-’ over concerns of breaching capital requirements.

In its rating released on Friday, Fitch also affirmed UBN’s Government Support Rating (GSR) of ‘no support’. “The downgrades reflect the Fitch-estimated prolonged breach of the bank’s total capital adequacy ratio (CAR) requirement of 10 per cent and uncertainties regarding the timeline for restoring compliance.
“Near-term prospects will depend on continued sound internal capital generation and a timely execution of the recapitalisation plan agreed by new management with the Central Bank of Nigeria (CBN).”

The rating agency noted that Union Bank’s ‘CCC’ IDRs are driven by its standalone creditworthiness, as expressed by its Viability Rating (VR) of ‘ccc’. “The VR reflects Fitch’s estimate that the bank has been in breach of its minimum regulatory capital and uncertainties regarding the timeline for restoring compliance. The VR is one notch below the implied VR of ‘ccc+’ due to capitalisation and leverage.”

UBN’s National Ratings are the lowest across Fitch-rated banks in Nigeria, primarily reflecting the estimated breach of regulatory capital requirements. The CBN removed the board and management of three banks, including UBN, on 10 January 2024, citing a range of infractions including regulatory non-compliance and corporate governance failings, while appointing a new chief executive officer. Progress is being made in reconstituting the board and the bank continues to operate as a going-concern.

Fitch noted that Union Bank’s single-borrower and industry concentrations are very high, “with the top 20 loans accounting for 63 per cent of gross loans at end-2023; or 2.9x Fitch Core Capital (FCC). Foreign-currency (FC) lending (50 per cent of gross loans) is above peers’ and has inflated following the naira devaluation. Exposure to the weak Nigerian sovereign through securities and cash reserves at the CBN is also high at around 6x FCC at end-2023.

“Asset quality vulnerabilities stem from the bank’s high concentration risk, be it by sector or single obligor. The bank’s Stage 3 loans ratio of 3.5 per cent at end-1Q24 was a marked improvement from recent years and we expect it to remain below the 5 per cent CBN limit in the medium term. High Stage 2 loans (end-1Q24: 40 per cent of gross loans) remain a key risk, having inflated significantly since 2023 due to the naira devaluation.

“UBN’s net profit increased 93 per cent year on year in 1Q24 as revenues were boosted by large foreign-exchange (FX) and derivatives gains following the naira devaluation and higher net interest income. This led to noticeable improvements in UBN’s performance metrics with a return on equity 35 per cent in 1Q24 (2023: 20 per cent ).

Fitch estimates that UBN has breached its CAR (end-3Q23: 16.1 per cent ) requirement of 10 per cent due to a significant increase in its regulatory risk reserve, which is deducted from capital for the purpose of capital adequacy computations. UBN plans to restore compliance through capital raisings but the timeframe remains uncertain, particularly in view of the pending merger with Titan Trust Bank (TTB), UBN’s shareholder.

“UBN is mainly funded by customer deposits (end-2023: 82 per cent of total funding). Liquidity is good with a liquidity coverage ratio and a net stable funding ratio of 299 per cent and 214 per cent , respectively at end-1Q24. Cash and cash equivalents in FC covered a reasonable 19 per cent of FC deposits at end-2023. However, funding and liquidity remain highly sensitive to investor sentiment and therefore subject to increased volatility.