Moody's downgrades outlook of BoV's financial strength rating

International credit rating agency Moody's has downgraded the outlook of the financial strength rating for Bank of Valletta from stable to negative, the agency announced yesterday.

The negative outlook for the bank's A3/Prime -2 foreign currency deposit ratings remains unchanged.

The rating agency warned that should management fail to show any progress in arresting a number of negative trends, the D+ financial strength rating would then no longer be justified.

The outlook change for the financial strength rating was prompted by increasing concerns about the bank's deteriorating loan portfolio quality and declining profitability, Moody's said.

According to the rating agency, BoV's loan portfolio quality has been under pressure due to difficult economic and operating conditions in its domestic market which, coupled with the loan book reclassification based on a new banking directive, has led to a significant increase in the level of impaired loans.

Therefore, as of July, total impaired lending accounted for 32 per cent of total loans, compared with 12 per cent in September, 2000.

Moody's added that the level of non-performing loans to gross loans increased to nine per cent in September, 2001, up from 5.6 per cent the year before.

Based on the new banking directive, BoV has to significantly increase the level of loan loss provisions by December, 2003, given the current classification of its loan book.

Therefore, the bank's current pre-provision income levels, coupled with the amount of loan loss provisions that it has to take to meet this deadline, suggest that BoV's bottom-line profitability will remain under significant pressure for 2002 and 2003, assuming that there will be no further deterioration in loan quality.

According to Moody's, BoV's financial performance, though remaining adequate, has been on a declining trend in recent years, due to reduced interest margins and inflexible cost structure.

As a result, the bank's ratio of pre-provision income to average assets declined to 1.22 per cent for 2001, as compared with 1.37 per cent the year before, and an average of 1.55 per cent for the last five years.

Moody's said that reduced pre-provision profitability, coupled with elevated credit costs due to weakening loan quality, had dented BoV's bottom-line profitability, with its return on average assets dropping to 0.69 per cent for 2001, down from 1.02 per cent the year before.

However, according to Moody's, these negative trends do not warrant a rating change at this stage, given the bank's adequate financial fundamentals with a good capital position and the efforts of management to address the issues.

The ratings were made possible following a comprehensive annual review carried out earlier this year.

In his reaction, BoV chairman Joseph F. X. Zahra said that the change in outlook of the financial strength rating was a reflection of a number of factors which affected the bank's profitability during the last financial year - mainly the slowdown in the international and local economies, and a more prudent provisioning policy.

Profitability had also been affected by the drop in the profits generated by the bank's subsidiary companies.

For the first six months of the current financial year, results showed that profitability levels had stabilised, despite a consistent increase in the bank's provisioning reserves and a more stringent approach adopted by the bank where credit quality assessment is concerned.

Mr Zahra said that a number of initiatives have been undertaken to counteract the effects of the current market conditions and "it was significant" to note that Moody's have taken note of these.

Moody's commented on the bank's strong position in the local market and its significant integration within the Maltese economy.

Mr Zahra expressed his satisfaction at the assessment carried out, adding that it was evident that the efforts of the bank's management to consolidate its position in the Maltese economy had been acknowledged by the rating agency.

It was a well-known fact that following events which have taken place recently on the international scene, rating agencies have been applying more stringent criteria in granting credit ratings, the chairman said.

He said that Moody's also referred to the bank's proactive approach in its efforts to modernise its operations and enhance its customer service.

Moody's ratings were announced a month and a half after credit agency Fitch's long-term outlook on the bank was also changed from stable to negative, though the short-term rating remained the same.