DBRS Morningstar Confirms Central 1 Credit Union at A (high), Stable Trend

DBRS Limited (DBRS Morningstar) confirmed the ratings for Central 1 Credit Union (Central 1), including its Long-Term Issuer Rating at A (high) and Short-Term Issuer Rating at R-1 (middle). The trend on all ratings is Stable. Central 1 is assigned a Support Assessment of SA2 based on the likelihood of support from the provincial governments of British Columbia (B.C.; rated AA (high) with a Stable trend by DBRS Morningstar) and Ontario (rated AA (low) with a Stable trend by DBRS Morningstar). As a result of the SA2 designation, Central 1’s rating of A (high) incorporates one notch of uplift from the Intrinsic Assessment (IA) of the B.C. and Ontario Credit Union Systems.

KEY RATING CONSIDERATIONS
The ratings and Stable trend of Central 1 consider the fundamental strengths of the B.C. and Ontario Credit Union Systems. Specifically, these ratings reflect the IAs of “A” for the B.C System and A (low) for the Ontario System. Central 1 provides liquidity management, payment solutions, clearing and settlement services to the B.C. System and to most of the Ontario System. These credit unions own Central 1 and account for it on a cost basis. The IAs of these two systems incorporate an analysis of the combined financials of the individual credit unions in each province.

The ratings and Stable trend also reflect the strong market shares of credit unions in B.C. and growing market shares for residential mortgages and deposits of credit unions in Ontario. Furthermore, the solid performance of the relatively diverse provincial economies of B.C. and Ontario is supportive of the ratings. While the conversion to federal status of Coast Capital Savings Federal Credit Union (Coast Capital; rated BBB (high) with a Stable trend by DBRS Morningstar) in November 2018 reduced the size of the B.C. System, the System has continued to grow and retains its strong position in B.C. DBRS Morningstar also views the risk profiles of these Systems as generally robust, but remains cognizant of significant exposures to commercial real estate and construction lending in the B.C. and Ontario Systems.

RATING DRIVERS
Over the longer term, material strengthening of the two provincial Systems’ franchises through membership growth, increased revenue per member and market share improvement could exert positive ratings pressure. Moreover, improved system earnings, including both a growing contribution from fee-based sources, as well as improved operating efficiency, could have positive ratings pressure.

Conversely, negative ratings pressure could arise if the intrinsic strength of the Systems is reduced by more of the larger credit unions adopting federal charters. A reduction in DBRS Morningstar’s assessment of the likelihood of provincial support could also result in negative ratings pressure. Furthermore, substantial loan losses or a sustained reduction in System internal capital generation could put downward pressure on ratings.

RATING RATIONALE
In DBRS Morningstar’s view, the B.C. System continues to have a strong franchise that is generating strong levels of recurring earnings that are sufficient to readily absorb normal levels of loan losses. Asset quality remains solid, given that the majority of lending exposures are secured through real estate. However, elevated housing prices remain a risk. The B.C. System also benefits from a sticky retail deposit base that benefits from a 100% provincial deposit guarantee and overall solid liquidity. The B.C. System franchise remains strong. It continues to hold solid market shares following Coast Capital’s — the second-largest B.C. credit union — conversion to a federal charter in November 2018. Nevertheless, DBRS Morningstar is concerned that the System’s intrinsic strength could be weakened if there is increased momentum from other large credit unions in B.C. and Ontario to also pursue a federal charter.

DBRS Morningstar considers the Ontario System franchise to be good, despite modest market shares in the province in key products. The Ontario System generates good levels of recurring earnings and improving profitability, yet remains challenged by the strong competition from the large Canadian banks. Asset quality remains sound as the majority of lending exposures are secured through real estate. However, DBRS Morningstar remains cautious of heightened exposure to real estate development and construction lending. Funding is largely sourced through sticky retail deposits, although excessive reliance on market funding to fund growth would be viewed negatively. While liquidity levels are lower than peers, it remains sufficient.

DBRS Morningstar considers that Central 1’s financial fundamentals remain strong. It continues to perform important functions for the credit unions, including helping them manage their liquidity and providing access to the national payments systems. Also viewed positively is the emphasis that Central 1 has placed on enhancing its operational capabilities to service credit unions across Canada, specifically with respect to digital banking and market intelligence. Central 1’s earnings power is viewed as good, given its primary role as liquidity and service provider for the two systems, although the majority of its net income is derived from managing credit unions’ excess liquidity deposits. Consequently, DBRS Morningstar notes that a sharp and sustained decline in excess liquidity deposits placed by credit unions with Central 1 could weaken its financial and operational position.

DBRS Morningstar views support from the provincial governments for Central 1 as likely, which reflects the importance of the credit unions in these provinces. This importance and the role of Central 1 in serving the credit unions are evident, particularly in B.C. where the provincial regulator, B.C. Financial Institutions Commission, named Central 1 as a Domestically Systemically Important Financial Institution within the Canadian credit union system. Accordingly, Central 1’s Support Assessment is designated as SA2. Furthermore, given DBRS Morningstar’s long-term ratings of AA (high) with a Stable trend for B.C. and AA (low) with a Stable trend for Ontario, the provinces are considered capable of providing such support, if needed.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Global Methodology for Rating Banks & Banking Organisations (June 2019), which can be found on our website under Methodologies & Criteria.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found on the issuer page at www.dbrs.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

For more information on this credit or on this industry, visit www.dbrs.com.

DBRS Limited
DBRS Tower, 181 University Avenue, Suite 700
Toronto, ON M5H 3M7 Canada