DBRS Morningstar Confirms BP Alto Adige’s LT Issuer Rating at BBB (low); Stable Trend

DBRS Ratings GmbH (DBRS Morningstar) confirmed the ratings of Banca Popolare dell’Alto Adige – Volksbank SpA (BPAA or the Bank), including the Long-Term Issuer Rating of BBB (low) and the Short-Term Issuer rating of R-2 (middle). Concurrently, DBRS Morningstar confirmed the Bank’s Long-Term Deposit Rating at BBB, which is one notch above the Intrinsic Assessment (IA), reflecting the legal framework in place in Italy which has full depositor preference in bank insolvency and resolution proceedings. The trend on all ratings is Stable. The Bank’s IA is maintained at BBB (low) and the Support Assessment at SA3. A full list of rating actions is included at the end of this press release.

KEY RATING CONSIDERATIONS

The confirmation of the ratings and the Stable trend take into account the Bank’s stable franchise in its home region of Trentino-Alto Adige, its stable funding and liquidity position, as well as progress in reducing its stock of non-performing loans (NPLs) and in improving profitability. BPAA has continued to reduce its NPLs, and the formation of new bad loans has remained manageable to date. Nonetheless, asset quality metrics still remain relatively weak by international standards. In addition, the current environment poses risks to asset quality due to higher interest rates, high inflation, and weaker economic prospects. The ratings also take into consideration the concentration risk arising from BPAA’s sizeable exposure to Italian government bonds.

The ratings however, also consider that the Bank’s underlying profitability, despite having improved in 2022, remains modest and constrained by low revenue diversification and modest operating efficiency. We expect higher interest rates to support revenue generation in 2023. This will likely offset the pressure from higher funding costs and risks to asset quality.

RATING DRIVERS

An upgrade would require sustained improvement in the Bank’s profitability metrics and a significant reduction in the level of NPLs, while maintaining sound capital buffers.

A downgrade would likely be driven by a significant deterioration in the Bank’s risk profile or capitalisation. Any sign of material worsening in the funding and liquidity position could also trigger a downgrade.

RATING RATIONALE

Franchise Combined Building Block (BB) Assessment: Moderate/Weak

With approximately EUR 13 billion of total assets at YE 2022, BPAA maintains a stable market position in the wealthy autonomous region of Trentino-Alto Adige / Südtirol. Located in the north-eastern part of Italy, the region of Trentino-Alto Adige has historically economically outperformed the rest of Italy, benefiting from its strategic location at the border with Austria and Switzerland, and its special status which provides greater autonomy. The Bank also has a small presence in the neighbouring region of Veneto following the acquisition of Banca Popolare di Marostica in 2015. We note that in April 2023, the Bank’s shareholder meeting appointed a new Board of Directors (BoD) for the three year period 2023-2025. Compared to the previous board, we noted a reduction in the number of board members as well as an increase in the number of independent members and a larger female representation.

Earnings Combined Building Block (BB) Assessment: Moderate/Weak

BPAA's earnings profile generally reflects modest net interest margin, low revenue diversification as well as weak efficiency levels. We expect the Bank’s profitability to improve going forward, mainly driven by higher net interest income (NII). However, higher funding costs as well as high inflation and potential asset quality deterioration will likely absorb part of that benefit. In 2022, BPAA reported a net profit of around EUR 76 million, up 8% Year-On-Year (YOY), mainly supported by the repricing of loans and debt securities at higher rates as well as lower loan loss provisions, partly offset by higher funding costs and lower non-recurring income. The Bank's efficiency levels remained relatively weak, albeit improved in 2022 with a cost-to-income ratio of around 64% (as calculated by DBRS Morningstar on core revenues), down more than 10 p.p. YOY thanks to a strong NII growth. BPAA’s cost of risk was 33 bps in 2022, significantly down from 107 bps in 2019, 87 bps in 2020, and 74 bps in 2021.

Risk Combined Building Block (BB) Assessment: Moderate

BPAA continued to make progress in reducing its stock of gross NPLs which were down 14% YOY at end-2022, driven by workouts and disposals. As of end-2022, BPAA’s gross and net NPL ratios stood at 5% and 2.3% respectively, down from 5.8% and 2.8% at end-2021. These levels, however, continue to remain relatively weak by international standards. Coverage levels are now in line with the domestic market with a total NPL coverage of 56.3% and a performing loan coverage of 1.1% at end-2022. We see higher risks for asset quality in the current environment due to higher interest rates, inflationary pressure, and weaker economic prospects. As a result, we also note that Stage 2 loans (loans where credit risk has increased since origination), represented 13% of total gross customer loans at end-2022, up from 11% at end-2019.

BPAA maintains a large exposure to sovereign risk via its portfolio of government bonds totalling EUR 3.1 billion at end-2022, or 24% of the Bank's total assets and 3.9 times its CET1 capital. The bulk of BPAA’s fixed income securities, including sovereign and non-sovereign, are classified at amortized costs, however the increase in interest rates has led to the formation of unrealised losses of around EUR 182 million at end-2022, or 336 bps in terms of capital.

Funding and Liquidity Combined Building Block (BB) Assessment: Good/Moderate

DBRS Morningstar considers BPAA’s funding profile as stable, benefiting from its large and granular deposit base with retail and SME clients. As of end-2022, the Bank’s deposits were up 2% YOY, accounting for around 93% of its direct funding from customers. BPAA’s exposure to the ECB’s TLTRO III funds was EUR 2.5 billion at end-2022, representing around 21% of total funding. The Bank’s TLTRO exposure will decline according to maturity by end-2024, and only a fraction of it will likely be replaced in our view. BPAA maintained solid funding and liquidity ratios at end-2022, with its Liquidity Coverage Ratio (LCR) at 230%, well above the minimum requirement, Net Stable Funding Ratio (NSFR) above 135%, and a pool of unencumbered readily available liquid assets totalling EUR 2.7 billion.

Capitalisation Combined Building Block (BB) Assessment: Moderate

BPAA maintains adequate capitalisation, however capital ratios reduced in 2022, mainly due to an increase in risk-weighted assets (RWAs) and the early redemption of an EUR 100 million Tier 2 subordinated bond which was refinanced by EUR 70 million. The Bank’s phased-in Common Equity Tier 1 (CET1) and Total Capital ratios were 14.9% and 16.7% respectively at end-2022, down from 15.7% and 18.2% at end-2021, but they remain well above the regulatory minimums of 7.8% and 12% applicable in 2023. The capital ratios incorporate the payment of EUR 30 million in dividends paid in April 2023, equivalent to a pay-out ratio of around 40% of 2022 net income, as well as a EUR 15 million share buyback which will be executed in coming months. On a fully-loaded basis, the CET1 and Total Capital ratios stood at 14.4% and 16.2% respectively. Nonetheless, we continue to see the Bank’s fragmented shareholder base and its modest underlying internal capital generation as constraints to its ability to improve its capital position.

Further details on the Scorecard Indicators and Building Block Assessments can be found at https://www.dbrsmorningstar.com/research/414043

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS

There were no Environmental/ Social/ Governance factors that had a significant or relevant effect on the credit analysis

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (17 May 2022).

Notes:
All figures are in EUR unless otherwise noted.

The principal methodology is the Global Methodology for Rating Banks and Banking Organisations https://www.dbrsmorningstar.com/research/398692/global-methodology-for-rating-banks-and-banking-organisations (23 June 2022). In addition DBRS Morningstar uses the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings in its consideration of ESG factors.

The credit rating methodologies used in the analysis of this transaction can be found at: https://www.dbrsmorningstar.com/about/methodologies

The sources of information used for this rating include Morningstar Inc. and Company Documents, Banca Popolare dell’Alto Adige 2018-2022 Annual Reports, and Banca Popolare dell’Alto Adige 2022 Non-Financial Statement. DBRS Morningstar considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

DBRS Morningstar does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. DBRS Morningstar's outlooks and ratings are under regular surveillance.

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. For further information on DBRS Morningstar historical default rates published by the Financial Conduct Authority (FCA) in a central repository, see https://data.fca.org.uk/#/ceres/craStats.

The sensitivity analysis of the relevant key rating assumptions can be found at: https://www.dbrsmorningstar.com/research/414042

This rating is endorsed by DBRS Ratings Limited for use in the United Kingdom.

Lead Analyst: Nicola De Caro, Senior Vice President – Global FIG
Rating Committee Chair: William Schwartz, Senior Vice President - Credit Practices Group
Initial Rating Date: February 18, 2014
Last Rating Date: May 16, 2022

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