UAB's Long- and Short-Term IDRs, Support Rating (SR) and Support Rating Floor (SRF) reflect a high probability of support available to the bank from the UAE authorities, if needed.
Fitch's view of support factors in the sovereign's strong capacity to support the banking system, sustained by its sovereign wealth funds and ongoing revenue mostly from hydrocarbon production, despite lower oil prices. Fitch also expects high willingness from the authorities to support the banking sector. This has been demonstrated by the UAE authorities' long record of supporting domestic banks, as well as by the authorities' close ties with and part-government ownership links to a number of banks.
UAB's SRF is two notches below the UAE domestic systemically important banks' SRF of 'A' due to Fitch's view that UAB is less systematically important based on its market share of below 1% of total UAE banking system assets at end-2018.
The VR reflects UAB's small franchise, undiversified business model, high problem loans and weak profitability, in light of which capitalisation is only adequate. The VR also factors in the bank's acceptable funding structure and sufficient liquidity.
The bank's franchise is small, with a market share of 0.8% of total banking sector assets and deposits and 0.9% of total banking sector loans at end-2018. UAB is, therefore, a price taker in the UAE and has no discernible competitive advantages. The bank offers wholesale and retail banking services, although the bank is more focused on corporate banking, which accounted for 78% of gross loans at end-2018 and 62% of operating income in 2018. Corporate banking is primarily with local medium-sized corporates and UAB has significantly reduced its business with SMEs.
UAB's asset quality deteriorated between 2015 and 2017 due to its exposure to the weak SME sector. The stock of impaired loans has since stabilised (AED1.3 billion at end-2018 vs AED1.2 billion at end-2017). Nevertheless, the bank's contracting credit base has been playing a denominator effect on the impaired loans ratio, which increased to 9.2% at end-2018. Reserve coverage of impaired loans (91.5% at end-2018) is below the sector average but in line with smaller peers'. This falls to 32% when considering total potential problem (Stage 2 and 3) loans at end-2018. The bank's profitability provides a moderate additional buffer against a sharp deterioration in asset quality, with pre-impairment operating profit covering 2.3% of the loan book in 2018. Concentration is high, albeit in line with the average for small UAE banks.
Profitability has been recovering progressively since 2017 as loan impairment charges (LICs) have been easing but has remained very low due to the contracting loan book. The net interest margin stabilised in 2018 as the bank was able to reprice its book; it remained in line with the average of smaller peers despite one of the highest cost of funds (2.6%). The bank's small franchise and undiversified business model are constraining fee income generation. In 2018 non-interest income was 24.6% of operating income, in line with the small banks' average.
Operating efficiency is poor but in line with the smallest UAE banks. In 2018, the cost/income ratio was 50.7%, compared with 36% for the banking sector average, despite expenses on a downward trajectory thanks to the implementation of a transformation plan. LICs have fallen but still consumed 76% of pre-impairment operating profit in 2018, well above peer average.
UAB's capital position improved in 2018 thanks to a rights issue. Its Fitch Core Capital ratio increased to 14.6% at end-2018, in line with the average for the small UAE banks. The bank's total capital adequacy ratio and Tier 1 ratios are compliant with the CBUAE minimum. However, capital buffers are only adequate considering unreserved problem loans, high single-name concentration (albeit in line with the average for small UAE banks) and weak profitability. The bank has not paid dividends since 2014.
UAB is primarily funded by customer deposits, which were a high 82% of non-equity funding at end-2018. Current accounts and savings accounts account for only 28% of total deposits, which drives the bank's high cost of funding. High reliance on corporate deposits results in high concentrations, with the top 20 depositors representing 48% of customer deposits at end-2018, on the high side for a small UAE bank.
The bank's liquidity is sufficient. The loans/ customer deposits ratio (99% at end-2018) is in line with peers'. Liquid assets (comprising cash balances and a liquid bonds portfolio) were 28% of total assets and 44% of total customer deposits at end-2018. The bank's liquidity coverage ratio (LCR) is above 100%, but its net stable funding ratio (NSFR) is not yet at the 100% level.
IDRS, SUPPORT RATING, SUPPORT RATING FLOOR AND SENIOR DEBT
UAB's IDRs, SR and SRF are sensitive to any change in Fitch's view of the creditworthiness of the UAE authorities or on their propensity to support the banking system or the bank. An increase in the bank's market share could also be positive.
Upside for UAB's VR could come from the bank growing its franchise, diversifying its business model, or reducing its problem loan exposure. Downside could arise from further deterioration in asset quality that affects the bank's profitability and significantly erodes capital.
The rating actions are as follows:
United Arab Bank P.J.S.C.
Long-Term IDR assigned at 'BBB+'; Outlook Stable
Short-Term IDR assigned at 'F2'
Viability Rating assigned at 'b+'
Support Rating assigned at '2'
Support Rating Floor assigned at 'BBB+'
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Bank Rating Criteria (pub. 12 Oct 2018)
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