Fitch Ratings has today downgraded India's UCO Bank's (UCO) National Long-term rating to 'AA-(ind)' (AA minus)(ind)) from 'AA(ind)'. The Outlook is Negative. Simultaneously, the agency affirmed its Support rating at '3' and downgraded its ratings as follows:
UCO's National and Individual ratings downgrade reflect the bank's increased vulnerability given the present adverse credit conditions; particularly in view of its weak core capital, profitability and loan loss reserves that are well below the system median for Indian banks. Fitch revised the National Long-term rating Outlook to Negative on 6 December 2007, to reflect these growing challenges and since then, while the bank's reported NPL levels have improved, its performance continues to trail its rated government bank peers in India.
The National Long-term ratings continue to reflect expectations of government support given UCO's majority government ownership and its moderately large size. Given current difficult market conditions, the bank is now highly dependent on the government for capital infusion. The Negative Outlook reflects concerns on the bank's core capital levels, particularly as asset quality of Indian banks will likely come under pressure during the next two years.
The National ratings of the hybrid debt instruments are also downgraded in line with the agency's revised approach for wider notching of these instruments in India, reflecting the bank's weak financials. (Please refer to Fitch's press release 'Fitch To Widen Notching Of 3 Indian Banks' Hybrid Debt National Ratings', dated 14 November 2008).
UCO's capital restructuring plan involving the conversion of part of the government's equity into Tier 1 perpetual non-cumulative preference shares (PNCPS), followed by a public issue of equity, has received government approval. The bank may consider issuing additional PNCPS to the government to improve its Tier 1 ratio above 6%. While the recent reduction of risk weights by the Reserve Bank of India for certain loan categories (unrated exposures, commercial real estate and finance companies) will also boost the reported capital ratios, UCO's equity/assets ratio of 3.59% at end-September 2008 is considered low. Given low loan loss reserves (specific loan loss reserves/gross NPL ratio of 32.6% at FY ended March 2008) the bank's solvency (FY08 net NPL/equity ratio of 37.3%) compares unfavorably with larger government banks. Therefore, it is important for the bank to raise substantial equity (higher than planned) and also improve its profitability for internal capital generation. Issuance of common equity to public is, however, uncertain given the difficult market conditions.
The bank's weakness in its structural liquidity lies in its increased dependence on wholesale borrowings to fund its growth. The low cost deposit base declined to 25.18% in end-September 2008 from 29.23% in FY05. UCO's net interest margin (H109: 1.8%) is likely to remain under pressure as it focuses on short-term corporate loans that earn lower yields, while its reliance on high-cost wholesale funds has increased its funding cost.
Although improved, UCO's gross (H109: 2.58%) and net (H109: 1.61%) NPL ratios are the highest among its government bank peers and are likely to remain under pressure due to the rising risk of delinquencies in the retail, SME and mid-corporate segments.
UCO was established in West Bengal in 1943 and nationalised in 1969. The bank's IPO in 2003 reduced the government's stake to 75%. From being a predominantly corporate bank, UCO has, in recent years, increased its lending to the retail segment, which now constitutes 14% of total loans.
Note to editors: Fitch's National ratings provide a relative measure of creditworthiness for rated entities in countries with relatively low international sovereign ratings and where there is demand for such ratings. The best risk within a country is rated 'AAA' and other credits are rated only relative to this risk. National ratings are designed for use mainly by local investors in local markets and are signified by the addition of an identifier for the country concerned, such as 'AAA(ind)' for National ratings in India. Specific letter grades are not therefore internationally comparable.
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