Fitch Ratings has maintained Ecobank Nigeria Limited’s (ENG) Long-Term Issuer Default Rating (IDR) of ‘B-‘ and Viability Rating (VR) of ‘b-‘ on Rating Watch Negative (RWN) following the Federal High Court of Nigeria’s recent judgment on a protracted lawsuit by one of ENG’s corporate customers. A full list of rating actions is below.
The RWN already reflects the risk of the bank breaching its minimum total capital adequacy ratio (CAR) requirement due to the effect of the naira devaluation and other macroeconomic risks on capital and asset quality. The RWN now also incorporates further risks to ENG’s business profile and financial profile, in particular its capitalisation, stemming from the recent High Court judgement.
The Federal High Court of Nigeria recently ordered ENG to pay NGN72.2 billion in damages in respect of this lawsuit. ENG has appealed this judgement, although the timing of the conclusion of the dispute is uncertain. The High Court judgment, if upheld, would lead to a breach of ENG’s CAR requirement as the damages are large (end-2022: 31% of total regulatory capital).
Fitch expects to resolve the RWN once there is more clarity on the outcome of the dispute and its implications for ENG, in addition to when the impact of the naira devaluation on capital ratios and asset quality becomes clear. The RWN may be maintained longer than six months if the dispute is not concluded within this timeframe.
Key Rating Drivers
ENG’s IDRs are driven by its standalone creditworthiness, as expressed by its ‘b-‘ VR. The VR reflects the concentration of ENG’s operations in Nigeria’s challenging operating environment, high credit concentrations and exposure to market and legal risks, asset-quality issues, weak profitability and modest capitalisation given these risks. ENG’s National Long-Term Rating is among the lowest of all Nigerian banks under Fitch’s coverage, primarily reflecting its weak earnings and modest capitalisation.
Thin, Highly Vulnerable Capital Buffers: The devaluation will inflate ENG’s foreign-currency (FC)-denominated risk-weighted assets (RWAs) in naira terms and exert downward pressure on its CAR (end-2022: 13.3%). Despite having a net long FC position, Fitch believes the sheer scale of devaluation may lead to ENG breaching its 10% minimum CAR requirement given its high loan book dollarisation and the risks of greater prudential provisions being required against high FC-denominated Stage 2 loans.
The recent judgement by the High Court adds to the risk of ENG breaching its minimum CAR requirement if upheld at the appellate court.
Subsidiary of Pan-African Group: ENG has moderate market shares of domestic banking system assets (end-2022: 3.7%). However, its franchise benefits from being a subsidiary of Ecobank Transnational Incorporated (ETI; B-/RWN), a large pan-African banking group with operations spanning many countries across sub-Saharan Africa (SSA). Fitch believes that the High Court judgment, if upheld at the appellate court, would constrain ENG’s growth prospects, business generation and may have reputational implications.
Damages Pressure Weak Profitability: ENG has notably weaker profitability than other commercial banks, with operating profit averaging just 0.4% of risk-weighted assets (RWAs) over the past four years. Weak profitability is influenced by a particularly narrow net interest margin (NIM) and high loan-impairment charges (LICs) that have accompanied asset-quality issues in recent years. The damages (equivalent to 6.9x of operating profit in 2022) would have a large negative impact on profitability if realised.
Less Stable Funding: Reliance on term-deposit funding (end-2022: 40% of customer deposits) is material. Deposit concentration is fairly high, with the 20 largest deposits representing 21% of customer deposits at end-2022. ENG has modest holdings of FC liquid assets relative to peers but benefits from ordinary FC liquidity support from the group. A material CAR breach may undermine depositor stability given high term deposits and depositor concentration.
High Sovereign Exposure: Single-borrower credit concentration is very high, with the 20 largest loans representing 64% of gross loans and 271% of Fitch Core Capital (FCC) at end-2022. Oil and gas exposure (end-2022: 38% of gross loans) and FC lending (end-2022: 56% of net loans) are among the highest in the banking system. Sovereign exposure via securities and Central Bank of Nigeria cash reserves is high relative to FCC (end-2022: over 425%).
Weak Asset Quality: ENG’s impaired loans (Stage 3 loans under IFRS 9) ratio declined significantly to 6.9% at end-2022 (end-2021: 16.3%), primarily due to write-offs and a USD200 million impaired loans sale to an ETI-owned resolution vehicle. Specific loan loss allowance coverage of impaired loans was 52% at end-2022. Stage 2 loans (end-2022: 25% of gross loans; concentrated within oil and gas and largely US dollar-denominated) remain high, and a key risk to asset quality. We expect the impaired loans ratio to increase in the near term.
Fast Pace of Reforms: The recently elected President Bola Tinubu has pursued key reforms faster than Fitch expected, completely removing fuel subsidy and liberalising the Nigerian naira within weeks of his inauguration. These reforms overall are positive for the sovereign’s credit profile but pose near-term challenges including adding to inflationary pressures and risks of social unrest. The sharp depreciation of the naira will exert negative pressure on banks’ capital ratios.
Rating Sensitivities
Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade
ENG’s VR and IDRs could be downgraded (and potentially removed from RWN) if ENG breaches its minimum CAR requirement without near-term prospects for recovery. This may result from ENG being required to pay large damages in respect of the appealed High Court judgment. It may also result from the combination of the naira devaluation and a marked increase in the impaired loans ratio.
A downgrade of Nigeria could result in a downgrade of ENG’s IDRs and VRs if Fitch believes that the direct and indirect effects of a sovereign default would likely erode capitalisation and FC liquidity insofar as to undermine its viability.
A downgrade of ENG’s National Ratings would result from a weakening in its creditworthiness relative to other Nigerian issuers’.
Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade
ENG’s VR and IDRs would be affirmed (and removed from RWN) if the risk of breaching the CAR requirement reduces materially. This may be due to its CAR remaining above 10% following the devaluation, with sufficient buffers to accommodate increased credit concentration and loan-quality risks, in conjunction with a material reduction of the risk of a large legal damage payment in respect of the appealed High Court judgment.
An upgrade of ENG’s VR and Long-Term IDR would require a sovereign upgrade and an improvement in operating conditions in conjunction with a strengthened financial profile, which is currently very unlikely.
An upgrade of ENG’s National Ratings would result from a strengthening of its creditworthiness relative to other Nigerian issuers’.
Other Debt and Issuer Ratings: Key Rating Drivers
Senior unsecured debt issued through EBN Finance Company B.V. is rated at the same level as ENG’s Long-Term IDR, reflecting Fitch’s view that the likelihood of default on these obligations is the same as that of the bank. The Recovery Rating of these notes is ‘RR4’, indicating average recovery prospects in the event of default.
The RWN on EBN Finance’s senior unsecured debt reflects that on ENG’s Long-Term IDR.
ENG’s Shareholder Support Rating (SSR) of ‘ccc+ captures ETI’s high propensity to provide support to ENG but its constrained ability to do so due to ENG’s large size and ETI’s weak financial profile as reflected in its ‘B-‘ Long-Term IDR. Fitch sees a high propensity to provide support given ENG’s importance to the parent’s pan-African strategy as its largest subsidiary (end-2022: 22% of consolidated group assets) and also because it operates in SSA’s largest economy.
Fitch has maintained ENG’s SSR of ‘ccc+’ on RWN, reflecting the potential for the parent’s ability to provide support, if required, to be weakened by the naira devaluation. Fitch expects to resolve the RWN on the SSR within the next six months when the impact of the naira devaluation on ETI’s credit profile becomes clear.
Other Debt and Issuer Ratings: Rating Sensitivities
EBN Finance Company’s senior unsecured debt rating is mainly sensitive to changes in ENG’s Long-Term IDR.
ENG’s SSR is sensitive to a change in ETI’s ability or propensity to provide support. A downgrade of ETI’s Long-Term IDR would therefore lead to a downgrade (and the RWN being removed) of ENG’s SSR. ENG’s SSR could be affirmed if ETI’s Long-Term IDR is affirmed.
Best/Worst Case Rating Scenario
International scale credit ratings of Financial Institutions and Covered Bond issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from ‘AAA’ to ‘D’. Best- and worst-case scenario credit ratings are based on historical performance.
ESG Considerations
ENG’s ESG Relevance scores for Governance has been revised to ‘4’ from ‘3’ reflecting the heightened legal risk of a large damages related to the judgment on a lawsuit by one of ENG’s corporate customers. Risks stemming from the High Court’s judgement are relevant and negative to the ratings in conjunction with the naira devaluation, which overall leads to pressure on ENG’s credit profile.
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of ‘3’. This means ESG issues are credit neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. Fitch’s ESG Relevance Scores are not inputs in the rating process; they are an observation of the materiality and relevance of ESG factors in the rating decision.
