Fitch Affirms Industrial Bank of Korea at 'AA-'; Outlook Stable

Industrial Bank Of Korea

19/06/2019 08:53

(The following statement was released by the rating agency)


Fitch Ratings-Seoul-June 19: 

Fitch Ratings has affirmed the 'AA-' Long-Term Issuer Default Rating (IDR) on 
South Korea-based Industrial Bank of Korea (IBK). The Outlook is Stable. At the 
same time, Fitch has affirmed IBK's Viability Rating (VR) at 'a-'. A full list 
of rating actions is at the end of this rating action commentary.

Key Rating Drivers

IDRS, SUPPORT RATING FLOOR, SUPPORT RATING AND SENIOR DEBT

IBK's IDRs and Support Rating Floor are equalised with the IDRs of the Korean 
sovereign (AA-/Stable). The bank's ratings, along with their Support Rating of 
'1', incorporate Fitch's belief of an extremely high probability of state 
support for the bank, if needed.

The sovereign's very high propensity to support IBK is driven by the important 
policy roles carried out by the bank for the country's economy, the state's 
controlling ownership of the bank and the government's de facto solvency 
guarantee stated in IBK's establishment act. The act requires the government to 
make up for any losses incurred by the bank that are not covered by its own 
reserves, which strongly underpins the protection of senior creditor rights.

IBK's policy mandate is to build up an efficient credit system for viable SMEs. 
The bank has contributed to economic stability in times of stress by extending 
credit to SMEs when commercial banks reduced their exposures. Fitch believes the 
state is committed to keeping its controlling ownership of the bank (53% of the 
common equity directly, 2% through Korea Development Bank (AA-/Stable) and 
another 2% through The Export-Import Bank of Korea (AA-/Stable) at end-1Q19).

The Stable Outlook on IBK's Long-Term IDR is aligned with that of Korea's 
sovereign Long-Term IDR.

The ratings on the bank's senior unsecured debt, including the certificate of 
deposit programme, are the same as IBK's Long-Term and Short-Term IDRs as they 
constitute direct, unconditional, unsecured and unsubordinated obligations of 
the bank.

IBK'S VR

IBK's 'a-' VR is mainly driven by the bank's solid business model and franchise, 
which are backed by its corporate culture that is mindful of risks and Korea's 
challenging but relatively strong macroeconomic environment. The VR also 
captures IBK's countercyclical SME policy-lender role, especially when the 
economy is under stress or the commercial banking system has become more 
risk-averse towards SMEs. The potential impact to asset quality and 
profitability from its policy role is in part offset by the ordinary capital 
support from the state and its sound risk management.

Fitch expects IBK's operating profits/risk-weighted assets of 1.5% in 2018 to 
remain broadly stable in the near term, backed by stable credit costs and net 
interest margins. Its SME-focused granular and largely secured loan portfolio 
that is diversified across various sectors and the accomodative monetary policy 
arelikely to mitigate the risk of a potential increase in credit costs from a 
temporary downturn in the economy over the next two years. Its relatively 
limited exposure to large corporates has historically helped the bank to reduce 
the chance of reporting unexpected significant credit losses relative to most 
commercial banks in Korea.

IBK's satisfactory capital buffer in excess of the regulatory buffer should be 
sustained in the medium term, despite social pressure to increase lending to 
SMEs, through moderate earnings retention, and ongoing capital support from the 
government, if necessary. Its Fitch Core Capital ratio has gradually improved to 
10.7% byend-2018 from the last trough of 9.5% at end-2013, mainly due to a 4 
percentage-point decline in the average risk weight of its credit exposures 
under the country's benign credit cost environment and the government's small 
capital injections in cash for its specific policy lending.

IBK's access to funding is strongly underpinned by its key policy-lender status, 
rendering strong confidence to depositors and debt investors. Its ability to 
sell debentures in retail branches, which we see as a sticky source of funding, 
provides more flexibility to optimise the funding structure relative to local 
commercial banks. However, its loan-to-customer-deposit ratio of 131% at 
end-2018 (adjusted for loans and deposits to and from financial institutions as 
well as debentures sold to retail customers) remained higher than the commercial 
bank average (115%).

HYBRID SECURITIES

IBK's Basel III-compliant Additional Tier 1 (AT1) hybrid securities rating is 
anchored by the bank's Long-Term IDR and capped at 'BBB' in line with Fitch's 
Bank Rating Criteria.

The use of the Long-Term IDR as the anchor reflects our belief that Korea's 
government has a keen interest in preventing the AT1 notes' loss-absorption 
features from kicking in due to significant potential reputational risk to the 
government and the repercussions on the country's banking system such as a surge 
in funding costs. The government has great influence on the bank's management 
and strategy as a majority shareholder, and is thus responsible for IBK's 
performance.

The 'BBB' cap corresponds to the rating cap that Fitch applies to IDR-anchored 
hybrid notes when the anchor IDR is in the 'AA' category.

The notes' rating would have been higher without the rating cap because Fitch 
believes the non-performance risk, including discretionary coupon skipping, 
would be largely neutralised by the government's pre-emptive support. 
Meanwhile,the notes' full and permanent write-off feature upon insolvency 
suggests poor recovery prospects.

Rating Sensitivities

IDRS, SUPPORT RATING FLOOR, SUPPORT RATING AND SENIOR DEBT

IBK's IDRs, Support Rating, Support Rating Floor and senior debt ratings are 
sensitive to changes in the sovereign's ability to support the bank. Hence, they 
would be directly affected by changes to South Korea's ratings. 

The ratings are also sensitive to changes in Fitch's assumptions about the 
bank's relationship with the South Korean government, and on the government's 
propensity to support the bank. For example, significant changes to the solvency 
guarantee under IBK's establishment act may lead to a re-assessment of the 
ratings. However, Fitch does not expect any significant changes to this in the 
near-to-medium term.

IBK'S VR

An upgrade may be prompted by sustainable improvement in the operating 
environment, if it solidifies the bank's business model and financial profile 
noticeably.

Conversely, downgrade pressure may arise from a significant weakening in IBK's 
business model, for instance, if government policy calls for the bank to 
permanently increase exposure towards less diversified or more volatile sectors. 
In addition, if the bank's underwriting standards and risk controls are weakened 
due to its countercyclical role, it could also pose downward pressure to the VR, 
especially if not accompanied by a commensurate increase in capital buffers.

IBK'S HYBRID SECURITIES

The rating on IBK's AT1 notes is very sensitive to a downgrade in the bank's 
Long-Term IDR. For instance, a downgrade of the IDR to the 'A' category would 
prompt a two-notch downgrade in the rating of the AT1 notes to 'BB+', reflecting 
a change in the rating cap. On the other hand, an upgrade in the IDR would not 
affect the issue rating due to the existing rating cap.

The rating is also sensitive to a change in the anchor rating or the notching, 
potentially stemming from a change in Fitch's assumptions around the state's 
ability and propensity to prevent IBK from triggering the notes' loss-absorption 
features. For example, the notes could be downgraded if it becomes clear that 
avoidance of coupon skipping will become increasingly difficult.

Summary of Financial Adjustments

We have made the following assumptions in analysing the loan-to-customer-deposit 
ratio:

- Customer deposits: IBK has a practice of selling its own debentures directly 
to retail customers (in an amount that is publicly disclosed). We assume such 
funding is sticky enough to be considered as a type of customer deposit, and can 
be included in an adjusted loan-to-customer- deposit ratio.

Industrial Bank of Korea; Long Term Issuer Default Rating; Affirmed; AA-; RO:Sta

; Short Term Issuer Default Rating; Affirmed; F1+

; Viability Rating; Affirmed; a-

; Support Rating; Affirmed; 1

; Support Rating Floor; Affirmed; AA-

----senior unsecured; Long Term Rating; Affirmed; AA-

----subordinated; Long Term Rating; Affirmed; BBB

----senior unsecured; Short Term Rating; Affirmed; F1+

Contacts: 

Primary Rating Analyst

Matt Choi, 

Director

+82 2 3278 8372

Fitch Australia Pty Ltd, Korea Branch

9F Kyobo Securities Building 97 Uisadang-daero, Youngdeungpo-gu

Seoul 07327

Secondary Rating Analyst

Heakyu Chang, 

Senior Director

+822 3278 8363

Committee Chairperson

Parson Singha, 

Senior Director

+66 2 108 0151

 

Media Relations: Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: 
wailun.wan@thefitchgroup.com; Yee Man Ko, Hong Kong, Tel: +852 2263 9953, Email: 
alanis.ko@thefitchgroup.com.

Additional information is available on www.fitchratings.com

Applicable Criteria 

Bank Rating Criteria (pub. 12 Oct 2018)

https://www.fitchratings.com/site/re/10044408

Short-Term Ratings Criteria (pub. 02 May 2019)

https://www.fitchratings.com/site/re/10073011

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Dodd-Frank Rating Information Disclosure Form 

https://www.fitchratings.com/site/dodd-frank-disclosure/10079079

Solicitation Status 

https://www.fitchratings.com/site/pr/10079079#solicitation

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https://www.fitchratings.com/regulatory

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