DBRS Limited (DBRS Morningstar) confirmed Bank of China (Canada)’s (BOCC or the Bank) ratings, including the Bank’s Long-Term Issuer Rating at A (low) and Short-Term Instruments rating at R-1 (low). The trend on all ratings is Stable. The Support Assessment (SA) for BOCC is SA1, reflecting the expectation of timely support from its parent, Bank of China (BOC or the Parent), which is 68% owned by the People’s Republic of China (the PRC or China; rated A (high) with a Stable trend by DBRS Morningstar).
KEY RATING CONSIDERATIONS
The two-notch rating differential between BOCC and the PRC includes one notch for the PRC’s less than 100% ownership of BOC, a global systemically important bank, as well as one notch for BOCC’s status as a fully owned foreign subsidiary in a low cross-border-risk country. Given BOCC’s SA1 designation, DBRS Morningstar would likely move the Bank’s ratings in tandem with the PRC’s ratings.
The ratings of BOCC, a wholly owned subsidiary of BOC, reflect its important strategic position as an extension of its Parent’s global platform, providing banking services to corporations and individuals of Chinese origin in Canada as well as Canadian domiciled retail and corporate customers. BOCC’s strategic importance to its Parent is also demonstrated through the Bank’s close links with the Parent’s management and reporting systems. Given the international scope of BOC and its global systemic importance, as well as being majority owned by the PRC, DBRS Morningstar expects the Parent to receive timely, systemic support from the PRC, if needed.
Given BOCC’s strategic importance to the Parent, the ratings would be upgraded if the PRC’s sovereign ratings were upgraded. Conversely, ratings would be downgraded following a downgrade of the PRC’s sovereign rating.
Furthermore, ratings would come under pressure should there be a significant reduction in the ownership stake of the Chinese government in the Parent or if there is a reduction in BOCC’s strategic importance to the Parent.
BOCC derives its franchise strength from its position as a financial intermediary facilitating transactional flows between the PRC and Canada, both for corporate and retail banking clients. Furthermore, BOCC also benefits from access to its Parent’s global network. In DBRS Morningstar’s assessment, BOCC remains well positioned to strengthen its franchise, although a sustained deterioration in the relationship between China and Canada could dampen growth prospects over the intermediate term.
BOCC experienced some headwinds to earnings in 2020, reflecting the economic impact of the Coronavirus Disease (COVID-19) pandemic. Net income declined 32% year over year to $31.4 million as the low-interest-rate environment pressured net interest income while the Bank incurred provision for credit losses (PCL) of $1.6 million, following two consecutive years of PCL releases. BOCC generates strong recurring earnings, with noninterest income forming 24% of total revenue, which is largely composed of fee and commission income. BOCC’s operating efficiency is top tier compared with those of its peers as it had an efficiency ratio of 37.2% in F2020.
Asset quality has historically been sound given that the Bank maintains a strong risk management framework and conservative underwriting standards. As of F2020, gross impaired loans represented just 0.03% of gross loans.
Moreover, the proportion of corporate and commercial loans subject to a payment deferral represented only a small proportion of gross loans and compared favourably with similar sized Canadian financial institutions. DBRS Morningstar remains cautious of BOCC’s significant exposures to commercial real estate and construction loans, which formed about one-third of gross loans at the end of F2020 and could result in higher asset impairment and losses, especially as government aid programs expire and given that the increased prevalence of coronavirus variants could lead to renewed lockdowns.
DBRS Morningstar assesses BOCC’s funding position as stable and its liquidity position as robust. Furthermore, funding sources are generally well aligned with the Bank’s lending activities. BOCC is exposed to some concentration risk within its funding profile given its reliance on corporate deposits, some of which could be large or non-relationship- based deposits. On balance, about one-fifth of the Bank’s funding comes from relatively granular retail deposits, and BOCC can also access deposits from related entities within the BOC group, which somewhat mitigates this concentration risk. In addition, BOCC can readily source emergency liquidity from the Parent’s branches in New York and London, which helps support the SA1 designation.
DBRS Morningstar considers BOCC’s capital cushion, including a CET1 ratio of 23.7%, to be very sound, especially considering its largely collateralized loan exposures and the Bank’s strong internal capital generation. BOCC also has the ability to access capital from its Parent, if needed, as demonstrated by an equity capital injection into the Bank in 2016.
Given BOCC’s SA1 designation, the below environmental, social, and governance (ESG) Considerations relate to the PRC.
The ESG subfactors Human Capital and Human Rights (S) and Institutional Strength, Governance, and Transparency (G) were among the key drivers behind this rating action. China’s per capita GDP is low at USD 11,891, partially reflecting relatively low levels of productivity. China’s risks are associated with its one party rule, a lack of independent institutions, and the limited transparency and accountability associated with government actions, which partially contribute to problems with corruption. DBRS Morningstar has taken these considerations into account within the Economic Structure and Performance, Fiscal Management and Policy, and Political Environment building blocks.
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/373262.
All figures are in Canadian dollars unless otherwise noted.
The principal methodology is the Global Methodology for Rating Banks and Banking Organisations (July 19, 2021; https://www.dbrsmorningstar.com/research/381742). Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (February 3, 2021; https://www.dbrsmorningstar.com/research/373262).
The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found on the issuer page at www.dbrsmorningstar.com.
The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.
Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar’s outlooks and ratings are under regular surveillance.
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