DBRS Upgrades Ally Financial Inc.’s Issuer and Long-Term Debt Rating to BBB (low), Trend Stable

DBRS, Inc. (DBRS) has today upgraded the Issuer and Long-Debt rating of Ally Financial, Inc. (Ally or the Company) to BBB (low) from BB (high). Concurrently, DBRS has upgraded Ally’s Short-Term Instruments rating to R-3 from R-4. The trend on all ratings is Stable. The rating action follows a detailed review of the Company’s operating results, financial fundamentals and future prospects.

Today’s rating action reflects the strength of Ally’s franchise, which is supported by its leading position in the U.S. auto finance market and a top-tier direct banking franchise. Further, DBRS recognizes the progress the Company has made in strengthening the earnings capacity generated from the franchise, and the Company’s strong balance sheet. The ratings also consider the Company’s reliance on the cyclical U.S. auto market and still high reliance on wholesale funding sources.

The Stable trend reflects DBRS’s expectations that the Company’s operating performance in 2016 will be solid despite an expected shift in the operating environment, including normalizing credit costs and used vehicle values, as well as potentially higher interest rates. Upward movement in the ratings is not expected in the short-medium term, but could occur if Ally were to sustain earnings growth while making further progress towards a more deposit-oriented funding profile. Continuing expansion of Growth channel volumes and the successful roll-out of additional products at the Bank, while not materially altering the risk profile of the balance sheet would also be viewed favorably. Conversely, downward pressure on the rating is not expected, but could occur if Ally’s earnings generation were to weaken signaling a deterioration in the strength of the franchise, or if credit losses were to be outsized indicative of deterioration in risk management or servicing, or a material change in the Company’s risk appetite.

During 2015, Ally’s auto finance franchise faced its most significant test since transforming to an independent auto finance company with General Motors Company (GM) shifting all subvented lending and leasing to its captive finance company. GM subvented lending represented approximately 32% of Ally’s 2014 volumes. Despite this headwind, Ally originated $41.0 billion of auto loans and leases in 2015, consistent with 2014 by expanding its Growth channel originations and retail standard share of GM and Chrysler. DBRS considers the Company’s performance as demonstrating the strength and resiliency of the franchise, which are key factors in the rating.

Ally’s growing direct bank, Ally Bank (the Bank), is the foundation of the Company’s funding and a competitive advantage over other auto finance companies. Going forward, Ally is seeking to deepen its relationship with the Bank’s customer base by introducing a credit card and mortgage product in 2016. Further, the recently announced acquisition of TradeKing Group, Inc. should further broaden Ally’s product offering by adding a digital wealth management platform. While DBRS sees potential long-term revenue diversification benefits of these initiatives and acknowledges the low risk approach Ally is taking with the new product roll-outs, there are still execution risks involved with the strategy.

Solid growth in earning assets, cost base rationalization, expansion of the deposit base, and the aggressive actions taken by management to remove legacy high cost debt have supported the improvement in Ally’s profitability. For 2015, Ally reported core pre-tax income, income from continuing operations before taxes and original issue discount (OID), of $1.8 billion in 2015 compared to $1.6 billion in 2014. Solid earnings performance continued in 1Q16 with Ally reporting core pre-tax income of $419 million, down 14% from the year ago period primarily due to higher provision expense, reflecting credit normalization and a shift in the Company’s portfolio mix. Importantly for the ratings, Ally’s pre-provision earnings generation continues to be quite strong and more than sufficient to absorb the higher provision expense.

While Ally’s origination mix by channel materially shifted over the last year, DBRS sees the Company’s underwriting standards and risk appetite as remaining firm. Origination volumes to non-prime customers (FICOs below 620) increased modestly in 2015 to 14% of total originations, and originations to customers with FICOs below 540 remains just 1% of total volume. Asset quality metrics continue to gradually migrate towards more normal levels with U.S. retail auto net charge-offs (NCOs) at 1.08% in 1Q16 compared to 0.93% a year ago.

Diverse funding, ample liquidity and solid regulatory capital underpin the Company’s stronger balance sheet. Funding is anchored by the Bank with deposits totaling $70.3 billion at March 31, 2016, or 51% of total funding. Meanwhile, liquidity is ample with $16 billion of available consolidated liquidity at March 31, 2016, which is well in excess of unsecured debt maturities through 2018. Regulatory capital strengthened as a result of the improving earnings and seasonally lower RWAs. At March 31, 2016, the Company’s Basel III fully phased-in common equity Tier 1 ratio was 9.2%, up from 8.7% at year-end 2015. DBRS notes that as part of Ally’s 2016 CCAR submission, the Company has targeted a payout ratio of 75%. DBRS views the planned capital distribution as acceptable, but notes that regulatory capital build will slow as a result.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Finance Companies (October 2015). Other applicable methodologies include Global Methodology for Rating Banks and Banking Organisations (December 2015), DBRS Criteria – Support Assessments for Banks and Banking Organisations (March 2016), DBRS Criteria: Rating Bank Capital Securities – Subordinated, Hybrid, Preferred & Contingent Capital Securities (February 2016), and DBRS Criteria: Guarantees and Other Forms of Support (February 2016). These can be found at: http://www.dbrs.com/about/methodologies.

The primary sources of information used for this rating include company documents and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

Lead Analyst: David Laterza
Rating Committee Chair: Roger Lister
Initial Rating Date: 16 May 2001
Most Recent Rating Update: 18 May 2015

For additional information on this rating, please refer to the linking document under Related Research.