DBRS Confirms the BB (high) Issuer Rating of CIT Group, Trend on CIT Bank Revised to Positive

DBRS, Inc. (DBRS) has today confirmed the BB (high) Issuer and Unsecured Long-Term debt ratings of CIT Group Inc. (CIT or the Company), as well as the BB (high) Senior Debt & Deposits rating of CIT Bank, N.A. (the Bank). Concurrently, the Short-Term Instruments ratings were confirmed at R-4. The trend on all ratings of CIT remain Stable, while DBRS has revised the trend on the ratings of the Bank to Positive. The rating actions follow the Company’s announcement that it has reached an agreement to sell its CIT Aerospace business to Avolon Holdings plc, as well as an in-depth review of the Company’s fundamentals, operating performance and future prospects.

On October 6, 2016, CIT announced that it had reached a definitive agreement to sell its CIT Aerospace business for $10.0 billion in cash to Avolon. The transaction is expected to close in 1Q17, subject to U.S. and China regulatory approval, as well as Bohai Leasing (the owner of Avolon) shareholder approval and customary closing conditions. CIT also announced that it has received a non-objection from the Federal Reseve for its amended capital plan that included the sale of CIT Aerospace. CIT’s capital plan now includes the return of up to $3.3 billion of common equity to shareholders, as well as the repurchase of up to $6.0 billion of unsecured debt.

From DBRS’s perspective, the transaction is a long-term positive removing a notable source of asset risk from the balance sheet, as well as improving the optimization of capital as CIT was required to hold regulatory capital against the aircraft order book. Further, DBRS views favorably CIT’s intention to use a portion of the sale proceeds to accelerate the improvement in the Company’s funding profile through the aforementioned repurchase of unsecured debt, which will also be supportive of stronger earnings generation. These positives are partially offset by the sale, which removes a business that has a strong, well-established market position. Nonetheless, DBRS sees the completion of the sale process as allowing senior management to focus on advancing the Company’s evolution to becoming a middle market commercial bank. From an earnings perspective, the sale will reduce near-to-medium earnings generation of CIT. However, going forward, CIT’s non-interest income should become more predictable with the absence of gains on sale of aircraft, which tended to be lumpy.

The Stable trend on CIT’s ratings reflect DBRS’s expectations that the Company will continue to generate solid results in 2H16 and into 2017 supported by a still growing U.S. economy, improving funding costs as the Company becomes more-bank oriented, as well as further expected progress on cost savings initatives.

Meanwhile, the Positive trend on the Bank’s ratings reflect the progress the Bank has made in improving its overall performance, as well as the positive impact the transaction will have on the overall structure of CIT. On a pro-forma basis for the closing of the CIT Aerospace sale, approximately 80% of CIT’s assets will be held in the Bank and 75% of funding will be from deposits. Importantly, the reduction of unsecured debt at the holding company will reduce structural subordination. As such, DBRS expects that upon the closing of the transaction and the repurchase of the unsecured debt, DBRS would likely move the Bank up one notch above the bank holding company, which is standard DBRS policy for stand-alone bank holding companies.

The ratings reflect the Company’s diverse commercial franchise, which benefits from a broad product and services offering to middle market companies, as well as its well-established presence from more than 100 years serving U.S. middle market companies. Going forward, CIT’s strategy is to evolve into a leading commercial bank servicing the U.S. middle market. While DBRS considers the strategy favorably, as it leverages CIT’s long-standing relationships with its core commercial customer base and should result in a notably stronger entity from a liquidity, funding and capital perspective than the legacy CIT, DBRS sees execution risks in the strategy as competition in the middle market from non-bank financials (NBFIs) and tradtitional banks continues to be intense. Moreover, DBRS notes that the NBFIs do not face a number of the regulatory constraints that apply to CIT as a bank.

From DBRS’s perspective, strengthening and sustaining earnings generation and returns to levels more in line with peers will be key for upward ratings migration. For 1H16, CIT reported pre-tax income from continuing operations of $332.8 million, a 52% improvementr YoY, reflecting the increased earning asset base following the acquisition of OneWest in August 2015. Importantly for the ratings, net finance margin (NFR) improved in 1H16 to 3.69% from 3.27% a year ago. The improvement in the NFR margin reflects a 90 basis point improvement in average funding costs (2.28% in 1H16 compared to 3.19% in 1H15), as deposits continue to become a larger component of funding, as well as the benefit from the presence of lower cost OneWest retail deposits.

CIT continues to maintain a sound balance sheet supported by credit metrics that remain near cyclical lows, and an improving liquidity and funding profile. Indeed, non-accruals and charge-offs remain at low levels. Meanwhile, liquidity is ample and more than sufficient to cover near-term maturities, which are manageable with no unsecured debt maturities until May 2017. CIT’s evolution to a more bank-centric funding model continues and was accelerated by the OneWest acquisition. As of June 30, 2016, deposits accounted for 65% of total funding compared to 51% before the OneWest acquisition. Further progress will be made to the funding profile once the sale of CIT Aerospace is complete with deposits comprising approximately 75% of total funding, on a pro-forma basis, including the repurchase of corporate debt.

DBRS views regulatory capital as strong and views favorably that post-transaction closing and the planned capital actions, CIT’s capital is expected to remain at or above most bank peers. At June 30, 2016, CIT’s fully phased-in Basel III Common Equity Tier (CET) 1 ratio was 13.4%, and on a pro-forma basis is expected to be in the range of 11.7% to 12.4%.

Concurrent with the rating action, DBRS confirmed the BBB (low) rating of the Revolving Credit Facility (the Facility), which is one notch above the Company’s Issuer Rating. The notching reflects DBRS’s view that while the facility is unsecured, recovery, in the case of default, will be greater than 80%. This view on the recovery reflects the upstream guarantee in place from eight operating subsidiaries of CIT for the benefit of the Facility. The Stable trend reflects that the notching on the instrument will narrow and eventually be eliminated as the Issuer Rating strengthens. Based on DBRS policy, the notching up from the Issuer Rating based on the recovery analysis described above is limited on the Revolving Credit Facility to BBB (low). As such, the Issuer Rating and Facility ratings potentially could converge to this rating level.

RATING DRIVERS
Further progress on the Company’s strategic evolution to becoming a commercial bank for the middle market evidenced by growing volumes and share while maintaining CIT’s sound commercial credit performance and improving earnings would have positive rating implications. Continued progress in expanding the contribution of funding from deposits, while improving the overall quality of the deposit base would be viewed favorably. Conversely, a sustained deterioration in the Company’s operating results; especially if driven by weakening results in commercial banking or an outflow of deposits resulting in a reversal of the improvement in the funding profile could have negative ratings implications. Rising credit costs beyond DBRS’s tolerance levels indicating weakness in risk management and servicing, or an increase in risk appetite could potentially result in ratings being lowered. Further, an aggressive return of capital to shareholders or a deployment of excess capital via an acquisition not viewed as consistent with CIT’s commercial lending focus to middle market companies would be viewed negatively by DBRS.

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

The applicable methodologies are Global Methodology for Rating Finance Companies (October 2015), Global Methodology for Rating Banks and Banking Organisations (July 2016) and DBRS Criteria: Support Assessments for Banks and Banking Organisations (March 2016), which can be found on our website under 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.

Lead Analyst: David Laterza
Rating Committee Chair: Roger Lister
Initial Rating Date: 27 May 2010
Most Recent Rating Update: 1 September 2015

The rated entity or its related entities did participate in the rating process. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities.