DBRS Confirms Commonwealth Bank at AA / R-1 (high); Trend Stable

DBRS Ratings Limited (DBRS) has today confirmed the ratings of Commonwealth Bank of Australia (CBA or the Bank) including the AA Deposits and Senior Debt ratings. The trend on all ratings is Stable. CBA’s ratings reflect an intrinsic assessment (IA) of AA (low), combined with a support assessment of SA2, which results in a one notch uplift to the final rating from the IA. The SA2 reflects the systemic importance of CBA to the financial system in Australia, and the generally supportive regulatory framework.

The confirmation of the ratings reflect the Bank’s extremely strong domestic franchise. The ratings also incorporate the Bank’s predictable earnings stream, conservative risk profile, strong capital levels, and adequate liquidity profile.

CBA’s consistency in generating strong profitability metrics supports the overall high rating. In FY16, CBA reported a statutory net profit of AUD 9.2 billion, a 2% increase year-on-year (YoY), driven in part by the continued strong performance of the Bank’s Retail Banking Services (RBS) and Business & Private Banking (BPB) divisions. Given the Bank’s reliance on its home market, DBRS views positively the diversification of income sources across business lines, all of which were profitable in FY16. In addition to strong revenue generation, the Bank continues to demonstrate strong cost control, with an efficiency ratio of 42.6%, on a statutory basis, in FY16, despite significant levels of ongoing investment in the business, as evidenced by the 10% YoY increase in investment spend to AUD 1.4 billion in FY16.

DBRS views CBA’s risk profile as conservative. The Bank’s loan book shows good levels of industry diversification, and credit quality remains extremely strong, with an impaired loan ratio of only 0.42% at end-FY16, and a coverage ratio of 125%. Even with loans 90+ days past due (DPD) but not impaired included, the Bank’s problem loans as a percentage of gross loans remains very low at 0.76%. CBA has not, however, been immune from the challenges evident in commodity and commodity related sectors, which have contributed to a 27% YoY increase in loan impairment charges, to AUD 1.3 billion, and a 9% YoY increase in gross impaired assets, to AUD 3.1 billion. Despite these challenges, DBRS notes that the Bank’s lending exposure to stressed commodity sectors, such as New Zealand dairy, and mining, oil & gas, appears manageable. At end-FY16, CBA’s AUD 7.4 billion New Zealand dairy exposure accounted for only 0.7% of the Bank’s total committed exposure (TCE), whilst lending to mining, oil and gas decreased 15% YoY, to AUD 16 billion, equivalent to 1.5% of the Bank’s TCE. In addition, only 1.1% of the Bank’s mining, oil and gas exposure was classified as impaired at end-FY16, and 70% was considered investment grade, albeit down from 79% at end-FY15.

CBA’s funding position has improved significantly in recent years, as strong customer deposit growth has helped to reduce the Bank’s (DBRS calculated) net loan to deposit ratio from 157% at end-FY10, to 135% at end-FY16. The Bank, however, in line with other major Australian banks, continues to rely heavily on wholesale funding, which accounted for 33.3% of total funding at end-FY16. Although DBRS views negatively the level of wholesale funding, given the high rating level, it is mitigated to a certain degree by the Bank’s improving liquidity position, with APRA Basel 3 liquidity coverage ratio (LCR) eligible liquid assets of AUD 135 billion at end-September 2016, including AUD 76.9 billion of high quality liquid assets (HQLA), a 17% increase from end-FY15. As a result, the Bank reported an LCR ratio of 126% at end-September 2016, up from 120% at end-FY16. DBRS does, however, note that CBA’s LCR eligible liquid assets only covered 96% of the Bank’s short-term funding at end-FY16, which, including long-term funding less than or equal to one year residual maturity, totalled AUD 140 billion, equivalent to 53% of total wholesale funding.

DBRS views CBA’s capital position as strong, with the Bank reporting an APRA Basel 3 Common Equity Tier 1 (CET1) ratio of 9.4% at end-September 2016, up 30 basis points (bps) from end-FY15, as strong earnings generation and the proceeds of the Bank’s AUD 5.1 billion fully-underwritten equity raise offset risk-weighted assets (RWA) inflation related to the implementation of APRA’s changes to the calculation of Australian residential mortgages RWAs. As a result, the Bank continues to surpass APRA’s additional capital buffer requirements, which result in a minimum CET 1 ratio of 8% by January 1, 2016. The Bank’s leverage ratio, calculated on an APRA basis as Tier 1 capital % of Total Exposure, was 4.8% at end-September 2016. On an internationally comparable basis, CBA reported a CET1 ratio of 14.3%, and a leverage ratio of 5.4% at end-September 2016.

Concurrently, DBRS has today withdrawn its Commercial Paper rating on CBA and assigned an R-1 (high) Short-Term Instruments rating to CBA, which reflects DBRS’s view of the Bank’s short-term debt and deposit liabilities (i.e. maturing within 1 year).

RATING DRIVERS
Upward pressure on the rating is unlikely in the medium term given the already high rating level, and the Bank’s reliance on wholesale funding. Any upward pressure would require a substantial reduction in the level of wholesale funding, whilst maintaining low levels of credit losses, solid and predictable earnings and continued sound capital management.

Downward pressure on the ratings would be likely if the proportion of wholesale funding, especially short-term wholesale funding, were to increase, or if the Bank’s asset quality were to deteriorate substantially.

Notes:
All figures are in AUD unless otherwise noted.

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

The sources of information used for this rating include company documents, the Reserve Bank of Australia, the Australian Prudential Regulation Authority, Reserve Bank of New Zealand and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

This is an unsolicited rating. This credit rating was not initiated at the request of the issuer.

This rating included participation by the rated entity or any related third party. DBRS had no access to relevant internal documents for the rated entity or a related third party.

DBRS does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

Generally, the conditions that lead to the assignment of a Negative or Positive Trend are resolved within a twelve month period. DBRS’s outlooks and ratings are under regular surveillance

For further information on DBRS historical default rates published by the European Securities and Markets Authority (“ESMA”) in a central repository, see:
http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Ratings assigned by DBRS Ratings Limited are subject to EU regulations only.

Lead Analyst: Ross Abercromby, Senior Vice President - Global FIG
Rating Committee Chair: Roger Lister, Managing Director, Chief Credit Officer - Global FIG and Sovereign Ratings
Initial Rating Date: January 24, 2005
Most Recent Rating Update: December 17, 2015

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