DBRS Morningstar Confirms Bank of China (Canada) at A (low), Negative Trend

DBRS Limited (DBRS Morningstar) confirmed the ratings on Bank of China (Canada) (BOCC or the Bank), including BOCC’s Long-Term Issuer Rating at A (low) with a Negative trend and the Short-Term Issuer Rating at R-1 (low) with a Stable trend. The Support Assessment (SA) for BOCC is SA1, reflecting DBRS Morningstar’s expectation of timely support from its parent, Bank of China (BOC or the Parent).

KEY RATING CONSIDERATIONS
BOC is a Global Systemically Important Bank (G-SIB), which is 68% owned by the People’s Republic of China (PRC; rated A (high) with a Negative trend by DBRS Morningstar). The two-notch rating differential between BOCC and the PRC includes one notch for the PRC’s less than 100% ownership of BOC, 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 on 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 Chinese corporate and retail clients outside of the PRC. 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.

RATING DRIVERS
Given BOCC’s strategic importance to the Parent, a G-SIB that is 68% owned by the PRC, 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.

RATING RATIONALE
BOCC derives its franchise strength from its position as a financial intermediary facilitating transactional flows between China 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 exhibits a good earnings profile driven by relatively stable sources of revenue, a significant portion of which represents fee-based revenue. Operating efficiency is top tier compared with BOCC’s peers, while the level of provision for credit losses (PCL) remains manageable. Although earnings will come under pressure in the current environment, because of the impact of the Coronavirus Disease (COVID-19) pandemic, the Bank’s earnings should be sufficient to absorb higher levels of PCL. The Bank reported net income of $45.8 million in F2019, which was relatively flat compared with the prior year as BOCC was selective in adding to its risk exposures and prudently grew its balance sheet.

Although BOCC maintains a robust risk management framework and conservative underwriting standards, the Bank's significant exposures to commercial real estate loans and construction loans, collectively accounting for 33% of gross loans at the end of F2019, could result in higher asset impairment and losses given the current economic environment. Furthermore, DBRS Morningstar notes that BOCC’s loan portfolio is relatively untested, and a more comprehensive view of asset quality would be apparent once the loan portfolio ages through an economic cycle. Positively, 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 size Canadian financial institutions.

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 a 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 to be sufficient in light of its largely collateralized loan exposures and the Bank’s robust capacity to generate internal equity. 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.

ESG CONSIDERATIONS

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The principal methodology is the Global Methodology for Rating Banks and Banking Organisations (June 8, 2020) https://www.dbrsmorningstar.com/research/362170/global-methodology-for-rating-banks-and-banking-organisations.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

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.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com.

DBRS Limited
DBRS Tower, 181 University Avenue, Suite 700
Toronto, ON M5H 3M7 Canada
Tel. +1 416 593-5577