DBRS Morningstar Confirms National Australia Bank’s LT Issuer Rating at AA, Stable Trend

DBRS Ratings Limited (DBRS Morningstar) confirmed the credit ratings of National Australia Bank Limited (NAB or the Bank), including the Long-Term Issuer Rating at AA and the Short-Term Issuer Rating at R-1 (high). The trend on all credit ratings is Stable. The Intrinsic Assessment (IA) of the Bank is AA (low) and the Support Assessment is SA2, which reflects the generally supportive regulatory framework and DBRS Morningstar’s expectation of timely systemic support, given NAB’s importance to the financial system in Australia. This results in a one notch uplift to the Issuer Rating from the IA. See a full list of credit ratings at the end of this press release.

KEY CREDIT RATING CONSIDERATIONS

The confirmation of NAB’s credit ratings take into account the strength of its banking franchise in Australia and New Zealand, where it has meaningful market shares for business and housing loans, its sound customer deposit base and strong capitalization. The ratings also consider that Group has a solid earnings ability that has benefitted from the higher interest rate environment and robust asset quality despite an increase in impaired loans from very low levels. The credit ratings, however, also take into account that NAB, similar to domestic peers, has a significant reliance on wholesale funding.

CREDIT RATING DRIVERS

An upgrade of the credit ratings would require a sustained improvement in profitability and a reduction of usage of wholesale funding whilst maintaining sound asset quality and capital.

A downgrade of the credit ratings could be driven by prolonged weakening of profitability and asset quality as well as significant additional operational risk issues. Furthermore, a downgrade of the long-term ratings would occur if, in DBRS Morningstar’s opinion, the likelihood of timely systemic support were reduced.

CREDIT RATING RATIONALE

Franchise Combined Building Block (BB) Assessment: Very Strong/ Strong
NAB is one of the four largest Australian banks and is the leading business lending bank in Australia and New Zealand where it has a top tier business lending market share of around 22%. In addition the Group has significant market shares for housing loans in Australia of 15% and 16% in New Zealand.

Earnings Combined Building Block (BB) Assessment: Strong/Good
NAB’s profitability has improved in recent years and more recently the Group’s revenues has benefitted from the higher interest rate environment. On statutory basis, NAB’s net profit attributable to owners was AUD 7,414 million, up 7.6% year-on-year (YOY) from AUD 6,891 million, and largely supported by higher net interest income (NII) amid the higher interest rate environment which offset higher operating expenses largely driven by wage inflation, and higher, albeit still low, loan loss provisions driven by a slight deterioration in asset quality. The Group reported a statutory return on equity (ROE) of 12.3% in FY23, up from 11.3% in FY22 and 10.4% in FY21. NII increased 13.3% YoY to AUD 16,807 million in FY23 [p. 160 FY23 Annual report], mainly supported by volume and margin growth. Statutory operating expenses grew 7.8% YOY in FY23 totalling AUD 9,382 million largely reflecting the higher cost of living YOY, further investments in IT and operating costs from the integration of Citi consumer business. The growth in operating revenue led to an improvement of NAB’s cost-income ratio on a statutory basis to 45.4% in FY23, from 46.9% in FY22. The cost of risk was a low 14 bps in FY23, although higher than the year before level of 4 bps.

Risk Combined Building Block (BB) Assessment: Strong
NAB’s credit risk profile as generally conservative. The Group’s asset quality is sound with low levels of impaired loans which have benefitted from the benign economic environment in its home markets of Australia and New Zealand. However, some signs of deterioration are beginning to emerge due to the high interest rate environment and the impact of high inflation. Stage 3 loans grew 25% YOY to AUD 7,636 million at end-FY23, largely driven by asset quality deterioration in mortgage and business loans in Australia although they still represent 1.08% of total gross loans at end-FY23 and which is slightly below the 1.12% level at end-FY21 and pre-pandemic levels. Stage 2 loans, which are loans that are performing but where there has been an increase in credit risk represented 24% of total gross loans at end-FY23, which is slightly higher compared to its domestic peers, and relates to NAB’s larger proportion of business loans, which tend to be more credit sensitive than mortgages in a more challenging economic environment. The commercial real estate (CRE) portfolio amounted to AUD 70.4 billion at end-FY23 or 10% of total gross loans and continues to perform well, with a gross impaired ratio (incl. 90+ DPD) of 0.37% of total gross loans at end-FY23, although slightly weaker than the 0.22% at end-FY22.

Funding and Liquidity Combined Building Block (BB) Assessment: Strong/ Good
NAB’s funding and liquidity is sound and supported by an improved funding mix driven by growth in customer deposits in its home markets over recent years. Customer deposits including certificates of deposits (CDs), totalled AUD 644.2 billion at end-FY23, and were up 4% YoY, largely driven by deposit growth in Australia. The Group has rebalanced its funding mix by growing deposits in recent years, and the Group’s net loan-to-deposit (LTD) ratio, as calculated by DBRS Morningstar and including CDs, improved to 109% at end-FY23. However, the total proportion of wholesale funding to total non-equity funding, although improved, remains at 26% of total non-equity funding at end-FY23 (33% at end-FY19). NAB has a strong liquidity position with the Group's quarterly average Liquidity Coverage Ratio (LCR) of 140% and a Net Stable Funding Ratio (NSFR) ratio of 116% at end-FY23.

Capitalisation Combined Building Block (BB) Assessment: Strong
NAB’s capital position is strong, supported by solid and improving earnings generation, supported by the higher interest rate environment. At end-FY23, NAB reported an APRA Common Equity Tier 1 (CET1) ratio of 12.2% at end-FY23, up 71 bps from 11.5% at end-FY22 but lower than 13.0% at end-FY21 [p.4 FY23 full results]. The CET1 improvement in FY23 was driven by higher retained earnings (62 bps) and the positive impact of the finalisation of APRA's revised capital framework (47 bps). The CET1 ratio remains comfortably above the APRA’s minimum requirement of 10.25%. The leverage ratio, calculated on an APRA basis as Tier 1 Capital as a percentage of total exposure, was solid at 5.2% at end-FY23.

Further details on the Scorecard Indicators and Building Block Assessments can be found at https://www.dbrsmorningstar.com/research/424264.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS

Governance (G) Factors

The subfactor ‘corporate governance’ remains relevant to the rating of NAB but does not affect the overall rating or trend assigned to the bank and this is reflected in the Risk grid building block. DBRS Morningstar considers that NAB is making progress in strengthening its operational risk framework after significant weaknesses were identified in the 2018 and further in April 2022 when some weaknesses were identified in relation to compliance with anti-money laundering and counter-terrorism financing (AML/CTF) procedures. NAB continues to work on implementing the remediation plan agreed with AUSTRAC, although the capital add-on of AUD 500 million remains in place. DBRS Morningstar expects the capital add-on to remain in place until APRA is satisfied with NAB’s improvement in its operational risk framework.

There were no Environmental or Social factors that had a significant or relevant effect on the credit analysis.

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 (4 July 2023) https://www.dbrsmorningstar.com/research/416784/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings.

Notes:

All figures are in AUD unless otherwise noted.

The principal methodology is the Global Methodology for Ratings Banks and Banking Organisations (22 June 2023) https://www.dbrsmorningstar.com/research/415978/global-methodology-for-rating-banks-and-banking-organisations. In addition DBRS Morningstar uses the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings https://www.dbrsmorningstar.com/research/416784/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings in its consideration of ESG factors.

The credit rating methodologies used in the analysis of this transaction can be found at: https://www.dbrsmorningstar.com/about/methodologies.

The sources of information used for this credit rating include Morningstar Inc. and Company Documents, National Australia Bank (NAB) Annual Report 2023, NAB FY2023 Investor Presentation, NAB FY2023 Management discussion and analysis, NAB Climate Report 2023. DBRS Morningstar considers the information available to it for the purposes of providing this credit rating to be of satisfactory quality.

With respect to FCA and ESMA regulations in the United Kingdom and European Union, respectively, this is an unsolicited credit rating. This credit rating was not initiated at the request of the issuer.

With Rated Entity or Related Third-Party Participation: YES
With Access to Internal Documents: NO
With Access to Management: NO

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

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. DBRS Morningstar's outlooks and credit ratings are under regular surveillance.

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://registers.esma.europa.eu/cerep-publication. For further information on DBRS Morningstar historical default rates published by the Financial Conduct Authority (FCA) in a central repository, see https://data.fca.org.uk/#/ceres/craStats.

The sensitivity analysis of the relevant key credit rating assumptions can be found at: https://www.dbrsmorningstar.com/research/424266

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

Lead Analyst: Maria Rivas, Senior Vice President, Global FIG
Rating Committee Chair: William Schwartz, Senior Vice President, Credit Practices
Initial Rating Date: 24 January 2005
Last Rating Date: 28 November 2022

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