Morningstar DBRS Upgrades Kutxabank’s LT Issuer Rating to A, Trend Revised to Stable

DBRS Ratings GmbH (Morningstar DBRS) upgraded the Long-Term Issuer Rating of Kutxabank S.A. (Kutxabank, the Bank or the Group) and Cajasur Banco, S.A (Cajasur) to A from A (Low) and Kutxabank’s Senior Non-Preferred Debt credit rating to A (low) from BBB (high). The trend on all long-term credit ratings has been revised to Stable from Positive. Morningstar DBRS has also confirmed the Short-Term credit ratings on Kutxabank and Cajasur at R-1 (low) with Stable trend. Kutxabank’s Intrinsic Assessment (IA) is A and the Support Assessment is SA3. Cajasur’s Support Assessment is SA1. See the full list of credit ratings in the table at the bottom of this press release.

KEY CREDIT RATING CONSIDERATIONS

The upgrade of Kutxabank’s Long-Term credit ratings reflects the Bank’s improved profitability on the back of higher interest rates and low deposit beta as well as high efficiency levels and low cost of risk. Morningstar DBRS expects that this improvement should be sustained going forward as a large share of Kutxabank’s portfolio is still set to reprice at higher interest rates and the Bank’s total provisions should remain contained. The credit rating action also takes into account Kutxabank’s strong asset quality metrics underpinned by a significant reduction in Non-Performing Assets (NPAs) in recent years, strong coverage ratios as well as a low credit risk profile stemming from a large share of retail mortgages.

The upgrade of Kutxabank’s Long-Term credit ratings also considers Kutxabank’s robust capital position, with ample capital cushions over total minimum regulatory requirements, as well as a strong retail franchise in the Basque Country, which is one of the wealthiest provinces of Spain, which provides the Bank with a large and resilient customer deposit base.

CREDIT RATING DRIVERS

A credit ratings upgrade is unlikely in the short-to-medium term given the recent upgrade. However, it would also require an upgrade of the Kingdom of Spain’s credit rating coupled with a sustained larger improvement in profitability and asset quality metrics.

A credit ratings downgrade would be driven by a sustained weakening in profitability or if asset quality metrics or capital ratios materially deteriorate.

Cajasur’s credit ratings are equalised with the credit ratings of Kutxabank. As a result, any positive or negative pressure on Kutxabank’s credit ratings would be mirrored in Cajasur’s credit ratings.

CREDIT RATING RATIONALE

Franchise Combined Building Block (BB) Assessment: Good/Moderate
Kutxabank is the 8th largest bank in Spain by total assets, mainly concentrated in the Basque Country and Cordoba (Andalusia), where it has a leading franchise with robust loan and deposits market share of c. 29% and 35% respectively as well as a 48% market share in pension plans management in the Basque Country at end-June 2023. Nationwide, the Bank’s market share for loans and deposits are more modest at 3.9% and 3.3% respectively but the Bank enjoys a larger market share for investment fund management services of 7.5%.

Earnings Combined Building Block (BB) Assessment: Good/Moderate
Kutxabank’s profitability has significantly improved as a result of a higher net interest margin (NIM) reflecting the impact of higher interest rates on its loan book and a very low beta in customer deposits, which are Kutxabank’s main source of funding. The Bank reported a net profit of EUR 251 million in H1 2023, up 59% YoY, mainly driven by the large increase in net interest income (NII), higher dividend income and well contained cost of risk. Kutxabank’s Return on Equity (ROE), as calculated by Morningstar DBRS, was 8.0% in H1 2023 versus 5.0% in H1 2022 and 5.3% in 2022.

The Bank’s efficiency ratio improved to 39% in H1 2023, down from 48% in 2022, largely benefitting from the growth of revenues which offset higher operating expenses driven by higher inflation and IT investments to increase the Group’s digitalization. Net cost of risk remained well controlled at 11 basis points (bps) in H1 2023 while the Bank increased its provisions on foreclosed assets by EUR 77 million (up 25.8% YoY) in an effort to further reduce its legacy real estate assets.

Risk Combined Building Block (BB) Assessment: Strong/Good
Kutxabank’s risk profile is strong and is supported by a large proportion of mortgage loans, generally less risky, sound risk management practices, solid asset quality metrics and robust coverage ratios. The Bank’s Stage 3 loans grew by 1.6% in H1 2023 to EUR 672 million and Stage 2 loans increased by 16.1% since end-2022, reflecting the negative impact of higher interest rates and inflation on the Bank’s loan book. Nevertheless, Kutxabank’s Stage 3 and Stage 2 ratios remained solid at 1.4% and 5.1% respectively at end-June 2023, well below the average for European Significant Institutions of 1.8% and 9.2% respectively according to the ECB.

Kutxabank holds legacy Foreclosed Assets (FAs) with a net exposure of c. EUR 358 million at end-June 2023, down 19% since end-2022, which resulted in a total gross Non-Performing Assets (NPA) ratio of 3.6% and Morningstar DBRS recognizes the effort the Bank has done over the years to notably reduce its NPAs (net NPA down by 83% since end-2017) and considers the Bank’s NPA portfolio to be strongly provisioned, with a total coverage ratio of 79% at end-June 2023, resulting in a net NPA ratio of 0.7% at end-June 2023.

Funding and Liquidity Combined Building Block (BB) Assessment: Good
Kutxabank's funding profile is solid supported by a sticky and growing customer deposit base, as the Bank has consistently grown its customer deposits since 2017, to account for 90% of its total non-equity funding at end-H1 2023. Kutxabank’s net loan-to-deposit (LTD) ratio remained adequate at 96% at end-H1 2023, compared to 95% at end-2022.

The Bank has recurrent access to the wholesale markets both for long term and short term funding. In H1 2023, Kutxabank issued EUR 500 million Senior Preferred debt and EUR 500 million Green Senior Non-Preferred debt to comply with MREL requirements, set at 20.1% for 2024, while the Bank’s MREL ratio stood at 22.6% at end-June 2023. Kutxabank’s regulatory funding and liquidity ratios remained solid at end-June 2023 with a reported liquidity coverage ratio (LCR) of 142% and a net stable funding ratio (NSFR) of 138%.

Capitalisation Combined Building Block (BB) Assessment: Strong/Good
Kutxabank's capital position is robust, with very large capital buffers over minimum regulatory requirements and of high quality as total capitalization is made of Common Equity Tier 1 (CET1) capital. In addition, the Bank has demonstrated stable and recurrent organic capital generation through the years. The Bank reported a transitional total capital ratio of 17.7% at end-June 2023, up 5 bps compared to end-2022, which translated into a capital cushion of 596 bps over its total minimum requirement ratio. Due to the nature of the Bank’s ownership structure, Morningstar DBRS does not foresee a material reduction in the Bank’s capital position in the medium term. In addition, Morningstar DBRS considers the Reserve Fund provided by BBK as an additional capital cushion to cope with severe financial difficulties.

Further details on the Scorecard Indicators and Building Block Assessments can be found at https://dbrs.morningstar.com/research/426902.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS

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

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS 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 EUR unless otherwise noted.

The principal methodology is the Global Methodology for Rating Banks and Banking Organisations https://www.dbrsmorningstar.com/research/415978/global-methodology-for-rating-banks-and-banking-organisations (22 June 2023). In addition Morningstar DBRS 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, Kutxabank’s 2021 and 2022 Annual Reports, Kutxabank’s H1 2022, H1 2023, 9M 2023 and 9M 2022 Interim Reports, Kutxabank’s 2022, H1 2023 and 9M 2023 Presentations, and Kutxabank’s Company Announcements. Morningstar DBRS considers the information available to it for the purposes of providing this credit rating to be of satisfactory quality.

Morningstar DBRS 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. Morningstar DBRS's outlooks and credit ratings are under regular surveillance.

For further information on Morningstar DBRS 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 Morningstar DBRS 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://dbrs.morningstar.com/research/426901.

This credit rating is endorsed by DBRS Ratings Limited for use in the United Kingdom.

Lead Analyst: María Jesús Parra Chiclano, Vice President, Credit Ratings - European Financial Institution Ratings
Rating Committee Chair: Elisabeth Rudman – Managing Director, Credit Ratings - Global Fundamental Ratings
Initial Rating Date: January 20, 2023
Last Rating Date: January 20, 2023

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