Morningstar DBRS Changes Trends on Abanca's Long-Term Credit Ratings to Positive from Stable; Confirms All Ratings

DBRS Ratings GmbH (Morningstar DBRS) confirmed its credit ratings on Abanca Corporación Bancaria S.A. (Abanca or the Bank), including the Long-Term Issuer Rating of BBB (high) and the Short-Term Issuer Rating of R-1 (low). The trends on the long-term credit ratings have been revised to Positive from Stable. The trends on the short-term credit ratings remain Stable. The Bank's Intrinsic Assessment is BBB (high) and the Support Assessment is SA3. See the full list of credit ratings in the table at the end of this press release.

KEY CREDIT RATING CONSIDERATIONS
The changes to the trends to Positive from Stable reflect Morningstar DBRS' view that the Bank is well positioned to sustain its improved profitability on the back of higher-for-longer interest rates, contained operating costs, materialization of costs synergies, and well-controlled cost of risk. Morningstar DBRS expects the acquisition of Banco BIC Português, S.A. (EuroBic) to have manageable integration and execution risks, supported by the existing presence of Abanca in Portugal and its long-track record of bank integrations in recent years.

In addition, the Positive trend also considers the Bank's conservative risk profile, sound asset quality, and robust coverage ratios, supported by significantly reduced net foreclosed assets and robust net nonperforming loans (NPL), despite the recent acquisitions and some deterioration in NPLs because of the tougher financing conditions for borrowers driven by the higher interest rate environment and stubborn inflation.

Abanca's credit ratings also take into account its leading regional franchise in its home market of Galicia, Spain, which has been reinforced in recent years through several acquisitions that have expanded its geographic footprint in both Spain and Portugal; the Bank's solid funding and liquidity profile, underpinned by a large and resilient customer deposit base; robust liquidity position; and its sound capital position with ample capital buffers over minimum regulatory requirements.

CREDIT RATING DRIVERS
An upgrade of Abanca's long-term credit ratings would be driven by a sustained improvement in profitability while maintaining a conservative risk profile with strong asset quality metrics and solid capitalization whilst successfully completing the integration of EuroBic.

Morningstar DBRS would change the trend to Stable if Abanca is unable to largely sustain the recent improvement in profitability over the next quarters and/or its gross NPLs continue to significantly grow. A downgrade of Abanca's Long-Term Issuer Rating would likely be driven by a material weakening in profitability and/or asset quality metrics that could materially affect its capital position. Any major integration issues from acquisitions would also lead to a downgrade.

CREDIT RATING RATIONALE
Franchise Combined Building Block (BB) Assessment: Good/Moderate
Abanca is a medium-size Spanish retail bank that had EUR 75 billion of total assets at year-end 2023, ranking as the seventh largest bank in Spain. The Bank's operations are mainly concentrated in Galicia where it has a leading franchise with robust loan and deposit market shares of around 35% and 45% respectively. Abanca has also reinforced its franchise in Spain and Portugal through seven acquisitions since 2017, including Targobank in October 2023, and the announcement of the acquisition of EuroBic in November 2023. The acquisition of EuroBic is pending regulatory approvals, but when completed it would increase Abanca's business in Portugal to represent approximately 14% of total business, up from approximately 5% at year-end2023. Whilst the pace of acquisitions has been high in recent years, Abanca has shown a consistent track record in successfully integrating all acquisitions.

Earnings Combined Building Block (BB) Assessment: Good/Moderate
Abanca's profitability significantly improved year-over-year (YOY) in F2023, benefitting from the higher interest rate environment as the Bank was able to maintain low deposit betas while repricing a substantial part of the loan book. Going forward, Morningstar DBRS expects the Bank to be able to sustain a large part of the improved performance on the back of higher-for-longer interest rates, growing credit volume once interest rates decline benefitting from a resilient domestic economy, a larger business footprint after the integration of Targobank and EuroBic, and lower regulatory levies. Abanca reported a recurrent net profit, excluding acquisition costs and badwill, of EUR 546 million in F2023, up 151% YOY, driven by a large increase in net interest income (NII), which resulted in a Return on Equity (ROE) (as calculated by Morningstar DBRS), of 11.6% in 2023, up from 4.9% in 2022. In Q1 2024, the Bank reported a net profit of EUR 158 million, 1.9 times higher quarter-over-quarter (QOQ) on a recurring basis and up 50% YOY, which translated into a ROE of 16.0% in Q1 2024. Abanca's recurrent efficiency ratio, as calculated by Morningstar DBRS and excluding one-off acquisition costs, was 51% in 2023 and 55% in Q1 2024, down from 67% in 2022. The Bank's net cost of risk, as calculated by Morningstar DBRS, remained well contained at 14 basis points (bps) in 2023 and 11 bps in Q1 2024.

Risk Combined Building Block (BB) Assessment: Strong/Good
Abanca's asset quality profile is solid underpinned by its low exposure to the real estate and construction sectors, good asset quality metrics, and robust coverage ratios. However, Abanca's NPLs have grown since year-end2022, reflecting the toll that higher inflation and higher financing costs have taken on borrowers. NPLs grew 20% since year-end 2022 to EUR 1,133 million at the end of Q1 2024, mostly driven by the incorporation of Targobank's NPLs. The NPL ratio was 2.5% at the end of Q1 2024. Nevertheless, Morningstar DBRS notes that Abanca's coverage ratios are higher than its Spanish and European peers, thus leading to a net NPL ratio of 0.7% at the end of Q1 2024, compared with 1.1% for European peers and 1.6% for Spanish banks at year-end 2023. The Bank's Net Nonperforming Assets (NPA) ratio was also robust at 1.1% at the end of Q1 2024 . In addition, Stage 2 loans, which are exposures whose credit risks have significantly increased, declined 15% since year-end 2022 to the end of Q1 2024, mostly driven by an improvement in the large corporate portfolio, to represent 4.5% of total gross loans at that date.

Funding and Liquidity Combined Building Block (BB) Assessment: Good
Abanca's funding and liquidity profile is strong underpinned by its large and resilient customer deposit base as well as its robust liquidity position. Customer deposits are Abanca's largest source of funding, accounting for 89% of total non-equity funding at end-Q1 2024 followed by deposits with credit institutions. Customer deposits grew 10% YOY in FY23, partly as a result of Targobank's acquisition, and an additional 3% QOQ in Q124. As a result, the Bank's net loan-to-deposit (LTD) ratio, as calculated by Morningstar DBRS and excluding repos, stood at 84% at end-Q124, down from 90% at end-2022. Abanca's access to wholesale markets is adequate, diversified by instruments and mainly related to MREL requirements. The Bank's liquidity profile is robust with ample liquid assets and capacity to issue covered bonds that represent 1.4x of total customer deposits not covered by the Deposit Guarantee Fund and medium-term debt maturities. In addition, Abanca reported a very strong liquidity coverage ratio (LCR) of 218% and a net stable funding ratio (NSFR) of 138% at end-Q1 2024.

Capitalisation Combined Building Block (BB) Assessment: Good/Moderate
Morningstar DBRS views Abanca's capitalization as sound despite the capital consumption resulting from the Bank's recent acquisitions, supported by its improved capacity to generate capital through retained earnings, a conservative risk profile with robust coverage ratios as well as a higher-than-peers' Risk Weighted Assets (RWAs) density. Nevertheless, Morningstar DBRS notes that Abanca is mostly owned by one shareholder which could potentially constrain the Bank's flexibility in accessing equity capital in case of need. The Bank reported a regulatory CET1 capital ratio of 12.54% at end-Q1 2024, 6 bps below the ratio at end-2023 but in line with the ratio at end-2022. The decline was mainly driven by the increase in RWAs and to a lesser extent by a dividend distribution. Nevertheless, the Bank's capital buffer over minimum regulatory requirements remained very strong at 442 bps. Abanca reported a total MREL ratio of 22.7% at end-March 2024, above its 2024 requirement of 21.5%.

Further details on the Scorecard Indicators and Building Block Assessments can be found at https://dbrs.morningstar.com/research/434732.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS

There were no Environmental or Social factors that had a significant or relevant effect on the credit analysis.
There were no Governance factor(s) that had a relevant or significant effect on the credit analysis.

Since the last credit rating action the relevance of the following Governance Factor(s) changed: Corporate/Transaction Governance not viewed as relevant anymore as Morningstar DBRS considers that despite the fact that Abanca is largely owned by one shareholder, who has a controlling stake of around 85% of the capital and who is also the current non-executive chairman of the Board of Directors (BD), the Bank has taken steps to separate ownership from management. Morningstar DBRS considers, Abanca has reinforced over the last years the presence of independent members on the Board, which currently consists of 11 members excluding the chairman, of which nine are independent, one is external and one is executive (the CEO). In addition, the Bank has adopted the Code of Best Market Practices for listed companies and it currently complies with 95% of the Code, while the remaining 5% is partially complied. This compliance is annually audited by an independent auditor. Nevertheless, Morningstar DBRS will continue monitoring the Bank's Corporate Governance to ensure it maintains its current independence.

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (23 January 2024), https://dbrs.morningstar.com/research/427030.

Notes:
All figures are in euros unless otherwise noted.

The principal methodology is the Global Methodology for Rating Banks and Banking Organisations (4 June 2024), https://dbrs.morningstar.com/research/433881/. In addition, Morningstar DBRS uses the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings https://dbrs.morningstar.com/research/427030 in its consideration of ESG factors.

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

The sources of information used for these credit ratings include Morningstar Inc. and company documents, the Q1 2024, 2023, and 2022 quarterly reports and presentations, Abanca's annual reports (2013-2023), European Banking Authority (EBA) and ECB data. Morningstar DBRS considers the information available to it for the purposes of providing these credit ratings 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' 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/434731.

These credit ratings are endorsed by DBRS Ratings Limited for use in the United Kingdom.

Lead Analyst: Maria Jesus Parra, Vice President - European Financial Institution Ratings
Rating Committee Chair: Elisabeth Rudman, Managing Director - Global Financial Institution Ratings
Initial Rating Date: December 10, 2014
Last Rating Date: June 20, 2023

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