Morningstar DBRS Upgrades Instituto de Crédito Oficial's Long-Term Credit Ratings to A (high), Trend Changed to Stable

DBRS Ratings GmbH (Morningstar DBRS) upgraded the credit ratings on Instituto de Crédito Oficial (ICO or the Bank), including the Long-Term Issuer Rating to A (high) and the Short-Term Issuer Rating to R-1 (middle). The trends on all credit ratings were revised to Stable from Positive. ICO's Support Assessment remains at SA1. See a full list of credit ratings at the end of this press release.

KEY CREDIT RATING CONSIDERATIONS
The upgrade of ICO's Long-Term Issuer Rating to A (high) and the change of Trend to Stable follows Morningstar DBRS's upgrade of the Kingdom of Spain's Long-Term Foreign and Local Currency rating to A (high) and the change in trend to Stable from Positive on November 29, 2024.

ICO's credit ratings are consistent with the statutory ownership and the full guarantee of its liabilities by the Kingdom of Spain as stated in its bylaws under the Royal Decree Act 706/1999. As a result, Morningstar DBRS' support assessment for ICO is SA1 and ICO's Issuer Ratings and trends are the same as the Long-Term and Short-Term Foreign and Local Currency credit ratings on the Kingdom of Spain and will move in line with the Spanish sovereign's credit ratings.

CREDIT RATING DRIVERS
ICO's credit ratings and trends move in line with the Kingdom of Spain's credit ratings. An upgrade of the Kingdom of Spain's credit ratings would lead to an upgrade of ICO's credit ratings.

Similarly, a downgrade of the Kingdom of Spain's credit ratings would lead to a downgrade of ICO's credit ratings. In addition, a weakening of the guarantee provided by the Kingdom of Spain would also lead to a downgrade of ICO's credit ratings.

CREDIT RATING RATIONALE
Franchise Combined Building Block Assessment
ICO is a credit institution by law and is considered to be a State Financial Agency in Spain. As a public, specialised lending institution and the state's financial agency, ICO enjoys a unique and dominant franchise in Spain, which supports its current ratings. However, ICO also has a limited business scope, constrained by its business model and its high dependence on the Spanish government. The Bank's role is to support and develop economic activities contributing to the growth of the Spanish economy and to contribute to the mitigation of the economic effects of serious economic recessions.

Earnings Combined Building Block Assessment
In carrying out its public service mandate, ICO's goal is not to maximise profits, but the Bank has never reported a loss in its history. Nevertheless, given its countercyclical nature, profits have shown volatility over time. The Bank reported a net profit of EUR 252 million in FY2023, up 72% year over year (YOY), mainly as a result of the higher interest rate environment as well as the larger loan book. As a result, ICO's return on equity (as calculated by Morningstar DBRS) rose to 4.4% in 2023 from 2.7% in 2022. ICO has a low-cost base largely because it has no branch network and most of its processes and due diligence are outsourced to intermediary banks. The Bank reported an efficiency ratio of 14% at the end of 2023, improved from 22% in 2022.

Risk Combined Building Block Assessment
Morningstar DBRS views ICO's risk appetite as generally conservative because of the nature of its activities. However, ICO's high single-name concentrations negatively affects its credit profile. The Bank's lending is carried out through two different channels. The first channel is direct lending, which typically consists of providing syndicated loans to large companies or structured finance projects, either public or private. The second channel is indirect lending, in which the Bank operates through credit lines to commercial banks that, in turn, lend the funds to small and medium-size enterprises (SMEs)/entrepreneurs. Indirect lending results in ICO having counterparty credit risk to the participating banks while the latter generally bear the final borrower's credit risk. At the end of 2023, ICO's gross loan book to customers mostly comprised direct lending, which totalled EUR 13.2 billion and represented 66% of total lending to customers, followed by indirect lending, which totalled EUR 6.8 billion.

Direct loans are the only driver of the Bank's nonperforming loan (NPL) ratio. NPLs rose by 44% YOY to EUR 540 million at the end of 2023, although 88% of those were not in arrears. In addition, ICO has substantial loan-loss reserves built up during the global financial crisis and the euro-area sovereign crisis; as such, the Bank's net NPL (as calculated by DBRS Morningstar) was -0.9% at the end of 2023.

Funding and Liquidity Combined Building Block Assessment
ICO's funding structure relies on wholesale funding and funding from multilateral development banks, mainly the European Investment Bank, and access to one or the other depends on market conditions. The Bank has not experienced any notable difficulties in tapping the markets since its creation and has been able to do so on a regular basis even during the financial crisis and the COVID-19 crisis. Issued debt represented around 72% of total non-equity funding at the end of 2023, up from 62% in 2022, because of the repayment of the TLTRO funds in 2023. In addition, ICO reported a comfortable liquidity position with EUR 7.3 billion of liquid assets at the end of 2023, a liquidity coverage ratio of 741%, and a net stable funding ratio of 112%.

Capitalisation Combined Building Block Assessment
ICO reported a robust Common Equity Tier 1 capital ratio as robust of 26.6% at the end of 2023. However, the CET1 capital ratio declined by 713 basis points (bps) YOY mainly because of a significant increase in risk-weighted assets driven by an increase in venture capital investments, corporate bonds and loan exposures. Nevertheless, ICO's total capital buffer over minimum regulatory requirements remained very strong at 1,140 bps at the end of 2023.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS
Credit rating actions on the Kingdom of Spain would have an impact on this credit rating. Consequently, passed-through Social credit considerations affect ICO's credit ratings, as the Human Capital and Human Rights factor affects the Kingdom of Spain's credit ratings. ESG factors that have a significant or relevant effect on the credit analysis of the Kingdom of Spain are discussed separately at https://dbrs.morningstar.com/issuers/15664.

There were no Environmental 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 Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Factors in Credit Ratings (13 August 2024) at https://dbrs.morningstar.com/research/437781.

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 Factors in Credit Ratings, https://dbrs.morningstar.com/research/437781, in its consideration of ESG factors.

The following methodologies have also been applied:
-- Morningstar DBRS Global Corporate Criteria (15 April 2024), https://dbrs.morningstar.com/research/431186

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 this credit rating include Morningstar Inc. as well as company documents and information and ICO Annual Accounts (2019-2023). 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' 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://www.dbrsmorningstar.com/research/444176.

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: Marcos Alvarez, Managing Director - Global Financial Institution Ratings
Initial Rating Date: 25 February 2013
Last Rating Date: 10 September 2024

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