PRESS RELEASE

Moody's: Banco de Costa Rica downgraded on board allegations

By
Thursday, November 9, 2017

Press Release from Moody's Investors Service. Report also available here.

November 08, 2017 -- Moody's Investors Service, ("Moody's") has today downgraded to b1 from ba3 the standalone baseline credit assessment (BCA) and adjusted BCA of state-owned Banco de Costa Rica (BCR). At the same time, the rating agency affirmed the bank's long-term local currency deposit and foreign currency senior unsecured debt ratings of Ba2, as well as the long-term foreign currency deposit rating of Ba3. The outlook on all ratings remains negative.

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Further, Moody's affirmed BCR's long-term and short-term counterparty risk (CR) assessments of Ba2(cr) and Not Prime(cr), along with the bank's short-term local and foreign currency deposit ratings of Not Prime.

The following assessments were downgraded:

Banco de Costa Rica:

Baseline credit assessment, to b1 from ba3

Adjusted baseline credit assessment, to b1 from ba3

The following assessments were affirmed:

Banco de Costa Rica:

Long-term and short term counterparty risk assessment of Ba2(cr)/Not Prime(cr)

The following ratings were affirmed:

Banco de Costa Rica:

Long term local currency deposit rating of Ba2, negative outlook maintained

Long term foreign currency deposit rating of Ba3, negative outlook maintained

Short term local and foreign currency deposit ratings of Not Prime

Foreign currency senior unsecured debt rating of Ba2, negative outlook maintained

Outlook actions:

Outlook, remains negative

RATINGS RATIONALE

Moody's said that the downgrade of BCR's standalone BCA to b1 from ba3 reflects deepening corporate governance concerns following the arrests of the bank's former Chief Executive Officer (CEO), of its acting CEO and of members of the credit committee, on 3 November. The arrests relate to allegations of improper terms and conditions of certain loans extended by BCR. On 6 November, BCR announced the appointment of the bank's general counsel as the new interim CEO.

Moody's believes these arrests heighten BCR's prior corporate governance weaknesses and will impair the bank's ability to generate new business. BCR's deposits and senior obligations carry an explicit sovereign guarantee, which protects the bank's funding from short-term refinancing risks in times of stress. However, potential further legacy governance shortcomings until the bank's new management is well established in office may lead to a greater internal difficulty to generate new businesses.

Loan growth will remain further restrained as the newly appointed interim management focuses on strengthening corporate governance rather than growing the portfolio. Hence, BCR's already modest profitability may weaken further. During the first nine months of 2017, BCR's consolidated return on assets stood at just 0.7%, well below the 1.3% Latin American average.

The heightened reputational risks for BCR coincide with a declining overall risk appetite by international banks regarding their credit exposures to Central America over the past years. Therefore, BCR may face greater repricing risks when refinancing its external liabilities, largely composed of bank loans and a global senior bond maturing in August 2018.

In addition, asset risks at BCR may increase as investigations unfold. In fact, Costa Rica's Superintendency of Financial Institutions (SUGEF) has already required BCR to revisit the internal classifications of specific credit exposures, which would further erode earnings generation. As of September 2017, BCR's nonperforming loans stood at just 2.1% of gross loans, but sudden increases in delinquencies may be possible.

The aforementioned arrests follow the request from Costa Rica's President Mr. Luis Guillermo Solis for resignation of BCR's entire Board of Directors on 26 September 2017, after which Moody's downgraded the bank's BCA to ba3 from ba2.

Banco de Costa Rica's Ba2 local currency deposit and foreign currency debt ratings were affirmed notwithstanding the downgrade of the BCA due to Moody's expectation of full support from the government to the bank. This assessment is based on the government's 100% ownership of the bank, its guarantee of senior obligations under Article 4 of the Banking Law, as well as BCR's important public policy mandate, and the importance of its deposit and loan franchise in Costa Rica. Hence, the local currency deposit and foreign currency debt ratings now benefit from two notches of uplift from the b1 BCA. The Ba3 foreign currency deposit rating remains constrained by Costa Rica's sovereign ceiling for foreign currency deposits.

The negative outlook on the bank's ratings is in line with the negative outlook on Costa Rica's Ba2 sovereign debt rating.

WHAT COULD CAUSE THE RATINGS TO MOVE UP OR DOWN

The bank's debt and deposit ratings would likely be downgraded if Costa Rica's sovereign ratings are downgraded. The BCA would face further downward pressure if the bank's asset quality, funding or liquidity deteriorate materially. The BCA could also be downgraded if severe additional shortcomings in corporate governance, risk management and control frameworks are disclosed. However, a change in the BCA would not in and of itself affect the bank's deposit and debt ratings.

Upward pressures on BCR's ratings are limited given the negative outlook on the bank and on the sovereign ratings of the Government of Costa Rica. However, the outlook on the bank's ratings could stabilize if and when the sovereign outlook stabilizes. Further, the BCA may face upward pressures upon the instatement of a permanent management team, and clarity on the quality of the bank's loan portfolio.