OREANDA-NEWS. Fitch Ratings has concluded its review of four small and medium-sized Brazilian banks: Banco Industrial do Brasil S.A. (BIB), Banco Triangulo S.A. (Tribanco), Banco Fibra S.A. (Fibra, and Banco Indusval S.A. (BI&P). A complete list of the rating actions can be found at the end of this press release.

Fitch upgraded the Long-Term (LT) National ratings of BIB to 'A(bra)' from 'A-(bra)', Stable Outlook, and its Short-Term National rating to 'F1(bra)' from 'F2(bra)'. It also upgraded the LT National rating of Tribanco to 'A-(bra)' from 'BBB+ (bra)', Stable Outlook. At the same time, the agency affirmed all the ratings of BI&P and Fibra.

The small and medium-sized Brazilian banks reviewed are institutions with total assets that range from BRL1 billion to BRL10 billion. These banks have different characteristics:

BIB has a long-term well-defined strategy with a focus on lending to small and medium-sized enterprises (SMEs); --Tribanco has concentrated its strategic goals on leveraging the client relationship built under Martins Group's (a related company) client network,

Fibra and BI&P are implementing a turnaround in their strategies, aiming to revamp their profitability and strengthen their franchises after erratic performances over the last periods.

All of these banks have relevant concentration on the liabilities side, which is compensated by adequate asset liability management (ALM) practices, as they show sound gap management and good liquidity.

The banks' asset quality deteriorated slightly from 2011 on. Despite the unfavorable scenario, Tribanco's credit profile began to improve as the institution gradually reduced its operations with customers that are not part of the distribution chain of the Martins Group, to which it belongs.

Fibra's retail portfolio experienced rapid growth in 2010, which was followed by a deterioration in its asset quality beginning in 2011. As a result, the bank virtually closed down its retail operation, and provisioning expenses are expected to decline over time. Fitch believes that the loan loss reserves for the existing stock of loans will remain at a high level and have some impact on the bank's results in 2013 and 2014.

At BI&P, the deterioration in asset quality led to a boost in loan loss provisioning expenses to BRL106 million in 2011 and BRL133.4 million at 1H'13. Some strategic adjustments such as a stronger focus on larger-size companies and capital injections will continue to contribute to improve results and the cost structure, and the bank will continue to direct operations to larger size companies. Non-performing loans (NPL) over 90 days showed slight growth at 1H'13, due to portfolio adjustments, totaling 3.2% for small and medium-sized enterprises (SMEs) (2.8% at FYE12) and only 0.5% for Upper middle and low corporate companies (0% at FYE12).

BIB stands out within this group, maintaining good asset quality despite a strong loan portfolio expansion of 81.5% from December 2009 to December 2012. Stability in the ratio of loans past due more than 90 days (0.8% at FYE12, 1.5% at FYE11, and a 0.7% in 2010) reflects the bank's conservative appetite for credit risk.

The performance of this group has been tested since 2012, when the lower levels of economic activity, the significant decline in average interest rates and the maturing of loan expansions in the past two years resulted in greater credit costs and tighter margins. The banks included in this group have more volatile franchises and a slightly higher risk profile due to characteristics that include their small size, funding concentrated in deposits that have higher funding costs, and narrower profitability, which requires well-defined strategies and prudence in credit risk management in order to preserve and enhance their risk profile.

Lending is the main source of revenue for these banks, although all seek to increase fee income and cross-selling initiatives, since their size does not enable building a portfolio focused on some other segment as a source of diversification. This is a common strategy for medium-sized Brazilian banks classified in higher rating categories that are close to investment grade. Fitch believes that it will take some time for such revenues to become relevant, but considers the trend positive, given an environment of still relatively lower interest rates. On average, non-interest revenue represents less than 10% of the total revenue of this group of peers, compared with the 38% in non-interest revenue generated by the universe of large banks analyzed by the agency.

Fitch believes that these banks, as well as most of the Brazilian financial system, will continue facing challenges in 2014 compared with larger sized institutions (which have greater revenue diversification), given the current interest rate environment, with reduced spreads due to the high cost of credit. In 2012 and 1H'13, two of these banks (Fibra and BI&P) reported negative earnings as a result of adjustments in their business models and their departure from markets in which they were not competitive. BIB and Tribanco reported a return on average assets (ROAA) of 1.5% at FYE12 (1.6% at FYE11), comparing favorably with the market average and other banks with similar ratings throughout the world.

Over the last years, all these banks have presented improvements that include better diversification in their funding sources, extending average funding maturities, and greater control of refinancing risk and sound liquidity management resulting in an overall improved ALM. The reduction in the portion of deposits with immediate redemption clauses was another factor that assisted in extending average funding maturities and increasing the balance sheet liquidity of this group of banks.

The banks reviewed, including those with less leveraged balance sheets, have comfortable capital ratios (the average Fitch core capital ratio of the group was 14.50% at 1H'13, 14.1% at FYE12 and 15.2% at FYE11). The agency expects that capitalization will not be a limiting factor for growth or generating profits in any of these banks. Fibra tends to show less favorable capitalization (the Fitch core capital ratio was 8.61% at 1H'13, 8.54 percent at FYE12 and 7.53% at FYE11), which is explained by its losses in recent years, despite the capital injected by shareholders of about BRL608 million since 2010. The Central Bank of Brazil recently revised capitalization guidelines based on Basel III outlines, which, in the medium term, will help improve the capital base of Brazilian banks, especially through replacing old Tier II securities with new issues that have a greater capital content. Considering the current capital ratios and regulatory capital breakdown for the banks included in this review, these new rules will not necessarily lead to significant changes in capital position, except for Fibra, where some room for improvement is expected.