OREANDA-NEWS. April 27, 2015. Fitch Ratings has affirmed the ratings on government-owned Land Bank of the Philippines (LBP) and Development Bank of the Philippines (DBP). Their Long-Term Issuer Default Ratings (IDR) and Support Rating Floors (SRFs) have been affirmed at 'BB+' and Viability Ratings at 'bb+'. At the same time, the agency has assigned Short-Term Foreign Currency IDRs of 'B' to the two banks. The Outlooks on both banks are Stable. A full list of rating actions is at the end of this commentary.

KEY RATING DRIVERS - VRs, IDRs and National Ratings

The banks' Long-Term Foreign Currency IDRs and National Ratings are driven by their VRs and SRFs. The banks' VRs reflect their moderate asset quality, including their policy-oriented loan books and high concentration risk, which are typical for policy banks. Nevertheless, the banks exhibit satisfactory capitalisation, funding and earning profiles. The Stable Outlooks on LBP and DBP reflect Fitch's expectation that they will maintain steady risk profiles over the near to medium term and the Stable Outlook on Philippines' sovereign rating of 'BBB-'.

The loan quality of LBP and DBP is likely to be less sound than that of well-managed privately owned banks because of loans extended to sectors in line with government mandates and priorities account for about 80% of their total loan portfolio. The two banks are majority funded by deposits from government and government-related entities, because the banks are wholly owned by the government and government agencies are required to place deposits with government banks. DBP also has long-term funding from Official Development Assistance provided by bilateral and multilateral sources.

The capitalisation of LBP and DBP is likely to remain high relative to similarly rated banks, to fulfil their policy-related obligations. Fitch expects them to be subject to the regulatory minimum of a core tier 1 capital ratio of 11%, including a 2.5% buffer for domestic systemically important banks (D-SIBs) under Basel III standards, which will be phased in 2017. LBP's core tier 1 capital ratio was 11.6% and DBP's 13.8% at end-2014, and their Fitch core capital ratio is estimated at around 14%-15% at end-2014.

KEY RATING DRIVERS -Support Rating (SR) and SRF

The SR of '3' and SRF at 'BB+' reflect Fitch's expectations of moderate probability of extraordinary government support available to LBP and DBP, if needed. The two banks are 100% owned by the government and they have quasi-policy roles. They are also important in the local banking system - the regulator is likely to designate LBP and DBP as D-SIBs on account of their sizeable share of assets and deposits in the Philippines.

These rating actions do not take into account the possible merger between LBP and DBP because it is still subject to various legislative approvals. The merger has been proposed to remove their overlapping policy functions, and improve operating efficiency and economies of scale with a larger balance-sheet capacity.

LBP is mandated to provide financial support for agrarian reform and grant credit facilities to the agricultural, low-cost housing, micro enterprise, SME, communication and other sectors. DBP is mandated to provide medium- and long-term credit facilities for the infrastructure, logistics, micro enterprise, SME, and social services sectors, among others.

KEY RATING SENSITIVITIES - VRs, IDRs and National Ratings

The banks' VRs might be pressured if credit losses increase sharply, leading to capital impairment, possibly as a result of state-directed lending or an unexpected downturn in the operating environment. However, Fitch sees limited prospects of this happening while the domestic economy remains strong and given the banks' sound loss-absorption capacity. The VRs could be upgraded over medium term if their businesses were more commercially driven, and asset quality risk was lowered together with sustainable improvement in their franchises and risk appetites.

KEY RATING SENSITIVITIES - SRs and SRFs

The SRs and SRFs will be impacted by changes in the government's ability and propensity to extend timely support. Should the proposed merger between DBP and LBP materialise, Fitch may review the SR and SRF of the consolidated entity.

KEY RATING DRIVERS AND SENSITIVITIES - Debt Ratings

The senior notes of DBP are rated the same as its Long-Term IDR. This is because the notes constitute direct, unsubordinated and senior unsecured obligations of the bank, and rank equally with all its other unsecured and unsubordinated obligations. Any change in the IDR would affect the issue ratings.

DBP's legacy perpetual hybrid notes are rated three notches below its VR, reflecting the presence of both subordination and going-concern loss-absorption mechanisms. The rating of these securities is ultimately sensitive to a change in its VR.

LBP does not have any outstanding debt issues to which Fitch assigned ratings.

FULL LIST OF RATING ACTIONS:
LBP
Long-Term Foreign-Currency IDR affirmed at 'BB+'; Outlook Stable
Short-Term Foreign-Currency IDR assigned at 'B'
Long-Term Local-Currency IDR affirmed at 'BB+'; Outlook Stable
National Long-Term Rating affirmed at 'AA+(phl)'; Outlook Stable
Viability Rating affirmed at 'bb+'
Support Rating affirmed at '3'
Support Rating Floor affirmed at 'BB+'

DBP
Long-Term Foreign-Currency IDR affirmed at 'BB+'; Outlook Stable
Short-Term Foreign-Currency IDR assigned at 'B'
Long-Term Local-Currency IDR affirmed at 'BB+'; Outlook Stable
National Long-Term Rating affirmed at 'AA+(phl)'; Outlook Stable
Viability Rating affirmed at 'bb+'
Support Rating affirmed at '3'
Support Rating Floor affirmed at 'BB+'
Ratings on senior notes affirmed at 'BB+'
Ratings on legacy perpetual callable subordinated hybrid notes affirmed at 'B+'