DBRS Confirms Bank of China (Canada) at A (low), Stable Trend

DBRS Limited (DBRS) confirmed the ratings on Bank of China (Canada) (BOCC or the Bank), including its Long-Term Issuer Rating of A (low) and Short-Term Issuer Rating of R-1 (low). The trend on all ratings is Stable. BOCC’s Long-Term Issuer Rating is based on a Support Assessment (SA) of SA1, reflecting the expectation of timely support from its parent, Bank of China (BOC or the Parent). The Parent is a Global Systemically Important Bank (G-SIB), which is 67% owned by the People’s Republic of China (PRC; rated A (high) with a Stable trend by DBRS). The two-notch rating differential between the PRC and BOCC includes one notch for the PRC’s lack of full ownership of BOC as well as one notch for BOCC’s status as a fully owned foreign subsidiary in a low cross border-risk country.

KEY RATING CONSIDERATIONS
The ratings of BOCC, a wholly owned subsidiary of BOC, reflect its important role as an extension of its Parent’s global platform, providing banking services to Chinese corporate and retail clients outside the PRC. BOCC’s strategic importance to its Parent is also demonstrated through the Bank’s close links with the Parent’s management and reporting systems. Given the international scope of BOC and its global systemic importance, as well as being majority owned by the PRC, DBRS expects the Parent to receive timely, systemic support from the PRC.

On a stand-alone basis, BOCC has demonstrated the ability to generate good recurring earnings while maintaining control over provision for credit losses (PCL) and operating expenses. While loan delinquencies remain very low, DBRS notes that the loan portfolio has not been tested through a downturn in Canada yet. There is some concentration risk related to large corporate deposits, though this is balanced through strong levels of liquidity and a greater reliance on term deposits.

RATING DRIVERS
Given that the ratings are based on an SA that is driven by the relationship to BOC, a G-SIB that is 67% owned by the PRC, ratings could be positively impacted by an upgrade of PRC’s sovereign rating. Conversely, ratings could come under pressure should there be a reduction in the ownership stake by the Chinese government in BOC, a reduction in BOCC’s strategic importance to the Parent, or a downgrade of the PRC’s sovereign rating.

RATING RATIONALE
BOCC derives its franchise strength from its position as a financial intermediary for transactional flows between China and Canada. BOCC also caters to a growing number of Chinese immigrants and students arriving in Canada, providing them with personal banking services. As a strategically important subsidiary, franchise strength also benefits from support by its Parent. BOCC is focused on growing its corporate-banking business and developing direct relationships with corporations seeking to invest in China and Chinese corporations looking to enter the Canadian market. Additionally, the Bank will continue to assist Chinese retail customers, specifically within the higher-net worth category, who are recent arrivals to Canada.

In DBRS’s view, BOCC maintains a good earnings profile. Recurring earnings are driven largely by spread income, which should benefit in a rising interest-rate environment. Fee-based income is sensitive to transactional flows between China and Canada and consists mainly of trade finance, remittances and loan commitment fees. The Bank reported net income of $31.4 million in 2017, an increase of 99% compared with $15.8 million in 2016. This was driven by balance-sheet growth and higher margins. PCL levels remain manageable and comparable to DBRS-rated Canadian peers while cost control is solid.

Asset quality remains strong; however, recent rapid loan growth in a benign credit environment, including low interest rates, will likely result in some deterioration as the loan portfolio seasons. Lending is concentrated across the Greater Toronto Area, and includes a sizeable portion within the more volatile commercial real estate sector. DBRS believes this exposes BOCC to a slowdown in the Ontario economy, particularly given that the Bank’s commercial loan exposure is primarily to non-investment grade borrowers. Positively, the updated B-20 guidelines for residential mortgage underwriting should result in BOCC retaining a greater portion of its retail customers as the revised guidelines make it harder to get a mortgage from a new lender.

DBRS assesses BOCC’s funding position as stable and its liquidity as strong. The majority of funding is sourced from corporate and bank deposits, followed by retail deposits. While the deposit base has been relatively stable, individual corporate deposits can be large and represent single-party concentration risk for the Bank. In F2017, BOCC raised significant amounts of term corporate deposits and took initial steps toward diversifying its funding base through the issuance of Bank Deposit Notes. DBRS views this positively as it improved BOCC’s funding and liquidity profile. Additionally, liquidity can be readily sourced from the Parent’s branches in New York and London, which helps support the SA1 designation.

DBRS considers BOCC’s capital cushion to be sufficient in light of its largely collateralized loan exposures and good capacity to generate internal equity. BOCC also has the ability to access capital from its Parent, which injected equity capital into the Bank in 2016.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found on the issuer page at www.dbrs.com.

The applicable methodology is Global Methodology for Rating Banks and Banking Organisations (July 2018), which can be found on dbrs.com under Methodologies.

Lead Analyst: Sohail Ahmer, Vice President, Global Financial Institutions Group
Rating Committee Chair: Michael Driscoll, Managing Director, Head of NA FIG – Global FIG

The rated entity or its related entities did participate in the rating process for this rating action. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

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