DBRS Upgrades Mizuho Bank to A (high) / R-1 (middle), Stable Trend

DBRS Ratings Limited (DBRS) has upgraded the ratings of Mizuho Bank, Ltd. (Mizuho or the Bank), including its Long-Term Issuer Rating to A (high) and the Short-Term Issuer Rating to R-1 (middle). The trend on all ratings is now Stable. The Intrinsic Assessment (IA) of the Bank is now ‘A’, and DBRS notes that it is based upon the financial strength of the consolidated Mizuho Financial Group, Inc. (MFG or the Group). The Support Assessment remains at SA2 reflecting DBRS’s expectation of timely systemic support in case of need given the Bank’s systemic importance to the Japanese financial system. Given the sovereign rating of Japan is A (high), Stable trend, there is currently one notch of uplift to Mizuho’s Long-Term Issuer Rating. See the full list of ratings at the end of the press release.

KEY RATING CONSIDERATIONS
The ratings upgrade reflects the improvement in the Bank’s IA to “A”, from A (low), as well as the recent upgrade of DBRS’s rating on Japan to A (high) from “A”. The improvement in the Bank’s IA reflects the continued strength of its core domestic franchise along with its meaningful overseas operations. In addition, although earnings remain under pressure due to the low interest rate environment and the relatively modest loan demand in Japan, Mizuho is having success in offsetting this pressure by increasing its overseas lending and growing its net fee and commission income both domestically and overseas. DBRS views Mizuho’s risk profile as conservative with strong asset quality and low levels of non-performing loans. However, the Group has sizeable holdings of Japanese Government Bonds (JGBs), albeit the Group is actively managing down its exposure to JGBs and to Japanese equities. The Group has a solid retail deposit base; however, its overseas operations remain more reliant on market funding. Liquidity is ample. Mizuho’s capitalisation levels are improving, both including and excluding the net unrealised gains on available-for-sale securities.

RATING DRIVERS
There could be positive pressure on the IA if the Bank is able to both increase its revenues and reduce its cost base in order to improve profitability. As the Bank’s Long-Term Issuer Rating is already positioned at the same level as the sovereign rating of Japan, an upgrade of the Bank’s IA would only lead to an upgrade of its issuer and senior debt ratings, if the sovereign rating were also to be upgraded.

Negative rating pressure could arise from a material deterioration in the Group’s asset quality indicators or funding profile as a result of its overseas expansion, or from further deterioration in its cost efficiency. A downgrade of the sovereign rating would also have a negative impact on the ratings.

RATING RATIONALE
MFG is one of the three Japanese mega-banking groups. It has a strong domestic franchise in Japan, where it offers a wide range of products. Its sizeable international network consists of around 130 branches and representative offices, primarily in Asia-Pacific and the Americas. In 1HFY18, the Group’s reported net profit after minority interest was up 11.9% on 1HFY17, to JPY 359.3 billion (USD 3.2 billion). DBRS notes that in FY18 (April 2018-March 2019) the Group is targeting to generate approximately 60% of revenues from non-interest income (FY15: 54% vs. 1HFY18: 56%). DBRS views the targeted shift in revenues positively given the low margins in the domestic market, and notes the progress made in achieving this target. Given the pressure on revenues, cost control remains a key focus for Mizuho, with the Group targeting an efficiency ratio in the higher end of 60%-70% range for FY18, on a management accounting basis. DBRS notes that the the Group’s efficiency ratio improved to 70.9% in 1HFY18 as revenue growth outpaced expense growth, a substantial improvement on the 77.7% level in FY17 (both figures on a statutory basis). On a management accounting basis, the Group reported an efficiency ratio of 68.9% in 1H18 and 72.1% in FY17. The Group is therefore undertaking a number of cost saving initiatives that are to be implemented in the short- and medium-term, such as staff optimisation, the transition towards an updated IT-system and the restructuring and digitalisation of the branch network. These are part of its “Fundamental Structural Reform”. Given success with these plans, DBRS would expect cost synergies to be realised in the medium-term, resulting in a reduction in Mizuho’s cost base. In particular, the Group aims to reduce its workforce by 8,000 and its domestic branch network by 50 locations over the course of three years, targeting approximately a JPY 100 billion reduction in the cost base, excluding depreciation related to next-generation IT systems.

DBRS views Mizuho’s risk profile as conservative with its strong asset quality and low levels of non-performing loans. The reported non-performing loans (NPL) ratio was 0.58% at end-September 2018, down from 0.66% at end-March 2018, based on the Financial Reconstruction Act, when calculated on an aggregate Mizuho Bank (MHBK) and Mizuho Trust & Banking (MHTB) basis. Of the overseas loan portfolio of USD 251.7 billion at end-September 2018, DBRS notes that almost a third of the book is Japanese companies (around 35%). The NPL ratio for the overseas portfolio was only 0.3% at end-September 2018. Moreover, 80% of the loans are to investment grade companies. At end-September 2018 the Group’s exposure to the Japanese sovereign through JGBs was 142% of Tier 1 capital significantly lower than the 510% level at end-FY11. DBRS notes this positive reduction, as well as the lower risk posed by this portfolio following the upgrade of the sovereign rating to A (high). The Group is also making progress in reducing its exposure to Japanese equities. These now account for 15.9% of Tier 1 capital at end-September 2018, down noticeably from 26.2% at end-FY14.

DBRS views Mizuho’s funding profile as strong, given its stable deposit franchise in Japan and its significant liquidity reserves. At end-September 2018, its net loan-to-deposit (LTD) ratio, including negotiable certificates of deposit, was 60.2%. However, increased loan volumes, predominantly in the Asian loan book, which outpaced the growth in overseas deposits, led the non-JPY net loan-to-deposit ratio to jump to 147% at end-September 2018. Highlighting that funding of the overseas loan portfolio remains reliant on market funding, with 68% of it covered by non-JPY deposits, DBRS will continue to monitor trends in the overseas operations funding.

Mizuho’s capital position has been steadily improving in recent years. At end-September 2018, the Group reported a fully-effective Common Equity Tier 1 (CET1) ratio of 12.62%, although this declines to 10.41% when adjusted for the net unrealised gains on other securities. The Group noted that the impact of the finalisation of the Basel III rules would have an impact of approximately 2% on the level of the CET1 ratio as of end-September 2018. As such, the CET1 ratio would have been at the lower range of 8%, had the impact of the Basel III finalisation been incorporated. Nonetheless, DBRS notes that this level would still be above the regulatory minimum of 8%. As of the same date, the Group reported a transitional Basel III leverage ratio of 4.34%. The Group targets a Basel III fully effective CET1 ratio, excluding net unrealized gains on other securities, of approximately 10% by end- FY18.

The Grid Summary Grades for Mizuho are as follows: Franchise Strength – Very Strong/Strong; Earnings – Good; Risk Profile – Strong/Good; Funding & Liquidity – Strong; Capitalisation – Good.

Notes:
All figures are in JPY unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations (July 2018). This can be found can be found at: http://www.dbrs.com/about/methodologies

The sources of information used for this rating include SNL Financial and company reports. DBRS considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

DBRS does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

Generally, the conditions that lead to the assignment of a Negative or Positive Trend are resolved within a twelve month period. DBRS’s outlooks and ratings are under regular surveillance

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Ratings assigned by DBRS Ratings Limited are subject to EU and US regulations only.

Lead Analyst: Ross Abercromby, Managing Director - Global FIG
Rating Committee Chair: Roger Lister, Managing Director, Chief Credit Officer - Global FIG and Sovereign Ratings
Initial Rating Date: November 1, 2000
Last Rating Date: January 30, 2018

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