Scope Ratings GmbH has today assigned the Black Sea Trade and Development Bank first-time A long-term issuer and senior unsecured foreign-currency ratings, along with an S-1 short-term issuer rating in foreign currency. All Outlooks are Stable.

For the supranational scorecard, click here.

Summary and Outlook

The A issuer rating assigned to the Black Sea Trade and Development Bank (BSTDB) reflects the supranational’s high capitalisation, sound liquidity profile, strong asset quality, well-diversified portfolio and stable profitability as well as the credit challenges the bank faces given its mandate to operate in a high-risk environment despite its shareholders’ limited ability to provide exceptional capital support if ever needed. The Stable Outlook reflects Scope’s assessment that the BSTDB’s balance sheet is resilient to i) a deteriorating operating environment, as captured by the creditworthiness of its key shareholders; ii) the Covid-19 crisis, and its possible impact on asset quality and profitability; and iii) the bank’s plans to expand operations and increase leverage in line with its updated medium-term strategy for 2019-22.

The rating could be upgraded if: i) liquidity buffers are significantly increased; ii) profitability improves significantly, further raising capitalisation; and/or iii) the ratings of key shareholders are upgraded. Conversely, the rating could be downgraded if: i) liquidity buffers are significantly reduced; ii) asset quality worsens significantly, resulting in sustained losses; iii) the leverage ratio increases well beyond the level foreseen by its medium-term strategy, resulting in lower capitalisation; and/or iv) the ratings of key shareholders are downgraded.

Rating rationale

The BSTDB started operations in 1999 after it was established by 11 sovereigns and members of the Black Sea Economic Cooperation with the aim to support economic development and regional cooperation in the Black Sea region through loans, guarantees, and equity participations in private enterprises and public entities in its member states. The six largest economies in the region – Russia (BBB/Stable), Turkey (B/Negative), Romania (BBB-/Negative), Greece (BB/Positive), the Ukraine^a, and Bulgaria (BBB+/Stable) – together account for around 91% of total capital contributions. Thus, in line with their voting rights in the bank’s highest decision-making bodies, these six countries form the bank’s key shareholders. On this basis and as a starting point for the credit analysis, the BSTDB’s capital-weighted key shareholder rating, reflecting the shareholders’ limited ability to provide emergency financial support if ever needed, is BB. If both Turkey and Romania are downgraded by one notch, as indicated by their Negative Outlooks, the key shareholder rating would remain unchanged. The BB key shareholder rating indicates that the bank’s creditworthiness relies mostly on its stand-alone intrinsic strength.

For this reason, the BSTDB’s A rating is mainly driven by the strength of its balance sheet and operations. Specifically, the bank’s capitalisation level is very high, even assuming full leverage in line with operating framework. Scope estimates the BSTDB’s available capital resources at around EUR 830m. These include paid-in capital of EUR 687m and accumulated reserves and retained earnings of EUR 144m at end-2019. Dividing these resources by the maximum potential liabilities (estimated at EUR 2.16bn)^b results in a ratio of around 38.5%. This level implies that if the BSTDB were to operate at full capacity as allowed under its operational framework, its available resources would cover more than one-third of all potential liabilities, a strength which Scope accounts for with a one-notch positive rating uplift.

In practice, the BSTDB’s leverage is lower than that allowed under its framework, which further underpins the A rating. In 2019 specifically, despite a 50% increase in borrowings due to record-high disbursements, the bank’s leverage, at 179%, was lower than that of many other supranationals, which Scope has acknowledged with a one-notch uplift. Scope expects the leverage ratio to increase to around 240% by 2022, in line with the bank’s updated medium-term strategy¹. Under this assumption, the total volume of loans, equity investments and outstanding guarantees would increase to around EUR 2.55bn from around EUR 1.85bn as of end-2019, in line with the limit of a 100% operational gearing ratio and below the 150% institutional gearing ratio as set by Article 15 of the bank’s Establishing Agreements².

The BSTDB’s A rating is further supported by the bank’s conservative liquidity management, proven capital market access and diversified funding mix. Internal liquidity guidelines stipulate that the bank’s available liquid assets must cover 50% of net cash outflows, including committed disbursements, over the next 12 months. While this is lower than the 100% limit usually applied by other multilateral development banks, the bank’s coverage is, in practice, significantly higher. To cover liquidity needs, the bank holds cash and bank balances, short-term deposits, a treasury portfolio of commercial papers and investment grade bonds as well as committed credit facilities with AAA rated institutions.

In Scope’s view, the BSTDB’s liquid assets coverage of outflows over the next 12 months is sound. Specifically, Scope estimates the BSDTB’s available liquid assets at EUR 395m at end-2019. These include cash and cash equivalents (EUR 83m), treasury assets with a maturity of less than 12 months (EUR 223m), and a committed credit facility from the Kreditanstalt für Wiederaufbau (KfW, AAA/Stable) of EUR 89m (or USD 100m). Scope has counted this undrawn facility towards the bank’s liquid assets due to the counterparty’s very high credit rating and the fact that these funds can be drawn upon at short notice without additional project-specific conditions attached^c. A reduction or removal of this facility would thus be credit negative. Conversely, the BSTDB’s liabilities due within one year amounted to around EUR 210m in 2019 and loan disbursements in 2020 are estimated at EUR 871m . Thus, total liabilities and disbursements due within one year amounted to around EUR 1.1bn at end-2019. On this basis, Scope calculates a liquid assets ratio of 36.5% in 2019, up from 23.2% in 2018, due mostly to the undrawn credit facility with the KfW. The three-year weighted average for 2017-19 was 33.1%, which implies available liquid assets, as defined under Scope’s methodology, can cover about one-third of outstanding liabilities and loan disbursements within 12 months without the need for the BSTDB to access capital markets.

In addition, Scope notes positively the BSTDB’s proven capital market access, which also benefits from the reduction of risk weights as applied by the Basel framework for A rated multilateral development banks, to 30% from previously 50%. Still, compared to levels of larger supranationals, given the modest size of its balance sheet, funding volumes are lower and issuances less frequent. The bank’s prudent funding strategy is reflected by the roughly five-year weighted average maturity of its issuances, which mirrors the bank’s loan maturities and minimises risks of maturity mismatches. While the bank mostly issues bonds denominated in US dollars or Swiss Francs, smaller issuances are denominated in the local currencies of its member states. The bank also diversifies its funding sources by financing its operations via bilateral loans, which, as of end-2019, stood at around EUR 246m, up from EUR 227m in 2018.

The BSTDB’s A rating is further underpinned by its conservative risk management and comprehensive due diligence, which result in strong asset quality, a well-diversified loan portfolio and limited financial losses. Even with a mandate to operate exclusively within its member states, which have a relatively weaker average borrower quality, the bank’s levels of non-performing loans have remained low in recent years – a key credit strength. One reason for this is the bank’s method to mitigate credit risk, by holding collateral and other forms of credit enhancement against exposures to customers and counterparties. As of 2019, the secured portfolio was 57.2% of total outstanding loans, up from 52.4% in 2018, and the non-performing loan ratio was 0.2%, down from 5.5% in 2015. In addition, only EUR 30m, or 3.6% of own funds, were invested into equity, and mostly via regional equity funds rather than direct investments, underpinning the bank’s prudently managed portfolio. Moreover, Scope does not expect the Covid-19 crisis to have a lasting material impact on the quality of the bank’s lending portfolio.

In addition, in Scope’s view, the BSTDB’s operations benefit from having preferred creditor status^4,5 despite i) lending mostly to the private sector, and ii) the recorded loss of EUR 14.2m on its Greek government bonds, held as treasury assets. Critically, this is because of the bank’s track record of i) being exempt from the risk of non-payment by private sector borrowers due to the imposition of capital controls implemented in Greece in 2015, and ii) not having experienced a loss from its loan operations with sovereigns. Scope also notes that the share of the BSTDB’s public sector exposures will increase to about one-third of its portfolio by 2022, up from 27% in 2019 and around 10% in 2017, as envisioned under its medium-term strategy, which will increase the share of lending that would most likely be treated preferentially, further underpinning its robust asset quality.

The strong asset quality is also reinforced by the diversification of the bank’s loan portfolio, not only by geographies, with the country exposure limited at 30% of total lending, but also by sectors, particularly across financial institutions (representing 33% of gross loans in 2019), transportation (20%) and the industrial sector (15%). In addition, the bank sets a single-obliger limit at 10% of equity and reserves for private-sector entities, 20% for non-sovereign public exposures, and 3% of paid-in capital for equity investments⁶. Still, the portfolio’s expansion in 2019 by around 36% led to slightly higher concentration, as much of the growth was driven by a few large loans for sovereign-guaranteed infrastructure projects.

Finally, Scope notes that the BSTDB has been profitable since 2004, with the annual return on equity averaging 1.2% since 2015. Profits are fully retained, thus contributing to accumulated reserves, and, in turn, capitalisation levels and lending capacity. The bank’s net income in 2019 was EUR 13m, which corresponds to a return on equity of 1.7%. While the bank’s profitability outlook could be challenged by its shift towards public sector borrowers with lower lending rates, as well as compressed net interest margins, some expected asset quality deterioration due to the Covid-19 crisis, and ongoing geopolitical tensions, Scope expects the bank to continue to be profitable in 2020 and beyond.

Despite these credit strengths, the bank also faces the following challenges:

First, the bank’s shareholders’ moderate ability to provide capital support, as measured via their credit ratings, is a key credit constraint. While Scope believes that shareholders would be willing to provide emergency capital and/or liquidity in case of need, their ability to do so is limited by their relatively weak credit profiles (none are rated AA- or above). For this reason, Scope excludes the shareholders’ callable capital from its calculation of the bank’s credible capital resources. This could change however, if the BSTDB were to attract a AAA rated international financial institution as a meaningful shareholder per its strategic plans, which could also, depending on the impact of the relative capital shares of its key shareholders, result in a higher key shareholder rating.

In addition, Scope notes positively that in 2019 the shareholders paid the final instalment of the capital increase approved in 2008, consisting of EUR 345m in paid-in capital and EUR 805m in callable capital, which results in a very high share of paid-in versus subscribed capital of 30%, underpinning the shareholders’ high willingness to support the BSTDB’s operations. This is also captured in the institution’s strategic importance to its shareholders via the bank’s growing balance sheet in recent years in accordance with its updated medium-term strategy.

Second, and related, while the medium-term strategy enhances the bank’s strategic importance to its shareholders by focusing on large, sovereign-guaranteed infrastructure projects that are key for the economic development of its member states, the bank projects its total assets to increase to EUR 2.7bn at end-2020 and EUR 2.9bn at end-2022, which the bank notes would be the maximum size to ensure capital adequacy under current levels. This would also entail an increase in total borrowings to around EUR 2bn from EUR 1.5bn at the end of 2019, which would result in the leverage ratio rising significantly to around 240% by 2022, compared to around 179% in 2019 and 119% in 2018. Critically, Scope could re-assess this factor negatively if leverage continued to increase beyond these projections without a commensurate increase in capital resources.

Finally, and in line with its mandate to operate exclusively in its member states, the BSTDB’s risks from mandated activities are high given the challenging operating environment. Economic crises and geopolitical tensions have weakened the region’s economic prospects in past years, critically weakening the macroeconomic backdrop for the bank’s operations. The bank’s portfolio has historically remained stable, hovering around a weighted average of BB since 2015 for the 10 largest country exposures. The bank’s five largest country exposures are to Turkey (23% of gross loans at end-2019), Greece (21%), Russia (12%), Ukraine (9%) and Romania (7%). Turkey (B/Negative) represents the riskiest aggregate exposure in the BSTDB’s loan portfolio, given its ongoing economic and balance-of-payments crises. The risk of Turkish loan losses is mitigated somewhat as most are public sector exposures compared to the bank’s overall portfolio, which increases the likelihood of the bank benefitting from preferred creditor status in case of severe sovereign distress. Exposures in Russia and Ukraine are also subject to risks, given the weakening growth outlooks and/or ongoing international sanctions.

Factoring of Environment, Social and Governance (ESG)

Scope considers ESG sustainability issues during the rating process as reflected in its supranational methodology. In line with peers, the BSTDB’s governance is strong and transparent. Environmental and social factors were considered during the rating process, including the risk to ‘stranded assets’ and the benefits of issuing green and social bonds, but these had no impact on the ratings. Unlike other supranationals with a larger and more frequent presence on funding markets, the BSTDB has not issued green or social bonds to date. Scope notes that all of the BSTDB’s operations apply the Environmental and Social Policy⁷ approved in 2014, under which it assesses social and environmental aspects of any project under internationally accepted standards.

Scope’s supranational scorecard

Scope’s supranational scorecard, which is based on clearly defined quantitative parameters, provides an indicative ‘A’ rating for the Black Sea Trade and Development Bank. Additional considerations allow Scope to incorporate idiosyncratic characteristics that cannot be assessed in a consistent and comprehensive manner across all supranationals, but which may still affect the creditworthiness of the issuer.

For the BSTDB, no additional considerations have been identified.

A rating committee has discussed and confirmed these results.

For further details, please see the Appendix.

a) For the Ukraine, which is not publicly rated by Scope, a credit estimate is used.
b) To approximate the BSTDB’s maximum potential liabilities, Scope assumes that under the 100% operational gearing ratio, the BSTDB’s operational portfolio would be limited at EUR 2.45bn as of end-2019. To calculate the corresponding total asset size, Scope assumes that non-operational assets remain constant at their 2019 level at EUR 0.54bn. Consequently, the maximum assets for the BSTDB are around EUR 2.99bn. Subtracting the BSTDB’s 2019 equity and reserves from that total amount results in an estimated maximum level of liabilities of around EUR 2.16bn.
c) Scope’s calculation of liquid assets is conservative as it excludes debt securities with a maturity of over 12 months (EUR 115m at end-2019)3, as they are not rated AA- or above. However, Scope acknowledges that these assets would be available for sale even in a stressed scenario.
d) This refers to the disbursements in 2019. When future disbursements are unavailable Scope uses past disbursements as proxy.

Rating committee
The main points discussed were: i) key shareholders and institutional set-up; ii) preferred creditor status and mandated activities; iii) liquidity management and buffers; iv) funding activity; v) asset quality, equity exposures as well as credit enhancements; vi) portfolio diversification; vii) profitability; and viii) peers.

Rating driver references
1. Review and Update of Medium-Term Strategy and Business Plan 2019-22
2. BSTDB Establishing Agreement
3. 2020 Euro Medium Term Note Programme Base Prospectus
4. PCS documentation
5. PCS documentation
6. BSTDB portfolio risk management and investment policies
7. BSTDB Environmental and Social Policy

Methodology
The methodology applicable for this rating and/or rating outlook, ‘Supranational Entities Methodology’ (5 November 2020), is available on https://www.scoperatings.com/#!methodology/list.
Information on the meaning of each rating category, including definitions of default and recoveries can be viewed in the “Rating Definitions - Credit Ratings and Ancillary Services” published on https://www.scoperatings.com/#!governance-and-policies/rating-scale. Historical default rates of the entities rated by Scope Ratings can be viewed in the rating performance report on https://www.scoperatings.com/#governance-and-policies/regulatory-ESMA. Please also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope’s definitions of default and rating notations can be found at https://www.scoperatings.com/#governance-and-policies/rating-scale. Guidance and information on how Environmental, Social or Governance factors (ESG factor) are incorporated into the rating can be found in the respective sections of the methodologies or guidance documents provided on https://www.scoperatings.com/#!methodology/list.
The rating outlook indicates the most likely direction of the rating if the rating were to change within the next 12 to 18 months.

Solicitation, key sources and quality of information
The rating was not requested by the rated entity or its agents. The rating process was conducted:
With Rated Entity or Related Third Party Participation   YES
With Access to Internal Documents                                NO
With Access to Management                                          YES
The following substantially material sources of information were used to prepare the credit rating: public domain.
Scope considers the quality of information available to Scope on the rated entity or instrument to be satisfactory. The information and data supporting Scope’s ratings originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the rating or outlook action, the rated entity was given the opportunity to review the rating and/or outlook and the principal grounds on which the credit rating and/or outlook is based. Following that review, the rating was not amended before being issued.

Regulatory disclosures
This credit rating and/or rating outlook is issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0.
Rating prepared by: Alvise Lennkh, Executive Director
Person responsible for approval of the rating: Dr Giacomo Barisone, Managing Director
The ratings/outlook were first released by Scope on 6 November 2020.

Potential conflicts
Please see http://www.scoperatings.com for a list of potential conflicts of interest related to the issuance of credit ratings.

Conditions of use / exclusion of liability
© 2020 Scope SE & Co. KGaA and all its subsidiaries including Scope Ratings GmbH, Scope Analysis GmbH, Scope Investor Services GmbH and Scope Risk Solutions GmbH (collectively, Scope). All rights reserved. The information and data supporting Scope’s ratings, rating reports, rating opinions and related research and credit opinions originate from sources Scope considers to be reliable and accurate. Scope does not, however, independently verify the reliability and accuracy of the information and data. Scope’s ratings, rating reports, rating opinions, or related research and credit opinions are provided ‘as is’ without any representation or warranty of any kind. In no circumstance shall Scope or its directors, officers, employees and other representatives be liable to any party for any direct, indirect, incidental or other damages, expenses of any kind, or losses arising from any use of Scope’s ratings, rating reports, rating opinions, related research or credit opinions. Ratings and other related credit opinions issued by Scope are, and have to be viewed by any party as, opinions on relative credit risk and not a statement of fact or recommendation to purchase, hold or sell securities. Past performance does not necessarily predict future results. Any report issued by Scope is not a prospectus or similar document related to a debt security or issuing entity. Scope issues credit ratings and related research and opinions with the understanding and expectation that parties using them will assess independently the suitability of each security for investment or transaction purposes. Scope’s credit ratings address relative credit risk, they do not address other risks such as market, liquidity, legal, or volatility. The information and data included herein is protected by copyright and other laws. To reproduce, transmit, transfer, disseminate, translate, resell, or store for subsequent use for any such purpose the information and data contained herein, contact Scope Ratings GmbH at Lennéstraße 5 D-10785 Berlin.
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