Global Credit Research - Al Rajhi Bank

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At this stage, Al Rajhi has ample capital to support its business growth, both in the Kingdom and overseas, where organic, prudent and balanced expansion is the preferred option. More than sufficient capital is available to absorb any unexpected losses should the need arise. Going forward, we expect the capital adequacy ratios to remain robust, but to gradually decline, as a result of the joint effect of two simultaneous developments: on the one hand, the implementation of Basel II during 2008 will include, as per SAMA's guidelines, additional capital charges for pillar 2 risks, especially concentration risks, margin rate risk in the banking book, and macroeconomic risks; and on the other hand, as the bank expands domestically and internationally, equity growth might not be able to match the current expectation for rapid increases in risk-weighted assets. The bank has prepared for this scenario, and reduced its dividend payout ratios in recent years, in order to build additional capital cushions internally. The score for capital adequacy is A. Factor 8: Efficiency Trend: Neutral Despite its extensive network, Al Rajhi's cost-to-income ratio was a low 26% in 2007, which compares very favourably to that of domestic and regional peers. The recent deterioration in the bank's efficiency indicators was largely expected given the recognition of unsustainable income in the revenue streams generated over the 2005- 2006 period. However, current cost-to-income ratios are in line with the levels displayed pre-2005. Although efficiency is robust at Al Rajhi, mainly due to relatively low labour costs, we have identified two weaknesses. On the one hand, given the limited use of variable components in compensation, costs tend to be sticky and of low flexibility across the cycle. On the other hand, we expect costs to grow faster than revenues in the medium term: indeed, Al Rajhi's shift towards corporate banking should drive margins down, at a time when foreign expansion, further risk management upgrades and forays into still underdeveloped business lines (such as investment banking) might give rise to additional expenses. However, although slightly on the rise, efficiency ratios should remain among the most competitive in the country and the region as a whole. The bank scores A for its efficiency. Factor 9: Asset Quality Trend: Weakening The quality of Al Rajhi's assets is adequate. Its non-performing loan ratios have deteriorated consistently over the past four years, rising to a moderate 3.5% at year-end 2007, after a sharp decline in 2004. Given that Al Rajhi used to be heavily exposed to various forms of margin lending and credit against shares, the spectacular correction of the Saudi equity market that started in March 2006 was expected to contaminate the bank's credit portfolio, especially in its retail and commercial/SME components. Relative to its domestic peers, Al Rajhi displays lower asset quality indicators, partly reflecting its focus on catering for the needs of the retail mass-market. In the longer term, when the operating macroeconomic environment and credit portfolios mature, we would expect some further deterioration in asset quality to arise from the recent aggressive loan growth, as a result of which the bank's credit portfolio will have doubled between 2004 and 2008. At present, the score for the bank's asset quality is B but with a weakening trend. Global Local Currency Deposit Rating (Joint Default Analysis) Moody's assigns a long-term global local currency (GLC) deposit rating of A1 to Al Rajhi. This rating is supported by the bank's Baseline Credit Assessment of A3, as well as by the Aa3 local currency deposit ceiling of its underlying support provider, Saudi Arabia. This reflects our assessment of a very high probability of systemic support for the bank in the event of a stress situation, resulting in a two-notch uplift for this rating from the bank's Baseline Credit Assessment. Our support assessment is based on Al-Rajhi's 12% market share in total assets, its status as the largest privatesector Islamic bank in the region as well as globally, and a track record that demonstrates that the Saudi authorities have always had a supportive approach to banks in distress. Moody's indeed views Saudi Arabia as a high support country. Notching Considerations Ratings for Al Rajhi's junior obligations should be notched off the fully supported deposit rating because Moody's believes that there is no legal authority in place in Saudi Arabia to impose losses on subordinated creditors outside of a liquidation scenario.
Foreign Currency Deposit Rating Al Rajhi's A1/P-1 foreign currency deposit ratings are at the same level as the GLC deposit ratings, as they are not constrained by the country ceiling for Saudi Arabia. ABOUT MOODY'S BANK RATINGS Bank Financial Strength Rating Moody's Bank Financial Strength Ratings (BFSRs) represent Moody's opinion of a bank's intrinsic safety and soundness and, as such, exclude certain external credit risks and credit support elements that are addressed by Moody's Bank Deposit Ratings. BFSRs do not take into account the probability that the bank will receive such external support, nor do they address risks arising from sovereign actions that may interfere with a bank's ability to honor its domestic or foreign currency obligations. Factors considered in the assignment of BFSRs include bankspecific elements such as financial fundamentals, franchise value, and business and asset diversification. Although BFSRs exclude the external factors specified above, they do take into account other risk factors in the bank's operating environment, including the strength and prospective performance of the economy, as well as the structure and relative fragility of the financial system, and the quality of banking regulation and supervision. Global Local Currency Deposit Rating A deposit rating, as an opinion of relative credit risk, incorporates the BFSR as well as Moody's opinion of any external support. Specifically, Moody's Bank Deposit Ratings are opinions of a bank's ability to repay punctually its deposit obligations. As such, they are intended to incorporate those aspects of credit risk relevant to the prospective payment performance of rated banks with respect to deposit obligations, which includes: intrinsic financial strength, sovereign transfer risk (in the case of foreign currency deposit ratings), and both implicit and explicit external support elements. Moody's Bank Deposit Ratings do not take into account the benefit of deposit insurance schemes which make payments to depositors, but they do recognize the potential support from schemes that may provide assistance to banks directly. According to Moody's joint default analysis (JDA) methodology, the global local currency deposit rating of a bank is determined by the incorporation of external elements of support into the bank's Baseline Credit Assessment. In calculating the Global Local Currency Deposit rating for a bank, the JDA methodology also factors in the rating of the support provider, in the form of the local currency deposit ceiling for a country, Moody's assessment of the probability of systemic support for the bank in the event of a stress situation and the degree of dependence between the issuer rating and the Local Currency Deposit Ceiling. National Scale Ratings National scale ratings are intended primarily for use by domestic investors and are not comparable to Moody's globally applicable ratings; rather they address relative credit risk within a given country. A Aaa rating on Moody's National Scale indicates an issuer or issue with the strongest creditworthiness and the lowest likelihood of credit loss relative to other domestic issuers. National Scale Ratings, therefore, rank domestic issuers relative to each other and not relative to absolute default risks. National ratings isolate systemic risks; they do not address loss expectation associated with systemic events that could affect all issuers, even those that receive the highest ratings on the National Scale. Foreign Currency Deposit Rating Moody's ratings on foreign currency bank obligations derive from the bank's local currency rating for the same class of obligation. The implementation of JDA for banks can lead to high local currency ratings for certain banks, which could also produce high foreign currency ratings. Nevertheless, it should be noted that foreign currency deposit ratings are in all cases constrained by the country ceiling for foreign currency bank deposits. This may result in the assignment of a different, and typically lower, rating for the foreign currency deposits relative to the bank's rating for local currency obligations. Foreign Currency Debt Rating Foreign currency debt ratings are derived from the bank's local currency debt rating. In a similar way to foreign currency deposit ratings, foreign currency debt ratings may also be constrained by the country ceiling for foreign currency bonds and notes; however, in some cases the ratings on foreign currency debt obligations may be allowed to pierce the foreign currency ceiling. A particular mix of rating factors are taken into consideration in order to assess whether a foreign currency bond rating pierces the country ceiling. They include the issuer's global local currency rating, the foreign currency government bond rating, the country ceiling for bonds and the debt's eligibility to pierce that ceiling. About Moody's Bank Financial Strength Scorecard
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Global Credit Research - Al Rajhi Bank

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