Fitch Ratings has upgraded Banco PAN SA's (PAN) Long-Term National Rating to 'AA(bra)' from 'A+(bra)', with a Stable Rating Outlook; and its Short-Term National Rating to 'F1+(bra)' from 'F1(bra)'.

The Long-Term Local and Foreign Currency Issuer Default Ratings (IDRs) were affirmed at 'BB-' with a Negative Rating Outlook.

The upgrade of PAN's National Ratings, upgrade of its Support Rating (SR) to '3' from '4' and the affirmation of its IDRs reflects Fitch's assessment on the increased likelihood of support from Banco BTG Pactual S.A. (BTG; BB-/Negative). PAN's ratings are now driven by institutional support as per the 'higher of' approach in Fitch's criteria. Although PAN's IDR's are at the same level on both standalone and support analysis, Fitch's assessment of support is stronger since Banco BTG Pactual S.A. acquired Caixa's stake in PAN, currently holding 71.7% of total shares and 100% of the voting shares. At the same time, the agency removed Caixa Economica Federal (Caixa) as source of support.

KEY RATING DRIVERS

IDRs, NATIONAL RATINGS AND SUPPORT RATING

PAN's IDRs, National Ratings and SR reflect BTG's high propensity to support PAN since they operate in the same jurisdiction, are subject to the same regulations and, following the acquisition, are part of the same regulatory group under Brazil's Central Bank prudential perimeter. Therefore, lack of support would represent high reputational risk for the parent. BTG's full ownership on PAN's voting shares and the increasing degree of integration also contribute to Fitch's overall support assessment.

VR

PAN's VR continues to be highly influenced by its company profile, which strengthened after it changed its strategy in 2017. The ratings also consider the bank's adequate business diversification and steady improvements in asset quality, profitability and capitalization metrics since 2017.

As of 1Q21, 49% of PAN's loan portfolio comprised payroll loans. Additionally, 70% of total 1Q21 origination was related to retirees of Instituto Nacional do Seguro Social (INSS). The vehicle financing portfolio corresponded to 42% and, despite its higher risk compared to the payroll loan portfolio, has proven to be resilient, even in the face of asset quality pressures arising from the coronavirus pandemic.

Like other midsize banks, in 2020 PAN launched a digital platform to expand its products and services. In Fitch's opinion, the digital operations will allow PAN to reduce revenue concentrations, improve its business mix and cross-selling and strengthen its profitability in the long term.

PAN's operating profit-to-risk-weighted assets (RWA) ratio stood at a good 3.9% as of YE20, compared with 2.1% at YE19 and an average of 2.3% over the past four years. In 1Q21, this ratio reached 4.8%. Since 2017, the institution has shown a gradual improvement in profitability, as the bank increased its capital base, which allowed PAN to retain a larger portion of its originated loans, discontinue its less profitable operations and reduce expenses from high cost legacy deposits.

The bank has BRL 1.9 billion in legacy deposits, with an annual fixed cost of 27% on average, with amortization and interest payments that will mainly occur until 2025. These amortizations will have a positive impact on PAN's profitability metrics since they will significantly reduce funding expenses, thereby strengthening margins.

Despite asset quality pressures at the beginning of the pandemic, PAN's asset quality ratios ended 2020 at adequate levels. In the last four years (YE), the average impaired loans ratio (D to H loans) was 9.58%, and in December 2020 this ratio reached 7.9% (7.7% at 1Q21). Nonperforming loans (NPLs) also remained adequate, at 5.0% in 1Q21, versus 5.7% as of March 2019. Considering the worsening of the pandemic in Brazil in 1Q21, eventual deterioration of these ratios is possible; however, Fitch believes PAN will continue to act proactively to minimize potential asset quality pressures.

Capital injections made in 2018 and 2019, combined with higher income generation, strengthened the bank's capital structure and capitalization ratios. At 1Q21 the bank's common equity Tier 1 (CET1) ratio increased to 15.9%, up from 15.7% at 1Q19.

PAN's adjusted loans-to-deposits ratio in March 2021 was high at 190%, while most of its peers have a ratio around 100%. Despite the gradual reduction in funding from its shareholders, Fitch believes Pan's loan-to-deposits ratio will remain worse than those of its peers in the medium term. Fitch considers PAN's current liquidity position comfortable given the size of the bank and its growth prospects. In December 2020, liquid assets were approximately BRL 2.5 billion and covered 57% of customer deposits and other short-term funding.

Despite the sale of Caixa's stake in PAN, Fitch believes the reduction of funding lines from Caixa will be gradual and will not cause any disruption risk, allowing the bank to replace these resources with market funding and customer deposits.

RATING SENSITIVITIES

IDRs, NATIONAL RATINGS and SUPORT RATING

Factors that could, individually or collectively, lead to negative rating action/downgrade:

A weakening in the propensity of BTG to provide support to PAN, which currently is not Fitch's base case scenario.

Factors that could, individually or collectively, lead to positive rating action/upgrade:

As PAN's IDRs have a Negative Rating Outlook, in line with its parent's IDR and those of the sovereign, an upgrade is highly unlikely in the short term.

Over the medium term, a positive rating action on the sovereign combined with a sustained recovery in the macroeconomic environment, including a reduction in the vulnerabilities of the Brazilian economy, could trigger a revision of the IDR's Rating Outlook to Stable.

VR

Factors that could, individually or collectively, lead to negative rating action/downgrade:

A downgrade of the sovereign.

Severe deterioration in PAN's asset quality or profitability ratios leading to a sustained decline in the bank's operating profit-to-RWA ratio below 2.5%.

A sustained deterioration in the bank's capitalization (e.g. its CET1 ratio falls below 12%).

Factors that could, individually or collectively, lead to positive rating action/upgrade:

Given the Negative Rating Outlook on the bank's IDRs, the likelihood of an upgrade is limited.

BEST/WORST CASE RATING SCENARIO

International scale credit ratings of Financial Institutions and Covered Bond issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

PUBLIC RATINGS WITH CREDIT LINKAGE TO OTHER RATINGS

PAN's ratings are driven by BTG's ratings.

ESG CONSIDERATIONS

Fitch has revised PAN's ESG Relevance Score for Governance Structure to '3' from '4' due to Fitch's view that, following BTG's acquisition of Caixa's stake, PAN's organizational structure has become less complex and reduced potential risks to the implementation of certain corporate strategies stemming from PAN's previous joint venture organizational structure model, which is credit-neutral or has only a minimal credit impact on the entity.

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg.

RATING ACTIONSENTITY/DEBT	RATING		PRIOR
Banco PAN S.A.	LT IDR	BB- 	Affirmed		BB-
	ST IDR	B 	Affirmed		B
	LC LT IDR	BB- 	Affirmed		BB-
	LC ST IDR	B 	Affirmed		B
	Natl LT	AA(bra) 	Upgrade		A+(bra)
	Natl ST	F1+(bra) 	Upgrade		F1(bra)
	Viability	bb- 	Affirmed		bb-
	Support	3 	Upgrade		4

VIEW ADDITIONAL RATING DETAILS

Additional information is available on www.fitchratings.com

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