Fitch Ratings has downgraded Provident Financial plc's (Provident) Long-Term Issuer Default Rating (IDR) and senior unsecured long-term debt rating to 'BB' from 'BB+'.

The Outlook on Provident's Long-Term IDR is Negative.

KEY RATING DRIVERS

The downgrade principally reflects Fitch's expectations that Provident's consumer-credit division (CCD) will not return to profitability in the medium term due to impact from the pandemic and increasingly restrictive regulation in the high-cost credit sector. As a result, Provident's franchise and business model will be less diversified as it will continue to rely on its non-standard credit-card subsidiary (Vanquis Bank Limited) and car-finance business unit (Moneybarn) for revenue and profit generation. Consequently, Fitch has revised Provident's company profile score to 'bb' from 'bb+'.

Provident's ratings also consider Vanquis Bank's and Moneybarn's historically sound profitability, adequate capitalisation and liquidity profile and franchise strength in the non-standard credit-card and car-finance markets in the UK. The ratings also reflect the group's moderate scale (compared with higher-rated non-bank lenders' and UK challenger bank peers'), inherently high credit impairments and ongoing exposure to regulatory and political developments in the UK non-standard credit markets.

CCD reported a GBP38 million pre-tax loss in 1H20. Lockdown measures severely impacted group's ability to underwrite new business since 2Q20 and this, in conjunction with a rapid amortisation of the performing loan book, resulted in a reduced earnings base and customer numbers, thus weakening CCD's franchise. Despite management's stated focus on improving collection performance, reduced underwriting volumes will, in Fitch's view, likely negatively affect the outlook for CCD in the medium term.

In addition, regulatory developments in 2H20, in particular the Financial Conduct Authority's review on 're-lending by high-cost lenders', have, in Fitch's view, made it considerably more challenging for Provident to restore meaningful profitability in its CCD business. In its 3Q20 trading update Provident noted that they are carrying out an operational review of CCD's business. Fitch expects sub- and near-prime credit markets in the UK to continue to be subject to a high risk of regulatory and political measures, which could either limit business growth or have financial implications for market participants.

Vanquis Bank's and Moneybarn's performance worsened in 2Q20, primarily driven by increasing impairment charges. However, Fitch expects the two divisions' performance to have improved in 2H20 as a result of recovering lending volumes and lower impairment charges. In the longer term, we expect Provident's lending yield to narrow as the group migrates towards a lower-risk product mix. Positively, decreasing impairment charges should support its risk-adjusted margin and overall profitability.

Provident's wholesale borrowing declined in 2020 following the GBP150 million repayment, including GBP75 million tender offer of 2023 bonds. Provident is subject to regulatory capital requirements at both the group and Vanquis Bank level. The group's headroom relative to minimum regulatory capital requirement remained adequate in Fitch's view. This was helped by the amortisation of the loan portfolio coupled with regulatory forbearance including the abolition of counter-cyclical buffers and a postponed phasing in of capital charge from the IFRS 9 transition. Provident's regulatory capital requirement is high, particularly compared with UK high street banks'. While we expect management to continue to maintain adequate headroom of capital above requirements, we expect leverage to increase as the operating environment recovers.

Provident's funding base is well-diversified and includes retail deposits (at Vanquis Bank) as well as various wholesale funding sources. The group has manageable wholesale repayment needs in 2021 and 2022 of GBP98 million and GBP186 million respectively. Provident has a sound record in accessing a variety of funding markets in challenging market conditions, including recent placements in early 2021. Retail deposits at Vanquis Bank provide further stability to Provident's funding mix.

The ratings of Provident's senior unsecured notes are in line with the group's Long-Term IDRs, reflecting Fitch's expectation of average recovery prospects.

ESG - Social Impacts: Provident has an ESG Relevance Score of '4' each for Exposure to Social Impacts and Customer Welfare stemming from a business model focused on high-cost consumer lending. This exposes the group to shifts of consumer or social preferences and to increasing regulatory scrutiny, in particular on loans to low-income individuals. This has a moderately negative influence on the pricing strategy, product mix, and targeted customer base.

RATING SENSITIVITIES

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

Further adverse developments from the pandemic or regulatory developments in the UK high-cost credit sector.

Prolonged measures capping interest rates, constraining new lending or debt servicing and therefore eroding earnings capacity.

Significant deterioration of solvency as manifested in reduced regulatory capital headroom with capital ratio approaching regulatory capital requirement.

A notable weakening of liquidity profile.

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

The Outlook on the Long-Term IDR could be revised to Stable if pandemic-related disruptions abate and regulatory risks moderate, supporting a more stable business model, particularly if in conjunction with improved earnings and stable leverage.

Upside for the ratings is limited in the short term due to moderate scale (compared with higher-rated peers') and Fitch's unfavourable view on near-term prospects for the UK non-standard credit markets.

The senior unsecured debt ratings are principally sensitive to a change in Provident's Long-Term IDR and material changes to Fitch's recovery expectations for the bonds.

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.

ESG CONSIDERATIONS

Provident has an ESG Relevance Score of '4' each for Exposure to Social Impacts: and Customer Welfare - Fair Messaging, Privacy & Data Security. This is driven by its exposure to shifts of consumer or social preferences or to regulatory measures. This has a negative impact on the credit profile and is relevant to the rating in conjunction with other factors.

On other ESG credit relevance scores the highest level is a '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
Provident Financial Plc	LT IDR	BB 	Downgrade		BB+

senior unsecured

LT	BB 	Downgrade		BB+

VIEW ADDITIONAL RATING DETAILS

Additional information is available on www.fitchratings.com

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