August 24, 2017 / 3:15 PM / in a year

Fitch Downgrades Provident to 'BBB-'; Places on Watch Negative

(The following statement was released by the rating agency) LONDON, August 24 (Fitch) Fitch Ratings has downgraded Provident Financial plc's (PFG) Long-Term Issuer Default Rating (IDR) and senior unsecured debt ratings to 'BBB-' from 'BBB'. At the same time, PFG's Long-Term IDR and senior unsecured debt rating have been placed on Rating Watch Negative (RWN). On 22 August 2017 PFG issued an unscheduled trading update, in which it announced significant disruption to its home-collected credit operations and revised its FY17 earnings guidance for the home credit business to a pre-exceptional loss of GBP80 million-GBP120 million from a GBP60 million pre-exceptional profit. The group also announced the resignation of its Chief Executive and disclosed a Financial Conduct Authority (FCA) investigation into the repayment option plan (ROP) product sold by one of its other businesses, Vanquis Bank. KEY RATING DRIVERS IDR AND SENIOR DEBT The downgrade reflects the adverse effect of the announced disruption on our view of the stability of PFG's business model, the robustness of its franchise in home credit and management's previously strong track record in meeting business and financial objectives and generating stable and dependable group earnings. The disruption also demonstrates weaknesses in operational processes and strategic change execution, and the resultant financial impact reduces PFG's funding and covenant headroom, although this remains acceptable in the near term. The RWN reflects our view that PFG's Long-Term IDR and debt rating could be downgraded further if the underperformance in the home credit business is not adequately remedied in the short term, leading to potential further pressure on the group's franchise position, asset quality, earnings or access to funding. PFG operates in the non-standard lending market, serving customers whose access to credit is otherwise limited. The significant inherent exposure to asset impairment in this market segment is mitigated by wide lending margins and acceptable levels of leverage, notwithstanding that debt-to-tangible equity at end-1H17 had increased to 3.3x, from 2.9x at end-FY16. PFG has traditionally distributed a significant level of its earnings to shareholders via dividends and had maintained a commitment to dividend cover of at least 1.25x. In the light of the trading update, the group has now withdrawn the interim dividend declared alongside 1H17 results on 25 July (at an unchanged level from prior year) and indicated that a full-year dividend is unlikely. FY16 dividends totalled GBP196 million, so the absence of such distributions substantially reduces the earnings impact on capitalisation and leverage. Fitch does not expect significant near-term growth in the loan book while PFG focuses on resolving its internal issues. The consumer credit division (CCD; principally the home credit business) is only one of PFG's three core business lines (33% of pre-tax profit before central cost allocation in FY16), alongside Vanquis Bank (credit cards; 58%) and Moneybarn (non-standard car finance; 9%). Each of the three has a leading UK market share, and this week's FY17 loss guidance for the home credit business is below FY16's combined earnings from the other two divisions. The trading update reports that the performance of Vanquis Bank and Moneybarn remains in line with internal plans, but the group has also now disclosed the FCA's investigation into Vanquis Bank's ROP product, and that since April 2016 it has voluntarily suspended new ROP sales. From previous sales ROP continues to generate per annum approximately GBP70 million (or around 12%) of gross revenue before impairment and costs. PFG's near-term liquidity is supported by the cancellation of the FY17 interim dividend, and by the committed nature of the majority of the group's funding. Vanquis Bank's deposits (GBP941 million at end-FY16) are all term in nature, with average maturity of 2-3 years, and PFG's GBP450 million revolving credit facility was earlier this year extended to 2020, limiting 2017/2018 maturities to a GBP120 million retail bond and a GBP35 million private placement (and individual deposits within Vanquis Bank). The short-term nature of much of the group's lending also means that, subject to adequate collections performance, it can if necessary generate cash more quickly than most finance companies by shrinking its loan book. The projected 2017 loss in PFG's home credit business and the PRA consent required to upstream dividends from Vanquis Bank to PFG have in our view weakened the parent's funding and liquidity profile and reduced available headroom relative to its covenants, notably in respect of net worth excluding Vanquis Bank. However, near-term liquidity remains supported by the cash-generative nature of PFG's businesses and the potential to increase retail deposit funding and repay the intra-group loan from PFG to Vanquis Bank. RATING SENSITIVITIES IDR AND SENIOR DEBT Ratings could be downgraded should FY17 home credit losses escalate beyond the guidance announced this week or there be significant further delay in returning collections performance from the 57% reported currently towards 2016's 90%. Permanent damage to PFG's home collection franchise, resulting in a more concentrated business model and revenue mix largely depending on Vanquis Bank's near-prime credit card business, could also be rating-negative. If the FCA investigation into Vanquis Bank's ROP product should conclude with adverse financial or reputational consequences for PFG, this could also have a negative impact on the ratings. Significant deterioration in asset quality, a rise in leverage above management's stated appetite, and an increase in the confidence sensitivity of the group's funding all also remain negative sensitivities. The IDR could be affirmed if the FCA investigation is completed without material cost to the group and the business model change concludes without significant further deterioration in expected earnings or erosion of the group's franchise or hitherto diversified and resilient business model. Depending on the pace at which these potential developments progress, the resolution of the RWN could be accompanied by a Negative Rating Outlook before a Stable Outlook is attained. Contact: Primary Analyst David Pierce Director +44 20 3530 1014 Fitch Ratings Limited 30 North Colonnade London E14 5GN Secondary Analyst Silvana Gandolfo Associate Director +44 20 3530 1301 Committee Chairperson Christian Kuendig Senior Director +44 20 3530 1399 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: Additional information is available on Applicable Criteria Global Non-Bank Financial Institutions Rating Criteria (pub. 10 Mar 2017) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here Solicitation Status here Endorsement Policy here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. 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