September 25, 2017 / 1:26 PM / in 10 months

Fitch: No Immediate Rating Impact from Paragon's Reorganisation

(The following statement was released by the rating agency) LONDON, September 25 (Fitch) The announcement by Paragon Banking Group PLC (formerly The Paragon Group of Companies PLC; Paragon; BBB-/Stable) that it has transferred the bulk of its assets to Paragon Bank PLC, its fully-owned bank subsidiary, has no immediate rating implications, Fitch Ratings says. While full details of the reorganisation are not yet available, materially increasing the size of Paragon Bank facilitates capital management and highlights Paragon's strategy to increase the share of retail deposits in its funding mix. It also means that double leverage and standalone liquidity management at Paragon will become more important, given the greater proportion of assets within the bank's regulatory ring-fence, and the potential in such a situation for counterparties of a parent company to be disadvantaged relative to those of a bank subsidiary. Paragon announced on 21 September that following regulatory approval, it had sold its investments in Paragon Finance PLC, the group's principal mortgage servicing business as well as a number of legacy loan origination companies to Paragon Bank. Only Idem Capital, Paragon's debt purchasing subsidiary, and "certain other, non-material, entities" will remain outside the bank. According to management, all of Paragon's lending activities as well as the group's SPVs will be consolidated into the bank, and all of the group's staff are now employed by Paragon Bank or one of its operating subsidiaries. As a result of this reorganisation, Paragon Bank will account for a materially higher share of group pre-tax profit (19% in 1H17) and group assets (23% at end-1H17) and Paragon is now effectively a bank holding company with few activities (principally Idem Capital) not supervised by the Prudential Regulation Authority (PRA). However, due to its bank subsidiary, Paragon had already been subject to PRA capital requirements at group level prior to the reorganisation and Paragon's current ratings already factor in the group's robust common equity Tier 1 ratio (15.9% at end-2016). In our most recent rating action commentary (see "Fitch Affirms Paragon at 'BBB-'; Outlook Stable") published on 13 April 2017, we identified an increase in double leverage at the parent company as a key sensitivity for Paragon's rating, stating "this would become particularly relevant if revenue and assets from regulated (and hence effectively ring-fenced) entities, notably the bank, increased as a proportion of group revenue and assets". At the last financial year-end (30 September 2016), double leverage calculated by reference to 'Investment in subsidiary undertakings' on the unconsolidated parent company balance sheet stood at 137%. While this exceeded the 120% threshold for double leverage that Fitch typically regards as high, excluding amounts which were loans rather than equity reduced the ratio to 72%. Following the reorganisation, significant double leverage at Paragon could lead Fitch to differentiate between the credit strengths of the parent and the bank subsidiary, in particular if this is not mitigated by robust standalone liquidity management at the parent company. Fitch rates Paragon under its "Global Non-Bank Financial Institutions Rating Criteria". Following the reorganisation, Fitch will assess if Paragon should be rated under its "Global Bank Rating Criteria" to reflect the material increase in bank assets relative to the group. Any change in rating criteria would not have an immediate impact on Paragon's ratings. 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