stable north american development bank - aa1 · long-term issuer aa1 sta short-term issuer p-1...

SOVEREIGN AND SUPRANATIONAL

ISSUER IN-DEPTH13 June 2019

RATINGS

NADBRating Outlook

Long-term Issuer Aa1 STA

Short-term Issuer P-1 --

TABLE OF CONTENTSOVERVIEW AND OUTLOOK 1Organizational structure and strategy 2CREDIT PROFILE 3Capital adequacy: High 3Liquidity: High 8Strength of member support: High 10Rating range 13Comparatives 14DATA AND REFERENCES 15

Contacts

Ariane Ortiz-Bollin [email protected]

Fernando Freijedo +1.212.553.1619Associate [email protected]

Mauro Leos +1.212.553.1947Associate Managing [email protected]

North American Development Bank - Aa1stableAnnual credit analysis

OVERVIEW AND OUTLOOKThe credit profile of the North American Development Bank (NADB, Aa1 stable) reflects thebank’s high capital adequacy and liquidity, low leverage, and strong support from the US(Aaa stable) and Mexico (A3 negative). These strengths are offset by a narrow geographicalmandate that contributes to a more concentrated loan portfolio than its multilateraldevelopment bank (MDB) peers and to member concentration risks.

Following an expansion in the bank's loan portfolio in 2012-16, particularly in the renewableenergy sector, its capital adequacy ratio deteriorated. But as lending moderated significantlyin 2017-18, the ratio stabilized at 50% and is in line with the 'Aa' median. The NADB's growthstrategy for 2019-22 envisions a moderate expansion of its loan portfolio, implying only asmall deterioration in capital adequacy metrics going forward.

The NADB's strong liquidity position reflects a substantial amount of high-quality liquidassets against debt obligations, as well as a sound liquidity policy. This strength is balancedagainst a relatively small and new bond issuance program. Regardless, the bank has a proventrack record of accessing the markets, even during periods of heightened market volatility.

The high strength of member support reflects continued strong commitment by its twoshareholders, Mexico and the US, despite recent changes in foreign and trade policy betweenthe two countries and the noisy political environment. Recent indications that signal USwillingness to begin paying its agreed share of paid-in capital, following the capital increaseof 2015, confirm that our assessment of willingness to support the institution remainsunchanged. Notwithstanding the aforementioned strengths, NADB's shareholder base ishighly concentrated, with an equal split between its two members.

Upward pressure on the credit profile could arise from a significant and sustainedimprovement in the average borrower credit quality of the bank's loan portfolio and areduction in portfolio concentration risks or a mitigation of these risks through significantlylarger capital buffers and lower leverage. Conversely, downward pressure could arise from asignificant deterioration in asset quality or from a deterioration in the strength of membersupport, either through a materially lower weighted median shareholder rating or if therewere evidence of a shift in willingness to support the institution by either of its members.

This credit analysis elaborates on NADB's credit profile in terms of capital adequacy, liquidityand strength of member support, which are the three main analytical factors in Moody’sSupranational Rating Methodology.

http://www.surveygizmo.com/s3/1133212/Rate-this-research?pubid=PBC_1180325

https://www.moodys.com/credit-ratings/North-American-Development-Bank-credit-rating-807445744

https://www.moodys.com/credit-ratings/United-States-of-America-Government-of-credit-rating-790575

https://www.moodys.com/credit-ratings/United-States-of-America-Government-of-credit-rating-790575

https://www.moodys.com/credit-ratings/Mexico-Government-of-credit-rating-489500

https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1137185

MOODY'S INVESTORS SERVICE SOVEREIGN AND SUPRANATIONAL

Organizational structure and strategy

Headquartered in San Antonio, Texas, the Bank was established in 1994 under the Agreement Between the Government of the UnitedStates of America and the Government of the United Mexican States, concerning the Establishment of a Border Environment CooperationCommission and a North American Development Bank. The Border Environment Cooperation Commission (BECC) evaluated thetechnical feasibility and environmental impact of projects to be financed by NADB, although the commission has been absorbed bythe NADB in recent years. In March 1994, the President of the United States issued an Executive Order designating the Bank as ininternational organization under the International Organization Immunities Act.

The Bank’s main activity is its International Program, through which it provides loans, grants, and technical assistance and trainingto border municipalities and private sector companies in both Mexico and the US. The Bank also contributed funds from its equityto the US’s and Mexico’s Domestic Programs, which are dedicated to community adjustment and investment and are administeredindependently. As of 31 December 2018, the US Domestic Program was closed. The remaining cash of $107,894 is committed to payfor retiree health insurance plan benefits and outstanding liabilities that will be liquidated by the Bank.

The International Program’s loans are the focus of our credit analysis because it inherently exposes the largest portion of the Bank’sassets in both Mexico and the United States to credit risk, which has the potential to impact the Bank’s ability to service its debt ifnot properly mitigated. To facilitate lending to Mexican borrowers primarily in the public sector, the Bank has one subsidiary of whichit owns 99.90%, Corporacion Financiera de America del Norte (COFIDAN). The Mexican government owns the remaining 0.10% ofCOFIDAN.

Capital structure

Mexico and the US equally subscribed to NADB’s total initial capital of $3 billion, with $450 million paid-in and the remainder callable.Of the paid-in portion, 90% was for the Bank’s main loan program (environmental or international program) and 10% was transferredto the general reserve for its secondary loan program (domestic programs). Therefore, the effective paid-in capital that we use in ourmeasures of capital adequacy is the $405 million portion for the international program. The callable portion of the capital can only beused to service the Bank’s debt or to make similar payments on loans that it guarantees. The Bank has no guarantees outstanding anddoes not foresee to have a balance in the near term. As such, the callable capital provides considerable protection to bondholders andis a factor in our assessment of the Bank's creditworthiness.

In January 2015, the Board of Directors of NADB announced the support of the governments of the US and Mexico for a generalcapital increase of $3 billion for the Bank, which doubled the subscribed capital to $6 billion. Additional paid-in capital was agreedat $450 million, with total paid-in capital reaching $900 million when the capital increase concludes – the capital increase would beapportioned during an estimated period of seven years. Even though both countries have pledged to take their individual paid-in capitalto a total of $450 million by 31 December 2022, only Mexico has made an initial contribution of $10 million. Mexico’s total paid-incapital was $235 million, while the US’s total paid-in capital was $225 million as of 31 December 2018. Our financial ratio forecastscontinue to assume the current capital structure until we have more certainty on the timing and the magnitude of the contributions.

2 13 June 2019 North American Development Bank - Aa1 stable: Annual credit analysis


CREDIT PROFILEOur determination of a supranational’s rating is based on three rating factors: capital adequacy, liquidity and strength of membersupport. For multilateral development banks, the first two factors combine to form the assessment of intrinsic financial strength,which provides a preliminary rating range. The strength of member support can provide uplift to the preliminary rating range. For moreinformation please see our Supranational Rating Methodology.

Capital adequacy: High

Scale

+ -

Capital adequacy assesses the solvency of an institution. The capital adequacy assessment considers the availability of capital to

cover assets in light of their inherent credit risks, the degree to which the institution is leveraged and the risk that these assets

could result in capital losses.

Very LowVery High High Medium Low

Factor 1

NADB’s 'High' capital adequacy assessment balances a strong capital position, moderate leverage relative to peers and good assetquality with high concentration risk stemming from the Bank’s mandate, given that it only operates in two countries. Since the recent(2017-18) moderation in loan growth and the loan and funding plans for 2019-22, we expect capital and leverage ratios to remainrelatively stable in the medium term.

Loan portfolio remained stable in 2018, following rapid growth since 2012Despite its 20-year history, the Bank historically focused on its grant operations such that the loan portfolio was small, with loansoutstanding averaging 22.4% of total assets in 2003-08. Since 2012 the Bank has transitioned to become a larger lender givensignificant and rapid loan growth; gross loans outstanding at the end of 2018 amounted to 65% of total assets.

In 2012-16 the loan book expanded rapidly, particularly in the renewable energy sector. Record loan growth in 2012 was a result ofmarket expectations that fiscal incentives for US solar and wind companies would expire in 2012, which led companies to front-loadfinancing for projects before expiration. In the years that ensued, solar and wind generation projects continued to drive NADB’s lendinggrowth through 2016. In 2017, industry consolidation in renewable energy led to lower interest costs and a greater availability offinancing alternatives for established players. As a result, companies that could borrow at lower interest rates prepaid their outstandingloans with NADB. This led to a decline in gross outstanding loans in 2017. Loans into the energy sector recovered somewhat in 2018,growing by 5% to $961 million, but the overall loan portfolio contracted slightly again (see Exhibit 1). Loans to infrastructure, inparticular to projects in water and wastewater management, reported a decline last year.

Exhibit 1

Gross outstanding loans by sector($ million left axis, total $ per sector displayed in columns)

57

505639

775925 1004 916 961

234

231

254

275

281297

282 237

137

134

119

136

118111

96 87

-100

100

300

500

700

900

1100

1300

1500

2011 2012 2013 2014 2015 2016 2017 2018

Energy Infrastructure Environment

Source: NADB




Based on the pipeline of committed loans planned for disbursement in 2019-22, the Bank expects loan growth of 12% in 2019(recovering from two years of contraction), before moderating to 6% in 2020 and to around 3% in subsequent years barring newcapital payments from members.

The Bank’s institutional lending policy restricts loans and guarantees to the Bank’s subscribed capital, unimpaired reserves, andundistributed surplus. In practice, this threshold is unlikely to be reached due to the Bank’s debt limit, which limits the outstanding debtstock to 100% of callable capital plus the minimum liquidity level set by the liquidity policy.

Concentration risk stems from binational mandateAs a result of their mandate, regional MDBs tend to face a high degree of geographical concentration risk in their loan portfolios.Relative to all other Moody’s-rated MDBs, NADB faces the highest degree of risk in this regard because it only operates in twocountries, and those two countries fall within a 400 kilometer north-south bank, which adds an additional element of concentration,despite the Bank lending in various sectors and private entities as its mandate allows.

At year-end 2018, 73% of outstanding International Program loans were extended in Mexico (see Exhibit 2). Larger loans in therenewable energy sector also point to borrower concentration within the portfolio (see Exhibit 3). By borrower type, 78% of loans arein the private sector, 15% in the public sector and the remaining 7% in public-private partnerships (see Exhibit 4). Although lendingby sector may at first appear concentrated, we consider that risks are somewhat mitigated by the fact that there is a relatively lowcorrelation between performance in the sub-sectors. Moreover, the share of top 10 exposures in the portfolio has been steadilydeclining to 46% at year-end 2018 from over 78% in 2012. As the Bank continues to expand its operations, the share of top 10exposures from the total lending portfolio will continue to decline.

Exhibit 2

Loan portfolio by country($ million and % of total)

Exhibit 3

Loan portfolio by sector(% of loans outstanding, 2018)

Exhibit 4

Loan portfolio by borrower type(% of loans outstanding, 2018)

66% 39% 34%39%

51%56% 63%

73%

34%

61%66%

61%

49%

44%37%

27%

0

200

400

600

800

1,000

1,200

1,400

1,600

2011 2012 2013 2014 2015 2016 2017 2018

Mexico US

Source: NADB

Enviroment7%

Energy -Solar25%

Energy -Wind52%

Energy -Other0%

Public Transport3%

Wateworks13%

Source: NADB

Private-Public7%

Public15%

Private78%

Source: NADB

Strong capital position supported by ample coverage of risky assetsThe rapid growth of the NADB’s loan portfolio eroded the Bank’s capital adequacy ratio (usable equity as a percent of gross loansoutstanding and equity operations) to a low point of 43% in 2015-16. The subsequent dip and stabilization of the loan portfolio indollar terms has led to an improvement it the ratio, which reached 51% in 2018.

Compared to peers, the capital adequacy ratio is in line with the median for Aa-rated entities, which averaged 50% in the last threeyears. NADB’s capital adequacy ratio compares favorably to that of Aa1-rated Council of Europe Development Bank (CEB), which is20% and is comparable to that of Corporacion Andina de Fomento (CAF, Aa3 stable). That said, the ratio compares unfavorably tomost Aa1-rated peers, whose scores are significantly above 50% and score at Very High (see Exhibit 5). Nevertheless, we expect thecapital adequacy ratio to stabilize around current levels, remaining high.


https://www.moodys.com/credit-ratings/Council-of-Europe-Development-Bank-credit-rating-207477

https://www.moodys.com/credit-ratings/Corporacion-Andina-de-Fomento-credit-rating-600010751


Exhibit 5

Asset coverage remains in line with Aa-rated peers(%, 3-year average)

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

80.0

90.0

100.0

FLAR (Aa2) IIC (Aa1) ESM (Aa1) CDB (Aa1) Aa Median APICORP (Aa3) NADB (Aa1) CAF (Aa3) CEB (Aa1) Eurofima (Aa2)

Very High

High

Medium

Note: Asset coverage ratio is calculated as usable equity divided by total development-related exposure. Data used for APICORP and ESM is 2015-17. All other entity data is 2016-18.Median computed using latest available data.Source: Moody’s Investors Service

NADB’s borrower quality assessments improved with the establishment of an internal rating systemThe credit quality of the Bank’s borrowers deteriorated slightly over the past few years given greater lending to the private sector. Theshare of loans to private enterprises inched up to 78% in 2018, from 60% in 2012. Borrower quality is 'moderate,' which reflects: i) therelatively large size of loans to the private sector that historically were considered by NADB as “Not Rated,” and ii) the higher share ofloans to Mexican state and local governments relative to higher-rated US public entities.

Since May 2017, NADB’s internal risk department has developed and implemented 12 methodologies to assess the credit riskof its loan portfolio, based on a review of their historical credit rating standards, Basel II IRB approaches, credit rating agencies'methodologies, industry best practices as well as current regulatory aspects. The ratings are reviewed once a year and presented tothe Operations Committee. Depending on performance, a loan may be reviewed more than once in a year. Exhibit 6 lists the Bank'sinternal methodologies and the number of loans that map to each methodology.

Exhibit 6

Loans according to internal methodology used to asses them

Internal Credit Rating Methodology No. of Loans

Introducing ESG Scores for Internal Credit Ratings Applies to all loans

Clean Energy Project Finances Loans (Solar & Wind) 23

Amendment to Internal Credit Risk Rating Methodology for Public Sector Loans 16

Public Sector Loans (State and Municipalities) 7

Public Sector Loans (Water Utilities) 7

Rating for Projects under Construction 5

US Public Sector Loans (Revenue Bonds) 4

Public Private Partnerships in Operation 3

Revolving Lines of Credit granted to Non-Banking Financial Institutions 2

Availability-Based Infrastructure Loans 1

Methodology for Biogas and Biomass to Energy 1

Corporate Criteria Parent /Subsidiary Links [In process] 1

TOTAL 70

Source: NADB

Since 2018 was the first year when the NADB applied their internal methodology to the lending portfolio, the bank was able tomap most of its portfolio to a rating, compared to previous years when over two-thirds of the portfolio was unrated. As a result, the



Weighted Average Borrower Rating at year-end 2018 was Baa3, an improvement from the Ba3 registered at year-end 2017 when mostof the loans were unrated and we assigned a B2 rating to them by default. The share of unrated loans has dropped to just over 3%.

Last year’s improvement in borrower quality had an effect on the three-year average of the Weighted Average Borrower Rating, whichdetermines the sub-factor score for borrower quality. The three-year average improved to Ba2 at year-end 2018 from Ba3 at year-end2017. We expect the Bank to retain its current lending practices and borrower quality to continue to improve, measured by the three-year average of the Weighted Average Borrower Rating. Even in the event of a deterioration in borrower quality, we do not expect theweighted average borrower rating to drop from the current Baa3 level and return to the Ba3 registered when most of the portfolio wasunrated.

Leverage has risen to levels similar to peersThe Bank did not issue debt until its lending activity began to increase significantly in the late 2000s. It first issued debt in 2010, witha $250 million inaugural 10-year bond, followed by two bonds and one reopening in 2012 and one bond in October 2013. Since then,the NADB has expanded its funding base by issuing two Swiss Franc bonds in 2015 and 2017, and a Norwegian Krone bond in 2017.The Bank issued another Swiss Franc bond in 2018. This issuance, coupled with the maturity of a $300 million bond, brought theBank’s total bond debt to $1,272 million, from $1,178 million at year-end 2017. Additionally, in November 2012 the Bank signed a loancommitment with another development bank to borrow up to $50 million to fund eligible projects in Mexico. This loan amortizessemiannually, the first principal payment was paid on 30 December 2015 and the final principal payment is payable on 30 December2024. As of year-end 2018, NADB had $31.6 million under this facility, down from $36.8 million at year-end 2017.

With regards to the Bank’s capital available to protect bondholders, in 2018 debt represented 196% of usable equity (paid-in capital+ accumulated comprehensive income + reserves), a decrease from 233% in 2017. This metric is somewhat higher (worse) comparedto other Aa-rated MDBs (see Exhibit 7), but stronger than Aa-rated peers like the CEB and Eurofima (Aa2 stable). Although we expectNADB to continue to actively issue debt, leverage will remain moderate and comparable to other MDBs in terms of capital coverage,with the debt-to-equity ratio around 200% through 2022.

Exhibit 7

Debt as % of usable equity (3-year average)

0

100

200

300

400

500

600

Eurofima (Aa2) CEB (Aa1) NADB (Aa1) CAF (Aa3) ICD (A2) Aa Median APICORP (Aa3) ESM (Aa1) IIC (Aa1) FLAR (Aa2)

Very High

High

Medium

Note: Useable equity is defined as paid-in capital + accumulated comprehensive income + reserves. Debt to equity was 665% and 1058% for CEB and Eurofima, respectively. Data used forAPICORP and ESM is 2015-17. All other entity data is 2016-18. Median computed using latest available dataSource: Moody's Investors Service

To ensure that debt will not exceed prudential limits, the board established a debt limit policy in 2012 whereby the Bank’s totaloutstanding debt stock is not to exceed total callable capital plus the minimum liquidity level required by the Bank’s liquidity policy.Previously, debt increases had to be authorized annually by the board. Although the annual authorizations will still take place, the newinstitutional debt limit is one example of management’s awareness of the increasing risks that accompany larger operations and itsefforts to increase governance and risk management in tandem with lending activity.

Nonperforming loans remain stable in 2018 and will come down in 2019 following repaymentAt year-end 2018 there was a single $14 million loan placed in nonaccrual status, with the Bank classifying it internally as “SpecialMention” (see Exhibit 8). As a result, nonperforming loans were 1.1% of total. Bank authorities consider this loan as nonperforming and


https://www.moodys.com/credit-ratings/Eurofima-credit-rating-207465


we have accounted for it as such. The nonperforming loan was due to project management problems at the construction company thattook out the loan, and the NADB stepped in to help the company navigate these management issues. There was no loss of principalpayments and the loan is now performing again, generating revenue and paying interests. The Bank expects that as payments becomecurrent the loan will be taken off nonaccrual status later this year.

Provisions as a percentage of gross loans – at 1.5% at year-end 2018 – have decreased slightly since peaking at 1.8% in December2016. Reserve coverage strengthened after the Bank implemented a new general allowance practice. Previously it only made specialallowances for troubled loans; the increased provisioning practice brings the Bank in line with most other MDBs. Going forward, weexpect nonperforming loans as a percentage of gross loans to remain low and around current levels, given the moderation in loangrowth and the improved risk management.

Exhibit 8

Nonperforming loans remain stable

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

100

300

500

700

900

1,100

1,300

1,500

2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Gross Loans (US$ Mil, LHS) NPL Ratio: Non-Performing Loans as % of Gross Loans (RHS)

Sources: NADB financial statements and Moody’s Investors Service



Liquidity: High

Scale

+ -

Low Very Low

A financial institution’s liquidity is important in determining its shock absorption capacity. We evaluate the extent to which liquid

assets cover debt service requirements and the stability of the institution’s access to funding.

Very High High Medium

Factor 2

The 'High' score for liquidity considers the Bank’s very strong liquidity position and its proven market access during periods financialmarket turmoil despite its relatively new and small bond issuance program.

Liquid assets follow conservative practicesThe Bank’s liquid assets follow conservative practices to preserve value and minimize risk. The average maturity of treasury assets was1.16 years as of December 2018. Exhibit 9 below is a breakdown of investment allocations and the Bank’s policy guidance for liquidity.

Exhibit 9

NADB's treasury assets investment allocations and policy guidelinesPortfolio as of December 2018

Sector Type Sector Guidelines[1] Portfolio on 31 December 2018

US Treasury Securities 25% 45.33%

United Mexican State (UMS) 30% 2%

US Agency Securities 45% 19%

US Agency Mortgage-backed Securities 15% 0%

Taxable Municipals 25% 0%

Other Permissible Securities[2] 30% 33%

Total 100%

[1] Minimum level for US Treasury securities; maximum level for all other sectors.[2] Other permissible securities include corporate bonds (24.02%), corporate asset-backed securities (6.47%), commercial paper (1.96%), and certificates of deposit (0.32%).Source: NADB

Liquidity remains ampleThe Bank started issuing bonds in 2010. Amortization of the Bank’s debt stock in 2019 is scheduled to be just over $5 million, a figuredwarfed by the Bank’s liquid assets at year-end 2018 ($799 million). We expect the ratio between maturing debt and liquid assets toworsen in 2020 as a $250 million note issued in 2010 comes due, before improving again in 2021 as liquid assets remain high and nobonds mature in that year (see Exhibit 10). Even though at this time the NADB does not plan to issue a bond in 2019, the Bank mayend up deciding to issue a bond this year to refinance the upcoming payment due in 2020.

NADB’s liquidity policy requires that “the minimum amount of aggregate liquid asset holdings is equal to the highest consecutive 12months of the following 18 months of expected debt service obligations, plus committed net loan disbursements (if positive), plusprojected operating expenses for the relevant fiscal year.” The Bank determines a minimum amount prior to the beginning of the fiscalyear and can revise it during the year to account for major changes in the outlook.

As a result, the debt service coverage ratio (short-term debt and currently maturing long-term debt as a percent of liquid assets) scores'Very High' and compares very favorably to peers, with the ratio at only 0.7%. The debt service coverage for most 'Aa' peers is above25%. The policy effectively implies that the debt service coverage ratio should never go above 100%, meaning the Bank should alwaysscore at least 'High' for this indicator. In addition, the Bank’s investment policy for treasury assets is conservative, with the discountingthat we apply to the denominator of the debt service coverage ratio based on the credit quality of treasury assets not resulting in asignificant reduction.



Exhibit 10

Amortization schedule of outstanding bonds($ million)

0

50

100

150

200

250

300

350

400

450

500

2019 2020 2021 2022 2023 2024-2029 2030 and onward

Sources: NADB and Moody’s Investors Service

Another factor supporting the long-term strength of the Bank’s strong liquidity position is that one of its reserve funds is a debt servicereserve fund. It falls first in the order of priority for funding of any of the Bank’s reserve funds and is maintained in an amount equalto 12 months of interest due on the Bank’s outstanding debt at each fiscal year-end. This complements the liquidity policy and is apositive development in that it provides additional protection to bondholders above and beyond the liquidity policy.

Funding program is still nascent but cost of borrowing is steadily decreasingGiven that the NADB only has eight bonds outstanding, the Bank’s small and infrequent issuance program results in low liquidity of itsbonds in the secondary market. NADB’s bond implied rating (derived by comparing its bond yields with those of similarly rated entitieswithin Moody’s rated universe) stood at A1 at year-end 2018, although it has recently hovered in the Aa space. As the Bank continuesto expand its market presence and its instruments become more liquid, its overall cost of funding should continue to improve. Accessto loans on favorable terms from other development banks also support a favorable funding structure. Exhibit 11 shows how the spreadhas compressed in the last years.

NADB's last bond issuance in July 2018 was a green bond and was very well received in the market. While new bonds are not requiredto be green by the Bank, bonds to finance new projects can easily be green bonds. The NADB is committed to annually self-reportcompliance with industry best practices on requirements to consider bonds green, which is an increasingly important consideration fora growing number of investors.

Exhibit 11

Bond Implied Ratings for NADB

10

12

14

16

18

20

7/Jun/14 7/Dec/14 7/Jun/15 7/Dec/15 7/Jun/16 7/Dec/16 7/Jun/17 7/Dec/17 7/Jun/18 7/Dec/18 7/Jun/19

Aa2

Aaa

A1

A3

Baa2

Ba1

Source: Moody's Analytics



Strength of member support: High

Scale

+ -

Contractual support primarily manifests itself in the callable capital pledge, which is a form of emergency support. Extraordinary

support is a function of shareholders’ ability and willingness to support the institution in ways other than callable capital. Strength

of member support can increase the preliminary rating range determined by combining factors 1 and 2 by as many as three

scores.

Very High High Medium Low Very Low

Factor 3

The NADB’s 'High' score for strength of member support reflects its shareholders’ commitment and ample ability to provide support ina stress scenario. These strengths are, however, offset by a highly concentrated and interlinked shareholder base.

Callable capital continues to provide sizeable protection to bondholdersThe Bank continues to benefit from substantial callable capital, which forms the basis of our member support assessment. Ourassessment takes into consideration the pledges of both investment grade members (the US and Mexico), discounted for the expectedloss rate that corresponds to their ratings.

Exhibit 12

Debt to discounted callable capital (%)

0

50

100

150

200

ESM (Aa1) NADB (Aa1) CDB (Aa1) Aa Median APICORP (Aa3) CEB (Aa1) Eurofima (Aa1) CAF (Aa3) FLAR (Aa2) IIC (Aa1) ICD (Aa3)

No Callable Capital

Very High

High

Note: Debt-to-discounted callable capital for APICORP is 448%, CEB is 477%, Eurofima 973%, CAF 3134%. Data used for APICORP and ESM is 2017. All other entity data is 2018. Mediancomputed using latest available data for peer group members.Source: Moody's Investors Service

Despite a considerable uptick in debt levels in recent years, the size of the callable capital cushion remains more than sufficient tolargely mitigate credit risks for bondholders (see Exhibit 12). Assuming that the shareholders do not amend or rescind their capitalpledges in an adverse scenario, callable capital commitments offer sufficient absorption capacity to insulate bondholders from anypossible credit losses even if the debt burden were to more than double from its current levels.

In 2015, the Board of Directors of the NADB announced an agreement with the US and Mexico for a general capital increase of $3billion. The amount, to be apportioned by both governments by 2020, includes $450 million in paid-in capital and the rest in callablecapital. When completed, this will virtually double the size of the institution. Mexico has already made its first paid-in contribution of$10 million, while the US has yet to make its first payment. This has been viewed by the NADB as a regular delay based on how the USbudget process works. More recently, in its FY2020 budget, the US administration has signaled its support for the $10 million paymenttoward the capital increase by including authorization for $10 million in the proposed document, increasing the likelihood that the USadministration will make its first payment

In addition, bipartisan support for the NADB in both chambers of congress signal congressional willingness to approve the President’sbudget in this regard. On 3 January 2019, a bi-partisan group of Texas Congressmen in the House of Representatives introduced theNorth American Development Bank Improvement Act of 2019 (H.R. 132), which is a bill that seeks to provide for a general capital



increase for the NADB. In the same line, on 29 January 2019, a bi-partisan group of Border State Senators introduced S.267 to providefor a general capital increase for NADB and for other purposes. This bill was introduced by US Senator John Cornyn, a Republican fromTexas, and is co-sponsored by US senator Dianne Feinstein, a democrat from California, among others.

Even if there were continued delays in receiving payments, the NADB would continue to grow its loan portfolio, albeit at a relativelyslow pace. NADB officials developed a scenario that assumes that no new capital is paid in by either member to assess the potentialimplications to the bank's financial ratios (see Exhibit 13).

The results indicate that the NADB's credit quality would be broadly unchanged under a scenario where no new capital is paid-in, andleverage ratios would likely still perform in line with Aa peers assuming no large or significant increases in their paid-in capital by a widemargin through 2020. Should the paid-in capital actually materialize, the NADB would use these funds to expand lending operations,but the institution is not reliant on these potential funds.

Exhibit 13

No capital increase scenario 2018 2019 2020 2021 2022

Loans ($ million)

Beginning Balance 1294 1284 1438 1531 1572

Loand disbursements 166 310 184 150 150

Amortizations -116 -156 -91 -109 -101

Prepayments -60 0 0 0 0

Ending Balance 1284 1438 1531 1572 1621

Liabilities ($ million)

Beginning balance 1493 1314 1342 1200 1623

Debt issuances 126 33 113 428 70

Payment of maturing bonds -300 0 -250 0 -430

Payments of lines of credit -5 -5 -5 -5 -5

Ending balance 1314 1342 1200 1623 1258

Financial ratios ($ million)

Equity/assets (%) 33.33% 33.01% 35.98% 29.54% 35.53%

Equity/loans (%) 50.84% 46.30% 44.24% 43.74% 42.99%

Debt/equity 2.01x 2.01x 1.76x 2.35x 1.80x

Sources: NADB, Moody's Investor Service

Members display strong ability and willingness to support the bank; ability to support is resilient to downward creditpressuresThe composition of the Board of Directors, which includes minister level officials from both federal governments, including thetreasury secretaries, coupled with the organization’s visible progress in fulfilling its mandate, suggest strong willingness to support theinstitution. The presence of domestic programs and the high visibility conveyed by the unique bilateral nature of the organization alsosuggest strong willingness.

In addition, the announced intention of the two member governments to provide a general capital increase – although still pending thefirst US payment – supports our view that the NADB is very likely to receive extraordinary support in case of need. That said, furtherdelays from the US in paying its first paid-in capital contribution toward the general capital increase from 2015, and/or noncompliancefrom any of its members with its pledge to take their individual paid-in capital to a total of $450 million by 31 December 2022 couldlead to a reassessment of the strength of willingness to support the institution.

Underpinning our member support score are the credit strengths of NADB’s shareholders. With a median rating of A1, the Bank hasone of the strongest shareholder bases when compared to regional MDBs in the Americas, and compares favorably with the majorityof regional MDBs outside of Europe. In view of the institution’s very small size relative to the combined federal budgets of the twomember countries, the costs of a recapitalization in an adverse scenario would likely prove negligible. However, of the Bank’s two



shareholders, Mexico holds the lowest rating at A3 negative. Were Mexico’s credit rating to suffer a downgrade to Baa1 from thecurrent A3, this would affect NADB’s Weighted Median Shareholder Rating, taking it to A2 from A1. However, this would have noimpact on the sub-factor score for ability to provide extraordinary support, which would remain at 'High.'

Notwithstanding the aforementioned strengths, we also note that the US is an anchor shareholder of numerous other MDBs, includingthe IBRD (World Bank, Aaa stable), International Finance Corporation (IFC, Aaa stable), African Development Bank (ADB, Aaa stable)and European Bank for Reconstruction and Development (EBRD, Aaa stable). Given the high visibility of those institutions and thereputational costs associated with their failure, we do not believe with certainty that the US would prioritize NADB over its othercommitments in a systemic crisis given that extraordinary support mechanisms remain untested.

Binational mandate leads to member concentration risksAnother weakness from the member support perspective is the fact that the organization’s shareholder base is inherently highlyconcentrated. Equally split between its two members, the NADB's ownership structure is the least diversified of all Moody’s-ratedMDBs. The issue of high member concentration is further exacerbated by the close economic linkages between the two countries.The US accounts for over 80% of Mexico’s total exports and the stock of US FDI in Mexico has surpassed $100 billion, solidifying itsposition as the largest foreign investor in the country. Given this strength of economic linkages, it is a virtual certainty that any episodeof widespread economic distress in the US would be immediately followed by economic woes in Mexico, thus diminishing the benefitsof shareholder diversification enjoyed by some other MDBs.


https://www.moodys.com/credit-ratings/IBRD-World-Bank-credit-rating-410525

https://www.moodys.com/credit-ratings/International-Finance-Corporation-credit-rating-2391

https://www.moodys.com/credit-ratings/African-Development-Bank-credit-rating-14050

https://www.moodys.com/credit-ratings/European-Bank-for-Reconstruction-Devlpmnt-credit-rating-19620


Rating rangeCombining the scores for individual factors provides an indicative rating range. While the information used to determine the grid mapping is mainly historical, our ratings incorporateexpectations around future metrics and risk developments that may differ from the ones implied by the rating range. Thus, the rating process is deliberative and not mechanical,meaning that it depends on peer comparisons and should leave room for exceptional risk factors to be taken into account that may result in an assigned rating outside the indicativerating range. For more information please see our Supranational Rating Methodology.

Exhibit 14

Supranational rating metrics: NADB

+ -

+ -

+ -

+ -

Very LowVery High High Medium Low

High Medium Low Very LowVery High


Aa1

Aaa-Aa2


Capital Adequacy

How strong is the capital buffer?

How strong is the institutions' shock absorption capacity?

Sub-Factors: Position, Funding

Assigned Rating:

Strength of Member Support

Intrinsic Financial Strength

Sub-Factors: Capital Position, Leverage, Asset Performance

How strong is members' support of the institution?

Sub-Factors: Contractual Support, Extraordinary Support

Rating Range:

Liquidity

Source: Moody's Investors Service




ComparativesThis section compares credit relevant information regarding NADB with other supranational entities that we rate. It focuses on a comparison with supranationals within the samerating range and shows the relevant credit metrics and factor scores.

The NADB is smaller than other Aa-rated supranationals, contributing to the institution’s concentration risks. The capital adequacy ratio, which we expect will stabilize aroundcurrent levels of 50%, is relatively in line with the median for Aa-rated entities. While the NPL levels are above those of Aa1-rated peers, they remain relatively low at 1.1%. TheNADB’s liquidity score balances the bank’s strong liquidity buffers against its somewhat less established track record accessing bond markets. Finally, access to sizeable callable capitalresources and the presence of highly rated shareholders are reflected in the bank’s 'High' strength of member support assessment, which compares favorably to most peers andcompensates for some of the relative weaknesses discussed above.

iExhibit 15

North American Development Bank key peers

Notes:[1] Usable equity is total shareholder's equity and excludes callable capital[2] Non performing loans[3] Short-term debt and currently maturing long-term debt[4] Callable capital pledge by members rated Baa3 or higher, discounted by Moody's 30-year expected loss rates associated with ratings[5] Data used for APICORP and ESM is from 2017. Other entities' data used is from 2018. Median computed using 2017 dataSources: Moody's Investors Service, respective MDB financial statements



DATA AND REFERENCESRating history

Exhibit 16

North American Development Bank [1]

Senior Unsecured Outlook

Long Term Short Term Date

Rating Lowered Aa1 -- Aa1 Stable Feb-14

Rating Under Review for Downgrade Aaa -- Aaa RUR- Dec-13

Rating Assigned Aaa P-1 Aaa Stable Jan-10

Issuer Rating

Notes: [1] Table excludes rating affirmations. Please visit the issuer page for NADB for the full rating history.Source: Moody's Investors Service


https://www.moodys.com/credit-ratings/North-American-Development-Bank-credit-rating-807445744


Annual statistics

North American Development Bank**Data through 2015 exclude USCAIP operations, beginning 2016 data reflect all consolidated operations

2011 2012 2013 2014 2015 2016 2017 2018

Balance Sheet, USD Thousands

Assets

Cash & Equivalents 36,778 62,357 56,810 85,086 113,653 151,727 164,287 175,094

Securities 313,791 326,217 488,715 357,868 391,208 360,344 791,187 624,159

Derivative Assets 0 0 0 0 0 0 0 0

Net Loans 388,241 859,714 961,507 1,134,430 1,200,143 1,168,986 1,070,885 1,056,221

Net Equity Investments 0 0 0 0 0 0 0 0

Other Assets 81,208 54,017 66,044 55,985 75,595 132,618 119,902 103,583

Total Assets 820,018 1,302,304 1,573,076 1,633,369 1,780,599 1,813,676 2,146,260 1,959,058

Liabilities

Borrowings 277,503 753,380 1,007,124 1,060,517 1,197,579 1,184,352 1,481,633 1,276,780

Derivative Liabilities 0 0 0 0 0 0 0 0

Other Liabilities 9,325 27,083 47,305 30,172 17,444 24,503 29,839 29,256

Total Liabilities 286,828 780,463 1,054,429 1,090,689 1,215,023 1,208,856 1,511,472 1,306,036

Equity

Subscribed Capital 3,000,000 3,000,000 3,000,000 3,000,000 3,000,000 6,000,000 6,000,000 6,000,000

Less: Callable Capital 2,550,000 2,550,000 2,550,000 2,550,000 2,550,000 5,100,000 5,100,000 5,100,000

Less: Other adjustments 45,000 45,000 45,000 45,000 45,000 485,000 485,000 485,000

Equals: Paid-In Capital 405,000 405,000 405,000 405,000 405,000 415,000 415,000 415,000

Retained Earnings (Accumulated Loss) 0 0 0 0 0 0 0 0

Accumulated Other Comprehensive Income (Loss) 20,734 2,365 -8,050 -194 7,186 15,967 11,766 9,124

Reserves 107,456 114,476 121,697 137,874 153,390 173,853 208,021 228,897

Other 67,930 44,230 55,105 43,722 63,415 98,029 86,241 85,891

Total Equity 533,190 521,841 518,647 542,680 565,576 604,820 634,788 653,021

Note: Other Adjustments includes funds directed into the Domestic Program and Payable Paid-in capital

Sources: NADB, Moody's Investors Service




2011 2012 2013 2014 2015 2016 2017 2018

Income Statement, USD Thousands

Net Interest Income 21,890 18,958 28,705 30,163 36,145 39,066 36,996 31,677

Interest Income 26,421 24,321 39,543 43,710 51,246 59,017 68,636 78,920

Interest Expense 4,532 5,363 10,838 13,548 15,101 19,950 31,640 47,242

Net Non-Interest Income 10,900 3,392 38 1,244 2,388 -369 3,156 7,833

Net Commissions/Fees Income 217 39 46 17 429 200 681 642

Non-Interest Gains (Losses) from Liquid Assets 0 0 0 0 0 0 0 0

Other Income 9,204 550 0 1,038 1,919 -706 -1,141 7,186

Other Operating Expenses 8,784 15,329 10,978 13,030 14,457 13,889 14,556 20,107

Administrative, General, Staff 7,998 8,426 8,871 8,567 9,509 12,471 12,268 17,419

Grants & Programs 737 2,437 1,145 2,077 4,873 1,088 2,163 2,536

Other Expenses 48 4,466 962 2,386 76 330 125 152

Pre-Provision Income 24,006 7,020 17,765 18,376 24,075 24,808 25,596 19,403

Loan Loss Provisions (Release) 2,350 0 10,544 2,199 8,559 5,134 -3,968 -1,953

Net Income (Loss) 21,655 7,020 7,221 16,177 15,516 19,675 29,564 21,357

Other Accounting Adjustments and Comprehensive Income 0 -18,369 -10,415 7,856 7,380 8,782 -4,201 -2,642

Comprehensive Income (Loss) 21,655 -11,349 -3,194 24,033 22,896 28,456 25,363 18,714



2011 2012 2013 2014 2015 2016 2017 2018

Financial Ratios

Capital Adequacy, %

Usable Equity / (Gross Loans + Equity) 124.6 60.0 51.3 45.8 42.7 42.8 49.1 50.8

Debt/Usable Equity 52.0 144.4 194.2 195.4 211.7 195.8 233.4 195.5

Allowance For Loan Losses / Gross NPLS 39.5 16.9 182.8 335.4 -- -- 146.8 130.9

NPL Ratio: Non-Performing Loans / Gross Loans 4.8 1.6 0.7 0.3 0.0 0.0 1.1 1.1

Return On Average Assets 2.8 0.7 0.5 1.0 0.9 1.1 1.5 1.0

Interest Coverage Ratio (X) 5.8 2.3 1.7 2.2 2.0 2.0 1.9 1.5

Liquidity, %

St Debt + CMLTD / Liquid Assets 0.0 0.0 0.0 0.6 1.0 1.0 31.9 0.7

Bond-Implied Rating Aa3 A2 A3 A2 Aa3 A1 A1 Aa3

Liquid Assets / Total Debt 126.3 51.6 54.2 41.8 42.2 43.2 64.5 62.6

Liquid Assets / Total Assets 42.8 29.8 34.7 27.1 28.4 28.2 44.5 40.8

Strength of Member Support, %

Callable Capital (CC) of Baa3-Aaa Members/Total CC 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0

Total Debt/Discounted Callable Capital 11.3 30.7 40.9 42.8 48.3 24.0 30.1 25.9

Weighted Median Shareholder Rating (Year-End) A2 A2 A2 A1 A1 A1 A1 A1




Moody’s related publications

» Rating Action: Moody's affirms NADB's Aa1 issuer rating and maintains stable outlook, 29 May 2019

» Credit Opinion: North American Development Bank – Aa1 stable: Update following rating affirmation, outlook unchanged, 29 May2019

» Rating Methodology: Multilateral Development Banks and Other Supranational Entities, 17 September 2018

To access any of these reports, click on the entry above. Note that these references are current as of the date of publication of this report and that more recent reports may be available. Allresearch may not be available to all clients.

Related websites and information sources

» Sovereign and supranational risk group web page

» Sovereign and supranational rating list

» NADB website

MOODY’S has provided links or references to third party World Wide Websites or URLs (“Links or References”) solely for your convenience in locating related information and services.The websites reached through these Links or References have not necessarily been reviewed by MOODY’S, and are maintained by a third party over which MOODY’S exercises no control.Accordingly, MOODY’S expressly disclaims any responsibility or liability for the content, the accuracy of the information, and/or quality of products or services provided by or advertised onany third party web site accessed via a Link or Reference. Moreover, a Link or Reference does not imply an endorsement of any third party, any website, or the products or services providedby any third party.


https://www.moodys.com/research/Moodys-affirms-NADBs-Aa1-issuer-rating-and-maintains-stable-outlook--PR_401051

https://www.moodys.com/research/North-American-Development-Bank-Aa1-stable-Update-following-rating-affirmation-Credit-Opinion--PBC_1178078


https://www.moodys.com/researchandratings/market-segment/sovereign-supranational/-/005005/005005/-/-1/0/-/0/-/-/-/-1/-/-/-/en/global/pdf/-/rra

https://www.moodys.com/research/Sovereign-Supranational-Rating-List--PBC_186519

http://www.nadbank.org/


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stable north american development bank - aa1 · long-term issuer aa1 sta short-term issuer p-1...

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