Moody's assigns a baseline credit assessment (BCA) of ba3 ......Moody's assigns a baseline credit...

FINANCIAL INSTITUTIONS

CREDIT OPINION21 March 2017

Update

RATINGS

Banco do Estado do Para S.A.Domicile Belem, Para, Brazil

Long Term Debt Not Assigned

Type Not Assigned

Outlook Not Assigned

Long Term Deposit Ba3

Type LT Bank Deposits - FgnCurr

Outlook Stable

Please see the ratings section at the end of this reportfor more information. The ratings and outlook shownreflect information as of the publication date.

Contacts

Ceres Lisboa 55-11-3043-7317Senior Vice [email protected]

Alcir Freitas 55-11-3043-7308Senior Credit [email protected]

Rafael B Amaral 55-11-3043-6065Associate [email protected]

Aaron Freedman 52-55-1253-5713Associate [email protected]

Banco do Estado do Para S.A.Update Following Change in Outlook of Foreign CurrencyDeposit Rating to Stable

Summary Rating RationaleMoody's assigns a baseline credit assessment (BCA) of ba3 to Banco do Estado do Pará S.A.(Banpará) reflecting the strength of its established presence in its core market, the Stateof Para, where it holds around 16% market share of loans and 20% of deposits, ensuring agranular and low-cost funding base. However, the bank remains a modest, geographicallyconcentrated franchise in the system as a whole, which makes it vulnerable to competitionand low business diversification.

Banpará business model is primarily engaged in providing payroll loans to the stateemployees, which explains the track record of low delinquencies ratio, but since 2012, thebank has gradually tackled other loan products such as credit cards and SME lending. Thisstrategy was revised in 2014 after the rapid escalation of delinquencies primarily relatedto the middle market platform that was affected by the economic deceleration. While weacknowledge that such expansion provides some earnings diversification, it also carriesexecution risks, drives credit costs up and will partially consume its currently very strongcapitalization.

Another important factor constraining the rating is the political interference risk. As astateowned bank, Banpará may be exposed to guidance from the local government in itsasset allocation or asset pricing decisions, despite the historical commitment from theshareholder to support the bank.

Exhibit 1

Rating Scorecard - Key Financial Ratios

1.9% 16.8% 2.7% 10.0% 22.9%0%

5%

10%

15%

20%

25%

30%

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

Asset Risk:

Problem Loans/ Gross

Loans

Capital:

Tangible Common

Equity/Risk-Weighted

Assets

Profitability: Net

Income/ Tangible

Assets

Funding Structure: Market

Funds/ Tangible

Banking Assets

Liquid Resources: Liquid

Banking Assets/Tangible

Banking Assets

Solvency Factors (LHS) Liquidity Factors (RHS)

Banco do Estado do Para S.A. (BCA: ba3 ) Median ba3-rated banks

Source: Moody's Financial Metrics

https://www.surveygizmo.com/s3/1133212/Rate-this-research?pubid=PBC_1064193

MOODY'S INVESTORS SERVICE FINANCIAL INSTITUTIONS

Banpará's Ba3 global local-currency (GLC) deposit rating derives from the baseline credit assessment of ba3, and does not incorporategovernment support given the small size of the bank in the Brazilian system. While the bank's owner, the State of Para (unrated), hassupported the bank's expansion by maintaining a conservative dividend distribution policy, the ratings do not incorporate uplift relatedto the likelihood of extraordinary support from the state government either.

This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page onwww.moodys.com for the most updated credit rating action information and rating history.

2 21 March 2017 Banco do Estado do Para S.A.: Update Following Change in Outlook of Foreign Currency Deposit Rating to Stable


Credit Strengths

» Historically good asset quality indicators from its low-risk payroll lending book

» High capitalization indicates resilience to stress as the bank explores new businesses

» High profitability and efficiency ratios challenged by strategy to expand into difficult geographies and the corporate lendingbusiness

» Regional franchise with entrenched, though modest, loan and deposit shares in its local state, subject to strong competition

» Low-cost funding structure with relative reliance on government resources; role of payment agent for civil servants allows bank toaccess a steady core funding base

Credit Challenges

» As a state government bank, Banpará may be exposed to political interference from the local government in its asset allocationdecisions, despite historical commitment from the state government to support the bank

» Weak product diversification, constraining the bank's earnings capacity

Rating OutlookAll ratings have stable outlook, including the long term foreign currency deposit rating of Ba3 that had the outlook changed to stable,from negative, on 16 March 2017, in line with the outlook change on Brazil's bond rating, and, therefore, on Brazil's foreign currencydeposit ceiling.

Factors that Could Lead to an UpgradeUpward movement on ratings could result if the bank successfully managing the economic cycle while sustaining adequate assetquality, profitability and capital base. As the bank pursues its strategy towards a more diversified loan book and funding structure,positive rating movement could arise from preservation of asset quality and profitability.

Factors that Could Lead to a DowngradeA significant deterioration in asset quality indicators due to the current economic slowdown or aggressive expansion in riskier loanssuch as unsecured credit cards and SME lending could put downward pressure on the rating. Negative rating movement could alsocome from a sharp deterioration in profitability or a substantial increase in credit costs.

Key Indicators

Exhibit 2

Banco do Estado do Para S.A. (Unconsolidated Financials) [1]12-162 12-152 12-142 12-132 12-123 Avg.

Total Assets (BRL billion) 6.3 5.3 5.0 4.5 3.7 14.24

Total Assets (USD billion) 1.9 1.3 1.9 1.9 1.8 1.74

Tangible Common Equity (BRL billion) 0.8 0.6 0.5 0.5 0.4 16.94

Tangible Common Equity (USD billion) 0.2 0.2 0.2 0.2 0.2 4.14

Problem Loans / Gross Loans (%) 1.0 1.4 2.6 2.4 0.7 1.65

Tangible Common Equity / Risk Weighted Assets (%) 17.6 16.4 17.3 17.2 18.7 17.16

Problem Loans / (Tangible Common Equity + Loan Loss Reserve) (%) 4.1 6.1 10.9 10.8 3.1 7.05

Net Interest Margin (%) 19.5 18.8 16.4 16.1 16.6 17.55

PPI / Average RWA (%) 10.8 13.1 13.3 12.4 14.7 12.46

Net Income / Tangible Assets (%) 3.7 3.9 3.0 3.1 3.5 3.45

Cost / Income Ratio (%) 59.3 54.7 52.2 50.3 52.6 53.85

Market Funds / Tangible Banking Assets (%) 17.8 10.0 11.7 4.9 9.0 10.75

Liquid Banking Assets / Tangible Banking Assets (%) 30.4 23.0 33.3 34.4 34.0 31.05



Gross loans / Due to customers (%) 93.5 94.8 82.1 74.5 75.7 84.15

[1] All figures and ratios are adjusted using Moody's standard adjustments [2] Basel III - fully-loaded or transitional phase-in; LOCAL GAAP [3] Basel II; LOCAL GAAP [4] Compound AnnualGrowth Rate (%). Any interim period amounts presented are assumed to be fiscal year end amounts for calculation purposes [5] Simple average of periods presented [6] Simple average ofBasel III periods presentedSource: Moody's Financial Metrics

Detailed Rating ConsiderationsTRACK RECORD OF LOW DELINQUENCIES IS CHALLENGED AS THE BANK EXPLORES NEW BUSINESSES AND THE WEAKECONOMIC ENVIRONMENT

Historically, Banpará presented superior asset quality indicators than all its peers explained by its monoline operation on secured andgranular payroll loans to state government employees. However, as the bank started to offer a wider range of loan products in 2012,such as loans to middle market companies and unsecured consumer products, including credit cards, delinquency ratio jumped tolevel above 2% of total loans since 2013, peaking 2.6% in 2014 and remaining at 1.95% at the end of 2016 as reported by the bank.By Moody's metrics, problem loan ratio, that consider loans in arrears classified between E to H according to regulation accounted for1.01%, back to low historical levels.

The loan portfolio breakdown was 70.7% of payroll loans; 29.1% of personal loans largely to state employees, 0.2% of SME andagribusiness loans. The strategic move towards business diversification, however, has been challenged by unfavorable economicconditions, which have required a more conservative approach from Banpará to develop its SME platform. In December 2016, in face ofthe worsened macro conditions, while total loans increased 8.2% in 12 months, the bank's SME book reduced by 65.74% in the sameperiod. Given the low risk nature of more than 90% of the loans, which are to state employees, the level of reserves for loan lossesreduced almost 8% in 2016 compared to 2015, but coverage ratio remained adequate covering 4.1% of total loans.

Our assessment for asset risk of b1 incorporates the challenges and execution risks as the bank pursues new business platforms beyondthe bank's traditional asset classes while maintaining good asset quality, which will also test its ability to control the quality of thecredit collaterals. In Moody's view, the bank should continue to prove capable to manage credit risk as the franchise expands, withenhancement of risk management architecture and guidelines to avoid the escalation of credit costs going forward. The negativeadjustment also considers the concentration in one single loan class that is highly exposed to regulation and the concentration riskrelated to one regional local market.

SOUND CAPITALIZATION SUPPORTS THE EXPANSION OF THE BALANCE SHEET

Banpará's capital ratio supports the bank's expansion strategy beyond its traditional. The bank reported 20.81% of total capital ratio inDecember 2016, well above the local minimum requirements. Adjusting to risk weight of 100% on the government securities position(rated Ba2) and excluding part of the DTA from temporary differences related to loan loss provisions, as per Moody's capital concept,Moody's TCE ratio increased to 17.6%, higher compared to same rated peers. We expect that capital will continue to be consumedby expansion of its loan book, and a challenged profitability that is likely to be affected by rising credit costs, and gradual increasein funding costs as the bank seek for market-based funding to enhance diversification. Our assessment of capital is baa2 reflectingthis challenges, but also acknowledging the high capitalization, which indicates comfortable loss absorption capacity to support thisgrowing strategy.

The state government has agreed to restrict the dividend payout ratio to a maximum 40% of net income annually. Tensions aroundthe pace of capital replenishment will arise from expansion into the competitive corporate lending business and increased fundingcosts, factors that will affect future profitability, and thus the pace of capital replenishment.

FUTURE PROFITABILITY PRESSURED BY HIGHER CREDIT COSTS, BRANCH OPENING AND COMPETITION

Banpará's profitability has traditionally benefited from a well-established, though modest, regional franchise with roughly 16% share ofthe total credit markets of the State of Pará, aligned to very low delinquency and solid access to core deposit funding. The bank's mainbusiness has been to lend to public employees in the state, a business that provides strong earnings recurrence generation at low risk,given that it can deduct the credit service from the public servants' payroll. In 2016, the bank reported net income of BRL231.4 million,an increase of 13.4% compared to 2015. Performance improved on the back of loan growth, lower provisioning expenses compared to



2015, higher margins that reflected the increase in risk scenario and higher domestic interest rates, and higher fee-based income, whileat the same time, the banks follows its plan to grow its branch network, impacting CAPEX.

While Banpará has a consistent generation of recurring revenues, its superior profitability indicators compared to same rated peershave been slightly affected by the higher expenses agenda and the declined credit demand since 2014, due to high inflation anddeteriorated economic scenario that reduced its growth potential. The competitive margins on payroll loans, especially from largegovernment-owned banks, also pressures the bank's performance. Credit costs reduced 37% as the bank contracted riskier portfoliossuch as SME loans and overdraft accounts, and focused on payroll loans.

Future earnings generation will also depend on the bank's ability to manage the high costs from its branch opening strategy, especiallythose in remote geographies, and its higher funding costs as it expands to institutional markets. Moreover, efforts to increase itswholesale loans, at more competitive terms, and enhance its funding mix through local capital market instruments will likely result in amore volatile and expensive funding profile, thus creating some tension in its profitability indicators.

FUNDING LARGELY MADE OF STABLE RETAIL DEPOSITS, BUT DIVERSIFICATION STRATEGY IN PLACE INCREASES EXPOSURE TOVOLATILE WHOLESALE INVESTORS

Banpará has stable access to low-cost core deposits, and its relevant deposit market share in the State of Pará are positive driversto liquidity analysis. Banpará has approximately 10% of the state savings deposits; 27.2% of demand deposits and one third of timedeposits in its core region. The high share of core deposits and the stability of resources support the bank's comfortable cash liquidityposition and loan growth rate above the market. Banpará has been gradually trying to increase market-based funds, a strategy towardsdiversification, but customer deposits is growing well above loan book, and represented 90.6% of total funding in December 2016.Although historically very stable, both judicial and local state deposit positions are highly correlated to the state's financial profileand can be used any time. Judicial deposits have gradually reduced, indicating no reliance by the bank. Main competitors are the largeretail government-owned banks Caixa Economica Federal and Banco do Brasil, both of which have wider branch networks and productservices.

Since 2013, Banpara has been tapping the local capital markets through the issuance of banknotes (letras financeiras), which accountedfor the 1.35% of the funding mix. The volume of letras financieras declined by 70% in 2016 due to maturity and the bank decided notto renew them in light of the lack of growth and comfortable cash liquidity position. We expect efforts to be made to diversify fundingto support the expansion of the wholesale lending platform.

EXPOSED TO POLITICAL INTERFERENCE AND DEVELOPING RISK MANAGEMENT TOOLS TO SUPPORT FRANCHISE EXPANSION

Banpará has a strategic role to enhancing banking services in the State and complement public development actions in supporting thelocal economy. In this sense, a key factor constraining Banpará's ratings is the likelihood for political interference in the bank's strategyfor asset allocation and earnings generation, which frequently occurs with government-owned banks. The local government directlyappoints the bank's senior management, which makes the bank's risk positioning and appetite potentially vulnerable to pressures fromthe change of political parties every four years. Compared to other state-owned banks, Banpará has a very stable management team inplace since 2011, largely formed by career executives.

In order to mitigate those risks, the current administration has been engaged in improving governance at the bank, including the reviewof internal policies and processes for controlling risks. Moody's views these efforts as positive as they tend to reduce risks related topolitical interference by fostering adequate risk management.

BANPARA'S RATING IS SUPPORTED BY THE MODERATE MACRO PROFILE ON BRAZIL

Brazil's Moderate macro profile reflects the country's large and diversified economy, while the combination of ongoing economicrecession, persistently high inflation and difficult political scenario increases challenges to Brazilian banks' operating environment. Thepace of growth has reduced significantly in the last year and the tightening monetary policy allowed banks to raise lending rates, whichrelieved part of the earnings pressure arising from asset risks. Public banks hold a 56% share of Brazil's loan market, which is reflected inthe adjustment for industry structure. Capital and funding remain adequate, and exposure to international capital markets will remain



low. External vulnerability is also limited by Brazil's sizeable international reserves, which reduce the country's sensitivity to externalshocks, such as sudden stops in capital flows.

Notching ConsiderationsIn the absence of a bail-in resolution regime framework in Brazil, the ratings of subordinated debts, bank hybrids, and contingent capitalsecurities follow the “Additional Notching Guidelines”, as per the Rating Methodology: Banks. In these cases, the approach takes intoaccount other features specific to debt classes, resulting in additional notching from the adjusted baseline credit assessment (BCA) ofthe issuer.

Counterparty Risk AssessmentCR Assessments are opinions of how counterparty obligations are likely to be treated if a bank fails and are distinct from debt anddeposit ratings in that they (1) consider only the risk of default rather than both the likelihood of default and the expected financial losssuffered in the event of default and (2) apply to counterparty obligations and contractual commitments rather than debt or depositinstruments. The CR assessment is an opinion of the counterparty risk related to a bank's covered bonds, contractual performanceobligations (servicing), derivatives (e.g., swaps), letters of credit, guarantees and liquidity facilities.

Banpará's CR Assessment is positioned at Ba2(cr), which is one- notch above the bank's Adjusted BCA of ba3, and, therefore, above thedeposit rating of the bank, reflecting Moody's view that its probability of default is lower at the operating obligations than of deposits.The CR Assessment at Banpará does not benefit from government support, as the government support is not incorporated in the bank'sdeposit ratings.

Government SupportWe believe there is limited likelihood of Banpará to be supported by the federal government on its rated wholesale deposits and seniorunsecured debt, given the non material share of the deposits in Brazil. In Moody's view, its main shareholder, the local government (theState of Pará), has proven commitment and willingness to support the bank's operations through more conservative capital retention,limiting dividend distribution to 40% of annual net income. Nonetheless, Moody's does not believe Banpará would receive systemicsupport because of the bank's limited share of demand and savings deposits in the system.

ABOUT MOODY'S BANK SCORECARD

Our Scorecard is designed to capture, express and explain in summary form our Rating Committee's judgment. When read inconjunction with our research, a fulsome presentation of our judgment is expressed. As a result, the output of our Scorecardmay materially differ from that suggested by raw data alone (though it has been calibrated to avoid the frequent need for strongdivergence). The Scorecard output and the individual scores are discussed in rating committees and may be adjusted up or down toreflect conditions specific to each rated entity.

Rating Methodology and Scorecard Factors

Exhibit 3

Banco do Estado do Para S.A.Macro FactorsWeighted Macro Profile Moderate 100%

Factor HistoricRatio

MacroAdjusted

Score

CreditTrend

Assigned Score Key driver #1 Key driver #2

SolvencyAsset RiskProblem Loans / Gross Loans 1.9% baa1 ↓ b1 Long-run loss

performanceUnseasoned risk

CapitalTCE / RWA 16.8% a3 ← → baa2 Risk-weighted

capitalisationProfitability



Net Income / Tangible Assets 2.7% a2 ← → ba3 Loan losscharge coverage

Expected trend

Combined Solvency Score a3 ba2LiquidityFunding StructureMarket Funds / Tangible Banking Assets 10.0% baa2 ← → ba1 Term structure Market funding quality

Liquid ResourcesLiquid Banking Assets / Tangible Banking Assets 23.0% ba1 ← → ba1 Stock of liquid assets

Combined Liquidity Score baa3 ba1Financial Profile ba2

Business Diversification 0Opacity and Complexity 0Corporate Behavior -1

Total Qualitative Adjustments -1Sovereign or Affiliate constraint: Ba2Scorecard Calculated BCA range ba2-b1Assigned BCA ba3Affiliate Support notching 0Adjusted BCA ba3

Instrument class Loss GivenFailure notching

AdditionalNotching

Preliminary RatingAssessment

GovernmentSupport notching

Local CurrencyRating

ForeignCurrency

RatingCounterparty Risk Assessment 1 0 ba2 (cr) 0 Ba2 (cr) --Deposits 0 0 ba3 0 Ba3 Ba3Source: Moody's Financial Metrics

Ratings

Exhibit 4Category Moody's RatingBANCO DO ESTADO DO PARA S.A.

Outlook StableBank Deposits Ba3/NPNSR Bank Deposits A2.br/BR-1Baseline Credit Assessment ba3Adjusted Baseline Credit Assessment ba3Counterparty Risk Assessment Ba2(cr)/NP(cr)

Source: Moody's Investors Service



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