KBRA Affirms Ratings for Cambridge Financial Group, Inc.

KBRA affirms the senior unsecured debt rating of BBB, the subordinated debt rating of BBB-, and the short-term debt rating of K3 for Cambridge, Massachusetts-based Cambridge Financial Group, Inc. (“Cambridge” or “the company”). In addition, KBRA affirms the deposit and senior unsecured debt ratings of BBB+, the subordinated debt rating of BBB, and the short-term deposit and debt ratings of K2 for the subsidiary, Cambridge Savings Bank. The Outlook for all long-term ratings is revised to Negative from Stable.

Key Credit Considerations

The Negative Outlook reflects a CET1 ratio (9.6% at 4Q23) that continues to be managed at a level materially lower than the rated peer average, compounded by recent profitability trends that have underperformed (ROA of 0.32% in 2023). Regulatory capital protection as measured by the consolidated CET1 ratio regressed modestly compared to the year ago period and tracked 160 bps below the average of the rating category, a substantial gap when considering the peer average has trended positively since YE22. Additionally, the company's earnings profile is more reliant on net interest income, particularly with mortgage gain on sale revenues limited in the current rate environment (total noninterest income represented 6% of revenues in both 2023 and 2022). Earnings growth is also constrained by a liability sensitive balance sheet underpinned by greater reliance on comparatively more price-sensitive maturity deposits and FHLB borrowings. A shift in funding mix, combined with loan growth, particularly since 2022, has resulted in an elevated loan-to-core deposit ratio (130% at 4Q23), which tracked higher than pre-pandemic measures. Taken together, and in the context of ongoing macroeconomic uncertainties, we view managing the CET1 ratio closer to or higher than the KBRA average as necessary, especially given a lower reserve coverage (0.92% of loans in 4Q23) and relatively high investor CRE concentrations (>400% of RBC). That said, management expects to build capital on a go forward basis while committed to disciplined loan growth.

The ratings are supported by management’s conservative underwriting, reinforced by relatively strong collateral coverage and cash flow of underlying loans and manageable concentrations. Average LTVs within the CRE portfolio have consistently tracked in the low to mid 50% range with average DSCRs above 1.5x across the top industry concentrations. The mortgage portfolio also reflects strong credit attributes. Although strong credit performance is, in part, due to an extended benign credit environment, KBRA views the economic profile of the operating footprint as stable, reinforced by durable and diversified economies anchored by higher education, healthcare, and historically lower unemployment. Long term credit quality measures have been pristine, including a nominal history of losses. Moreover, the NPA ratio has tracked well below the KBRA peer average in recent years, while current criticized commercial loan measures were manageable (<2% of loans at YE23), and mortgage delinquencies remain insignificant. Although office CRE represented 9% of loans at 4Q23, which tracked slightly higher than many rated peers, risk mitigants include limited downtown Boston or high-rise exposures, diverse tenant mix, and manageable lease rollover risks. Liquidity capacity and coverage of uninsured deposits (~1.20x) is sufficient, with on-balance sheet sources representing ~25% of uninsured deposits. Additionally, top deposit relationships are granular.

The company announced the retirement of CEO, Wayne Patenaude, which became effective on February 28, 2024, and the appointment of Ryan Bailey as the successor. Mr. Bailey is a seasoned banking executive with an extensive retail banking background from USAA, Bank of the West, and TD Bank. Under Mr. Patenaude's tenure as CEO since 2013 (and previously CFO, since 2007), Cambridge’s credit performance had been exceptional. We have confidence in a smooth transition, do not anticipate material strategic changes in the near term, and expect the company to maintain consistent underwriting and credit risk management frameworks under Mr. Bailey’s leadership.

Rating Sensitivities

A return to a Stable Outlook could be considered based on demonstration of meaningful improvement and stability in core earnings, a CET1 ratio sustained at a level more consistent with the rated peer group, and materially improved funding measures. Conversely, erosion of regulatory capital ratios or inability to manage the CET1 ratio above 10% within the next 12 months, meaningful degradation in asset quality resulting in credit losses beyond peer trends, persistent earnings volatility or weakness, or inability to reduce the loan-to-core deposit ratio may result in a rating downgrade.

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