DBRS Changes Trend on UnionBanCal to Stable from Positive: Confirms at “A”

DBRS has today confirmed the ratings of UnionBanCal Corporation (UB or the Company), Union Bank of California, N.A. (the Bank), and UnionBanCal Commercial Funding Corporation. At the same time, DBRS has changed the trend to Stable from Positive on the short- and long-term ratings of UB and the long-term ratings of the Bank. The trend on the short-term ratings of the Bank and UnionBanCal Commercial Funding Corporation was unaffected by this rating action and remains Stable. These rating actions, reflected in the table below, follow a review by DBRS of the Company’s operating performance, credit fundamentals and future prospects.

The change in trend to Stable from Positive takes into account UB’s unresolved regulatory matters dating back to 2005 as well as the more recently discovered additional compliance issues announced by the Company in connection with its Q2 2007 earnings release. The Stable trend also reflects the Company’s higher than normal susceptibility to margin compression in a rising or high-interest rate environment, resulting in more severe weakening of its profitability and earnings relative to similarly rated peers over the past year.

On July 19, 2007, UB disclosed that, while working to remedy weaknesses in its Bank Secrecy Act/Anti-Money Laundering (BSA/AML) controls and processes identified by the Office of the Comptroller of the Currency (OCC) in 2005, it uncovered additional compliance deficiencies related to the Suspicious Activity Report (SAR) process. These issues were brought to the attention of the OCC, which will institute a procedure for a Cease and Desist order against the Company relative to its BSA/AML controls and processes and will assess civil money penalties. At the same time, the Company also received notice from the Financial Crimes Enforcement Network (FinCen), a part of the U.S. Treasury Department, that it will assess civil money penalties concerning the BSA/AML matters. UB has established a $10 million reserve against these pending fines based on preliminary discussions with the OCC and FinCen.

DBRS believes that UB’s board of directors and senior management are committed to achieving full compliance with regulatory requirements and that the penalties and potential damage to its reputation are not likely to have a material impact on the Company’s operations. On the other hand, undue further delays in resolving the regulatory challenges could result in negative rating pressure.

UB has traditionally been able to maintain high core deposit levels relative to its loan portfolio, a large percentage of which consists of non-interest bearing deposits. The strength and composition of this deposit franchise is reflected in UB’s robust liquidity profile, low funding cost relative to its peers and healthy profitability metrics. The flip-side of the attractive deposit composition is a disproportionately high migration rate in a rising or high interest-rate environment – non-interest bearing and low-cost deposits moving into higher-yielding deposits. As a result of this structural characteristic, the compression in UB’s net interest margin (NIM) has been more severe over the past year than that of most of its peers and has resulted in weakening profitability metrics and lower net interest income. Restoring UB’s profitability and earnings to their previous levels, in DBRS’s view, will take a considerable period of stable or declining interest rates.

UB’s ratings reflect the Company’s solid earnings arising from a strong middle-market focused banking franchise located predominantly in high-growth metropolitan statistical areas (MSAs) in California, a large and low-cost deposit base, and a diverse business mix. Low loan-loss provisions from a clean and granular loan portfolio and ample capital also underpin the ratings.

The principal challenges for UB, in addition to expeditiously resolving the regulatory matters, are to defend its robust deposit franchise from fierce competition and restore positive operating leverage.

UnionBanCal Corporation, a commercial bank holding company with headquarters in San Francisco, California reported $53.2 billion in total balance sheet assets as of June 30, 2007.

Note:
All figures are in U.S. dollars unless otherwise noted.
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