DBRS Confirms Banco Popular Group’s AA (high) Ratings, Changes Trend to Negative

DBRS has today confirmed all ratings for Banco Popular Group (Banco Popular or the Group). At the same time, DBRS has changed the trend on all long-term ratings to Negative from Stable. The trend on all short-term ratings remains Stable. The confirmation includes the Group’s Senior Unsecured Long-Term Debt & Deposit rating of AA (high), now with a Negative trend, and its Short-Term Debt & Deposit rating of R-1 (high), with a Stable trend.

This rating action reflects the impact on the Group’s prospects of the rapid deterioration in the Spanish property markets, the rising level of nonperforming loans, slower revenue growth, and the increased difficulty of maintaining earnings given the weakening Spanish economy and the still disrupted financial markets. Over the past two quarters, the economy has weakened quickly so that unemployment is now 11.3%, up from 8.0% a year ago, with expectations for further increases in 2009. In October, loan arrears in Spain had tripled from a year ago. While the Group has fared better than this, its nonperforming loans are also increasing sharply. Having gone into this downturn with abundant reserves, the Group has seen its coverage ratio fall quickly with the rapid rise in nonperformers. Earnings before provisions and taxes are also likely to come under pressure, as revenue growth slows and expenses are impacted by the cost of managing deteriorating credits. Banco Popular has been successful in coping with the deteriorating environment in 2008, but faces more challenges with the persistent disruption of financial markets and anticipated further weakening in the economy that goes beyond a normal downturn.

DBRS views the Group’s exposure to real estate developers as sizeable, although it is a moderate proportion of the Group’s total loan portfolio. While Banco Popular’s lending to developers is backed by collateral and has appropriate risk characteristics, this segment has the potential to generate material credit costs at a time when the Group’s earnings are coming under stress from the weakening economy. The difficulties are increasing for this segment in Spain as property values decline, sales volumes remain low and financing is very difficult. The Group’s strong balance sheet has enabled it to contribute to restructurings and resolutions for troubled developers, but this has added to its direct ownership of real estate assets.

The current ratings are underpinned by Banco Popular’s strong credit fundamentals, well-established position in the Spanish banking market, consistent strategy, low expense ratio, reinforced balance sheet with sizeable loan loss reserves and strengthened liquidity. In weathering the sustained turmoil of the past eighteen months, Banco Popular has generated positive earnings in all six quarters. While generally avoiding exposure to the troubled assets that have plagued many over this time period, the Group nevertheless faces increasing headwinds.

Significant deterioration in the Group’s performance in the coming quarters, indicating a sustained weakening in its prospects, could lead to a downgrade. In DBRS’s view, the Group needs to sustain earnings momentum as credit costs rise. In this context, DBRS will continue to monitor the condition of the Group’s portfolios, its success in managing deteriorating credits and its ability to absorb the rapidly rising cost of credit, while maintaining strong capital and liquidity.

As the third largest banking group in Spain, the ratings also incorporate DBRS’s expectation of some form of timely systemic support for Banco Popular in the event of a stress scenario. This expectation has been confirmed by the actions of the Spanish government in 2008 to support Spain’s banking system.

Banco Popular Group is headquartered in Madrid, Spain, and reported total assets of EUR110 billion as of August 2008.

Notes:
All figures are in euros unless otherwise noted.

The applicable methodology is Analytical Background and Methodology for European Bank Ratings, Second Edition, which can be found on our website under Methodologies.

This is a Corporate rating.