DBRS Places Ratings for SEB Under Review with Negative Implications

DBRS has today placed all ratings for Skandinaviska Enskilda Banken AB (SEB or the Bank) Under Review with Negative Implications. This rating action includes the Bank’s AA (low) Senior Unsecured Debt & Deposits ratings and its R-1 (middle) Short-Term Debt & Deposits ratings.

The placement of the ratings Under Review – Negative reflects DBRS’s concern about the acceleration of loan impairments and credit loss provisions, the deepening economic crisis in the Baltic region, and the worsening economic downturn in the Nordic region and Germany which may further reduce SEB’s earnings generation ability. The ratings review will focus on the overall impact of the deteriorating environment on the Bank’s earnings generation and its ability to absorb rising credit costs out of pre-provision earnings, whilst protecting its solid capital position.

DBRS’s review placement follows SEB’s announcement of lower net income for Q1 2009, as earnings were reduced by sharply higher credit provisions. For the quarter ended 31 March 2009, the Bank reported net profit of SEK 1.0 billion, down 70% from the prior quarter and 44% below the year-ago quarter. While revenues were solid, net profits dropped because of increased provisions of SEK 2.4 billion and an elevated tax rate of 43%, up from 23% in Q4 2008, as SEB recorded profits in the high-tax Swedish market, but losses in the lower-tax Baltic countries. SEB expects the tax rate to remain high in coming quarters. Q1 2009 results included several extraordinary items with a combined negative after-tax effect of approximately SEK 760 million. These negative items included valuation losses and the goodwill impairment on SEB’s Ukraine operations, which were partly offset by positive currency effects and pull-to-par gains on bond holdings. Underlying net profit excluding extraordinary items was down 71% from the prior quarter which was boosted by positive one-time effects, but also down 44% from the already-depressed level of Q1 2008.

DBRS expects credit costs to accelerate further and possibly exceed SEB’s earnings generation in coming quarters. Provisions more than tripled over the past two quarters, and rose 40% in Q1 2009 alone from already-elevated levels of Q4 2008. Credit losses of SEK 2.4 billion absorbed more than half of SEB’s pre-provision income. In DBRS’s opinion, further increasing provisions could exceed the Bank’s ability to offset such losses out of current earnings, leading to negative results. Such losses would negatively affect the Bank’s ability to protect its capital position. DBRS recognises that SEB bolstered its capital position through its rights offering that helped raising its Tier 1 ratio to 12.0% (excluding transition effects) as of 31 March 2009, up from 10.1% at year-end 2008. SEB’s solid capital position is viewed as a positive factor limiting downward rating pressure. However, SEB’s capital position could be at risk, if credit losses continue to accelerate in coming quarters.

Further increasing credit provisions are likely in DBRS’s view because of worsening economic conditions across SEB’s footprint. The deepening economic crisis in the Baltic countries shows no signs of abating and could have a significant negative impact on SEB’s overall credit costs in DBRS’s view, as SEK 194 billion or 10% of its total credit exposure is located in the Baltic region. Credit provisions in the Baltics rose from SEK 878 million in Q3 2008 to SEK 1.8 billion in Q4 2008, and remained elevated at SEK 1.7 billion in Q1 2009. DBRS sees a risk of further elevated credit losses in the Baltics, given the continuing economic crisis there. DBRS is also concerned about the deepening recession in Germany, where SEB has SEK 461 billion or 24% of its total credit exposure. Moreover, the Swedish economy is also in recession, affecting SEB’s domestic market that accounts for SEK 953 billion or almost half of its total credit exposure. Given SEB’s large exposure to Sweden and Germany and the economic stress in these countries, even a small increase in loan impairments would drive sharply higher credit provisions. Credit loss provisions outside the Baltic region increased sharply in Q1 2009, underpinning DBRS’s concern about a broad deterioration in credit quality across SEB’s footprint. DBRS recognises that SEB continued to record provisions in line with rising loan impairments, leading to a relatively stable coverage ratio of total reserves to impaired loans in recent quarters. As of 31 March 2009, the coverage ratio (including both individually assessed and portfolio-assessed loans) stood at 69%, up slightly from 68% at year-end 2008, as SEB recognised sufficient provisions to more than offset rising impairments and write-offs.

SEB’s liquidity profile is enhanced in DBRS’s opinion by the Bank’s decision to apply for participation in the Swedish government’s debt guarantee scheme. The option to issue government-guaranteed debt partly mitigates SEB’s shortening maturity profile and its reliance on wholesale funding which are viewed as a weakness. Participation would enable SEB to issue government-guaranteed debt, adding a source of stable liquidity, albeit at a cost, because the guarantee fee due for participation in the guarantee scheme will only be partially offset against the obligatory stability fee all Swedish banks have to pay into the government’s stability fund. DBRS has assigned provisional ratings of AAA / R-1 (high), both with a Stable trend, to debt issued under the Swedish debt guarantee scheme and expects to apply these provisional ratings to any guaranteed debt SEB may issue under the scheme.

DBRS’s ratings review will focus on the overall impact of the deteriorating economic environment on SEB’s credit costs and its earnings generation ability. Ultimately, the review will focus on SEB’s ability to absorb the impact of the current cycle, while protecting its overall solid franchise. Moreover, the review will look to the extent that SEB’s business lines are able to generate income to withstand the deepening recession and the ongoing capital market disruptions. Negative ratings actions would result should DBRS see indications that SEB’s underlying earnings ability was impaired or should credit quality deterioration beyond DBRS’s tolerance levels.

Notes:
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 (Financial Institutions) rating.