DBRS Ratings for WestLB Unchanged Following Q1 2009 Results – Senior at A (high)

DBRS has today commented that its ratings for WestLB AG (WestLB or the Bank) are unchanged, following the Bank’s recently announced Q1 2009 results and the EU Commission’s approval of past risk guarantees and WestLB’s restructuring plan. DBRS maintains A (high) Long-Term Debt & Deposit ratings and R-1 (middle) Short-Term Debt & Deposit ratings for WestLB. The trend on all ratings is Stable. WestLB’s ratings are based on DBRS’s A (high) / R-1 (middle) floor ratings for all members of the joint liability scheme of Sparkassen-Finanzgruppe. The ratings also reflect the support from the Bank’s owners, primarily the state of North Rhine Westphalia (directly and indirectly) and two regional savings banks associations. As a systemically important bank, DBRS perceives that West LB would have access to additional support should it be needed.

In DBRS’s view, WestLB’s Q1 2009 operating pre-tax income of EUR 250 million reflects the Bank’s progress in cutting expenses, strengthening core businesses and reducing risk. However, the results also show the Bank’s continued exposure to volatile financial markets and the recessionary economy, which drove elevated impairment charges for credit losses and further mark-downs on legacy investment portfolios in the quarter.

Operating pre-tax income was up EUR 176 million from adjusted pre-tax income of EUR 74 million in Q1 2008, excluding a one-time gain of EUR 947 million in the year-ago period. The Q1 2009 result compared to a pre-tax loss of approximately EUR 550 million in Q4 2008 which was driven by the market disruption. The improved operating performance was partly driven by a EUR 83 million or 23% reduction in administrative expenses from the year-ago period, reflecting staff reductions and reduced IT expenses. Further, expenses declined approximately EUR 20 million or 7% from the prior quarter. Given WestLB’s consistent cost improvements in the more recent quarter, DBRS expects the expense reductions will prove sustainable. WestLB also benefited in Q1 2009 from a EUR 154 million or 64% year-over-year increase in net interest income, which was EUR 394 million for the quarter. Net interest income increased EUR 75 million from the linked quarter, due in part to favourable conditions in money markets, but also reflecting increased margins in corporate and commercial real estate lending.

WestLB absorbed elevated impairment charges for credit losses of EUR 174 million in Q1 2009, up EUR 54 million from the year-ago period, and still remained profitable. Given the recessionary economy, DBRS expects elevated credit impairments to continue weighing on results in coming quarters. Trading income of EUR 212 million reflected solid customer-driven fixed income origination volumes, but was also affected by one-off items. These included EUR 260 million in securities mark-downs that were more than offset by EUR 290 million in fair-value gains on the Bank’s own liabilities, which may not reoccur.

The results indicate that the Bank is making progress in strengthening its core businesses. WestLB recorded solid customer volumes in corporate bonds and promissory notes placements in the quarter, as the Bank remains a leading provider of fixed income products to large German corporates and institutional clients. WestLB benefited from its role as a top ten global project finance bank in the quarter, which supported underlying earnings in its Corporates & Structured Finance business segment. The Bank remains a large provider of payments processing in Germany.

However, the Q1 2009 results also indicate WestLB’s continuing vulnerability to market disruptions and the recessionary economic environment, as reflected in significant valuation losses on legacy investments and the elevated credit impairments. Moreover, DBRS continues to view WestLB’s dependence on wholesale funding and lack of retail deposits as a weakness that is partly mitigated by the Bank’s stable funding from its savings banks owners and institutional clients.

DBRS views positively the recent approval from the European Commission for the EUR 5 billion loss guarantee that WestLB received in Spring 2008 and the Bank’s restructuring plan. The decision enables WestLB to implement its restructuring plan, which is consistent with key conditions imposed by the Commission, namely a 50% reduction in total assets and a change in ownership by 2011. While the planned asset reduction is likely to reduce WestLB’s earnings, it could also lower the Bank’s risk profile. In DBRs’s view, the ultimate effect on WestLB’s franchise strength and underlying earnings ability will depend on the Bank’s success in implementing its plan and the support it will receive.

A key component of the Bank’s restructuring is the planned ring-fencing of approximately EUR 80 billion in non-core assets off WestLB’s balance sheet (Omega project). This is likely to require additional capital, guarantees or other forms of support. The remaining uncertainty about the source and extent of such support represents a challenge WestLB needs to address in order to complete its restructuring.

DBRS views WestLB’s capitalisation as weakened. The Bank’s core (tier 1) capital ratio of 5.9% as of 31 March 2009 declined from 6.4% as of year-end 2008, as risk-weighted assets increased 5% due to higher risk weightings and unfavourable currency effects. Without the proposed asset transfer, WestLB’s capitalisation would likely weaken further, given the challenging environment. Such a development, if not addressed, could undermine WestLB’s ability to protect its franchise and pursue its restructuring. As such, DBRS will closely monitor how WestLB’s capital position evolves.

Note:
All figures are in Euros unless otherwise noted.

The applicable methodologies are Analytical Background and Methodology for European Bank Ratings, Second Edition, and Enhanced Methodology for Bank Ratings – Intrinsic and Support Assessments which can be found on our website under Methodologies.

This is a Corporate (Financial Institutions) rating.