DBRS Comments on Banco Popular Español S.A.’s Q3 2009 Results; AA Rating Unchanged

DBRS has today commented that its ratings of Banco Popular Español S.A. (Banco Popular or the Group) remain unchanged after the announcement of the Group’s Q3 2009 results. DBRS rates the Group’s Senior Unsecured Long-Term Debt & Deposit at AA with a Negative trend. Banco Popular continued to demonstrate its strong fundamentals by generating solid pre-provision profit, or income before provisions and taxes (IBPT), to absorb elevated impairment charges, while concurrently bolstering capital and maintaining strong liquidity.

With its franchise continuing to maintain strong revenues and its costs under control, the Group generated net profits of EUR 209 million in the quarter, down only modestly from EUR 217 million in the prior quarter. The Group has increased net interest income and revenues from a year ago, helping it absorb credit impairments of EUR 456 million that are almost 3 times the year-ago level. Nevertheless, net profits are down 26% year-over-year. Although there are some signs that the deterioration in credit is slowing, DBRS expects that asset impairments will continue to remain elevated through 2010, given the sustained weakness in the Spanish economy. This sustained weakness is expected to keep earnings under pressure. Given the continued strength of Banco Popular’s franchise and its earnings generation, DBRS is of the view that the Group can weather the expected level of stress. The Group could come under increased pressure, if the economy deteriorates and fails to recover in 2010. In this context, DBRS continues to monitor the condition of the Group’s portfolios, its success in managing deteriorating credits and its sustained underlying earnings to absorb the elevated cost of credit, while maintaining strong capital and liquidity.

DBRS views positively Banco Popular’s actions to cope with the deteriorating environment that were evident again this quarter. The Group has focused on increasing net interest income while controlling costs. The expansion of its net interest margin combined with asset growth underlies the sustained trajectory of increasing revenues. Contributing to the stable net interest margin quarter-over-quarter, the Group continued to lower the rate paid on deposits, while at the same time growing deposits through the Group’s strong customer relationships. Currently at 2.41%, the Group’s net interest margin has held up well, when compared to 2.42% in Q2 2009 and 2.35% in the prior year’s quarter. Banco Popular is benefiting from floors on loan rates; about half of its loan portfolio has floors and about half of these floors have been activated. This has helped protect the Group’s margin from the squeeze due to the decline in rates. Banco Popular also grew its loan portfolio by 4.7% year-over-year, but remained selective, with a focus on supporting its clients, strong credit requirements and no growth in loans to developers or the construction sector. In weathering the sustained turmoil that has persisted for over two years, Banco Popular has generated positive earnings in every quarter.

By sustaining revenues and controlling expenses, the Group generated IBPT in excess of impairments and provisioning expense of EUR 195 million, or a 43% cushion. Indicative of the Group’s solid earnings generation capabilities, IBPT was EUR 651 million, down from EUR 723 million in the prior quarter, but an increase of 12.5% versus Q3 2008. Operating expenses were held virtually constant quarter-over-quarter and declined 3.9% year-over-year, as Banco Popular worked to reduce costs. The Group continued to manage its capacity by reducing the number of branch offices and lowering headcount through natural attrition. Banco Popular’s exceptional ability to streamline operations enabled it to maintain its efficiency ratio at 30.7% in Q3 2009, compared to ratios of 28.3% and 28.2% in the first two quarters of the year.

Signs of slowing credit deterioration were evident, as net entries of non-performing loans declined 36.9% quarter-over-quarter. Nevertheless, the non-performing loan (NPL) ratio increased to 4.63% from 4.39% in the prior quarter. The Group appropriately added to provisions in the quarter rather than relying largely on its generic reserves. While the coverage ratio of reserves to NPLs slipped to 45.0% in the quarter from 47.1% in the prior quarter, the coverage of specific provisions was maintained at 26.3% versus 26.6% in the prior quarter. With mortgage collateral factored in, coverage of NPLs was much higher at approximately 124%, implying considerable reserves for further deterioration. Banco Popular has EUR 981 million of generic provisions, which would last the Group beyond 2010 at the current pace of usage. While the Group’s strong balance sheet has enabled it to contribute to restructurings and resolutions for troubled developers, these efforts have added to its direct ownership of real estate assets and increased this potential source of stress on the balance sheet.

While Banco Popular has successfully coped with the deteriorating environment in 2008 and thus far in 2009, it remains exposed to considerable stress in the current environment from the elevated level of credit problems, the sustained weakness in the economy and the continued difficulties in the Spanish banking sector that could affect the financial markets. This stress is reflected in the Negative trend. DBRS expects that Banco Popular’s strengthened capitalization and solid liquidity will help it cope with this weakening in credit. The Group increased core capital on a pro-forma basis to 8.62% from 7.37% at Q3 2009. With deposits funding 62% of assets, up from 54% a year ago, the Group has improved its liquidity profile by reducing its reliance on wholesale funding. Banco Popular also maintains EUR 16.0 billion as a second line of liquidity that is available to pledge to the ECB and covers wholesale maturities over the next year.

Banco Popular Group is headquartered in Madrid, Spain, and reported total assets of EUR 123 billion as of September 2009.

Notes:
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.