DBRS Confirms Danske Bank A/S at A (high), Trend Stable

DBRS, Inc. (DBRS) has today confirmed the Senior Unsecured Debt & Deposits rating of A (high) and Short-Term Debt & Deposits rating of R-1 (middle) of Danske Bank A/S (Danske or the Bank). The trend on all ratings is Stable. At the same, DBRS has confirmed the intrinsic rating of A (low). Furthermore, DRBS maintains Danske’s designation as a Critically Important Banking organisation (CIB) in Denmark.

As a CIB, Danske’s ratings are subject to the floor rating, which is A (high) for long-term debt and deposits and R-1 (middle) for short-term debt and deposits at the bank level. The level of the floor reflects DBRS’s expectation that the Danish state will provide support, if necessary, to prevent any CIB from weakening below this rating level. DBRS views the floor as the level of support at which the Danish state will sustain its CIBs to ensure that its financial system is fully functioning. The CIB designation provides an uplift of two notches to the ratings.

The intrinsic rating for Danske considers the Bank’s strong franchise in Denmark and the Nordic region, the earnings generation potential within that franchise, and the bolstered liquidity and capital position. Offsetting this is the still weak earnings attributed to significantly higher credit costs. Moreover, the ratings consider DBRS’s expectation that earnings will remain weak in the near-term given the depth of the economic downturn in Ireland, Northern Ireland, and the uncertain direction of the economy in Denmark.

Danske’s strong franchise and dominant domestic market share is the basis for the solid intrinsic rating. To this end, Danske boasted a 26.8% market share in lending and 29.5% deposit share in Denmark at year-end 2011. The franchise remains resilient, despite the intense competitive environment. The Bank’s home market share remained rather stable over the most recent past. Given the leadership position in Denmark, protecting this position is of the essence, as this region adds significantly to the franchise and facilitates sizeable earnings generation ability. However, high credit costs are masking the solid earnings generation ability of the franchise. Danske also has strong shares in trading and investment banking, life insurance, pensions and asset management. Danske’s sizeable Nordic branch network and its profitable Nordic capital markets business both add to the franchise strength. Moreover, in DBRS’s view, the Nordic business segments also have substantial earnings generation ability and provide a level of diversification. That said, given its presence in Denmark, Danske’s earnings remain very much tied to the domestic economy.

Danske’s financial performance has been uneven as credit cost increased as 2011 progressed. Danske reported a net profit of DKK 200 million for 4Q11 compared to a loss after tax of DKK 384 million in the prior quarter. For full year 2011, the Bank generated a net profit of DKK 1.7 billion, 53% lower than 2010. The second half of the year was most difficult for the Bank as it generated a loss after tax of DKK 184 million in 2H11 compared to DKK 1.9 billion of net profit in 1H11. DBRS, however, notes positively that performance improved sequentially in 4Q11 with pre-tax profits increasing to DKK 615 million from only DKK 10 million in 3Q11. Given the challenging operating environment in Denmark and heightened uncertainties regarding the ultimate outcome of the Euro zone sovereign debt crisis, DBRS views the quarterly and full year results as acceptable, demonstrating the resiliency of earnings, and the strength of the franchise in its core domestic market. That said, DBRS expects earnings to be pressured by the still weak conditions in the Irish and Northern Ireland businesses and, more recently the weaker conditions in Denmark, which have impacted credit performance, especially of Corporates and SMEs.

DBRS recognises Danske’s prudent management of its relatively sound liquidity and funding profile. The Bank issued DKK 37.8 billion of covered bonds and DKK 21.3 billion of senior debt in 2011, and completed half of its 2012 funding plan in January. Danske expects to raise DKK 21-31 billion in funding during the remainder of the year using a combination of covered bond and senior debt issuances. DBRS notes that Danske has built up its liquidity reserves in preparation of redeeming the DKK 36.4 billion of government guaranteed debt that matures in 2012. The Bank estimates that its excess liquidity will enable it to remain funded for over 30 months without access to capital markets. At year-end, deposits totalled DKK 849 billion, down from DKK 889 billion at 3Q11 and DKK 861 billion in 4Q10, with the decline driven by a decrease in corporate deposits. Nevertheless, the loan-to-deposit ratio, adjusted for loans issued by Realkredit Danmark, was a respectable 111% at year-end 2011.

The ratings consider Danske’s bolstered capital position. The Bank successfully completed a DKK 20 billion rights offering in April 2011. Although part of the proceeds had been expected to be used to repay the Government’s hybrid capital investment, the Bank did not to prepay the loan of DKK 24 billion due to unfavourable repayment terms. Therefore, at year-end, the capital base included DKK 42 billion of hybrid capital, accounting for 29.2% of tier 1 capital. Importantly though, the completion of the rights offering meaningfully improved the quality of capital, a positive development given the changing regulatory landscape and the sharpened focus on Core Tier 1 capital. To this end, at year-end, capitalisation was solid with a reported Core Tier 1 ratio of 11.8%, while the Tier 1 and Total Capital ratios were 16.0% and 17.9%. Danske estimates that its Core Tier 1 Capital ratio on a Basel III basis would be 11.1%, contingent upon the treatment of Danica Pension in the solvency calculations. Further clarity on the treatment mechanism is expected in early 2013 from the European Banking Authority and the E.U. Commission.

Notes:
All figures are in Danish Krone (DKK) unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations. Other methodologies used include the Enhanced Methodology for Bank Ratings – Intrinsic and Support Assessments. Both can be found on the DBRS website under Methodologies.

The sources of information used for this rating include company documents and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

This credit rating has been issued outside the European Union (EU) and may be used for regulatory purposes by financial institutions in the EU.

Lead Analyst: Steven Picarillo
Rating Committee Chair: Alan G. Reid
Initial Rating Date: 18 January 2010
Most Recent Rating Update: 10 March 2011

For additional information on this rating, please refer to the linking document under Related Research.