DBRS Comments on Santander’s 3Q12 Results – Senior at A, Negative Trend

DBRS, Inc. (DBRS) has today commented on the 3Q12 results of Banco Santander SA (Santander or the Group). DBRS rates the Group’s Senior Unsecured Long-Term Debt & Deposit at A and Short-Term Debt & Deposit at R-1 (low). The trend on all long-term ratings is Negative; the trend on all short-term ratings is Stable. The Group reported net attributable profit of EUR 100 million in 3Q12, equal to the prior quarter. Additional extraordinary provisions amounted to EUR 1.1 billion related to new provisioning requirements in Spain (EUR 1.3 billion in the previous quarter). The Group reported net attributable profit of EUR 1.6 billion in 1Q12 and EUR 1.8 billion in 3Q11.

Results in 3Q12 continue to demonstrate the importance of the Group’s significant international scope. Reflecting the diversity of Santander’s franchise outside of Spain, these regions contributed about 80% of consolidated net operating income (excluding Corporate Activities) in 9M12 or income before provisions and taxes (IBPT), Santander continues to generate enough IBPT to absorb credit provisions that are elevated by credit deterioration and regulatory requirements and strengthen capitalization. In terms of contribution to IBPT in 9M12, while only approximately 15% was generated in Spain from the Santander network and Banesto, 9% came from the U.K., 41% from Brazil and 16% from other countries in Latin America (LatAm), with smaller contributions from Global Wholesale Banking, Santander Consumer Finance, Poland, Portugal and the U.S. Indicative of the earnings power of this franchise, Santander generated consolidated attributable profit of EUR 1.8 billion in 9M12, after providing for EUR 5 billion of extraordinary provisions; it generated profit of EUR 5.4 billion in 2011, and EUR 8.2 billion in 2010.

Santander generated gross income (net revenues) of EUR 10.8 billion in 3Q12, down slightly from EUR 11.2 billion in 2Q12 and stable from EUR 10.7 billion in 3Q11. Net revenues are driven by markets in Latin America (LatAm) offering significant growth opportunities and helping to somewhat offset the slowdown in developed economies, such as Spain and the U.K. Santander is also experiencing pressure in its Portuguese subsidiary. While Santander Totta (Totta) contributes just 2% of the Group’s operating net revenues (excluding Corporate Activities), it did not deteriorate in 3Q12.

Helping maintain Santander’s overall performance, LatAm, which includes activities in Brazil, Mexico and Chile among other countries, continues to generate improving revenues and solid earnings. In LatAm, the Group generated significant gross operating income of EUR 6.0 billion in 3Q12, driven by good volumes. Net operating income of EUR 3.7 billion, or 57% of Santander’s operating net revenues (excluding Corporate Activities) in 3Q12, continues to support the overall profitability of the Group. DBRS notes that elevated credit costs, which showed some signs of stabilising in 3Q12, and large minority interests are weighing on net attributable profit in LatAm; this profit decreased by 6.3% YoY to EUR 3.3 billion in 9M12, as compared to an increase in net revenues of 12.9% over the same time period.

In Santander’s home market of Spain, which generated 19% of the Group’s operating net revenues (excluding Corporate Activities) in 3Q12, about the same as 2Q12, conditions remain challenging. In Spain, Santander generated net profits of EUR 432 million in 3Q12. This compares to net profits of EUR 339 million in 2Q12, and EUR 141 million in 3Q11. Profitability has improved QoQ and YoY, but remains below the pre-crisis pace of approximately EUR 800 million to EUR 1 billion per quarter in 2007. Lower provisioning in 3Q12 helped improve earnings as revenues decreased by 3.4% QoQ. But, as in 2Q12, bottom line results in Spain in 3Q12 would have been negative, if the extraordinary provisions related to Spanish requirements were reported within Spain, rather than in Corporate Activities. DBRS notes that Santander has now covered 90% of the Bank of Spain’s new provisioning requirements that totalled EUR 6.8 billion for the Bank, coming either from capital gains or from profits. The Group continues to focus on deleveraging, particularly through a reduction of loans to real estate developers. Despite this, the nonperforming loan (NPL) ratio in Spain deteriorated to 6.4% in 3Q12 vs. 6% in 2Q12.

The macroeconomic and regulatory environment in the U.K. remains challenging. Santander’s revenue generation ability is hindered by an overall decline in volumes (except for SMEs lending although absolute figures remain low) and very low interest rates, which have a significant impact on the Group’s large mortgage portfolio. Net interest income continues to decline, -0.6% QoQ, though the Group has been able to offset this decline with increased fees to keep gross income above EUR 1 billion. In the U.K., Santander has been increasing its loans to higher-yielding SMEs and improving loan spreads, though not enough to offset the increased cost of deposits. On a positive note, the level of provisioning improved in 3Q12 relative to 2Q12, thereby benefiting the U.K.’s bottom line.

For the Group, asset quality ratios remain elevated, with an NPL ratio of 4.3% at 3Q12. Driving the ratio are the Group’s exposures in Spain where the NPL ratio is 6.4%, which includes Banco Santander branch network in Spain at 9.6%, and Banesto at 5.7%. Elsewhere, Brazil’s NPL ratio is at 6.8%, rising, Portugal’s NPL ratio is elevated at 6.2% up from 5.4% at 2Q12, Chile’s NPL ratio is at 5%, rising, and Poland’s NPL ratio is at 4.7% albeit diminishing. Importantly, Santander continues to position itself to successfully weather the extended economic crisis. The Group has bolstered its levels of generic and specific provisions (EUR 25 billion at 3Q12, up from EUR 22.2 billion at 2Q12) to cover expected future losses. Santander has been able to access the wholesale markets through debt issuance in Spain and local markets, such as in the U.K. and LatAm. Besides having no capital shortfall under the latest stress tests (Oliver Wyman), the Group reached a 10.4% core capital ratio based on Basel II standards at 3Q12, and exceeded the 9% core capital requirement of the EBA as well.

Notes:
All figures in Euros (EUR) unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations. Other methodologies used include the DBRS Criteria – Intrinsic and Support Assessments and the Rating Bank Subordinated Debt and Hybrid Instruments with Discretionary Payments. All 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 commentary was disclosed to the issuer and no amendments were made following that disclosure.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

Lead Analyst: Roger Lister
Approver: Alan G. Reid
Initial Rating Date: 11 October 2006
Most Recent Rating Update: 10 August 2012

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