DBRS Assigns First time Ratings to Liberbank, S.A. – Senior Long-Term Debt at BBB; Negative Trend

DBRS Ratings Limited (DBRS) has today assigned first time ratings to Liberbank S.A. (Liberbank or the Bank). DBRS has assigned a Senior Debt & Deposit rating and Issuer Rating of BBB with a Negative trend and a Short-Term Debt & Deposit rating of R-2 (high) with a Negative trend. At the same time, DBRS assigned an intrinsic assessment (IA) to the Bank of BBB (low).

Liberbank is the result of the merger in 2011 of Grupo Cajastur, Caja Cantabria and Caja Extremadura and operates mainly in the regions of Asturias, Cantabria, Extremadura and Castilla la Mancha. The IA of BBB (low) reflects the strength of Liberbank’s franchise in its home markets, and the work undertaken by the Bank to improve its balance sheet strength in the past 2 – 3 years. It also takes into consideration its limited geographic scope, which constrains the diversity of its revenue streams, its credit exposures, concentrated in four regions of Spain where asset quality continues to deteriorate, and its low profitability, impacted in recent years by a high level of loan loss provisions.

The Bank’s ratings are also underpinned by its sound funding structure supported by a strong deposit base, its improved regulatory capitalisation and its low exposure to Real Estate (RE) and Construction sector after the transfer of EUR 6 billion of loans and foreclosed assets to Company for the Management of Assets proceeding from Restructuring of the Banking System (SAREB) in February 2013.

With EUR 44.5 billion in total assets at end-December 2013, Liberbank is a mid-size Spanish retail bank, and DBRS anticipates that Liberbank would likely receive some form of timely systemic support in a highly stressed scenario, resulting in the Bank’s designation as a systemically important bank (SIB) with an SA2 support assessment. Explicit support has been provided in the past to the Bank through Liberbank’s issuance of Core Tier 1 eligible hybrid instruments that were partially subscribed to by the State. The SA2 designation results in a one-notch uplift from the IA of BBB (low) to the final rating of BBB. The Negative trend primarily reflects the downside risks to economic growth that are still present in Spain and especially, the Bank’s home markets.

The Bank has a strong franchise in the regions of Asturias, Cantabria, Extremadura and Castilla la Mancha. Although DBRS views Liberbank’s franchise on a national scale as small and therefore rather vulnerable, its local market shares are meaningful with more than 28% for deposits and more than 23% for lending in core areas such as Cáceres, Toledo, Asturias and Cantabria. The resilience demonstrated in Liberbank’s franchise to date is viewed positively by DBRS.

Net income at the Bank increased to EUR 48 million at year-end 2013 from a loss of EUR 1.83 billion for the same period in 2012. The key drivers for the return to profitability were sales of Government bonds and the successful reduction in staff and administrative costs; in fact, the efficiency ratio (calculated by DBRS) stood at 52% at end-2013, which DBRS considers a solid indicator by domestic and international standards.

However, DBRS expects the Bank to continue to face pressure on profitability throughout 2014 due to the ongoing deleveraging process, low interest rates and the still elevated, although declining, cost of funding which will continue to impact net interest income. The macroeconomic outlook in Spain means that the Bank continues to operate in a difficult environment, with a high unemployment rate and asset quality still deteriorating.

In 2010, Cajastur, one of the saving banks that merged to form Liberbank, acquired the banking business of the problematic Caja Castilla la Mancha (CCM). At that time, the Spanish authorities, via the Deposit Guarantee Scheme, provided Cajastur with an Asset Protection Scheme (APS) to cover for potential losses of the most problematic assets of CCM. The APS is still valid and supports DBRS’ view of the current satisfactory risk profile of the Bank.

The Bank’s risk profile is consistent with its core banking franchise, with roughly 62% of its assets dedicated to lending activity. Over two thirds of lending relates to households with generally conservative residential mortgage underwriting standards, while 25% of lending is linked to corporate business, which has continued to form the bulk of Liberbank’s doubtful loan portfolio. As of December 2013 total doubtful loans reached 10.4% of total lending (excluding the exposure covered by APS), below the Spanish system average of 13.6%. However, the corporate non-performing loan (NPL) ratio stood at 19.8% (excluding RE and civil works) compared to a Spanish system average of 12.61% as of September 2013. This ratio was double impacted by the corporate deleveraging activity and the impairment of few big companies. Yet, DBRS notes that the Bank’s total cash provision coverage levels for doubtful lending (excluding RE) of 40% are in line with system average. Liberbank’s aggregated provisions for total portfolio stood at 4.42% at year-end 2013 and the Bank’s aims to increase this ratio to 5.4% during next 2 years, following Oliver Wyman ‘s stress test base case.

The Bank’s funding structure is largely retail based via deposits, retail bonds and marketable securities, a profile that DBRS views as satisfactory. Liberbank has been able to maintain a stable customer deposit base throughout the crisis. This fact, coupled with the deleveraging of the loan book, has allowed the bank to avoid any funding pressures and improve the commercial gap throughout 2013, which is reflected in a loan-to-deposit ratio of 97% at December 2013.The Bank’s liquidity position is solid. Liberbank reported unencumbered assets of EUR 8.6 billion as of December 2013, which combined with EUR 4.3 billion covered bond issuance capacity, provides comfort for future long term refinancing operation (LTRO) repayments of EUR 4.7 billion, as well as bond redemptions over 2014 to 2016.

Regulatory capitalisation has significantly improved, achieved mainly via a reduction in risk-weighted assets (RWAs), a consequence of the deleveraging process and by raising additional capital through the issuance of contingent capital instruments that qualify as core capital. Nevertheless, DBRS views the Bank’s equity capital of EUR 1.58 billion in 2013 as providing only a limited amount of loss-absorbing capital for the Bank. DBRS considers a tangible common equity/tangible assets ratio of 3.88% at the end of 2013, which includes retail contingent convertibles (CoCos) of EUR 310 million based on DBRS’s expectation of its conversion into common equity, as somewhat low, although improved from 1.94% as of December 2012. At December 2013, the Bank’s Core Tier 1 capital ratio was 10.39% based on Bank of Spain and European Banking Authority standards, and 7.3% based on Basel III fully loaded criteria. While DBRS views positively the Bank’s ability to meet regulatory capital requirements, DBRS would view a growth in total equity positively from a ratings perspective, as it would improve the Bank’s capital buffer and its risk absorption capacity.

Notes:
All figures are in EUR unless otherwise noted.

The principal methodology applicable is: the Global Methodology for Rating Banks and Banking Organizations. Other methodologies used include the DBRS Criteria – Intrinsic and Support Assessments. The rating methodologies and criteria used in the analysis of this transaction can be found at: http://www.dbrs.com/about/methodologies

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

DBRS does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

Generally, the conditions that lead to the assignment of a Negative or Positive Trend are resolved within a twelve month period. DBRS’s outlooks and ratings are under regular surveillance

For further information on DBRS historic default rates published by the European Securities and Markets Administration (“ESMA”) in a central repository, see:
http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Ratings assigned by DBRS Ratings Limited are subject to EU regulations only.

Lead Analyst: Rui Croca
Rating Committee Chair: Alan G. Reid
Initial Rating Date: 11 March 2014

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