DBRS Confirms Deutsche Pfandbriefbank AG - Senior at A (low), Trend Negative

DBRS Ratings Limited (DBRS) has today confirmed the ratings of Deutsche Pfandbriefbank AG (pbb or the Bank), including the Senior Unsecured Long-Term Debt & Deposit rating of A (low), the Short-Term Debt and Deposit rating of R-1 (low), the Intrinsic Assessment (IA) of BBB and the Subordinated Debt rating of BBB (high). The trend on the Long-Term Rating and Subordinated ratings is Negative while the trend on the Short-Term rating is Stable.

The confirmation of pbb’s ratings reflects the continued progress the Bank has made with its restructuring. This progress is primarily illustrated by pbb’s significantly reduced risk profile, improving regulatory capital position, and sustained profitability following the transfer of troubled assets to the FMS-Wertmanagement (FMS-WM) in 2010. In addition, the ratings' confirmation reflects the fact that pbb’s core franchise has largely remained intact throughout the restructuring. However, DBRS notes that pbb’s business model remains challenged by competition in its home market of Germany, the on-going low interest rate environment, and the execution of the European Commission (EC) required disposal of pbb in 2015.

The Long-Term rating incorporates DBRS’s expectation of timely systemic support for pbb should it be needed in the future, which is indicated by an SA-2 support assessment and reflects the government ownership of pbb and ppb’s important role in the German Pfandbrief market. The Negative trend reflects the challenging environment and the uncertainty linked to pbb’s future privatisation, as the extent of support could decrease depending upon the future ownership structure. In DBRS’ view, a new ownership structure could create challenges for pbb’s business model, depending on the specific strategy of any future owner.

At present, the German government maintains full ownership of pbb through the German Financial Markets Stabilisation Fund (SoFFin). However, pbb is targeted for privatisation by year-end 2015 as required under the EC approval of state aid. In DBRS’ view, pbb’s positive track-record over the past several years helps to support the longer term independent strategy and privatization prospects for the Bank. Still, critical success factors include delivering ongoing consistent results, maintaining asset quality and sustaining the Bank’s regained market confidence over the longer term. In evaluating the IA for pbb, DBRS expects very limited upside from the current BBB level, yet downward pressure could arise if pbb’s business model is weakened or if the consistent performance of recent years deteriorates.

The Bank has been profitable for fourteen consecutive quarters and generated pre-tax profits of EUR 124 million for 2012 and EUR 165 million for 2013. While the results continue to benefit from one-off items, DBRS sees the results as clear evidence of a sustainable turnaround in business at pbb. The sustainability of the underlying franchise has also been demonstrated by new business generation over the 2010-2013 period of nearly EUR 26 billion. Notably, the Bank is achieving higher lending margins on new business, which helps to partially offset the effects of a declining nominal asset base over recent years. However, DBRS cautions that maintaining this positive performance is at least in part linked to future cost savings, as well as the effective run down of the low-yielding Public-Finance portfolio.

Following the transfer of troubled assets and all SoFFin guaranteed bonds to FMS-WM in 2010, pbb has maintained a reduced risk profile characterised by strict credit discipline and a more manageable level of problem loans which remained stable at EUR 0.9 billion at year end 2013 (2.5% of loans). Illustrating the reduction in the risk profile, exposure at default (EaD) at the end of 2013 was EUR 66.9 billion compared to EUR 132 billion at Q3 2010. This reflects the transfer and the further run down of the Public Budget Finance business. With an EaD of EUR 33 billion at year end 2013, the Public Sector Financing (PSF) segment includes the public budget financing book, which is in wind-down per EC requirements, as well as the expanding public investment financing book. The smaller Real Estate Financing (REF) book had EaD of EUR 22.5 billion at year-end 2013 and represents the Bank’s primary growth focus going forward.

The Bank’s funding and liquidity profile is largely aligned with its business model. The balance sheet is predominantly wholesale funded via secured mortgage pfandbriefe, but with unsecured issues also accounting for a significant component and complemented by a recently initiated and still relatively small deposit business. As such the Bank remains dependent upon access to unsecured wholesale funding. DBRS notes that pbb issued EUR 7.7 billion of long-term funding in 2013 (58% through pfandbriefe; 42% unsecured) and collected over EUR 1 billion in deposits, and also fully repaid Long-Term Refinancing Operation borrowings from the European Central Bank.

As of end 2013, pbb reported a strengthened pro forma Tier 1 Capital ratio of 20.3% (excluding the contribution from 2013 earnings) and a Core Tier 1 Capital ratio of 18.1% (including the contribution from 2013 earnings). As per Basel III, the Bank estimates a Common Equity Tier 1 ratio of 10.7% (which excludes the SoFFin silent participation) and a Tier 1 Capital Ratio of 16.1%. As such, even following the planned future repayment of outstanding silent participations (EUR 1 billion) and a pro-forma adjustment for hybrid capital (EUR 350 million), DBRS expects that pbb’s regulatory capital should remain satisfactory. On an absolute basis DBRS notes that the Bank’s tangible equity on tangible assets remains low at 3.3% up from 2.3% the previous year.

DBRS’s SA-2 support assessment considers DBRS’s expectation that pbb will receive additional support if needed. This expectation is not necessarily limited to the current ownership, but is also underpinned by pbb’s strong position within the German Pfandbrief market, which continues to play an important role in the German financial system. This, combined with its current government ownership, is fundamental to the two notch uplift reflected in the senior debt and deposit rating of A (low). However, DBRS highlights that depending upon the method and conditions of its privatisation, the level of uplift for pbb’s ratings could decrease. This is reflected in the Negative trend for the Long-Term A (low) rating.

Notes:
All figures are in Euros unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations. Other methodologies used include the DBRS Criteria: Support Assessment for Banks and Banking Organisations and DBRS Criteria: Rating Bank Capital Securities – Subordinated, Hybrid, Preferred & Contingent Capital Securities. These can be found at: http://www.dbrs.com/about/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 is an unsolicited rating. This credit rating was not initiated at the request of the issuer.

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: Peter Burbank
Rating Committee Chair: Roger Lister
Initial Rating Date: July 19, 2006
Most Recent Rating Update: March 14, 2013

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