DBRS: BPE Q1 NII Pressured with Deleveraging Despite Higher NIM; Lower NPLs Signal Reverse in Trends

Summary:
• Reported net income was down YoY and QoQ with lower NII and fees and commissions, but trading gains and expense reductions supporting the 17.5% increase in IBPT YoY.
• Asset quality showing signs of improvement for the first time since the beginning of the crisis with a reduction in the stock of NPLs.
• DBRS rates Banco Popular’s Senior Unsecured Long-Term Debt & Deposits at A (low) with a Negative trend.

In the view of DBRS Ratings Limited (DBRS), Banco Popular Español’s (Popular or the Bank) net income in Q1 2014 remained under pressure from deleveraging and the complex environment in Spain, although income before provisions and taxes (IBPT) was up 18% year-on-year (YoY) and 13% quarter-on-quarter (QoQ), mainly due to higher trading gains, which helped the Bank absorb the still elevated cost of risk and due to a decrease in costs QoQ. Popular demonstrated its ability to manage customer spreads, taking advantage of the reduction in the cost of deposits to improve its customer spread to 248 bps in Q1 2014 from 231 bps in Q1 2013, one of the highest amongst its peers. However, this improvement was not sufficient to offset the Bank’s continued deleveraging and the low levels of Euribor, with net interest income (NII) continuing its negative trend down 5.6% QoQ and 6% YoY. Net fees and commissions were also down QoQ and YoY.

The Group continues to rationalise its costs by optimizing its branch network and adjusting the number of employees; as a consequence, costs were down 3% QoQ. The Bank continues to display a consistent approach to cost management, its efficiency ratio stood at 44.4% in Q1 2014 improving from an already sound 46.4% at Q1 2013.

Popular reported a reduction in the stock of non-performing loans (NPLs) for the first time since the beginning of the crisis. Additionally, net entries have decreased by EUR 132 million since year-end 2013 reflecting higher level of recoveries. This has led to a marginal decrease in the NPL ratio to 14.3% in Q1 2014 from 14.4% in Q4 2013. This indicator, although showing signs of declining for the first time since 2007, is still very high mainly due to the elevated exposure that the Group has to problematic real estate loans. If real estate doubtful loans are excluded, the NPL ratio would be 6.4% at Q1 2014, 20 bps lower than at year-end 2013. Net provisions were down 9% YoY, reflecting the declining trend in the cost of risk.

The Group continued to improve its funding profile in Q1 2014. Despite increasing loan volumes by 1.2% QoQ, the deleveraging process is still underway on a YoY basis. This, coupled with an increase in customer deposits, allowed the bank to continue to improve its commercial gap. The loan-to-deposit ratio stood at 110% in Q1 2014 improving from 123% in Q1 2013. Taking advantage of the current favourable macroeconomic outlook, Popular was also successful in accessing the wholesale capital markets in Q1 2014 with the completion through January and April 2014 of three separate issues of Senior Debt and covered bonds totaling EUR 1.75 billion. This has allowed the Group to reduce its dependency on the European Central Bank to just EUR 4 billion in Q1 2014 from a sizable EUR 18 billion at Q1 2013.

Finally, DBRS considers that the Group is maintaining a sound level of capitalization in Q1 2014 with a core tier 1 ratio of 10.3%, according to Basel III fully loaded criteria. The Bank also reported a robust 6.2% leverage ratio under the same criteria.

DBRS rates Banco Popular Español’s Senior Unsecured Long-Term Debt & Deposits at A (low) with a Negative trend.

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