DBRS Downgrades Popular’s Senior Ratings to BBB, Negative Trend

DBRS Ratings Limited (DBRS) has today downgraded Banco Popular Español, S.A.’s (Popular or the Bank) ratings including its Senior Unsecured Long-Term Debt & Deposit rating to BBB from BBB (high), its Short-Term Debt & Deposits rating to R-2 (high) from R-1 (low) and its Subordinated Debt rating to BBB (low) from BBB. The Trend on the Senior and Short-Term Debt & Deposits has been changed to Negative from Stable. Popular’s subordinated debt remains Under review with Negative Implications (URN) (see DBRS Places Certain Sub Debt of 27 European Banking Groups Under Review With Negative Implications). DBRS has also downgraded the Long Term Critical Obligations Rating (COR) to A (low) with a Negative Trend and confirmed the Short Term COR at R-1 (low) with Stable Trend. Please see a full list of ratings at the end of this press release.

The downgrade of the Senior Unsecured Long-Term Debt & Deposit ratings reflects DBRS’s concerns over Popular’s weakened capital position following a higher than anticipated net loss of EUR 3.5 billion in 2016, which was announced on February 3, 2017. As a result, the Bank’s fully loaded Common Equity Tier 1 (CET1) ratio deteriorated to 8.17% at end-2016 from 10.9% at end-2015, in spite of the EUR 2.5 billion capital increase completed in April 2016. The current level of capital is well below DBRS’s expectations and compares unfavorably with similarly rated European and domestic peers. The downgrade also reflects the continued challenges that the Bank is facing that were evident in the Bank’s results, particularly the Bank’s struggle to materially reduce its still elevated stock of non–performing assets (NPA) as indicated by the slow pace of NPA reduction in 2016. At end-2016, the Bank had NPAs of around EUR 35 billion, representing around 29% of total gross loans and foreclosed assets.

The Negative Trend reflects DBRS’s view that, given its weakened capital position, the Bank has less flexibility to carry out its ambitious plan to clean-up EUR 15 billion of NPAs by end-2018, as well as its reduced capacity to cope with any potential further weakening in asset quality. In addition, DBRS also considers that Popular has less capacity to improve its capital position and address adverse events through capital gains, which have supported profits in the past. This weakness constrains the Bank’s ability to cope with the pressure on earnings arising from the very low interest rate environment and from regulation.

DBRS, however, recognises the good progress of the Bank’s restructuring initiatives, such as the completion of an employee restructuring involving the lay-off of around 2,900 employees in less than three months. Translating these expense and other saves into increased income before provision and taxes could make an important contribution to improving the Bank’s earnings. DBRS notes that the Bank is making significant changes to its management, with a new Chairman arriving soon, which is anticipated to be positive for the Bank, but introduces some near term uncertainty. The agency will continue to monitor any potential developments at the Bank as a result of this new appointment. Popular’s ratings continued to be supported by the Bank’s SME franchise strength in Spain, where it has significant market shares in total customer loans and retail deposits as the sixth largest bank by assets at end-2016. The ratings also take into account that, despite the significant weakening of its CET1 (fully loaded) capital ratio which becomes applicable in 2018, Popular’s CET1 ratio (phased-in) was 12.12% at end-2016, around 424 bps above its current minimum 2017 SREP requirement.

Popular reported a net attributable loss of EUR 3.5 billion in 2016, compared to a profit of EUR 105 million in 2015. These results were primarily due to EUR 5.7 billion of provisions that included EUR 4.2 billion of additional provisions to reinforce coverage levels of NPAs to around 46% (from 39% at end-2015) and around EUR 229 million of provisions booked in 4Q16 to cover the cost of full retroactivity for affected customers with interest rate floor clauses (for more information, please see: DBRS: Law on Mortgage Floors Facilitates Customer Claims but Timing for Process Completion not yet Certain). The decline in the fully loaded CET1 ratio was primarily due to the Bank’s net losses in the year and other items, such as the treatment of deferred tax assets (DTAs) and the deduction of unrealised losses in its available-for-sale portfolio.

At the same time, DBRS has today discontinued the Senior Unsecured Long-Term Debt of Popular’s subsidiary BPE Finance International Ltd, as all debt has been repaid and the entity has been liquidated.

RATING DRIVERS:

Upward pressure on the rating is unlikely in the near-to-medium-term, as DBRS expects that it will take time for Popular to significantly strengthen its capital position and successfully execute the announced planned NPA reduction. A return to solid and sustainable earnings would also be required for any upward pressure to materialise. But a meaningful improvement in the capital position could lead to a stabilisation of the ratings at their current level.

Negative ratings pressure would arise if DBRS sees further notable deterioration in asset quality metrics, or if the Bank does not demonstrate a sustain QoQ improvement of internal capital generation. Negative rating pressure could also arise if Popular does not achieve a gradual reduction of NPAs, especially if this were in conjunction with any perceived weakening of the franchise.

Notes:
All figures are in Euros unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations (June 2016). Other applicable methodologies include the DBRS Criteria: Support Assessments for Banks and Banking Organisations (March 2016), DBRS Criteria: Rating Bank Capital Securities – Subordinated, Hybrid, Preferred & Contingent Capital Securities (February 2016), DBRS Criteria: Guarantees and Other Forms of Support (February 2016) and Critical Obligations Rating Criteria (February 2017) These can be found can be found at: http://www.dbrs.com/about/methodologies

The sources of information used for this rating include SNL Financial and company disclosures, Bank of Spain and the European Central Bank. DBRS considers the information available to it for the purposes of providing this rating to be 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 historical default rates published by the European Securities and Markets Authority (“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: Maria Rivas – Vice President - Global FIG
Rating Committee Chair: Roger Lister – Managing Director, Chief Credit Officer - Global FIG and Sovereign Ratings
Initial Rating Date: September 21, 2006
Most Recent Rating Update: September 27, 2016

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