DBRS Confirms The Royal Bank of Scotland Group plc at BBB

DBRS Ratings Limited (DBRS) confirmed the ratings of The Royal Bank of Scotland Group plc (RBSG or the Group) and its related entities, including the Group’s ‘BBB’ Long-Term Issuer Rating, and NatWest Markets Plc’s and The Royal Bank of Scotland N.V.’s ‘BBB’ (high) Long-Term Issuer Rating. The trend on these ratings remains Stable. RBSG’s Intrinsic Assessment (IA), which reflects the Group’s combined credit strength, has been maintained at BBB (high). The Support Assessment of the Group remains SA3 and its Long-Term Issuer Rating is positioned one notch below the Group’s IA, in line with DBRS’s approach to rating holding companies. Please see a full list of the rating actions at the end of this press release.

KEY RATING CONSIDERATIONS
The confirmation of RBSG’s ratings incorporates the Group’s ongoing focus on cost-efficiency, improved capital position, well-positioned funding and liquidity profile and improving credit quality, which has benefited from the substantial deleveraging. DBRS views positively the settlement in principle with the US Department of Justice (DoJ) with regards to the investigation into RBS’s issuance and underwriting of US residential mortgage-backed securities (RMBS), which was announced in May 2018, and substantially reduces uncertainty with regards to RBS’s future capital position. Furthermore, the Group has made substantial progress in restructuring and resolving other legacy litigation and conduct issues, however, some legacy issues remain outstanding. Despite restructuring costs, which will remain substantial in 2018-2019, DBRS expects the Group’s statutory earnings to improve compared to the historical performance observed prior to 2017.

RBSG’s IA incorporates the strength of the Group’s core retail and commercial banking franchise in the UK, where it remains a market leader despite the Group’s long restructuring period. Despite regulatory restrictions on capital and funding flows as a result of the ring-fencing regulation requirements, DBRS expects various subsidiaries to remain strongly integrated, allowing RBSG to benefit from synergies across its different business lines. The IA also considers the challenges still facing the Group, in particular the remaining restructuring and residual legacy issues.

RATING DRIVERS
Upward pressure on the ratings could arise, if the Group continues to successfully resolve the remaining legacy issues, while at the same time, generating a longer track record of improved earnings.

Downward rating pressure could arise from higher than expected litigation or restructuring charges that have a significant adverse impact on earnings and capital. Potential adverse economic effects of the UK’s exit from the EU on the Group’s risk profile could also exert downward pressure on the ratings.

RATING RATIONALE
In 2017 the Group reported its first bottom line profit in 10 years. The attributable profit to ordinary shareholders was GBP 752 million (2016: attributable loss of GBP 6,955 million), and this was mainly due to considerably lower litigation and conduct costs and a solid improvement in adjusted earnings. The Group’s adjusted operating profit, which excludes restructuring, litigation and conduct costs as well as other specific items, increased 31% to GBP 4,818 million, reflecting a combination of growth in revenues, underpinned by net lending growth across core divisions, continued reduction in adjusted expenses (down 8% year-on-year, YoY) and the relatively stable cost of risk. RBS announced that in 2Q18 it will take a USD 1.44 billion provision in relation to the RMBS settlement with the DoJ announced in May 2018, adding to provisions of USD 3.46 billion already in place. DBRS expects the residual legacy issues to be of a significantly lesser magnitude than the overall RMBS settlement. While restructuring costs are likely to remain substantial, with the Group expecting these to total GBP 2.5 billion over 2018-2019, DBRS expects the Group’s statutory earnings to improve compared to the historical performance observed prior to 2017.

RBS’s credit risk profile has benefitted from a steady progress in disposals of legacy loans and a growing concentration on UK lending, which has a relatively low share of impaired exposures. DBRS notes, however, that RBS remains significantly exposed to economic and political risks, notably adverse economic effects of the UK’s exit from the EU, which could have a significant impact on the Group’s UK and Irish operations. The Group’s share of impaired exposures under IAS 39, defined as risk elements in lending (REILs) as a percentage of total customer loans, remained on a downward trend, declining to 2.7% at end-2017 from 3.1% at end-2016. Based on DBRS’s calculations, the share of Stage 3 exposures in customer loans on 1 January 2018 under IFRS 9 was 3.6%. Provision coverage of impaired loans at end-2017 was 43%, stable YoY. Market risk is relatively low, however, operational risk, highlighted by regulatory and legal actions in recent years, has continued to have an impact on the Group’s earnings.

RBS’s funding and liquidity position also remained solid with wholesale funding broadly stable at GBP 83 billion at end-2017. This compares favourably to a total liquidity portfolio of GBP 186 billion at end-2017. The Group’s reported Liquidity Coverage Ratio and Net Stable Funding Ratio were 152% and 132% respectively at end-2017.

The Group reported a fully-loaded Common Equity Tier 1 (CET1) ratio of 16.4% at end-1Q18, however DBRS notes that the pro-forma CET1 ratio, adjusted for the impact of the RMBS settlement in principle with the DoJ, and for the accelerated pension deficit contribution announced on April 17, 2018, was 15.1%, a 130 basis points (bps) reduction from its reported level. The announced settlement in principle with the DoJ removes significant uncertainty regarding RBS’s future capital position. Present CET1 capital levels are well above the regulatory requirements and management’s target of 13% or higher. The CRR end-point total capital ratio and the CRR leverage ratio at end-1Q18 were 21.6% and 5.4%, respectively. With loss absorbing capital (LAC) on a transitional basis estimated at 27.1% of RWAs at end-2017, the Group looks well placed to meet the future minimum requirement for own funds and eligible liabilities (MREL).

The Grid Summary Grades for The Royal Bank of Scotland Group plc are as follows: Franchise Strength – Strong/Good; Earnings – Moderate; Risk Profile – Good/Moderate; Funding & Liquidity – Strong; Capitalisation – Moderate.

Notes:
All figures are in GBP unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations (May 2017). This can be found can be found at: http://www.dbrs.com/about/methodologies

The sources of information used for this rating include SNL Financial, Bank of England and company documents. 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 and US regulations only.

Lead Analyst: Tomasz Walkowicz, Vice President, Global Financial Institutions
Rating Committee Chair: Ross Abercromby, Senior Vice President, Global Financial Institutions
Initial Rating Date: January 19, 2009
Last Rating Date: May 2, 2018

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