DBRS Confirms Unión de Créditos Inmobiliarios, E.F.C (UCI) at A (low), Trend Stable

DBRS Ratings GmbH (DBRS) confirmed the ratings of Unión de Créditos Inmobiliarios, E.F.C (UCI or the entity), including the Long-Term Issuer Rating of A (low) and the Short-Term Issuer Rating of R-1 (low). The trend on all ratings is Stable. UCI is a specialised mortgage lender in Spain and Portugal, and a Joint Venture (JV) between Banco Santander S.A (Santander) and BNP Paribas Group (BNPP).

KEY RATING CONSIDERATIONS
UCI’s support assessment remains SA1, which implies the expectation of predictable support from its shareholders. DBRS has an A (high) Long-Term Issuer Rating with a Stable Trend on Santander and a Long-Term Issuer Rating of AA (low) with a Stable Trend on BNPP. The Issuer Rating for UCI is two notches below the Issuer Rating of Santander (the lower rated shareholder), reflecting both an expectation of a high likelihood of parental support in case of need, as well as that UCI is a non-bank subsidiary in which neither shareholder has a majority stake. DBRS notes that due to its ownership and the expectation of support, UCI’s ratings are positioned multiple notches above the entity’s intrinsic creditworthiness.

RATING DRIVERS
Given the SA1 designation, which implies the expectation of predictable support from the shareholders, UCI’s ratings will generally move in tandem with the ratings of its lower rated shareholder. However, the ratings of UCI may deviate from those of the shareholders if, in DBRS’s opinion, the likelihood of support was to reduce or if the ownership structure were to change.

RATING RATIONALE
UCI’s franchise focuses on mortgage lending, with a mortgage market share in Spain and Portugal of around 2% at end-2018. DBRS notes that UCI’s profitability is highly concentrated on net interest income as it is a monoline mortgage lender. However, DBRS notes that UCI´s business model is underpinned by a cost-efficient branch network. UCI has in the past targeted clients with a riskier credit profile than traditional commercial banks and this translated into higher non-performing loan (NPL) ratios and higher margins than retail banks. However, DBRS recognises that UCI has reported profits in 7 of the last 8 years, amid a very challenging economic environment in Spain and that asset quality on new lending has, to date, shown better performance. In addition, UCI’s funding profile has a high reliance on short term funding from the shareholders, although this has been reducing in recent years. UCI’s capital profile experiences some pressure due to tight capital buffers over its regulatory requirements, however DBRS expects that the shareholders would provide extra capital if needed. DBRS also expects that UCI will positively manage some regulatory challenges the group might face in coming years, helped if needed by the shareholders.

UCI S.A. was created in 1989 as a Joint Venture between Banco Santander S.A. (Santander) (50%), Union Crédit pour le Bâtiment S.A. (40%) and Compagnie Bancaire, S.A. (10%). With both the latter two entities becoming part of the BNPP Group, UCI is now a Joint Venture (JV) between Santander and BNPP with both groups holding a 50% stake. UCI S.A. is a holding company which in turn owns 100% of UCI E.F.C., the rated entity. UCI is a finance company, “Establecimiento Financiero de Credito” (EFC), which means it is not allowed to take deposits but is regulated by the Bank of Spain. UCI’s franchise focuses on the mortgage market, with total loans under management of around EUR 11 billion and a mortgage market share in Spain and Portugal of around 2% at end-2018. UCI operates mainly in Iberia with 88% of loans to Spanish borrowers and 10% to Portuguese borrowers at end-2018. New lending volumes have a slightly different distribution with Spain representing 74% of the new lending and Portugal 26%. The entity has a decreasing non-material exposure in Greece and new lending ceased in 2011. UCI´s business is highly correlated with the Spanish housing and mortgage markets, both of which were impacted by the global financial crisis and the real estate downturn in Spain. This is reflected in UCI´s new lending activity which having peaked at EUR 3.5 billion during 2006, was at a lower level of EUR 709 million in 2018, albeit up 32% year-on-year.

DBRS views UCI´s earnings power as constrained due to the lack of revenue diversification as its income is concentrated mainly on net interest income from its mortgage book. UCI’s profitability remains negatively affected by the low level of activity in the Spanish mortgage market since the beginning of the global financial crisis. This is also reflected in a low return on equity (RoE) of 2.7% and net income of just EUR 10.6 million in 2018, in line with EUR 10.3 million in 2017. Positively, UCI´s business model is underpinned by a cost-efficient branch network, although in recent years the cost-to-income ratio (as calculated by DBRS) has deteriorated from 32.8% in 2014 to 50.2% in 2018, affected by the low interest rate environment and higher administrative costs related to the legal and operational management of the legacy foreclosed assets.

UCI’s risk profile is mainly driven by its loan book which has an elevated Non-Performing Assets ratio (including Non-Performing Loans (NPLs, +90 days and unlikely to pay) and Foreclosed Assets (FAS)) of 15.7% of gross loans and FAS at end-2018. UCI`s NPL ratio improve to 12.7% at end-2018 down from 13.5% at end-2017, which is still very high compared to the aggregate mortgage NPL ratio of the Spanish banking system of 4.15% at end-2018. In addition, the high cost of risk leads to weak risk profile metrics with provisions (including voluntary generic provisions) as a percentage of IBPT at around 71% on average since 2011. Other risks include interest rate risks related to maturity and repricing gaps between assets and liabilities. DBRS also considers in its analysis any potential litigation risks, that UCI might face. The most relevant litigation risk in Spain is in relation to the IRPH mortgage index (published by the Bank of Spain), which some clients have petitioned against as an unfair index. The European Court of Justice (ECJ) is expected to rule on this issue in 2019. DBRS considers that the likelihood of an adverse ruling is vey low given the Spanish Supreme court has already ruled that the index complied with consumer regulations. As of end-2018, 57% of UCI´s spanish loan book referenced the IRPH index.

DBRS notes that UCI has, with crucial liquidity support from its shareholders, managed a very challenging economic and financial environment since 2008. DBRS considers UCI’s liquidity position as impacted by its high reliance on short term funding from its shareholders. Traditionally UCI has used securitisation as its main funding source, in the form of Residential Mortgage Backed Securities (RMBS). However, after the global financial crisis, the Spanish RMBS market was closed and UCI required liquidity support from its shareholders, peaking at EUR 8.4 billion or 71% of total funding at end-2013. Since 2015, UCI has placed in the market a total of 6 securitisations, raising funding totaling EUR 2.1 billion and as a result has been able to repay part of the short-term credit lines and at the same time finance its new lending activity. However, at end-2018, funding from credit institutions remained high at EUR 7.2 billion or 63% of total funding, stable since end-2017. UCI’s new securitisation program (Prado) is used as a funding tool but DBRS notes that the credit risk is not transferred to investors, as the entity has retained the mezzanine tranches, and therefore the loans remain on the balance sheet of UCI.

As an EFC, UCI’s capitalisation requirements are lower than banks. DBRS considers the leverage ratio to be weak at 3.3% at end-2018 and notes that UCI has relatively tight capital buffers over minimum requirements. However, DBRS expects that the shareholders would provide extra capital if needed. The applicable legal framework and capital regulations for UCI, as for all EFCs in Spain, are different to the applicable regulation for banks. Currently, EFCs are required to comply with the Basel II capital ratios or a minimum Total Capital ratio of 8% and a minimum Tier 1 ratio of 4%. At end-2018 UCI had a Total Capital ratio of 10.4% and a Tier 1 ratio of 7.2%, higher than minimum requirements. DBRS expects that in coming years UCI will need to comply with the Credit Institutions Directive 2013 and the Capital Requirements Regulation 2013 (the so-called CRD IV package) as well as with the new IFRS9 accounting framework. DBRS considers that UCI will be able to meet these new requirements helped by a phasing-in period and new capital raised from its shareholders mainly in the form of Additional Tier 1 Instruments, in case of need.

Notes:

All figures are in Euros unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations (July 2018) and the Global Methodology for Rating Non-Bank Financial Institutions (November 2018). This can be found at: http://www.dbrs.com/about/methodologies

Each of the principal methodologies/principal asset class methodologies employed in the analysis addressed one or more particular risks or aspects of the rating and were factored into the rating decision. Specifically, the “Global Methodology for Rating Banks and Banking Organisations” was utilized to evaluate the final ratings of the Company, while the “Global Methodology for Rating Non-Bank Financial Institutions” was used to evaluate the intrinsic creditworthiness of the company.

The sources of information used for this rating include Company documents, SNL Financial, European Banking Authority (EBA) and Bank of Spain. 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 GmbH are subject to EU and US regulations only.

Lead Analyst: Pablo Manzano, Vice President, Global FIG
Rating Committee Chair: Elisabeth Rudman, Managing Director, Head of EU FIG, Global FIG
Initial Rating Date: April 16, 2018
Most Recent Rating Update: April 16, 2018

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