Credit Opinion: Landesbank Berlin AG

Transcription

1 Credit Opinion: Landesbank Berlin AG Global Credit Research - 07 Aug 2015 Berlin, Germany Ratings Category Moody's Rating Outlook Positive(m) Bank Deposits A1/P-1 Bkd Bank Deposits Aa1/P-1 Baseline Credit Assessment ba1 Adjusted Baseline Credit Assessment baa1 Issuer Rating Senior Unsecured -Dom Curr A1 A1 Subordinate -Dom Curr Baa2 Other Short Term -Dom Curr Berliner Sparkasse (P)P-1 Outlook Positive(m) Bank Deposits Issuer Rating -Dom Curr A1/P-1 A1 LBB Finance (Ireland) plc Outlook Bkd Senior Unsecured Stable Aa1 Bkd Subordinate Bkd Other Short Term Aa1 (P)P-1 Contacts Analyst Phone Andrea Wehmeier/Frankfurt am Main Mathias Kuelpmann/Frankfurt am Main Carola Schuler/Frankfurt am Main Maximilian Denkmann/Frankfurt am Main Key Indicators Landesbank Berlin AG (Consolidated Financials)[1] [2]12-14 [2]12-13 [3]12-12 [3]12-11 [3]12-10 Avg. Total Assets (EUR billion) [4]-18.3 Total Assets (USD billion) [4]-28.3 Tangible Common Equity (EUR billion) [4]0.7 Tangible Common Equity (USD billion) [4]-11.5 Problem Loans / Gross Loans (%) [5]4.9 Tangible Common Equity / Risk Weighted Assets (%) [6]14.3 Problem Loans / (Tangible Common Equity + Loan Loss [5]34.9 Reserve) (%) Net Interest Margin (%) [5]1.1 PPI / Average RWA (%) [6]1.1 Net Income / Tangible Assets (%) [5]0.2 Cost / Income Ratio (%) [5]85.0

2 Market Funds / Tangible Banking Assets (%) [5]46.0 Liquid Banking Assets / Tangible Banking Assets (%) [5]56.1 Gross Loans / Total Deposits (%) [5]70.3 Source: Moody's [1] All figures and ratios are adjusted using Moody's standard adjustments [2] Basel III - fully-loaded or transitional phase-in; LOCAL GAAP [3] Basel II; IFRS [4] Compound Annual Growth Rate based on LOCAL GAAP reporting periods [5] LOCAL GAAP reporting periods have been used for average calculation [6] Basel III - fully-loaded or transitional phase-in & LOCAL GAAP reporting periods have been used for average calculation Opinion SUMMARY RATING RATIONALE Landesbank Berlin AG's (LBB) A1 long-term deposit and issuer/senior unsecured debt ratings reflect (1) the bank's affirmed ba1 baseline credit assessment (BCA); (2) the adjusted BCA of baa1 - upgraded from baa2 in June 2015, thereby incorporating very high affiliate support and three notches of cross-sector support uplift from Sparkassen-Finanzgruppe (S-Finanzgruppe, corporate family rating Aa2 stable, BCA a2); (3) the results of our Loss Given Failure (LGF) analysis; and (4) our reduced "moderate" government support assumptions, reflected in one notch of rating uplift instead of four notches previously. LBB's ba1 BCA is underpinned by the group's `Very Strong-' Macro profile and its comfortable funding profile. At the same time, the standalone BCA is constrained by the bank's modest, yet stable, financial performance. For LBB, our Advanced LGF analysis indicates a very low loss-given-failure for the bank group's wholesale deposits base on the substantial volume of senior unsecured debt and deposits themselves, leading to a twonotch rating uplift from the baa1 adjusted BCA. We assigned LBB a Counterparty Risk Assessment (CR Assessment) of Aa3(cr)/P-1(cr), reflecting three notches of uplift from LGF and one notch of government support. LBB BENEFITS FROM A `VERY STRONG-' MACRO PROFILE, LARGELY DETERMINED BY GERMAN EXPOSURES The bank's BCA benefits from its `Very Strong-' Macro Profile, largely determined by the German environment with very high economic, institutional and government financial strength and very low susceptibility to event risk. Operating conditions for the German banking system are, however, constrained by high fragmentation in an oversaturated market, low fee income generation and intensifying competition for domestic business. LBB's Macro Profile also captures exposures to international lending activities in countries with weaker Macro Profiles than that of Germany. Rating Drivers - Profitability remains modest and pressured by the realignment of activities - Capitalisation remains a rating constraint - Concentration risks are declining - Liquidity profile is supported by strong access to customer deposits - Senior creditors benefit from LBB's strong position within the mutually supportive S-Finanzgruppe and a large volume of both outstanding debt and subordinated instruments in the unlikely event of resolution (LGF analysis) -- Probability of government support is moderate, providing the deposit ratings with a one-notch uplift Rating Outlook The outlook is positive on LBB's A1 long-term deposit ratings and is negative on its senior unsecured debt ratings. The different outlooks on deposits and debt reflect the potential for legislation in Germany that could subordinate senior debt to deposits to the benefit of depositors and to the detriment of senior unsecured creditors.

3 What Could Change the Rating - Up As indicated by the positive outlook, upward pressure on LBB's long-term deposit ratings could arise once Germany adopts full depositor preference over senior unsecured debt, as currently proposed in a draft law amendment to the German Banking Act that is still in the early stages of the parliamentary process. Upward pressure on LBB's ba1 BCA could develop if the bank demonstrates a sustainable improvement in its financial metrics, including capitalisation and profitability. What Could Change the Rating - Down As indicated by the negative outlook, downward pressure on LBB's long-term debt ratings could arise if proposed changes to the German insolvency order result in a legal subordination of senior unsecured debt to the bank's deposits. Pressure on LBB's A1 long-term ratings could arise from a weaker intrinsic strength. A weakening of cross-sector support mechanisms could also negatively affect the long-term ratings. A downgrade of LBB's standalone BCA could result from (1) a reversal in the recently improving trend in LBB's capitalisation and (2) a period of extended earnings pressure during the restructuring period. The aforementioned trigger for a downgrade include restructuring charges affecting the bank's capitalisation or significantly increased leverage following the reorganisation of LBB. DETAILED RATING CONSIDERATIONS PROFITABILITY REMAINS MODEST AND PRESSURED BY THE REALIGNMENT OF ACTIVITIES We expect LBB's earnings to become more stable and predictable following the partial transfer of the capital markets business and continued downsizing and de-risking of its investment portfolio. Nevertheless, the bank's profitability will remain under pressure at least during the next two years, owing to (1) the spin-off of its most profitable business segment, commercial real estate (CRE), at its former subsidiary, now sister-company Berlin Hyp AG (Berlin Hyp, deposits A2 positive/senior unsecured A2 negative, BCA ba2); (2) potential losses resulting from LBB's higher-risk legacy investments and problem loan book; (3) the ongoing capital strengthening efforts and downsizing of assets, which could pressure income while costs are likely to be reduced over the medium term. While the significant reduction in LBB's balance sheet has reduced the higher risks typically associated with longterm asset lending and capital market activities, overall business volumes and earnings will also be affected. This reduction in business volumes could leave LBB with diminished loss absorption capacity to withstand potential losses arising from its legacy structured credit investments and legacy problem loans. These challenges have the potential to limit LBB's ability to strengthen capital levels from retained earnings when phasing in the higher capital requirements under the Basel III framework, as reflected in the assigned Profitability score of b1. We view LBB's profitability as modest, as expressed through its moderate pre-provision-income-to-risk-weightedassets ratio of 0.7% in 2014 (after 1.6% in 2013). While we acknowledge LBB's ability to generate stable interest and fee income from its client-driven businesses, its former capital market activities (to be discontinued) have regularly contributed to earnings volatility in the past. Additionally, special efforts to strengthen the bank's and the banking group's capitalisation have negatively affected the bank's profitability, which was also generally pressured by the low-yield environment. Under its realignment plan, LBB is scaled back to its core Berliner Sparkasse and will focus on retail banking in Berlin, but will also provide CRE business in the Berlin area and certain services for S-Finanzgruppe. As a consequence, the bank changed its market presence from LBB to Berliner Sparkasse as of 1 January While the commercial and legal status of LBB remains unaffected, the bank is conduct most of its business activities under the Berliner Sparkasse brand, legally a LBB branch (with the exception of its treasury management and the national credit card business). LBB's customer-oriented capital market activities, including asset management, were transferred to DekaBank (deposits Aa3 positive/senior unsecured Aa3 negative, BCA baa2) as of January Berlin Hyp was spun off from LBB as of January 2015, although both will stay under the ownership of Landesbank Berlin Holding AG (LBBH, unrated).

4 CAPITALISATION REMAINS A RATING CONSTRAINT The assigned Capital score of baa2 reflects the improved capitalisation levels, though high leverage still negatively affects the score. We view the bank's current capitalisation as adequate in view of its low internal capital generation capacity. For regulatory purposes, capitalisation requirements are assessed at the level of LBB's ultimate parent company S-Erwerbsgesellschaft. LBB's Tier capital ratio stood at 15.9% as of year-end 2014 (based on Local GAAP). The bank on an ongoing basis optimizes its assets with higher risk weights applied to free up capital, with an up to EUR1.1 billion effect since CONCENTRATION RISKS ARE DECLINING The bank's asset quality largely reflects its exposures held within its capital markets portfolio and the local CRE exposure, though after the spin-off of Berlin Hyp, LBB's concentration risks have decreased. The bank's sizeable but declining financial assets of EUR20 billion (35% of total assets) as of year-end 2014 still represent a significant driver of income volatility. The overall level of gross non-performing loans to reserves plus equity improved substantially to 26%, but is not comparable with previously reported numbers. The risk, especially in CRE, is captured in our assigned Asset Risk score of ba1. Compared with its peers in the German market, LBB has a moderate level of new problem loans that suggests the continued implementation of its more effective and disciplined underwriting policies in the years preceding the global financial crisis. Our view is supported by the very limited impact of the asset quality review as part of the European Central Bank's comprehensive assessment, where LBB's impact was just 8 basis points, well below the German and EU average. LIQUIDITY PROFILE IS SUPPORTED BY STRONG ACCESS TO CUSTOMER DEPOSITS We expect LBB's funding profile to improve as a result of (1) limited additional new funding needs in light of balance sheet de-leveraging, and (2) its stronger focus on retail activities and good access to retail-driven funding sources. We consider LBB's liquidity profile to be satisfactory and note that it has improved after the realignment as LBB is less reliant on market funding than Berlin Hyp, as reflected in an average loan-to-deposit ratio of 69% as of yearend 2014 and in the assigned Funding Structure score of baa3. Our view of LBB's baa2 Liquid Resources score is based on its stable funding access in the savings banks sector and its well diversified funding profile, which includes interbank funds, senior unsecured bonds, promissory note loans as well as a proportion of Pfandbriefe (covered bonds). The bank further benefits from its large depositgathering activities, reporting EUR27 billion of deposits. Notching Considerations AFFILIATE SUPPORT LBB benefits from cross-sector support from Sparkassen-Finanzgruppe. Cross-sector support materially reduces the probability of default, as it would be available to stabilise a distressed member bank, and not just compensate for losses in resolution. We continue to consider the readiness of the sector to support its members to be very high. This particularly applies to LBB given its 100% indirect ownership by the sector's savings banks. Cross-sector support provides three notches of rating uplift to LBB's debt, deposit and subordinated instrument ratings. LOSS GIVEN FAILURE LBB is subject to the EU Bank Resolution and Recovery Directive, which we consider to be an Operational Resolution Regime. We therefore apply our Advanced LGF analysis, considering the risks faced by the different debt and deposit classes across the liability structure at failure. We assume residual tangible common equity of 3% and losses post-failure of 8% of tangible banking assets, a 25% run-off in "junior" wholesale deposits, a 5% run-off in preferred deposits, and assign a 25% probability to deposits being preferred to senior unsecured debt. These ratios are in line with our standard assumptions. Our LGF analysis indicated a very low loss-given-failure for wholesale deposits, leading us to position the

5 Preliminary Rating Assessment (PRA) two notches above the bank's adjusted BCA. Our LGF analysis also indicated a very low loss-given-failure for senior unsecured debt, leading us to position their PRA also two notches above the bank's adjusted BCA. SUBORDINATED AND HYBRID INSTRUMENTS Our LGF analysis indicates a high loss-given-failure for subordinated debt classes, leading us to position their PRAs one notch below the bank's baa1 adjusted BCA. Given that subordinated debt instruments do not benefit from any government support, their final Baa2 ratings are in-line with the assigned PRA. GOVERNMENT SUPPORT Although German banks operate in an environment of materially weakened prospects for financial assistance from the government, we maintain one notch of rating uplift in our senior unsecured debt and deposit ratings for members of the Sparkassen-Finanzgruppe, reflecting our assumptions of a moderate support probability. Our revised government support assumptions reflect the large size and high systemic relevance of Sparkassen- Finanzgruppe About Moody's Bank Scorecard Our Scorecard is designed to capture, express and explain in summary form our rating committee's judgment. When read in conjunction with our research, a fulsome presentation of our judgment is expressed. As a result, the output of our Scorecard may materially differ from that suggested by raw data alone (though it has been calibrated to avoid the frequent need for strong divergence). The Scorecard output and the individual scores are discussed in rating committees and may be adjusted up or down to reflect conditions specific to each rated entity. Rating Factors Landesbank Berlin AG Macro Factors Weighted Macro Profile Very Strong - Financial Profile Factor Historic Ratio Macro Adjusted Score Solvency Asset Risk Problem Loans / Gross Loans Credit Trend Assigned Score Key driver #1 Key driver #2 5.5% baa2 ba1 Sector concentration Capital TCE / RWA 16.0% aa2 baa2 Nominal leverage Profitability Net Income / Tangible Assets 0.1% b2 b1 Expected trend Combined Solvency Score baa1 ba1 Liquidity Funding Structure Market Funds / Tangible Banking Assets Liquid Resources Liquid Banking Assets / Tangible Banking Assets 41.2% b1 baa3 Market funding quality 57.1% aa2 baa2 Encumbrance Capital retention Expected trend

6 Combined Liquidity Score baa2 baa3 Financial Profile ba1 Qualitative Adjustments Adjustment Business Diversification 0 Opacity and Complexity 0 Corporate Behavior 0 Total Qualitative Adjustments 0 Sovereign or Affiliate constraint Scorecard Calculated BCA range Aaa baa3 - ba2 Assigned BCA ba1 Affiliate Support notching 3 Adjusted BCA baa1 Instrument Class Loss Given Failure notching Additional notching Preliminary Rating Assessment Government Support notching Local Currency rating Foreign Currency rating Deposits 2 0 a2 1 A1 A1 Senior unsecured bank debt 2 0 a2 1 A1 Dated subordinated bank debt -1 0 baa2 0 Baa2 This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page on for the most updated credit rating action information and rating history Moody s Corporation, Moody s Investors Service, Inc., Moody s Analytics, Inc. and/or their licensors and affiliates (collectively, MOODY S ). All rights reserved. CREDIT RATINGS ISSUED BY MOODY'S INVESTORS SERVICE, INC. AND ITS RATINGS AFFILIATES ( MIS ) ARE MOODY S CURRENT OPINIONS OF THE RELATIVE FUTURE CREDIT RISK OF ENTITIES, CREDIT COMMITMENTS, OR DEBT OR DEBT-LIKE SECURITIES, AND CREDIT RATINGS AND RESEARCH PUBLICATIONS PUBLISHED BY MOODY S ( MOODY S PUBLICATIONS ) MAY INCLUDE MOODY S CURRENT OPINIONS OF THE RELATIVE FUTURE CREDIT RISK OF ENTITIES, CREDIT COMMITMENTS, OR DEBT OR DEBT-LIKE SECURITIES. MOODY S DEFINES CREDIT RISK AS THE RISK THAT AN ENTITY MAY NOT MEET ITS CONTRACTUAL, FINANCIAL OBLIGATIONS AS THEY COME DUE AND ANY ESTIMATED FINANCIAL LOSS IN THE EVENT OF DEFAULT. CREDIT RATINGS DO NOT ADDRESS ANY OTHER RISK, INCLUDING BUT NOT LIMITED TO: LIQUIDITY RISK, MARKET VALUE RISK, OR PRICE VOLATILITY. CREDIT RATINGS AND MOODY S OPINIONS INCLUDED IN MOODY S PUBLICATIONS ARE NOT STATEMENTS OF CURRENT OR HISTORICAL FACT. MOODY S PUBLICATIONS MAY ALSO INCLUDE QUANTITATIVE MODEL-BASED ESTIMATES OF CREDIT RISK AND RELATED OPINIONS OR

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