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US Insurers See Low Enrollment in Affordable Care Act, a Credit
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Corporates
New Cholesterol Guidelines Are Positive for AstraZeneca,
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CREDIT IN DEPTH
US Public Finance Jefferson County, Alabamas debt offering is a non-investment grade risk. We judge the two liens to be in the B or Ba speculativegrade rating categories, subject to substantial-to-high credit risk. 38
Negative
General Electric Plans to Exit Retail Finance Business Are Credit
Negative
Grifols Acquires Novartis' Diagnostics Business Unit, a Credit
Negative
China SCE Property's Latest Land Purchase Is Credit Negative BJCL's Stake Acquisition in Juda International Would Be Credit
Positive
AVIC International Subsidiary Equity Placement Is Credit Positive
Infrastructure
Brazil Oil Production Outlook Grows, Benefiting Drillships
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Banks
M&T Wells Notice and Justice Department Probe Add to
Compliance Woes
Rise in Large Brazilian Company Bankruptcies Is Credit Negative
Credit Positive
BNP Paribas Acquisition of Minority Stake in BNP Paribas Fortis
Is Credit Positive
Carige's Postponed Capital Increase Is Credit Negative KBC Group Recognizes Additional Impairment in Irish Mortgage
Portfolio
Sberbank's Five-Year Development Strategy Is Credit Positive ICBC Designation as a Global Systemically Important Bank Is
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Credit Positive
China's Capital-Qualifying Bank Debt Guidance Will Benefit
Senior Creditors
MOODYS.COM
David Erickson Associate Analyst +65.6398.8334 david.erickson@moodys.com Tom Byrne Senior Vice President +65.6398.8310 thomas.byrne@moodys.com
18 NOVEMBER 2013
Annual GDP Growth Annual Labor Force Growth Annual Labor Productivity Growth
Source: World Bank and the Development Research Center of the State Council (2012), China 2030: Building a Modern, Harmonious, and Creative Society.
1 2
See Chinas Income Redistribution Plan, 11 February 2012. See Expansion of Value-Added Tax Trial is Credit Positive for China, 30 July 2012.
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Chinas Local Government Finances Will Benefit from Planned Policy Reforms
Measures contained in the two policy statements would improve the ability of Chinas regional and local governments to finance their service and infrastructure responsibilities. Credit positive measures include the following:
More transparent budget policies and reporting systems, such as the establishment of comprehensive financial statements on an accrual basis, a critical measure to improve the transparency of local government operations An improved central government financial transfer system to local governments. Reforms include less reliance on earmarked special purpose transfers, which sometimes require matching local government contributions, and increased general purpose transfers that provide greater flexibility to local governments Tax reform, including the introduction of property and resource taxes, which would potentially provide additional and more stable revenue sources to local governments A more effective budgetary framework including better matched revenue-raising authority and spending responsibilities, and clarified central and local government responsibilities, which is likely to improve accountability and fiscal outcomes Establishing local government debt management and risk warning mechanisms that would likely constrain indebtedness Introducing new financing mechanisms, such as allowing local governments to issue bonds to broaden the financing channels for urban construction, which would make local government borrowing more transparent.
The plenary sessions conclusions will guide the development of implementation plans and regulations of individual ministries, although the timing for these developments is unclear. But the fact that this direction has been approved by senior leadership and is consistent with announcements over the past 12 months demonstrates the central governments serious commitment to fiscal reform of the countrys local governments. Consequently, we expect the central government to expedite implementation of reforms. The reforms address shortcomings in local government budgetary frameworks, in particular, the mismatch between their revenue-raising powers and actual responsibilities (i.e., vertical fiscal imbalance3). Some of the considered solutions, such as the rollout of a national property tax, which has proven to be a secure and stable revenue source for local governments in many countries, along with shifting expenditure responsibilities to different levels of government, if implemented, would likely put local governments on a more solid financial footing by better aligning revenues with spending. In addition, local governments are responsible for meeting their infrastructure needs, but are not allowed to access capital markets. However, infrastructure needs and costs are increasing massively because of the countrys high rate of urbanization, which the government projects will rise to 60% by 2030 from 50% presently, with each 1 percentage point gain equal to 10 million people. Responsibilities such as those for infrastructure have led to fiscal pressures and indirect, riskier forms of borrowing through local government financing vehicles and other related entities.
Local governments collect 51% of revenues, but are responsible for 85% of expenditures in China.
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4 5 6 7
See Credit Quality of Chinas Central SOEs Will Diverge Further Amid Economic Reforms, 8 August, 2013. See Chinese Central Banks Removal of Lending Rate Floor Is Credit Negative for Banks, 22 July 2013. See Chinas Oil Price Reform Is Credit Positive for the Countrys Refiners, 28 March 2013. See Chinas Plan to Increase State-Owned Enterprise Dividends Is Credit Negative, published on 11 February, 2013.
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Franco Leung Assistant Vice President - Analyst +852.3758.1521 franco.leung@moodys.com Kaven Tsang Vice President - Senior Analyst +852.3758.1305 kaiyin.tsang@moodys.com
Chinas Large Property Developers Will Benefit from Urbanization and Market Mechanisms
The policy statements are credit positive for large property developers because they suggest a central government policy agenda that continues the urbanization process, loosens control of interest rates and relies more on market dynamics to determine resource allocation. The government projects urbanization will increase to 60% by 2030 from 50% now, with each 1 percentage point gain equal to 10 million people. One hundred million more city dwellers in the next 17 years in a more market-driven property market would be credit positive for leading mass-market property developers. Those best positioned to capture the demand include China Overseas Land & Investment Limited (Baa1 stable), China Vanke Co. Ltd. (Baa2 stable), Longfor Properties Co. Ltd. (Ba1 stable), Country Garden Holdings Company Limited (Ba2 stable) and Shimao Property Holdings Limited (Ba2 stable). Compared to smaller property developers, these developers benefit from better geographic coverage in China, higher quality properties, better after-sale services, and stronger brands. Their average annual sales are RMB30 billion ($4.9 billion) or more. The large developers will also have better access to bank financing at lower costs under the governments intention to relax control of interest rates because banks prefer large market players with solid credit profiles, and demand for their higher quality projects permits them to pledge the projects as collateral for bank borrowings. The policy statements mention that local governments will be allowed to access capital markets. This would support the countrys urbanization process as the local governments can raise funds to support their infrastructures needs. The policy statements also mention tax reform, which we interpret as meaning the government wants to expand the three-year old property tax programs in Shanghai and Chongqing to more cities. Households fulfilling certain criteria, such as gross floor area, are required to pay property tax in these cities. The tax aims to boost local governments tax revenue rather than cool the property market. Shanghai and Chongqings taxes are low and have not had material effect on the property markets, and we do not expect the central government to implement a significant tax that would materially affect rated developers over the next 12-18 months. We do not expect the government to relax its existing restrictions on property purchases and mortgage financing for second homes. These restrictions are meant to reduce speculative property development and keep house prices from spiking.
18 NOVEMBER 2013
Ivan Chung Vice President - Senior Credit Officer +852.3758.1399 ivan.chung@moodys.com Ivy Poon Analyst +852.3758.1336 ivy.poon@moodys.com
Chinas Utilities Will Benefit from Focus on Markets and Clean Energy
The two policy statements set specific benchmarks for key social, environmental and economic reforms that suggest measures that will be credit positive for the countrys utilities companies. We expect the government to expedite prevailing reform initiatives in Chinas utilities and infrastructure sectors, including increasing the transparency and linkage of market-based fuel costs in regulated utility tariffs and related cost pass-through mechanisms; shifting to clean energy sources from fossil fuels; and lowering the barriers to entry for private sector firms to participate in utility and infrastructure projects, thereby promoting competition. Improving the tariff mechanism to pass fuel-price increases onto customers would be credit positive for power utilities, particularly those with coal-fired generation, such as China Resources Power Holdings Co. Ltd. (Baa3 stable). Gas distribution companies, including China Resources Gas Group Limited (Baa1 stable), ENN Energy Holdings Limited (Baa3 stable), Towngas China Company Limited (Baa2 stable), The Hong Kong and China Gas Co. Ltd. (A1 stable) and Beijing Enterprises Holdings Ltd. (Baa1 stable) will also benefit. The lack of a clear framework for the timely adjustment of regulated tariffs to reflect fuel-price increases has weakened the profitability of coal-fired power generating companies in recent years, and to a lesser extent, gas distribution companies. One of the key market-oriented reforms underway in China is expediting the rationalization of resource prices, which improves the transparency and predictability of Chinas evolving regulatory framework. We expect the government to step up efforts to lift price controls on coal, natural gas and on-grid tariffs, and increase transparency in tariff mechanisms that allow upstream producers to pass costs to downstream users. The price and tariff mechanism reforms will give the power utilities better control over their sales prices and room to improve cost efficiencies, making the sector more competitive. The emphasis on clean-energy sources is credit positive for clean-energy generation companies such as China Longyuan Power Group Corporation Limited (Baa3 stable) and gas distribution companies. We expect these companies to continue benefitting from rising market demand, favorable government policies and improving support for infrastructure facilities, such as faster expansion of gas pipelines and electric grid networks that transmit and distribute clean energy to end-users. The promotion of private investment, another key theme of the policy statements, would increase competition and encourage companies to improve their efficiency. Although an increase of private capital will intensify the competition for new projects, we do not expect most of our rated power utilities and infrastructure companies to be challenged over next three years given their established market positions, exclusive franchise rights and good financial profiles to meet heavy capital investment requirements. We expect more concrete details on the reforms in coming weeks and an accelerated, though gradual, pace for reform in order to maintain stability and economic growth.
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Corporates
Michael Levesque, CFA Senior Vice President +1.212.553.4093 michael.levesque@moodys.com
New Cholesterol Guidelines Are Positive for AstraZeneca, Negative for Merck
On Tuesday, two major US heart associations released guidelines for the treatment of cardiovascular disease and recommended the use of cholesterol-lowering statins for patients who fall into four broad risk categories. The associations also said that non-statin therapies do not acceptably reduce the risk of heart attack, stroke and other cardiovascular events. As a result, we expect statin use to rise, which is credit positive for AstraZeneca PLC (A2 stable) and generic manufacturers of statins, including Teva Pharmaceuticals Industries Ltd. (A3 negative). We also expect the use of non-statin cholesterol drugs to fall, a credit negative for Merck & Co., Inc. (guaranteed obligations A1 stable) and AbbVie Inc. (Baa1 stable). The guidelines, published by the American College of Cardiology and the American Heart Association, mark a change to previous recommendations, under which patients were treated to specific cholesterol goals. Instead, the new protocols recommend statin therapy for patients who fall into any one of four risk buckets, which encompass patients with a broad range of cholesterol levels. For example, although current guidelines recommend statin treatment primarily to patients with low-density lipoprotein cholesterol, or LDL-C levels, of 130 or higher, the new guidelines recommend treatment for people with much lower levels, depending on their age and other risk factors, such as diabetes. Although some patients currently taking statins, but not falling in the risk buckets, may stop, we believe the overall use of statins will rise. The increase might take some time to materialize, given that the existing guidelines have been in place for more than a decade and are well entrenched. The guidelines only apply in the US, but over time various cardiovascular groups or regulators in other countries might adopt a similar approach. As shown in the exhibit below, the largest branded statin is AstraZenecas Crestor. The drug accounted for 22% of AstraZenecas year-to-date 2013 sales through 30 September. Most other statins have gone generic in the US, so most promotional effort in the statin space is done by AstraZeneca, without competition. Pfizer Inc.s (A1 stable) Lipitor is also a statin, but most of its sales are outside the US because it already went generic. Cholesterol Drug Sales for the 12 Months Ended 30 September 2013
Crestor Is the Largest Cholesterol Drug and Will Benefit Most from the New Guidelines
US $7 $6 $5 Ex-US
$ Billions
$4 $3 $2 $1 $0 Crestor (AstraZeneca) Zetia (Merck) Lipitor (Pfizer) Vytorin (Merck) Niaspan (AbbVie) Tricor/Trilipix (Abbvie)
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General Electric Plans to Exit Retail Finance Business Are Credit Negative
Last Friday, General Electric Company (Aa3 stable) said it planned to exit the retail finance business through a multi-step transaction that will begin with an initial public offering of up to 20% of the shares of General Electric Capital Corporations (A1 stable) North American retail finance unit in 2014. Although these planned measures will lower the funding risk at GE Capital, we view them as credit negative because they will reduce GE Capitals earnings and shrink the scale of future dividends that GE Capital can upstream to GE. After the planned IPO, GE expects to distribute in 2015 its remaining interest in GE Capitals retail finance unit to voting GE shareholders in exchange for shares of GE common stock the effective equivalent of a share repurchase, albeit by means of an asset exchange rather than cash. This will enable GE to achieve its strategic objective of returning its common stock share base to levels it had before the global financial crisis. GE will remain exposed to the retail finance business for several years because GE Capital will need to provide the soon-to-be-spun-off unit with transitional funding and administrative services while managing the ownership transition. We expect that the nature and magnitude of this support to be similar to current levels, but it will extend beyond the split-off date. As the transaction progresses, GE will therefore likely cede control of the retail finance assets well before the need for support is fully eliminated. The transaction is consistent with GEs strategy of shrinking GE Capitals balance sheet and reducing its related exposure to wholesale funding risk and cyclical deterioration in asset quality performance for noncore assets. In fact, the planned separation accelerates the parent companys recent risk-reduction measures and its ongoing transition to a more industrial-oriented business mix. But although the retail finance unit periodically experiences higher-than-average delinquency and credit-loss rates, it also generates above-average returns relative to GE Capitals other business units. GE expects that the units 2013 earnings will be in line with 2012 unit profits of $2.2 billion, or about 27% of GE Capitals earnings (before corporate items and eliminations). The loss of this income stream will reduce the dividends that GE Capital will be able to distribute to GE. GE Capitals asset sales over the past few years have enabled it to increase capital distributions to GE, which included the repayment of $15 billion of support it received from its parent during the global financial crisis. However, GE has used much of this money to repurchase shares, rather than benefit creditors. GE Capitals retail finance unit is composed of US and Canadian private-label and dual-card8 businesses ($36 billion of receivables as of 30 September), a sales finance unit ($11 billion) and an elective health procedure finance business ($6 billion). The transaction brings ending net investment closer to GEs $300$350 billion target and will enable it to meet its goal of reducing GE Capitals contribution to consolidated parent company earnings to 30%, from pre-crisis levels of 45%-55%.
Dual-card combines a private label or branded affinity program (e.g., Macy's, Sears, GAP) with one of the major payment networks (e.g., VISA, Mastercard, or AMEX).
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Alex Verbov Vice President - Senior Analyst +49.69.70730.720 alex.verbov@moodys.com Benedikt Schwarz Associate Analyst +49.69.70730.942 benedikt.schwarz@moodys.com
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Chris Wong Associate Analyst +852.3758.1531 chris.wong@moodys.com Lina Choi Vice President - Senior Analyst +852.3758.1369 lina.choi@moodys.com
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Kai Hu Vice President - Senior Credit Officer +86.10.6319.6560 kai.hu@moodys.com Cindy Yang Associate Analyst +86.10.6319.6570 liu.yang@moodys.com
a 70% equity interest in Shanghai Tian Ma from AVIC International Holdings Limited, Shanghai Zhangjiang Company, Shanghai State Assets Company and Shanghai Optical Communications Corporation a 40% equity interest in Chengdu Tian Ma from Chengdu Industrial Group and Chengdu Gaoxin Investment a 90% equity interest in Wuhan Tianma from Hubei Technology Investment a 100% equity interest in Shanghai Optoelectronics from AVIC International Holding Corporation and AVIC Shenzhen a 100% equity interest in Shenzhen Opto-electronics from AVIC International Holding Corporation and AVIC Shenzhen
In view of its fast-growing market of smart phones and other handset devices, Tian Ma has seen improving profitability, which is also credit positive for AVIC International. According to the results forecast Tian Ma announced 28 October, net profit attributable to shareholders for 2013 is expected to increase by 90%130% year on year.
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Infrastructure
Alexandre de Almeida Leite Vice President - Senior Analyst +55.11.3043.7353 alexandre.dealmeidaleite@moodys.com Jose Avila Associate Analyst +55.11.3043.7307 jose.avila@moodys.com
See Brazil: The Hotspot for Drillships and FPSOs, 25 September 2013.
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Banks
Mark Vassilakis Vice President - Senior Analyst +1.212.553.2997 mark.vassilakis@moodys.com
M&T Wells Notice and Justice Department Probe Add to Compliance Woes
Last Tuesday, M&T Bank Corporation (A3 stable) disclosed in its third-quarter Form 10-Q that the US Securities and Exchange Commission (SEC) had issued its subsidiary, Wilmington Trust Corporation (A3 stable), a Wells notice in connection with an investigation into Wilmington Trusts financial reporting and securities filings before M&T acquired it. The company also disclosed that the US Department of Justice is conducting an investigation into Wilmington Trust for similar issues and certain commercial real estate lending relationships at the operating bank level, also before its acquisition by M&T. These regulatory actions are credit negative because they come as M&T is involved in firm-wide remediation of deficiencies in its compliance with the Bank Secrecy Act and anti-money laundering laws and its pending acquisition of Hudson City Bancorp, Inc. (unrated). Also, because the Wilmington investigations could result in civil or criminal penalties, they have the potential to divert management and company resources during a critical period. The receipt of a Wells notice is a significant escalation by the SEC, signaling that the regulator may bring a civil action against a company and its management. Upon receiving a Wells notice, a recipient can explain to the SEC why it should not bring an action. In its latest 10-Q, M&T disclosed that the SEC issued a Wells notice to Wilmington Trust on 5 August 2013, to which Wilmington Trust responded on 20 September. In Wilmington Trusts 2010 10-K, the last one filed before M&T acquired it in May 2011, its only disclosures were about an open comment letter regarding credit review, substandard and nonperforming loans, impaired loans, collateral values, goodwill and the deferred tax asset valuation allowance, which led to the subsequent investigations. M&T disclosed that the investigations are ongoing and the companys lawyers have met with the SEC and Justice Department. M&T estimated possible losses of up to $70 million above existing reserves from all pending legal proceedings. Although this amount is not large, equaling 4% of M&Ts trailing 12-month pre-tax income, an escalation in either investigation and the discovery of additional control issues could increase litigation costs and divert senior managements time from operational and strategic issues. For example, M&Ts merger with Hudson City, which M&T already postponed to 31 January 2014 from 27 August 2013 because of the Bank Secrecy Act and anti-money laundering deficiencies, could be derailed and frustrate M&Ts efforts to build up its currently small presence in New Jersey.
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Note: Large Companies are defined as those with more than BRL50 million in annual revenue Source: Serasa Experian
In response to a rise in delinquencies among small and midsize enterprises starting in 2010, Brazils smaller banks began shifting their lending towards larger companies, which they perceived as being less risky. However, smaller credit spreads on loans to larger corporate clients have pressured SME banks profitability, which has already been affected by Brazils weakening economy. In addition, higher concentrations of loans to large Brazilian companies among SME banks have made them more susceptible to defaults arising from increased bankruptcies in that market segment. The effect of the bankruptcy trends is already revealing itself in SME banks third-quarter results. Among all publicly traded banks in Brazil, only Banco ABC Brasil S.A. (Baa3 stable, D+/baa3 stable)10 reported a rise in profitability. Banco Daycoval S.A. (Baa3 stable, D+/baa3 stable) reported a rise in overall delinquencies to 2.8% in the third quarter from 1.6% a year earlier, largely because of a 200-basis-point rise in corporate delinquencies to 4.4%. Similarly, Banco Industrial do Brasil S.A. (Ba2 stable, D/ba2 stable) reported
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The bank ratings shown in this report are the banks deposit rating, their standalone bank financial strength ratings/baseline credit assessment and the corresponding rating outlooks.
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Eurobanks Capital Increase Plans and Staff Reductions Are Credit Positive
On Friday, Eurobank Ergasias S.A. (Caa2 negative, E/caa3 stable)11 announced that it will initiate a share capital increase process to raise approximately 2 billion. The announcement followed media reports on Wednesday that Eurobank and the state-owned Hellenic Financial Stability Fund (HFSF), which owns 95.2% of the bank, had agreed with the European Commission, European Central Bank and International Monetary Fund (collectively known as the Troika) to privatise the bank by the end of January 2014, with various foreign investors expressing interest. In addition, the banks voluntary worker layoff scheme launched earlier this month will exceed its goal of reducing its headcount by 700. These developments are credit positive for the bank because they will enhance its relatively weak capital base, with ownership of the bank gradually reverting back to private investors, and lower its cost base. A privatisation through the issuance of new shares by the end of January 2014, which would follow the HFSFs 5.8 billion recapitalisation of Eurobank in June 2013 that took place without private investor involvement, would meet the first-quarter 2014 target envisaged by the local recapitalisation law. The privatisation would also enhance the banks relatively weak core Tier 1 (CT1) ratio, which was 8.1% at the end of June and below the 9% minimum required by the Bank of Greece. We estimate that Eurobank will need to raise at least 2 billion of new capital from its privatisation in order to raise its CT1 ratio to more than 13%. Such a level is necessary for Eurobank to absorb any future loan losses considering its high level of nonperforming loans (25.3% of gross loans as of June 2013) and modest provisioning coverage of 50%. Moreover, its CT1 ratio would be comparable to peers Alpha Bank AE (Caa2 negative, E/caa3 stable), whose CT1 ratio was 13.9% at the end of June, and Piraeus Bank S.A. (Caa2 negative, E/caa3 stable), whose CT1 ratio was 13.8%. Additional capital would also help Eurobank meet the capital needs that are likely to emerge when BlackRock conducts its second assessment of credit losses for Greek banks, which the Bank of Greece commissioned and is due to be completed by the end of this month. According to media reports, there are currently three foreign investment funds that have expressed interest in investing in Eurobank, which suggests that privatisation is feasible. However, we note that the HFSF is likely to have veto power over important strategic decisions given that it will likely retain a significant stake in the bank for some time. Eurobanks success in reducing its headcount is also credit positive because it provides additional relief to its cost base. Although top- and bottom-line profitability will remain under pressure from Greeces persistently adverse operating environment, we estimate that the staff cuts will reduce staff expenses by around 5%, thereby helping the bank to improve its pre-provision income (PPI) following the takeover in July of two smaller bridge banks, New Hellenic Post Bank (unrated) and New Proton Bank (unrated). As of June 2013, the banks six-month PPI was a low 190.3 million after operating expenses of 496.5 million, and the bank estimates annual pre-tax synergies of around 200 million by 2015 from its recent bank acquisitions.
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The bank ratings shown in this report are the banks deposit rating, its standalone bank financial strength rating/baseline credit assessment and the corresponding rating outlooks.
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Alessandro Roccati Senior Vice President +44.20.7772.1603 alessandro.roccati@moodys.com Lucie Villa Assistant Vice President - Analyst +44.20.7772.5326 lucie.villa@moodys.com
BNP Paribas Acquisition of Minority Stake in BNP Paribas Fortis Is Credit Positive
Last Wednesday, BNP Paribas (BNPP, A2 stable, C-/baa2 stable)12 announced that it had agreed to buy the Belgian governments 25% stake in BNP Paribas Fortis SA/NV (BNPP Fortis; A2 stable, C-/baa1 stable) for 3.25 billion. The transaction, which gives BNPP full control over BNPP Fortis, is credit positive for BNPP because it allows BNPP to fully exploit cost synergies at the subsidiary. The deal will also increase BNPPs retail and commercial business earnings relative to its capital markets business and allow it to retain a strong capital position after the deals completion. The deal is moderately credit positive for BNPP Fortis because it will improve BNPP Fortis governance structure and raises the potential for BNPP Fortis efficiency to improve from a fuller exploitation of intragroup synergies. In addition, a deeper integration of BNPP Fortis underscores the very high likelihood of parental support, if necessary. The exit of the Belgian government as a key shareholder will not affect our very high systemic support assumptions, given BNPP Fortis importance as Belgiums largest banking institution. Full control over BNPP Fortis will allow BNPP to continue with the integration of the Belgian bank into its group operations and more effectively exploit the potential for cost synergies at the group level. We estimate that BNPP could achieve around 300 million operating cost savings, or around 3% of its 2012 income before tax, by lowering BNPP Fortis cost-to-income ratio to 70% from 76% in 2012. With full control of BNPP Fortis, we expect BNPP to increase its retail and commercial banking net income contribution by around 150 million, or approximately 2% of its 2012 group net income. The transaction will have a moderately negative effect on BNPPs regulatory capital position, because the deal would lower BNPPs third-quarter 2013, fully loaded Basel III common equity Tier 1 (CET1) ratio by around 50 basis points to 10.3%. Despite the decline, BNPPs capital position is well above most European peers (see exhibit). Moreover, BNPP should be able to neutralise the effect on its capital from the acquisition in less than two quarters, as we calculate it generates around 40 basis points of Basel III CET1 every quarter. BNP Paribas Regulatory Capital Position Will Remain Above Its Peers Post-Acquisition
Basel III Fully Loaded CET1 14% 12% 10% 8% 6% 4% 2% 0% UBS BNPP HSBC Citi CS BAC SG GS DB BCS JPM RBS Basel III Fully Loaded CET1 Post Acquisition of Minority Stake in BNP Paribas Fortis
Notes: Data as of September 2013. Barclays CET1 ratio of 9.3% includes the 5.8 billion rights issue it completed in October. BAC = Bank of America Corporation; BCS = Barclays Plc; BNPP = BNP Paribas; Citi = Citigroup; CS = Credit Suisse; DB = Deutsche Bank; GS = The Goldman Sachs Group Inc. HSBC = HSBC Holdings plc; JPM = JPMorgan Chase & Co.; RBS = Royal Bank of Scotland plc; SG = Socit Gnrale, UBS = UBS AG. Source: Company data
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The bank ratings shown in this report are the banks deposit rating, its standalone bank financial strength rating/baseline credit assessment and the corresponding rating outlooks.
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London +44.20.7772.5454
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The bank ratings shown in this report are the banks deposit rating, its standalone bank financial strength rating/baseline credit assessment and the corresponding rating outlooks.
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Note: Data for Veneto Banca, BP Vicenza, and Iccrea are as of 30 June 2013, while for the others, the data are as of September 2013. The exhibit also shows Cariges pro forma core Tier 1 (CT1) ratio, including the effect derived from the sale of the banks asset management unit and a tax benefit, which will both be included in the next quarterly reports. For Banca Popolare di Milano, the exhibit shows the pro forma CT1, including a planned capital increase by July 2014 that has already been supported by a pre-underwriting agreement by a syndicate of banks. For Veneto Banca, the ratio shown is its Tier 1 ratio because its CT1 ratio is not publicly available. Source: The banks
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Yasuko Nakamura Vice President - Senior Analyst +33.1.5330.1030 yasuko.nakamura@moodys.com Alain Laurin Associate Managing Director +33.1.5330.1059 alain.laurin@moodys.com
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The ratings shown are KBC Banks deposit rating, its standalone bank financial strength rating/baseline credit assessment and the corresponding rating outlooks. See Europes Disclosure Requirements for Nonperforming and Forborne Loans Improve Bank Asset Transparency, 24 October 2013.
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Note: June 2013 data is year-on-year asset growth Source: Moodys Financial Metrics and Sberbank
In line with most other banks in Russia, we expect that Sberbanks asset quality will deteriorate in 2014 owing to Russias weakening economy. However, Sberbanks more cautious growth will lead to slower buildup of problem loans in 2015 and beyond. Sberbanks growth target is not very high in the context of Russias high inflation rate, which will exceed 6% for 2013. Asset growth in the next five years will be mostly organic. This is positive for Sberbank because it has yet to fully integrate two large acquisitions it made in 2012, controlling stakes in Denizbank A.S. (Turkey) and Sberbank Europe (formerly Volksbank International) in the Central and Eastern Europe region. Although Sberbank does not rule out new acquisitions to strengthen its franchise in markets where it already has a presence, such transactions will be small in size owing to Sberbanks moderate Tier 1 ratio of 10.5% at 30 June 2013. Sberbanks assets outside of Russia will account for 12% of total assets by the end of this year, according to its own estimate, and will be mainly composed of subsidiaries in Turkey (Denizbank A.S., Baa3 stable, D+/ba1 stable), Ukraine (JSC Sberbank of Russia, unrated), Kazakhstan (SB Sberbank JSC, Ba2 stable, E+/b2 stable), Belarus (BPS-Sberbank, Caa1 negative, E+/b3 negative) and Central and Eastern Europe (Sberbank Europe, unrated). Operations in Ukraine and Belarus expose the group to particularly high credit and operational risks because these countries are experiencing severe economic problems.
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The bank ratings shown in this report are the banks deposit rating, their standalone bank financial strength ratings/baseline credit assessment and the corresponding rating outlooks.
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The bank ratings shown in this report are the banks deposit ratings, their standalone bank financial strength ratings/baseline credit assessments and the corresponding rating outlooks.
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RMB Billions
20 15 10 5 0 ICBC BOC ABC CCB BoCom CITICB CEB PAB CMB SPDB
Note: ABC = Agricultural Bank of China; BOC = Bank of China Limited; BoCom = Bank of Communications; CCB = China Construction Bank Corporation; CEB = China Everbright Bank; CITICB = China CITIC Bank; CMB = China Merchants Bank; ICBC = Industrial & Commercial Bank of China Ltd.; PAB = Ping An Bank; SPDB = Shanghai Pudong Development Bank Source: Company annual reports. Data are as of the end of 2012.
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The bank ratings shown in this report are the banks deposit rating, their standalone bank financial strength ratings/baseline credit assessment and the corresponding rating outlooks.
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Insurers
Steve Zaharuk Senior Vice President +1.212.553.1634 stephen.zaharuk@moodys.com
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Because of the complexity of reinstating these policies before the start of 2014, it remains to be seen how many insurers will be willing to reinstate policies, or whether regulators will allow reinstatement.
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The American Academy of Actuaries, in a letter to Congress dated 5 November, urged Congress to consider the potential adverse consequences of these proposals, pointing out that either action would likely result in higher medical costs and higher premiums as lower-cost individuals will likely delay coverage.
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Sub-sovereigns
Rafael Rodriguez Associate Analyst +52.55.1253.5743 rafael.rodriguez@moodys.com
Note exhibit assumes 17% average federal income tax rate for state employees. Source: Moodys
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US Public Finance
Nicole Johnson Senior Vice President +1.212.553.4573 nicole.johnson@moodys.com
New York Transportation Authority Revises Its Revenue Projections, a Credit Positive
Last Wednesday, New Yorks Metropolitan Transportation Authority (MTA, transportation revenue bonds A2 stable) released its November 2013 financial plan, which showed higher ending balances through 2017 than the previous financial plan. The improved forecast, reflecting upward revenue revisions and lower cost estimates, is credit positive. The MTA publishes a financial plan three times each year. The MTAs forecasts typically show out-year budget gaps and this was still the case with the November forecast. However, the MTAs $191 million projected deficit for 2017 is a manageable 1.5% of the MTAs estimated $12.6 billion consolidated operating expenses for that year. The MTAs improved forecast reflects several factors. Increases in passenger fares, toll revenues and real estate transaction fees reflect a stronger regional economy, while projected health, pension and other benefit costs are lower than the MTA forecast in earlier plans. In addition, debt service expenses have declined because interest rates are below budget, and the MTA has realized higher-than-expected paratransit savings for services to disabled riders. These factors more than offset negative revisions including higher overtime estimates, lower petroleum business tax receipts (a tax on the import and sale of petroleum products) and higher operation and maintenance needs. The MTAs July 2013 plan was in balance through 2014, with modest cumulative deficits totaling $240 million at the end of 2017. In addition, the July plan incorporated biennial fare and toll increases of 7.5% in 2015 and 2017, which the MTA has now reduced to increases of 4% in each year. Those lower increases shave revenue growth by $905 million through 2017. As an offset, the MTA plans to implement an additional cumulative $500 million of cost-cutting measures through 2017. Based on its success in reducing operating costs in recent years, the MTA was able to restrict budget growth to less than 2% in 2014. Continuing to control expenditures going forward will be key to reducing future fare and toll hikes. A significant risk in the financial plan is the assumption that labor settlements will include three years of net-zero wage growth, including for 2012 and 2013. Non-represented groups have not received a salary increase since 2008. Collective bargaining continues with the Transit Workers Union, the MTAs largest bargaining unit, which represents about 31,970 transit and bus workers, or about 70% of total transit and bus employees and nearly 50% of all MTA employees. Their contract expired 15 January 2012. Net-zero growth can incorporate offsets through savings from work-rule changes or increased contributions to employee healthcare. Failure to reach a net zero labor settlement would increase the MTAs annual operating budget by about 2.5%, or $300 million, on top of retroactive payments that might be required (see exhibit below).
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$ Million
-$100 -$200 -$300 -$400 -$500 -$600 2012 2013F 2014F 2015F 2016F 2017F
Another risk to the plan is that the state legislature will not alter the MTAs subsidies or dedicated revenues, particularly the payroll mobility tax implemented in 2009 to help stabilize the MTAs financial position. Although the MTA has been successful in several lawsuits that sought to repeal the tax, the loss of that revenue stream outside New York City could result in another $300 million annual revenue gap, which the MTA would likely compensate for by raising fares.
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Detailed analysis of an important topic
Christopher Coviello Vice President - Senior Analyst +1.212.553.0575 christopher.coviello@moodys.com Naomi Richman Managing Director +1.212.553.0014 naomi.richman@moodys.com
New, higher sewer rates, which are critical to debt repayment, face financial and governance risks With a high debt load and deferral of principal repayment, financial metrics are weak Debt service coverage will decline as principal payments increase in later years Significant looming capital needs will require further rate increases Service area, anchored by a large university healthcare complex, has average wealth levels New debt structure provides satisfactory legal security
We rate the countys outstanding sewer warrants Ca negative, consistent with recovery prospects in the 35%-65% range upon issuance of the new debt and confirmation of the bankruptcy plan. We also rate the countys defaulted General Obligation Limited Tax (GOLT) debt Caa3 negative, with an expected recovery in the 65%-80% range upon conclusion of the bankruptcy, based on our approach for calculating recovery. (See the Appendix for a chart of all our outstanding ratings on the county.)
Higher Sewer Rates Critical to Debt Repayment Face Financial and Governance Risks
FINANCIAL RISK Jefferson County faces a challenge adhering to its plan, which has the county raising sewer rates each year for 40 consecutive years in order to pay debt service, while leaving capital funding needs unaddressed. The approved rate plan increases user charges by 7.89% each year from 2014 through 2018 and by 3.49% each year from 2018 through maturity in 2053. The county intends the rate increases to cover repayment of the new warrants and 10 years worth of projected capital and operating expenses. However, such long-term financial projections are inherently tenuous. The countys 10-year projected rate increases may be insufficient if actual revenues, operating expenses or capital expenditures are less favorable than assumed, prompting a need for even higher user rates. Additional rate increases will also be necessary to cover capital expenditures beginning in 2024. The county commissions willingness to impose additional increases, given its past reticence to do so, is a significant risk.
21
Our opinion is based on the underlying credit quality of the debt, without regard to credit enhancement provided by bond insurance. The credit opinions in this article are based on information from Jefferson Countys Preliminary Official Statement dated Nov. 4, 2013, and on Moodys data.
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Detailed analysis of an important topic GOVERNANCE RISK In Jefferson County, the responsibility for rate-setting rests with its five commissioners, who face election every four years. This governance structure differs from most publicly run US sewer systems, which set their rates through approvals from appointed, quasi-independent bodies to reduce the unpredictable influences of electoral politics. Jefferson Countys 40-year schedule of rate increases passed by a narrow 3-2 vote and can be revisited by future boards. Additionally, current or future commissioners could vote to roll back or rescind the rate increases or could even re-enter bankruptcy, in which case the county would restart the bankruptcy process. The affordability of the rate increases for the systems residential users, whose current rates are among the nations highest, remains a contentious political topic. And, the ratepayers may yet challenge whether the approved rates meet the state constitutional standard of reasonable and nondiscriminatory rules and regulations fixing rates and charges. The new rates will be incorporated into the countys final bankruptcy resolution plan, and approval of the plan by the bankruptcy court is a closing condition for the warrants. But following issuance of the new warrants, current or future commissioners could vote to roll back or rescind the rate increases. While the bond trustee could then ask the court to compel the county to enforce its bankruptcy plan, we are not aware of a precedent for a federal court to compel public utility rates of this nature, given the federalism issues involved in this bankruptcy. Jefferson County is one of only two rated US local government water and sewer issuers to default on water and sewer revenue bonds since 1970. It is the only one to impose material losses on creditors. Our forward-looking opinions about credit quality do not impose an automatic penalty box on past defaulters, but willingness to pay is a key element of our analysis, and past performance is often an important indicator of future actions. The countys past debt issuance was motivated in part by criminal acts on the part of multiple individuals, and that the previous risky debt structure included variable rate modes and many layers of derivative contracts. However, this structure was motivated in part by a desire to minimize debt service payments in order to keep sewer rates low. Additionally, the county has not raised sewer rates since 2008, despite insufficient net revenues to cover debt service. This history separates Jefferson County from the overwhelming majority of sewer revenue bond issuers that routinely demonstrate willingness to pay debts by implementing single-digit, annual rate increases to cover their operating and capital expenses. The current commissioners have demonstrated a change from past governance practices, including not only implementing 40 years of rate increases, but also they appointed a professional, experienced management team. But they have been in place only two years and did not raise rates until recently.
With a High Debt Load and Deferral of Principal Repayment, Comparative Financial Metrics Are Weak
HIGH DEBT LOAD Although we expect large haircuts for existing bondholders, Jefferson Countys sewer system will remain highly leveraged for the foreseeable future. The system will be far more leveraged and offer significantly weaker coverage of future maximum annual debt service (MADS) than is typical of investment grade sewer systems. Despite the significant reduction in debt as a result of the bankruptcy process, the system will continue to bear a heavy debt load.
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Detailed analysis of an important topic Jefferson Countys debt ratios are outliers compared to rated sewer revenue bonds. The sewer systems ratio of total debt to current year (2013) operating revenues will be roughly 11x. This is far above the median of about 3x for all rated sewer systems and 4x for the largest systems with more than $100 million of operating revenues. Among rated sewer systems, the median MADS coverage by current year revenues is 1.62x for all systems, and 1.58x for the largest systems. In contrast, Jefferson Countys revenues provide MADS coverage of only 0.4x.22 SLOW PRINCIPAL REPAYMENT Principal amortization is heavily deferred in the countys debt structure, repaying less than 2% of principal over the next 10 years because for the first 10 years, the finance plan funds capital expenditures out of operating revenues. Even 10 years from now, using the projections provided in the Preliminary Official Statement dated 4 November 2013, the system will remain highly leveraged. Although in 2023, operating revenues will be more than 55% higher than they are today, the ratio of debt to operating revenues will be about 7x, and MADS coverage will still be only 0.67x. The payment of total debt service, including principal and interest, is also extremely slow. We calculate that the system pays only 11.5% of debt service in the first 10 years, and just 36.2% in the first 20 years of the 40-year life of the warrants. A typical investment grade sewer credit would pay two-thirds or more of its debt service in the next 20 years.
Debt Service Coverage Will Decline Precipitously When Principal Payments Spike After 10 Years
We expect the county to face increasing risk that it will fail to achieve adequate debt service coverage in the later years of these warrants. The enacted rate increases would boost net revenues to amply cover debt service in the early years, but the back-loaded debt structure will lead to tighter coverage in the future. The countys Preliminary Official Statement only offers financial projections through 2023, or one quarter of the total life of the new debt. The lowest projected debt service coverage through 2023 is a robust 5.2x for senior warrants and a solid 1.6x for junior warrants for the next 10 years. However, debt service jumps sharply by 67% between 2023 and 2024. At that point, debt service coverage will tighten dramatically. We calculate that projected 2023 net revenues inflated at 3% would cover debt service by only 1.2x in 2024.
Significant Future Capital Needs Loom; Will Require Further Rate Increases
One of the material risks that the new warrants face is that the back-loaded debt structure and corresponding rate increases may not leave capacity for future capital investment. Beyond regular system renewal and replacement, significant investments could be necessary to meet stricter environmental standards. Jefferson Countys extensive capital plan addresses various environmental issues related to its 1996 Consent Decree, as well as system efficiency upgrades that will meet both specific utility needs and provide operational reliability going forward. However, the feasibility study states that the strict phosphorus limit requirements that the countys sewer system will be accountable for in the future are approaching the limits of currently available phosphorus treatment technology.23 The necessary upgrades would require sizeable future capital expenses. If these standards are not relaxed, or if other environmental standards
22 23
The MADS calculation incorporates unaudited fiscal 2013 net revenues of $106 million and $254 million MADS in 2053. POS Appendix E, Municipal Advisors Feasibility Study, Series 2013 Sewer Warrants, p. 4-6.
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Detailed analysis of an important topic tighten in the coming years, it is likely that significant debt issuance would be needed in fiscal 2024 and beyond, requiring even greater rate increases than those already approved.
Service Area, Anchored by a Large University Healthcare Complex, Has Average Wealth Levels
The sewer system serves most of Jefferson County and small portions of adjacent counties. Jefferson County benefits from a substantial property tax base of $43.7 billion. It has a sizeable healthcare, educational and financial presence located predominantly in the City of Birmingham (GOLT rated Aa2 stable). The University of Alabama at Birmingham (UAB) (Aa2 stable) is the sewer systems largest single customer, accounting for 2% of 2012 charges billed. It operates a substantial hospital and research program and generates nearly $3 billion in annual revenue. UAB is not only the largest employer in Jefferson County, but also one of the top employers in the entire state. Wealth levels within the county remain somewhat below national averages, with per capita income at 96.5% of the US and median family income at 90.5% of the US.24 Unemployment levels, however, continue to trend below both state and national averages at 6% as of July 2013, compared to state unemployment of 6.6% and national unemployment of 7.7%. The county encompasses 1,124 square miles and as a result, the sewer system is extremely large. The need for sewer lines to traverse the areas hilly terrain contributes to the systems heavy capital needs. The system originally consisted of 21 individually operated collection facilities that eventually connected to the countys treatment system. Today, with $2.68 billion book value of net fixed assets, the system consists of nine treatment plants that treat an average of 104 million gallons per day (mgd), 177 pump/lift stations and 3,145 miles of sewer lines.
Senior Lien Current Interest Warrants Senior Lien Capital Appreciation Warrants Senior Lien Convertible Capital Appreciation Warrants Total Senior Lien Par Sub Lien Current Interest Warrants Sub Lien Capital Appreciation Warrants Sub Lien Convertible Capital Appreciation Warrants Total Subordinate Lien Par Total Senior and Subordinate Par
Source: Jefferson County Preliminary Official Statement dated 4 November 2013
24
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Detailed analysis of an important topic Security for the new warrants will include a senior lien rate covenant of 125% of annual debt service and a subordinate lien rate covenant not less than 110% of annual debt service. The warrants will also have debt service reserve funds, which are funded with letters of credit from JP Morgan. Senior lien warrants will have an additional bonds test of 1.25x senior lien debt service coverage. The additional bonds test is 1.10x for subordinate lien. All of the senior and subordinate warrants are fixed rate. If there were a second bankruptcy filing, while priority of payment may be respected, there is still a great deal of uncertainty about ultimate recovery of senior and subordinate lien debt, given that municipal bankruptcies are so rare.
Jefferson County Sewer revenue* Jefferson County GOLT Jefferson County Lease Jefferson County Limited Obligation School City of Birmingham GOLT Birmingham Water Works Board Senior Lien Birmingham Water Works Board Subordinate Lien
*These are the current warrants in default, not the planned new issuance.
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RATING CHANGES
Significant rating actions taken the week ending 15 November 2013
Corporates
Fortescue Metals Group Ltd
22 Aug 13
Upgrade
13 Nov 13
Ba3 Positive
Ba2 Positive
The one-notch upgrade reflects the strengthening in Fortescue's credit profile following announced progress on its debt reduction strategy. The upgrade also reflects Fortescue's ongoing success in its expansion activities. Grifols S.A.
15 Jul 13
Outlook Change
13 Nov 13
Ba2 Stable
Ba2 Negative
The outlook change follows Grifols announcement that it would acquire Novartis diagnostic business unit for $1.675 billion, and reflects the moderate re-leveraging of Grifols pro forma for the planned purchase in a largely debt-funded transaction. Shimao Property Holdings Limited
18 Jul 13
Upgrade
15 Nov 13
Ba3 Positive
Ba2 Stable
The upgrade reflects our expectation that Shimao's good sales execution will be maintained. Shimao has demonstrated a good track record of sales execution since it fine-tuned its business strategy in 2011. Its strong sales are the result of its increased focus on small- to medium-sized products for the mass market that target first-time home buyers and up-graders. Smurfit Kappa Group plc
8 Mar 12
Outlook Change
12 Nov 13
Ba2 Stable
Ba2 Positive
Our outlook change mirrors the company's continued track record in reducing its financial leverage through a mix of debt repayments and improvements in operating profitability, with adjusted gross leverage expected to decline to around 4 times by year-end. We also recognize the group's resilient operating performance over the past quarters despite the challenging macroeconomic environment in its European stronghold.
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RATING CHANGES
Significant rating actions taken the week ending 15 November 2013
Sophia, L.P.
13 Dec 11
Downgrade
14 Nov 13
B2 Stable
B3 Stable
The downgrade reflects the surge in debt-to-EBITDA at Sofia to about 8.5 times pro-forma for the new PIK notes that Sophia is issuing, from 7.0 times. The very high leverage is somewhat balanced by Sophia's growing scale and leading position as a niche provider of software and services for the administrative and academic functionality at higher education institutions. Telesat Canada
13 Mar 12
Outlook Change
12 Nov 13
B1 Stable
B1 Positive
The outlook is positive based on expectations of continued de-leveraging and free cash flow expansion through 2014-15. The company's strong business profile, featuring a stable contract-based revenue stream with a nearly six-year equivalent revenue backlog of $5 billion that is booked with well-regarded customers, provides a solid positive consideration. Tervita Corporation
24 Jan 13
Downgrade
12 Nov 13
B3 Negative
Caa1 Stable
The downgrade is primarily driven by Tervitas very high leverage, generally weak execution (especially of its growth spending) over the past couple of years, and exposure to the cyclical land drilling business with a concentration in western Canada. We are concerned that, unless earnings grow in the next few years, the company's capital structure may be untenable.
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RATING CHANGES
Significant rating actions taken the week ending 15 November 2013
Financial Institutions
Review of Eight Large US banks Concluded On 14 November, we concluded our review of eight large US banking groups, lowering by one notch the senior holding company ratings of Morgan Stanley, Goldman Sachs, JPMorgan, and Bank of New York Mellon. We also confirmed the senior holding company ratings of Bank of America, Citigroup, State Street, and Wells Fargo. The credit ratings of these banking groups each benefit from our assumption of government support. The rating actions reflect strengthened US bank resolution tools, prompted by the Dodd-Frank Act, which affect these assumptions. We also considered the changing credit profiles of certain banks. Specifically we lowered the standalone baseline credit assessments (BCA) of Bank of New York Mellon and State Street Bank and Trust, both to a1 from aa3 to reflect the long-term profitability challenges facing these highly-rated custodian banks. We also raised the standalone BCAs of both Bank of America N.A. and Citibank N.A. to baa2 from baa3 to reflect positive changes in the banks' credit profiles including declining legacy exposures and strengthening capital. Arrow Reinsurance Company Limited
23 Aug 13
Downgrade
14 Nov 13
A3
Baa1
The rating action follows on our downgrade of the rating of Arrow Re's ultimate parent, Goldman Sachs, to Baa1 from A3, with stable outlook. The insurance financial strength rating on Arrow Re reflects the benefit of implicit and explicit support provided by Goldman Sachs. Without parental support, Arrow Re's standalone credit profile is lower than Baa1. CIBC Mellon Trust Company
2 Jul 13
Downgrade
15 Nov 13
Standalone Financial Strength/ Baseline Credit Assessment Issuer and Long-Term Deposit Ratings
B-/a1 Aa3
C+/a2 A1
The downgrade reflects structural profitability pressures that CMT faces along with its affiliate, CIBC Mellon Global Security Services Company (GSS), which are managed on a combined basis and are both 50:50 joint ventures between The Bank of New York Mellon and Canadian Imperial Bank of Commerce. Although CIBC Mellon's position in the Canadian custody market remains very strong, it faces similar profitability pressures as other custodian banks in the current low interest rate environment. Given CMT's extensive use of services provided by its owners, it may prove harder to achieve further efficiency savings to offset revenue headwinds than would be the case if all these costs were controlled directly.
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RATING CHANGES
Significant rating actions taken the week ending 15 November 2013
Cigna Corporation
5 Feb 13
Outlook Change
12 Nov 13
A2 Stable
A2 Positive
We changed the outlook because Cigna's financial profile has improved as a result of consistent financial results for the last few years. In addition, strategic developments have improved the company's risk profile. In particular, Cigna's financial leverage (adjusted debt to total capital), which has historically been high relative to the company's rating at around 45%, is expected to be managed to below 40% over next 12 months. Landesbank Saar
16 Nov 11
Outlook Change
13 Nov 13
D/ba2 Stable
D/ba2 Negative
The outlook change reflects our view that SaarLB is vulnerable to adverse events given significant sector concentrations in the areas of commercial real estate and project finance. The progressive replacement of non-core assets with corporate loans coupled with the bank's expansion strategy into project finance with focus on renewable energy, which is still an immature and untested industry, results in a relatively unseasoned loan book, thus inducing new tail risks. Northern Trust Corporation
2 Jul 13
Downgrade
14 Nov 13
Senior Debt Rating Standalone Financial Strength/ Baseline Credit Assessment Long-Term Deposit Rating
A1 B/aa3 Aa3
A2 B-/a1 A1
The downgrade reflects profitability pressures. Specifically, in the current challenging operating environment, including a protracted period of low interest rates, Northern Trust's net interest margin has compressed and its noninterest income from sources tied to interest rates has been reduced. Moreover, the bank's revenue in some ancillary businesses is hindered by changed market dynamics, including lower foreign exchange fees and reduced securities lending demand following client losses during the financial crisis.
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RATING CHANGES
Significant rating actions taken the week ending 15 November 2013
Sub-sovereigns
Bromford Housing Group (UK)
New
11 Nov 2013
Aa3 Stable
The rating reflects financial ratios that are among the strongest among its rated peers, robust governance, strong management practices and moderate debt-to-revenue ratio, which is not expected to grow given a moderate capex programme. The rating also factors in a significant portion of income coming from a volatile revenue source. First Nations Finance Authority Inc. (Canada)
New
13 Nov 2013
A3 Stable
The rating reflects the strong institutional framework and governance and management structure of the First Nations Finance Authority. The rating also reflects extensive membership and borrowing criteria, balanced by the presently small pool size of small borrowers, limited diversity and limited track record. Also factored into the rating are the oversight of borrowing members by the First Nations Financial Management Board and strong support from the federal government. Aut. Regions of Madeira and Azores, City of Sintra (Portugal)
Outlook change
12 Nov 2013
Madeira (issuer rating) Azores (issuer rating) Sintra (Issuer rating) Outlook
B3 (15 Feb 2013) B1 (18 Nov 2011) Ba3 (15 Feb 2012) Negative
B3 B1 Ba3 Stable
The change in outlook follows our action on the Government of Portugal on 8 November, raising the outlook on Portugals Ba3 rating to stable. The transfers Sintra receives from the central government imply that the citys creditworthiness is constrained at the Government of Portugal's rating. As a result, given the city's good financial performance, the change in the outlook on the sovereign rating triggered a similar outlook change on Sintra's rating.
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RATING CHANGES
Significant rating actions taken the week ending 15 November 2013
Structured Finance
Updated Approach to Swap Counterparty Linkages Leads to Rating Actions On 12 November we updated our approach for assessing swap counterparty linkage in structured finance transactions. The updated approach determines the rating impact on notes exposed to swap counterparties based on factors including 1) the rating of the counterparty, 2) the rating trigger provisions in the swaps, 3) the type and tenor of the swap, 4) the amount of credit enhancement supporting the notes, 5) the size of the relevant note, and 6) the rating of the notes before linkage.
In Europe, we placed on review for downgrade the ratings of 150 notes in 48 residential mortgagebacked securities (RMBS) and 17 notes in 14 asset-backed securities (ABS). In the US, we placed on review for downgrade the ratings of 21 notes in eight US student loan-backed transactions, affecting approximately $6.5 billion. In Australia, we placed on review for downgrade the ratings of 56 notes in 22 residential mortgagebacked securities (RMBS) and one note in a commercial mortgaged-backed security (CMBS).
Amortising European CLOs Upgraded due to Significant Loan Prepayments On 14 November we upgraded the ratings on 66 tranches in 29 European collateralised loan obligations (CLOs), totaling approximately 1.9 billion of outstanding rated balance. The magnitude of these upgrades ranged generally between one and three notches. The ratings of all tranches upgraded, except for those already upgraded to Aaa (sf), remain on review for upgrade. We also placed on review for upgrade the ratings of an additional 27 tranches in 20 CLOs, totaling approximately 852.1 million of outstanding rated balance. These actions are primarily a result of the substantial deleveraging of senior notes and increases in overcollateralisation (OC) levels, which improved the credit enhancement levels of outstanding tranches in these transactions. The deleveraging and OC improvements primarily resulted from high prepayment rates of leveraged loans in CLO portfolios. In particular, we observed a significantly high rate of prepayment during the summer of 2013.
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RESEARCH HIGHLIGHTS
Notable research published the week ending 15 November 2013
Corporates
EMEA Telecommunications Service Providers: Revenues to Stabilize in 2014, But Slow and Uncertain Recovery Keeps Outlook Negative
Our outlook for the EMEA telecommunications service industry is negative. While we expect revenues to stabilize or marginally decline (0% to -0.5%) in 2014, it is not clear to us how sustainable any recovery will be.
Chinese Department Stores' Credit Quality Is Diverging as Rents Rise and Competition Increases
The credit quality of Chinese department stores will diverge further in the next two to three years as rents rise and competition from Internet retailers and shopping malls increases. Retailers that own a large percentage of their stores are better positioned to maintain their profitability, market share and funding access than those that lease their spaces.
Global Pharmaceuticals: New US Cholesterol Guidelines Are Negative for Merck's Vytorin/Zetia Franchise
New US treatment guidelines for the reduction of cardiovascular disease will lead to changes in the use of cholesterol-related pharmaceutical products. The guidelines eliminate the concept of treating with cholesterol goals, and instead recommend statin therapy based on categories of risk factors. Although some patients currently taking statins may stop, we believe that the overall use of statins is likely to rise. The new treatment guidelines, however, specifically state that non-statin therapies do not provide acceptable risk reduction, so Zetia sales will fall.
Outlook Update: Global Base Metals: Prices to Stay Largely Range-Bound in 2014 as World Economy Faces Slow Recovery
We changed our outlook for the Global Metal Base industry to stable from negative, as the price decline has bottomed. Prices are expected to remain within current trading levels given the slow global economic recovery.
US For-Profit Hospitals: Despite Slow Enrollment, Exchanges Remain Positive for ForProfit Hospitals
We continue to believe that the expansion of insurance coverage under healthcare reform will be credit positive for the for-profit hospital operators. The figures show quicker-than-anticipated growth in individuals eligible for Medicaid, a positive for the for-profit hospitals.
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18 NOVEMBER 2013
RESEARCH HIGHLIGHTS
Notable research published the week ending 15 November 2013
Financial Institutions
Moody's Concludes Review of Systemically Important US Banks Frequently Asked Questions
Our report focuses on the changes to our systemic support assumptions, which were a major driver of our 14 November rating action. The changes in support assumptions are directly related to the ongoing progress of US bank regulators in developing an effective resolution framework for large, complex banks.
Leading Indicators of Asset-Quality for Banks in Eastern Europe and the Middle East
We present the leading indicators for asset quality that we track across banking systems in Eastern Europe and the Middle East. We track these indicators as part of our surveillance of banks asset quality as they help to inform our outlook on loan book performance and ensure both the timely detection of vulnerabilities and shifts in problem loan trends.
FAQ on Key Credit Issues Regarding Contractual Non-viability Subordinated Debt Issued by Chinese Banks and Their Hong Kong Subsidiaries
Investors face higher risks of losses on contractual non-viability subordinated debt than traditional plain vanilla securities because the former gives regulators explicit discretion and flexibility to impose losses on investors. Starting in 2013, all new issuances of non-common equity capital instruments in both Mainland China and Hong Kong must contain contractual non-viability language.
Mexicos Financial and Fiscal Reforms Are Credit Positive for Banks Frequently Asked Questions
Mexicos financial and fiscal reforms will improve growth prospects in the financial sector. Increased focus on lending to SMEs will boost profit margins, increased formality in the economy will result in new bank clients, and better collateral enforcement and credit reporting will encourage banks to move into new markets. Our report answers key questions about the financial reform and the impact it will have on credit quality for Mexican lenders.
2013 Survey of Russian and CIS Banks Single-Client and Related-Party Concentrations
Our survey of Russian and other Commonwealth of Independent States (CIS) bank concentrations shows that exposures to single clients and related parties continue to be among the highest globally. These concentrations expose banks to heightened credit risk, as problems at just a few large borrowers or intragroup companies or both can significantly affect CIS banks credit standing.
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18 NOVEMBER 2013
RESEARCH HIGHLIGHTS
Notable research published the week ending 15 November 2013
Sovereigns
Mozambique Credit Analysis
Mozambiques B1 rating is constrained by the countrys low income levels and the economys lack of diversification, given its dependence on the extractive sector and subsistence agriculture. Moreover, its development policys focus on natural resource exploitation will further widen fiscal and current account deficits given the need to upgrade the countrys infrastructure network.
Key Drivers for Moody's Decision to Change Outlook on Portugal's Ba3 Rating to Stable
On 8 November, we changed the outlook on Portugals Ba3 government bond rating to stable from negative. We discuss the key drivers of this action: the improving trend in Portugals fiscal position and the governments commitment to fiscal consolidation, the slowly improving economic outlook, and the reduced risk of a debt restructuring.
Sub-sovereigns
South African Secondary Cities: Sound Credit Profiles Support Likely Growth in Debt
The South African National Treasury recently highlighted 19 secondary cities that it believed had sufficient budgetary capacity and financial sophistication to expand their capital expenditure commitments in order to support the countrys socio-economic growth. Overall, we believe the majority of South African secondary cities have the capacity to take on new borrowing without affecting their credit profiles.
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RESEARCH HIGHLIGHTS
Notable research published the week ending 15 November 2013
US Public Finance
Rhode Island Municipalities Look to ACA Exchanges and Other Strategies to Reduce Growing Healthcare Expenses
Rhode Island local governments employee and retiree healthcare costs are increasing faster than the rate of inflation because of the states aging workforce, increasing life expectancy of retirees, and growth in per capita use of healthcare services. To combat these high costs, the state of Rhode Island, among other strategies, is seeking to harness the new Affordable Care Act healthcare benefit exchange to reduce local governments retiree healthcare costs.
Structured Finance
Credit Insight
The November edition discusses the credit positive implications for Russian consumer ABS transactions following the country's first consumer ABS issuance since 2006, the structure of which eliminates currency risk and reduces interest rate risks. We also discuss the vulnerability of Spanish and Italian SME ABS transactions to tightness in the credit supply, which comes on the back of high refinancing needs over the next five years, and credit positive implications for Irish RMBS and covered bonds of the apparent bottoming out of the Irish housing recession after seven years of falling house prices.
Asia (Ex-Japan) Covered Bonds, RMBS, ABS, CMBS and CLO Outlook for 2014
The performance of Asia (ex-Japan) covered bond, RMBS, ABS, CMBS and CLO markets will remain good and stable in 2014. In Korea, government measures to control the growth of household debt, stronger GDP growth and the low interest rate environment support the stable outlook for transactions. In Singapore, CMBS transactions benefit from favorable loan-to-value ratios and high debt service coverage ratios. In Asia (ex-Japan) CLOs, although overall credit quality remains good, it is deteriorating in some regions because of the increasing costs of borrowing for corporations in India and China and the depreciation of the Indian rupee.
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US Public Finance 11 On 11 October, the City of Detroit Emergency Manager Kevyn Orr approved a debtor-in-possession (DIP) financing proposal. DIP financings are commonly used in the corporate sector to inject liquidity into a bankrupt entity, with the objective of paving the way for eventual recovery. In the municipal sector, however, DIP financings are unprecedented. Detroit is likely the first local government to propose this type of post-petition financing structure as it continues to navigate Chapter 9 bankruptcy, while balancing the competing interests of operating an insolvent city and negotiating with a variety of creditors.
8 9
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EDITORS
News & Analysis: Elisa Herr, Jay Sherman and Wendy Arthur Ratings & Research: Robert Cox Final Production: Barry Hing
PRODUCTION ASSOCIATE
David Dombrovskis
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