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Fitch Downgrades Co-operative Bank to 'BBB-'; Outlook Negative
April 5, 2013 / 3:51 PM / in 5 years

Fitch Downgrades Co-operative Bank to 'BBB-'; Outlook Negative

(The following statement was released by the rating agency) LONDON, April 05 (Fitch) Fitch Ratings has downgraded The Co-operative Bank PLC's (CB) Long-term Issuer Default Rating (IDR) to 'BBB-' from 'BBB+' and Viability Rating (VR) to 'bbb-' from 'bbb+'. The IDRs, VR and debt ratings have been removed from Rating Watch Negative and the Outlook on the Long-Term IDR is Negative. CB's Support Rating (SR) of '3' and Support Rating Floor (SRF) of 'BB+' have been affirmed and removed from Rating Watch Positive (RWP). A full list of rating actions is at the end of this rating action commentary. The rating impact, if any, from the above rating action on the bank's covered bonds will be detailed in a separate comment. KEY RATING DRIVERS - IDRs and VR The downgrade of CB's IDRs and VR reflects the weakened Fitch core capital (FCC) and regulatory core Tier 1 ratios resulting from a greater than anticipated deterioration in earnings and asset quality. At 9.9% and 8.8%, respectively, CB's FCC and core Tier 1 ratio at end-2012 were weaker than most similarly-rated peers, and remain so despite a 40bp increase achieved in January 2013 (taking core Tier 1 to 9.2%) following the purchase of credit protection on a portion of its book, which reduced risk-weighted assets. The bank's reported end-2012 fully-loaded Basel III ratio is very low at 6.3% (6.7% at end-January 2013) for a bank rated at an investment grade level. However, the ratings also take into account the relatively high liquidity (largely cash) reserve held by CB as well as its strong funding profile. Fitch has also taken into consideration an expectation of lower loan impairment charges (LICs) in 2013 and smaller non-operating costs. The ratings also consider the expected receipt of additional capital from CB's immediate parent, the Co-operative Banking Group Plc following the agreed sale of its life and savings business. Nonetheless, underlying profitability is weak, with 2012 pre-impairment earnings down by 52% to GBP132.8m, affected by lower revenues and higher operating costs. In addition, net earnings were impacted by significantly higher LICs (GBP474m compared to GBP120m in 2011). The increased provision charges related mostly to a book classified by the bank as non-core, the majority of which was acquired from Britannia in 2009. Various non-operating items also negatively affected profitability, including: provisions for the mis-selling of payment protection insurance (PPI, GBP150m); impairment of IT assets (GBP150m); and costs associated with the transaction to acquire a branch banking business from Lloyds Banking Group Plc (Verde, GBP38m). Fitch expects challenges on profitability to remain through 2013, although net interest margins may be supported by government initiatives such as the Funding For Lending Scheme (FLS). Other non-recurring items such as PPI are likely to continue to affect bottom-line profitability, although this may have peaked. CB's asset quality has also materially weakened, with impaired loans accounting for 10.7% of gross loans at end-2012 (end-2011: 8.1%). Fitch considers CB's loan loss reserve coverage to be low, with NPLs net of impairments and FV credit protection representing 146.3% of equity at this date. While the bank has raised reserves in line with the current value of its collateral, Fitch believes that further impairments are likely if security is realised at lower than expected values. While we anticipate LICs will remain high, we expect them to moderate from 2012 levels. The Negative Outlook reflects the pressures on earnings from these higher LICs as well as a potential continued deterioration on asset quality. RATING SENSITIVITIES - IDRS, VR AND SENIOR DEBT The bank's IDRs and debt ratings are driven by CB's VR and are sensitive to Fitch's assumptions regarding asset quality deterioration, higher than expected LICs deriving from additional weakening in asset prices and the potential effect this could have on the bank's FCC ratio. In addition, negative rating pressure could arise if the capital injected from the parent's sale of the life and savings business is less than expected or if CB is unable to reduce its non-core loan portfolio in a capital accretive/neutral manner. KEY RATING DRIVERS - SUPPORT RATING AND SUPPORT RATING FLOOR The bank's SR of '3' and SRF of 'BB+' reflect a moderate probability of support from the UK authorities given Fitch's view of CB's domestic systemic importance. Fitch has removed the SR and SRF from RWP in line with its view of a weakening propensity of support from the authorities in the UK. RATING SENSITIVITIES - SUPPORT RATING AND SUPPORT RATING FLOOR Although on a declining trend, Fitch may review its SR and SRF together with the other ratings if an agreement is reached on the completion of the Verde transaction. Any change in the rating will depend on Fitch's view of support for the increased systemic importance of the newly expanded CB at that point in time. SUBORDINATED DEBT AND OTHER HYBRID SECURITIES Subordinated debt and other hybrid capital issued by CB are all notched down from the bank's VR in accordance with Fitch's assessment of each instrument's respective non-performance and relative loss severity risk profiles, which vary by instrument. Their ratings are primarily sensitive to any change in CB's VR. The rating actions are as follows: The Co-operative Bank PLC Long-term IDR downgraded to 'BBB-' from 'BBB+'; Outlook Negative Short-term IDR downgraded to 'F3' from 'F2' Viability Rating: downgraded to 'bbb-' from 'bbb+' Support Rating: affirmed at '3'; RWP removed Support Rating Floor: affirmed at 'BB+'; RWP removed Senior unsecured notes Long-term rating: downgraded to 'BBB-' from 'BBB+' Senior unsecured notes Short-term rating: downgraded to 'F3' from 'F2' Lower Tier 2 subordinated notes: downgraded to 'BB+' from 'BBB' Upper Tier 2 subordinated notes: downgraded to 'BB-' from 'BB+' Contact: Primary Analyst Denzil De Bie Director +44 20 3530 1592 Fitch Ratings Limited 30 North Colonnade London E14 5GN Secondary Analyst Christopher Keeling Analyst +44 20 3530 1494 Committee Chairperson Maria Jose Lockerbie Managing Director +44 20 3530 1083 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: Additional information is available on The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings. Applicable criteria, 'Global Financial Institutions Rating Criteria', dated 15 August 2012, 'Evaluating Corporate Governance', dated 12 December 2012 and 'Assessing and Rating Bank Subordinated and Hybrid Securities', dated 5 December 2012 are available on Applicable Criteria and Related Research Global Financial Institutions Rating Criteria here Evaluating Corporate Governance here Assessing and Rating Bank Subordinated and Hybrid Securities here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.

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