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Fitch Affirms Aareal at 'A-'; Maintains COREALCREDIT on RWP
February 28, 2014 / 3:41 PM / in 4 years

Fitch Affirms Aareal at 'A-'; Maintains COREALCREDIT on RWP

(The following statement was released by the rating agency) FRANKFURT/LONDON, February 28 (Fitch) Fitch Ratings has affirmed Germany-based Aareal Bank AG's (Aareal) Long-term Issuer Default Rating (IDR) at 'A-' and Viability Rating (VR) at 'bbb'. Fitch has also maintained COREALCREDIT BANK AG's (COREALCREDIT) Long-term IDRs of 'BBB-' on Rating Watch Positive (RWP) and affirmed its VR at 'bb'. A full list of rating actions is at the end of this commentary. The rating actions are part of Fitch's peer review of five German commercial real estate lenders. KEY RATING DRIVERS - AAREAL'S IDRs, SUPPORT RATING, SUPPORT RATING FLOOR AND SENIOR DEBT The affirmations of Aareal's Long-term IDR with a Stable Outlook, Support Rating, Support Rating Floor and senior debt ratings reflect Fitch's view that its status as one of Germany's largest, independent active Pfandbrief issuers results in a very high probability that state support would be forthcoming if necessary. State support, in Fitch's view, is even more certain in the short term and so Aareal's 'F1' Short-term IDR is at the higher of two potential Short-term ratings mapping to its 'A-' Long-term IDR. The Stable Outlook is based on Fitch's view that support will continue to be forthcoming, although this is sensitive to evolving developments around resolution and support for EU banks. KEY RATING DRIVERS - COREALCREDIT'S IDRs, SUPPORT RATING, SUPPORT RATING FLOOR AND SENIOR DEBT The RWP on COREALCREDIT's IDRs and senior debt reflects Fitch's expectation that Aareal's planned acquisition of COREALCREDIT, which was announced in December 2013, will close successfully in 1H14, and that the acquisition will have a positive impact on the likelihood of external support for COREALCREDIT. The future rating will factor in a very strong propensity for Aareal to support COREALCREDIT, underpinned by a profit and loss sharing agreement between the two financial institutions. The ratings will also factor in Aareal's ability to provide support either from its own resources or via state support to COREALCREDIT through Aareal. COREALCREDIT's support-driven ratings are currently based on Fitch's view on the likelihood of sovereign support from Germany (AAA/Stable) but our analysis will be based on the likelihood of institutional support from Aareal once COREALCREDIT's acquisition is complete. RATING SENSITIVITIES - AAREAL's IDRs, SUPPORT RATING, SUPPORT RATING FLOOR AND SENIOR DEBT Aareal's IDRs, Support Rating, Support Rating Floor and senior debt ratings are sensitive to any change in Fitch's assumptions about the on-going availability of extraordinary sovereign support for the bank. In Fitch's view, there is a clear intention ultimately to reduce implicit state support for financial institutions in the EU, as demonstrated by a series of legislative, regulatory and policy initiatives, most recently agreement between the European Council and Commission on the Bank Recovery and Resolution Directive. In September 2013, Fitch commented on its approach to incorporating support in its bank ratings in light of evolving support dynamics for banks worldwide (see 'Fitch Outlines Approach for Addressing Support in Bank Ratings', 'Bank Support: Likely Rating Paths', and 'The Evolving Dynamics of Support for Banks' available at and followed this with an update in December (see ''Sovereign Support for Banks Update on Position Outlined In 3Q13'). Aareal's Support Rating Floor would be revised down and its Support Rating, IDRs and senior debt ratings downgraded if Fitch concludes that potential sovereign support has weakened relative to its previous assessment. Given Aareal's 'bbb' VR, any support-driven downgrade of the bank's Long-term IDR and senior debt ratings would be limited to two notches. RATING SENSITIVITIES - COREALCREDIT's IDRs, SUPPORT RATING, SUPPORT RATING FLOOR AND SENIOR DEBT Fitch expects to resolve the RWP once COREALCREDIT's takeover by Aareal is successfully closed. Fitch's considerations on support for EU banks will affect the rating action. If support considerations are excluded, COREALCREDIT's Long-term IDR would be equalised with Aareal's VR upon transaction closing. This would mean a one-notch upgrade for COREALCREDIT's Long-term IDR and senior debt ratings and either an affirmation or one-notch upgrade of its Short-term IDR. COREALCREDIT's Support Rating and Support Rating Floor are sensitive to similar support considerations as those for Aareal. In addition, if the acquisition by Aareal fails to go ahead - an unlikely scenario at this stage of the transaction, in Fitch's view - COREALCREDIT's IDRs and senior debt ratings will be sensitive to changes to Fitch's view about state support. KEY RATING DRIVERS AND SENSITIVITIES - VRs Aareal's 'bbb' VR is the highest of its peers and reflects Fitch's expectation that the bank's recurring earnings and capitalisation could benefit slightly from the acquisition of the much smaller, Germany-focused COREALCREDIT, which is being purchased at a material discount to the net fair value of its assets and liabilities. The rating also takes into account execution risk on the acquisition. Taxation and legal risks are by nature difficult to quantify with certainty and the acquisition will absorb considerable management capacity at least in the short term. Fitch expects that Aareal will not release profit from this transaction through dividend payments in the early years before the full economic impact of the transaction materialises. Therefore, the affirmation of Aareal's VR is based on assumptions that potential legacy risks at COREALCREDIT are sufficiently ring-fenced and that cash collateral is trapped at the financial institution in an escrow account. On balance, Fitch believes that Aareal's management team is experienced in structuring complex financial transactions and expects that Aareal will extract some net profit from the transaction, including the substantial negative goodwill it will book upfront. Aareal's non-performing loan (NPL) ratio will deteriorate once it consolidates COREALCREDIT. COREALCREDIT has a large, albeit rapidly shrinking, NPL portfolio which combined with its weak profitability, is one of the main reasons for its 'bb' VR. However, COREALCREDIT has fairly high NPL coverage with loan loss reserves compared with its German peers, and the terms of the acquisition include further cash collateral against unexpected deterioration of collateral value. Fitch understands that Aareal has conducted extensive due diligence on COREALCREDIT's loan portfolio, covering most commercial real estate loans. If Aareal's assessment proves to be inadequate - which is not Fitch's base case - it could be negative for COREALCREDIT's VR. Aareal has also negotiated protection in the form of cash collateral and fair value adjustments for potential taxation and legal risks. If Aareal's assessment has not been sufficiently conservative, the upside for Aareal's profitability and capital generating capacity through this acquisition would be reduced. In addition, if Aareal's calculation of the net gain of the acquisition has been too optimistic, this would be neutral to negative for the VR. Should risks emerge subsequently that were not identified by Aareal in its due diligence, this would be negative for the VR. COREALCREDIT's capital, funding and liquidity will be managed at a consolidated level - meaning COREALCREDIT's liquidity will benefit from Aareal's good funding access - and the profit and loss sharing agreement will mutualise the two banks' earnings. Consequently, Fitch will most likely withdraw COREALCREDIT's VR once the acquisition is successfully closed and the integration process is well underway. The affirmation of COREALCREDIT's VR reflects Fitch's view that its financial position will not be negatively affected by the transaction. Once the acquisition is approved by the authorities, Fitch expects that the bank's capitalisation will improve before potential capital transfers to Aareal. COREALCREDIT's profitability for the purpose of consolidation into Aareal's accounts, once the transaction is complete, will depend substantially on the pull-to-par fair value of assets and liabilities and the ability of Aareal's management to deliver synergies according to plan. KEY RATING DRIVERS AND SENSITIVITIES - SUBORDINATED DEBT AND OTHER HYBRID SECURITIES Aareal's and COREALCREDIT's Lower Tier 2 subordinated securities are rated one notch below the banks' respective VRs to reflect higher loss severity compared with senior unsecured debt instruments in line with Fitch's criteria. Aareal's hybrid securities, issued by Capital Funding GmbH and Aareal Capital Funding LLC (Delaware), are rated 'BB-'. The instruments' distributable profit trigger or an annual profit trigger combined with a regulatory capital ratio trigger are reflected in the notes being rated four notches below Aareal's VRs, two notches each for high loss severity and high non-performance risks. Subordinated debt ratings and hybrid ratings are sensitive to the potential changes of the banks' respective VRs. When the acquisition is closed, the anchor VR for COREALCREDIT's subordinated debt is likely to be Aareal's, rather than COREALCREDIT's. RATING ACTIONS Aareal Bank AG: Long-term IDR: affirmed at 'A-', Outlook Stable Short-term IDR: affirmed at 'F1' Viability Rating: affirmed at 'bbb' Support Rating: affirmed at '1' Support Rating Floor: affirmed at 'A-' Debt Issuance Programme: affirmed at 'A-'/'F1' Senior unsecured notes: affirmed at 'A-' Subordinated debt: affirmed at 'BBB-' Capital Funding GmbH (DE0007070088): affirmed at 'BB-' Aareal Capital Funding LLC (Delaware) (XS0138973010): affirmed at 'BB-' COREALCREDIT BANK AG: Long-term IDR: 'BBB-' maintained on RWP Short-term IDR: 'F3' maintained on RWP Viability Rating: affirmed at 'bb' Support Rating: affirmed at '2' Support Rating Floor: affirmed at 'BBB-' Senior unsecured notes: 'BBB-' maintained on RWP Subordinated debt: 'BB-' maintained on RWP Contact: Primary Analyst Patrick Rioual Director +49 69 76 80 76 123 Fitch Deutschland GmbH Taunusanlage 17 60325 Frankfurt am Main Secondary Analyst Krista Davies Analyst +44 203 530 1579 Committee Chairperson Erwin van Lumich Managing Director +34 93 323 8403 Media Relations: Christian Giesen, Frankfurt am Main, Tel: +49 69 768076 232, Email:; Hannah Huntly, London, Tel: +44 20 3530 1153, Email: Additional information is available on Applicable criteria, 'Global Financial Institutions Rating Criteria', dated 31 January 2014, and 'Rating FI Subsidiaries and Holding Companies' dated 10 August 2012 are available at Applicable Criteria and Related Research: Global Financial Institutions Rating Criteria here Rating FI Subsidiaries and Holding Companies here Additional Disclosure Solicitation Status 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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