The ratings are driven by the banking group’s strong retail and commercial banking business model, successfully replicated across several geographies in both developed and emerging markets and producing a reliable and well diversified earnings stream. On the negative side, the weak macro environment in Spain continues to affect domestic revenue generation and asset quality for the time being.

In line with Scope’s bank rating methodology, the ratings of Santander do not incorporate any additional notches for government support, as the agency considers a potential state-bailout scenario to be increasingly unlikely as European Union banking systems move towards a resolution and recovery framework which includes creditor bailins. Also, based on the same methodology, Scope does not link Santander’s ratings with a sovereign assessment on Spain itself, due to the group’s business, revenue and risk diversification across geographies.

Scope’s research supporting the A ratings makes detailed references to Santander’s successful business model, noting that despite significant challenges due to the burst of the domestic credit and real estate market boom, as well as the severe sovereign crisis, the group was able to survive and emerge in a reassuring shape thanks to its earnings resilience. With a group cost-income ratio of c. 47% (average 2011-2013), Santander makes on average c. EUR 22 bn in pre-provision profit annually. This gives it an ample buffer which can absorb a wide range of asset quality shocks, added Scope. Santander’s significant international diversification in the Americas and Europe -- Brazil, the UK, Mexico, Chile, Poland, etc. – has enabled it to navigate relatively safely the crisis years which were particularly punishing for the Spanish market and sovereign.

Scope noted that the high profitability has enabled the Spanish group to strengthen its capital base – tangible equity up to EUR 81 bn from EUR 57 bn in 2007 – despite the domestic performance drag and the high risk-intensity of its balance sheet. Equally, Santander’s loan-deposit ratio shrunk from over 160% in 2007 to c. 114% at end-2013, and was achieved through reduced reliance on wholesale funds and aggressive deposit growth.

At the same time, the rating agency is taking a very cautious approach in forecasting forward profitability for Santander’s Spanish unit. Equally, while not anticipating a credit event for the Spanish sovereign, Santander’s large exposure to this risk remains a concern for Scope. Overall, the challenged macro environment weighs negatively on the rating agency’s credit assessment of Santander. Another area of concern for Scope is the possibility of a national regulator intervention which could limit intragroup capital and liquidity flows across geographies at times of stress. That said Santander’s proven financial flexibility partly allays concerns about intragroup capital and funding mobility.

As positive rating-change drivers, Scope cited an in time and convincing turnaround in Spanish asset quality and profitability, as well as further improvements in Santander’s capital position. Positive would be also the increased regulatory and supervisory convergence brought about by the forthcoming Banking Union, which should further de-link the credit standing of Santander from that of its home sovereign.

In Scope’s view, negative rating-change drivers would be a material deterioration in Brazilian asset quality and a significant increase in mortgage arrears in the UK due to possible rate hikes. The rating agency also cited event risk as a negative, noting that Santander has generally been an acquisitive group. So far most acquisitions and mergers have been effectively and successfully integrated, but the risk remains that potentially unexpected large transactions could have negative consequences on fundamentals, including prudential metrics.

Both the rating drivers and the rating-change drivers are detailed in Scope’s research on Santander which supports the ratings.

The following ratings were assigned:
- Issuer Credit-Strength Rating (ICSR) at A. The ICSR represents a credit opinion on a bank’s ability to meet its contractual financial commitments on a timely basis and in full while remaining a going concern.
- Senior unsecured debt rating at A.

In the near future Scope will rate Santander’s short-term debt, as well as subordinated securities and capital instruments.

Scope said that the ratings assigned today to Santander, as well as to 17 other large European banks, represent the first step in its rating coverage of the banking industry. The ratings assigned to Santander are (i) based on public information, (ii) not solicited by the issuer and (iii) with issuer participation in the process.

The methodology used for the rating assessment is “Bank Rating Methodology” published in February 2014. The methodology used for the financial-forecast part of the rating analysis is “Forecasting Bank Financials” published in February 2014. These methodologies are available on www.scoperatings.com.