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1 AUGUST 2016

NEWS & ANALYSIS Corporates 2 » Analog Devices’ Planned Acquisition of Linear Technology Is

Credit Negative » Oracle’s Planned Purchase of NetSuite Is Credit Negative » McDermott’s Strong Order Intake Is Credit Positive » Avnet’s Bid to Acquire Premier Farnell Is Credit Negative » Vale and BHP Billiton’s Support of Joint Venture Samarco Is

Credit Negative » Gategroup’s Acquisition by HNA Is Credit Positive » Metalloinvest’s Early Repayment of $600 Million in Debt Is

Credit Positive » Reckitt Benckiser’s £300 Million Provision Will Reduce Cash Flow » Geely’s Proposed Disposal of Loss-Making Joint Ventures Is

Credit Positive » Gemdale’s Land Acquisition in Shanghai Is Credit Negative » US Anti-Dumping Tariffs Are Credit Negative for

Korea’s Steelmakers

Infrastructure 15 » NextEra’s Acquisition of Oncor Is Credit Positive for Both » Big Rivers Electric’s 10-Year Supply Contract Is Credit Positive » Energisa’s BRL1.37 Billion Capital Increase Is Credit Positive

Banks 19 » Russian Central Bank Tightens Banks’ Foreign Assets Controls, a

Credit Positive » Norwegian Banks’ Rising Corporate Lending Margins Mitigate

Downward Pressure on Profitability » Slovakia’s New Countercyclical Capital Buffer Is Credit Positive

Securitization 25 » Spain’s SME ABS Will Benefit from Funding Option with

Crowdfunding Platforms

Accounting 27 » FASB’s Income Tax Disclosure Proposal Benefits Credit Analysis

CREDIT IN DEPTH European Banks 28

Almost all European banks perform well in stress test. The European Banking Authority published the results of its 2016 bank stress test, which covers 51 European banks. The results will inform the Supervisory Review and Evaluation Process, through which the European Central Bank and other European Union authorities will set bank-specific, or “Pillar 2,” minimum capital requirements.

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Corporates

Analog Devices’ Planned Acquisition of Linear Technology Is Credit Negative Last Tuesday, Analog Devices Inc. (A3 review for downgrade) said that it had agreed to acquire Linear Technology Corporation (unrated) for $14.7 billion. Although strategically sound, the planned acquisition will be credit negative for Analog because it will increase debt and leverage. After the announcement, we placed Analog’s ratings under review for downgrade and said that we expect to downgrade Analog’s unsecured rating to Baa1 upon completion of the review.

The planned Analog-Linear deal is the latest in a recent series of mega-mergers in the semiconductor sector, following Avago Technologies’ acquisition of Broadcom for $37 billion, NXP B.V.’s (Ba1 positive) purchase of Freescale for $11.8 billion and Intel Corporation’s (A1 stable) purchase of Altera Corporation for $16.7 billion, all of which occurred in 2015.1

Analog plans to finance its transaction using about $3.6 billion in new equity, $5 billion in cash on hand from the combined companies and about $7.2 billion in debt financing. Both boards have approved the transaction, and, pending Linear shareholder and regulatory approvals, Analog expects to close transaction by early 2017.

The acquisition would combine two of the most profitable analog semiconductor companies with complementary technologies, products and capabilities, solidifying Analog’s No. 2 position in the high-performance analog market, with an estimated 16% market share behind Texas Instruments, Incorporated (A1 stable), which has an estimated 26% market share (see Exhibit 1).

EXHIBIT 1

Standard Analog Chipmaker Market Shares, 2015 Analog Devices’ purchase of Linear will create the world’s second-largest analog chipmaker.

Texas Instruments 26%

Analog Devices 10%

Maxim Integrated Products 9%

Linear Technology Corporation 6%

On Semiconductor 3%

STMicroelectronics 3%

Cirrus Logic 3%

Intersil 2%

Sanken 2%

RichTek 2%

Others 34%

TOTAL 100%

Sources: Gartner Inc. and Moody’s Investors Service estimates

Linear will enhance Analog’s product diversification: whereas Analog is dominant in data converters and radio frequency, Linear is strong in power management. The combined entity will have highly differentiated

1 See Global Semiconductor Industry: Further M&A Likely in Logic, Analog; Equity Prices May Affect Funding Mix, 13 July 2015.

Richard J. Lane Senior Vice President +1.212.553.7863 richard.lane@moodys.com

This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page on www.moodys.com for the most updated credit rating action information and rating history.

NEWS & ANALYSIS Credit implications of current events

3 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

products across similar end markets in industrial, automotive and telecom infrastructure, which have higher margins and are more stable and faster growing than the broad computer and consumer end markets.

EXHIBIT 2

Effect of Linear Acquisition on Analog Devices’ Share of Key Analog Market Niches Linear will complement Analog Devices’ product lineup.

Sources: iSuppli and Analog Devices

Despite these strategic benefits, Analog will be weakly positioned in the Baa1 rating category upon the deal’s closing, given the substantial weakening of credit metrics and cash balances as a result of the acquisition. Gross debt/EBITDA, as adjusted by us, will be high at more than 4x, and cash balances will decline to less than $1 billion after closing from $3.8 billion. However, the company’s track record of sizable and consistent free cash flow generation and a commitment to reduce debt support the rating. Management’s stated plan to suspend share repurchases until net debt/EBITDA falls to 2x, which we believe will take two to three years, reflects the company’s commitment to allocate cash flow to debt repayment.

Although liquidity will be lower after merger from very strong levels, we expect that Analog will maintain at least $750 million in cash on its balance sheet. Also, given the low capital intensity of the analog semiconductor sector and the company’s steady free cash flow generation, we expect that Analog will have ample liquidity to support business investment and service the increased debt. Additionally, we expect that Analog will increase the current $750 million revolving credit facility to $1 billion, but we do not anticipate any material revolver drawings given the company’s significant balance sheet liquidity and cash flow generation of the combined company.

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Analog Devices Linear Technology

#1 #1Rank: #14 #3 #2 #2 #1 #1 #4 #3

NEWS & ANALYSIS Credit implications of current events

4 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Oracle’s Planned Purchase of NetSuite Is Credit Negative Last Thursday, Oracle Corporation (A1 negative) said that it had agreed to acquire NetSuite Inc. (unrated) for about $9.3 billion. The planned transaction is credit negative given the steep, all-cash price tag, which will limit the company’s share buyback and acquisition activity over the next year.

Although Oracle has not yet indicated how it plans to fund the NetSuite acquisition, we expect the company to use its domestic cash, which was bolstered by a recent $14 billion note issuance. We estimate that Oracle currently maintains about $18 billion in domestic cash and marketable securities, which will be supplemented by about $5 billion in US free cash flow over the next 12 months.

Given the trajectory of debt issuances during the past two years, we expect that Oracle will continue to raise debt as offshore cash builds. We would consider downgrading the company’s A1 rating if Oracle remains aggressive with share buybacks (it has averaged about $8 billion annually over the past four years), or engages in further sizable acquisitions that would require raising debt before the second half of 2017. However, we expect that Oracle will significantly taper back share repurchases over the coming quarters, which should limit the need for further debt issuances in 2016 and early 2017.

Oracle has raised debt in recent years to support US spending on acquisitions, share repurchases and dividends. The company’s current debt position is about $54 billion after having issued $34 billion in bonds over the past two years, including $14 billion in the past month. Over the past four fiscal years (which end in May), Oracle has repurchased more than $32.5 billion in common stock (net of proceeds from stock option exercises and tax benefits), spent about $13.7 billion in cash for mergers and acquisitions (although only $650 million during the 12 months ended 31 May 2016) and distributed $8.4 billion in dividends.

The combined expenditures of nearly $55 billion for this period are consistent with the company’s cash flow from operations of about $58 billion during the same period. But because Oracle generates more than half of its cash flow overseas, the company has chosen to fund domestic cash needs with debt rather than incur the tax on repatriating capital.

The NetSuite purchase will enhance Oracle’s cloud offerings in enterprise resource planning and certain applications that manage financials, customer relationships, e-commerce and retail, and human capital. Revenue could increase as NetSuite leverages Oracle’s distribution scale, global presence and industry coverage, while Oracle penetrates NetSuite’s customer base of smaller and midsize businesses. However, the acquisition comes at a very significant cost given that NetSuite’s revenues for the 12 months that ended 30 June 2016 were $846 million (or an 11x revenue multiple), with negative EBITDA (or about $84 million, if share-based compensation of $121 million is added back).

Oracle expects to close the transaction by the end of 2016, subject to regulatory and shareholder approvals. Given Oracle Executive Chairman Larry Ellison’s ownership of about 40% of NetSuite (including his affiliates) and about 26% of Oracle, the closing will be conditioned on the tendering of a majority of the NetSuite’s outstanding shares not owned by Mr. Ellison and his affiliates or NetSuite’s executive officers or directors.

Stephen Sohn Vice President - Senior Credit Officer +1.212.553.2965 stephen.sohn@moodys.com

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5 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

McDermott’s Strong Order Intake Is Credit Positive Last Tuesday, McDermott International, Inc. (B1 stable) reported that it had booked $1.2 billion in orders during the second quarter. The strong order intake raised its backlog to $4.4 billion and the company expects to execute $2.4 billion of that backlog in 2017. The 2017 backlog increased $900 million versus $1.5 billion at the end of March 2016 and establishes a solid revenue base, which is credit positive for the company, especially in the weak spending environment for oil and gas exploration and production (E&P).

McDermott’s business has historically been highly correlated with the upstream capital spending of its customers, which include a mix of major oil companies, national oil companies (NOCs) and independent E&P companies. Although we expect E&P spending to decline substantially this year after significant cuts in 2015, and improve only modestly in 2017 because oil and natural gas prices remain at historically depressed levels, McDermott’s strong relationships with NOCs have allowed it to maintain a healthy backlog of orders and a pretty good revenue pipeline. NOCs in countries reliant on oil and gas revenues to support their national budgets continue to spend on brownfield projects, as was evident during the second quarter when the company booked three large projects ($50-$250 million) with Saudi Aramco and a significant project ($250-$500 million) with PEMEX, and generated total orders of $1.2 billion.

McDermott typically adds 5%-15% to its revenue base through change orders and books and bills $100-$200 million of work each year. But the opportunity for work that is booked and billed in the same year could be limited during this period of weak industry expenditures. Still, even if McDermott books short-term orders at a lower-than-normal rate in 2017, its revenues will likely remain stable or even exceed its 2016 expectations, barring any material project delays, because it has accumulated a sizable order backlog. McDermott currently projects about $2.7 billion in revenues this year.

McDermott produced strong operating results during the first half of 2016 owing to improved operational execution, net favorable changes in project estimates of about $68 million and cost cutting and efficiency improvement initiatives. The strong operating performance, along with the recent $75 million pay-down of its term loan debt, have resulted in credit metrics that exceed our quantitative guidance for an upgrade. Our quantitative guidance for an upgrade includes an interest coverage ratio (EBITA/interest expense) of more than 2.25x and a leverage ratio (debt/EBITDA) of less than 4.0x on a sustained basis. McDermott had an interest coverage ratio of about 2.5x and a leverage ratio of around 3.0x as of June 2016. However, McDermott expects its operating performance to weaken materially during the second half of 2016 owing to reduced project activity, under absorption of fixed costs related to reduced fabrication yard and vessel utilization and a lower level of beneficial project close outs.

We expect McDermott to generate adjusted EBITDA of $260-$290 million this year versus $300 million in 2015, which will result in credit metrics more in line with its current B1 rating as interest coverage declines to about 1.7x and leverage rises to about 3.5x. We expect McDermott’s operating performance and credit metrics to be at similar levels in 2017.

McDermott’s credit quality is hurt by its reliance on one customer, Saudi Aramco, which accounts for more than one third of its 2017 backlog, and its reliance on the volatile upstream oil and gas sector. The company’s credit quality also suffers from a lack of short-term borrowing facilities even though it maintains adequate liquidity because of its $470 million unrestricted cash balance. Nevertheless, if McDermott continues to execute well on its projects, maintains a lean cost structure, a healthy backlog of orders and sustains metrics above our B1 guidance, a rating upgrade is possible.

McDermott is a full-service engineering and construction company providing fully integrated engineering, procurement, construction and installation services to the upstream offshore oil and gas sector. McDermott provides both shallow-water and deep-water construction services and delivers and installs fixed and floating production facilities and subsea infrastructure. Its customers include national, major integrated and

Michael Corelli Vice President - Senior Credit Officer +1.212.553.1654 michael.corelli@moodys.com

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other oil and gas companies. During the 12 months that ended 30 June 2016, the company reported revenues of approximately $2.9 billion, with about 47% from Asia, 40% from The Middle East and 13% from the Americas, Europe and Africa.

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7 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Avnet’s Bid to Acquire Premier Farnell Is Credit Negative Last Thursday, US electronics distributor Avnet, Inc. (Baa3 stable) offered to buy British IT distributor Premier Farnell (unrated) for £1.85 per share, or about $1.2 billion, including fees and debt. The offer tops a bid of £1.65 per share from Switzerland’s Daetwyler Holding AG (unrated) before the UK’s 23 June vote to leave the European Union.

The proposed acquisition would be credit negative for Avnet. If completed and funded entirely with debt, it would raise Avnet’s adjusted financial leverage to 3.3x debt/EBITDA from 2.4x as of 2 April 2016. Avnet has not disclosed its funding plans, but we believe it will be able to use some of its foreign-held cash to fund part of the transaction.

Avnet is seeking to buy Premier Farnell at a time when Avnet is undergoing substantial change. The company is searching for a new CEO following the departure of Rick Hamada in July, who was replaced on an interim basis by William Amelio. Mr. Hamada’s departure came after two years of financial performance that lagged Avnet’s specialized IT distribution peer, Arrow Electronics, Inc. (Baa3 stable). Arrow has been more adept than Avnet at handling changes in technology distribution and components marketing amid disruption at large legacy hardware vendors such as IBM, HP Enterprise and Dell, where the demand for traditional IT gear (brand name servers, storage, etc.) has declined.

Strategically, Premier Farnell would complement Avnet’s business model. Premier Farnell has a strong vendor network in the design and engineering stage of product development, which would allow Avnet to engage with hardware vendors earlier in the process. Avnet could then convert the vendors to customers in the later stages of the production and distribution process. However, there would be significant integration risk given that Avnet has been inconsistent in successfully integrating large acquisitions over the past four years.

Premier Farnell last Thursday said that its board plans to unanimously recommend Avnet’s offer to its shareholders and that it is no longer supporting Daetwyler’s proposal.

Gerald Granovsky Senior Vice President +1.212.553.4198 gerald.granovsky@moodys.com

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Vale and BHP Billiton’s Support of Joint Venture Samarco Is Credit Negative Last Wednesday, mining companies Vale S.A. (Ba3 negative) and BHP Billiton Limited (A3 negative) announced that they will each book charges totaling about $1.2 billion under an agreement with Brazilian authorities to support remediation and compensation programs in the areas affected by the November 2015 collapse of a dam operated by Samarco Mineração S.A. (C no outlook), a joint venture equally owned by the two companies. In addition, Vale and BHP Billiton announced that together they will make available up to about $216 million in short-term credit facilities to support Samarco’s operations. The provisions and cash outflows related to the agreement and the short-term facilities are credit negative for Vale and BHP Billiton, while the support is credit positive for Samarco.

The provisions set by Vale and BHP Billiton are equal to the present value of each company’s estimated responsibility under the agreement the mining companies and Brazilian authorities signed in March 2016. The companies expect their cash outflow for this purpose to be about $150 million for Vale and $134 million for BHP Billiton in the second half of 2016.

In addition to the disbursements to comply with the agreement, cash outflows for Vale and BHP Billiton will expand as both provide Samarco with short-term credit lines ($100 million from Vale and $116 million from BHP Billiton) for general working capital purposes.

The credit line is credit positive for Samarco because it indicates its shareholders’ continued commitment to the company. To date, Samarco has not been able to obtain the required licenses to resume operations at the Minas Gerais-based site (mines and beneficiation plant), which have been suspended since a 5 November 2015 dam accident. Given Samarco’s already-tight liquidity, the financial support will help the company meet its operating obligations until it is able to resume production, which is unlikely to happen before the end of this year.

Samarco’s cash position of BRL1.8 billion ($470 million) as of December 2015 diminished significantly this year and would be insufficient to meet financial obligations due by year-end, as well as capital expenditures, costs and operating expenses. Still, the support does not address Samarco’s financial obligations with debtholders, and as liquidity shrinks, there is an increasingly likelihood that Samarco will not be able to meet near-term principal and interest payments that total BRL328 million ($86 million) in 2016, and instead will have to pursue a debt restructuring.

The provisions and effective cash outflows related to the agreement and the funds to support Samarco’s operations are credit negative for Vale and BHP Billiton, despite the fact that the two companies have adequate liquidity to accommodate the announced cash outflows. Vale’s cash position at the end of June 2016 was $4.3 billion, and the company has $3 billion available under committed credit facilities. BHP Billiton’s cash balance was $10.6 billion at the end of 2015, and the company has $6 billion available under committed credit facilities, providing an adequate liquidity cushion.

But both companies’ credit profiles could deteriorate if Samarco requires additional financial support, or if Samarco’s liabilities increase substantially. On 3 May, the Minas Gerais federal prosecutor filed a new lawsuit against Samarco and its two shareholders, demanding $44 billion (BRL155 billion) to remediate damage and compensate communities following the accident. The lawsuit still requires federal court ratification to become effective and, although we do not expect an immediate cash disbursement, it brings the possibility of increased liability.

Barbara Mattos Vice President - Senior Credit Officer +55.11.3043.7357 barbara.mattos@moodys.com

Matthew Moore Vice President - Senior Credit Officer +61.2.9270.8108 matthew.moore@moodys.com

NEWS & ANALYSIS Credit implications of current events

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Gategroup’s Acquisition by HNA Is Credit Positive Last Wednesday, gategroup Holding A.G. (B1 positive) announced the successful closing of HNA Group’s (unrated) tender offer for its shares, with more than 95% of the shares to be sold by existing shareholders for around CHF1.35 billion. HNA’s acquisition of the Switzerland-based independent airline catering company (the world’s largest) is credit positive for gategroup given the strategic nature of the investment. HNA’s expertise in the aviation industry and its established presence in the fast-growing Asian region offers opportunities to accelerate revenue growth and enhance profitability.

The acquisition will provide long-term operational and strategic advantages for gategroup, whose activities complement HNA’s existing activities in aviation, airport management, logistics and tourism and which provide opportunities for growth. We expect expansion in the higher-margin Asian market to increase from 10% of revenues in the quarter ending March 2016 as a result of HNA’s strong presence in Asia. Gategroup will continue to operate as an independent company and implement its current strategy, including its ongoing cost-reduction program.

We view HNA as a long-term investor with significant resources to support the company if needed. We assume gategroup’s financial policy will remain unchanged and we note that debt-funded growth is limited by a leverage covenant of 3.0x, and reported leverage was 2.5x as of first-quarter 2016. Following an extraordinary general meeting of shareholders a week ago Friday, new members of the board of directors were elected, including a new chairman who HNA proposed. The existing CEO remains and will be part of the combined company’s board.

The new owner intends to delist the company after settlement, which will occur toward the end of the calendar year. Existing lenders have waived the change-of-control provision under the company’s term loan and revolving credit facility. As such, we expect gategroup’s debt capital structure to remain unchanged.

HNA is one of the largest privately owned enterprises in China, with approximately $94 billion of assets, $30 billion revenues and more than 180,000 employees. HNA is active in aviation, financial services, real estate, retail, tourism and logistics. Gategroup’s acquisition further increases HNA’s presence internationally in the aviation and airport management sector. The transaction follows HNA’s recent acquisition of Swissport, one of the world’s largest ground-handling airline services company, earlier this year.

Emmanuel Savoye, CFA Assistant Vice President - Analyst +44.20.7772.1431 emmanuel.savoye@moodys.com

Egor Nikishin, CFA Associate Analyst +44.20.7772.8737 egor.nikishin@moodys.com

NEWS & ANALYSIS Credit implications of current events

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Metalloinvest’s Early Repayment of $600 Million in Debt Is Credit Positive Last Tuesday, JSC Holding Company METALLOINVEST (Ba2 stable) announced that it had repaid, ahead of schedule, approximately $600 million of pre-export facilities with scheduled maturities mostly in 2017-18. Following this transaction, as well as the scheduled repayment of an outstanding $698 million Eurobond earlier in July, the company now has no meaningful debt maturities until 2018. We estimate that its total debt has declined to approximately $4.2 billion from $4.4 billion at year-end 2015, which incorporates some new borrowings in the first half of 2016.

The accelerated debt reduction is credit positive for Metalloinvest because it will reduce a likely rise in the company’s leverage this year as a result of lower EBITDA. Additionally, the debt prepayment indicates Metalloinvest’s commitment to reducing debt and maintaining a long-term debt maturity profile and healthy liquidity. We estimate that only approximately 15% of the company’s total debt is now due by year-end 2018, with 20% due in 2019 and the remainder due thereafter.

We expect that the company’s Moody’s-adjusted EBITDA will decline toward $1.2 billion at year-end 2016 from $1.5 billion a year earlier, assuming a decline in the year-average price for iron ore. In a scenario of no total debt reduction in 2016, the expected decline in EBITDA would have driven the company’s leverage to a Moody’s-adjusted debt/EBITDA of 3.8x at year-end 2016, from 3.0x at year-end 2015. But, as a result of the completed debt reduction and future debt reductions under consideration by the company, we expect that leverage will rise no higher than 3.5x at year-end 2016.

Iron ore prices have risen to more than $50 per tonne since March 2016 from lows at or below $40 per tonne between December 2015 and January 2016. But the sustainability of such growth is unclear, given excess global supply, muted global economic growth, US dollar strength and continuing uncertainty regarding China’s demand for steel. As a result, the 2016 year-average price for iron ore will likely be lower than the 2015 year-average price of $55 per tonne. The year-to-date average price is around $52 per tonne.

We estimate that as of the end of June 2016, Metalloinvest’s liquidity comprised approximately $1.6 billion in cash and equivalents, around $300 million in available committed credit facilities maturing beyond the next 12 months, and expected operating cash flow of more than $800 million over the same period. This liquidity adequately covers the company’s debt maturities and capex through at least year-end 2017. Although the company’s cash cushion declined in July as a result of debt repayments, we estimate that Metalloinvest’s liquidity remains solid owing to its sustainable operating cash flow generation, moderate capex and virtually no short-term debt.

Artem Frolov Vice President - Senior Analyst +7.495.228.6110 artem.frolov@moodys.com

NEWS & ANALYSIS Credit implications of current events

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Reckitt Benckiser’s £300 Million Provision Will Reduce Cash Flow On Friday, Reckitt Benckiser Group Plc (A1 stable) announced that it had booked a £300 million provision (equal to 16% of 2015 net income) to pay compensation after admitting responsibility for its role in a humidifier sanitizer sold in South Korea between 1996 and 2011 that resulted in the deaths of nearly 100 people. The announcement is credit negative for Reckitt Benckiser because the provision will reduce the company’s cash flow.

However, even assuming the full payment of the provision in the next two years, we expect Reckitt Benckiser to remain highly free cash flow generative during 2016-17, and its debt balance to remain broadly unaffected. We forecast that the company will generate positive free cash flow of £850 million to £1 billion a year, and that its ratio of retained cash flow (RCF) to net debt will improve toward 55% by 2017 from 51% as of December 2015. Excluding the provision payment, RCF/net debt would have improved closer to 65%.

We also expect Reckitt Benckiser’s sales growth to slow as a result of Korean retailers’ decision in May to stop selling Reckitt Benckiser products. However, the loss of sales in that market will not have a material effect on overall revenues because the South Korean market’s contribution was small.

The £300 million provision mainly includes expected compensation payments and legal costs associated with civil and penal proceedings and a £40 million non-cash impairment charge against the carrying value of Reckitt Benckiser’s Korea local brands.

The announcement has no immediate effect on Reckitt Benckiser’s rating. We do not think that Reckitt Benckiser’s risk of litigation has increased because this product was only sold in South Korea. We also see the reputational risk as manageable, given Reckitt Benckiser’s portfolio of leading global consumer products (including Dettol, Durex, Air Wick, Scholl, Nurofen, Vanish, Harpic and Lysol) and its broad geographic footprint, with operations in 60 countries and sales in almost 200 countries.

Ernesto Bisagno, CFA Vice President - Senior Analyst +44.20.7772.5403 ernesto.bisagno@moodys.com

NEWS & ANALYSIS Credit implications of current events

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Geely’s Proposed Disposal of Loss-Making Joint Ventures Is Credit Positive Last Monday, Geely Automobile Holdings Limited (Ba2 stable) announced that it had proposed disposing of two loss-making joint ventures to its parent company Zhejiang Geely Holding Group Company Limited (unrated). The proposed disposals, once completed, would be credit positive for Chinese automaker Geely, whose profitability and leverage will improve.

Geely proposes disposing of its 50% stake in Kandi Electric Vehicles Group Co., Ltd. (unrated) and its 45% stake in Ninghai Zhidou Electric Vehicles Company Limited (unrated) to its parent company Zhejiang Geely for combined cash proceeds of RMB1.3 billion. The two joint ventures design, manufacture and sell low-end, low-speed and short-range electric vehicles in China that also have low selling prices.

The two joint ventures posted attributable losses of RMB64 million in the three months that ended March 2016. This compares with attributable profit of RMB130 million, or about 6% of Geely’s net profit of RMB2.3 billion in 2015. The profit decline reflects more stringent approval of electric vehicles subsidies by the Chinese government in 2016, which has weakened demand for the companies’ products

The disposals require the approval of regulators and Geely’s independent shareholders, and we expect that the transaction will be completed this year. We estimate that the disposal of the loss-making joint ventures will improve Geely’s net profit after tax and before unusual items to sales profit margin to 1.2% from 1.1% in 2016.

The disposal is also in line with Geely’s strategy to consolidate and enhance its product portfolio and brand image by focusing on relatively higher-end automobiles. In addition to the proposed disposal of the low-end electric vehicle joint ventures, the company announced in June that it plans to acquire two factories in China’s Baoji and Jinzhong from Zhejiang Geely to make new high-end sedans and sport-utility vehicles and mid- to high-end electric vehicles.

In addition to improving profitability, assuming about RMB600 million of the disposal proceeds are used to repay debt, we estimate that Geely’s leverage in terms of debt/EBITDA will fall to 1.3x in 2016 from 1.6x in 2016.

Gerwin Ho Vice President - Senior Analyst +852.3758.1566 gerwin.ho@moodys.com

NEWS & ANALYSIS Credit implications of current events

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Gemdale’s Land Acquisition in Shanghai Is Credit Negative Last Wednesday, Gemdale Corporation (Ba2 stable) announced an RMB8.8 billion acquisition of a land plot that can be developed into buildings mainly for residential usage and with a gross floor area of 266,480 square meters in Shanghai, China’s Pudong District. The unit land cost is approximately RMB41,318 per square meter, based on the saleable area. The acquisition is credit negative because the transaction’s price equals more than 10% of the company’s contracted sales target in 2016 of around RMB80 billion and the land’s high unit cost will raise Gemdale’s execution risk.

The land’s high unit cost also implies an increased risk of a further squeeze in Gemdale’s gross margin and lower pricing flexibility, given our expectation that price growth in major cities, including Shanghai, will moderate amid tighter regulations on home purchases and mortgage financing for second homes. Gemdale’s gross margin was low at around 23% in 2015, a result of its relatively high land cost. This level is also lower than the weighted average gross margin of around 27% that our rated developers reported in 2015.

However, the risks related to the acquisition are partly mitigated by the company’s established brand name and market position in Shanghai. Also, the land is adjacent to a number of key developments, including Pudong’s airport and the Disney theme park, which will likely support demand and selling prices.

Gemdale has adequate liquidity and financial buffers to support the land acquisition, aided by the company’s strong contracted sales and reduced funding costs. Gemdale’s RMB18.02 billion of cash as of March 2016 could fully cover its unpaid land premium of approximately RMB13 billion, including the land acquisition in Shanghai. Contracted sales were RMB43.96 billion in the first half of 2016, up 107.1% from a year earlier. Gemdale also raised RMB5.0 billion of domestic bonds with coupon rates below 4% in the first half, versus its average cost of funding of 5.32% in 2015. We expect that Gemdale’s revenue/adjusted debt will remain in the 80%-85% range over the next 12-18 months, with EBIT coverage of interest of 3.0x-3.5x over the same period, which is within our quantitative guidelines for the company’s Ba2 rating.

Kaven Tsang Vice President - Senior Credit Officer +852.3758.1304 kaven.tsang@moodys.com

Yaqiao Wang Associate Analyst +852.3785.1527 yaqiao.wang@moodys.com

NEWS & ANALYSIS Credit implications of current events

14 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

US Anti-Dumping Tariffs Are Credit Negative for Korea’s Steelmakers On 22 July, the US Department of Commerce announced that it will impose anti-dumping tariffs on Korean cold-rolled steel sheets, specifically a 64.7% duty on POSCO’s (Baa2 negative) cold-rolled sales in the US and a 38.2% duty on Hyundai Steel Company’s (Baa3 positive). The move is credit negative for Korea’s steelmakers because it will force them to either accept lower export prices or divert sales to other countries, either of which will negatively affect sales and earnings during a period of intense competition and global oversupply. The latest duties follow the Commerce Department’s decision in May to impose an average 28.3% duty on Korean corrosion-resistant steel products.

The immediate effect of these duties will be manageable for POSCO and Hyundai Steel because the affected products account for a relatively small share of their total sales. POSCO’s cold-rolled sales in the US amount to about 100,000 tons annually, or 0.3% of its total sales volume in 2015. However, there is a risk that the US government will take similar actions on other types of steel products, given the increasing protectionism amid a sluggish domestic steel industry. Several media outlets have reported that the US government could impose anti-dumping tariffs on hot-rolled coil products from Korea as soon as this month. Hot-rolled coil products are a major export for Korean steelmakers.

If the US were to expand the scope of steel products subject to anti-dumping tariffs, it would have a meaningful negative effect on Korean steelmakers’ operations. The US is a major export market for the steelmakers, with POSCO generating about KRW2.2 trillion in revenue from steel sales in North America in 2015. That amount constituted about 9.9% of POSCO’s total steel exports or 7.6% of its total steel revenue for third parties.

So far this year, the US government has taken similar action on steel imports from other Asian countries, including China, Taiwan and Japan. In May, the US government imposed a record-high 522% tariff on Chinese cold-rolled steel sheets.

Increasing trade friction between Asian steelmakers and the US and European Union since 2015 is likely to hinder export activities and exacerbate the persistent overcapacity in Asia. Steel mills in Asia have so far made efforts to increase exports to developed economies to counter declining steel demand in China. This factor, together with a continued decline in Chinese demand, should keep Korean steel companies’ profitability low at least over the next 12-18 months.

Wan Hee Yoo Vice President - Senior Analyst +852.3758.1316 wanhee.yoo@moodys.com

NEWS & ANALYSIS Credit implications of current events

15 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Infrastructure

NextEra’s Acquisition of Oncor Is Credit Positive for Both Last Friday, NextEra Energy, Inc. (Baa1 stable) announced its acquisition of Oncor Electric Delivery Company LLC (A3 review for upgrade), Texas’ largest utility, at what we calculate is an enterprise value of approximately $18 billion, including $7.8 billion of adjusted debt obligations at Oncor.

The transaction is credit positive for NextEra because Oncor will bring an additional $10.4 billion in rate-base investment, on which it will be allowed to earn a regulated return. This will provide meaningful jurisdictional diversity to NextEra, whose principal operating subsidiary is Florida Power & Light Company (FPL, A1 stable), a utility with three times Oncor’s rate base. The transaction is also credit positive for Oncor because it will become a subsidiary of a large, investment grade company. Maintaining unfettered access to the financial markets is important for capital-intensive utility companies, especially a growing one such as Oncor. An affiliation with NextEra should help Oncor get the competitive financing it needs to raise its investment in its rate base. We affirmed NextEra’s rating and outlook, and upgraded and put on review for further upgrade Oncor’s rating.

Oncor is a valuable asset owned by Energy Future Holdings Corp. (EFH, unrated), the subject of the biggest leveraged buyout in history in 2007, and which filed for bankruptcy in 2014. The sale of Oncor is key piece of EFH’s plan2 to emerge from bankruptcy.

Oncor ranks among the largest electric transmission and distribution (T&D) utilities in the US, serving a local economy that is expanding, driven by rising employment and population, and which portends organic margin growth from rate-base investments and new customers. Additionally, Oncor benefits from its network not requiring the high maintenance costs of older, urban systems.

Texas is a supportive regulatory jurisdiction for T&D utilities and, compared with most utilities, which are vertically integrated, Oncor has fewer risks because it does not engage in electric generation, which involves risks tied to operating generation facilities and managing the prices of the fuel to run them. T&Ds in Texas also have lower risk because they do not have the obligation and risk of being the provider of last resort for customers who lose their electric supplier for some reason. Furthermore, the Public Utility Commission of Texas (PUCT) over the past several years has introduced tracker mechanisms that have made cost recovery more timely.

Texas is familiar territory for NextEra, which has 2.9 gigawatts of net generating capacity in the state, accounting for 16% of its non-utility generation portfolio. NextEra also owns a PUCT-regulated asset, Lone Star Transmission, which delivers power from West Texas to Dallas; NET Midstream, an intrastate gas pipeline system; and GEXA, an energy service retailer.

If NextEra is successful in consummating the deal, Oncor’s debt ($6.7 billion of reported total debt as of 31 March 2016) will remain with Oncor as an operating subsidiary of NextEra (see exhibit). Texas T&Ds are relatively leveraged, with allowed equity ratios typically about 40%, but they are able to support this because of their lower risk.

2 See Energy Future Holdings’ New Reorganization Plan Is Credit Positive for Texas Competitive Electric, 5 May 2016.

Mihoko Manabe, CFA Senior Vice President +1.212.553.1942 mihoko.manabe@moodys.com

Jairo Chung Analyst +1.212.553.5123 jairo.chung@moodys.com

NEWS & ANALYSIS Credit implications of current events

16 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

NextEra’s Pro Forma Capital Structure, $ Millions Debt as of 31 March 2016.

Sources: NextEra and Energy Future Holdings

Another $9.3 billion of debt exists at Oncor’s intermediate holding company, Energy Future Intermediate Holdings (EFIH) and ultimate holding company, EFH. EFIH and EFH are non-operating companies without cash-generating assets other than Oncor. Many of their debt issues carry coupons in the 11%-12% range, so after the acquisition closes, NextEra will likely refinance and repay them through its financing vehicle, NextEra Energy Capital Holdings, Inc. (Baa1 stable). Although the financing plan will not be finalized until around the acquisition close, the company plans to use a balanced mix of financings and asset sale proceeds.

NextEra’s principal regulated asset currently is FPL, which accounts for almost 60% of NextEra’s EBITDA. Although providing a strong foundation for NextEra’s credit quality, this concentration in FPL exposes NextEra to Florida’s regulatory environment, economy, and weather. Oncor is smaller (earning about 40% of FPL’s EBITDA), but still would provide meaningful diversification.

NEWS & ANALYSIS Credit implications of current events

17 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Big Rivers Electric’s 10-Year Supply Contract Is Credit Positive Last Thursday, Big Rivers Electric Corporation, KY (Ba2 stable) announced a 10-year power supply contract with the Kentucky Municipal Energy Agency (KyMEA). The contract is credit positive for Big Rivers, an electric generation and transmission cooperative, because it locks up some of its substantial excess capacity and energy with load-serving municipal-distribution companies for 10 years, helping the cooperative replenish load lost during 2013-14, when two aluminum smelters canceled supply contracts.

We expect that the contract will support Big Rivers’ long-term financial performance and provide a reliable source of recovery for Big Rivers’ fixed and variable costs and contribute to its overall competitiveness through better rates for its members. Moreover, the contract allows Big Rivers to become less dependent on the currently depressed wholesale power market for incremental revenues and helps diversify the cooperative’s revenue stream, which has been heavily dependent on the aluminum industry, to one that is less volatile and more predictable.

Under the agreement, Big Rivers will provide to KyMEA 75-100 megawatts beginning in June of 2019. The supply could also be expanded by up to 50 megawatts later in the contract term. KyMEA is a newly formed joint-action agency whose members are made up of 10 Kentucky-based municipal utilities. The Big Rivers’ agreement with KyMEA is still subject to approval by the Kentucky Public Service Company (KPSC) and the US Rural Utilities Service.

In addition to the predictable revenue stream provided by the contract, entering another long-term contract for the sale of excess power also bodes well for Big Rivers’ regulatory relationship with the KPSC, since the regulators established an action plan in 2013 that called for the pursuit of such supply contracts. Maintaining supportive regulatory relationships is an important credit factor for Big Rivers since its rate-setting is subject to regulation, which is atypical for an electric generation and transmission cooperative.

Based in Henderson, Kentucky, Big Rivers is an electric generation and transmission cooperative owned by three distribution cooperative members in the state: Paducah-based Jackson Purchase Energy Corporation; Henderson-based Kenergy Corp.; and Brandenburg-based Meade County Rural Electric Cooperative Corporation. These member cooperatives deliver retail electric power and energy to more than 115,000 residential, commercial and industrial customers in portions of 22 western Kentucky counties.

Kevin Rose Vice President - Senior Analyst +1.212.553.0389 kevin.rose@moodys.com

Sarah Lee Analyst +1.212.553.6955 sarah.lee@moodys.com

Dan Aschenbach Senior Vice President +1.212.553.0880 dan.aschenbach@moodys.com

NEWS & ANALYSIS Credit implications of current events

18 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Energisa’s BRL1.37 Billion Capital Increase Is Credit Positive Last Tuesday, Energisa S.A. (Ba2 negative) announced a public share issuance in Brazil that will increase its capital by BRL1.37 billion, raising its equity to BRL2.63 billion from BRL1.26 billion currently. This offer will settle on 1 August, with a 15% green shoe that could increase the issuance amount to up to BRL1.5 billion.

The BRL1.37 billion capital increase is credit positive because it will improve debt and interest coverage credit metrics. We expect Energisa’s total Moody’s-adjusted debt to fall to an average BRL7.7 billion in the next 12-18 months from BRL8.9 billion recorded in December 2015. The successful equity inflows, coupled with internal cash generation, are important to sustain the company’s capex plan, which we estimate at BRL1.2 billion per year, considering the maintenance of BRL7.7 billion debt. Our projected capex is around 80% of the management’s initial plan, reflecting a slowdown in the investment plan in the challenging macroeconomic environment.

This public offering complements BRL250 million capital increase in November 2015 and aligns with management’s strategy to improve capital structure after credit ratios deteriorated in 2014-15 as Brazil’s drought and the company’s acquisition of Rede Group reduced profitability and increased leverage.

We expect some improvement in operational performance and scale gains up to 2018, with the completed integration of the energy distribution assets acquired from Rede Group. The company’s fourth tariff review has also been positive for the company’s cash generation, recognizing in its tariff composition a higher asset base for regulatory remuneration and improving service quality from these acquired assets. As a result, our projections for the next 12-18 months show the ratio of cash flow from operations pre-working capital to debt of 15%, versus 8.1% in 2015 and 6.9% for the last 12 months that ended 30 March. We expect interest coverage of 2.1x, versus 1.8x in 2015 and 1.6x for the last 12 months that ended 30 March 2016. Nevertheless, our negative outlook for Energisa’s rating reflects Brazil’s sovereign credit constraints and its economic recession, which has negatively affected sales volumes and is incorporated in our forecast.

Based in the Brazilian state of Minas Gerais, Energisa is a holding company that controls 13 electricity distribution utilities in nine Brazilian states and serves 16 million consumers, or 8.1% of the country´s total market. Additionally, Energisa controls an energy trading company and two service companies. In the 12 months that ended 30 March 2016, the company had net sales (excluding construction revenues) of BRL10.5 billion, of which the power distribution business contributed around 94%. Moody’s-adjusted EBITDA was BRL2 billion and net income was BRL175 million.

Aneliza Crnugelj Analyst +55.11.3043.6063 aneliza.crnugelj@moodys.com

NEWS & ANALYSIS Credit implications of current events

19 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Banks

Russian Central Bank Tightens Banks’ Foreign Assets Controls, a Credit Positive Last Tuesday, the Central Bank of Russia (CBR) launched enhanced regulatory controls over local banks’ liquid assets that are kept at foreign banks and depositaries. The initiative is credit positive because it will improve Russian banks’ asset quality and protect them from future asset-misappropriation cases.

According to the CBR, local banks will have to provide confirmation from foreign banks and depositaries that Russian banks’ accounts and securities are fully available and free of pledge. Should a bank fail to confirm the assets’ actual amount and absence of encumbrance to the CBR, it will have to fully provision for those assets.

The CBR’s initiative was mainly driven by recent failures of relatively large banks such as Probusinessbank, Russia’s 31st-largest bank by assets as of 1 July 2015, and Vneshprombank, which ranked 54th. These banks misled market participants, including the CBR, with their fraudulent financials. A majority of Probusinessbank’s reportedly unencumbered securities, which were kept at foreign depositaries, appeared to be actually pledged. In addition to loan-book stripping,3 Vneshprombank’s cash kept in foreign banks was significantly less than what it reported in its financials. We understand there have also been several similar instances among other Russian banks.

Historically, Russian banks manage their foreign-currency liquidity by placing cash with foreign banks and investing in foreign issuers’ debt and, to a lesser extent, equities. These securities are mainly kept by foreign depositaries. Exhibit 1 shows that more than 50% of the sector’s equity was parked at foreign banks and depositaries as of 1 July 2016.

EXHIBIT 1

Russian Banks’ Liquidity with Foreign Banks

Sources: Central Bank of Russia and Moody’s Investors Service

Although the quality of Russian banks’ liquidity holdings at foreign banks is reportedly high, some players, including the banks listed in Exhibit 2, may have to allocate temporary or permanent provisions as a result of the CBR’s initiative. Because banks placed a sizable stock of liquidity in foreign banks and depositaries, it

3 The bank provided loans to non-operating shell companies, that transferred loan proceeds to third parties under fictitious

contracts.

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Elena Redko Assistant Vice President - Analyst +7.495.228.6074 elena.redko@moodys.com

NEWS & ANALYSIS Credit implications of current events

20 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

could take time to receive necessary confirmation given that foreign counterparties are not obliged to confirm that accounts and securities are free of pledge.

EXHIBIT 2

Rated Russian Banks with Largest Exposure to Foreign Assets Relative to Equity as of 1 July 2016

Bank Ratings Foreign Assets,

RUB Billons

Foreign Assets as a Percent of

Shareholders Equity

Novikombank JSCB B2 review for downgrade, caa1 review for downgrade

26 158%

MTS Bank B3 negative, caa1 24 155%

Russian Agricultural Bank Ba2/Ba2 negative, b3 372 152%

Aljba Alliance Commercial Bank B3 stable, b3 3 149%

Bank Zenit B1/B1 negative, b1 37 142%

Alfa-Bank Ba2/Ba2 negative, ba3 294 134%

International Financial Club B3 negative, b3 5 134%

Derzhava B3 stable, b3 4 130%

Vozrozhdenie Bank B1 negative, b1 24 122%

Vostochny Express Bank Caa1/Caa1 negative, caa1 26 119%

Rosdorbank B3 stable, b3 2 117%

Transcapitalbank B1 negative, b1 22 116%

Credit Bank of Moscow B1/B1 stable, b1 88 105%

Notes: The bank ratings shown in the exhibit are the bank’s deposit rating, senior unsecured debt rating (where available) and baseline credit assessment. Foreign assets = balances with foreign banks and securities issued by foreign companies, banks and governments. Sources: Central Bank of Russia and Moody’s Investors Service

NEWS & ANALYSIS Credit implications of current events

21 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Norwegian Banks’ Rising Corporate Lending Margins Mitigate Downward Pressure on Profitability Last Thursday, the Norwegian Central Bank published its quarterly survey of bank lending, which collects data from the country’s largest banks on lending conditions, and which shows that for the third consecutive quarter bank lending margins to corporates have increased. The increase is credit positive because it mitigates downward pressure on profitability from lower margins on household lending, which constitutes 54% of total system lending, and expected increases in loan-loss provisions resulting from declining oil investments and a slowing of economic growth.

The survey is based on information from nine of the largest financial institutions that lend to households and corporations and covers around 60% of loans to households in the system and 80% of loans to corporations. Although the survey is qualitative and does not show the exact margin change, it revealed that corporate lending margins rose and household lending margins fell somewhat.

Low interest rates are negatively affecting Norwegian banks’ interest rate margins (see Exhibit 1). The average interest rate margin for the selection of rated banks in Exhibit 1 declined to 1.63% in the first quarter of 2016 from 1.70% a year earlier. With lower Norwegian growth and inflation projections, the Norwegian Central Bank cut interests rates on 17 March for the sixth consecutive time since December 2011, lowering its key policy rate by 25 basis points to 0.5%.

EXHIBIT 1

DNB Bank’s, Nordea Norway’s and Norwegian Savings Banks’ Net Interest Rate Margins

Source: Moody’s Bank Financial Metrics

Because net interest income accounted for 71% of total revenues for rated Norwegian banks in 2015, the trend in interest rate margins is negative for banks’ overall profitability (see Exhibit 2).

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SparebankenSogn ogFjordane

Nordea BankNorge ASA

SparebankenSor

31-Mar-15 30-Jun-15 30-Sep-15 31-Dec-15 31-Mar-16

Niclas Boheman Assistant Vice President - Analyst +44.20.7772.1643 niclas.boheman@moodys.com

NEWS & ANALYSIS Credit implications of current events

22 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

EXHIBIT 2

Moody’s-Rated Norwegian Banks’ Revenue Mix

Source: Moody’s Bank Financial Metrics

Moreover, we expect Norwegian banks’ loan-loss provisions to increase over the next 12 to 18 months, albeit from very low levels. Persistently low oil prices have resulted in lower oil investments and rising unemployment. These challenges affect the operating environment and reduce bank’s asset quality. We expect that deterioration in oil-related industries, including offshore operations and shipping and, to a degree, commercial real estate, will generate higher loan-loss provisions.

Norway’s largest bank, DNB Bank ASA (Aa2/Aa2 negative, a34), released its second-quarter report on 12 July, and the report illustrates interest rate and lending margin trends. The bank reported that lending spreads5 on loans to large corporates rose to 2.22% from 2.17% a year earlier, while the spread on loans to small and midsize enterprises rose to 2.50% from 2.45% over the same period. Meanwhile, household lending spreads declined to 1.82% from 2.09%. Loan-loss provisions more than tripled to NOK2.3 billion in the second quarter from NOK667 million a year earlier. The increase in provisions was driven by the energy, shipping, offshore and logistic divisions.

4 The bank ratings shown in this report are DNB’s deposit rating, senior unsecured debt rating (where available) and baseline

credit assessment. 5 Relative to the three-month money market rate.

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NEWS & ANALYSIS Credit implications of current events

23 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Slovakia’s New Countercyclical Capital Buffer Is Credit Positive Last Tuesday, the National Bank of Slovakia (NBS) announced that starting 1 August 2017 it will require that all Slovak banks establish a countercyclical capital buffer of 0.5% of risk-weighted assets that will be part of banks’ minimum required regulatory common equity Tier 1 (CET1) capital. NBS’ decision is credit positive for Slovak banks because it will ensure the creation of additional capital reserves during growth periods. Higher capital requirements will provide additional loss-absorbing capital at a time when loan growth is strong amid historically low interest rates, relatively loose underwriting standards and increasing household leverage.

The three Slovak banks we rate have excess capital cushions to meet the 0.5% additional capital requirement. Vseobecna uverova banka, a.s. (A2 stable, baa26) has a CET1 capital ratio of 15.5%, Tatra banka, a.s.’s (Baa1 stable, ba1) is 14.1% and Ceskoslovenska obchodna banka a.s.’s (Baa1 stable, ba1) is 13.6%. However, as the banks’ excess capital cushion moves closer to the minimum regulatory requirements as a result of balance-sheet growth and a full phasing in of high Basel III capital standards, banks over the next 18 months may reconsider making high dividend payouts (80%-138% of the banks’ 2014 earnings were distributed to their Western parent banks). Furthermore, the banks could be encouraged to take a more cautious approach in their lending practices, or issue Additional Tier 1 or Tier 2 capital.

NBS’ announcement reflects Slovakia’s rising credit-to-GDP trend gap, defined as when credit growth outpaces GDP growth, which was 2.04% in first-quarter 2016, a level that exceeds the 2% threshold recommended by Basel III. Although credit growth slowed to 10.4% in first-quarter 2016 from 11.1% in fourth-quarter 2015 (see Exhibit 1), NBS still considers it excessive and above historical levels. Additionally, although household debt to disposable income in Slovakia is lower than in the rest of Europe, and remains at a moderate level, it is increasing. The ratio was 62% as of 2014, the latest data available, versus 55% in 2012, according to the Organisation for Economic Co-operation and Development. Household debt was 35.8% of GDP in first-quarter 2016, up from 30% as of 2012, according to Eurostat. Furthermore, Slovak households’ financial assets, at 2x liabilities, are the second-weakest in the euro area, according to the NBS, underlining households’ more limited capacity to pay down debt in a downturn.

EXHIBIT 1

Slovak Banks’ Loans Outstanding

Source: National Bank of Slovakia

Slovakia is the first euro area country to introduce such a buffer, and the fourth in the European Economic Area, after Norway, whose countercyclical capital buffer is 1%, Sweden (1.5%) and Czech Republic (0.5%).

6 AThe bank ratings shown in this report are the bank’s deposit rating and baseline credit assessment.

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Loans to Non-financial Corporations Consumer Loans Housing Loans, Other than Mortgages Mortgage Loans

Arif Bekiroglu Assistant Vice President - Analyst +44.20.7772.1713 arif.bekiroglu@moodys.com

NEWS & ANALYSIS Credit implications of current events

24 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Slovakia’s capital requirements are now one of the two highest among Central and Eastern European countries (see Exhibit 2).

EXHIBIT 2

Basel III End-Point Capital Requirements in Central and Eastern Europe

Notes: O-SII Buffer = Other systemically important institutions buffer. O-SII for Hungary is applicable as of January 2017. Systemic risk buffer (SRB) for Hungary is yet to be announced, and is applicable for Slovakia starting January 2018. * Poland has not yet announced systemic risk and O-SII buffers, but the currently minimum CET1 ratio is 9% and the Polish Financial Supervision Authority requires that banks hold an additional 3% of capital. Polish regulators annually publish their most recent minimum capital requirements, which banks must meet before they are allowed to distribute dividends. ** Maximum announced buffer range shown. Sources: National regulators and Moody’s Investors Service

4.5% 4.5% 4.5% 4.5% 4.5% 4.5% 4.5%

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Minimum CET1 AT1 T2 Capital Conservation Buffer O-SII Buffer Systemic Risk Buffer ** Countercyclical Buffer

NEWS & ANALYSIS Credit implications of current events

25 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Securitization

Spain’s SME ABS Will Benefit from Funding Option with Crowdfunding Platforms Last Wednesday, Spain’s stock market regulator, Comisión Nacional del Mercado de Valores (CNMV), announced the official registration of the country’s first equity crowdfunding platforms,7 which specialize in small and midsize enterprise (SME) funding. Approximately 10 crowdfunding platforms have also announced that they are in the final steps of obtaining authorization and official registration to operate by the end of July.

Greater funding-source diversity as a consequence of Spain’s crowdfunding platforms is credit positive for SMEs’ and SME asset-backed securities’ (ABS) credit quality because it will reduce their dependence on bank credit, the prevalent funding source for Spain’s SMEs. Diversification and funding alternatives will help SME borrowers in existing ABS transactions to refinance, a credit positive.

Marketplace lending, which includes these crowdfunding platforms, loosely refers to the industry of internet-based, alternative lending platforms for consumers and small businesses in need of loans, debt issuance or equity. These platforms are steadily adapting to a changing credit landscape. The CNMV is acting as per Law 5/2015 measures for crowdfunding platforms to boost SME funding, which has been tight since the 2007-09 financial crisis, as shown in Exhibit 1.

EXHIBIT 1

Spanish Banks’ Origination of Loans Less than €1 Million to Corporations Origination is only one third of pre-crisis levels.

Sources: European Central Bank, Bank of Spain and Spain’s Instituto Nacional de Estadística

We expect marketplace lenders to make further inroads in Spain and other European countries where policymakers have taken steps to encourage the growth of crowd-sourced lending.8 The UK is the most developed market in the region for crowdfunding, although we expect the Spanish market to be driven by individual investors tapping the funding of small businesses, especially micro-enterprises. We expect disintermediation to erode Spanish banks’ market share in SME funding in the next 10 years. The longer scenario of low interest rates, with markets expecting the Euribor to be close to zero over the next three years, will ultimately help marketplace lenders bring in capital to expand, gaining relevance in the credit market. It is also likely that banks will gain interest in these platforms, acting in cooperation while using them to source assets. Finally, the current environment of Spanish banks reducing the size of their

7 A pilot project to fund social entrepreneurs was registered in December 2015. 8 See Marketplace Lending Platforms Will Continue to Evolve, Expand Loan Types, 7 December 2015.

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Antonio Tena, Ph.D. Vice President - Senior Analyst +34.91.768.8235 antonio.tena@moodys.com

Gaston Wieder Vice President - Senior Analyst +34.91.768.8247 gaston.wieder@moodys.com

NEWS & ANALYSIS Credit implications of current events

26 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

commercial networks, traditionally a great competitive advantage to fund SMEs, will also benefit crowdfunding platforms.

The CNMV will regulate the platforms, which is positive for their sustained growth, and, in cooperation with the Bank of Spain, will monitor their activity as per Law 5/2015, which will add transparency to the industry. The pioneer markets for crowdfunding, especially the US and UK, show how raised funds have increased exponentially each year: volume in 2015 was 12x the funds raised in 2012 (see Exhibit 2).

EXHIBIT 2

Global Marketplace Lending 2012-15

Sources: Massolution and Crowdsourcing.org

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27 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Accounting

FASB’s Income Tax Disclosure Proposal Benefits Credit Analysis Last Tuesday, the US Financial Accounting Standards Board issued proposed guidance on income taxes that would enhance existing disclosures requirements and require additional disclosure. The proposal, if finalized, would provide greater transparency into companies’ liquidity by requiring meaningful income tax and cash disclosures to be disaggregated between foreign and domestic operations, which would benefit credit analysis.

The proposal would provide much needed insight into companies’ global liquidity by requiring companies to disclose the aggregate of cash, cash equivalents and marketable securities held by foreign subsidiaries, and explain what caused a change in any assertions related to “the indefinite reinvestment of undistributed foreign earnings” held at a foreign subsidiary.

The proposal would also require all companies to provide important tax information to be sorted between foreign and domestic activity. These requirements would include disclosure of the following information:

» Income (or loss) from continuing operations before tax separated between foreign and domestic legal entities

» Income tax expense (or benefit) from continuing operations separated between foreign and domestic legal entities

» Income taxes paid separated between foreign and domestic legal entities

» Disclosure of the amount of income taxes paid to any one country that is significant to total income tax paid

These proposed changes arrive at a time when investors are seeking more information about increasingly complex global tax strategies. Specifically, the burden of the 35% US tax rate, among the highest in the world, has motivated US-based multinational corporations to move significant operations and assets overseas in order to benefit from lower foreign income tax rates.

These complex tax strategies highlight the current disclosure requirements’ lack of precision when an investor wants to understand to what extent cash flows are dependent on global income tax strategies. The FASB has listened to investor feedback on this subject and is proposing that corporations with global tax strategies provide more transparent disclosure to their investors. With only the current disclosure requirements, it is impossible to understand if a company is paying income taxes and retaining any potential cash savings in the US or through its foreign subsidiaries.

In the credit analysis process, this creates two key problems. First, it is difficult to separate sustainable core operations from successful tax planning strategies that can change with legal and political trends. Second, the net amount of available cash for use in the US is often overstated as cash held overseas and is not fully available to meet domestic credit obligations. Cash held in a jurisdiction with a tax rate lower than the US rate is subject to an incremental 35% tax rate if the cash is repatriated to meet domestic credit requirements.

If finalized, this proposal would enhance understanding of a company’s liquidity by providing insight into how much and at what rate a company’s cash position is encumbered by potential tax upon repatriation.

The FASB is seeking public comments on its website through 30 September 2016.

David Gonzales Vice President - Senior Accounting Analyst +1.212.553.9398 david.gonzales@moodys.com

CREDIT IN DEPTH Detailed analysis of an important topic

28 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Credit In Depth

Almost All European Banks Perform Well in Stress Test On Friday, the European Banking Authority (EBA) published the results of its 2016 bank stress test, which covers 51 European banks and measures their capital ratios in baseline and adverse economic scenarios. The stress test does not contain a pass/fail threshold and was not designed to single out insufficiently capitalized banks, which was the focus of the last stress test in 2014. This time, the results will inform the Supervisory Review and Evaluation Process (SREP), through which the European Central Bank (ECB) and other European Union (EU) authorities will set bank-specific, or “Pillar 2,” minimum capital requirements.

The key result of the stress test is the lowest common equity Tier 1 (CET1) ratio a bank hits in the adverse economic scenario. Forty-three of the 51 tested banks maintained CET1 ratios above 8.0% and, with one exception, they all maintained positive CET1 ratios, with the lowest being 6.1%.9 The exception was troubled Italian lender Banca Monte dei Paschi di Siena S.p.A. (MPS, B2/B3 review for downgrade, ca10), which ended the adverse scenario with a negative CET1 ratio.

The 2016 baseline and adverse scenarios are more comprehensive than in the 2014 test. They included additional risks, in particular those stemming from misconduct and from lending in non-domestic currencies (foreign-exchange risk). These risks have led to numerous banks reporting considerable losses in recent years.

Independent of the stress test, the EBA announced that it will change the rules for Pillar 2 capital requirements. The change aims to reduce Pillar 2 capital requirements that effectively constrain banks’ ability to service Additional Tier 1 (AT1) capital instruments. However, supervisors will replace the reduced amount with a more flexible type of capital buffer (Pillar 2 guidance). This will allow national supervisors to provide banks with more leeway to service their AT1 instruments in situations of mild stress, which is credit positive for AT1 holders.

The change will also help European banks attract investors in these hybrid capital instruments. AT1s are among the most important instruments for banks in managing their capital structures, especially once new regulation on minimum requirements for own funds and eligible liabilities (MREL) take effect starting in 2016, and requires that banks issue a great amount of loss-absorbing subordinated instruments.

Banks With The Lowest CET1 Ratios In The Adverse Scenario Exhibit 1 shows the 10 banks that reached the lowest CET1 ratio in the adverse scenario. The green bars show the banks’ starting-point CET1 ratios as of year-end 2015 and the blue bars show their post-stress CET1 ratios (transitional, year-end 2018). Only two banks had CET1 ratios that fell below 7.0%. Another six banks had ratios of 7.0%-8.0%.

9 We excluded Banco Popular Español S.A., which has raised capital since the cut-off date. 10 The bank ratings shown in this report are the bank’s deposit rating, senior unsecured debt rating and baseline credit assessment.

Katharina Barten Vice President - Senior Credit Officer +49.69.70730.765 katharina.barten@moodys.com

CREDIT IN DEPTH Detailed analysis of an important topic

29 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

EXHIBIT 1

The 10 European Banks with the Lowest CET1 Ratios in the Adverse Scenario

Key: MPS = Banca Monte dei Paschi di Siena SpA; RZB = Raiffeisen Zentralbank, Österreich; RBS = Royal Bank of Scotland. Source: European Banking Authority 2016 EU-Wide Stress Test Results, 29 July 2016

Banks With The Largest CET1 Ratio Declines In The Adverse Scenario Exhibit 2 shows the banks experiencing the greatest decline in CET1 ratios in the adverse scenario, which include four banks from Germany and two from the Netherlands. Only one of the five Italian banks is included here, despite their elevated credit risk. This is because their net interest income helped offset high credit losses.

EXHIBIT 2

The 10 European Banks with the Largest CET1 Ratio Declines in the Adverse Scenario

Key: MPS = Banca Monte dei Paschi di Siena SpA; RBS = Royal Bank of Scotland; BNG = N.V. Bank Nederlandse Gemeenten; and LBBW = Landesbank Baden-Württemberg. Source: European Banking Authority 2016 EU-Wide Stress Test Results, 29 July 2016

12.0%

10.5% 10.6%11.4%

15.9%

13.8%13.3% 13.2%

11.4%

15.5%

-2.2%

6.1%7.1% 7.3% 7.4% 7.4% 7.7% 7.8% 8.0% 8.1%

-4%

-2%

0%

2%

4%

6%

8%

10%

12%

14%

16%

MPS RZB UniCredit Barclays Allied Irish Commerzbank Bank of IrelandDeutsche Bank SocieteGenerale

RBS

Transitional CET 1 Ratio at December 2015 CET 1 Ratio In Adverse Stress Test

-1,423

-847

-746 -742-706 -694 -690

-636-597

-560

-1,600

-1,400

-1,200

-1,000

-800

-600

-400

-200

0

MPS Allied Irish RBS NRW.Bank BNG LBBW BayernLB Commerzbank ABN AMRO Bank of Ireland

Basi

s Po

ints

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30 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

Credit risk was by far the strongest loss driver in the stress test, accounting for €349 billion, or 54%, of total losses in the adverse scenario. The €349 billion equals 370 basis points of erosion in CET1 ratios across the sample of 51 banks.

For the four German banks in Exhibit 2, the adverse stress had a relatively severe negative effect on net interest income and trading income, which led these banks to report an aggregate net loss of almost €10 billion in the adverse scenario. This compares with a €1.2 billion net profit in the baseline scenario.

The 2016 stress test includes conduct risk for the first time, but losses were not disclosed at individual banks. At an aggregate €71 billion, or 11% of total losses in the adverse scenario, conduct risk added to the burden, but was not a major loss driver. Credit risk, market risk and net interest income erosion each contributed higher losses. However, we expect that the €71 billion of conduct losses were concentrated on a small number of banks. In recent years, most of the effect of misconduct occurred at global investment banks, and this likely explains the weaker results at Royal Bank of Scotland plc (A3/A3 positive, ba1). However, others including Rabobank (Aa2/Aa2 stable, a2) were also affected.

Adverse Scenario Stress Test Results By Country The stress test results highlight differences in the relative strength of banking systems across the European Union, as shown in Exhibit 3, which illustrates the relative weakness of two Austrian banks in the sample, the two Irish banks and two of five Italian banks whose results weighed on Italy’s average. The strongest banks by this measure were mostly located in northern countries, particularly Scandinavia.

EXHIBIT 3

Adverse Scenario Stress Test Results by Country Average of banks’ lowest CET1 ratios in the adverse scenario by country.

Source: European Banking Authority 2016 EU-Wide Stress Test Results, 29 July 2016

Most Banks Meet The ECB’s Benchmark Rates, Including Systemic Buffers

It is noteworthy that with the exception of MPS, no bank pierced the 5.5% CET1 ratio benchmark that the ECB plans to use in setting bank-specific Pillar 2 capital requirements. However, global systemically important institutions (G-SIIs) must pass higher hurdles that include bank-specific G-SII buffers. Exhibit 4 lists the 10 banks whose stressed CET1 ratio results came closest to or pierced their thresholds, the non-G-SII 5.5% threshold or higher G-SII threshold, as applicable. For example, Barclays Bank PLC’s (A2/A2 negative, baa2) benchmark ratio is 7.5% (5.5% plus a 2% G-SII buffer) and the bank pierced this level by 22 basis points in the adverse scenario. That said, Barclays’ capital requirements primarily will be informed by

11.6%

14.6%

11.7%12.5% 12.5%

13.8% 13.4%

14.8%

12.6%

15.4%

13.3%

16.9%

14.3%

19.5%18.9%

13.2%

7.3% 7.5% 7.7%8.5% 8.6% 9.0% 9.2% 9.5% 9.7%

11.3% 11.4%

14.1%14.3%

14.9%

16.5%

9.4%

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

Transitional CET 1 at December 2015 CET 1 Ratio in Adverse Stress Test

CREDIT IN DEPTH Detailed analysis of an important topic

31 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

the Bank of England’s own stress tests. On the far right side of the exhibit, we highlight the distance from these specific thresholds in basis points.

EXHIBIT 4

Banks Near or Below the 5.5% CET1 Benchmark plus G-SII buffer in the Adverse Scenario

Banks

Transitional CET 1 Ratio

December 2015

ECB's Benchmark Rate

(5.5% plus G-SII Buffer)

CET 1 Ratio in Baseline

Scenario

CET 1 Ratio in Adverse

Scenario

Basis Point Distance to Benchmark

Banca Monte dei Paschi di Siena 12.0% 5.5% 12.0% -2.2% -772

Barclays Plc 11.4% 7.5% 12.5% 7.3% -22

Deutsche Bank 13.2% 7.5% 12.1% 7.8% 29

UniCredit Spa 10.6% 6.5% 11.6% 7.1% 62

Raiffeisen Zentralbank Österreich 10.5% 5.5% 12.5% 6.3% 78

HSBC Holdings 11.9% 8.0% 12.4% 8.8% 78

BNP Paribas 11.0% 7.5% 12.1% 8.5% 104

Crédit Agricole 13.5% 6.5% 12.1% 7.8% 127

Société Générale 11.4% 6.5% 11.9% 8.0% 153

Royal Bank of Scotland 15.5% 6.5% 15.8% 8.0% 154

Note: Baseline scenario results included for information. Sources: European Banking Authority 2016 EU-Wide Stress Test Results, 29 July 2016, and Moody’s Investors Service

The banks’ performance against the ECB’s benchmark rates will be just one of a number of considerations that will guide national supervisors in their decisions later this year on the new Pillar 2 capital component. It remains to be seen to what extent banks will disclose their newly set SREP ratios later this year, given that disclosure remains at the discretion of national supervisors and other market authorities.

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32 MOODY’S CREDIT OUTLOOK 1 AUGUST 2016

NEWS & ANALYSIS Corporates 2 » Anheuser-Busch InBev’s Beefed-Up Offer for SABMiller Is

Credit Negative » Joy Global’s $3.7 Billion Acquisition by Komatsu Is

Credit Positive » Refresco’s Acquisition of Whitlock Brings Credit-Positive US

Growth Prospects » Kirk Beauty One’s Debt-Financed Shareholder Distribution

Would Increase Leverage » Vedanta Resources Will Benefit from Vedanta Ltd.’s

Sweetened Bid for Cairn India » China Railway Construction and China Railway Group Will

Benefit from Rail Expansion Plan » China City Construction’s Default Will Impede

Offshore Issuance » Komatsu Will Increase Debt to Acquire Joy Global » Aldi’s Increasing Grocery Market Share Is Credit Negative for

Woolworths and Wesfarmers

Banks 12 » Greek Banks Will Likely Attract More Deposits with Newly

Eased Capital Controls

Sovereigns 14 » Korea’s New Stimulus Measures Will Reduce Downside Risks

to Growth

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