Moody's Decides To Downgrad Lloyds TSB And Bank Of Scotland Rating

Moody's Investors Service has downgraded the long term bank deposit and senior debt ratings of Lloyds TSB Bank plc (LTSB) to Aa3 from Aaa and the senior debt rating of Lloyds Banking Group plc (Lloyds) to A1 from Aa1. The

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Moody’s Investors Service has downgraded the long-term bank deposit and senior debt ratings of Lloyds TSB Bank plc (LTSB) to Aa3 from Aaa and the senior debt rating of Lloyds Banking Group plc (Lloyds) to A1 from Aa1. The debt ratings have a stable outlook. The bank financial strength rating (BFSR) of LTSB was downgraded to C+ (mapping to a baseline credit assessment (BCA) of A2) from B+ (a BCA of Aa2), with a negative outlook. The Prime-1 ratings on the short-term obligations of all the group entities (including HBOS entities) were affirmed.

The long-term bank deposit and senior debt ratings of Bank of Scotland plc were downgraded from Aa1 to Aa3, the same level as LTSB, and the senior debt rating of HBOS plc (HBOS) was downgraded from Aa2 to A1, the same level as Lloyds Banking Group plc. The BFSR of Bank of Scotland was downgraded to C- (mapping to a BCA of Baa2) from B (BCA of Aa3), and remains under review for further possible downgrade. The ratings assigned to LTSB and Bank of Scotland reflect Moody’s view of the overall financial profile of Lloyds following its acquisition of HBOS which closed on 19 January 2009.

“The downgrades reflect the high level of troubled and higher risk exposures within HBOS which Moody’s considers will weaken the profitability and capital adequacy of the overall group, as well as the very significant operational challenge of integrating a larger and weaker bank into the group,” says Elisabeth Rudman, vice president – senior credit officer in Moody’s financial institutions group.

The acquisition of HBOS by Lloyds means that the group is now the dominant retail bank in the UK, with market-leading positions in current accounts, savings accounts, residential mortgages, credit cards and unsecured lending. The combined entity will also have the second-largest market share in business banking, behind Royal Bank of Scotland. Although this expanded franchise should enable the group to continue to generate substantial pre-provision earnings, the acquisition brings with it significant challenges. Specifically, Moody’s notes that integrating a group of the size of HBOS (total assets at end-June 2008 of GBP681 billion compared with the GBP368 billion of Lloyds) during a major market downturn may prove problematic and will be a substantial challenge for the management team.

In addition, given the difficult environment, we believe that the forecasted cost savings may take longer to generate than would otherwise have been the case. A positive factor for HBOS however is the introduction of Lloyds’s lower risk appetite into the franchise of HBOS. However, given the size of HBOS’s loan book, this will not be reflected in the group’s asset quality indicators for some time.

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