Credit Opinion: SpareBank 1 Gruppen AS

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Credit Opinion:

SpareBank 1 Gruppen AS

Global Credit Research - 20 Aug 2014

Oslo, Norway

Ratings

Category Moody's Rating

Rating Outlook STA

LT Issuer Rating Baa2

Contacts

Analyst Phone

Dominic Simpson/London 44.20.7772.5454 Laura Perez Martinez/London

Simon Harris/London

Key Indicators

SpareBank 1 Gruppen AS[1][2]

2013 2012 2011 2010 2009

As Reported (Norwegian Krone Millions)

Total Assets 50,560 46,351 41,989 40,601 61,467

Shareholders' Equity 5,800 5,304 4,942 4,628 5,293

Net Income (Loss) Attributable to Common Shareholders 1,097 443 530 841 909

Gross Premiums Written 9,853 9,735 9,126 8,214 7,557

Net Premiums Written 8,971 9,104 8,522 7,679 7,068

Moody's Adjusted Ratios

Goodwill & Intangibles % Shareholders' Equity 15.5% 18.2% 19.0% 17.9% 13.7%

Financial Leverage 35.6% 35.6% 35.7% 33.4% 64.8%

Total Leverage 35.6% 35.6% 35.7% 33.4% 64.8%

Earnings Coverage (1 yr) 12.5x 6.9x 3.7x 10.7x 2.5x

[1] Information based on IFRS financial statements as of Fiscal YE December 31 [2] Certain items may have been relabeled and/or reclassified for global consistency

Opinion

SUMMARY RATING RATIONALE

The long term issuer rating of Baa2 (stable outlook) for SpareBank 1 Gruppen AS ("the Group") reflects the holding company's good franchise, business diversification, the relatively low risk profile of the non-life business, and improved profitability. The Group's pre-tax profitability (from continued business) further improved in 2013 to NOK1,659m (YE12: 955m, YE11: 542m), benefiting from an improvement in the life insurance business, and especially from the strong performance of the non-life business, the operating profit of which doubled with significant reserve releases a feature. The Group's result was partially offset by the loss of NOK150m from the SpareBank 1 Markets AS business which was transferred to the Group's owner banks during 3Q 2013. As at H1 14, the Group reported a pre-tax profit of NOK 1,009m (H1 13: NOK 687m). The issuer rating also reflects parental support, which we expect to continue, from the Norwegian savings banks which own Sp1 Group, including SpareBank 1 SMN (A2 negative, C-/baa2 stable), SpareBank 1 SR Bank ASA (A2 negative, C-/baa2 stable), SpareBank 1 Nord-Norge (A2 negative, /baa1 stable), together with Sparebanken Hedmark (A2 negative,

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C-/baa2 stable). These strengths are mitigated by the lack of geographic diversification, sustaining recent profitability improvements and growing in a competitive mature market, and the significant volumes of paid-up policies within the life insurance company, which currently remain poorly adapted to a Solvency II environment.

The owner banks are expected to support the group, which is viewed as strategically important to its owners in terms of the manufacturing of insurance products, synergies, and branding. Furthermore, there is tangible recent evidence of parental support from the owner banks/the group into the life company, in the form of an equity injection in Q4 2008 totalling NOK 300m and a further capital injection into the life company in 2009 of NOK 413m, although some of this has since been repaid (e.g. a loan totalling NOK 200m within the life company). We also note that the financial (i.e. SpareBank 1 Gruppen) and non-financial (ie Alliansesamarbeidet SpareBank 1 DA) parts of the SpareBank 1-alliance, which comprises SpareBank 1 Gruppen and member banks, have been integrated into one operational structure.

SpareBank 1 Gruppen is a holding company whose main owners are 15 Norwegian savings banks, together with the Norwegian Confederation of Trade Unions (LO) and its affiliated unions, to whose customers and members the Group provides insurance and other financial products and services. The group was established in 1996 in response to stronger competition in the Norwegian financial market. Until end-December 2009, the group has consisted of five wholly owned product companies in life insurance, non-life insurance, asset management, banking, factoring and debt collection. Since 1st January 2010, Bank 1 Oslo has been separated from SpareBank 1 Gruppen and is now directly owned by the SpareBank 1-banks and the Norwegian Confederation of Trade Unions.

The market share of the alliance (SpareBank 1 Gruppen and member banks) has gradually improved thanks to a wider and deeper product offering, increased marketing and good cross-selling, as well as new banks joining the alliance. On a reported basis, SpareBank 1 Alliance is the second-largest financial institution in Norway and has a market share of around 20% in retail lending, c.16% in corporate lending, around 8% in equity funds, approximately 10% in non-life insurance and around 4% in life insurance.

Credit Profile of Significant Subsidiaries SpareBank 1 Skadeforsikring Group

Moody's considers the property & casualty (P&C) business to be a significant market player in the Norwegian market, where it has the 4th largest market share (10.3% at YE2013). In 2013, the reported combined ratio significantly improved to 80.5% (YE12: 98.2%), driven by material reserve releases of around 10% of net earned premium, reduced claims and lower operating costs. Pre-tax profit increased to NOK1,243m at YE13 (YE12: 619m) with prior year releases which affected the result amounting to NOK493m. Capitalisation is also viewed as good with the business having relatively low gross underwriting leverage, and although there is a relatively high proportion of high risk assets, the amount of reinsurance recoverables is relatively low.

Notwithstanding the significant reserve release during 2013, Moody's notes that historically there has been some degree of reserving volatility within the portfolio, particularly on the longer tailed commercial lines business. Furthermore, the retail orientated P&C business remains heavily dependent on a single distribution channel, namely the owner banks.

SpareBank 1 Forsikring AS

Following significant losses in 2008 and capital injections into the life business during both 2008 and 2009, Moody's notes the recent improvements in both profitability and capitalisation within the life business. At YE13, pre-tax profit improved to NOK638m (YE12: 479m) driven by increased risk and interest results (in turn driven by high realised investment gains). This is notwithstanding a strengthening of the premium reserve by NOK218m due to higher life expectancy in the insurance portfolio, and a negative administration result. Whilst policyholder buffer capital remains higher (2Q 2014: 19.4% of technical provisions) than the 5.8% reported at YE 2008, Moody's notes that the life business has spread deficiency risk as a result of guarantees offered to policyholders which averaged 3.14% at YE13, and considers the business to remain significantly exposed to investment market volatility. Also, as with the P&C business, the relatively small life business, which is focused on defined contribution

pensions/group life/individual risk insurance, remains heavily exposed to the Norwegian economy, lacking the geographic diversification of larger continental life insurers.

More specifically, as at YE 2013, SpareBank 1 Forsikring's paid up policies (poorly adapted to a Solvency II requirement) were c. NOK 4.3bn and the life company still has some further reserve strengthening need arising out of the longevity tables published by the FSA in March 2013. However, Moody's views this need as

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manageable within the context of the SpareBank1 Group AS and its owner banks, and notes that reserves for contracts in group defined benefit pensions have been fully built up.

Credit Strengths

- Strong brand, which is among the most recognised financial brands in Norway

- Diversified operations, including the owner banks

- Relatively low risk profile of non-life insurance business

- Expected high support from the owner banks reflecting its important role in the wider SpareBank 1 Alliance

Credit Challenges

- Lack of geographic diversification

-Sustaining recent profitability improvements and growing in a competitive mature market

- Volatility of investment results, particularly with the life insurance business, which necessitated capital injections during the crisis

- Dependence on the distribution channels of the alliance

- Lower coherence in the alliance as there is no joint and several liability guarantee

- Potential departure of any member bank, although this at the moment is not considered likely

What to Watch for:

- Any deterioration in the credit profile of the owners would likely be reflected in the issuer rating of the Group.

- Seasonality of profitability in the P&C business given the frequent adverse winter weather in the Nordics.

- Challenge of Solvency 2 implementation, particularly for the life business which has provided products with guaranteed returns.

- Treatment of Paid up Policies within the life portfolio currently remains a concern for Norwegian life insurers

-Ability of Norwegian policyholders from September 2014 to convert guaranteed paid-up policies into products with investment choice

Rating Outlook

The outlook is stable. The Group's ratings were unaffected by the negative outlook assigned in May 2014 to its owner banks driven by a reassessment of systemic support for EU banks.

What Could Change the Rating - Up

Not considered likely in the short term due to the ratings being on stable outlook. However, in the longer term, positive rating action could arise in the event of:

- An upgrade in one of more of the owners' ratings

- If the commitment from the owner banks were to be perceived as higher, and/or

- If a sustained improvement in the financial performance of the group were to occur.

What Could Change the Rating - Down

- A downgrade in one of more of the owners' ratings

- The commitment from the owner banks were to be perceived as lower, and/or

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Capital Structure and liquidity

At YE13, the Group's financial leverage remained at around 36%. Whilst this is a relatively high level, we note that the vast majority of the Group's borrowings are provided by the owner banks and that some of the borrowings relate to non-insurance activities. The group's leverage metric benefits from Moody's assigning partial credit to the supplementary and security provisions as well as the securities adjustment reserve all of which, together with shareholders' equity, increased during 2013, although we note that policyholder reserves continue to be lower than pre-crisis levels. These increases helped off-set an increased level of borrowings.

In addition to perpetual subordinated loans provided by owner banks and hybrid tier 1 capital issued by the life company, the Group has also previously issued securities to external investors for liquidity purposes and to help fund its factoring and recently transferred Markets business. From 2012, the owner banks became the sole providers of the Group's funding, and loans that have matured in the bond market have been refinanced by these banks. The majority of the Group's current debt has been raised for liquidity purposes including dividend

payments, and interest expenses. At YE13, around 65% of the Group's reported debt were term loans provided by the owner banks.

Earnings coverage improved again to 12.5x (YE12: 6.9x) with a 5 year average of around 7x, the increase in line with the healthy profitability of the Group. However, the cash flows of the holding company, which issues most of the Group's debt, have been pressurised in recent years with meaningful dividend payments to its owners, and limited net cash received from its main subsidiaries which necessitates the funding provided by the owner banks.

Notwithstanding the financing from the owner banks, overall, we view SpareBank1 Gruppen's access to capital markets as being satisfactory but not comparable with larger European peers.

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 http://www.moodys.com for the most updated credit rating action information and rating history.

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