Scandi Covered - Danske Analyse - Danske Bank

Investment Research 

Scandi Handbook 

- the credit handbook of large and medium-sized 

corporates and financials in the Scandinavian region 

April 2011 

www.danskeresearch.com

Fixed Income Credit Research 

Head of Credit Research 

Thomas Hovard 

+45 45 12 85 05 

thomas.hovard 

Utilities & Energy TMT 

Financials & Strategy Pulp & Paper Industrials 

Jakob Magnussen 

+45 45 12 85 03 

jakob.magnussen 

Louis Landeman 

+46 8 568 80524 

louis.landeman 

Thomas Hovard 

+45 45 12 85 05 

thomas.hovard 

Henrik Arnt 

+45 45 12 85 04 

henrik.arnt 

Kristian Myrup 

Pedersen 

+45 45 12 85 19 

kripe 

Asbjørn P. Andersen 

+45 45 14 88 86 

asbjorn.andersen 

Kristian Myrup 

Pedersen 

+45 45 12 85 19 

kripe 

email addresses end @danskebank.com

Investment Research 

13 April 2011 


Issue 16 

Welcome to the sixteenth issue of the Scandi Handbook from the Fixed Income Credit 

Research team at Danske Markets. 

This publication is intended to act as a quick reference guide to the Scandinavian corporate 

credit market, providing an overview of each credit issuer, along with an indication 

of relative value within the peer groups. The publication covers a wide range of the region’s 

corporates and financials that have a credit rating from at least one of the major 

rating agencies (Moody’s, Standard & Poor’s and Fitch), and / or are established issuers 

in the EUR market. In addition to this, we have included a number of issuers that are 

either active in the domestic credit markets and / or corporates that we see as potential 

future issuers in the EUR markets. 

The table below lists the issuers included in this edition of the Scandi Handbook. 

Issuers included in this edition of the Scandi Handbook 

Financials General Industrials Pulp & Paper TMT Utilities & Energy 

DnB NOR ABB M-real Elisa DONG Energy 

FIH A.P.Moller-Maersk Norske Skog Ericsson Fortum 

Handelsbanken Assa Abloy Stora Enso Nokia Neste Oil 

Jyske Bank Atlas Copco Svenska Cellulosa (SCA) TDC Statkraft 

Nordea Carlsberg UPM-Kymmene Telenor Statnett 

Nykredit Bank Electrolux TeliaSonera Statoil 

Pohjola Bank ISS TVO 

Sampo Investor Vattenfall 

SBAB Metso Vestas 

SEB 

Sandvik 

Sydbank 

Scania 

Swedbank 

Securitas 

Volvofinans 

SKF 

Stena AB 

Swedish Match 

Vasakronan 

Volvo 

Source: Danske Markets 

The majority of the companies in the handbook are part of the core coverage universe of the 

Credit Research team of Danske Bank (highlighted in bold in the table above) – i.e., detailed 

Credit Comments are published after events that are of significance to the credit quality of 

the issuers. 

In relation to the previous Scandi Handbook, we have included coverage on Swedish Match, 

Stena AB, Neste Oil and Statnett in this sixteenth edition. We have withdrawn Hafslund 

from our coverage list. 

The prices outlined in this book are only indicative. 

All instrument specific prices as pr. 11 April 2010 can be found at the back of this book. 

All relevant fixed income research from Danske Markets can be found on Bloomberg hitting 

DRCR. 

Important disclosures and certifications are contained from page 224 of this report. 



2 | 13 April 2011 



Contents 

Financials ............................................................................................................................................................... 5 

DnB NOR............................................................................................................................................................. 6 

FIH ........................................................................................................................................................................ 10 

Handelsbanken ............................................................................................................................................ 14 

Jyske Bank ...................................................................................................................................................... 18 

Nordea .............................................................................................................................................................. 22 

Nykredit Bank ............................................................................................................................................... 26 

Pohjola Bank.................................................................................................................................................. 30 

Sampo Group ................................................................................................................................................ 34 

SBAB .................................................................................................................................................................. 38 

SEB ...................................................................................................................................................................... 42 

Swedbank ........................................................................................................................................................ 46 

Sydbank ............................................................................................................................................................ 50 

Volvofinans Bank ........................................................................................................................................ 54 

General Industrials ..................................................................................................................................... 59 

ABB ..................................................................................................................................................................... 60 

A.P. Moller-Maersk Group ................................................................................................................... 64 

Assa Abloy ...................................................................................................................................................... 68 

Atlas Copco .................................................................................................................................................... 72 

Carlsberg ......................................................................................................................................................... 76 

Electrolux ......................................................................................................................................................... 80 

Investor AB .................................................................................................................................................... 84 

ISS ........................................................................................................................................................................ 88 

Metso ................................................................................................................................................................. 92 

Sandvik .............................................................................................................................................................. 96 

Scania ............................................................................................................................................................ 100 

Securitas ..................................................................................................................................................... 104 

SKF .................................................................................................................................................................. 108 

Stena .............................................................................................................................................................. 112 

Swedish Match ........................................................................................................................................ 116 

Vasakronan ................................................................................................................................................ 120 

Volvo AB ...................................................................................................................................................... 124 

Pulp & Paper ................................................................................................................................................ 129 

M-real ............................................................................................................................................................ 130 

Norske Skog .............................................................................................................................................. 134 

SCA ................................................................................................................................................................. 138 

Stora Enso .................................................................................................................................................. 142 

UPM-Kymmene ....................................................................................................................................... 146 

Telecoms, Media & Technology ................................................................................................... 151 

Elisa ................................................................................................................................................................. 152 

Ericsson ....................................................................................................................................................... 156 

Nokia .............................................................................................................................................................. 160 

TDC .................................................................................................................................................................. 164 

Telenor .......................................................................................................................................................... 168 

TeliaSonera ................................................................................................................................................ 172 

Utilities ............................................................................................................................................................. 177 

DONG Energy ............................................................................................................................................ 178 

Fortum ........................................................................................................................................................... 182 

Neste Oil ...................................................................................................................................................... 186 

Statkraft ....................................................................................................................................................... 190 

Statnett......................................................................................................................................................... 194 

Statoil ............................................................................................................................................................. 198 

TVO .................................................................................................................................................................. 202 

Vattenfall ..................................................................................................................................................... 206 

Vestas ........................................................................................................................................................... 210 

Appendix ......................................................................................................................................................... 215 

3 | 13 April 2011 



4 | 13 April 2011 



Financials 

5 | 13 April 2011 



DnB NOR 

Company overview 

DnB NOR is the largest financial group in Norway and one of the largest banking 

groups in the Nordic region. The bank services more than 2.2 million retail customers 

and 200,000 corporate clients and its domestic market share for retail lending and 

deposits is around 30%. The Group was formed in 2004 through the joining of two 

leading Norwegian financial institutions, Den norske Bank (DnB) and Gjensidige 

NOR, in response to demand from various parties to create a strong, domestically 

based financial services group, which would benefit from the complementary business 

profiles. The bank is a major partner for Norwegian companies abroad as well as 

for large international companies operating in Norway. It is also the largest asset 

manager in Norway. DnB NOR operates through strong additional brands including 

Norway’s largest pension and life insurance company Vital (life insurance), with 

about one million customers, Nordlandsbanken, Gjensidige NOR and Postbanken. In 

addition, the company is one of the world leaders in shipping finance and has top 

expertise in other important industries in Norway, such as fisheries and oil drilling. 

DnB NOR is also the largest real estate broker in Norway. The Norwegian government 

is the biggest shareholder with a 34% stake, while DnB NOR Savings Bank 

foundation holds 10%. 

DnB NOR is active in the Baltic countries through the subsidiary DnB NORD. Last 

year, DnB NOR took full ownership of DnB NORD after the bank acquired Norddeutsche 

Landesbank’s 49% stake. 

Key credit considerations 

Norwegian economy among the strongest in the world 

More than 80% of income is generated in Norway, illustrating the heavy reliance on 

the performance of the Norwegian economy. The Norwegian economy is one of the 

strongest in the world and DnB NOR’s position as a market leader gives it a very 

strong base. We expect Norwegian mainland GDP to increase by a sound 3.4% this 

year and further increase by 3.5% in 2012. The macroeconomic backdrop is therefore 

strong in Norway and further underpinned by healthy public finances. 

The sharp decline in interest rates during the financial crisis prompted a visible rebound 

in the Norwegian housing market and currently house prices are at their highest 

level ever and household indebtedness has continued to increase. Last year the 

central bank increased its policy rate to 2% and going forward more hikes are expected. 

If rate increases accelerate it may be a cause for concern for house prices and 

the economy in general as financing is predominantly linked to the short-term interest 

rate. However, the very low level of unemployment is a mitigating aspect and 

Danske Research expects unemployment to come down to close to 3% in the coming 

years. 

SELL 

Sector: Financials 

Corporate ticker: DNBNOR 

Equity ticker: DNBNOR NO 

Market cap: NOK 142bn 

Ratings: 

S&P rating: A+ (stable) 

Moodys rating: Aa3 (stable) 

Fitch rating: A+ (stable) 

Analysts: 

Henrik Arnt 

henrik.arnt@danskebank.dk 

+45 4512 8504 

Thomas Hovard 

thomas.hovard@danskebank.dk 

+45 4512 8505 

Key credit issues 

Strengths: 

• Exposure to strong Norwegian 

economy 

• 34% owned by the government 

Challenges: 

• Shipping exposure 

• Very high reliance on Norway 


A systemically important institution 

Due to DnB NOR’s high market share within all financial services and products in 

Norway, as well as its substantial size in the domestic payment systems, the Group is 

a systemically important institution. This is further backed by the government’s 34% 

ownership of DnB NOR, which constitutes a blocking minority under Norwegian 

law. We do not expect the government to dispose of its stake. Note that the government 

does not interfere with the daily business of DnB NOR and it holds no seat on 

the board. 

Capitalisation 

By the end of 2010, DnB NOR had a Tier 1 ratio of 10.1% up from 9.3% in 2009. 

The reason behind the big improvement is that risk-weighted assets have fallen as the 

bank has been granted the right to use advanced IRB for its large corporate portfolio. 

Going forward, the RWA may be further reduced during 2011 as DnB NOR migrates 

the rest of its corporate portfolio to advanced IRB. According to DnB, the Tier 1 ratio 

would be 12.3% under full IRB implementation. 

6 | 13 April 2011 



Furthermore, we highlight that Norway has tough rules concerning the capital treatment 

of investments in insurance companies compared to the rest of Europe. If for 

instance, DnB NOR was subject to Swedish rules for insurance exposure, the Tier 1 

ratio would be some 1.5pp higher than the reported ratios. Hence, when comparing 

Norwegian and Swedish banks, the latter will look stronger on headline numbers. 

Overall, the capitalisation of DnB Nor is therefore very sound in our view and on the 

capital side the bank is probably the least affected by Basel III in the Nordic region. 

The strong capital position is also recognised by S&P’s RAC framework where DnB 

ranks among the best capitalised banks in the world. 

Asset quality 

2010 provided a turnaround for asset quality compared with a difficult 2009. The 

loan loss ratio for 2009 fell to 26bp down from 69bp in 2009 and during the year it 

was a declining trend (see graph). The level on impaired loans decreased marginally 

to 2.37% of total loans from 2.41% the year before. The coverage ratio by the end of 

2010 stood at 40%, which is a little lower than peers. 

Generally, credit quality is well supported through DnB’s large exposure to Norway 

and in particular its high relative exposure to households (48% of the loan book is to 

Norwegian households). The Baltics and Poland account for 5% of total lending 

since DnB NOR acquired full ownership of DnB NORD. In our view, exposure to 

shipping is the main adverse credit driver for the Group (see separate section below) 

whereas the rest of the loan book is well diversified. 

Liquidity and funding 

DnB NOR has access to a strong deposit base, as it benefits from its leading position 

in the Norwegian savings markets. At the end of 2010, deposits represented 41% of 

the Group’s total assets and 55% of total lending. Corporate deposits account for a 

significant amount hereof and this is, in our view, a reflection of DnB’s status as a 

strong bank as well as its being a national champion. The reliance on wholesale funding 

is still relatively high although a substantial part of the loan book can be financed 

through issuance of covered bonds in DnB Boligkredit. It is a strategic goal for DnB 

NOR to further increase the balance between loans and deposits in the years ahead 

and to some extent this has already happened. Going forward, DnB wants to be recognised 

as being among the top 15 banks in the world when it comes to accessing 

international capital markets. 

Current performance drivers 

Q4 10 earnings report 

In Q4 10, DnB NOR delivered a very sound report. Net interest income increased 

10% y/y to NOK6.2bn, on the back of expansion in margins as well as volumes. 

Commissions were also ahead of expectations as was trading income. Net profit 

ended at NOK5.3bn compared with consensus expectations of NOK3.1bn and the 

bank continues to benefit from the benign operating environment in Norway. 

Shipping exposure 

DnB NOR is one of the leading shipping banks in the world and the shipping exposure 

represents about 11% of total lending, which is a relatively high level given the 

highly cyclical nature of the shipping business. Recently, freight rates have come 

under pressure again (the Baltic dry index in particular) and this once again turns 

attention towards the shipping exposures of banks. Five year old crude and dry bulk 

carriers are now priced at around half and a third, respectively, of the peak values 

witnessed during H1 08. 


14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 

Source: Company data and Danske Markets 

Loss ratio (% ann.) 

0.9% 

0.8% 

0.7% 

0.6% 

0.5% 

0.4% 

0.3% 

0.2% 

0.1% 

0.0% 

2006 2007 2008 2009 2010 

Q2 08 Q4 08 Q2 09 Q4 09 Q2 10 Q4 10 

Source: Company data & Danske Markets 

Funding mix 2010 

Market 

funds 

33% 

Core capital ratio 

Equity 

Sub debt 7% 

3% 

Interbank 

17% 

Total capital ratio 

Retail 

deposits 

25% 

Corporate 

deposits 

16% 


So far, shipping losses have remained low – in Q4 10 as low as NOK36m. This suggests 

that DnB has a high quality shipping loan book and generally, DnB NOR is 

exposed to the largest and most solid players in the shipping business, which is a 

result of a strategy change in the 1990s. Consequently, we believe that DnB will be 

7 | 13 April 2011 



hit relatively late in the ‘shipping cycle’. However, covenant breaches have been 

widespread in recent years. 

Baltic and Polish exposure increased following purchase of DnB NORD 

DnB NOR announced at the end of 2009 that it had initiated an evaluation process 

run during 2010 by which it entered into negotiations with Nord LB concerning DnB 

NORD. This process was finalised in December last year resulting in DnB NOR 

acquiring Nord LB’s 49% stake in DnB NORD. The price was around 0.6x book 

value and it will result in a de-facto doubling of the Baltic and Polish exposure to 

some 5% of the total loan book. 

We were initially rather negative on the announcement as at the time we considered 

Baltic exposure to be risky due to the magnitude of the crisis. In the last year, however, 

a remarkable recovery has taken place in the Baltic countries and visibility has 

been much improved not least in Estonia, which adopted the euro at the beginning of 

this year. As things are turning out it may very well be that DnB NOR has made an 

astute deal. Overall we therefore do not consider Baltic risk to be a main credit driver 

for DnB NOR. 

Recommendation 

A strong domestic economy as well as a supportive ownership structure is positive 

credit factors and profitability is high once again. Shipping exposure remains our 

main concern, but so far it has not given rise to large losses and we therefore consider 

this segment to be well managed. The increasing Baltic exposure following the buyout 

of Nord LB’s minority stake in DnB NORD is currently not a major concern 

given the strong recovery in the Baltics and the still modest relative importance of 

the Baltic operations. On the longer horizon, risks may arise if the Norwegian housing 

market overheats, but we currently consider such concerns premature. 

Spreads in DnB have outperformed over the last year and now only trade wider than 

Handelsbanken (if looking at fixed bonds). Generally, we are of the view that the 

large banks in the Nordic region remain a relatively safe play in 2011, as we do not 

foresee a turn for the worse. Against this background, we believe it would be better 

to pursue a pick-up in some of the other names and we move our recommendation 

from HOLD to SELL. Please see list of instrument prices at the end of this book. 

Earning assets mix 2010 

Securities 

27% 

Due from 

banks 

3% 

Source: Company reports & Danske Markets 

Revenue split 2010 

Other 

income 5% 

Financial 

income 

13% 

Fees and 

commissions 

20% 

Retail 

34% 

Corporate 

36% 

Net interest 

income 

59% 


Efficiency and earnings 

53% 

52% 

51% 

50% 

49% 

48% 

47% 

46% 

45% 

44% 

2006 2007 2008 2009 2010 

2.5% 

2.0% 

1.5% 

1.0% 

0.5% 

0.0% 

Recurring earnings power, RHS 

Cost/income 

Source: Company reports & Danske Markets 

8 | 13 April 2011 



Financial data DnB NOR 

P&L (NOKm) 2006 2007 2008 2009 2010 

Net interest income 15,289 17,866 21,909 22,633 23,436 

Fees and commissions 6,710 7,084 6,894 6,655 7,041 

Net result from financial transactions 3,610 3,185 3,631 6,286 4,961 

Other income 2,713 3,454 1,573 1,960 3,974 

Total revenue 28,322 31,589 34,007 37,534 39,412 

Personnel costs 7,967 9,413 9,463 9,917 9,259 

Other costs 5,745 6,005 7,040 6,784 6,995 

Depreciation and amortization 715 1,032 1,121 1,480 2,256 

Total costs 14,427 16,450 17,624 18,181 18,510 

Preprovision income (PPI) 13,895 15,139 16,383 19,353 20,902 

Loan losses and provisions -258 220 3,509 7,710 2,997 

Operating profit (core earnings) 14,153 14,919 12,874 11,643 17,905 

Non-recurring items 536 2,490 -307 -531 279 

Pre-tax income 14,689 17,409 12,567 11,112 18,184 

Tax 2,881 2,387 3,334 4,086 4,121 

Net income 11,808 15,022 9,233 7,026 14,063 

Adjusted net income 11,300 12,299 10,570 9,209 14,716 

Balance sheet (NOKm) 2006 2007 2008 2009 2010 

Due from central banks and credit institutions 82,544 74,195 110,864 94,176 63,990 

Lending to general public 827,947 970,504 1,191,927 1,114,886 1,170,341 

Securities 285,877 285,925 317,566 463,474 458,844 

Earning assets 1,196,368 1,330,624 1,620,357 1,672,536 1,693,175 

Other assets 123,875 143,294 211,737 150,917 168,445 

Total assets 1,320,243 1,473,918 1,832,094 1,823,453 1,861,620 

Deposits from the general public 474,526 538,151 597,242 590,745 641,914 

Issued securities incl. covered bonds 326,806 371,784 606,222 493,732 501,668 

Subordinated debt ex hybrid 28,374 24,264 35,280 30,396 25,056 

Hybrid securities (Tier 1) 5,603 8,962 9,945 8,655 8,423 

Equity 64,211 73,314 77,337 98,648 111,196 

Risk weighted assets (RWA) 880,292 991,455 1,199,653 1,052,566 1,028,404 

Key ratios 2006 2007 2008 2009 2010 

Net interest margin 1.4% 1.4% 1.5% 1.4% 1.4% 

Recurring earnings power (1) 1.7% 1.6% 1.5% 1.7% 2.0% 

Return on average assets (before tax) 1.0% 1.1% 0.6% 0.4% 0.8% 

Return on average equity before tax 24.2% 25.3% 16.7% 12.6% 17.3% 

Return on average equity after tax 19.4% 21.8% 12.3% 8.0% 13.4% 

Cost/income 50.9% 52.1% 51.8% 48.4% 47.0% 

Problem loans/Total loans 0.5% 0.4% 1.0% 2.4% 2.4% 

Loan loss provisions / Total loans 0.0% 0.0% 0.3% 0.7% 0.3% 

Loan loss reserves/Problem loans 125.5% 124.7% 41.3% 39.9% 40.3% 

Loan loss reserves/Pre-provision income 34.3% 34.4% 30.0% 55.4% 53.3% 

Avg. customer deposits/avg. total funding 50.8% 49.5% 45.1% 41.6% 43.1% 

Market funds / total funding 47.4% 47.3% 55.2% 54.8% 51.3% 

Avg. gross loans/avg. customer deposits 172% 178% 190% 194% 185% 

Lending growth 18.7% 17.2% 22.8% -6.5% 5.0% 

Payout ratio 45.7% 40.6% 0.0% 33.2% 44.0% 

Core capital ratio incl hybrid 6.7% 7.2% 6.7% 9.3% 10.1% 

Core capital ratio ex hybrid 6.1% 6.3% 6.7% 8.5% 9.2% 

Total capital ratio 10.0% 9.6% 9.5% 12.1% 12.4% 

Source: Company data and Danske Fixed Income Credit Research 

P&L (NOK m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 



Net result from financial transactions & trading 1,066 1,298 1,754 225 1,684 

Pre-provision income (PPI) 4,495 4,877 4,704 4,713 6,022 

Loan losses -1,517 -947 -878 -643 -529 

Net profit 2,122 3,115 3,266 3,085 5,346 

Lending to general public 1,114,886 1,125,946 1,154,491 1,152,001 1,170,341 


Recurring earning power (1) 1.7% 1.9% 1.7% 1.7% 2.3% 

Cost/income 49.0% 45.8% 50.0% 48.7% 43.4% 


Loss ratio (% ann.) 0.5% 0.3% 0.3% 0.2% 0.2% 

Leverage ratio (core capital/total assets) 5.4% 5.3% 5.0% 5.3% 5.6% 

Core capital ratio (Tier 1) 9.3% 9.3% 9.0% 9.2% 10.1% 

Total capital ratio (Tier 1 + Tier 2) 12.1% 12.1% 11.6% 11.7% 12.4% 


9 | 13 April 2011 



FIH 


FIH Erhvervsbank (FIH), established in 1958, is a Danish wholesale niche bank 

specialising in long-term financing for both small and medium-sized enterprises and 

large corporations. FIH has a share of around 10% of the market for lending to domestic 

non-financial companies. At the end of 2010, FIH was the sixth-largest bank 

in Denmark, measured by its total assets of DKK109bn. Following a strategic decision 

at the beginning of 2011 to reduce risk (a back to old virtues approach) meant 

that FIH has quit Private Equity and Property finance will be downscaled. FIH’s 

operations are organised into three main business areas: Banking (Corporate Banking, 

and Acquisition Finance, Capital Markets, and Corporate Finance (investment 

banking activities in FIH Partners A/S). FIH’s core customers (SMEs with assets of 

more than DKK10m) are served through the Copenhagen head office and the four 

regional branches located in the main industrial areas of Denmark (Frederica, Herning, 

Aarhus and Aalborg). 

FIH was acquired by Kaupthing Bank in 2004, but after the collapse of Kaupthing 

the shares of FIH were pledged by the Icelandic government. In September 2010, 

FIH announced that a consortium of ATP (49.95%), PFA (19.98%), Folksam 

(19.98%) and CPDyvig (9.99%) had acquired the bank. The purchase was completed 

in January 2011. 


Ownership puzzle resolved 

After the collapse of Kaupthing Bank in 2008, FIH had been in an ownership vacuum, 

but this has now been resolved. The ownership consortium consists of the largest 

Danish pension fund ATP (government owned), the Danish pension fund PFA, 

the Swedish pension fund Folksam (mutual company, among the biggest market 

players in Sweden) and private equity investment from CPDyvig. 

We regard the new owners as a credit-positive due to their financial strength and 

ability to deliver liquidity and capital support if needed. 

Rating 

In September 2010, Moody’s upgraded the stand-alone rating of FIH one notch to D 

(Ba2 equivalent) due to the change of ownership. At the same time Moody’s reduced 

the uplift due to systemic support to 2 notches resulting in the same long-term rating 

of Baa3. 

Following the collapse of Amagerbanken and the resulting hair cuts on senior unsecured 

debt, Moody’s changed its stance on Denmark from being a high-support country 

to being a low-support country. Consequently, government support was removed 

from all but the four largest banks. The expected funding pressure has made Moody’s 

put all Danish banks’ stand-alone ratings on negative outlook (also spurred by very 

modest macroeconomic recovery in Denmark). 

HOLD 

Sector: Financials, Banks 

Corporate ticker: FINDAN 

Equity ticker: Not listed 

Market cap: n.a. 

Ratings: 

S&P rating: NR 

Moodys rating: (D) Ba1/ 

NW 

Fitch rating: NR 

Analysts: 

Thomas Hovard 


+45 4512 8505 

Henrik Arnt 


+45 4512 8504 


Strengths: 

• Financially strong new owners 

• Strong short-term liquidity 

• Leading position in SME lending 

• Sound capitalisation 

Challenges: 

• High wholesale funding dependency 

• Very high refinancing risk of govie 

guaranteed debt 

• Asset quality deterioration 

• Industry concentration 


Currently, the long-term rating of FIH has a one notch uplift due to the new ownership, 

but with a negative watch as Moody’s is awaiting the outcome of a proposal 

allowing government-owned ATP to be majority owner of a bank. Late March the 

government proposal was ready for parliament (not legislation yet) with a majority 

backing it. In light of the proposal, we expect more upward than downward pressure 

going forward. The likelihood of attracting funding has increased significantly on the 

back of the change in the existing law. 

10 | 13 April 2011 



Asset quality 

Historically, FIH has a strong track record in managing its loan portfolio through 

economic cycles, and available levels of specific collateral act as a further cushion 

against any expected or unexpected credit losses. However, the financial crisis has 

also caused a significant deterioration in the asset quality of FIH. 

Loan losses almost doubled in 2010 to DKK1.7bn, corresponding to 285bp of the 

loan book, somewhat higher than its Danish peers. The bulk of the loan losses were 

taken in Q4 in which provisioning exploded to DKK1.2bn (mainly due to writedowns 

of collateral and increased collective provisioning) compared to DKK169m in Q4 09 

and DKK237m in Q3 10. Actually the loan loss provision in Q4 was higher than the 

booked provision for the entire troublesome 2009 corresponding to 8.2% of the loan 

book (annualised). 

The level of gross non-performing loans increased to DKK6.4bn from DKK4.5bn the 

year before and amounted to 11% of the loan book. Coverage (provisioning rate nonperforming 

loans) stood at 41%. No doubt that the new owners and the new co-CEO 

(former head of investments in ATP) are cleaning up the balance sheet and getting 

ready for a new start, but the increased levels of provisions and problem loans are 

also fuelled by lower assessed values of the collateral and do raise some concerns. 

Loan loss ratio (ann.) 

9,0% 

8,0% 

7,0% 

6,0% 

5,0% 

4,0% 

3,0% 

2,0% 

1,0% 

0,0% 

Q2 08 Q4 08 Q2 09 Q4 09 Q2 10 Q4 10 


In the banking division, FIH has a target of maximum property finance exposure of 

30%. Currently, the largest sector exposure in the loan book is to real estate management 

with 32% of the corporate loans, highlighting meaningful industry concentration 

in the loan book. The real estate exposure is split into four sub-categories, 

with the largest part relating to first priority pledges on company property and operating 

equipment to companies outside the real estate sector. The real estate exposure is 

mainly split between Denmark and Germany and FIH has announced that the exposure 

will be reduced in 2011 and 2012. 

A mitigating factor is that, according to Moody’s, the real estate portfolio is fairly 

well diversified. Finally, it is worth noting that FIH has substantially reduced its large 

exposures to 66% of the capital at end-2010 (2008: 157%, 2009:71%). 


Only a very moderate part of FIH’s funding stems from depositors, and traditionally 

the bank depends on wholesale funding. We expect this to more or less continue in 

the (near) future, but in our view the new ownership consortium creates a strong 

funding backdrop (see above). 

Going forward, new owner ATP has initially granted FIH a committed credit facility 

of DKK10bn (not utilised end 2010), in addition to the DKK50bn governmentguaranteed 

frame. 

Loans and deposits Funding mix 2010 

80.000 

70.000 

60.000 

DKKm Loans Deposits Equity Deposits 

Sub debt 8% 

8% 

5% 


Financial 

income 

52% 


Other 

income 

3% 

Net 

interest 

income 

39% 

Fees and 

commissi 

ons 

6% 

50.000 

40.000 

Interbank 

31% 

30.000 

20.000 

10.000 

- 

Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Market 

funds 

48% 

Source: Company data, Danske Markets 


11 | 13 April 2011 



The short-term liquidity in FIH is sound, with an excess coverage of the requirement 

of 71.4% backed by a large holding of fixed income securities. The ATP facility is 

not included in current liquidity but provides additional liquidity back-up. 

Moreover, we believe that the consortium could provide funding by bilateral loans if 

FIH is not able to attract wholesale funding in the markets. To conclude, FIH’s funding 

situation remains the key risk but has improved materially with the new owners. 


In accordance with Danish Bank Package II, FIH was granted a hybrid loan of 

DKK1.9bn, which currently accounts for 2.5 percentage-points of RWA. 

The capitalization of FIH continues to improve as a combined result of positive income 

generation, lack of dividend payments and the reduction in risk-weighted assets 

(down 13% y/y). By the end of 2010, the Tier 1 ratio was 13.3%, up from 11.4% the 

previous year, while total capital increased to 15.4%, from 13.8%. Importantly, equity 

Tier-1 ratio (excluding hybrids) is high at 10.8% (up from 9.1%) and capitalization 

is sound at FIH, we believe (FIH’s individual solvency requirement, as set by the 

Danish FSA, was 9.9% and the bank is therefore well capitalized). Note that FIH did 

not call an outstanding Tier 2 issue in March last year, as the bank considered it did 

not have access to the bond markets for subordinated debt. FIH has some subordinated 

bonds with first call dates this year, which we don’t expect it will call. 


Recent results Q4 10 

The operating result in Q4 was very weak and FIH numbers came in black only due 

to an extraordinary income of DKK881m (value adjustment of private equity stake in 

the Axcel III fund, due to the IPO of Pandora). Net interest income was down by 

44% q/q as the fees on government-guaranteed funding are now booked as interest 

expenses (furthermore volume is down 3% but margins on loans are higher). Fee 

income was a bit lower and trading income adjusted for the Pandora stake was close 

to zero (although an improvement q/q and y/y). 


FIH remains reasonably well capitalised and short-term liquidity is abundant. The 

key risk is medium-term funding with DKK50bn of government-guaranteed funding 

expiring in 2012 and 2013. 

Going forward, a business model with a high reliance on wholesale funding will 

remain a challenge in the short to medium term but the new owners could act as a 

back-stop for funding. This could also increase the willingness from depositors to 

make deposits above the deposit guarantee of (equivalent to) EUR100,000 although 

short term this source of funding is likely to remain rather marginal for FIH. 


18% 

15% 

12% 

9% 

6% 

3% 

0% 


Earnings and Efficiency 

60% 

50% 

40% 

30% 

20% 

10% 

0% 



Individual solvency requirement 

2005 2006 2007 2008 2009 2010 

2005 2006 2007 2008 2009 2010 

Recurring earnings power, RHS Cost/income 

Note: Adjusted for Pandora stake. Source: Danske 

Markets 


Retail 

0% 

1,8% 

1,5% 

1,2% 

0,9% 

0,6% 

0,3% 

0,0% 

With the current funding gap, taking a stance on FIH bonds is taking a stance on the 

commitment of the new owners. We regard the new ownership consortium, primarily 

consisting of financially robust pension funds, as very positive for both senior and 

subordinated debt. We struggle to see a scenario in which the new owners would 

simply “throw in the towel” instead of granting further support to FIH if necessary. 

This is also the context the new ATP law (which allows ATP to take full ownership 

of FIH. Note that the law has not been passed yet) must be seen in. 

That said we still need to see the first signs of non-government related funding and 

we need to see asset quality improvements in 2011. Thus we keep our overall HOLD 

recommendation but highlight that for very risk tolerant investors, FIH could be an 

interesting opportunity. (See list of outstanding instrument prices at the end of this 

book). 

Securities 

36% 

Due from 

banks 

4% 


Corporate 

60% 

12 | 13 April 2011 



Financial data FIH 

P&L (DKKm) 2006 2007 2008 2009 2010 


Fees and commissions 96 257 213 134 190 

Net result from financial transactions 508 510 -53 511 1,639 

Other income 95 95 107 110 84 

Total revenue 1,701 1,981 1,552 2,055 3,116 

Personnel costs 308 476 459 440 409 

Other costs 190 228 270 226 199 

Depreciation and amortization 42 38 59 30 26 

Total costs 540 741 787 696 633 

Pre-provision income (PPI) 1,161 1,239 765 1,359 2,483 

Loan losses and provisions -17 -19 449 969 1,741 

Operating profit (core earnings) 1,178 1,259 316 391 742 

Non-recurring items 0 17 -108 -538 -426 

Pre-tax income 1,178 1,276 207 -148 316 

Tax 243 153 24 -159 -208 

Net income 935 1,123 184 11 525 

Adjusted net income 935 1,123 310 540 950 

Balance sheet (DKKm) 2006 2007 2008 2009 2010 


Lending to general public 67,579 75,015 72,615 64,134 57,994 

Securities 13,117 14,582 30,546 53,128 34,699 

Earning assets 87,356 94,611 108,855 121,066 96,418 

Other assets 8,642 18,746 13,270 9,290 12,920 

Total assets 95,998 113,357 122,125 130,356 109,338 




Hybrid securities (Tier 1) 0 0 0 1,914 1,900 

Equity 6,695 7,750 7,809 7,820 8,334 

Risk weighted assets (RWA) 80,930 91,626 87,947 87,819 76,532 

Key ratios 2006 2007 2008 2009 2010 




Return on average equity before tax 18.9% 17.7% 2.7% -1.9% 3.9% 


Cost/income 31.7% 37.4% 50.7% 33.9% 20.3% 






Market funds/total funding 84.8% 82.9% 64.3% 75.6% 83.8% 

Avg. gross loans/avg. customer deposits 1254.4% 832.4% 346.4% 259.0% 433.1% 

Lending growth 16.9% 11.0% -3.2% -11.7% -9.6% 

Payout ratio 0.0% 0.0% 0.0% 0.0% 0.0% 




Source: Company data, Danske Fixed Income Credit Research 

P&L (DKK m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net interest income 317 341 356 324 182 


Net result from financial transactions & trading -127 306 122 -88 5 

Pre-provision income (PPI) 116 538 311 165 94 

Loan losses -169 -111 -189 -237 -1,205 

Net profit 178 201 21 199 23 


Net interest margin (ann.) 1.1% 1.1% 1.2% 1.3% 0.8% 

Recurring earning power (ann.) 0.5% 2.5% 1.5% 0.8% 0.5% 

Cost/income 57.4% 22.1% 44.8% 47.8% 62.7% 


Loan loss ratio (% ann.) 1.0% 0.7% 1.2% 1.6% 8.2% 





13 | 13 April 2011 



Handelsbanken 


Established in 1871, Svenska Handelsbanken (Handelsbanken) provides a full range 

of retail, commercial and investment banking services through its extensive branch 

network in Sweden, other Nordic countries and the UK. Based on total assets, Handelsbanken 

is the third-largest Swedish after Nordea and SEB. The bank offers universal 

banking in all of the Nordic countries (Sweden, Norway, Denmark and 

Finland). The operations outside Sweden continue to grow in importance and now 

account for around a third of the loan book. Going forward, Handelsbanken has identified 

scope for growth in the UK and therefore aims to further build up its presence 

there by growing organically. Currently, the UK operations account for 4% of total 

lending. In total, Handelsbanken has 720 branches in more than 20 countries. It has a 

distinct culture with no centralised marketing and no budgets, for example. Instead, it 

uses internal and external benchmarking extensively. Handelsbanken’s goal is to 

have higher profitability than its competitors through having more satisfied customers 

and lower costs (including loan losses). This goal has been achieved for 39 consecutive 

years. 

Handelsbanken has a domestic market share above 25% in mortgage lending 

(through Stadshypotek AB, which was acquired in 1996) and corporate lending. In 

2007, the bank sold its sizeable life insurance operations (SPP) to Storebrand, which 

leaves Handelsbanken Liv as the only life insurance arm of the group. The bank has a 

market share of around 20% of total household lending and deposits in Sweden. The 

main aim is to grow organically in its home markets and the UK, although bolt-on 

acquisitions are also made. The two largest shareholders are the bank’s own profitsharing 

foundation, the Oktogonen Foundation, and Industrivärden (both with 10% 

of the shares). 


Strong track record and high efficiency 

Handelsbanken is known for being one of the most efficient and conservative banks 

in Europe, operating its franchise on a lean cost base despite ongoing investments in 

an expansion strategy outside Sweden. In 2010, Handelsbanken had a cost-income 

ratio of 48% (2009: 47%). From a credit viewpoint, a low cost-income ratio provides 

Handelsbanken with greater flexibility in more difficult times and helps it to cope 

with competitive pressures. Of the four large Swedish banks, Handelsbanken handled 

the early-1990s crisis the best by not needing public support, reflecting its conservative 

and prudent approach. In the current crisis, Handelsbanken has once again 

proved its defensive qualities, proving resilient to the downturn compared with its 

peers. 

SELL 


Corporate ticker: SHBASS 

Equity ticker: SHBA SS 

Market cap: SEK136bn 

Ratings: 

S&P rating: Aa2 (stable) 

Moodys rating: AA- (stable) 

Fitch rating: AA- (stable) 

Analysts: 

Henrik Arnt 


+45 4512 8504 

Thomas Hovard 


+45 4512 8505 


Strengths 

• Strong track record 

• High efficiency 

• Low cyclicality 

Challenges 

• Swedish economy sensitive to 

higher interest rates 

• High exposure to real estate market 


Swedish economy is among Europes strongest 

The domestic economic development is central to the prospects for Handelsbanken as 

most of the company’s’ activities are in Sweden (68% of the loan book). The domestic 

Swedish economy fared relatively well throughout the financial crisis and a strong 

recovery has taken place recently. The most recent GDP numbers showed that in the 

fourth quarter of 2010 the Swedish economy grew by 7.3% y/y. The macroeconomic 

backdrop is therefore highly supportive for the banking system. 

During the recent crisis the central bank aggressively lowered its target rate. As the 

bulk of Swedish mortgages are tied to the short-term rate (1M or 3M STIBOR), this 

corresponded to an expansionary economic policy to the benefit of the domestic 

economy and house prices in particular. We believe that this stimulus via the steep 

14 | 13 April 2011 



decline in short-term interest rates is a key explanation for the low Swedish loan 

losses in the past few years. 

Naturally, the transmission also works the other way i.e. when rates go up this is felt 

with immediate effect and the Riksbank started hiking its policy rate in September. 

So far, the level remains low and by the end of the year the repo rate is expected by 

our macro team to be 2.75%, by no means at an alarming level. In fact, a modest 

increase in the policy rate is probably net positive for the banks, as it allows them to 

increase deposit margins without really jeopardising asset quality. In the short to 

medium term, we therefore fail to see any major negative credit triggers. Our main 

concern would be if we see inflationary signs in Sweden, as this could result in a 

more aggressive hiking path from the Riksbank. 


Handelsbanken reported a full Basel II Tier 1 ratio of 16.5% at the of the year (up 

from 14.2% a year earlier), while under the transition rules the Tier 1 ratio was 9.2%. 

In our view, the big difference between transition ratios and full Basel II ratios is a 

reflection of the low risk of the loan book and the strict focus on, for example, collateral 

management. Overall, Handelsbanken is well capitalised. Handelsbanken has 

communicate that, according to its internal calculation, the impact of Basel III on 

capital ratios is expected to be minus 1.5 percentage points. 

Asset quality 

Asset quality remains strong, although problem loans increased slightly from the 

previous quarter to 0.62% of total loans. Loan losses in the fourth quarter remained at 

the same level as the previous quarter, corresponding to 8bp of total lending. 

The level of non-performing loans at Handelsbanken has been at a consistently low 

level for many years and currently stands at 0.6% of total lending. Handelsbanken 

maintains a high degree of collateralised loans, most of them against real estate. The 

largest sector exposure is to the Scandinavian real estate market (predominantly 

Sweden). Within corporate lending, the largest exposure is to real estate management 

and housing associations (58% of the corporate loan book at end-2010). This is a 

very high exposure but the predominant proportion of this lending is to governmentowned 

property companies, municipal housing companies, housing co-operatives and 

other housing-related operations, where borrowers have high creditworthiness. Furthermore, 

21% of it is based on mortgage loans through Stadshypotek. 

Loan losses in the Danish business were higher than total loan losses for the group – 

i.e. excluding Denmark there was a net reversal of provisions. In our view, the losses 

in Denmark are likely to be a legacy of the 2008 takeover of the Danish regional 

bank, Lokalbanken, and for some time we had been puzzled about the low level of 

losses that Handelsbanken has reported in Denmark. We would not be surprised if 

reported loan losses from Denmark stay elevated in the coming quarters. 


Deposits account for 29% of total funding, while more than half of the funding is 

obtained through the debt market. The reason for this relatively high wholesale funding 

dependence is the financing of mortgage bonds. The other major source of funding 

is issuance of AAA-rated covered bonds through Stadshypotek, which are issued 

to finance mortgage lending. Handelsbanken has available liquidity of SEK177bn 

and it still has plenty of room for issuing covered bonds (more than SEK320bn). 

Going forward, we expect Handelsbanken to continue to use this headroom mainly 

for covered bond issuance, rather than turning to senior unsecured market. 

Capitalisation (transition rules) 

15% 

12% 

9% 

6% 

3% 

0% 


Loss ratio (% annualised) 

0.3% 

0.2% 

0.1% 

0.0% 

2006 2007 2008 2009 2010 



Funding mix, 2010 


Q1 09 Q3 09 Q1 10 Q3 10 

Market 

funds 

50% 

Sub debt Equity 

2% 5% 

Retail 

deposits 

12% 


Corporate 

deposits 

17% 

Interbank 

14% 

Throughout the crisis, Handelsbanken has been a frequent issuer and we consider the 

investor appetite for the name to be good. Combined with a low appetite for market 

risk, we view Handelsbanken’s funding as strong. 

15 | 13 April 2011 





Net income came in at SEK2.9bn, slightly above consensus expectations of 

SEK2.8bn. This was also the case in Sweden: in Q4 2010, net interest income was a 

little better than expected on the back of improving deposit margins. Furthermore, 

the loan volume was slightly up from the previous quarter. Net commission income 

increased to its highest level ever at SEK 2.1bn, due in particular to an increase in 

fees relating to the equity market. 

Bolt-on acquisitions a possibility 

In September 2008, Handelsbanken made an offer to acquire the small Danish local 

bank, Lokalbanken, located North of Copenhagen. Following the acquisition, Handelsbanken 

has more than 50 branches in Denmark. We would not be surprised if 

Handelsbanken were to decide to pursue more acquisitions in the Nordic region. We 

believe that these would likely be bolt-on acquisitions rather than larger-scale. 

Revenue split, 2010 

Fees and 

comm. 

26% 

Financial 

income 

4% 

Other 

income 

2% 

Net 

interest 

income 

68% 


Hawkish Swedish regulators is supportive for credit quality 

In March, the Swedish regulators as well as the Minister of Finance, communicated a 

rather hawkish stance on bank regulation. Sweden should move ahead of Basel III 

and regulatory core capital levels should increase by 1% annually in the next few 

years, thereby restricting the possibility for banks to pay large dividends. A core Tier 

1 level of 10% and a total capital ratio of 15% will be the target levels for regulation 

in Sweden. This is significantly above the Basel III minimum requirements. 


Due from 

banks 

9% 

Securities 

9% 

Retail 

37% 

Furthermore, the central bank talked about higher risk weightings on Swedish mortgages, 

as this would be an effective way of curbing the high growth in mortgage 

lending that is currently taking place in Sweden. However, the Swedish FSA has 

communicated that they are not in favour of an increase in risk weights. Instead they 

prefer more rigorous stress testing as well as additional capital requirements through 

Pillar 2 (under Basel II). 

Overall, Swedish banks will face a need to act rather conservatively in the next few 

years in order to further build up or protect capital levels. This is positive from a 

credit perspective. We also note the regulatory focus on the housing market. Last 

year, the LTV requirements for Swedish mortgages were lowered and now the regulators 

want to increase the risk weighting. To us, this is a positive development as it 

reduces the risk of Sweden building up a housing bubble similar to what we saw in 

Denmark, for example. 


Handelsbanken is a defensive play and, despite the hiccup in its Danish business, 

asset quality remains strong, as does the capital position. The strong fundamentals 

are reflected in pricing and Handelsbanken trades tighter than its peers in both cash 

and CDS. For pure valuation reasons, we therefore have a SELL recommendation on 

the name. We would hold the subordinated Tier 1 bond with call in 2015 (it does not 

have a regulatory par call), as it is likely to remain well bid among retail investors. 

See a list of instrument prices at the end of this book. 



60% 

40% 

20% 

0% 

Corporate 

45% 

2006 2007 2008 2009 2010 

Cost/income 


Source: Company reports, Danske Markets 

3.0% 

2.6% 

2.2% 

1.8% 

1.4% 

1.0% 

16 | 13 April 2011 



Financial data Handelsbanken 

P&L (SEKm) 2006 2007 2008 2009 2010 



Net result from fin. transactions 3,448 3,054 3,169 2,457 1,377 

Other income 767 616 703 459 549 

Total revenue 26,258 27,023 29,890 32,309 31,285 


Other costs 3,955 4,487 5,115 4,719 5,062 

Depreciation and amortisation 366 353 0 483 452 

Total costs 11,505 12,368 13,229 15,220 15,018 




Non-recurring items 2,290 4,758 457 66 10 

Pre-tax income 17,098 19,386 15,513 13,763 14,770 

Tax 3,970 3,879 3,382 3,519 3,962 

Net income 13,128 15,507 12,131 10,244 10,808 


Balance sheet (SEKm) 2006 2007 2008 2009 2010 

Due from cent banks & credit instns. 177,175 185,149 316,656 323,138 263,100 


Securities 266,743 175,982 97,270 95,729 157,448 


Other assets 245,552 205,263 263,383 226,793 251,304 

Total assets 1,790,008 1,859,382 2,158,784 2,122,843 2,153,530 


Issued securities incl. cov. bonds 595,001 706,478 895,709 966,075 963,501 



Equity 66,226 74,491 74,963 83,088 88,391 

Risk weighted assets (RWA) 876,178 1,069,290 1,083,629 940,385 954,304 

Key ratios 2006 2007 2008 2009 2010 



Return on ave. assets (before tax) 0.8% 0.8% 0.6% 0.5% 0.5% 



Cost/income 43.8% 45.8% 44.3% 47.1% 48.0% 


Loan loss provisions/Total loans 0.0% 0.0% 0.1% 0.2% 0.1% 


Loan loss reserves/Pre-prov. income 13.5% 12.7% 16.5% 31.5% 34.4% 

Avg. cust. deposits/avg. tot. funding 34.5% 34.1% 31.2% 30.1% 30.1% 


Avg. gross loans/avg. cust. deposits 221% 229% 263% 271% 270% 

Lending growth 11.9% 17.5% 14.6% -0.3% 0.3% 

Payout ratio 38.6% 54.3% 36.0% 48.7% 50.9% 

Core capital ratio incl. hybrid 6.8% 6.5% 7.0% 9.1% 9.2% 




P&L (SEK m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 



Net result from fin. trans. & trading 497 500 424 177 276 


Loan losses -691 -551 -369 -294 -293 

Net profit 2,516 2,853 2,573 2,707 2,892 




Cost/income 51.1% 45.8% 49.0% 48.1% 49.2% 


Loan loss ratio(% ann.) 0.2% 0.1% 0.1% 0.1% 0.1% 

Leverage ratio (core capital/tot. assets) 4.0% 3.9% 3.7% 4.0% 4.1% 




17 | 13 April 2011 



Jyske Bank 


Jyske Bank is a full-service commercially oriented Danish bank with a nationwide 

Danish presence and a minor international presence. Measured by assets, Jyske is the 

third-largest bank in Denmark with a total lending market share of around 3-4% and 

5-6% of the domestic banking market. The bank’s historical base in Jutland was 

established in 1967 through the merger of four regional banks in the mid-Jutland 

area. Following the merger of three other smaller banks and the acquisition of Copenhagen-based 

Finansbanken in 1981, Jyske Bank achieved nationwide coverage. 

The group operates around 120 branches in Denmark and has around 500,000 Danish 

customers. Outside Denmark, Jyske Bank has full subsidiary banks in Switzerland 

and Gibraltar and branches in Hamburg and Cannes. In addition, Jyske has joint 

venture ownership in JN Data (IT services) with Nykredit, strategic ownership in 

Letpension (life & pensions) and Bankdata (IT development), BankInvest (7%) and 

60% ownership in the Dutch Berben (Asset Management). Mortgage lending is provided 

through a strategic partnership with Nykredit/Totalkredit/DLR while life insurance 

is offered in co-operation with PFA. These partnerships enable the bank to 

provide a full range of financial services. 


Independent bank with organic growth strategy 

Jyske Bank is an autonomous, listed commercial bank incorporated in Denmark. The 

largest shareholder is Nykredit with 7% of the shares but without any control, 

whereas all other shareholders with the exception of Baillie Gifford & Co. Ltd 

(5.1%) have stakes of less than 5%. Jyske Bank is focused on remaining independent 

and aims to be the most customer-friendly full-service bank for households and 

SMEs in Denmark, emphasising organic growth. The bank has taken several steps in 

this direction. Very strict ownership rules, including voting restrictions, combined 

with a high proportion of shareholders with relatively low stakes protect the bank 

from hostile acquisitions and outside influence. In addition, in 2006, the bank completed 

a new strategic concept with which it created a new atmosphere for its banking 

activities. Customers are welcomed into modern, colourful branches with libraries 

and business magazines. The new advisory-focused concept offers customers a 

broader range of banking and near-banking products. The development of the concept, 

including the refurbishment of branches, has weighed on Jyske Bank’s costs – 

especially in 2006 but also since then. 

Asset quality 

The bank has a strong corporate lending profile (2010: 60% of lending), which 

mostly consists of SMEs operating in Denmark. Single-name exposures have been 

significantly reduced in recent years. By end-2010, the sum of the largest credit exposures 

was 32.5% of regulatory capital compared with 59% in 2008 and 27% in 

2009. The current level is below the Danish banking sector average – a factor we 

view as positive. Jyske’s lending portfolio is concentrated on Danish customers 

(above 90%) but is well diversified by industry, with the Finance and Insurance 

sector (23%) having the largest industry exposure. Lending to the real estate sector 

was 9% at end-2010. 

SELL 

Sector: Financials, banks 

Corporate ticker: JYBC 

Equity ticker: JYSK DC 

Market cap: DKK 16bn 

Ratings: 

S&P rating: A /N 

Moodys rating: A1 / NW 


Analysts: 

Thomas Hovard 


+45 4512 8505 

Henrik Arnt 


+45 4512 8504 


Strengths: 

• Good liquidity 

• Strong capitalisation 

• Modest single-name exposure 

Challenges: 

• Asset quality deterioration in SME 

segment and agriculture 

• Efficiency 


In contrast to Danish peers, loan losses decreased in Q4 with an annualised loan loss 

ratio of 100bp versus 115bp in Q3 and 344bp in Q4 09. Historically, Jyske Bank has 

reported significantly higher loan losses in Q4 and we therefore regard the decreasing 

Q4 provisioning as very positive. However, the share of loans in Jyske Bank’s problem 

loans (measured by lowest rating classes 12-14) increased markedly in Q3 and 

further in Q4. 

18 | 13 April 2011 



Lending growth stabilising 

In 2006, lending growth was 17.1% and in 2007 it was nearing an unsustainable 25% 

(well above the sector average). However, in 2008, lending decreased by almost 4% 

and a further 14% in 2009 (mainly due to a drop in SME exposure but also smaller 

repos and private exposure). In 2010, lending stabilised (increased 3%). 

Market risk appetite 

At the end of 2010, the interest rate risk was 1.5% of core capital, down from 2% in 

2009, which we regard as a comfortable level. Jyske Bank has only a very limited 

amount of currency risk. On the other hand, the amount of listed and non-listed trading 

assets, including shares and sector holdings, has traditionally been higher than the 

sector average at Jyske. 

Profitability and earnings 

Jyske has made substantial strategic investments (IT, buildings, Jyske Differences 

2nd Generation and risk management systems) in recent years on the back of favourable 

market conditions, resulting in historically high cost/income ratios. In 2009, the 

cost/income ratio was in line with peers at around 48%, but in 2010, the bank passed 

the 50% mark again. Recently, Jyske Bank joined Bankdata (IT services), which will 

lead to cost savings as the cost burden of Bankdata is shared among more members. 

Previously Jyske had its own IT platform. 

Profitability measured as the net interest margin has been lingering around 2.5% in 

recent quarters. We are of the view that this is satisfactory in the current low interest 

rate environment. 


Jyske Bank’s funding base is sound and well diversified with around 51% deposits, 

17% from interbank markets and 23% from market funds. Jyske Bank has an EMTN 

programme and a French CP in place and a revolving credit facility with a group of 

international banks, signalling a diversity of funding sources. The next maturity of 

subordinated bonds is with the call in 2011 (EUR25m) and the call in 2013 

(EUR150m) and we expect the bank to make the call at the first-call date. 


4,0% 

3,5% 

3,0% 

2,5% 

2,0% 

1,5% 

1,0% 

0,5% 

0,0% 


Earnings and Efficiency 

70% 

65% 

60% 

55% 

50% 

45% 

40% 

35% 

30% 

25% 

20% 

Q1 08 Q3 08 Q1 09 Q3 09 Q1 10 Q3 10 

2004 2005 2006 2007 2008 2009 2010 

Recurring earnings power, RHS Cost/income 


3,9% 

3,6% 

3,3% 

3,0% 

2,7% 

2,4% 

2,1% 

1,8% 

1,5% 

1,2% 

0,9% 

0,6% 

0,3% 

0,0% 

Excess coverage of the minimum regulatory requirement was 180% at end-2010 and 

Jyske stated that it has more than complied with Moody’s 12-month liquidity stress 

test and the liquidity reserve was stated to increase to DKK59bn. Jyske Bank had the 

opportunity to issue under the Danish bank package II scheme for state-guaranteed 

senior unsecured funding but chose not to, thereby sending a strong signal to the 

market (the scheme has now expired). 

The collapse of small Danish bank Amagerbanken and the willingness for Danish 

authorities through bank package 3 to impose haircuts on senior unsecured funding 

has put some stress on the funding situation for Danish banks. We regard Jyske Bank 

as strong and large enough to be able to continue to attract foreign funding going 

forward (though probably to a higher price currently) in line with 2010, in which the 

bank issued several private placements under the EMTN programme. 

Overall, we view Jyske Bank’s funding and liquidity risk policies as satisfactory and 

prudent, thus benefiting the overall credit quality. 


Jyske’s individual solvency requirement was repeated at 9.4%. In Q4, the Tier 1 ratio 

increased to 14.1% and capitalisation is currently strong (Jyske didn’t propose dividends 

for 2010). Management stated that with the current level of equity Tier-1 capital 

(12.5% in Q4) and liquidity backdrop, it expects Jyske to comply with new capitalisation 

and liquidity regulation in the future (Basel III). 

Note that Jyske Bank has not utilised the option in Danish bank package 2 to obtain 

hybrid capital from the state or to issue 3Y funding with government guarantee. 

Funding mix end 2010 

Market 

funds 

23% 

Sub debt 

2% 

Interbank 

17% 

Equity 

7% 


Deposits 

51% 

19 | 13 April 2011 



Recently, the CEO of Jyske Bank, Anders Dam, stated that the bank aims at complying 

with the harsher Swedish rules of capitalisation in the absence of new capitalisation 

requirements from the Danish authorities (they seem to wait for Basel III). 



Net interest income was somewhat below last year (though in line with consensus) 

despite a bigger loan book due to low interest rates and increased competition. Jyske 

states that the bank benefits from a significant inflow of customers, but this is mainly 

in repo transactions (loan book up 4% q/q but adjusted for repos is up 1.5% q/q) 

Customer deposits were unchanged despite the expiration of bank package 1 but we 

expect Jyske and other large Danish banks to benefit from the recent failure of Amagerbanken 

incurring senior debt holders (including depositors) with a haircut. As we 

have seen in many Danish banks, trading income was a bit disappointing in Q4. 

Rating changes on Jyske Bank (A1/A/NR) 

S&P downgraded Jyske one notch to A in February 2009, referring to a heightened 

risk of asset quality deteriorations on the back of the gloomy Danish economy. Since 

then the rating has been on negative outlook. 

In March 2009, the subordinated debt of Danish banks was downgraded two notches 

by Moody’s due to lack of government support for these instruments. In September 

2010, subordinated debt was downgraded another notch to A3 in line with the downgrade 

in Jyske’s standalone rating (BFSR) to C+ from B-, again due to weakening 

asset quality. In February 2010, Moody’s downgraded Danish hybrid securities by 

one notch as the rating agency finalised its revision of guidelines for rating banksubordinated 

debt. 

Following the collapse of Amagerbanken and the resulting haircuts on senior unsecured 

debt, Moody’s changed its stance on Denmark from being a high-support country 

to being a low-support one. Consequently, government support in February 2011 

was removed from all but the four largest banks. The expected funding pressure has 

made Moody’s put all Danish banks’ stand-alone ratings on negative outlook (also 

spurred by the very modest macroeconomic recovery in Denmark). 


14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 

2004 2005 2006 2007 2008 2009 2010 

Core capital ratio Total capital ratio 



Securities 

35% 

Due from 

banks 

9% 


Retail 

21% 

Corporate 

35% 

Moody’s has put the A1 rating on Negative Watch as the agency is evaluating the 

likelihood of Jyske being too big to fail (currently Jyske has a one notch upgrade due 

to systemic support). We expect Jyske to keep the one notch uplift. 


Overall, we view Jyske Bank as a sound Danish bank with a strong domestic franchise. 

Currently, asset quality in Jyske (as in other Danish banks) is under pressure 

but from a relatively strong level. While acknowledging that the capitalisation of 

Jyske remains strong, we believe that visibility in terms of Danish asset quality remains 

weak. Thus we believe Jyske will underperform foreign peers in the short- to 

medium-term and we find the outstanding 2012 issue very tight. We maintain our 

SELL recommendation. See the list of instrument prices at the end of this book. 


Fees and 

commission 

19% 

Financial 

income 

6% 

Other 

income 

6% 


Net interest 

income 

69% 

20 | 13 April 2011 



Financial date Jyske Bank 

P&L (DKKm) 2006 2007 2008 2009 2010 



Net result from financial transactions 1,142 352 365 878 431 

Other income 419 270 328 362 403 

Total revenue 6,232 5,636 5,845 7,015 6,878 


Other costs 1,419 954 1,074 894 1,209 


Total costs 3,777 3,290 3,674 3,355 3,811 

Pre provision income (PPI) 2,455 2,346 2,171 3,660 3,067 

Loan losses and provisions -348 74 973 2,418 1,580 


Non-recurring items 8 1 94 -613 -484 

Pre-tax income 2,810 2,273 1,291 629 1,003 

Tax 677 538 303 158 246 

Net income 2,134 1,735 988 471 757 

Adjusted net income 2,107 1,715 884 1,075 1,263 




Securities 14,785 20,338 36,170 58,865 68,326 


Other assets 21,991 28,200 40,163 35,461 43,982 

Total assets 160,656 214,279 236,848 224,593 244,114 





Equity 9,582 9,654 10,677 12,523 13,320 


Key ratios 2006 2007 2008 2009 2010 


Recurring earnings power 2.3% 1.9% 1.8% 3.6% 3.0% 




Cost/income 60.6% 58.4% 62.9% 47.8% 55.4% 


Loan loss provisions / Total loans -0.3% 0.1% 0.8% 2.2% 1.4% 






Lending growth 17.9% 25.0% -3.6% -14.3% 3.1% 

Payout ratio 0% 0% 0% 0% 0% 





P&L (DKK m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 



Net result from financial transactions & trading 191 275 77 71 7 

Pre-provision income (PPI) 1,117 898 703 811 672 

Loan losses -947 -598 -386 -318 -279 

Net profit -4 128 165 152 307 




Cost/income 40.6% 51.2% 57.1% 52.1% 60.5% 


Loan loss ratio (ann.) 3.4% 2.2% 1.4% 1.1% 1.0% 





21 | 13 April 2011 



Nordea 


Nordea AB is the leading bank in the Nordic region measured by market value and 

total assets. It has operated under the Nordea brand since 2001 and targets a European 

cross-border operating model. The group has its origins in the creation of MeritaNordbanken 

in 1997, which combined Merita Bank of Finland and Nordbanken of 

Sweden. The plan was realised in 2000, following the merger with Unidanmark of 

Denmark and the acquisition of Christiana Bank of Norway. Nordea has a distinctive 

footprint in the Nordic area, underpinned by around 10 million customers, 1,400 

branches and leading positions in retail banking, corporate finance and savings management. 

Furthermore, the bank has built up a presence in Estonia, Latvia, Lithuania, 

Poland and Russia. 

The bulk of earnings come from the core markets in the Nordic region (about 90% of 

the total loan portfolio). Nordea’s market position differs in each geographical market. 

In-market consolidation is more or less complete in the Finnish market, where 

Nordea is the market leader with more than 30% of both household and corporate 

lending. Although Nordea does not have quite as high a market share in Denmark, 

Norway and Sweden, it still accounts for 10-25% of both household and corporate 

lending. The Finnish insurance group, Sampo Oyj, is the largest shareholder with 

21% of the shares. The Swedish State owns 13.5%, down from almost 20% last year. 

It remains a long-term goal of the current government to dispose of its shares in 

Nordea, but currently it does not have the parliamentary backing to do so. 


Robust profitability 

Previously, Nordea’s operating efficiency lagged behind that of its peers due to challenges 

relating to the integration of four different banks in four Nordic countries, 

which is why reducing costs has been a key management priority for a long time. 

Following these cost-reduction efforts, Nordea’s efficiency has improved markedly 

and the cost-income ratio was 52% in 2010 (2009: 50%). The recent strong results 

reflect the shift toward improving revenue generation from its existing customer 

base, which is a key strategic objective for Nordea – as is the establishment of more 

branches. 

Highly diversified bank 

In terms of geographic exposure, Nordea is the most diverse among the Scandinavian 

banks, with large franchises in all of the Nordic countries. Denmark and Sweden are 

Nordea’s two largest markets with 27% and 25% of the loan book, respectively. As 

business cycles among the Nordic countries are not completely aligned, we believe 

that Nordea will offer a more stable performance in the future. 

BUY 


Corporate ticker: NBHSS 

Equity ticker: NDA SS 


Ratings: 

S&P rating: AA- (stable) 

Moodys rating Aa2 (stable) 

Fitch rating: AA- (stable) 

Analysts: 

Henrik Arnt 


+45 4512 8504 

Thomas Hovard 


+45 4512 8505 


Strengths: 

• Diversified franchise 

• Resilient during downturn 

• High profitability 

Challenges: 

• Growing exposure to Eastern 

Europe 

• Shipping exposure 


In recent years, Nordea’s exposure to Eastern Europe (“New European Markets”) has 

grown considerably. By end-Q4 10, New European Markets accounted for EUR18bn 

of lending, of which the three Baltic countries accounted for a little less than half, 

while the remainder was divided between Poland and Russia. In a group context, the 

exposure to New European Markets is still relatively modest at 6% of total lending. 

22 | 13 April 2011 




At year-end Nordea reported a full Basel II Tier-1 ratio of 11.4% and a total capital 

ratio of 13.4%. Nordea has an internal Tier 1 target of 9.0% over the business cycle 

and aims to pay dividends of at least 40% of net profit (for 2010 the payout ratio is 

44%). Once Basel III is fully implemented, it is likely that Nordea will have to revisit 

this target and increase it. From an absolute perspective, the capitalisation is sound 

but relative to its Nordic peers it is actually in the lower end. 

Asset quality 

Over the past five years, Nordea has shown a strong track record in terms of loan 

losses. Until Q4 07, Nordea had 15 consecutive quarters of loan loss reversals. Naturally, 

since then the situation has changed and by the end of 2010 the level of nonperforming 

loans stood at 1.54% of total loans, marginally up from 1.50% at end- 

2009. The Nordic countries have fared rather differently since the outbreak of the 

financial crisis. The recovery has been strong in Sweden and Norway, whereas Denmark 

has lagged behind. Going forward, we consider the outlook for asset quality in 

the Nordic region benign. The main risk would be a sharp increase in short-term 

rates, as this could lead to lower house prices. In the short to medium term, this 

should not be a major issue, however. 

The corporate loan book is reasonably well-diversified, but we note that Nordea has 

some exposure to the shipping industry. Recently, freight rates have come under 

pressure again (the Baltic Dry Index in particular), and this once again turns attention 

towards the banks’ shipping exposure. Five-year old crude and dry bulk carriers are 

now priced at about half and a third, respectively, of the peak values seen during 

H1 08. Nordea is one of the largest shipping banks globally but shipping (and oil) 

still accounts for a modest 4% of the total loan book, and so far loan losses remain 

modest and actually down from the previous quarter. Overall, the shipping exposure 

of Nordea is therefore unlikely to be a credit driver in the coming quarters. 


Nordea has a stable funding base in its retail and commercial deposits. At the end of 

Q4 10, deposits represented about 56% of total group lending, which is sound and a 

relatively high level, considering that mortgage lending in Denmark is funded directly 

in the market without any meaningful risk for Nordea (Nordea Kredit). Nordea 

has taken advantage of the well-developed mortgage securities markets in Denmark 

and Sweden throughout the crisis. Moreover, Nordea has set as a target that the net 

balance of stable funding should be positive, which means that stable assets must be 

funded by stable liabilities (deposits and long-term bonds). Furthermore, Nordea 

holds a liquidity buffer consisting of high-grade liquid securities that can be sold or 

used as collateral in funding operations. Overall, we view Nordea’s asset and liability 

management as prudent and a credit strength. 


14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 



0.7% 

0.6% 

0.5% 

0.4% 

0.3% 

0.2% 

0.1% 

0.0% 


2006 2007 2008 2009 2010 




Q1 08 Q3 08 Q1 09 Q3 09 Q1 10 Q3 10 

Market 

funds 

38% 

Equity 

Sub debt 6% 

2% 

Interbank 

10% 

Retail 

deposits 

19% 

Corporate 

deposits 

25% 



Q4 10 report 

As in Q3 10, Nordea beat expectations on all income lines and total income increased 

to EUR2.5bn. Overall, net profit came in at EUR770m, which is the highest since 

Q4 07 and represented an increase of 9% q/q and 72% y/y. The more than decent 

trading income that Nordea reported was a surprise in view of a difficult and volatile 

Q4, in which the sovereign debt crisis was at full steam. 

Net interest income increased 4% from the previous quarter despite the lending book 

not growing. This positive development can mainly be attributed to an increase in 

deposit margins and volumes, which more than offset higher funding costs. Lending 

margins were largely stable. 

23 | 13 April 2011 



In Q4 10, Nordea reported loan losses of EUR166m, which was slightly higher than 

the previous quarter (adjusted for the contribution to the Danish bank package rescue). 

This corresponds to a loan loss ratio of 21bp, so asset quality remains well 

guarded. 

M&A activity may materialise 

Nordea has emerged as one of the winners from the financial crisis. We believe one 

of the consequences of this will be that Nordea will participate actively in consolidation 

in the future. Management has stated on several occasions that the bank stands 

ready to take part in M&A activity, both inside and outside the Nordic region. We 

believe that acquisitions in the Nordic region are likely, whereas a pan-European 

merger does not seem so probable for now. The most obvious place for acquisitions 

is Denmark, where a number of banks are still struggling and face funding challenges 

in the next few years as the government-guaranteed funding expires. So far, Nordea 

has taken over the rest of distressed Fionia Bank in Denmark. 

Hawkish Swedish regulators supportive for credit quality 

In March, the Swedish regulators as well as the Minister of Finance, communicated a 













years, in order to further build up or protect capital levels. This is positive from a 




reduces the risk of Sweden building up a housing bubble. 


Nordea remains well on track and we do not see major negative triggers short-term. 

Capitalisation is slightly behind Nordic peers but still at a sound level. The more 

diversified nature of Nordea’s business compared with its Nordic peers makes it 

more likely to deliver a stable performance going forward. 

Earning assets mix, 2010 





60% 

50% 

40% 

Due from 

banks 

4% 

Securities 

23% 

Financial 

income 

20% 

Fees and 

commissio 

ns 

23% 

Other 

income 

1% 

Corporate 

40% 

Retail 

33% 


Net 

interest 

income 

56% 

2006 2007 2008 2009 2010 

Cost/income 


2.2% 

1.8% 

1.4% 

1.0% 

Nordea continues to trade wider than Handelsbanken and lately also wider than DnB. 

We believe that this can be partly explained by the fact that Nordea has been a more 

frequent issuer in recent times than the others. We believe this pick-up is worth chasing 

and we reiterate our BUY recommendation on Nordea senior unsecured cash 

bonds. From a fundamental perspective, we are not concerned about subordinated 

debt issued by Nordea, but note that the outstanding 8.375% USD Tier 1 bond has a 

regulatory par call that Nordea may utilise by 2013. When taking this risk into account, 

current valuation is not that attractive (cash price of 110 translating into an 

ASW-spread of around 165bp if called at the beginning of 2013). See list of instrument 

prices at the end of this book. 

24 | 13 April 2011 



Financial data Nordea 

P&L (EURm) 2006 2007 2008 2009 2010 



Net result from financial transactions 1,036 1,187 1,028 1,946 1,837 

Other income 119 116 172 105 116 

Total revenue 7,098 7,725 8,176 9,025 9,268 


Other costs 1,571 1,575 1,646 1,639 1,862 

Depreciation and amortisation 86 103 124 149 170 

Total costs 3,908 4,066 4,338 4,512 4,816 


Loan losses and provisions -257 -60 466 1,486 879 


Non-recurring items 275 164 24 48 66 

Pre-tax income 3,722 3,883 3,396 3,075 3,639 

Tax 655 753 724 757 976 

Net income 3,067 3,130 2,672 2,318 2,663 


Balance sheet (EURm) 2006 2007 2008 2009 2010 



Securities 54,147 57,906 63,436 82,802 99,542 


Other assets 43,184 48,681 111,933 112,276 141,275 

Total assets 346,890 389,054 474,074 507,544 580,839 





Equity 15,276 17,082 17,725 22,420 24,538 

Risk-weighted assets (RWA) 185,400 204,585 213,281 191,900 214,760 

Key ratios 2006 2007 2008 2009 2010 






Cost/income 55.1% 52.6% 53.1% 50.0% 52.0% 


Loan loss provisions/Total loans -0.1% 0.0% 0.2% 0.5% 0.3% 





Avg. gross loans/avg. customer deposits 166% 171% 175% 181% 181% 

Lending growth 13.5% 14.3% 8.3% 6.5% 11.3% 

Payout ratio 0.0% 0.0% 0.0% 43.0% 44.0% 





P&L (EUR m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 




Pre-provision income (PPI) 924 1,114 968 1,138 1,232 

Loan losses -318 -261 -187 -157 -166 

Net profit 447 642 537 709 770 




Cost/income 56.9% 51.1% 55.1% 51.2% 50.8% 


Loss ratio (% ann.) 0.5% 0.4% 0.3% 0.2% 0.2% 





25 | 13 April 2011 



Nykredit Bank 


Nykredit Bank A/S is the fourth-largest Danish Bank measured by assets (fifth by 

loan book) and a 100% subsidiary of the mutually owned Nykredit Realkredit Group 

(A1/A+), which is Denmark’s second-largest financial group (and the largest Danish 

mortgage provider). Nykredit Bank controls approximately 5% of Danish banking 

assets and has a major investment banking orientation. Nykredit Bank plays different 

roles within each of the three inter-company business areas: Retail Banking (including 

agricultural customers), Commercial Banking and Markets & Asset Management 

(securities trading, asset management and pension advice services). In 2010, Markets 

& Asset Management was once again the largest income contributor to the bank. The 

bank’s products are distributed through the group’s retail, agricultural and commercial 

centres, the internet bank and a call centre. 

The Nykredit Group acquired the troubled Forstædernes Bank in September 2008, 

securing increased exposure to the Copenhagen area. The strategic objective is to 

utilise the cross-selling potential of the group’s large mortgage customer base in 

order to increase its loyal full-service bank customers. 


Nykredit Bank strongly supported by ownership structure 

Nykredit Bank is a subsidiary of Nykredit Realkredit, the leading Danish mortgage 

provider, which is also one of the major private bond issuers in Europe. Nykredit 

Realkredit has a c.40% market share of mortgage lending in Denmark and operates 

through two different brands: Nykredit and Totalkredit. We believe the current ownership 

structure is a stabilising factor for Nykredit Bank, as it ensures that the parent 

would, if needed, support the bank with whatever liquidity and capital it has available 

at any given time, due to its importance and core status within the group. Nykredit 

Realkredit has emphasised the importance of the bank, as the bank announced a 

DKK1bn equity injection from Nykredit Realkredit in Q3 10 in order to underpin the 

future growth strategy. 

Relatively high exposure to financial markets 

Due to its relatively large investment bank activities, Nykredit Bank is exposed to 

fluctuations in financial markets. Still, its interest rate risk is below 1% (percentage 

of core capital that would be lost if rates increase by 1pp) and its FX exposure is 

virtually non-existent. On the other hand, equity risks (equity plus non-trading assets 

as a percentage of total adjusted equity) are higher than most Danish peers. As primary 

investments are Danish and European covered bonds, the main market risk for 

the group is its exposure to widening yield spreads between covered bonds and government 

bonds/interest rate swaps. This exposure is not hedged. Consequently, during 

the financial crisis, increasing yield spreads caused significant P&L volatility. 

Asset quality 

The bank has a strong corporate lending profile. At the end of 2010, the corporate sector 

accounted for 73% of gross loans, public sector for 1% and retail customers the remaining 

26%. Compared with other more retail-focused banks, this may result in a higher credit 

risk for the loan book. The largest exposure is to financial institutions (21%); real estate 

management has been reduced in recent years and accounted for 18% of the total loan 

book at year-end 2010. The group’s nationwide representation limits geographical concentration 

risk, although the purchase of Forstædernes Bank has increased exposure to the 

Copenhagen area. The handling of Nykredit Bank’s credit risk is fully integrated in the 

Nykredit group. The ultimate parent, Nykredit Holding, has issued guarantees covering 

pre-fixed loss amounts (undisclosed) concerning some of these exposures. 

HOLD 

Sector: Financials, Banks 

Corporate ticker: NYKRE 


Market cap: N/A 

Ratings: 

S&P rating: A+ / N 

Moodys rating: A1 / S 


Analysts: 

Thomas Hovard 


+45 4512 8505 

Henrik Arnt 


+45 4512 8504 


Strengths: 

• Ownership structure and inherent 

likelihood of support. 

• Strong capitalisation. 

• Liquidity. 

Challenges: 

• Fragile stand-alone franchise. 

• Pressure on asset quality 

• Some lending concentration. 

• High market funding reliance. 


26 | 13 April 2011 



Since the emergence of the financial crisis, Nykredit Bank has incurred large loan 

losses, mainly attributable to its corporate loan book. Furthermore, the taken-over, 

troubled Forstædernes Bank (effectively merged with Nykredit Bank from Q2 10) 

reported an extreme loan loss ratio in 2009 of 25%. For 2010, the loan loss ratio for 

the merged entity was 1.68%, which is higher than its Danish peers. Consequently, 

we conclude that asset quality is below average. 


Nykredit Bank’s funding base is largely dependent on market-based funding (capital 

markets and interbank funding), which represents 54% of total funding, with customer 

deposits accounting for 37%. Reassuringly, the bank only funds the trading 

portfolio through the repo and money markets, while the loan book is financed by 

deposits and longer-term bilateral loans as well as bond issues. The trading book 

includes a portfolio of corporate bonds and the bank’s repo/reverse transactions. 

Securities not serving as collateral in the trading book constitute a short-term liquidity 

buffer for unforeseen drains on the bank’s liquidity. 

According to Moody’s 12-month liquidity score, Nykredit Bank has positive liquidity 

for more than 12 months without access to new funding. 

The collapse of small Danish bank Amagerbanken and the Danish authorities’ willingness 

through bank package 3 to impose haircuts on senior unsecured funding has 

put some stress on the funding situation for Danish banks. We regard Nykredit Bank 

as strong and large enough to be able to continue to attract foreign funding going 

forward. At year-end 2010, Nykredit Bank had issued DKK15.4bn under its EMTN 

programme and DKK16.8bn under its ECP programme, totalling DKK32.2bn compared 

to DKK41.2bn the year before. According to management, long-term activities 

developed according to plan and the lower issuance of market funds in 2010 versus 

2009 was due to improved liquidity (ie, the need for net issuance decreased). 


As far as possible, Nykredit’s capital resources are concentrated in the parent company, 

Nykredit Realkredit A/S, to ensure strategic flexibility and headroom. Nykredit 

seeks to keep its lending activities unchanged despite economic developments, while 

retaining its high rating. As a result, Nykredit’s equity must be large enough to cover 

any increase in the statutory adequacy capital requirement and the required capital 

base during periods of severe recession. At end-2010, the core capital ratio and solvency 

ratio of Nykredit Bank were 15.0% and 15.7%, respectively. At the same time, 

the Nykredit Group had a Tier 1 ratio of 18.5% and a Tier 2 ratio of 18.5%, making it 

one of the best capitalised groups in the Nordic region. 

In support, Nykredit Realkredit injected DKK3.2bn in equity capital into Nykredit 

Bank in August 2009 (at the same time, Nykredit Bank redeemed supplementary 

capital of DKK2,400m). As mentioned above, Nykredit Realkredit injected equity of 

DKK1bn into Nykredit Bank in Q3 10. Nykredit Bank reports an individual solvency 

requirement of 8.9%, up from 8.8% at year-end 2009. Overall, we are very comfortable 

with Nykredit Bank’s capital position. 


New strategy 

In September 2008 (the day before the Lehman collapse), Nykredit Group announced 

the acquisition of troubled Forstædernes Bank (total assets: DKK32bn). The purchase 

has proved very expensive due to its poor asset quality, as Forstædernes Bank was 

fairly heavily exposed to the property sector in the Copenhagen area. Nykredit Bank 

and Forstædernes Bank merged on 1 April 2010, with accounting effective from 

1 January 2010. Strategically, the purchase of Forstædernes Bank was sensible, but 

the price was very high. 

Loan loss ratio (annualised) 

18% 

16% 

14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 


Funding mix 

Source :Company data and Danske Markets 


18% 

16% 

14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 

Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Market funds 

22% 

Sub debt 

0% 

Equity 

9% 


Interbank 

32% 

Deposits 

37% 


2004 2005 2006 2007 2008 2009 2010 


27 | 13 April 2011 



Nykredit Group has announced a new strategy plan, Strategy 2013, in which it describes 

its dual ambition to have both strong banking and mortgage arms. The acquisition 

of Forstædernes Bank was the first step by the group to become a significant 

player in the banking market; and with the current funding gap in the Danish banking 

sector, which we think should accelerate consolidation, Nykredit should have further 

opportunities to grow the banking arm in the coming years. 

In addition, in March Nykredit announced the divestment of its non-life insurance 

company, Nykredit Forsikring, to Norwegian Gjensidige for a consideration of 

DKK2.5bn (goodwill of DKK1.5bn). The two parties have agreed a long-term strategic 

alliance in which Gjensidige will service Nykredit’s retail customers under the 

Nykredit brand and Nykredit’s corporate customers under the Gjensidige brand. We 

always find it positive when banks and non-life insurance are separated as we do not 

see any significant synergies. Banks can potentially be strong allies, but they are not 

strong sellers of non-life products. 

Q4 10: loan losses ticking up again 

Nykredit Bank recorded a pre-tax profit of DKK199m in Q4 10, compared with a 

pre-tax loss of DKK780m in Q4 09 due to significantly lower loan loss provisions. 

Net interest and commission income came in at DKK733m and DKK78m, respectively, 

largely unchanged vs Q4 09 and Q3 10. 

Loan losses (adjusted for compulsory payments to bank package I), which have been 

the problematic issue for the now-merged Forstædernes Bank in particular, showed 

improvement for the full year vs 2009. However, in Q4 loan losses have been ticking 

up again compared with Q3 10 (DKK441m versus DKK139m) highlighting that the 

Danish economy is only improving slowly (elevated credit risks in both retail and 

SME segments). The annualised loan loss level increased to 2.45% from 0.75%, 

which we find very high vs peers, yet well below the 7.3% at year-end 2009. 

Recent rating changes on senior debt 

The expected funding pressure following the collapse of Amagerbanken led Moody’s 

in February 2011 to put all Danish banks’ stand-alone ratings on negative outlook 

(also spurred by the very modest macroeconomic recovery in Denmark). Moody’s 

also removed systemic support from the smaller Danish banks, but this didn’t affect 

Nykredit Bank as the three-notch support included in the rating stem from a high 

likelihood of parental support. 


On a stand-alone basis, we believe that Nykredit Bank has a higher risk profile than 

the large Nordic banks and its Danish peers. However, we believe that its credit 

quality cannot be viewed independently, as it forms such an integral part of Nykredit 

Realkredit Group, as shown by the recent significant capital injections. Surprisingly, 

Nykredit Realkredit is apparently not regarded as systemically important by the rating 

agencies, as no external support is factored in – a view we strongly disagree with, 

as we consider the Nykredit Group to be among the most systemic institutions in 

Denmark. Therefore, overall we are comfortable with the name. 

Earnings asset mix 

Securities 

43% 


Revenue split 

Fees and 

commissions 

18% 

Financial 

income 

11% 

Due from 

banks 

17% 

Retail 

9% 

Other income 

1% 


Profitability and efficiency 

80% 

60% 

40% 

20% 

0% 

Corporate 

31% 

Net interest 

income 

70% 

2004 2005 2006 2007 2008 2009 2010 

Cost/income 



3,2% 

2,8% 

2,4% 

2,0% 

1,6% 

1,2% 

0,8% 

0,4% 

0,0% 

We have a HOLD recommendation on the outstanding senior bonds as they trade at 

tight levels. We are positive on subordinated exposure from parent Nykredit 

Realkredit and we recommend buying the two outstanding T1 issues. We prefer the 

4.901% as we think it offers stronger investor protection from a regulatory call due to 

it trading significantly below par (both issues may be redeemed at a make-whole 

price if that is greater than par). See list of instrument prices at the end of this book. 

28 | 13 April 2011 



Financial date Nykredit Bank 

P&L (DKKm) 2006 2007 2008 2009 2010 

Net interest income 776 1,018 1,458 2,934 2,898 


Net result from financial transactions 522 542 -91 313 473 

Other income 27 23 34 51 38 

Total revenue 1,575 1,882 1,685 4,021 4,132 

Personnel costs 444 514 627 1,911 1,759 

Other costs 296 359 504 51 9 


Total costs 742 883 1,136 2,016 1,781 

Pre provision income (PPI) 833 999 549 2,005 2,351 

Loan losses and provisions -44 -14 707 6,253 1,215 

Operating profit (core earnings) 877 1,013 -158 -4,248 1,136 

Non-recurring items 0 0 -137 -954 -619 

Pre-tax income 877 1,013 -295 -5,202 517 

Tax 250 255 -54 -1,264 122 

Net income 627 758 -241 -3,938 395 

Adjusted net income 627 758 -104 -3,120 1,044 




Securities 47,955 55,483 53,561 65,670 75,266 


Other assets 8,237 13,584 32,457 30,294 33,684 

Total assets 107,045 135,399 193,800 215,209 210,422 



Subordinated debt ex hybrid 1,300 2,400 2,400 911 574 

Hybrid securities (Tier 1) 0 0 0 258 239 

Equity 4,241 6,099 7,104 12,374 13,769 


Key ratios 2006 2007 2008 2009 2010 



Return on average assets (before tax) 0.7% 0.6% -0.1% -1.9% 0.2% 

Return on average equity before tax 22.3% 19.6% -4.5% -53.4% 4.0% 

Return on average equity after tax 16.0% 14.7% -3.7% -40.4% 3.0% 

Cost/income 47.1% 46.9% 67.4% 50.1% 43.1% 


Loan loss provisions / Total loans -0.1% 0.0% 0.9% 8.6% 1.7% 






Lending growth 22.7% 39.5% 66.8% -3.3% -1.2% 

Payout ratio 0.0% 0.0% 0.0% 0.0% 0.0% 





P&L (DKK m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 





Loan losses -1,322 -324 -311 -139 -441 

Net profit -566 21 69 120 185 




Cost/income 54.2% 58.5% 57.0% 53.4% 38.3% 


Loan loss ratio (% ann.) 7.3% 1.8% 1.7% 0.7% 2.5% 





29 | 13 April 2011 



Pohjola Bank 


Pohjola Bank plc (listed in Helsinki and formerly known as OKO Bank) is part of the 

Finnish OP-Pohjola Group, a co-operative banking organisation with a very strong 

position in the Finnish market. OP-Pohjola Group is the second-largest financial 

group in Finland with a market share of around 30% in lending and deposits. Within 

corporate lending the market share is approximately 20%. 

The Group is rather complex and consists of OP-Pohjola Group Central Cooperative, 

the Group’s central institution owned by over 200 member co-operative 

banks and Pohjola Bank Group, including the non-life insurance company Pohjola. 

OP-Pohjola Group Central Co-operative is mainly in charge of controlling and supervising 

the risk management, capital adequacy and liquidity of all member banks 

as well as providing centralised services including product development and strategic 

guidelines for efficiency and competitiveness. However, all member banks remain 

independent and responsible for the implementation of their own strategies within the 

Group’s defined risk and financial limits. The Group maintains the largest branch 

network in Finland with almost 600 outlets. 

OP-Pohjola Group’s key competitive advantages remain its close customer relationships, 

wide product range and sophisticated internet offering. These factors provide 

the bank with a strong distribution capacity. Pohjola Bank acts as the central bank for 

OP-Pohjola Group member banks for which it provides services including international 

activities, liquidity, money market products, derivatives and asset management. 

In addition, it offers commercial and investment banking services, non-life 

insurance (Pohjola Insurance Ltd) and asset management services to external clients. 

Pohjola Bank focuses solely on corporate clients following the sale of its retail banking 

activities to OP-Pohjola Group in 2005 and in addition the bank has a 28% market 

share in non-life insurance. The largest shareholders in Pohjola Bank are the 

parent, OP-Pohjola Group Central Co-operative with 30% of shares (57% of votes) 

and member co-operative banks with 14% (13% of the votes). 


Very high degree of external support through joint liability framework 

The Central Co-operative with its subsidiaries and member banks comprises an 

amalgamation of co-operative banks. Under this model, Group resources serve as a 

safeguard for all member banks, i.e. the Central Co-operative and its credit institutions 

are jointly liable for each other's debts and commitments. In this respect the 

Central Cooperative is responsible for the payments of any debts of a member that 

cannot be paid using such member’s own funds. On the other hand, a member must 

pay to the Central Cooperative a proportionate share of the amount which the Central 

Cooperative has paid either to another member as part of the support action described 

above, or to a creditor of such member as payment of a due debt for which the creditor 

has not received payment from his debtor. Each member’s liability is divided 

between the members in proportion to their last confirmed balance sheet totals. Note 

that the insurance companies are exempted for the joint liability scheme. 

BUY 

Sector: Financials, banks 

Corporate ticker: POHBK 

Equity ticker: POH1S FH 

Market cap: EUR 3.3bn 

Ratings: 

S&P rating: AA- / S 

Moodys rating: Aa2 / N 

Fitch rating: AA- / N 

Analysts: 

Henrik Arnt 


+45 4512 8504 

Thomas Hovard 


+45 4512 8505 


Strengths: 

• Very high likelihood of support as 

group members are jointly liable 

for each other (only banking) 

• Unique loyalty bonus payout to 

customers 

• Stable non-life business 

Challenges: 

• Modest efficiency 

• Concentrations in loan book (geography) 

• The bank has high wholesale funding 

reliance 


If member banks fail to act prudently, the Central Co-operative can take action with 

the authority to exclude a member bank in order to safeguard the risk profile of the 

Group as a whole. Overall, we regard this arrangement as very positive from a credit 

perspective since it provides extra insurance at the expense of possibly lower profits 

if Pohjola Bank is obliged to provide support for other group institutions. 

30 | 13 April 2011 



As a result of the joint liability scheme, we use OP-Pohjola Group consolidated earnings 

in our assessment of the group even though issuance takes place in Pohjola 

Bank. This is in line with the approach taken by S&P’s. 

OP-Pohjola Group structure 


Due from 

banks 

2% 

Securities 

12% 

Corporate 

26% 

Retail 

60% 


Source: Company data 

A leading financial group in Finland 

In 2005, Pohjola Bank acquired the second-largest Finnish insurance company, Pohjola. 

The acquisition was largely financed by a share issue and the sale of Pohjola 

Bank's retail banking operations in the capital region to the OP-Pohjola Group (Central 

Co-operative). Pohjola Bank moved into the non-life insurance business in order 

to reinforce its position as a leading financial services group in Finland and to become 

a market leader nationwide. 


Other 

income 

30% 

Net interest 

income 

42% 

We believe that integrating non-life insurance and banking activities is difficult and 

that cross-selling opportunities are hard to realise. However, Pohjola Bank operates 

with a unique loyal customer benefit system, paying out bonuses in relation to its 

clients’ bancassurance business activities (transactions) with Pohjola. Customers can 

spend the bonus on banking services and insurance premiums or cash them (which is 

taxable). Only limited amounts (less than 10%) of the bonuses are withdrawn as cash 

whereas the bulk is spent on banking fees and insurance premiums. This makes for 

strong customer loyalty. 

Stable non-life insurance operations 

Non-life insurance is characterised by relatively low cyclicality, even if a deteriorating 

economic climate has a tendency to increase claims frequency. However, the 

investment return of the insurance company may have a tendency to correlate with 

the results of the banking activities. 

Historically, Pohjola has been a corporate-oriented insurer but it is gradually becoming 

more retail-oriented – the reason being the strong local distribution abilities 

through more than 200 OP member banks. In 2010, the non-life insurance operations 

recorded a pre-tax profit of EUR83m, down from EUR102m the previous year. This 

corresponds to some 14%% of group PTP. 

The main risks resulting from the insurance operations relate to tail events such as 

natural disasters, but reinsurance limits the downside risk significantly. 



90% 

80% 

70% 

60% 

50% 

40% 

30% 

20% 

10% 

0% 

Financial 

income 

2% 

Fees and 

commission 

26% 


3.0% 

2.7% 

2.4% 

2.1% 

1.8% 

1.5% 

1.2% 

0.9% 

0.6% 

0.3% 

0.0% 

2006 2007 2008 2009 2010 


Cost/income 

31 | 13 April 2011 




OP-Pohjola Group’s capitalisation has consistently been above 12%. While this is 

not necessarily a high relative level today it was so before the onset of the crisis. It 

therefore suggests that the Group acted conservatively up until the crisis and avoided 

the temptation to leverage the balance sheet excessively. 

By the end of 2010 the Tier-1 ratio was 12.8% and thus adequate. The Group currently 

targets a Tier 1 ratio of 9.5% and thereby the bank is well in line with its internal 

capital targets. 

Asset quality 

Pohjola Bank is first and foremost a corporate bank while the retail-oriented business 

predominantly takes place in the individual member banks. The loan losses have 

been highest in the corporate loan book whereas the household segment has held up 

well. 

Overall, the loan loss level has been relatively stable throughout the crisis illustrating 

the high exposure to retail through the local banks. More than two thirds of the loan 

book is towards households. During 2010 the annualised loan loss ratio fluctuated 

between 20 and 30bp. The gross level of impaired loans was a very modest 0.6%, 

which is a strong level compared with Nordic peers. 

The largest sector concentration in the corporate loan book is in real estate management 

(residential and other) at 35%. The OP-Pohjola group has virtually all its exposure 

towards Finland and is therefore less diversified than its Nordic peers. 


Due to the bank’s limited retail customer base, Pohjola Bank has limited access to 

traditionally stable retail funds. When looking at the OP-Pohjola as a group this 

changes fundamentally and a high 57% of group assets are financed by deposits. The 

deposit-to-loan ratio is 69%, which is relatively high. However, Pohjola Bank has a 

high reliance on confidence-sensitive wholesale funding. In 2010, Pohjola Bank OP 

Mortgage Bank issued four bonds worth a total of EUR3.25bn and the Group enjoys 

good access to the capital markets on the back of its strong ratings and the Group as a 

whole has a liquidity portfolio of EUR11.3bn (in central bank collateral value terms) 

of which the majority is held by the bank. According to the company, these liquidity 

reserves can be used to cover the Group’s funding maturities for some 24 months. 

Overall, we regard the bank’s liquidity and funding as prudently managed. 


Q4 10: Decent results 

The OP-Pohjola Group reported Q4 10 pre-tax profit of EUR 106 when taking into 

account changes in the fair value reserve. Earnings in Q4 almost doubled year on 

year. Income increased by 15% mainly on life insurance. Net interest income increased 

5% sequentially. In Pohjola Bank, the result from banking and asset management 

was largely in line with expectations and clearly better than expected on 

loan losses. Overall, Q4 10 can be described as rather uneventful from a credit perspective. 


We regard the bank’s credit quality as being strong, due to its sound capitalisation as 

well as the joint liability scheme within the Pohjola Group (see Appendix on next 

page). Its substantial reliance on wholesale funding is negative due to the bank’s 

limited retail customer base. However, it still benefits from corporate deposits (including 

membership banks that place their excess liquidity with Pohjola Bank). Pohjola 

Bank remains one of the few banks around that has a double A rating by all 

agencies (albeit with a negative outlook). The bank generally trades at a premium to 

peers and we believe this is worth exploiting. We therefore maintain our BUY recommendation. 

See a list of instrument prices at the end of this book. 

32 | 13 April 2011 


15% 

12% 

9% 

6% 

3% 

0% 



0.5% 

0.4% 

0.3% 

0.2% 

0.1% 

0.0% 

2006 2007 2008 2009 2010 


Q1 09 Q3 09 Q1 10 Q3 10 



Equity 

Sub debt10% 

2% 

Market 

funds 

29% 

Interbank 

2% 


www.danskeresearch.com 

Deposits 

57%


Financial data OP-Pohjola Group 

P&L (EURm) 2006 2007 2008 2009 2010 

Net interest income 883 1,048 1,189 1,070 917 


Net result from financial transactions 0 0 0 112 46 

Other income 676 776 201 372 645 

Total revenue 1,960 2,254 1,823 2,050 2,171 


Other costs 625 683 794 785 806 


Total costs 1,152 1,236 1,392 1,407 1,449 

Pre provision income (PPI) 808 1,018 431 643 722 

Loan losses and provisions 9 13 58 179 149 

Operating profit (core earnings) 799 1,005 373 464 573 


Pre-tax income 799 1,005 373 464 573 

Tax 0 0 0 126 135 

Net income 799 1,005 373 338 438 

Adjusted net income 799 1,005 373 840 605 

Balance sheet (EURm) 2006 2007 2008 2009 2010 

Due from central banks and credit institutions 344 285 2,450 5,217 2,749 


Securities 6,229 6,761 5,754 7,731 7,957 


Other assets 13,367 13,894 15,833 14,492 16,428 

Total assets 59,535 65,716 75,745 80,432 83,968 



Subordinated debt ex hybrid 1,436 1,389 1,650 1,028 956 

Hybrid securities (Tier 1) 224 224 224 222 222 

Equity 5,124 5,638 5,215 6,187 6,726 


Key ratios 2006 2007 2008 2009 2010 






Cost/income 58.8% 54.8% 76.4% 68.6% 66.7% 








Lending growth 13.7% 13.1% 15.5% 2.5% 7.3% 

Payout ratio n.m n.m n.m n.m n.m 





P&L (EUR m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 





Loan losses -52 -38 -40 -31 -41 

Net profit 52 95 101 125 117 




Cost/income 75.1% 68.2% 67.5% 62.7% 68.5% 


Loan loss ratio (ann.) 0.4% 0.3% 0.3% 0.2% 0.3% 





33 | 13 April 2011 



Sampo Group 


Sampo plc is the holding company of Sampo Group. Sampo Group consists of three 

business areas: Property & Casualty Insurance (If P&C); Life & Pension (Mandatum 

Life); and banking through the Nordea stake (rated AA-/Aa2/AA-, included in holding 

company and since 31, December 2009 and treated as an associated company). 

If P&C (25% of net asset value) is the largest Nordic P&C insurance company (second-largest 

Baltic P&C company). Mandatum Life (11% of group net asset value) is 

a leading life and pension insurer in Finland, with a rapidly growing Baltic presence. 

Moreover, for some years Sampo has been increasing its share in Nordea (part of 

holding company – 64% of group net asset value) to currently around 21.3%. 

Sampo Group was formed at the end of 2000 by the merger of the insurance group, 

Sampo, with the Finnish banking group, Leonia. The current company structure was 

obtained in 2007 with the divestment of Sampo Bank (to Danske Bank). The primary 

shareholders of Sampo plc are Solidium (owned by the Finnish government, 14% 

stake) and Varma Mutual (8.5% stake). Sampo’s Chairman of the Board, Björn 

Wahlroos, owns a 2.1% stake. 

Sampo Group: financial and insurance conglomerate 

With the associate status of Nordea, Sampo Group’s profitability is now directly 

linked to non-life insurance, life insurance and banking performance. 

If P&C is the major earnings generator in Sampo Group. During 2010, the non-life 

division accounted for 54% of pre-tax profit, while the life insurance division (Mandatum 

Life) accounted for 11% and Sampo plc (holding company including Nordea 

investment) for 36% (up from around 7% in 2009, due to the Nordea stake now being 

treated as an associate). In fact, the pre-tax profit from the holding company plc 

adjusted for the Nordea stake was a negative EUR48m, due to a net debt position in 

Sampo. 

Sampo Group has a return on equity (RoE) target in operating subsidiaries of above 

17.5%, which it achieved. In 2010, RoE in If P&C was 40% and 36% in Mandatum 

Life. 

At end-December 2010, the group had total investment assets of EUR18.3bn. 69% 

was allocated to bonds, 18% to equities, 9% in money markets, 1% in real estate and 

3% in other investments including cash. 

The group’s fixed income investments of EUR14.2bn (69% of total investment assets) 

were mainly invested in Scandinavian bonds (61%), European bonds (20%), US 

bonds (6%), European money markets (6%) and Scandi money markets (5%). More 

than half of the fixed income portfolio is invested in corporate bonds (corporates 

account for 29% and banks 23%), which inherently carries market and credit risks. 

Covered bonds accounted for 26% and government bonds for 9%. If P&C has a 

higher-than-average exposure to high-yield and non-rated credits. 


IF P&C is the leading Nordic insurance company 

If P&C was created in 1999 through the merger of the non-life activities of Storebrand 

and Skandia. In 2002, Sampo’s P&C insurance operations were merged with If 

and, in 2004, If became fully-owned by Sampo. If P&C (incorporated in Sweden) 

consists of If P&C Insurance Ltd (Sweden) and If P&C Insurance Company Ltd 

(Finland). 

HOLD 

Sector: Financials, Insurance 

Corporate ticker: SHAMPO 

Equity ticker: SAMAS FH 

Market cap: EUR13.2bn 

Ratings: (Sampo plc/IF P&C) 

S&P rating: NR/A S 

Moodys rating: Baa2 S/ A2 S 

Fitch rating: BBB+ N/A- N 

Analysts: 

Thomas Hovard 


+45 4512 8505 

Henrik Arnt 


+45 4512 8504 


Strengths: 

• Leading P&C market positions in 

Scandi area. 

• Strong defensive characteristics 

of P&C markets. 

• Strong life position in Finland. 

• Financial industry diversification 

(non-life, life, banking). 

Challenges: 

• Reduced level of liquidity. 

• Solvency reduced as Nordea became 

associate, but still sound 

solvency levels. 

• Sampo is increasingly becoming 

an asset play. 


34 | 13 April 2011 



If has consistently reported combined ratios below the long-term target of 95% 

(2009: 92.1%, 2010: 92.8%), which to us signals that the company will be able to 

present stable and robust results going forward. This is supported by the fact that If 

has broad access to loss-experience data and risk sensitivities given its market position, 

which should enhance its pricing capabilities relative to those of its peers and 

protect profitability. Product and geographical diversification is good, but If P&C is 

not as geographically diversified as its larger European peers. 

Around 53% of gross written premiums in the P&C business stem from the Personal 

division, 30% from Commercial, 14% from Industrial and 3% from the Baltics. Geographically, 

36% of gross written premiums stem from Norway, 31% from Sweden, 

21% from Finland, and 9% from Denmark. 

If P&C market shares 

35 

30 

25 

20 

15 

10 

5 

0 

Norway Sweden Finland Denmark Baltics 


To defend If’s market position against increasing competitor pressure, priorities for 

management are likely to include enhancing its regional presence by focusing on 

Denmark and Baltic markets through acquisitions (if judged attractive), although 

there are few candidates in the former. If is unlikely to expand on its own into other 

mature western European markets, given that management believes that If’s competitive 

strengths and brand would not necessarily be successfully replicated. 

If has a strong competitive position as the clear market leader in the Nordic region, 

with an overall estimated 22% market share. With the exception of Denmark, If is 

ranked at least second in each of the Nordic markets and has a similarly strong market 

position in the Baltic markets. The operating subsidiaries in the Baltics were 

merged into one legal entity in 2009. In addition to strong geographical diversity, 

premium income is widely spread by line of business and by sector, which suggests 

that If is well positioned to withstand market softening or large insurance events 

unless they are widespread. 

If’s primary competitive advantage is its pan-Nordic market leadership, which creates 

revenue and risk diversity, economies of scale and the credentials to be a price 

leader. Going forward, If may be challenged by several other Nordic players, as well 

as by growing business within relatively mature markets, but it should remain strong 

in its key markets where barriers to entry remain high. 

Life insurance division 

Mandatum Life has a market share in Finland of about 22% (28% in focus area unitlinked 

products) and a growing presence in the Baltics (19% market share). Around 

59% of the technical reserve is placed in traditional products (guaranteed) and about 

41% in unit-linked. The latter is taking up an increasing part of the technical reserves, 

which is a clear credit positive. Geographically, Mandatum Life is focused on 

Finland, accounting for about 90% of premium income. 

Insurance ratios 

100% 

98% 

96% 

94% 

92% 

90% 

88% 

86% 

84% 

Q1 

06 

Q3 

06 

Combined ratio, LHS 

Q1 

07 

Q3 

07 

Q1 

08 

Q3 

08 

Q1 

09 

Solvency ratio, RHS 

Q3 

09 

Q1 

10 

Q3 

10 


100% 

90% 

80% 

70% 

60% 

50% 

40% 

At end-December 2010, 61% of the investment portfolio was placed in fixed income 

including money market products, 28% in equities, 4% in private equity, 3% in real 

estate and 3% in hedge funds. In July 2009, Mandatum Life sold all its shares in 

Danish insurance company Topdanmark to If P&C, which now holds all group shares 

invested in Topdanmark (about an 11% ownership stake). 


Ratings 

The ratings of If P&C were reiterated in February 2009 by Moody’s, but the rating of 

the parent, Sampo plc, was downgraded by one notch (to Baa2 S) due to reduced 

levels of liquidity in the holding company. Historically, Sampo has been rated two 

notches below the operating insurance company, but now the three-notch differential 

is consistent with standard notching practices for European insurers. S&P has made 

no recent rating changes to If P&C. Management has stated that an A-rating is 

needed to run the non-life Industrial insurance business. 

Net asset value (EURm) 

EURm 

12000 

10000 

8000 

6000 

4000 

2000 

0 

P&C Life Holding Nordea Group 


35 | 13 April 2011 




In 2010, Sampo surpassed EUR1bn, in pre-tax profit, for the first time. The Q4 report 

from Sampo Group was robust with pre-tax profit of EUR361m compared with 

EUR199m in the corresponding quarter the year before. In the P&C business, the 

combined ratio was 92.3% (from 92.7%) and pre-tax profit rose to EUR188m (from 

EUR168m). Premiums written for Life insurance business were almost flat at 

EUR284m with pre-tax profit rising to EUR42m (from EUR36m). The holding company 

reported a pre-tax profit of EUR132m, driven by pro-rata share of Nordea’s Q4 

profit, which amounted to EUR152m. Sampo is dependent on the securities market 

performance with large insurance investment portfolios and a meaningful share in the 

largest Nordic bank, Nordea, which accounts for more than 60% of group value. 


We expect the underlying insurance business to continue to perform strongly. If P&C 

has some quite attractive defensive qualities, which are positive from a credit perspective. 

The leading market position of If P&C provides the base for strong underwriting 

profitability and the combined ratio has improved in recent years. On the 

other hand, Sampo is becoming increasingly dependent on volatile securities markets. 

Furthermore, reserving risk (longer tail-lines in especially motor and workers 

compensation), M&A risk and some speculative grade credit exposure partially offset 

this. That said, with a relatively conservative investment portfolio and a focus on a 

lower risk book of business supporting earnings performance and capitalisation, we 

expect credit metrics for the operating subsidiaries and the holding company to remain 

healthy. 

Pre-tax profit 2010 

Holding 

36% 

Life 

11% 


P&C 

53% 

Sampo Group consolidated balance sheet (EURm) 

2006 2007 2008 2009 2010 

Fixed assets 221 198 176 158 151 

Intangibles 782 718 663 688 742 

Investments in associates 5 5,172 5,699 

Financial assets 15,926 19,584 16,139 15,479 17,508 

Unit linked 1,753 2,072 1,637 2,366 3,127 

Tax 149 89 156 81 68 

Cash 41 958 465 771 527 

Other assets 28,748 1,805 1,908 1,920 2,029 

Total assets 47,620 25,424 21,149 26,635 29,851 

Unit link provisions 1,752 2,071 1,637 2,359 3,124 

Insurance provisions 12,942 13,148 12,375 13,014 13,749 

Financial liabilities 1,395 1,102 1,269 2,098 2,187 

Other liabilities 26,343 1,370 1,293 1,551 1,905 

Total liabilities 42,432 17,691 16,574 19,022 20,965 

Equity 5,189 7,733 4,631 7,613 8,886 

Total equity and liabilities 47,621 25,424 21,205 26,635 29,851 


36 | 13 April 2011 



Sampo Group (EURm) 

P&L 2006 2007 2008 2009 2010 

Non-life insurance, PTP 730 534 549 644 707 

Life assurance, PTP 295 342 140 121 142 

Banking, PTP - - - - 523 

Holding company, PTP -27 95 180 36 -49 

Group eliminations -14 3 1 24 -3 

Extraordinary items - - - - 

Pre-tax profits 984 974 870 825 1,320 

Tax -281 -254 -195 -184 -216 

Discontinued operations 288 2,853 - - - 

Group profit 991 3,573 675 641 1,104 

Minorities -14 -1 - - - 

Net profits 977 3,572 675 641 1,104 

Adj. profits 1,078 3,393 -2,013 3,869 1,548 

AFS reserve 486 316 -2,364 296 736 

Change in fair value reserve 90 -169 -2,680 3,247 449 

Goodwill 739 704 645 665 717 

Equity 5,168 7,733 4,631 7,613 8,886 

NAV 4,429 7,029 3,986 7,539 9,257 

IF P&C 2006 2007 2008 2009 2010 

Premiums earned 3,765 3,797 3,807 3,643 3,894 

Claims -2,729 -2,788 -2,834 -2,717 -2,943 

Expenses -655 -653 -662 -640 -671 

Other technical items - 5 4 - - 

Technical interest 173 205 233 201 168 

Technical results 554 565 548 488 449 

Investment result 412 238 299 423 516 

Transferred to technical account 

-173 -205 -233 -201 -168 

Discounting -54 -56 -60 -60 -58 

Other income -9 -8 -5 -6 -32 

PTP 730 534 549 644 707 

Change AFS reserve - - -575 710 285 

PTP at market value 730 534 -26 1,354 992 

Gross invest. inc., market value 444 267 -241 1,156 831 

AFS reserve - - -414 105 315 

Claims ratio, net 72.5% 73.4% 74.4% 74.6% 75.6% 

Costs ratio, net 17.4% 17.2% 17.4% 17.6% 17.2% 

Combined ratio, net 89.9% 90.6% 91.8% 92.1% 92.8% 

Life insurance (Mandatum) 2006 2007 2008 2009 2010 

Net investment income 593 589 -222 629 n/a 

Transfer to expense result -16 -17 -16 -13 n/a 

Return on unit-linked polices -138 -57 485 -359 n/a 

Return on with-profit policies -190 -206 -140 -154 n/a 

Investment result 249 309 107 103 101 

Expense result 14 17 7 5 8 

Risk result 31 16 16 14 23 

Others 0 0 10 0 10 

Profit before tax 295 342 140 121 142 

Change in market values 91 -234 -667 536 302 

Profit at market values 386 108 -526 658 444 

Holding 2006 2007 2008 2009 2010 

PTP -27 95 180 36 -49 

Change AFS reserve, pre-tax - 9 -2,413 2,340 3 

Holding PTP, market value - 104 -2,233 2,376 -46 


Quarterly review (EURm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Sampo Group operating profit 199 287 334 338 361 

Non-Life (P&C) 168 125 208 186 188 

Life 36 36 33 31 42 

Associates (Nordea) 124 107 140 152 

Other (primarily holding) -5 2 -11 -19 -21 


37 | 13 April 2011 



SBAB 


SBAB is the fifth-largest mortgage institution in Sweden and was established by the 

Government in 1985 in order to finance mortgages (market share in retail lending of 

8% and 18.4% in tenant-owner associations). In 2007, SBAB expanded its product 

range to include savings products for individuals and in 2009, deposit facilities were 

launched for companies and tenant-owner associations. SBAB’s business model is 

based on the distribution of residential mortgages and savings products via the internet 

and by telephone to individuals. SBAB has several business partners, including 

banks and property brokers, who supply residential mortgages to SBAB. On 30 November 

2010, SBAB was granted permission by the Swedish Financial Supervisory 

Authority to conduct banking operations under the name SBAB Bank. 

SBAB conducts its operations in three business areas. Corporate and Retail focus on 

loans, while Finance focuses on funding and financial risk management. The group 

consists of SBAB, the subsidiary Swedish Covered Bond Corporation (SCBC) and 

the partly-owned company FriSpar Bolån (FriSpar). SCBC’s primary operations 

comprise the issuance of covered bonds and SCBC does not pursue lending activities, 

but instead acquires loans primarily from SBAB. FriSpar is a jointly-owned company 

with operations in southern Sweden that engage in both lending to the retail and the 

corporate market. SBAB has a 51% stake in Frispar, while the balance is owned by 

Sparbanken Öresund (a merger between Sparbanken Finn and Sparbanken Gripen). 


Ownership 

SBAB is fully owned by the Swedish Government. This may change in the future as 

the Swedish Government has expressed its desire to privatise SBAB (the opposition 

does not agree). The senior unsecured bonds issued under the EMTN programme 

benefit from an change of control ownership clause, which grants investors the right 

to demand premature repayment in the event that the Swedish Government 

(Aaa/AAA) no longer holds at least 51% of the voting rights in SBAB. This right 

applies on the condition that the Swedish Government has not previously guaranteed 

SBAB’s obligations under the bonds, in which case the right to premature repayment 

expires. The ownership therefore implies that SBAB benefits from a high level of 

implicit government support. 

The Swedish economy is among Europes strongest 

The domestic economic development – house prices and unemployment in particular 

– is central to the prospects for SBAB as virtually all company activities are in Sweden. 

The domestic Swedish economy fared relatively well throughout the financial 

crisis and recently a strong recovery has taken place. The most recent GDP numbers 

showed that in the fourth quarter of 2010 the Swedish economy grew by 7.3% y/y. 

The macroeconomic backdrop is therefore highly supportive for the banking system. 

BUY 


Corporate ticker: SBAB 


Market cap: Not listed 

Ratings: 

S&P rating: A+ (S) 

Moodys rating A1 (NO) 


Analysts: 

Thomas Hovard 

Thomas.hovard@danskebank.dk 

+45 4512 8505 

Henrik Arnt 

Henrik.arnt@danskebank.dk 

+45 4512 8504 


Strengths: 

• Government ownership. 

• Exposure to low-risk residential 

mortgages. 

• CoC clause in EMTN documentation. 

Challenges: 

• High interest rate sensitivity of 

Swedish house prices. 

• Reliance on wholesale funding. 

• Lack of branch networks. 


During the recent crisis, the central bank aggressively lowered its target rate. As the 

bulk of Swedish mortgages are tied to the short-term rate (STIBOR), this corresponded 

to an expansionary economic policy, to the benefit of the domestic economy 

and house prices in particular. We believe that this stimulus via the steep decline in 

short-term interest rates is a key explanation for the low Swedish loan losses in the 

past few years. 

38 | 13 April 2011 



Naturally, the transmission also works the other way – i.e. when rates go up this will 

be felt with immediate effect, and the Riksbank started hiking its policy rate in September. 

So far, the level remains low and by the end of the year the repo rate is expected 

by our macro team to be 2.75%, by no means an alarming level. In fact, modest 

increases in the policy rate are probably net positive for the banks allowing them 

to raise deposit margins without really jeopardising asset quality. In medium term, 

we therefore fail to see any major negative credit triggers. Our main concern would 

be inflationary signs in Sweden, as this could result in a more aggressive hiking path 

from the Riksbank. 


In March, the Swedish regulators as well as the Minister of Finance communicated a 









communicated that it is not in favour of an increase in risk weights. Instead they 




years in order to further build up or protect capital levels (positive from a credit perspective). 

We also note the regulatory focus on the housing market. Last year, the 

LTV requirements for Swedish mortgages were lowered and now the regulators want 

to increase the risk weighting. This is positive as it reduces the risk of Sweden building 

up a housing bubble similar to what we saw in Denmark, for example. 

Asset quality 

Generally, Swedish asset quality has proven to be very resilient to the global downturn. 

The stabilisation in house prices on the back of lower interest rates is clearly a 

factor in this respect and has no doubt benefitted SBAB. Loan losses are therefore at 

very low levels. Lending to households including tenant-owner associations represents 

some 80% of SBAB’s total loan portfolio and most of the lending is concentrated 

to the metropolitan regions in Sweden (Stockholm, Gothenburg and Öresund). 

Contributing to the sound asset quality is the Swedish legal setup in which a borrower 

is personally liable even after a foreclosure procedure, which limits the risk of 

moral hazard by the borrowers. Note that the Swedish FSA has established guidelines 

regarding loans secured against residential mortgages, which stipulate that new loans 

should not have an LTV exceeding 85%. The new rules took effect on 1 October 

2010 and should contribute to dampen house price growth. As mentioned in the 

section on the Swedish economy we consider the biggest threat to house price to 

stem from significantly higher short-term interest rates. 


The long-term goal of the SBAB Group is for about 50% of funding to be issued in 

Sweden and about 50% outside Sweden. The funding portfolio should be split between 

covered and non-covered funding with evenly distributed maturity dates, 

meaning that there should be no periods with large concentrations of debt maturities. 

Furthermore, the maturities shall exceed the registered average duration of the lending. 

Earnings asset mix 


Loan loss provisions (annualised) 

0,2% 

0,1% 

0,0% 

Due from 

banks; 4% 

Corporate; 

15% 

Securities; 

12% 



Retail; 

69% 

Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Equity 

Sub debt 

3% 

2% 

Market 

funds 

87% 

Deposits 

Interbank 

6% 


SBAB has access to several funding sources including deposits, a short-term funding 

programme, an EMTN programme and issuance of ‘AAA’ rated covered bonds 

39 | 13 April 2011 



through SCBC. It is only recently that SBAB has started taking deposits and this 

source of funding is therefore of low importance so far (2% of total funding). Market 

funds accounted for 87% of the total funding by year-end 2010 and SBAB is therefore 

exposed to the confident-sensitive wholesale funding markets. SBAB addresses 

liquidity risks through a so-called maximum cumulative outflow (MCO) measure – 

i.e. the number of days the company can keep operating without access to the capital 

markets. By the end of Q4 10, the MCO corresponded to 63 days, down from 81 days 

the year before. In our view, this is not adequate – but the Government ownership, 

the high quality of the underlying assets and the historical strong performance of the 

domestic Swedish covered bond market are mitigating risk factors in this respect. 

Also, SBAB has a committed facility of SEK2bn with the Swedish national debt 

office (this facility will be reduced to SEK1bn by 2011 and expire in 2012). 


Following the financial crisis, SBAB changed its target for the primary capital ratio 

from between 6% and 7% to between 9% and 10% under full Basel II (without transition 

rules). According to transitional Basel II, SBAB’s primary capital ratio will not 

be less than 7%. By the end of Q4 10, SBAB had a Tier 1 ratio of 8.7% and a total 

capital ratio of 10.2% under the transitional rules. Under full Basel II, the ratios are 

19% and 22.4% respectively (Pillar 1). The big difference between the transition and 

the full ratios is a reflection of the low risk of the loan book. SBAB’s simple leverage 

ratio (core capital to total assets) stood at 3.63% by the end of Q4 10 and the company 

should therefore not have difficulties in meeting the Basel III condition once it 

comes into force by 2018 as a Pillar 1 requirement. 



From a credit perspective, the Q4 report brought little news. The report was a bit soft 

compared with Q3 but in line with the report from the same quarter last year. Importantly, 

loan losses stayed very low (SEK1m) and backed by benign developments in 

hedge-accounted items, net profits came out better than Q3 10 and Q4 09. 

Rating 

Moody’s rates SBAB with a negative outlook. The uncertainty concerning the future 

ownership status of SBAB is the prime reason for this. Any new owner will almost 

certainly not be as strong financially as the current owner – the Swedish Government. 

In addition, the challenges SBAB faces in terms of distribution capability – as 

it lacks a branch network – is a credit weakness. S&P’s factors in two notches of 

extraordinary support above SBAB’s standalone credit profile based on the assessment 

that there is a ‘moderately high’ likelihood of extraordinary government support, 

if needed. This assessment is based on the opinion that there is a strong link 

between the company and the government. 


Overall, we consider exposure to SBAB to be largely a play on the domestic Swedish 

economy – house prices in particular and to a lesser extent unemployment. We are 

currently not that concerned on the medium-term outlook for Swedish house prices 

but recognise the high interest rate sensitivity of Swedish homeowners. However, as 

long as the Government is the owner of SBAB and outstanding senior debt benefits 

from a change of control clause we see little reason to worry about SBAB exposure. 

Furthermore, the strong performance of the Swedish economy has so far quelled any 

asset quality fears. We therefore see limited downside risks in the medium term. 


60% 

40% 

20% 



12% 

9% 

6% 

3% 

0% 

0% 

2005 2006 2007 2008 2009 2010 

Cost/income 

2005 2006 2007 2008 2009 2010 




Fees and 

comm. 

-2% 

Financial 

income 

-14% 



2,8% 

2,4% 

2,0% 

1,6% 

1,2% 

0,8% 

0,4% 

0,0% 


Other 

income 

0% 

Net 

interest 

income 

84% 

On the back of these factors we maintain our Buy recommendation for SBAB and in 

particular we consider the 2013 senior floater to offer value. The company has no 

liquid CDSs. See a list of instrument prices at the end of this book. 

40 | 13 April 2011 



Financial date SBAB 

P&L (SEKm) 2006 2007 2008 2009 2010 


Fees and commissions 0 0 12 -46 -44 

Net result from financial transactions 0 0 -26 495 -289 

Other income 218 -422 0 6 0 

Total revenue 1,435 755 1,127 1,974 1,429 


Other costs 569 486 220 241 262 


Total costs 595 517 520 578 604 

Pre-provision income (PPI) 840 238 607 1,396 825 

Loan losses and provisions 0 -20 22 107 40 

Operating profit (core earnings) 840 258 585 1,289 785 


Pre-tax income 840 258 585 1,289 785 

Tax 0 0 161 338 208 

Net income 840 258 424 951 577 

Adjusted net income 840 258 424 951 577 


Due from central banks and credit institutions 0 0 12,580 17,152 15,257 


Securities 0 0 31,787 32,412 37,985 


Other assets 33,712 55,110 24,968 18,535 14,580 

Total assets 203,725 223,091 253,294 294,075 316,925 

Deposits from the general public 0 759 3,542 4,653 6,083 



Hybrid securities (Tier 1) 0 0 994 994 2,994 

Equity 6,034 6,226 6,432 7,377 8,014 


Key ratios 2006 2007 2008 2009 2010 






Cost/income 41.5% 68.5% 46.1% 29.3% 42.3% 







Avg. gross loans/avg. customer deposits na na 8183% 5002% 4425% 

Lending growth 9.0% -1.2% 9.5% 22.8% 10.2% 

Payout ratio 0.0% 0.0% 0.0% 0.0% 0.0% 





P&L (SEK m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 


Fees and commissions -14 -14 -9 -12 -9 

Net result from financial transactions & trading -46 -129 -92 -213 145 


Loan losses -42 -5 -39 -14 -1 

Net profit 146 126 131 56 264 




Cost/income 39.5% 46.8% 41.7% 65.5% 30.7% 


Loss ratio (% ann.) 0.1% 0.0% 0.1% 0.0% 0.0% 





41 | 13 April 2011 



SEB 


SEB is the second largest of the Swedish banks (after Nordea) measured by total 

assets. It offers a full range of retail, commercial, investment banking and insurance 

products. SEB operates in the Nordic and Baltic regions, Germany, Poland, Russia 

and the Ukraine, with around four million private customers, 400,000 SME clients 

and 2,500 large companies. SEB holds a 15% market share in Sweden based on total 

lending, but the bank has a considerably higher market share within corporate banking 

(21%). More than half of SEB’s operating profit is generated in Sweden, with the 

remainder split between Germany, Denmark, Norway, and the three Baltic countries. 

In addition, the group retains a strong position in offering capital market-related 

services to large corporate and institutional clients, and it is also a leading provider of 

life and unit-linked pension products in the Swedish market. 

Fundamentally, SEB is more a commercial bank than any of its large Scandinavian 

peers, with corporate lending accounting for a greater and retail lending a lesser (onethird) 

proportion of total lending than its competitors. SEB is also a leading Nordic 

asset manager. Its main shareholders include Investor AB (A1/AA-), which holds a 

20.8% equity stake (and is controlled by the Wallenberg family) and the Trygg 

Foundation with an 8.0% interest. We regard SEB’s shareholder composition as 

credit-positive. 


Exposure to Baltic countries 

Through its ownership of a major banking subsidiary in each Baltic country, SEB has 

a very strong foothold in the Baltic area, where it has been commercially active during 

the past decade. The Baltic countries experienced a severe economic downturn in 

2008 and 2009. Unemployment increased dramatically and the housing bubble burst. 

In 2010 a remarkable turnaround took place, and any imminent risk of devaluation 

has been reduced. In this respect, note that Estonia adopted the euro at the beginning 

of 2011, thereby removing any risk of a devaluation. 

Each Baltic subsidiary of SEB is a leading bank in its respective market. The combined 

market share in the three Baltic markets is around 25%, with the highest share 

being in Lithuania where SEB is the largest bank. In total, the Baltics account for 9% 

of the group’s total loan book, down from 11% a year earlier. Lithuania accounts for 

45% of the total Baltic exposure, and Estonia and Latvia 30% and 25%, respectively. 

We recognise that SEB moved more rapidly than its competitors to adapt to the challenging 

operating environment in the Baltic countries by tightening lending standards 

and increasing provisioning. As a result, it has lost market shares in all three countries 

in recent years, which we regard as positive in this context. Overall, SEB’s 

Baltic exposure is becoming less of a credit factor than previously. 

BUY 


Corporate ticker: SEB 

Equity ticker: SEBA SS 


Ratings: 

S&P rating: A (stable) 

Moodys rating A1 (stable) 

Fitch rating: A+ (stable) 

Analysts: 

Henrik Arnt 


+45 4512 8504 

Thomas Hovard 


+45 4512 8505 


Strengths 

• Strong asset quality among Swedish 

companies 


Challenges 

• Baltic exposure 

• Swedish economy vulnerable to 

short-term rates increasing 



The domestic economic development is central to the prospects for SEB (Sweden 

accounts for almost 60% of the loan book). The domestic Swedish economy fared 

relatively well throughout the financial crisis and a strong recovery has taken place 

recently. The most recent GDP numbers showed that in the fourth quarter of 2010 the 

Swedish economy grew by 7.3% y/y. The macroeconomic backdrop is therefore 

highly supportive for the banking system. 



corresponded to an expansionary economic policy, to the benefit of the domestic 

economy and house prices in particular. We believe that this stimulus via the steep 

42 | 13 April 2011 



decline in short-term interest rates is a key explanation for the low Swedish loan 

losses in the past few years. 

Naturally, the transmission also works the other way, i.e. when rates go up this will 



by our macro team to be 2.75%, by no means at an alarming level. In fact, 

modest increases in the policy rate are probably net positive for the banks, as they 

allows them to raise deposit margins without really jeopardising asset quality. In the 

short to medium term, we therefore fail to see any major negative credit triggers. Our 

main concern would be if we see inflationary signs in Sweden, as this could result in 

a more aggressive hiking path from the Riksbank. 


SEB’s capital position is strong. At year-end 2010 the Tier 1 ratio was 14.2% under 

full Basel II and 12.8% under the transition rules. As a curiosity, it can be noted that 

the total capital position is actually slightly lower than SEB’s Tier 1 ratio. This is due 

to the Swedish rules whereby life insurance investments are deducted from Tier 2 

capital, whereas in Denmark, for example, half of the investment is deducted from 

Tier 1 capital. Furthermore, the “lack” of Tier 2 capital is a reflection of SEB’s strategic 

decision to focus on Tier 1 capital. 

Asset quality 

During the crisis, the challenge for SEB was its Baltic exposure, whereas the Swedish 

operations remained surprisingly resilient. However, in the last two quarters of 

2010, SEB booked a loan loss reversal, driven by the recovery in the Baltic banking 

operations. The reversals of loan loss provisions suggest that SEB’s general approach 

to provisioning during the recession was conservative, and this bodes well for asset 

quality going forward. In addition, the improvement in Baltic asset quality has paved 

the way for a return to profitability of SEB’s Baltic operations. The group’s level of 

gross impaired loans is also starting to come down, being 2.3% of total lending the 

end of 2010, down from 2.4% a year earlier. 

Domestically, SEB is mainly exposed to the relatively largest companies, which have 

so far performed fairly well during the crisis, and lately a sharp growth comeback has 

taken place in Sweden. On a longer horizon, the main risk for Swedish asset quality 

is that an up-tick in inflation could lead to aggressive rate tightening by the Riksbank. 


At the end of 2010, deposits accounted for 45% of SEB’s gross lending. The majority 

are corporate deposits, which in our view are less sticky. Banking operations are 

funded by deposits, while the mortgage operations have traditionally been funded by 

SEB BoLån issuing senior bonds. Wholesale funding is raised in both domestic and 

international capital markets. Although SEB applied for (and was granted) permission 

to issue with a Swedish government guarantee, the bank decided not to utilise 

this option. 

Group strategy requires at least 70% of illiquid assets to be financed using long-term 

funds. The liquidity reserve is also required to comprise at least 5% of total assets. 

SEB’s liquidity reserve totalled around SEK240bn at the end of 2010. Furthermore, 

by the end of 2010 there were 18 months of matched inflows and outflows. Overall, 

we regard the bank’s liquidity position as sound and believe that SEB has a strong 

funding franchise with a diversified mix. 

Capitalisation (transition rules) 



1.2% 

1.0% 

0.8% 

0.6% 

0.4% 

0.2% 

0.0% 

-0.2% 

-0.4% 

16% 

14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 

2006 2007 2008 2009 2010 





Q3 07 Q1 08 Q3 08 Q1 09 Q3 09 Q1 10 Q3 10 

Market 

funds 

34% 

Sub debt 

2% 

Equity 

6% 

Retail 

deposits 

11% 

Interbank 

13% 


Corporate 

deposits 

34% 

43 | 13 April 2011 




Q4 10 report 

SEB beat expectations on NII as well as commissions, whereas trading income and 

costs were a little soft. Generally, lending and deposit volumes were down, but this 

was mainly due to the appreciation of SEK. Adjusted for this, volumes were largely 

unchanged. Net profit was SEK3.5bn, compared with SEK2.8bn in the previous 

quarter (adjusted for discontinued operations and restructuring charges). SEB proposes 

a dividend of SEK1.5 per share, corresponding to a payout ratio of just under 

50%. Lending margins decreased, but this was more than offset by higher deposit 

margins on the back of the higher short-term rates in Sweden, as the Riksbank has 

started to hike rates. Net commission fees increased due to more assets under management 

and higher performance-related fees. 


Financial 

income 

13% 

Fee and 

comm. 

24% 

Other 

income 

10% 

Net 

interest 

income 

43% 















years in order to further build up or protect capital levels. This is positive from a 




reduces the risk of Sweden building up a housing bubble similar to what we saw in 

Denmark, for example. 


Amid the financial crisis, the exposure to the Baltic countries put significant pressure 

on SEB, but recently these countries have been enjoying a remarkable recovery that 

has translated directly into asset quality. Coupled with continuing strong asset quality 

in Sweden, we think that the fundamentals are in place for a further reversal of loan 

losses in the coming quarters, which bodes well for SEB. We also note that SEB has 

communicated that it targets an ‘AA’ rating in the longer term, which should imply 

ongoing focus on its credit profile. 



70% 

65% 

60% 

55% 

50% 

2005 2006 2007 2008 2009 2010 



Financial 

income 

13% 

Fee and 

comm. 

24% 

Cost/income 

Other 

income 

10% 



Net 

interest 

income 

43% 

2.2% 

1.8% 

1.4% 

1.0% 

We remain constructive on SEB and have a BUY recommendation on the name, as it 

continues to trade at a discount to Nordea, DnB and Handelsbanken. We remain 

cautious on the hybrid 9.25% Tier 1 as it has a regulatory par call, which we think 

SEB is likely to take advantage of by 2013. Taking this into consideration, we do not 

consider the spread generous (ASW of 175bp if called at the beginning of 2013). See 

list of instrument prices at the end of this book. 

44 | 13 April 2011 



Financial data SEB 

P&L (SEKm) 2006 2007 2008 2009 2010 




Other income 4,284 4,152 4,206 5,756 3,543 

Total revenue 38,747 40,440 41,140 41,575 36,879 


Other costs 7,221 6,131 7,642 6,740 7,303 

Depreciation and amortisation 883 1,354 1,524 4,672 1,880 

Total costs 22,467 22,406 25,407 25,198 23,187 


Loan losses and provisions 718 1,016 3,268 12,030 1,837 


Non-recurring items 0 0 6 -681 -2,536 

Pre-tax income 15,562 17,018 12,471 3,666 9,319 

Tax 2,939 3,376 2,421 2,482 2,521 

Net income 12,623 13,642 10,050 1,184 6,798 



Due from cent banks & credit instns. 191,792 359,883 311,215 368,049 250,676 

Lending to general public 950,861 1,067,341 1,296,777 1,187,837 1,074,879 

Securities 733,149 833,179 800,566 670,921 686,167 


Other assets 58,639 84,059 102,144 81,420 168,099 

Total assets 1,934,441 2,344,462 2,510,702 2,308,227 2,179,821 





Equity 67,267 76,719 83,729 99,669 99,543 


Key ratios 2006 2007 2008 2009 2010 



Return on ave. assets (before tax) 0.7% 0.6% 0.4% 0.0% 0.3% 



Cost/income 58.0% 55.4% 61.8% 60.6% 62.9% 


Loan loss provisions/Total loans 0.1% 0.1% 0.3% 1.0% 0.2% 





Avg. gross loans/avg. cust. deposits 153% 145% 149% 151% 150% 


Payout ratio 32.7% 0.0% 0.0% 172.0% 48.3% 





P&L (SEK m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 





Loan losses -3,064 -1,813 -639 196 419 

Net profit 281 674 1,986 581 3,503 




Cost/income 58.3% 64.5% 64.0% 61.7% 61.4% 


Loan loss ratio(% ann.) 1.0% 0.61% 0.21% -0.07% -0.15% 

Leverage ratio (core capital/tot. assets) 4.4% 4.4% 4.4% 4.5% 4.7% 




45 | 13 April 2011 



Swedbank 


Swedbank is Sweden’s fourth largest banking group in terms of assets. The bank was 

established in 1997 as the result of a merger between Sparebanken Sverige and 

Föreningsbanken. Swedbank operates the widest distribution network in Sweden and 

enjoys a very strong domestic market share in retail banking, financial services (particularly 

in mortgage finance through Swedbank Mortgage, previously known as 

Spintab), asset management (through Robur) and retail deposits. Swedbank is relatively 

stronger in rural areas. The total market share in Sweden is around 18%, but 

within mortgage lending Swedbank’s market share is over 22%. 

Swedbank has a client base of 680,000 corporate customers and more than nine million 

private clients, over 50% of whom are resident in the Baltic countries. In addition, 

the bank has 1.7 million customers either through joint enterprises or alliances 

serviced by over 260 branches of partly-owned and independent savings banks in 

Sweden. 

In 2005, Swedbank acquired the remaining 40% of shares in Hansapank (Hansa 

Bank), representing a significant entry into the Baltic market. In addition, it finalised 

the acquisition of the 13th largest Ukrainian bank, Tas-Kommerzbank, for USD735m 

in July 2007. Swedbank’s largest shareholders are Folksam (a Swedish insurance 

company) and the Association of Savings Banks, with 9.4% and 7.4% of voting 

rights respectively. 


Large albeit decreasing exposure to Baltic countries 

Due to its ownership of subsidiaries in the Baltic countries (formerly operated under 

the Hansapank brand name), Swedbank enjoys a very strong foothold in the Baltic 

region. The Baltic countries experienced a severe economic downturn in 2008 and 

2009. Unemployment increased dramatically and the housing bubble burst. In 2010, 

a remarkable turnaround took place and any imminent risk of devaluation faded. In 

this respect, note that Estonia adopted the euro at the beginning of 2011, thereby 

removing any risk of a devaluation. 

Each Baltic subsidiary is a leading bank in its respective market. Swedbank’s combined 

market share in the three Baltic markets exceeds 30%, with the highest percentage 

being in Estonia it has close to 50% of the total market. 

HOLD 


Corporate ticker: SWEDA 

Equity ticker: SWEDA SS 


Ratings: 

S&P rating: A (stable) 

Moodys rating: A2 (under review for 

upgrade) 

Fitch rating: Not rated 

Analysts: 

Henrik Arnt 


+45 4512 8504 

Thomas Hovard 


+45 4512 8505 


Strengths: 

• Robust Swedish franchise 


Challenges: 

• Exposure to Baltic countries 

• Profitability under pressure 

• Low geographical diversification 


Overall, the Baltics accounted for 10% of group lending by the end of 2010 (down 

from 14% at end-2009), equivalent to SEK131bn, of which Estonia accounts for 

44%. The adoption by the euro in Estonia as of the beginning of this year has lowered 

risks in the Baltics and improved visibility. Overall, the Baltic exposure is becoming 

less of a credit driver for Swedbank than previously. 


The domestic economic development is central to the prospects for Swedbank (Sweden 

accounts for more than 80% of the loan book). The domestic Swedish economy 

fared relatively well throughout the financial crisis and recently a strong recovery has 

taken place. The most recent GDP numbers showed that in the fourth quarter of 2010 

the Swedish economy grew by 7.3% y/y. The macroeconomic backdrop is therefore 




corresponded to a expansionary economic policy to the benefit of the domestic economy 

and house prices in particular. We believe that this stimulus via the steep decline 

46 | 13 April 2011 



in short-term interest rates is a key explanation for the low Swedish loan losses in the 

past few years. Naturally, the transmission also works the other way, i.e. when rates 

go up it will be felt with immediate effect, and the Riksbank started hiking its policy 

rate in September. So far, the level remains low and by the end of the year the repo 

rate is expected by our macro team to be 2.75% and therefore by no means at an 

alarming level. In fact, the modest increases in the policy rate are probably net positive 

for the banks, as it allows them to increase deposit margins without really jeopardising 

asset quality. 

In the short to medium term, we therefore fail to see any major negative credit triggers. 

Our main concern would be if we see inflationary signs in Sweden, as this could 

result in a more aggressive hiking path from the Riksbank. 


In Q4 10, Swedbank further increased its capitalisation. Under full Basel II, the Tier 

1 ratio increased to 15.2% and the current capital level is therefore strong. In connection 

with the Q4 report, Swedbank has now communicated a Tier 1 target of 13%, to 

be in force until 2013. On a longer horizon, the Tier 1 ratio should not fall below 

10%. 

Asset quality 

For the first time since the financial crisis, Swedbank made a reversal of provisions 

in Q4 10. Loan loss reversals are also likely for Q1 11 (see section on next page on 

one-off reversals), and asset quality is well supported in the short to medium-term. 

Furthermore, the level of impaired loans is coming down, from 3.2% in Q3 10 to 

2.9% in Q4 10. Almost two thirds of impaired loans stem from the Baltic countries. 

With the importance of the Baltics diminishing, Swedbank is becoming more of a 

pure Swedish play, compared with its peers that have bigger operations in the other 

Nordic countries. This has been beneficial for the bank so far, as Sweden has been 

the European sweet spot when it comes to asset quality. However, it also makes 

Swedbank less diversified than its peers, which we consider a slight credit weakness 

going forward. 


Swedbank is a retail-orientated bank with a substantial domestic branch network 

providing access to a relatively stable source of deposits, representing more than one 

third of total funding by Q4 10. The loans to deposits ratio has decreased from 2.5x 

in 2009 to 2.4x in 2010. The reason for the relatively large gap is the mortgage loan 

book, which is financed through issuance of covered bonds. 

Swedbank has worked hard on extending its debt maturity profile and increasing its 

liquidity reserves. Since year-end 2009, the average maturity of wholesale funding 

has increased from 22 to 27 months. 


Q4 10 report 

In Q4 10, Swedbank delivered a solid report. Both net interest and commission income 

were ahead of expectations, as was trading income. The improvement in NII of 

14% came despite the loan book being reduced by 2% and is therefore a reflection of 

improved margins. Lending in Eastern Europe has been reduced by more than 

SEK100bn during the past two years. Corporate lending has also decreased, but this 

has been largely offset by an increase in residential mortgage lending. Overall, the 

risk profile of Swedbank has therefore undergone a material improvement. Naturally, 

it is not viable to continue to shrink the loan book, but this should be of more concern 

to the equity investors. Considering the strong capitalisation and the much better 

macroeconomic visibility, we believe that Swedbank is likely to start growing its 

47 | 13 April 2011 


14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 



2.5% 

2.0% 

1.5% 

1.0% 

0.5% 

0.0% 

-0.5% 

2006 2007 2008 2009 2010 


Q1 09 Q3 09 Q1 10 Q3 10 



Market 

funds 

46% 

Sub debt 

Equity 

2% 

6% 

Retail 

deposits 

21% 

Interbank 

9% 


Corporate 

deposits 

16% 



business again. Net income came in at SEK2.75bn, up from SEK2.6bn in the previous 

quarter and a net loss of SEK1.8bn in Q4 09. 

Positive one-off items in Q1 2011 

Swedbank had an outstanding repo of USD1.35bn with Lehman Brothers by the time 

Lehman defaulted. After Lehman’s bankruptcy, Swedbank took possession of the 

approximately 50 commercial real estate loans that served as underlying security for 

the repo. Swedbank and the US Bankruptcy Court supervising the Lehman Brothers 

Chapter 11 case agreed on the exchange of a number of loans. As a result, Swedbank 

will report one-off pre-tax income of USD114m (SEK720m). The remaining carrying 

amount of loans relating to the repo was USD940m (SEK6.0bn) as of 8 March 2011. 


Due from 

banks 

11% 

Securities 

10% 

Retail 

45% 

At the same time, Swedbank reported recoveries for the period January-February 

2011 of approximately SEK540m, due to a further improvement in credit quality in 

the Baltic countries and Eastern Europe. This suggests that asset quality is well supported, 

and from a credit perspective we anticipate a strong Q1 11 report. 














Overall, Swedish banks will face a need to act quite conservatively in the next few 

years, in order to further build up or protect capital levels. This is positive from a 


year, the LTV requirements for Swedish mortgages were lowered, and now the regulators 


reduces the risk of Sweden building up a housing bubble. 


We believe that the CEO of Swedbank, Michael Wolf, can look back on a remarkable 

turnaround that has taken place under his watch. In our view, the risk profile of 

Swedbank today is very different from what it was a few years ago, and Sweden is 

set to become the most important credit driver for the bank, whereas it used to be the 

Baltics and Ukraine. Visibility has therefore improved substantially and the ongoing 

loan-loss recoveries at the beginning of the year support this. Overall, we are therefore 

comfortable with the name. 



62% 

60% 

58% 

56% 

54% 

52% 

50% 

48% 

46% 

44% 

Corporate 

34% 




2.7% 

2.4% 

2.1% 

1.8% 

1.5% 

1.2% 

0.9% 

0.6% 

0.3% 

0.0% 

2006 2007 2008 2009 2010 


Cost/income 

Financial 

income 

8% 

Fees and 

comm. 

31% 

Other 

income 

7% 

Net 

interest 

income 

54% 

Swedbank has not been a frequent issuer of senior unsecured bonds in recent years – 

instead the bank has issued covered bonds. Furthermore, there are few subordinated 

bonds outstanding as Swedbank bought back some of the issues since it wanted to 

focus on core Tier 1 capital. We have a HOLD recommendation on Swedbank. See 

list of instrument prices at the end of this book. 

48 | 13 April 2011 



Financial data Swedbank 

P&L (SEKm) 2006 2007 2008 2009 2010 




Other income 1,391 1,772 3,068 2,556 2,166 

Total revenue 28,975 32,500 35,951 33,916 30,420 


Other costs 5,920 6,222 7,944 7,758 7,300 

Depreciation and amortisation 659 705 999 1,338 1,587 

Total costs 15,139 16,719 18,085 18,297 18,279 



Operating profit (core earnings) 14,041 15,162 14,710 -9,022 9,331 

Non-recurring items 222 424 -891 -439 624 

Pre-tax income 14,263 15,586 13,819 -9,461 9,955 

Tax 3,211 3,450 2,880 981 2,472 

Net income 11,052 12,136 10,939 -10,442 7,483 

Adjusted net income 10,880 11,996 12,290 -9,206 7,483 


Due from cent. banks & credit instns. 201,431 174,014 185,574 130,010 183,526 

Lending to general public 946,319 1,135,287 1,287,424 1,290,667 1,187,226 

Securities 76,576 193,110 157,354 180,120 137,757 


Other assets 128,663 105,573 181,338 193,890 207,172 

Total assets 1,352,989 1,607,984 1,811,690 1,794,687 1,715,681 





Equity 59,974 68,008 86,230 89,670 94,897 


Key ratios 2006 2007 2008 2009 2010 



Return on average assets (bef. tax) 0.9% 0.8% 0.6% -0.6% 0.4% 

Return on average equity before tax 25.1% 24.4% 17.9% -10.8% 10.8% 

Return on average equity after tax 19.5% 19.0% 14.2% -11.9% 8.1% 

Cost/income 52.2% 51.4% 50.3% 53.9% 60.1% 







Avg. gross loans/avg. cust. deposits 239.4% 242.5% 250.6% 254.5% 238.6% 

Lending growth 15.1% 20.0% 13.4% 0.3% -8.0% 

Payout ratio 39.1% 38.7% 0.0% 0.0% 0.5% 


Core capital ratio excl. hybrid 5.8% 5.3% 7.0% 9.2% 10.1% 



P&L (SEK m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 





Loan losses -5,003 -2,210 -963 -120 483 

Net profit -1,804 536 1,567 2,591 2,750 




Cost/income 54.7% 58.4% 58.1% 57.1% 58.6% 


Loss ratio (% ann.) 1.6% 0.7% 0.3% 0.0% -0.2% 

Leverage ratio (core cap./total assets) 4.6% 4.3% 4.3% 4.5% 4.8% 




49 | 13 April 2011 



Sydbank 


Sydbank is a full-service Danish bank with a nationwide presence and a small international 

exposure. The bank’s headquarters are at Aabenraa in Southern Jutland, 

where it was established in 1970 through the merger of four local banks. Measured 

by the loan book, Sydbank is the fourth-largest bank in Denmark, with a market 

share of around 5% of the domestic banking market. In the core Jutland area, 

Sydbank’s market share is 20-25%, with 80% of its customers and 90% of its branch 

network based in this area. The bank operates through more than 100 branches in 

Denmark (plus three in Germany and a subsidiary bank in Switzerland) and has 

around 390,000 customers, including 32,000 corporates. 

The main business areas are Retail and Corporate banking, Sydbank Markets, Asset 

Management and Syd-Leasing. In addition, Sydbank has strategic ownership in 

Bankdata (IT services) and Bankinvest (asset management). Recently, Jyske Bank 

joined Bankdata, which should lead to cost savings for Sydbank as Bankdata’s costs 

will be shared among more members. Mortgage lending is issued in strategic partnership 

with Totalkredit/Nykredit and DLR, while life insurance is offered in 

co-operation with Topdanmark and PFA. These partnerships enable the bank to provide 

a wide selection of banking services to customers. 


Independent bank 

Sydbank has around 140,000 shareholders, with customers holding around one-third 

of the shares. The largest shareholder is Nykredit, which owns more than 5% of the 

shares but does not have control of Sydbank. Sydbank has a clear strategy to remain 

an independent bank, and with strict ownership rules (voting restrictions) and a high 

proportion of shareholders with relatively low stakes, it is effectively protected from 

a hostile takeover and from outside influence. Going forward, Sydbank wants to 

consolidate its nationwide presence both by expanding its branch network and its 

electronic availability, supported by broad market communication. 

Recent rating changes at Sydbank (A1/NR/NR) 

In March 2009, Moody’s downgraded the Danish banks’ subordinated debt by two 

notches to A3 due to the lack of government support for these instruments. In February 

2010, Moody’s downgraded Danish hybrid securities by one notch as the rating 

agency finalised its revision of the guidelines for rating bank-subordinated debt, 

resulting in a subordinated rating of Baa1 for Sydbank. 

DATA 


Corporate ticker: SYDBDC 

Equity ticker: SYDB DC 

Market cap: DKK10.4bn 

Ratings: 

S&P rating: Not rated 

Moodys rating A1 / NW 


Analysts: 

Thomas Hovard 


+45 4512 8505 

Henrik Arnt 


+45 4512 8504 


Strengths: 

• High capitalisation. 

• Sound profitability. 

• Conservative risk management. 

Challenges: 

• Limited geographic diversification. 

• M&A risk. 


Following the collapse of Amagerbanken and the resulting haircuts on senior unsecured 

debt, Moody’s changed its stance on Denmark from seeing it as a high-support 

country to being a low-support one. Consequently, in February 2011, government 

support was removed from all but the four largest banks. The expected funding pressure 

has led Moody’s to put all Danish banks’ stand-alone ratings on negative outlook 

(also spurred by the very modest macroeconomic recovery in Denmark). 

Moody’s has put Sydbank’s A1 rating on Negative Watch as the agency is evaluating 

the likelihood of the bank being ‘too big to fail’ (currently, systemic support provides 

Sydbank’s rating with an extra notch, and we expect this to continue). Importantly, 

Sydbank’s stand-alone rating of C+ (BFSR) has not been downgraded. 

50 | 13 April 2011 



Asset quality 

In 2009, the loan book decreased by 9% and another 4% in 2010, more or less in line 

with the sector (corporates and repos being the area of reduction). 

Sydbank’s lending portfolio is almost entirely concentrated on Danish customers, but 

it is well diversified by industry, with the Finance and Insurance (17%) and Real 

Estate (10%) sectors being the largest industry exposures. Compared with other 

Danish banks, Sydbank’s exposure to the construction and developer segment is 

limited, as it experienced significant difficulties in this segment in the mid 1990s. 

The bank has a strong corporate lending profile (65% of lending in 2010), which to 

some extent is due to SMEs with retail-like characteristics. The total of the largest 

credit exposures was reduced markedly to 17% of total capital at the end of 2009, 

from 134% in 2005 – a level significantly below the sector average and a positive 

credit factor. In 2010, the exposure increased to 54%. According to Sydbank all of 

this exposure is towards large financial institutions. In recent years, Sydbank has 

been developing internal models for customers’ credit ratings to gauge credit risk, 

monitor credit deterioration and price and assess concentration risk. Sydbank uses the 

advanced IRB for households and the Foundation IRB for corporates. 

Like other Danish banks, asset quality deteriorated rapidly during 2009, and 2010 has 

not shown a meaningful improvement. In Q4 annualised loan losses increased to 

around 2% of total lending. On the other hand, we consider Sydbank’s provisioning 

policy to be conservative, and the bank has indicated that it will seek to build up its 

provisioning account over the next few years (ie, it has a ‘hidden’ buffer, if the provisioning 

policy is in fact conservative). 

Sydbank comfortably passed the European stress test that was carried out in July 

2010, and which showed that Sydbank has no exposure to sovereign debt in Southern 

Europe and Ireland. 


In recent years, Sydbank’s funding base has been stable and diversified, with 50-55% 

stemming from retail deposits, which is in line with the average of other mediumsized 

Danish banks. The bank’s dependence on capital markets and money markets, 

measured by market funds’ reliance, has grown in recent years. Sydbank has a global 

MTN programme in place, which was last used in September 2010 in a EUR1.0bn 

2Y bond issue. 

Sydbank has a EUR500m senior unsecured bond maturing in June 2011 and the bank 

has stated that it intends to test the markets following the Q1 results. The collapse of 

the small Danish bank Amagerbanken and the Danish authorities’ willingness, 

through bank package 3, to impose haircuts on senior unsecured funding has put 

some stress on the funding situation for Danish banks. We regard Sydbank as strong 

enough and large enough to be able to continue to attract foreign funding in line with 

2010, when the bank issued a EUR1bn 2-year benchmark issue (although any new 

issue would probably be at a higher price). 

In addition, Sydbank has set requirements concerning its ability to withstand a runoff 

of capital market financing, defined in terms of the interbank market and Global 

MTN issues, while at the same time financing normal growth in loans and advances. 

The time-frame is 12 months and is based on the liquidity value of group assets (eg, 

central bank eligible securities). 

Note that Sydbank has not taken up any state hybrid capital or any state-guaranteed 

funding. 

Overall, we view Sydbank’s funding and liquidity risk policies as satisfactory and 

prudent. Considering the current general tough environment for wholesale funding, 

the relatively high retail deposit share of funding should benefit Sydbank going forward. 

51 | 13 April 2011 


2,5% 

2,0% 

1,5% 

1,0% 

0,5% 

0,0% 

-0,5% 

-1,0% 

-1,5% 


Earnings and efficiency 

80% 

70% 

60% 

50% 

40% 

30% 

20% 

10% 

0% 

Q3 07 Q1 08 Q3 08 Q1 09 Q3 09 Q1 10 Q3 10 

2005 2006 2007 2008 2009 2010 


Cost/income 



Market 

funds 

6% 

Interbank 

34% 

Equity 

Sub debt 7% 

2% 


Deposits 

51% 


2,7% 

2,4% 

2,1% 

1,8% 

1,5% 

1,2% 

0,9% 

0,6% 

0,3% 

0,0%



Sydbank’s capital ratios are strong and have increased in recent years. Previously, the 

bank targeted core capitalisation of 8% and a solvency ratio of 10%. Following the 

Basel II implementation and in the context of the capital relief, Sydbank has adjusted 

its capitalisation targets. In 2009, Sydbank issued a new total capital target of 

DKK9.9bn, corresponding to a solvency ratio of 12.7%. Furthermore, Sydbank’s 

target for equity Tier-1 capital is a minimum of 80% of total capital. Sydbank reports 

an individual solvency requirement of 9.0%. The total capital ratio was 15.4% at end- 

2010 and Tier 1 capital was 14.3% (11.9% excluding hybrids). Sydbank more than 

fulfils its targets, and, given the risk profile of the bank, we view the capitalisation as 

strong. 



After decent results in the previous quarter, the Q4 numbers were a disappointment – 

especially from a credit perspective, as loan losses increased, leading to an overall 

net loss of DKK25m for the quarter (compared to a Q3 10 net profit of DKK185m). 

The more or less neutral development in net interest and commission income was 

overshadowed by a significant uptick in loan losses. For the quarter loan losses came 

in at DKK456m, up 47% q/q and 30% y/y. This corresponds to an annualised loan 

loss ratio of 2.2%, significantly up from the levels we saw in the previous quarters. 

According to management the reason for the higher losses is that the bank has decided 

to take a more conservative approach. In this respect it is worth noticing that 

Sydbank changed its CEO in the middle of last year and part of the increase in the 

loan losses may therefore be attributed to her wanting to start from scratch in 2011. 

Sydbank’s loan losses in Q4 have been materially above the loan losses taken in 

other quarters, suggesting that management is generally examining the loan book 

more thoroughly. 

M&A risk 

Sydbank did not take advantage of the possibility of issuing a hybrid state loan under 

the second Danish Bank Package. Instead, in mid-September 2009 Sydbank carried 

out a successful rights issue, increasing the Tier 1 ratio by 1.2 percentage points. The 

main reason for the capital increase was to renounce Bank Package II capital. However, 

Sydbank also has ambitions to grow its business by participating in the consolidation 

process in Denmark (which we expect to occur at a fast pace due to the funding 

gap in the Danish banking sector). In particular, Sydbank has stated that it wants 

to add to its presence in Eastern Denmark (Copenhagen area), where its market share 

is much lower than in Jutland. However, so far nothing has materialised. In our view, 

any acquisition would be a bolt-on rather than a larger-scale deal. 

Summary 

Throughout the financial crisis, Sydbank has performed strongly. We admit the Q4 

report was poor, but we still believe that this was mainly because the new CEO wants 

to have a clean book going into 2011. Strict underwriting standards, low exposure to 

commercial property and a very low number of large customers all support the asset 

quality. Furthermore, the bank is well capitalised. 


18% 

16% 

14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 



Fees and 

comm 

24% 

2005 2006 2007 2008 2009 2010 



Securities 

29% 

Due from 

banks 

6% 

Financial 

income 

9% 


Other 

income 

1% 


Retail 

22% 

Corporate 

43% 

Source: Company reports, Danske Markets 

Net interest 

income 

66% 

As Danske Bank is currently involved in a bond transaction for Sydbank, we have no 

recommendation on the name. 

52 | 13 April 2011 



Financial data Sydbank 

P&L (DKKm) 2006 2007 2008 2009 2010 


Fees and commissions 1,178 1,282 1,084 963 1,146 

Net result from financial transactions 682 345 -71 667 420 

Other income 50 57 174 54 45 

Total revenue 3,796 3,811 3,952 5,089 4,829 


Other costs 742 815 997 887 0 


Total costs 2,039 2,214 2,636 2,476 2,506 


Loan losses and provisions -171 -568 545 1,195 1,556 

Operating profit (core earnings) 1,928 2,165 771 1,418 767 

Non-recurring items 123 92 40 -420 -209 

Pre-tax income 2,051 2,257 811 998 558 

Tax 537 547 205 217 147 

Net income 1,514 1,710 606 781 411 

Adjusted net income 1,394 1,655 583 1,224 622 




Securities 14,271 17,456 28,064 38,194 36,915 


Other assets 11,025 12,713 19,236 17,654 21,794 

Total assets 114,758 132,323 155,975 157,821 150,843 



Subordinated debt ex hybrid 2,536 2,706 2,837 1,738 945 

Hybrid securities (Tier 1) 939 1,123 1,382 1,386 1,384 

Equity 6,349 6,697 7,088 9,118 9,554 


Key ratios 2006 2007 2008 2009 2010 






Cost/income 53.7% 58.1% 66.7% 48.7% 51.9% 


Loan loss provisions/Total loans -0.2% -0.7% 0.6% 1.4% 1.9% 







Payout ratio 13.9% 11.9% 0.0% 0.0% 0.0% 





P&L (DKK m) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 



Net result from financial transactions & trading 172 204 41 190 -15 


Loan losses -350 -308 -309 -311 -456 

Net profit 212 169 82 185 -27 




Cost/income 45.8% 50.1% 53.8% 46.5% 58.6% 


Loss ratio (% ann.) 1.6% 1.5% 1.5% 1.5% 2.2% 





53 | 13 April 2011 



Volvofinans Bank 


Established in 1959, Volvofinans Bank AB is the captive finance company of the 

Volvo dealership network in Sweden. It is the country’s largest car and truck finance 

company and has historically had a strong market share in vehicle financing. According 

to Moody’s, the company finances 55% of all new Volvo and Renault cars and 

25% of new Volvo trucks in Sweden. Its nearest competitor is Nordea Bilfinans. Its 

main aim is to promote the sale of Volvo and Renault products through attractive and 

competitive financing of cars, trucks and buses sold through the 69 Swedish Volvo 

dealerships (200 outlets). Volvo car dealers are the only Swedish distributors of 

Renault and Ford cars and enjoy a strong market position in the Swedish market, 

with a combined Volvo, Renault and Ford market share of close to 30%. Volvofinans 

offers a wide range of financing solutions, including leasing, hire purchase and credit 

card services through Volvo Card and car fleet management. 

Volvofinans was initially a joint venture between AB Volvo and Volvo dealers in Sweden. 

In 2001, AB Volvo was replaced by the Ford Motor Company when the latter bought 

the Volvo Car Corporation. In July 2007, the government-controlled Sixth Swedish National 

Pension Fund (AP6) bought 40% of the shares from Ford. The Volvofinans Group 

consists of Volvofinans, a credit card company called Volvofinans Konto and an IT service 

provider, Volvofinans IT. As with all captive financing companies, it relies strongly 

on its parent’s brand names and business development, but Volvofinans has legal status as 

a financial company. On 15 July 2008 Volvofinans was granted permission by the Swedish 

FSA to conduct banking activities under the name Volvofinans Bank. 


Ford Credit is no longer an owner 

On 17 July 2007 the ownership structure of Volvofinans changed when AP6 acquired 

40% of the shares, leaving Ford Credit with 10% (previously 50%). The 10% ownership 

stake was transferred to Volvocars, which is now Chinese-owned. These 

changes were highly positive for Volvofinans’ credit quality as they reduced the 

contagion risk that had overshadowed the company. According to AP6, its investment 

in Volvofinans should be seen as “very much long term”. We view the remaining 

owner, Volverkinvest AB (which still holds 50% of shares) as stable, as it is 

owned by 70 Volvo dealers, which are dependent on Volvofinans. In addition, AP6’s 

involvement reduces the risk that Volvofinans will provide financing too cheaply in 

order to cross-subsidise a specific car brand. 

Broadening of business 

Ford’s exit from Volvo means that Volvofinans has been allowed to finance all car 

brands sold by Swedish Volvo dealers, broadening the company’s business. Volvo 

dealerships are now marketing Volvo, Renault, Ford, Jaguar, Land Rover, Hyundai, 

Mazda, Toyota, Nissan, Peugeot and BMW, giving Volvofinans the opportunity of 

increased car financing penetration. 

HOLD 


Corporate ticker: VOLVAB 



Ratings: 

S&P rating: Not rated 

Moodys rating: Baa2 (NO) 


Analysts: 

Henrik Arnt 


+45 4512 8504 

Thomas Hovard 


+45 4512 8505 


Strengths: 

• Legal structure supports credit 

(dealerships bear most credit risk 

in car financing). 

• Strong Swedish economy backs 

asset quality in both car financing 

and credit cards. 

Challenges: 

• Car financing is highly cyclical. 

• Credit card business is inherently 

risky. 

• High reliance on wholesale funding. 


The payment card, Volvo Card, is becoming increasingly significant to Volvofinans’ 

performance. Volvo Card acts as a credit card at all Volvo dealerships, paying for repairs, 

servicing, petrol etc. Goods and services acquired by the Volvo Card amounted to 

SEK10bn in 2010. The risk in the credit card business for Volvofinans Bank is significantly 

higher than in car financing but until now loan losses have been relatively modest. 

54 | 13 April 2011 




The domestic economic development – house prices and unemployment in particular 

– is central to the prospects for Swedish banks, including Volvofinans, as virtually all 

the company’s activities are in Sweden. The domestic Swedish economy fared relatively 

well throughout the financial crisis and recently a strong recovery has taken 

place. The most recent GDP numbers showed that in the fourth quarter of 2010 the 

Swedish economy grew by 7.3% y/y. The macroeconomic backdrop is therefore 



bulk of Swedish mortgages are tied to the short-term rate (STIBOR), this corresponded 

to an expansionary economic policy, to the benefit of the domestic economy 

and house prices in particular. We believe that this stimulus via the steep decline in 

short-term interest rates is a key explanation for the low Swedish loan losses in the 

past few years. 

Profitability and efficiency 

90% 

80% 

70% 

60% 

50% 

40% 

30% 

20% 

10% 

0% 

2005 2006 2007 2008 2009 2010 

Cost-income ratio 


2,0% 

1,6% 

1,2% 

0,8% 

0,4% 

0,0% 


-0,4% 

Naturally, the transmission also works the other way, i.e. when rates go up this will 



by our macro team to be 2.75%, by no means alarming. In fact, modest increases 

in the policy rate are probably net positive for the banks allowing them to 

raise deposit margins without really jeopardising asset quality. In the medium term, 

we therefore fail to see any major negative credit triggers for the Swedish banking 

sector. Our main concern would be inflationary signs in Sweden, as this could result 

in a more aggressive hiking path from the Riksbank. 

Asset quality 

Legal structure and credit practices at dealer level mitigate credit risk 

As its primary aim is to finance and manage financial contracts provided by Volvo 

dealers to their customers, Volvofinans does not assume any credit risk from auto 

customers directly – this risk is borne solely by the dealers and governed by legal 

lending contracts between the dealers and Volvofinans. All auto-financing at the 

dealer level is secured by the collateral of the cars and trucks. Volvofinans would 

only be exposed to car financing risk if the dealer that underwrote the risk were to go 

into liquidation. Historically, the dealers have shown sound performance and only 

three have gone bankrupt since Volvofinans’ creation in 1959, none resulting in 

actual losses for Volvofinans. 

By the end of 2010, the lending volume was SEK23.2bn, up from SEK21.7bn at 

year-end 2009. 16% of the loan book was made up of the more cyclical trucks and 

buses segment. Problem loans (more than 90 days in arrears) related to credit cards 

were SEK119m (down from SEK129m at year-end) and related to vehicle leasing 

and lending were SEK103m. Of the latter, dealers bear the credit risk due to recourse 

for SEK95m, i.e. virtually all the outstanding amount. Problem loans amounted to 

1.6% of total gross loans, which represents a marginal increase compared with end- 

2009. 

The company has a low market risk appetite: all currency risk is hedged and no equity 

risk is undertaken. 


Volvofinans' financing requirements are largely met by three public marketing programmes. 

A Nordic Company-Certification programme of SEK15bn and a Euro- 

Commercial Paper Programme of EUR500m are used for short-term borrowing, and 

an MTN programme of SEK12.5bn is used for long-term borrowing. Furthermore, 

Volvofinans was granted permission by the Swedish national debt office for a Swedish 

state guarantee and used it during the first half of 2009 to replace short-dated 

liabilities with longer term-financing. 

Problem loans as % of total loans 

2,00% 

1,80% 

1,60% 

1,40% 

1,20% 

1,00% 

0,80% 

0,60% 

0,40% 

0,20% 

0,00% 

2001 2003 2005 2007 2009 


Funding mix 

Market 

funds 

55% 

Problem loans/Total loans 

Sub debt 

1% Equity 

17% 

Deposits 

11% 


55 | 13 April 2011 



Volvofinans is by nature a wholesale-driven business, but it attracts deposits through 

its Volvo Card, which now accounts for SEK2.5bn, equivalent to 11% of total funding. 

All maturing short-term debt (


Financial date Volvofinans 

Key figures (SEKm) 2006 2007 2008 2009 2010 

Net interest income 93 124 176 337 1,430 

Fee and commission 234 246 251 265 266 


Other income 242 231 184 14 2 

Total revenue 570 607 614 619 1,699 


Loan losses and provisions -1 7 21 5 17 

Net income 216 225 260 158 232 


Total assets 24,955 25,873 25,382 24,067 25,430 

Deposits from the general public 453 0 0 1,900 2,515 

Issued securities 13,045 20,593 20,231 16,914 13,242 

Subordinated debt 460 195 210 209 203 

Equity 2,653 2,552 2,612 2,824 4,140 

Ratios 2006 2007 2008 2009 2010 



Cost/income 47.6% 47.9% 50.0% 64.0% 84.1% 


Loan loss provision/Pre-provision income -0.39% 2.11% 6.70% 2.48% 6.14% 

Avg. customer deposits/avg. funding 2.21% 0.00% 0.00% 9.99% 11.34% 

Core capital ratio 10.47% 12.24% 13.20% 15.06% 14.45% 



Quarterly review (SEKm) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 


Fee and commission 69 61 69 67 68 


Other income 16 0 0 0 2 

Total revenue 145 269 325 348 758 

Pre-provision income 59 61 58 80 71 

Lending to the general public (net) 23,155 22,482 22,255 19,876 13,914 



Cost/income 58.6% 77.2% 82.0% 77.0% 90.6% 

Core capital ratio 15.06% 15.06% 14.02% 13.80% 14.45% 


57 | 13 April 2011 



58 | 13 April 2011 



General Industrials 

59 | 13 April 2011 



ABB 


ABB is a global manufacturing conglomerate focused on five major operations: Power 

Products, Power Systems, Discrete Automation & Motion, Low-Voltage Products and 

Process Automation. The portfolio ranges from light switches to robots and from large 

electrical transformers to control systems managing power networks and factories. The 

main business drivers are linked to capital expenditure in the utility sector and various 

process industries. After three years of speculative-grade ratings, ABB returned to investment 

grade in April 2006 after successfully restoring operational and financial performance. 

Its largest shareholders are Investor AB, which holds 7.1% of the share capital 

and voting rights, and BlackRock with 3.0%. The company employs a staff of around 

116,500 people. 


Strong business risk profile 

ABB’s strategy focuses on its core power and automation operations. During years of 

restructuring following the distressed situation that emerged in 2002, the focus has 

been on improving operating efficiency, risk management and control, and the disposal 

of non-core operations. The strong business risk profile is supported by ABB’s 

scale, global market leadership and strong geographical diversification. In 2010, the 

company had 39% of sales in Europe, 20% in the Americas, 28% in Asia and 13% in 

Middle East and Africa. Technological requirements and access to distribution channels 

create significant barriers to entry. 

Mid- to late-cyclical exposure 

Discrete Automation & Motion, Low-Voltage Products, and Process Automation 

(around 51% of 2010 sales) are characterised by mid- to late-cyclical investment 

peaks. These business segments accounted for most of the decline in sales during the 

global recession in 2008 and 2009. Meanwhile, demand for power transmission and 

distribution (around 49% of 2010 sales) is linked to long-term economic trends and 

growth, rather than shorter business cycle fluctuations. These business segments have 

proven more stable throughout the crisis. In the medium term, ABB is expected to 

benefit from the need for power and industrial investments in emerging markets and 

the need for upgrades and increased efficiency in mature markets. However, uncertainty 

over the economic recovery, availability of funding and stability of raw material 

prices can result in customers postponing some of their investment decisions. 

Strong balance sheet leaves room for acquisitions 

After years of focus on restructuring through large divestments and capital injections, 

leverage has been reduced significantly and ABB now holds a large net cash position. 

Throughout this process, the focus has been on organic growth, with a very conservative 

attitude towards acquisitions. However, since Joseph Hogan became CEO in September 

2008, ABB has announced its intention to increase the pace of acquisitions and 

we expect more efficient debt employment going forward. We expect the company to 

pursue bolt-on acquisitions that complement both the product range and the geographical 

presence. The risk of a substantial acquisition is present, given the high degree of 

sector concentration. However, with its large cash position, ABB has significant headroom 

for acquisitions and/or shareholder distribution within its gearing target and current 

ratings. When accounting for cash needed for ongoing operations, we estimate the 

current headroom available for acquisitions under the ‘A’ credit rating to be in the 

range of USD7.0bn. S&P also expects ABB to carry out acquisitions of several billion 

USD in the near to medium term. 

HOLD 

Sector: Industrials; 

Automation & Power 

Corporate ticker: ABB 

Equity ticker: ABBN VX 

Market cap: CHF51.2bn 

Ratings: 

S&P rating: A /S 

Moodys rating: A3 /S 

Fitch rating: BBB+ /S 

Analyst: 

Asbjørn Purup Andersen 

apu@danskebank.com 

+45 45148886 

Kristian Myrup Pedersen 

kripe@danskebank.com 

+45 45128519 


Strengths: 

• Leading positions worldwide in 

Power and Automation segments. 

• Barriers to entry from technology 

base and economies of scale. 

• Geographical diversification with 

emerging market exposure. 

• Conservative financial profile, solid 

cash flow and credit metrics. 

Challenges: 

• Cyclical demand volatility in Automation 

segment. 

• Low capacity utilisation creates 

competition and price pressure. 

• More acquisitions will likely increase 

debt levels in the future. 


60 | 13 April 2011 



Liquidity 

We consider ABB’s liquidity position particularly strong. At the end of 2010, ABB had 

cash and cash equivalents of USD8.6bn, of which S&P estimates that USD1.7bn is 

required to maintain ongoing operations. The company also has a USD2.0bn committed 

and unutilised syndicated credit facility, which matures in 2015 after being renewed 

in November 2010. Moreover, this credit facility is not subject to financial covenants or 

material adverse change clauses. ABB also has a strong track record of free operating 

cash flow generation, which S&P expects to be around USD2.0bn per annum over the 

medium term. 

This compares with short-term liabilities of around USD1.0bn. ABB has several of its 

debt maturities covered with its freely-available cash. In fact, ABB has total reported 

debt of just USD2.2bn, so it holds a significant net cash position. 


Late cyclical segments yet to see recovery 

While ABB was affected by the economic downturn, its EBIT margin actually rose 

somewhat due to cost focus and working capital releases. The downturn mainly affected 

the short-cycle segments, while the Power segments were largely unaffected 

by the business cycle. Conversely, the short-cycle segments are now seeing a recovery, 

while the late-cyclical Power segments have yet to see a recovery. Although 

ABB has raised its 2011 outlook for the late-cycle segments, this is most likely backend 

loaded, with no effects before H2 11. 

Emerging markets remain the major growth driver 

ABB will continue to focus on cost reductions, with an increased cost saving target in 

order to offset pressure on profitability in the weak European and American markets. In 

the growth markets (Asia, Middle East and Africa), ABB will focus on “aggressive” 

growth and acquisitions. While the need for power transmission infrastructure has not 

changed in recent quarters, factors concerning the availability of funding and stability 

of raw material prices influence many power investment decisions. 

Appetite for acquisitions increases substantially 

On 1 September 2008, Joseph Hogan was appointed CEO of ABB. Mr. Hogan has 

substantial M&A experience compared with his predecessor, and in 2010 he started 

to put the large net cash position to use through acquisitions. 

ABB has acquired Ventyx for USD1.1bn, increased its stake in its subsidiary in India 

for USD1.0 and also made a USD1.2bn bid for Chloride, although it withdrew the 

offer in order to avoid a bidding war (which is credit-positive as it underlines the 

prudent financial strategy). In early 2011, ABB also bought Baldor for USD4.6bn, 

which has brought the net cash position down to USD2.2bn. 

Hence, ABB has spent more than USD6.5bn (excluding the USD1.3bn bid for Chloride) 

over the past year. We expect ABB to continue to focus on bolt-on acquisitions 

in 2011. 

but debt headroom within current ratings is significant 

According to S&P, ABB’s financial performance remains significantly above the rating 

requirements, and in June 2010 S&P upgraded ABB one notch to ‘A’. 

To remain commensurate with this rating, S&P is looking for FFO to net debt of above 

50%, FOCF to net debt of above 35%, adjusted net debt to EBITDA in the range of 

1.5-2.0x and gearing of up to 40%. Moody’s expects RCF/net debt above 40% for the 

‘A3’ rating. ABB’s current credit metrics are significantly above these levels and the 

rating agencies factor in substantial headroom to accommodate debt-funded acquisitions 

and/or distributions to shareholders. However, this is still based on the expectation 

of a conservative growth strategy, with prudent acquisition evaluation and funding 

criteria. 

Debt maturity profile 

(as of 31 December 2010) 

USDbn 

1.2 

1.0 

0.8 

0.6 

0.4 

0.2 

0.0 


Profitability 

USDbn 

40 

35 

30 

25 

20 

15 

10 

5 

0 

2011 2012 2013 2014 2015 2016+ 

2006 2007 2008 2009 2010 


Sales by segment, 2010 


Credit metrics 


18% 

16% 

14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 

Sales EBITDA EBITDA-margin (rhs) 

Process Automation, 

22% 

Low-voltage 

Products, 13% 

Discrete Automation 

& Motion, 16% 

USDbn 

20.0 

15.0 

10.0 

5.0 

0.0 

-5.0 

-10.0 

Power Products, 

29% 

Power Systems, 

20% 

2006 2007 2008 2009 2010 

2.0x 

1.5x 

1.0x 

0.5x 

0.0x 

-0.5x 

-1.0x 

-1.5x 

Net debt Equity Net debt/EBITDA 

61 | 13 April 2011 



S&P states that ABB has both limited upside and downside rating potential. A rating 

downgrade could occur if ABB were to adopt a more aggressive financial policy, carrying 

out large debt-funded acquisitions combined with a market downturn, such that 

sales were to fall by more than 15% a year and margins by 4%. 

If measured against the company’s unadjusted gearing target of 40% (gearing currently 

stands at 14%), ABB is able to increase debt levels by USD10.6bn after the 

Baldor acquisition (assuming that excess cash above the S&P requirement of 

USD1.7bn for daily operations is fully used). S&P expects adjusted net 

debt/EBITDA in the range of 1.5x-2.0x under the current ‘A’ rating (this currently 

stands at minus 0.75x). Under this metric, ABB currently has USD6.8bn of headroom, 

under a very conservative zero acquired EBITDA assumption. These estimates 

are within S&P’s expectation of ABB carrying out up to USD10.0bn worth of acquisitions 

in the near term. Hence, the debt headroom is significant, but the risk of a 

large-scale acquisition is present given the high degree of sector concentration. 

2011 financial targets confirmed 

In 2009 ABB once again confirmed its 2011 medium-term strategy, as outlined in 

September 2007. The company plans to maintain its current core portfolio of businesses 

and targets a compound annual growth rate for revenue of 8-11% and an EBIT margin 

target corridor of 11-16%. These targets are to be driven by further internal efficiency 

improvements and expected continued growth in power utility and industrial automation 

investments. Taking possible acquisition financing into account, the target maximum 

gearing is 40%. We view this gearing target as commensurate with current ratings. 


We have an overall HOLD recommendation on ABB. In our view, the main spread 

driver is the potential for large debt-financed M&A. While the company’s large cash 

position provides significant headroom for this, we expect ABB to continue to deploy a 

more efficient capital structure and take advantage of low company valuations and/or 

increase shareholder friendliness. 

We have a neutral stance on the rather illiquid ABB 2013 cash bond, trading around an 

ASW offer of +29bp (see list of instrument prices at the end of this book). The fact that 

ABB has renewed its USD2.0bn credit facility, with 2015 maturity, is positive for the 

bonds, and we see very limited risk. However, due to illiquidity we recommend investors 

to wait for potential new issuance. 

The 5y CDS trades rather tight at around 61/66bp (corresponding to 0.66x iTraxx 

Europe) and hence we recommend buying protection. 

62 | 13 April 2011 



Financial data ABB 

Key figures (USDm) 2006 2007 2008 2009 2010 

Net Sales 24,412 29,183 34,912 31,795 31,589 

EBITDA 3,138 4,625 5,163 4,781 4,520 

EBIT 2,568 4,023 4,552 4,126 3,818 

Net interest expenses 153 13 34 6 78 

Net profit 1,390 3,757 3,378 3,136 2,732 

FFO (1) 2,510 3,321 4,052 3,688 3,598 

Capex 536 765 1,171 967 840 

EBITDA-Capex 2,602 3,860 3,992 3,814 3,680 

FCF (3) 1,200 1,840 1,727 2,033 2,245 

Net debt (4) -1,508 -5,436 -5,443 -7,219 -6,428 

Adjusted net debt (5) 610 -3,447 -2,492 -4,344 -4,100 

Equity (incl. minorities) 6,038 10,957 11,158 13,790 15,458 

Total debt 3,282 2,674 2,363 2,333 2,182 

Total capital (6) 9,320 13,631 13,521 16,123 17,640 

Ratios 2006 2007 2008 2009 2010 

EBIT margin 10.5% 13.8% 13.0% 13.0% 12.1% 

Capex/sales 2.2% 2.6% 3.4% 3.0% 2.7% 

EBITDA/Net interest expenses 20.5x 355.8x 151.9x 796.8x 57.9x 

Net debt/EBITDA -0.5x -1.2x -1.1x -1.5x -1.4x 

FFO/Net debt -166% -61% -74% -51% -56% 

FFO/Adjusted net debt 465% -106% -179% -95% -99% 

Net debt/Total capital -16% -40% -40% -45% -36% 

Adjusted net debt/total capital 7% -25% -18% -27% -23% 

(1) Funds from operations (2) FFO less changes in working capital and CAPEX but before net interest paid and taxes paid. (3) OpFCF less net interest paid and taxes 

paid and less dividends. (4) Total interest-bearing debt less cash and marketable securities. (5) Net debt adjusted contingent liabilities/contractual obligations as 

reported. (6) Equity and unadjusted total debt. Source: Company data, Danske Fixed Income Credit Research 

Quarterly review (USDm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 8,761 6,934 7,573 7,903 9,179 

EBITDA 1,336 885 1,212 1,342 1,293 

EBITDA margin 15.2% 12.8% 16.0% 17.0% 14.1% 

Net income 540 464 669 819 753 

Net debt -7,219 -7,147 -5,890 -5,289 -6,428 

Adjusted net debt -4,268 -4,272 -3,015 -2,414 -3,553 

Net debt/LTM EBITDA -1.4x -2.0x -1.2x -1.0x -1.2x 


Divisional quarterly review (USDm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Power Products Net sales 3,109 2,319 2,528 2,439 2,913 

EBIT margin 15.9% 15.0% 16.5% 16.6% 15.6% 

Power Systems Net sales 1,908 1,384 1,635 1,679 2,088 

EBIT margin 3.5% -1.0% 1.1% 6.1% 0.2% 

Discrete Automation Net sales 1,470 1,213 1,287 1,460 1,657 

& Motion EBIT margin 2.9% 13.8% 15.9% 18.4% 17.2% 

Low-Voltage Net sales 1,109 1,011 1,102 1,187 1,254 

Products EBIT margin 13.4% 14.8% 19.3% 20.6% 15.8% 

Process Automation Net sales 2,054 1,735 1,737 1,859 2,101 

EBIT margin 8.3% 9.2% 10.9% 11.1% 9.5% 


63 | 13 April 2011 



A.P. Moller-Maersk Group 


Employing some 108,000 people, Danish-based A.P. Moller-Maersk Group (APM) 

owns the world’s largest container shipping line, which in 2010 carried some 15% of 

total world seaborne containers. APM also has sizeable operations within oil & gas 

production and exploration as well as food retailing. A diversified set of activities is 

complemented by a favourable geographical spread with operations in 130 countries. 

In 2009, the company issued its first-ever unrated capital market debt, followed by a 

new euro benchmark issuance in November 2010. The Møller family controls 76.5% 

of the voting shares. APM is not rated by rating agencies. 


Market-leading operations 

APM enjoys leading market positions within its main operating areas. Activities 

include the world’s largest container shipping line, which combined with port operations 

and logistics services enables the company to offer full door-to-door transport 

solutions. APM also claims a world-leading position within the transport of refined 

oil products. Within food retail, APM has successfully grown its discount chain 

Netto and holds around 30% of the Danish food retail market through various brands. 

Oil & gas activities are conducted globally, with production on the mature Danish 

continental shelf being counterbalanced by production in, among other regions, 

Qatar. 

Diversification mitigates cyclicality 

APM employs a highly diversified business risk profile, which mitigates the inherent 

cyclical, capital-intensive and volatile characteristics of shipping and oil & gas production. 

Different demand drivers in the divisions make group earnings less vulnerable 

to adverse development in a certain demand driver. This overall income diversification 

renders a relatively strong business risk profile. However, the almost perfect 

storm seen in 2009, with falling freight rates, oil & gas prices and transport demand 

caused earnings to fall significantly. 

Partial internal hedges through diverse business segments 

Stabilising effects arise from one division having a certain factor as an output (e.g. 

oil in the oil & gas division) while another division has it as an input (oil-based fuel 

in the shipping operations). Such long and short positions in related commodities or 

services create partial internal hedges within the group. APM is net long oil and 

states that a USD10/bbl price increase will yield a USD200m increase in net income 

and vice versa. 

Credit metrics regained strength in 2010 

The company has a strong and stable ownership structure and a prudent approach to 

shareholder distributions. Key credit metrics deteriorated in 2009, but 2010 showed a 

strong recovery. Overall, APM benefits from a robust capital structure and cash flow 

generation over the cycle. A reduced dividend for 2009 and a sale of treasury shares 

worth some DKK8.2bn in September 2009 demonstrate the company’s commitment 

to preserving a conservative financial profile, in our view. 

BUY 

Sector: Diversified operations 

Corporate ticker: MAERSK 

Equity ticker: MAERSKB DC 

Market cap: DKK215bn 

Ratings: 

NR/NR/NR 

Analysts: 

Jakob Magnussen 

jakja@danskebank.dk 

+45 45 12 85 03 


kripe@danskebank.dk 

+45 45 12 85 19 


Strengths: 

• Leading market positions. 

• Highly diversified operations and 

several partial internal hedges. 

• Strong and stable ownership 

structure and conservative approach 

to capital structure. 

• Robust credit metrics over the 

cycle. 

Challenges: 

• High cyclicality and capital intensiveness 

in major business areas. 

• Exposure to volatile commodity 

prices and freight rates. 

• Challenge of replacing domestic oil 

resources being depleted. 

• Considerable committed capex. 


We see APM as a solid investment grade company 

APM does not have a public credit rating. Viewing the different business areas as a 

portfolio and taking into account the positive diversification effect and internal 

hedges, we view the overall business risk profile as Strong. Based on key credit 

metrics, we view APM as having an Intermediate financial risk profile. In combination, 

we estimate the rating of APM as comparable to that of an ‘A-’ rated issuer at 

the senior unsecured level. 

64 | 13 April 2011 



Liquidity 

Following a EUR500m benchmark issuance in November 2010 and strong free cash 

flow generation, APM’s 2010 report demonstrated a comforting short-term liquidity 

profile. At year end APM had DKK25.9bn in cash and equivalents, which is more 

than adequate to meet short-term debt maturities of DKK12.6bn. APM’s debt maturity 

profile is evenly spread out, with no major maturities in any one year. APM expects 

2011 capex to be significantly higher than the DKK26bn seen in 2010 which 

was at a low level compared with APM’s normal annual capex level. The group will 

pay dividends in 2011 to the tune of DKK4.4bn. To cover this, APM guides for cash 

flow from operations to be below the DKK60bn seen in 2010. As the level of the 

2011 hike in capex budget is unknown, and given that APM has expressed ambitions 

of being a frequent capital market debt issuer in order to diversify funding sources, 

we will certainly not rule out that APM could come to the primary market in 2011. 

On 23 September 2010, APM announced that it had refinanced a USD6.5bn facility 

maturing in 2012 with a new five-year USD6.75bn syndicated revolving credit facility. 

APM’s total undrawn committed facilities amount to DKK53bn at end-2010. An 

additional source of cash is likely to be seen in 2011, with the proceeds from the 

divested Netto UK supermarket chain worth some USD700m, pending competition 

authorities approval. 


Strong end to a record year 

APM’s 2010 annual results demonstrated a strong set of full-year numbers. Both revenues 

and net profit came in slightly ahead of consensus expectations. The company 

enjoyed a significant tailwind as the average freight rate increased 29% in 2010. The 

average oil price also increased 29% to USD80/bbl, while APM’s entitlement production 

declined 12% mainly stemming from a lower share in Qatar. Container volumes 

transported increased 5%. These issues helped boost 2010 revenue, which increased 

21% y/y to DKK315bn. APM significantly reduced the cost base during 2010 (particularly 

in container activities), which helped group profitability taking APM’s reported 

EBITDA up by 81% to DKK89bn and took the EBITDA margin to 28.3% versus 

18.9% in 2009. Group net profit improved to DKK26.5bn versus a DKK7bn loss in the 

same period last year. 

Balance sheet more comforting for debt investors 

Cash flow from operations was very strong at DKK57bn in 2010 while capex remained 

relatively low at DKK26.1bn. The resulting strong FOCF generation of DKK30.9bn 

caused group net debt to fall 25.8% y/y to DKK69.7bn, partly offset by a rising US 

dollar impacting APM’s US dollar-denominated debt base. On adjusted numbers we 

see net debt at DKK140bn, down 12% y/y. The difference being chiefly explained by a 

solid operating lease base primarily devoted to tonnage leasing. Following this, group 

adjusted net debt to EBITDA improved to 1.4x in 2010 from 2.5x in 2009. APM’s 

adjusted net leverage was 42% vs 50% in 2009. 

2011 outlook 

APM expects the 2011 group result and operating cash flow to decline y/y while 

capex is expected to be “significantly higher”. The company expects the global container 

market to grow 6-8% and container activities are expected to generate a satisfactory 

but lower result as increased demand will be offset by even greater supply of 

new tonnage in the market. Based on an average oil price around USD90/bbl, APM 

expects a lower result in the oil business and a higher level of exploration activities. 

Obviously the current level of Brent is significantly above this level, boding well for 

a positive surprise from this division, which will offset a general falling trend in 

production and reserves. 

Debt maturity profile (end-2010) 

USDbn 

7 

6 

5 

4 

3 

2 

1 

0 


Profitability 

DKKm 

350,000 

300,000 

250,000 

200,000 

150,000 

100,000 

50,000 

2011 2012 2013 2014 2015 2016 >2016 

0 


Divisional EBIT split (DKKm) 

Tankers, 

offshore 

and other 

shipping 

4% 



DKKm 

250,000 

200,000 

150,000 

100,000 

50,000 

0 

2006 2007 2008 2009 2010 


Retail 

activity 

7% 

APM 

Terminals 

13% 

Other 

3% 

Oil & Gas 

activities 

28% 

2006 2007 2008 2009 2010 


30% 

25% 

20% 

15% 

10% 

5% 

0% 

Container 

shipping 

45% 

Net debt equity Net debt/EBITDA (rhs) 

X 

2.50 

2.00 

1.50 

1.00 

0.50 

0.00 

65 | 13 April 2011 



2010 container market recovery 

APM reported a solid rebound in its shipping activities in 2010 compared with a very 

weak 2009. The group reports that freight rates and volumes carried was about at par 

with the strong 2008. In spite of this, a high focus on cost and operational efficiency 

caused APM to record an extra USD2.2bn in 2010 relative to 2008. In our view, the 

strong cost structure spells a key vital competitive edge for APM relative to its competitors. 

For 2011 APM states that a 100USD/FFE increase in freight rates will result 

in a net gain of USD800m and a volume increase of 0.1m FFE will result in a 

USD200m net gain and vice versa. 

Capex 

Committed capex amounts to DKK50bn (DKK43bn at end-2009), which includes 

DKK22.3bn relating to the existing new building programme for ships and rigs, etc. 

The remaining DKK27.7bn relates to investments in mainly terminals and oil & gas. 

This includes the USD2.4bn acquisition of three E&P partnerships in Brazil through 

SK do Brasil Ltda. One field offers immediate production of 10,000bbl/day (APM’s 

share) while the two other fields may produce oil in 2016 and 2018. Maersk assesses 

the growth potential as “significant”. This acquisition is in line with Maersk Oil’s 

strategy of diversifying operations to replace depleting North Sea assets. It is also 

consistent with the group ambition of growing the oil and gas operations. 

We estimate an A- rating at the senior unsecured level 

APM does not have a public credit rating but has a target of maintaining a conservative 

capital structure and funding profile matching that of a strong investment grade 

company. Viewing the different business areas as a portfolio and taking into account 

a certain degree of diversification and internal hedges, we view the overall business 

risk profile as Strong 1 . Based on key credit metrics, we view APM as having an 

Intermediate financial risk profile. In combination, we estimate the rating of APM as 

comparable to that of an ‘A-’ rated issuer at the senior unsecured level. While coming 

from levels below over-the-cycle requirements for an ‘A-’ rating, credit metrics 

are currently strong and supported by a recovering operating environment and successful 

cost-cutting. The large container segment has also demonstrated strong recovery 

in 2010. We expect this segment, however, to remain volatile in the longer 

run despite APM’s improving and market-leading cost efficiency. This view is supported 

by a continued tough competition on rates prices as well as ballooning tonnage 

supply. 

While the bond documentation does not limit the incurrence of secured debt, we take 

some comfort in asset pledges amounting to a modest 15.3% of group asset in 2010. 

This is below S&P’s notching threshold (when more senior claims cover more than 

20% of assets). 


On 24 November, APM decided to revisit the debt capital market by issuing an unrated 

EUR500m bond maturing 2017 at MS +175bp. With primary issuance fears out 

of the way, we decided to change our recommendation to Buy from Hold, seeing 

meaningful spread tightening potential in the name, which trades somewhat wider 

than peers with similar or worse credit quality in our view. We continue to believe 

that the lack of a credit rating combined with relatively low transparency in disclosure 

on certain points will result in a material spread premium to the ‘A-’ curve (we 

estimate an ‘A-’ rating at the senior unsecured level). We see most value in MAERSK 

2014 offered around ASW +89bp relative to MAERSK 2017 offered around ASW 

+106bp. Overall we maintain our BUY recommendation on the name. (See list of instrument 

prices at the end of this book.) 

1 Under S&P’s rating methodology, the business risk profile is assessed on a 1-6 scale with Excellent as strongest and Vulnerable as 

weakest (grades in between are Strong, Satisfactory, Fair and Weak). Under S&P’s rating methodology, the financial risk profile is 

assessed on a 1-6 scale with Minimal as strongest and Highly Leveraged as weakest (grades in between are Modest, Intermediate, 

Significant and Aggressive). 

66 | 13 April 2011 



Financial data A.P. Moller-Maersk Group 

Key figures (DKKm) 2006 2007 2008 2009 2010 

Net Sales 260,134 278,872 311,821 260,026 315,396 

EBITDA 51,192 64,842 83,945 49,262 89,218 

EBIT 38,209 47,775 60,627 20,167 59,649 

Net interest expenses 2,219 4,047 5,085 5,533 5,022 

Net profit 16,186 18,658 17,638 -7,027 26,455 

FFO (1) 29,028 37,247 43,128 23,406 59,402 

Adjusted FFO 40,888 48,605 53,359 32,521 67,795 

Capex 34,321 49,003 52,375 42,195 26,078 

RCF (2) 26,599 34,774 40,061 20,324 57,298 

FCF (3) -10,624 -9,186 -8,953 -17,097 30,894 

Net debt (4) 60,692 68,918 87,276 93,872 69,695 

Adjusted net debt (5) 126,576 130,764 157,047 159,079 140,345 

Total debt 104,530 104,530 106,205 110,232 101,062 

Equity incl. minorities 136,711 146,715 158,394 158,868 192,962 

Total capital (6) 241,241 251,245 264,599 269,100 294,024 

Ratios 

EBITDA margin (%) 19.7% 23.3% 26.9% 18.9% 28.3% 

EBIT margin (%) 14.7% 17.1% 19.4% 7.8% 18.9% 

FFO interest coverage (x) 6.3x 6.7x 6.2x 3.7x 10.2x 

Net debt/EBITDA (x) 1.2x 1.1x 1.0x 1.9x 0.8x 

Adj net debt/Adj EBITDA (x) 1.8x 1.6x 1.6x 2.5x 1.4x 

FFO/Net debt (x) 47.8% 54.0% 49.4% 24.9% 85.2% 

Adj FFO/Adj net debt (x) 32.3% 37.2% 34.0% 20.4% 48.3% 

RCF/Net debt (x) 25.4% 33.3% 37.7% 18.4% 56.7% 

Adj RCF/Adj net debt (x) 30.4% 35.3% 32.0% 13.3% 46.8% 

Adj Net debt/Total capital (%) 48.1% 47.1% 49.8% 50.0% 42.1% 

(1) Funds from operations. (2) FFO less dividends. (3) RCF less capex and changes in working capital (4) Total interest-bearing debt less cash and marketable 

securities. (5) Net debt adjusted operating leases and contingent liabilities (6) Equity plus total debt. Source: Company data and Danske Markets 

Divisional quarterly overview (DKKm) 

Q209 Q110 Q210 Q3 10 Q4 10 

Container shipping Revenue 24,578 30,929 39,110 40,492 35,884 

EBIT -3,910 1,260 6,175 6,642 2,202 

EBIT margin -15.9% 4.1% 15.8% 16.4% 6.1% 

APM Terminals Revenue 10,594 5,945 6,305 5,562 6,094 

EBIT 996 707 2,697 1,043 675 

EBIT margin 9.4% 11.9% 42.8% 18.8% 11.1% 

Tankers, offshore and Revenue 7,543 7,512 8,752 7,760 7,655 

other shipping EBIT -428 878 329 962 -50 

EBIT margin -5.7% 11.7% 3.8% 12.4% -0.7% 

Oil & gas Revenue 12,084 13,438 14,822 13,441 15,933 

EBIT -13,574 8,103 8,950 7,471 8,395 

EBIT margin -112.3% 60.3% 60.4% 55.6% 52.7% 

Retail Revenue 15,640 14,059 14,437 14,753 16,001 

EBIT 322 487 664 628 1,025 

EBIT margin 2.1% 3.5% 4.6% 4.3% 6.4% 

Other Revenue 3,227 1,580 1,826 2,498 2,277 

EBIT 98 36 -269 917 222 

EBIT margin 3.0% 2.3% -14.7% 36.7% 9.7% 


67 | 13 April 2011 



Assa Abloy 


Assa Abloy was formed in 1994 through the merger of Assa AB (a unit of Securitas) 

and Finland’s Abloy Oyj. The company has historically fuelled its growth through 

acquisitions and, following those of Yale and HID in 2000, became the world leader 

in locks and ID products for access control. Its product range includes mechanical 

locks (traditional locks for doors), electromechanical locks (usually remotely operated), 

hotel locks (smart cards), and security doors. The company is globally diversified 

with market-leading positions in much of Europe, the US and Australia. The 

largest shareholders are Investment AB Latour and SäkI AB (both controlled by the 

Swedish long-term investor Gustav Douglas, Chairman of Assa Abloy), which together 

hold 29.7% of the votes and 9.6% of the share capital. 



One of Assa Abloy’s key strengths is its diversified geographical and business mix, 

supported by strong brand name recognition and key local market positioning. While 

it has exposure to the construction and tourist industries (hotel locks), demand for 

security products is generally mature and stable. Stability is further supported by the 

high share of replacement sales as two-thirds of the business is derived from the 

renovation, replacement and upgrade of locks. The move into higher-value electromechanical 

locks offers product substitution opportunities and opens up growth 

opportunities. Also, the general trend towards higher security and an increasing share 

of electromechanical locks means that locks are upgraded more often during their 

lifetime, which generates more repeat business for Assa Abloy. 

Exposure to construction spending 

The demand for locks is tied to the cyclical construction industry, which causes some 

volatility in sales. Around 75% of sales are related to non-residential clients and 25% 

to residential clients. Among the non-residential clients, a large proportion consists of 

institutions including schools and hospitals where demand is far less cyclical. 

Low price competition 

Being the market leader with a 10% share of the fragmented global locks market, Assa 

can attract higher prices and achieve better economies of scale, which create entry 

barriers. Industry price competition is not severe as the cost of locks only represents a 

small part of total construction costs and price awareness among end-users is low. 

Very stable cash flow 

Assa Abloy has historically produced very stable cash flows due to its solid business 

positioning. Over the past five years, net sales have had a compound annual growth 

of 6.3%, largely built on acquisitions. The company has shown a consistent ability to 

achieve synergies and to maintain margins after purchases. Over recent years, its 

EBITDA margins have been stable at around 18%, supporting high levels of cash 

flow generation, which has remained largely unaffected by the global recession. 

Debt and high acquisition activity 

The balance sheet is slightly stretched for the rating category with a debt-to-equity 

(unadjusted) ratio of 53% due to large acquisitions. This is mitigated by strong free 

cash flow generation. 

Assa Abloy maintains a growth strategy which includes acquisitions, although these are 

usually bolt-ons. However, in December 2010, Assa Abloy announced the sizeable 

acquisition of Cardo for a total of SEK11.3bn which caused S&P to place the ‘A-’ 

credit rating on negative watch (which was changed to negative outlook in April 2011). 

SELL 

Sector: Industrials; Machinery 

Corporate ticker: ASSABS 

Equity ticker: ASSAB SS 

Market cap: SEK65.9bn 

Ratings: 

S&P rating: A- /NO 

Moodys rating: NR 


Analyst: 



+45 45148886 



+45 45128519 


Strengths: 

• Leading position in moderately 

cyclical lock market. 

• Strong diversification by geography 

and customer base. 

• Stability from high share of 

replacement sales. 

• Low price competition and 

stable cash flow. 

Challenges: 

• Exposure to demand volatility 

in cyclical construction markets. 

• High leverage from frequent acquisition 

activities. 

• Shareholder friendliness by 

high dividend payments. 


68 | 13 April 2011 



Liquidity 

We view Assa Abloy’s liquidity as adequate. At the end of 2010, the company had 

SEK1.3bn in cash and cash equivalents of which 99.8% are cash and bank deposits. 

This is supplemented by an undrawn back-up syndicated credit facility of EUR1.1bn 

(approximately SEK9.8bn) maturing in 2014. According to S&P, the credit facility is 

not subject to financial covenants or any material adverse change clause. Furthermore, 

Assa Abloy obtained a bridge loan of SEK14.3bn to finance the Cardo acquisition 

(consisting of three tranches, maturing in December 2011, June 2013 and December 

2013). Assa Abloy plans to refinance the bridge loan in the capital markets in 

2011. 

This compares with short-term interest-bearing liabilities of SEK2.9bn (equal to 24% 

of total debt). In 2009, all loan facilities set to mature in 2009 were refinanced at a 

total of SEK3.3bn and the debt maturity profile has improved from the somewhat 

front-end loaded level in 2008. Assa Abloy has SEK0.3bn of bonds maturing in 

2011. 


Focus on acquisitions returned in 2010 

After a long period of acquisition-fuelled growth from 1996 to 2002 (revenue CAGR 

31%), Assa Abloy entered a phase more characterised by restructuring, cost cutting and 

rationalisation, although bolt-on acquisitions were still a vital part of the growth strategy 

to expand geographical reach and complement the product offering. CAGR in 

2003-2009 was 6.4%. However, in 2010 the pace of acquisitions has started to pick 

up again, including more medium-sized transactions. 

with the acquisition of Cardo stealing focus 

In December 2010, Assa Abloy announced the acquisition of Cardo which we consider 

the most important credit driver in the short term. Assa Abloy acquired 63.3% 

of the company for SEK7.2bn and subsequently launched an offer to tender the remaining 

shares in February 2011 (which brings the total price to SEK11.3bn). Currently 

Assa Abloy holds 98.9% of Cardo. However, Assa Abloy has dispose of 

Cardo’s Flow Solutions division for SEK5.9bn and plans to dispose of the Lorentzen 

& Wettre division as well. 

Assa Abloy has financed the transaction with a bridge loan of SEK14.3bn with intensions 

to refinance the facility in the capital markets in prudent time during 2011. We 

emphasize that 35% of the bridge loan matures at the end of 2011 so we anticipate that 

Assa Abloy could issue new bonds around Q2 11 or Q3 11. 

Debt-financing results in rating pressure 

On 15 December 2010, S&P placed Assa Abloy’s ‘A-’ credit rating on negative watch 

due to worries about integration risks and a possibly weaker stance on financial policies. 

However, in April the negative watch was removed and Assa Abloy was instead 

placed on a negative outlook due to integration risks. Although credit metrics will 

inevitably deteriorate due to the acquisition, Assa Abloy expects a swift improvement 

due to strong and stable cash flow. 

Dividend payout increased 

Assa Abloy has a dividend policy that aims to pay out 33-50% of net earnings. Assa 

Abloy does make the reservation, however, that it will always take into account longterm 

financing requirements when applying the dividend policy. 

That said, Assa Abloy will pay a dividend per share of SEK4.0 for fiscal year 2010, 

which is an increase of 11% y/y. During the economic downturn, Assa Abloy was also 

able to avoid reducing or eliminating dividend payments like other companies due to its 

stable operations and cash flow. 



SEKbn 

4.0 

3.5 

3.0 

2.5 

2.0 

1.5 

1.0 

0.5 

0.0 


Profitability 

SEKbn 

40 

35 

30 

25 

20 

15 

10 

5 

- 

< 1y 1y - 2y 2y - 5y > 5 y 


Sales by segments, 2010 

Asia Pacific 

16% 

Americas 

25% 



SEKbn 

21 

18 

15 

12 

9 

6 

3 

0 

2006 2007 2008 2009 2010 


21% 

18% 

15% 

12% 

9% 

6% 

3% 

0% 

Sales EBITDA EBITDA margin (rhs) 

Global Tech 

13% 

Entrance Systems 

11% 

EMEA 

35% 

2006 2007 2008 2009 2010 

3.0x 

2.5x 

2.0x 

1.5x 

1.0x 

0.5x 

0.0x 

Adj. net debt Equity Adj. net debt/EBITDA 

69 | 13 April 2011 




We changed our recommendation to SELL (from HOLD) on 17 February 2011 with 

focus on a tight CDS. We view the Cardo acquisition and the related financing as the 

main short-term credit driver. The divestment of the Cardo Flow Solution for 

SEK5.9bn removes some of the refinancing pressure. However, while Assa Abloy 

has sound and stable fundamentals and could avoid a credit rating downgrade, the 

CDS could still widen on new bond issuance. 

The 5y CDS is currently trading at very tight levels (49/54bp) and we recommend 

investors to buy protection. Assa Abloy has no outstanding Eurobonds (only SEK 

and NOK bonds outstanding, which are not deliverable into the CDS) which can 

partially explain the technically tight CDS levels. 

Assa Abloy has stated it intends to refinance the SEK14.3bn bridge loan related to 

the Cardo acquisition in the capital markets during 2011, which could put the CDS 

under pressure and widen spreads (e.g. if Assa Abloy issues a Eurobond). 35% of the 

SEK14.3bn bridge loan will mature in December 2011 and we believe that Assa 

Abloy could refinance its bridge financing in prudent time ahead of this deadline. 

Hence we would not be surprised to see a bond issue in Q2 11 or Q3 11. 

70 | 13 April 2011 



Financial data - Assa Abloy 


Net Sales 31,137 33,550 34,918 34,963 36,823 

EBITDAR 5,661 6,367 6,447 6,426 7,041 

EBIT (1) 4,763 5,458 5,526 5,413 6,045 


Net profit 1,756 3,368 2,438 2,659 4,080 

FFO (2) 3,672 3,896 4,374 4,464 5,367 

Gross capex 905 1,050 829 752 1,092 

EBITDA-capex 4,756 5,317 5,618 5,674 5,949 

RCF (3) 2,483 2,707 3,057 3,147 4,050 

FCF (4) 874 1,632 2,223 3,855 3,320 

Net debt 12,389 12,953 14,013 11,048 10,564 


Total capital 25,936 28,976 34,192 31,927 31,819 

Ratios 2006 2007 2008 2009 2010 

EBITDAR margin (%) 18.2% 19.0% 18.5% 18.4% 19.1% 

EBIT margin (%) 15.3% 16.3% 15.8% 15.5% 16.4% 

Capex/Net revenues (%) 2.9% 3.1% 2.4% 2.2% 3.0% 

EBITDAR/Net interest expenses (x) 8.5x 7.5x 8.4x 10.1x 10.4x 


Adjusted net debt/EBITDA (x) 2.5x 2.4x 2.3x 1.9x 1.6x 

FFO/Adjusted net debt 26% 26% 29% 37% 47% 

RCF/Adjusted net debt 18% 18% 21% 26% 35% 

Net debt/Total capital (%) 48% 45% 41% 35% 33% 

(1) Adjusted for non-recurring items. (2) Funds from operations. (3) FFO less dividends. (4) RCF less capex and after changes in working capital. 

(5) Net debt adjusted for operating leases and contingent liabilities. 


Quarterly review (SEKm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 8,799 8,345 9,356 9,474 9,648 

EBIT 468 1,295 1,515 1,630 1,606 

EBIT margin 5% 16% 16% 17% 16.6% 

Net income 200 880 1,031 1,099 1,071 

Net debt (reported) 11,048 11,469 12,608 10,864 10,564 

Net debt/LTM EBITDA 1.7x 1.9x 1.8x 1.4x 1.4x 


Divisional quarterly review (SEKm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

EMEA Net sales 3,544 3,296 3,311 3,065 3,364 

EBIT margin 16.8% 15.9% 15.9% 17.0% 18.0% 

Americas Net sales 2,108 2,205 2,503 2,537 2,291 

EBIT margin 19.5% 19.0% 19.7% 20.3% 20.0% 

Asia Pacific Net sales 1,044 1,014 1,566 1,735 1,766 

EBIT margin 13.8% 10.3% 14.2% 15.6% 13.9% 

Global Technologies Net sales 1,145 1,085 1,240 1,365 1,325 

EBIT margin 16.2% 17.0% 16.8% 18.1% 16.9% 

Entrance Systems Net sales 1,152 954 1,012 987 1,118 

EBIT margin 17.0% 14.0% 14.3% 15.4% 17.7% 


71 | 13 April 2011 



Atlas Copco 


Swedish Atlas Copco, founded in 1873, is an industrial machinery manufacturer. The 

company is the global market leader in its Industrial Technique and Compressor 

Technique divisions and holds leading positions in the Construction and Mining 

Technique business. High exposure to cyclicality is alleviated by diversification by 

geography and customer base, a high share of aftermarket sales, relatively flexible 

costs and high barriers to entry. The group employs some 33,000 people, operates in 

more than 170 countries and had revenues of SEK70bn in 2010. The largest shareholder 

is the Sweden-based investment holding company Investor AB, accounting for 

17% of the share capital and 22% of the voting rights. 


Leading market positions 

Atlas Copco operates through three major divisions: Compressor Technique (49% of 

sales in 2010), Construction and Mining Technique (42% of sales in 2010) and Industrial 

Technique (9% of sales in 2010). Compressor Technique produces and services 

compressors, turbines and pumps. Construction and Mining Technique produces 

and services rock-drilling equipment, tunnelling equipment, construction tools 

and demolition tools, whereas Industrial Technique produces industrial power tools 

and assembly systems. Atlas Copco holds market leading positions in all three divisions 

and is the world leader in compressors with a one-third share of the market. 

Atlas Copco is well positioned in terms of product development capabilities, branding 

and reputation, distribution channels and cost efficiency. Despite barriers to entry 

there is meaningful competition and some pricing pressure in several business areas. 

Resilience to cyclicality 

Atlas Copco is exposed to cyclical demand in all three business areas. This is, however, 

mitigated through broad geographical and customer base diversification and a 

high share of aftermarket and rental revenues, at about 40% of total revenues. Aftermarket 

sales contribute to the high margin performance, a more stable cash flow, and 

help to reduce the capital intensiveness of the group. In 2010, 32% of revenues were 

derived from Europe, 18% from North America, 28% from Asia and Australia, 11% 

from Africa and Middle East and 11% from South America. A strategy of focusing 

production on core components and assembly, while outsourcing less vital components, 

creates flexibility toward fluctuations in demand. As a result, a relatively low 

fixed-cost base contributes to lower earnings volatility. 

Strong and stable cash flow generation but shareholder friendly policy 

Following increasing debt levels in 2007 and 2008, Atlas Copco’s strong free cash 

flows in 2009 and 2010 were used to significantly reduce debt. Adjusted net debt 

declined to SEK13bn end-2010 from SEK29bn end-2008. FFO generation declined 

but showed remarkable resilience in 2009, manifesting the strong internal cash generation 

even during brutal downturns. In 2010, FFO increased by more than 50%, 

ending at SEK13bn – i.e. above pre-crises levels. Then, on 2 February 2011, Atlas 

Copco announced a proposed increase in the ordinary dividend to SEK4/share 

(SEK3/share last year), which is combined with an extraordinary distribution of 

SEK5/share, through a share split and subsequent mandatory redemption. The total 

shareholder distribution amounts to SEK11bn. Despite this shareholder friendly 

action, on 24 February 2011, S&P upgraded its rating of Atlas Copco to ‘A’ (Stable) 

from ‘A-’, primarily due to the afore mentioned strong and stable cash flows. 

HOLD 

Sector: Industrials, Machinery 

Corporate ticker: ATCOA 

Equity ticker: ATCOA SS 


Ratings: 

S&P rating: A /S 



Analyst: 



+45 45128519 


apu@danskebank.dk 

+45 45148886 


Strengths: 

• World-leading market position. 

• Strong customer segment and 

geographical diversification. 

• High-margin and relatively stable 

aftermarket services. 

• Strong cash flow generation and 

resilient credit metrics through 

the crisis. 

Challenges: 

• Cyclical demand. 

• Shareholder-friendly financial policies. 

• Lack of quantitative targets on the 

balance sheet. 

• Operating leverage and capital 

intensiveness although less than 

peers. 


72 | 13 April 2011 



Liquidity 

End-2010, cash and cash equivalents amounted to SEK14.3bn. In addition to this, 

Atlas Copco has USD1bn committed revolving credit facility maturing 2012 together 

with a SEK6.4bn committed facility maturing in 2017. According to S&P, these 

facilities are free of financial covenants. As of end-2010, neither of the two facilities 

has ever been utilised. Moreover, Atlas Copco generated strong FCFs of SEK9.2bn 

and SEK5.5bn in 2009 and 2010, respectively. This compares with a favourable 

back-end loaded debt maturity profile with a limited amount of debt maturing before 

2014. 

However, at the AGM last year, the board was granted a mandate to acquire up to a 

maximum of 5% of all issued shares. If the mandate to acquire the maximum 5% of 

shares is fully utilised, this currently corresponds to a SEK7.5bn cash outflow. S&P 

views a maximum utilisation as highly unlikely on the back of the share redemption 

programme for 2011. We believe Atlas Copco has a strong liquidity position. 


Strong FY 2010 

Atlas Copco had a very strong 2010, as it benefited from the continued increase in 

global industrial production. Orders received significantly increased in all divisions, 

amounting to a 29% increase on a group basis to SEK75bn for the FY 2010. Net 

sales were up 10% to SEK70bn and net profit was up by almost 60% to SEK10bn. 

In Q4 10, Atlas Copco continued the strong momentum from the first three quarters 

of the year and reported key numbers slightly ahead of consensus expectations. 

Revenue increased 22% y/y after a 4% currency headwind to SEK19.4bn, while the 

operating profit margin was 20.7% (21.3% in the previous quarter and 15.4% in the 

same period last year). Net profit improved year-on-year and sequentially to 

SEK2.9bn. 

Order intake increased 27% y/y to SEK19.3bn. While being significantly ahead of 

the same period last year, demand also increased “somewhat” sequentially – particularly 

in mining and industrial equipment. Demand continued to improve in North 

America (18% of net sales in 2010) while the development was mixed in Europe 

(32%) with very positive momentum in eastern Europe and softer demand in southern 

and western Europe. Demand remained strong or very strong in South America 

(11%), Africa/Middle East (11%) and Asia/Australia (28%). Overall, the company 

expects demand to “increase somewhat” in the near-term and demand in emerging 

markets, as well as from the mining industry, is expected to remain strong. 

Credit metrics improvement rating upgraded by S&P 

In 2010, FFO increased by more than 50% to SEK13.2bn, compared to SEK8.5bn in 

2009, and notably, it is now higher than pre-crisis levels. However, due the an impressive 

NWC release of SEK6.7bn back in 2009, the 2010 FCF of SEK5.5bn was 

actually down by about 40% compared to 2009. Compared with pre-crisis levels in 

2007 and 2008, on the other hand, FCF more than doubled in 2010. This very strong 

cash flow generation has partially been used for debt reductions. Therefore, adjusted 

net debt to EBITDA declined to 0.8x end-2010, compared with 1.6x and 1.8x in 2009 

and 2008, respectively. FFO to adjusted net debt also improved to 104% in 2010, 

compared with 46% and 42% in 2009 and 2008. Despite Atlas Copco’s shareholder 

friendly actions (read more below), S&P upgraded its rating of Atlas Copco to ‘A’ 

(Stable) from ‘A-’ on 24 February 2011, primarily due to the strong cash flow. 


SEK bn 

8 

7 

6 

5 

4 

3 

2 

1 

0 


Profitability 

SEK bn 

80 

70 

60 

50 

40 

30 

20 

10 

0 


Sales by geography 2010 

Asia/Austr 

alia 

28% 



2011 2012 2013 2014 2015 2016+ 

2006 2007 2008 2009 2010 


25% 

20% 

15% 

10% 

5% 

0% 

Net sales EBITDA EBITDA margin 

Africa/Midd 

le East 

11% 

SEK bn 

35 

30 

25 

20 

15 

10 

5 

0 

-5 

-10 

North 

America 

18% 

Europe 

32% 

South 

America 

11% 

2006 2007 2008 2009 2010 

2,0 

1,5 

1,0 

0,5 

0,0 

-0,5 

-1,0 


73 | 13 April 2011 



Shareholder rewards are acceptable under current ratings 

Unsurprisingly, in February 2010, Atlas Copco announced a proposed increase in the 

ordinary dividend to SEK4/share (SEK3/share last year), which is combined with an 

extraordinary distribution of SEK5/share through a share split and subsequent mandatory 

redemption. The total distribution amounts to SEK11bn. 

While payment of the redemption shares would not be made until mid-June 2011, an 

immediate payment of the total SEK11bn distribution results in an adjusted net 

debt/EBITDA of 1.4x (0.8x end-2010) and a FFO/adjusted net debt of 56% (104% 

end-2010). For the current rating, S&P expects adjusted net debt/EBITDA of 1.5x 

and FFO to adjusted net debt above 50%. 

However, at the annual general meeting last year, the board was granted a mandate to 

acquire up to a maximum of 5% of all issued shares. If the mandate to acquire the 

maximum 5% of shares is fully utilised, this corresponds to an SEK7.5bn cash outflow. 

Atlas Copco furthermore hiked its long-term dividend ratio target to 50% of EPS. 

This represents an increase, as the ratio has averaged 41% over the last 10 years. 

While higher dividend payments going forward are credit negative, we also note that 

Atlas Copco on several occasions has paid out an extraordinary dividend to rebalance 

its capital structure. Hence, we are not overly concerned about the hiked target. 

Therefore, in our view, Atlas Copco has enough headroom for the SEK11bn distribution 

to shareholders within the rating metrics, but negative pressure could arise if the 

board decides to fully utilise the share buyback programme on top of this. S&P views 

a maximum utilisation as highly unlikely on the back of the share redemption programme 

for 2011. We share this view and are comfortable with current ratings. 

Financial targets we do not expect a near-term repeat of 2007 

Atlas Copco has a declared revenue growth target of 8% annually. Growth is to be 

achieved largely through organic growth with the remainder coming from selected 

acquisitions. Although the majority focus on organic growth is credit positive, a lack 

of capitalisation and gearing related targets reduces visibility on the balance sheet. 

However, comfort to credit investors is provided by an objective of maintaining a 

solid investment grade rating. 

In 2007, Atlas Copco reversed a SEK13bn net cash position to a SEK19bn net debt 

position in a single year. This followed large shareholder distributions, including 

share repurchases, as well as acquisitions. The current mandate to acquire up to 5% 

of outstanding shares is likely to result in negative rating pressure if fully utilised in 

2011, as it would take the total distribution to shareholders to SEK18.5bn. However, 

we would be surprised to see such significant shareholder friendliness repeated today, 

although Atlas Copco, in line with other larger companies, has been increasingly 

shareholder friendly in 2010 and the beginning of 2011. 


ATCOA 2014 (around ASW +24/18bp) should – and does – trade substantially 

tighter than lower-rated METSO 2014 (around ASW +94/88bp) and SANDVK 2014 

(around ASW +83/77bp) but only slightly tighter than almost equally-rated SKF 

2013 (around ASW +38/28bp). This is emphasised by the comparably strong credit 

metrics and resilience through the past few turbulent years. The bond is well placed 

with buy-and-hold investors, and thus fairly illiquid. ATCOA trades tighter than a 

fair market curve of industrials in the A category and we do not see further relative 

tightening potential nor catalysts for a widening. We recommend to HOLD ATCOA 

2014 and have a neutral view on 5y CDS trading around 49/54bp. 

74 | 13 April 2011 



Financial data Atlas Copco 


Net sales 50,512 63,355 74,177 63,762 69,875 

EBITDA (1) 11,391 13,925 15,960 11,635 16,495 

EBIT (1) 9,249 12,125 13,880 9,165 13,997 

Net interest expenses 654 453 1,243 808 423 

Net profit 15,373 7,469 10,190 6,276 9,944 

FFO (2) 11,906 10,361 12,373 8,531 13,190 

Capex 2,168 2,359 2,899 1,723 1,693 

EBITDA-capex 9,223 11,566 13,061 9,912 14,802 

OpFCF (3) 10,824 9,045 9,915 16,214 12,905 

FCF (4) 4,361 2,417 2,317 9,229 5,482 

Net debt (5) -12,995 19,196 23,027 11,802 5,850 

Adjusted net debt (6) -5,668 25,412 29,174 18,705 12,646 

Total capital 39,848 37,309 52,250 49,638 49,435 

Ratios 

EBITDA margin (%) 22.6% 22.0% 21.5% 18.2% 23.6% 

EBIT margin (%) 18.3% 19.1% 18.7% 14.4% 20.0% 

Capex/net revenues (%) 4.3% 3.7% 3.9% 2.7% 2.4% 

EBITDA/net interest expenses (x) 17.4x 30.7x 12.8x 14.4x 39.0x 

FFO/net debt (%) nm 54.0% 53.7% 72.3% 225.5% 

FFO/adj net debt (%) nm 40.8% 42.4% 45.6% 104.3% 

Net debt/EBITDA (x) nm 1.4x 1.4x 1.0x 0.4x 

Adj net debt/EBITDA (x) nm 1.8x 1.8x 1.6x 0.8x 

Net debt/total capital (%) nm 51% 44% 24% 12% 

(1) Adjusted for non-recurring items and operating leases. (2) Net income after tax plus depreciation and amortization, deferred tax and other non cash items. 

Adjusted for operating leases. (3) CFO plus interest and taxes paid less capex. (4) OpFCF less interest paid, tax paid, and dividends. (5) Total interest-bearing debt 

less cash and marketable securities. (6) Net debt adjusted for operating leases, postretirement liabilities and contingent liabilities. Source: Company data and 

Danske Markets 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 15,942 15,301 17,430 17,743 19,401 

EBIT 2,450 2,627 3,499 3,782 4,007 

EBIT margin (%) 15.4% 17.2% 20.1% 21.3% 20.7% 

Net income 1,700 1,855 2,523 2,650 2,916 

Net debt 11,802 10,969 12,446 8,895 5,850 

Adj net debt/LTM EBITDA (x) 1.6 1.5 1.4 1.1 0.6 

LTM FFO/adj net debt (%) 45.4% 48.8% 56.5% 79.9% 134.0% 


Divisional quarterly overview (SEKm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Compressor Technique Sales 8,144 7,659 8,615 8,877 9,451 

EBIT margin 19.6% 20.6% 23.2% 26.0% 23.7% 

Construction & Mining Sales 6,395 6,233 7,393 7,357 8,173 

Technique EBIT margin 14.1% 15.4% 18.0% 17.8% 20.1% 

Industrial Technique Sales 1,455 1,483 1,535 1,569 1,885 

EBIT margin 7.4% 16.4% 18.8% 20.2% 21.9% 


75 | 13 April 2011 



Carlsberg 


Carlsberg is the fourth-largest brewery group in the world and holds market-leading 

positions in low-cyclical markets. The acquisition of assets from S&N in 2008 gave 

Carlsberg full ownership of Russian BBH and a market-leading position in France 

with the Kronenbourg brand. Carlsberg is one of the largest breweries in the mature 

Western European market and it has no. 1 positions in Scandinavia (50% market 

share), Russia (40%) and France (30%). While Carlsberg is committed to maintaining 

an investment-grade rating, the S&N acquisition resulted in materially increased 

debt levels. During 2009 and 2010, credit metrics strengthened significantly. The 

largest shareholder is the Carlsberg Foundation, holding 30% of the share capital and 

70% of the voting shares. 


Market-leading positions in low-cyclical markets 

Carlsberg is the fourth-largest brewery group in the world ranking behind AB InBev, 

SAB Miller and Heineken. Carlsberg sold 137m hl of beer and 23m hl of other beverages 

in 2010 and holds market-leading positions in low-cyclical markets. Carlsberg 

is one of the largest breweries in the mature Western European market. Sluggish 

population growth, an ageing population and a substitution trend towards wine and 

other alcoholic beverages have caused Western European beer volumes to stagnate. 

Hence, Carlsberg has a strong focus on cost efficiency and increased premiumisation. 

Still, the mature markets generate strong cash flow, characterised by low volatility. 

Carlsberg has a strong and diversified brand portfolio and is the owner of four of 

Europe’s top 10 beer brands by volume. Brands vary considerably in volume, price, 

target audience and geographical representation. 

Increased exposure to emerging markets 

The acquisition of assets from S&N in 2008 gave Carlsberg full ownership of Russian 

BBH and S&N’s activities in France, Greece, China and Vietnam. As a result, 

Carlsberg’s exposure to emerging markets has increased significantly and Eastern 

Europe accounted for 45% of EBIT in 2010. Carlsberg is by far the largest brewer in 

Russia and is focussing on growing its market share in Eastern Europe and Asia. 

While these markets offer higher growth potential, they come with higher business 

risk and expected cash-flow volatility. This was most recently exemplified by the 

increased excise duties in Russia as of 1 January 2010, together with political discussions 

about further curbing alcohol consumption by banning sale through certain 

channels and advertising restrictions. 

Significant deleveraging in 2009/10: rating upgraded in 2011 

The acquisition of assets from S&N resulted in a substantially increased debt burden 

and credit metrics close to high-yield territory. However, very strong free cash flow 

generation in both 2009 and 2010, as well as a reduced payout ratio, have materially 

improved the credit metrics, demonstrating Carlsberg’s strong commitment to maintaining 

its investment-grade rating. As Carlsberg has performed well despite challenging 

market conditions in recent years, as well as delivering the planned deleveraging, 

it was upgraded one notch by Fitch and Moody’s in February 2011. Carlsberg 

has regained financial flexibility to acquire further assets, and in August and December 

2010 the CEO reiterated the acquisition plans in Asia. In addition, in March 2011 

the Chairman stated that the company could raise as much as DKK50bn for acquisitions. 

Increased leverage may be ahead, but we take some comfort in management’s 

repeated statements on its commitment to the investment-grade rating. 

HOLD 

Sector: Beverages 

Corporate ticker: CARLB 

Equity ticker: CARLB DC 

Market cap: DKK90bn 

Ratings: 


Moodys rating: Baa2 /S 

Fitch rating: BBB /S 

Analyst: 



+45 45128519 



+45 45148886 


Strengths: 

• Leading positions in low-cyclical 

markets. 

• Strong brand portfolio in all segments. 

• Positioned to capture long-term 

Russian growth potential. 

• Strong free cash flow generation 

and deleveraging in 2009/10. 

Challenges: 

• Increased exposure to emerging 

markets. 

• Risk of debt-financed M&A. 

• Stagnating beer consumption in 

mature markets. 

• Ambitious growth strategy could 

lead to excessive risk-taking. 


76 | 13 April 2011 



Liquidity 

As of end-2010, Carlsberg reported cash and cash equivalents of DKK2.7bn, shortterm 

debt of DKK4bn and a larger refinancing need in 2012. Due to improved operating 

profit, lower capex and a release of working capital, Carlsberg has recently 

generated very strong FOCF, supporting debt reductions. 

On 1 October 2010, Carlsberg announced that it had signed a new five-year revolving 

credit facility, amounting to EUR1.75bn, to partially refinance the S&N acquisition 

facilities and extend the debt maturity profile, which peaked in 2012. According 

to Fitch, the new 5Y facility was virtually undrawn by year-end. In addition to this, 

on 6 October 2010, Carlsberg launched a EUR1bn bond, maturing in 2017, using the 

proceeds to refinance the remaining part of the acquisition facility maturing in 2012 

and for general corporate purposes. As a result, Carlsberg has significantly extended 

its debt maturity profile and we view the liquidity position as strong. 


Strong 2010 performance and significant full-year earnings upgrade 

FY 10 was very strong from an earnings perspective, with consolidated profit up 

more than 40% to DKK6bn in 2010, from DKK4.2bn in 2009, with almost flat net 

sales (up 1.1% to DKK60bn). The FY 10 operating margin was an impressive 17.1%, 

up from 15.8% in the FY 09. However, the year ended a bit softer, as Carlsberg reported 

Q4 10 sales of DKK13.4bn (down 2% y/y), clean EBIT of DKK1.1bn (down 

33% y/y) and consolidated profit of DKK380m (down 25% y/y), all slightly behind 

consensus expectations. The group’s operating margin in Q4 weakened to 8.2%, 

from 12.1% in the same period last year, reflecting significant regional differences 

and strong comparison numbers from Q4 09. 

Debt maturity profile (end- 2010) 

DKKm 

14000 

12000 

10000 

8000 

6000 

4000 

2000 

0 

5y 


Profitability 

DKKm 

25% 

60.000 

50.000 

20% 

40.000 

15% 

30.000 

10% 

20.000 

5% 

10.000 

0 

0% 

2006 2007 2008 2009 2010 

Sales EBITDA EBITDA-Margin (rhs) 


In 2010, the beer market in Northern & Western Europe declined by 2-3%, but this 

compares with a 5% fall in 2009. The positive story is that Carlsberg managed to 

boost its market share by around 50bp in the region, despite the challenging market. 

In Eastern Europe, the group suffered from tough comparisons, due to Russian stockbuilding 

in the same period last year, ahead of the excise duty increase on 1 January 

2010. However, most markets in the region improved throughout the year. In Asia, 

on the other hand, the performance was very strong, with high organic volume and 

revenue growth, combined with significantly higher operating margins. 

EBIT by segment, 2010 

Eastern 

Europe; 

45% 

Asia; 9% 

Northern 

and 

Western 

Europe; 

46% 

In 2011, Carlsberg expects a low single-digit decline in Northern & Western Europe 

and 2-4% Russian market growth. Carlsberg guides for increased input costs, which 

will be mitigated by higher sales prices in all regions. This mirrors comments from 

peers, indicating price discipline in the sector, which is credit-positive. 

Acquisition appetite increasing again: rating upgrade potential limited 

Following the acquisition of assets from S&N in 2008, the credit metrics have improved 

significantly. Looking at adjusted net debt to EBITDA clearly tells the story, 

as the number was down to 2.6x by the end of 2010, compared with 3x and 4.2x in 

2009 and 2008, respectively. In addition, FFO to adjusted net debt was up to 29% at 

the end of 2010, compared with 26% and 14% in 2009 and 2008, respectively. This 

improved financial strength was highlighted by the one-notch upgrade to BBB and 

Baa2 by Fitch and Moody’s in February 2011. 

However, the acquisition appetite is rising again. In June 2010, Carlsberg announced 

that it would increase its shareholding in Chongqing Brewery Co. (CBC) from 

17.46% to 29.71%. The DKK2.1bn transaction was conditional on a number of steps 

and approvals by authorities and minority shareholders, but it went through at the end 

of December 2010. As Carlsberg is also pursuing smaller and bolt-on acquisitions, 

mainly in Asia and Eastern Europe, we do not expect the credit metrics to improve 

much further. While these markets offer higher growth potential, this strategy also 

Northern and Western Europe Eastern Europe Asia 



DKKm 

X 

4 

60.000 

50.000 

3,5 

40.000 

30.000 

3 

20.000 

2,5 

10.000 

0 

2 

2006 2007 2008 2009 2010 

Net debt Equity (incl. minority) Net debt/EBITDA (rhs) 


77 | 13 April 2011 



much further. While these markets offer higher growth potential, this strategy also 

comes with higher business risk and expected cash-flow volatility. On several occasions, 

CEO Rasmussen has stated that the company may consider buying a further 

stake in Chongqing Brewery Co. 

Then, in March 2011, according to a Danish newspaper, the Chairman of Carlsberg 

said that the company could raise as much as DKK50bn for acquisitions. However, 

he did not elaborate on either the financing sources or the acquisition targets. In our 

view, this (hypothetical) statement on further acquisitions is in line with previous 

ones from the group. However, as the Chairman is now taking the ‘indications of 

interest’ to the next level by mentioning specific numbers, we view the “M&A risk” 

as now being more material than before. Therefore, from a credit perspective, this is 

slightly negative, even though it is in line with expectations. While the number mentioned 

could significantly leverage Carlsberg’s balance sheet, we take some comfort 

in management’s repeated commitment to an investment-grade rating. However, we 

believe that the credit metrics may have peaked for now and we see no further upside. 

Improved margin performance 

As of end-2009, Carlsberg raised its medium-term (three to five years) operating 

margin targets as follows: 

• Northern & Western Europe: 15-17% (old target: 14-16%). 

• Eastern Europe: 26-29% (old target: 23-25%). 

• Asia: 15-20% (no previous concrete target). 

• Carlsberg Group: around 20% (no previous concrete target). 

In 2010, the operating margin at group level increased to 17.1%, from 15.8% in 

2009, i.e. the margin improved but was still behind the medium-term target. In 

Northern & Western Europe, the margin is also short of the target but improving, as 

it increased to 14.1% in 2010, compared with 11.6% in 2009. In Eastern Europe and 

Asia, the medium-term targets are met by 2010 margins of 27.8% and 18.6%, respectively. 

As the numbers show, Carlsberg’s margins in Eastern Europe are very attractive. 

Corporate structure: Carlsberg Breweries A/S is the rated entity 

The rated entity and issuer of (most) capital-market debt, Carlsberg Breweries A/S, is 

wholly owned by Carlsberg A/S. The Carlsberg Foundation owns 30% of the share 

capital and 70% of the voting shares in Carlsberg A/S. Some real estate assets (e.g. 

the Valby property, which is currently up for sale) are owned by Carlsberg A/S, but 

Carlsberg Breweries A/S is the owner of the operating subsidiaries (i.e. breweries). 

As Carlsberg pursues a centralised funding and risk management strategy, only a 

small part of debt in operating subsidiaries structurally subordinates senior unsecured 

issuance out of Carlsberg Breweries A/S (well below S&P’s threshold for notching). 


The CARLB curve has tightened and flattened materially, and we do not see further 

relative tightening potential compared with peers (HEIANA, SABLN, ABIBB, etc.). 

CARLB 2014 and 2017 are currently trading around ASW+78/76bp and 

ASW+90/86bp, respectively. We keep our HOLD recommendation on both bonds. 

We are slightly negative on the 5Y CDS, which is trading around 85/95bp. 

78 | 13 April 2011 



Financial data Carlsberg 


Net Sales 41,083 44,750 59,944 59,382 60,054 

EBITDA 6,999 8,030 11,605 13,159 14,236 

EBIT 4,046 5,262 7,978 9,390 10,249 


Consolidated profit 2,171 2,596 3,193 4,167 5,960 

FFO (1) 4,340 5,404 6,707 10,265 10,667 

Capex 3,188 4,929 5,292 2,767 3,326 

EBITDA-Capex 3,811 3,101 6,313 10,392 10,910 

RCF (2) 3,700 4,609 5,798 9,422 9,770 

FCF (3) 901 -550 2,062 10,330 7,160 

Net debt (4) 19,229 19,726 44,156 35,679 32,743 


Total capital (6) 41,784 43,198 109,272 98,886 106,175 

Ratios 

EBITDA margin (%) 17.0% 17.9% 19.4% 22.2% 23.7% 

EBIT margin (%) 9.8% 11.8% 13.3% 15.8% 17.1% 

Capex/Net revenues (%) 8% 11% 9% 5% 6% 

EBITDA/Net interest exp. (x) 6.8x 7.5x 4.9x 6.1x 7.4x 





(1) CFO before change in NWC (2) FFO less dividend (3) CFO less dividend and capex. (4) Total interest-bearing debt less cash and marketable securities. (5) Net 

debt adjusted for pensions, operational leasing and contingent liabilities as reported. (6) Total equity plus total debt. Source: Company data, Danske Markets 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

North & Western Net sales 8,451 7,309 10,199 10,198 8,450 

Europe Clean EBIT 657 406 1,892 1,949 839 

Margin 8% 6% 19% 19% 10% 

Eastern Europe Net sales 4,103 2,386 6,294 6,016 3,491 

Clean EBIT 1,092 321 2,276 1,969 482 

Margin 27% 13% 36% 33% 14% 

Asia Net sales 1,041 1,234 1,492 1,464 1,423 

Clean EBIT 147 231 299 320 194 

Margin 14% 19% 20% 22% 14% 

Source: Danske Markets, company data 

79 | 13 April 2011 



Electrolux 


Sweden’s Electrolux is one of the world’s largest manufacturers of white goods 

through a combination of acquisitions and disposals. With leading brands such as 

Electrolux, AEG and Zanussi, its products include refrigerators, cookers, washing 

machines and vacuum cleaners. It is also a global leader in the production of similar 

equipment for professional users. Electrolux has a turnover in excess of SEK100bn 

annually, operates in more than 150 countries and has about 50,900 employees. In 

June 2006, the company spun off its most profitable division – the outdoor unit – into 

an independently-listed company, Husqvarna. The outdoor division accounted for 

22% of Group sales. The largest shareholder in Electrolux is Investor AB with 13.6% 

of the share capital and 29.9% of the voting rights. 


Leading position 

Global diversity with critical mass and market-leading positions in Europe (16% 

market share within core appliances and 14% in floor-care products) and the US 

(21% core appliances and 18% in floor-care) helps smooth out the cyclical fluctuations 

associated with an industry where growth is generally linked to consumer 

spending and housing activity. Even if cyclicality is less of an issue than it has been 

historically, as white goods are now considered more ‘essential’ purchases than in the 

past, economic downturns delay replacements and prompt a shift towards lower-cost 

products. Price competition is generally intense, partly due to overcapacity. In addition, 

none of the players in the global white goods market enjoy sufficiently large 

market share to act as price leaders and the technology is not sufficiently sophisticated 

to keep out new competition. 

Focus on branding and retailer distribution 

Brand strength is a key credit factor in a relatively homogenous industry. Electrolux 

is actively developing this by focusing on a reduced number of global brands, which 

should support a more targeted and cost-effective advertising and promotion strategy, 

as well as a more loyal customer base and a better pricing environment. Its strategy is 

to build Electrolux as a global brand, by single or double branding the products, 

although this will entail increasing marketing costs. 

Retailer dependency is an inevitable threat to performance. However, Electrolux is 

the leading manufacturer for most of the main European retailers. It is highly dependent 

on Sears in the US, the biggest seller of white goods, but less dependent than 

its competitor, Whirlpool. It also produces private label goods for European retailers. 

Electrolux’s brand strength helps offset the power of the retailers. On the positive 

side, a close link with a strong retailer acts as an entry barrier. 

Sensitivity to raw material prices 

As the company has streamlined its operations and outsourced assembly to low labour 

cost countries, the proportion of variable costs, such as materials and components, 

has risen substantially. Raw materials and components represented 43% of 

total costs in 2010. In recent years, spot price volatility has risen substantially for the 

most important raw material inputs such as carbon steel (representing 37% of the 

total cost for raw materials), stainless steel (8%), aluminium and copper (13%) and 

plastics (27%). Although the economic downturn put pressure on these commodity 

prices, this has now reversed and prices are rising again. 

SELL 

Sector: Consumer Discretionary 

Corporate ticker: ELTLX 

Equity ticker: ELUXB SS 


Ratings: 

S&P rating: BBB /S 


Fitch rating: BBB- /S 

Analyst: 



+45 45148886 



+45 45128519 


Strengths: 

• Leading producer of indoor household 

appliances. 

• Most diverse geographic 

exposure in the industry. 

• Good distributions network and 

close relationships with retailers. 

• Strong brand names. 

Challenges: 

• Cyclical demand leads to fluctuating 

profitability. 

• Strong competition and price 

pressure from Asia. 

• Fragmented European market. 

• Volatile raw materials cost base. 


80 | 13 April 2011 



Liquidity 

We view Electrolux as having a sound liquidity position. At the end of 2010, the company 

had around SEK12.8bn in cash and cash equivalents available. Electrolux also has 

access to an unutilised, committed EUR0.5bn (SEK4.5bn) revolving credit facility that 

matures in 2012 and in 2010 Electrolux signed an additional committed 2017 credit 

facility of SEK3.4bn that is also unutilised. This compares with short-term debt of 

SEK3.7bn. According to Standard & Poor’s, there are no covenants or rating triggers 

on the company’s debt. 

In 2007, Electrolux made a decision to extend its debt maturities and significantly 

reduce dependence on short-term debt. The goal for long-term funding includes an 

average time to maturity of at least two years, an even spread of maturities, as well as 

an average interest-fixing of 1.0 years. At end 2010, the company’s long-term debt had 

an average maturity of 3.3 years and the average interest fixing was 0.9 years. Furthermore, 

it is stressed as part of financial policy that it is the Group’s ambition to maintain 

a safe margin from a non-investment grade credit rating. In November 2010, S&P 

upgraded its credit rating from ‘BBB’ to ‘BBB+’ and soon after Fitch upgraded its 

unsolicited credit rating from ‘BBB-’ to ‘BBB’. 


Earnings improve while demand remains depressed 

Electrolux has maintained strong focus on profitability and cash flow. Through cost 

cutting, price increases and working capital reductions, the company managed to increase 

its EBIT margin to 6.1% at the end of 2010, thus surpassing its 6% target over 

the cycle. 

However, the core markets have yet to see a recovery in demand as Western Europe, 

Southern Europe and North American markets remain subdued. However, demand in 

Latin America and Asia/Pacific remains strong. This uneven growth is expected to 

continue in 2011 as Electrolux forecasts modest growth of 2% in Europe and 3% in 

North America. 

The North American market was also hit by subsidy discontinuations in Q3 10. This 

followed higher replacement demand in Q2 10 due to US state-sponsored rebate 

programmes for energy-efficient products. 

Low gearing, but substantial unfunded pension liabilities 

During 2009, reported net debt was reduced significantly and the net debt-to-equity 

ratio improved from 28% in 2008 to 4% in 2009. In Q2 10, Electrolux ended up with 

a net cash position. 

However, we stress that Electrolux has significant unfunded pension liabilities (although 

it did make a SEK3.9bn contribution to pension funds in Q4 09), operating 

leasing commitments and guarantees to some of its US customers. When adjusting 

for these figures, net debt-to-equity was 21% in 2010 (versus 36% in 2009 and 89% 

in 2008). 

Olympic acquisition put on hold because of the Egypt uprising 

As part of Electrolux’s strategy to grow in the emerging markets, the company announced 

its intention to acquire 52% of Olympic Group in Egypt for an enterprise 

value equivalent to SEK3.2bn (excluding associated companies Namaa and B-tech, 

to be divested). Afterwards, Electrolux were set to launch a mandatory tender offer 

for the remaining shares; however, due to the turmoil in Egypt, the acquisition was 

put on hold in February 2011. We still expect Electrolux to complete the acquisition 

in 2011 and do not foresee any rating impact due to the strong credit metrics. 



SEKbn 

4.5 

4.0 

3.5 

3.0 

2.5 

2.0 

1.5 

1.0 

0.5 

0.0 


Profitability 

SEKbn 

140 

120 

100 

80 

60 

40 

20 

0 

2011 2012 2013 2014 2015 2016+ 

2006 2007 2008 2009 2010 


Sales by segment, 2010 




14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 

Net sales EBITDA EBITDA margin (rhs) 

Consumer 

(Latin Am.) 

16% 

Consumer 

(North Am.) 

32% 

SEKbn 

35 

30 

25 

20 

15 

10 

5 

0 

Consumer 

(Asia) 

8% 

Professional 

Products 

6% 

2006 2007 2008 2009 2010 

Consumer 

(EMEA) 

38% 

3.5x 

3.0x 

2.5x 

2.0x 

1.5x 

1.0x 

0.5x 

0.0x 

Adj net debt Equity Adj net debt/EBITDA (rhs) 

81 | 13 April 2011 



Restructuring programme to be completed in 2011 

The company is in the final phase of its ambitious restructuring programme, initiated 

in 2004 and expected to be completed in 2011. A central part of the programme 

involves plant closures and relocation of production to low-cost countries. When 

fully implemented, 60% of appliance manufacturing will take place in these countries. 

Production of vacuum cleaners is already located in such countries. Annual 

savings are estimated at SEK3.4bn, when finalised. 

Litigation risk 

Electrolux currently faces around 2,800 pending US lawsuits representing around 3,120 

plaintiffs. These lawsuits relate to externally-supplied components containing asbestos 

used in Electrolux’s industrial products prior to the early 1970s. Electrolux itself has 

not manufactured any of these components and the companies that provided the components 

are no longer operating. S&P does not expect this issue to be a major rating 

factor and we do not consider this to be a material issue. 


We have an overall SELL recommendation on Electrolux. Although demand has stabilised, 

this could be negatively affected by government austerity measures in Europe 

going forward. The continued weak market conditions in Europe and North America 

and large restructuring charges will continue to weigh on the company’s credit quality, 

in our view. 

The 5y CDS, trading at 65/72bp, is very tight compared with iTraxx Europe 

(94/95bp). We recommend that investors buy 5y protection against iTraxx Europe 

(see list of instrument prices at the end of this book). Given the continued difficult 

conditions in the white goods industry, we expect Electrolux to underperform the 

market. 

Currently, Electrolux has no outstanding Eurobonds apart from a very illiquid 2013 

floater. Electrolux does, however, have bonds issued in US dollars (a USD100m 

floater issued in April 2008 and a USD42m floater issued in June 2008), which could 

be delivered into the CDS contract. The bonds issued in SEK under the company’s 

domestic MTN programme are not deliverable under ISDA documentation. We believe 

that the limited amount of deliverable obligations could explain the tight CDS 

levels on Electrolux and we could see pressure on the CDS upon new issuance. Electrolux 

has SEK250m of bond redemptions in 2011 that may be refinanced in the 

capital markets. 

82 | 13 April 2011 



Financial data - Electrolux 


Net Sales 103,848 104,732 104,792 109,132 106,326 

EBITDA 7,333 7,575 4,553 8,764 9,822 

EBIT excl non-rec items 4,575 4,837 1,543 5,322 6,494 


Net profit 3,847 2,925 366 2,607 3,997 

FFO (1) 5,263 5,498 3,446 6,378 7,741 

Capex 3,667 3,950 3,158 2,223 3,221 

EBITDA-Capex 3,666 3,625 1,395 6,541 6,601 

RCF (2) 3,041 4,372 2,242 6,378 8,879 

FCF (3) -1,329 270 -916 1,224 5,597 

Net debt (4) -304 4,703 4,556 665 -709 



Total capital (6) 20,689 27,203 30,331 32,863 32,709 

Ratios 2006 2007 2008 2009 2010 

EBITDA margin (%) 7.1% 7.2% 4.3% 8.0% 9.2% 

EBIT margin (%) 4.4% 4.6% 1.5% 4.9% 6.1% 


EBITDA/Net interest expenses (x) 49.9x 17.2x 8.5x 31.6x 79.2x 

FFO/Adj net debt (%) 65% 46% 24% 93% 180% 

Adj net debt/EBITDAR (x) 1.0x 1.4x 2.7x 0.8x 0.4x 

Adjusted net debt/Total capital (%) 39% 44% 48% 21% 13% 


securities. (5) Net debt adjusted contingent liabilities/contractual obligations as reported. (6) Equity and unadjusted total debt. Source: Company data, Danske Fixed 

Income Credit Research 

Quarterly overview (SEKm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 28,215 25,133 27,311 26,326 27,556 

Adjusted EBIT 2,023 1,326 1,477 1,977 1,714 

Adjusted EBIT margin 7.2% 5.3% 5.4% 7.5% 6.2% 

Net income 664 911 1,028 1,381 677 

Net debt (reported) 665 730 -496 -609 -709 

Net debt/LTM EBITDA 0.1x 0.1x -0.1x -0.1x -0.1x 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Cons. Durables Europe Net sales 11,285 9,719 9,349 10,210 10,760 

EBIT margin 7.3% 6.4% 5.4% 9.9% 5.3% 

Cons. Durables North America Net sales 7,865 7,995 10,027 8,353 7,401 

EBIT margin 5.7% 4.5% 4.6% 5.3% 4.3% 

Cons. Durables Latin America Net sales 4,401 3,998 3,905 4,069 5,304 

EBIT margin 8.4% 5.5% 6.1% 5.7% 7.4% 

Cons. Durables Asia/Pacific Net sales 2,741 1,912 2,298 2,192 2,434 

EBIT margin 9.3% 8.4% 10.1% 12.1% 11.2% 

Professional products Net sales 1,923 1,501 1,730 1,501 1,657 

EBIT margin 11.7% 6.1% 12.0% 13.5% 14.7% 


83 | 13 April 2011 



Investor AB 


Established in 1916, Investor AB is the largest industrial holding company in the 

Nordic region. Investor AB is represented with offices in Stockholm, Amsterdam, 

Beijing, Hong Kong, Tokyo, Menlo Park and New York. Investor’s business concept 

is to generate solid long-term returns by investing in companies with attractive potential 

for value creation. Investor is an active owner and is often represented at the 

board level of the companies in which it invests. The three largest Wallenberg foundations 

jointly own 22.3% of the shares and 48.0% of the voting rights, which we 

consider to be credit supportive. Investor’s business operations are conducted primarily 

through the following three main business areas: 

• Core Investments, representing the largest percentage of Investor’s total assets, 

are well-established, global companies that are listed. The investment cycle is 

long term and the ownership is through minority positions of significant sizes. 

This business area represents 72% of the total portfolio. 

• Operating Investments are medium-sized to large companies that are mainly 

unlisted and have international operations. The investment cycle is longer than 

five years and ownership is through minority positions of significant sizes. This 

business area represents 15% of the total portfolio. 

• Private Equity Investments are holdings in small- and medium-sized young 

growth companies that are mainly unlisted and operating in the healthcare, IT and 

technology sectors. Investor expects to grow its share of unlisted investments to 

25% on a five-year horizon from the current 11% of the total portfolio. 

The specific investments in the investment areas are described further below. In 

addition, Investor has some financial investments but these are of relatively minor 

importance (less than 2% of net asset value). 


Underlying asset quality is central to performance 

As an investment holding company, Investor’s credit quality is largely determined by 

the asset quality of its portfolio. The total portfolio of listed and unlisted companies 

is best measured by the net asset value (market value of total assets less net debt). 

Listed assets are typically more liquid while unlisted assets tend to come with a larger 

degree of control with the ability to determine dividend payments and corporate 

strategies. 

Diversification of investments 

The investments are diversified across business areas and geography. While the 

majority of investments are Swedish-based companies, the operations of these are 

international, if not global. Moreover, the investments span many different sectors 

(e.g. financial services, technology, engineering and healthcare). The largest investment 

is in Atlas Copco (19.1% of total assets) and the second-largest is SEB (14.1%). 

BUY 


Investment holding companies 

Corporate ticker: INVSA 

Equity ticker: INVEB SS 


Ratings: 

S&P rating: AA- /S 



Analysts: 



+45 45148886 



+45 45128519 


Strengths: 

• Good asset quality and diversification 

in portfolio. 

• Strong ownership support from 

Wallenberg foundations. 

• Strong capital structure with 

modest leverage. 

• Adequate liquidity with 

long-dated debt maturity profile. 

Challenges: 

• Volatile portfolio value from 

share price fluctuations. 

• Exposure to higher-risk 

unlisted investments. 

• Debt servicing dependent on dividends 

and divestments. 


Dividend income and asset divestments determine liquidity 

Investor is reliant on dividends from its investments and/or disposals in order to 

service its debt. Investor’s own distribution policy is closely linked to the dividends it 

receives from its (core) investments. This was emphasised during the financial crisis 

which put dividend payments under pressure in several companies as, for example, 

SEB suspended its dividend for 2008. Investor’s interest coverage (dividends received/financial 

expenses) was 3.5x in 2010, up from a modest 0.9x in 2008. However, 

the strong net cash position of SEK2.7bn at the end of 2010 safeguards against 

a cash shortfall resulting from reduced dividend payments. 

84 | 13 April 2011 



Liquidity and leverage policy 

Investor has a policy of a maximum leverage (net debt/total assets) target of 25%, but 

over the business cycle Investor aims at a leverage ratio of 5-10%. The 25% leverage 

target may only be exceeded on a short-term basis and if the target is breached Investor 

starts to sell off assets. By the end of 2010, Investor had a net debt position of 

SEK11.5bn, corresponding to a leverage ratio of 6.3%. Furthermore, the company’s 

total readily available liquid funds of SEK12.0bn provide a short-term buffer. In 

addition, the company has a SEK10bn committed syndicated back-up loan facility, 

which is fully undrawn and matures in October 2012. The syndicated facility also has 

no restrictive financial covenants that could reduce the available credit. 

In the period when conditions in the credit market were still benign, Investor increased 

the maturity of its debt and at the end of 2010 the average maturity of the 

total debt portfolio was at more than 12.1 years. 

Except for 3 Scandinavia (where Investor has made a loan guarantee of SEK4.2bn, 

corresponding to 40% of total debt in the company), the debt at the companies is 

ring-fenced with no recourse to Investor AB. 


Portfolio value 

Investor’s net asset value (market value of total assets less net debt) is the best way to 

measure the performance of the company. In 2008, the deteriorating equity market 

took its toll and resulted in a 26% fall in net asset value relative to 2007. In 2009, net 

asset value rose sharply by 24% and the upward trend continued in 2010 with an 

increase of 19% y/y. Thus, most of the lost ground has been regained. 

This is also evident from the share price of Investor AB which has performed in line 

with this development. The credit quality of Investor is therefore highly correlated 

with the development in the underlying assets. 

Asset allocation 

The largest share of Investor AB’s portfolio is Core Investments (72% of the total 

portfolio at the end of 2010), which is credit positive as these listed minority stakes are 

more liquid and provide greater diversification. While Operating Investments (15% of 

total portfolio) benefits from a greater degree of influence and control, the unlisted 

companies are less liquid and take longer to divest when needed. Furthermore, they 

may have higher financial risk from leverage. This is even more the case for Private 

Equity Investments (11% of total portfolio). The characteristics and credit considerations 

of each of the three business areas are described in detail on the next page. 

2010 results 

In 2010, Investor reported a net profit of SEK30.7bn, mainly reflecting the positive 

changes in enterprise valuations on the stock markets. Net asset value rose 19% y/y 

to SEK169.9bn. This was mainly attributable to Operating Investments (+77%) and 

Core Investments (+23%). 

Investor maintained its conservative balance sheet structure, although it continued to 

increase its net debt to SEK11.5bn (corresponding to a leverage of 6.3%). We expect 

this to slow down and remain within the leverage target of 5-10%. 

Reorganisation of portfolio in 2011 

In April, Investor announced that it would restructure its portfolio to focus more on 

Core Investments and hence wind down Active Portfolio Management and divest 

Investor Growth Capital as a standalone entity on 1 July 2011 (in order to facilitate 

this, Investor will contribute SEK750m in 2011 and SEK750m in 2012 after which 

no additional funding is provided). As a consequence, costs are expected to decrease 

by SEK140m per annum. In our view, the restructuring lowers risks. 

Leverage (net debt to assets) 

25% 

20% 

15% 

10% 

5% 

0% 

-5% 

-10% 


Net asset value 

SEKbn 

200 

180 

160 

140 

120 

100 

80 

60 

40 

20 

- 

Q1 

03 

Q1 

04 

Q1 

05 

Q1 

06 

Q1 

07 


Investor AB share price 

SEK 

200 

180 

160 

140 

120 

100 

80 

60 

40 

20 

0 

Q1 

03 

Q1 

04 

Q1 

05 

Q1 

06 

Q1 

07 

Q1 

08 

Q1 

08 

Q1 

09 

Q1 

09 

Source: Bloomberg and Danske Markets 

Allocation of assets (end-2010) 


max 

target 

Q1 

10 

Q1 

10 

2003 2004 2005 2006 2007 2008 2009 2010 2011 

Financial 

Investments 

Private Equity 2% 

Investments 

11% 

Operating 

Investments 

15% 

Index (2003) 

350 

300 

250 

200 

150 

100 

50 

0 

Core 

Investments 

72% 

85 | 13 April 2011 



Core Investments 

Core Investments constituted 72% of the total assets by end-2010 and is therefore by 

far Investor’s most important area. The investments are in liquid shares in larger 

companies and Investor pursues an active ownership strategy. 

The business area currently comprises eight companies: ABB (‘A3’, ‘A’, ‘BBB+’), 

AstraZeneca (‘A1’, ‘AA-’, ‘AA-’), Atlas Copco (‘A3’, ‘A’, NR), Electrolux (NR, 

‘BBB+’, ‘BBB’), Ericsson (‘Baa1’, ‘BBB+’, ‘BBB+’), Husqvarna (NR, NR, NR), 

Saab (NR, NR, NR) and SEB (‘A1’, ‘A’, ‘A+’). The overall credit quality of the core 

investments is high as reflected by the solid investment-grade credit ratings of the 

companies. 

Operating Investments 

Operating Investments constitute around 15% of total assets and currently the business 

area mainly consists of the following holdings: 3 Scandinavia, Gambro, Grand 

Hôtel, Mölnlycke Health Care, Biovitrum, Aleris and Lindorff. In addition, Investor 

has entered the land and real estate market although the investment remains modest. 

The focus continues to be on unlisted companies with an international presence and 

the investment horizon is long (five to 10 years or more). The investment risks are 

higher than for Core Investments as financial leverage in this segment can be substantially 

higher in order to enhance returns. 

Private Equity Investments 

Private Equity constituted 11% of total investments in 2010. Venture capital investments 

are made through the subsidiary Investor Growth Capital and buyout investments 

are made indirectly through EQTs funds, which are partly owned by Investor. 

The focus of the former is on young growth-oriented companies while the focus of 

EQTs is on larger companies. 

After several years when the investment climate for private equity has been good, the 

exit possibilities are now negatively affected by the ongoing crisis in the financial 

markets. Lately, however, financial conditions have eased markedly, paving the way 

for exits but IPO activity is still somewhat restrained. Private equity is the riskiest of 

the three investment areas, but since 1998 the return (IRR) for realised investments 

has been above the 20% target set by Investor. From a credit perspective, we note 

that the investments in Private Equity are largely illiquid. 


On 20 January 2011, we changed our recommendation to BUY (from HOLD). We 

believe fundamentals are improving and expect that Investor AB is close to the end of 

its re-leveraging path, being within the target area. Furthermore, most companies have 

increased or reinstated their dividends; such cash inflow should support debt servicing. 

Investor also had a liquid cash position of SEK12.1bn at the end of 2010, which fully 

covers debt maturities up to 2020 and provides a short-term buffer. 

The current valuation looks attractive as the bonds are trading at a wide level relative 

to Investor’s senior unsecured ratings (‘AA-’/‘A1’). Our top pick is the INVSA 2016 

bond which currently trades at ASW +49bp (ask). However, the new INVSA 2018 

also looks attractive for investors with appetite for longer duration (ASW +65bp) as 

it trades almost unchanged from its inception in September 2010 (see list of prices at 

the end of this book). 

Core Investments (end-2010) 

Saab 

3% 

Electrolux 

6% 

AstraZeneca 

12% 

ABB 

19% 


Operating Investments (end-2010) 

Biovitrium 

12% 

Land and real 

Other 

estate 

1% Aleris 2% 

The Grand 

Group 

4% 

3 Scandinavia 

5% 

Lindorff 

13% 


Private Equity Investments (end-2010) 

EQT 

56% 


Husqvarna 

4% 

SEB 

20% 

Ericsson 

9% 

Atlas Copco 

27% 

Gambro 

Holding 

6% 

Mölnlycke 

Health Care 

48% 

Investor 

Growth 

Capital 

44% 

86 | 13 April 2011 



Financial data Investor AB 

P&L (SEKm) 2006 2007 2008 2009 2010 

Operating profit 28,966 273 -36,521 32,297 31,920 

Financial income 1,685 729 4,727 0 0 

Financial expenses -1,836 -1,213 -5,015 -597 -1,186 

Net financial items -151 -484 -288 -597 -1,186 

Pre tax profit 28,815 -211 -36,809 31,700 30,734 

Tax -329 -156 73 -332 -41 

Net profit 28,486 -367 -36,736 31,368 30,693 

Balance Sheet (SEKm) 2006 2007 2008 2009 2010 

Fixed assets 2,489 2,464 2,376 2,184 3,553 

Shares & particip. in investing activities 152,219 146,354 96,581 130,792 156,745 

Investments in associates 3,713 5,963 0 9,062 665 

Long-term receivables 966 4,823 11,318 10,846 5,531 

Deferred tax assets 14 13 20 11 467 

Total non-current assets 159,401 159,617 110,295 152,895 200,851 

Short term investments 13,045 9,998 18,821 6,130 9,295 

Cash & cash equivalents 5,608 5,010 9,151 5,804 2,684 

Other current assets 2,886 2,606 2,392 5,395 8,498 

Current assets 21,539 17,614 30,364 17,329 20,477 

Total assets 180,940 177,231 140,659 170,224 221,328 

Long-term interest bearing debt 17,633 18,837 21,591 23,550 40,536 

Pension liabilities 199 192 197 297 602 

Provisions 129 89 83 56 78 

Deferred tax 619 665 522 573 3,730 

Non-current liabilities 18,580 19,783 22,393 24,476 44,946 

Short-term interest bearing debt 666 271 818 299 948 

Accrued expenses and pre-paid income 1,265 1,298 1,337 1,122 2,023 

Provisions 33 22 10 5 14 

Other 1,076 653 761 1,649 2,785 

Current liabilities 3,040 2,244 2,926 3,075 5,770 

Total equity 159,320 155,204 115,340 142,673 142,673 

Key ratios 2006 2007 2008 2009 2010 

Net debt 416 -3,583 9,415 -588 -11,472 

Net asset value 159,320 155,204 115,340 142,673 169,947 

Interest cover (x) 1.8 3.2 0.9 5.8 3.5 

Leverage (%) -0.2% 2.0% -6.7% 0.3% 5.2% 

Source: Company data Danske Fixed Income Credit Research 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Core Investments 106,231 112,264 112,647 117,172 130,828 

Operating Investment 15,931 18,202 18,508 21,452 28,194 

Private Equity Investments 18,333 17,711 18,730 17,429 19,297 

Financial Investments 3,283 4,043 4,103 4,528 3,706 

Other assets and liabilities -1,105 -551 -578 -694 -606 

Net debt -588 -1,353 -5,486 -7,484 -11,472 

Net asset value 142,085 150,316 147,924 152,403 169,947 


87 | 13 April 2011 



ISS 


Denmark-based ISS is one of the world’s leading providers of facility services, with 

522,000 employees in more than 50 countries. In March 2005, EQT and Goldman 

Sachs Capital Partners made a public tender offer to the shareholders of ISS A/S 

through an entity now named ISS (previously ISS Holding). In May 2005, the LBO 

was completed and as a result the Group has weak credit metrics. Under its new 

ownership structure, ISS has made numerous acquisitions in order to broaden its 

scope of service offerings and geographical presence. In 2010, 52% of DKK74bn in 

revenues came from cleaning, 20% from property services, 10% from catering, 8% 

from support services, and 7% from security. The broadening of services offerings is 

highlighted by the current sales split, as the non-cleaning services has increased to 

48% of sales in 2010, compared to 33% in 2004. Although operations continue to be 

biased towards Western Europe and the Nordic region, ISS generated 18% of 2010 

sales from emerging markets, compared with 6% in 2004. Since the LBO, ISS has 

been on a slow deleveraging route on a multiple basis, primarily due to its acquisition 

strategy. 



ISS is one of the world’s leading providers of facility services and operates in a competitive 

and fragmented market with low barriers to entry. However, as ISS is successfully 

focusing on Integrated Facility Services (IFS) and offers bundled services 

on a global scale, the entry barriers are raised in this part of the business. The operating 

margin and cash-generation ability have recently proven relatively resilient to the 

macroeconomic cycle. This is underpinned by ISS’s highly flexible low-cost base, 

well-diversified service portfolio and customer base (more than 200,000 public and 

private sector customers in 2010), high customer retention rate, good geographical 

diversification and the critical mass to benefit from economies of scale. 

but weak credit metrics 

The strong business risk profile should be viewed in combination with weak credit 

metrics following the LBO. ISS grew rapidly after the LBO, spending free cash flow 

on acquisitions rather than debt reduction, but since late 2008, the acquisition activity 

has materially slowed due to a strategy change. However, ISS has a strong track 

record in integrating acquired businesses and acquisitions have normally been immediately 

cash-flow enhancing. Although we assess ISS’s external growth ambitions to 

be solid in the long term, the company now identifies organic growth and debt reduction 

as key priorities. ISS Global (the issuer of pre-LBO EMTNs) is indirectly wholly 

owned by ISS (former ISS Holding, and the issuer of 2016 HY notes) and the latter 

does not run any operational activities. Following the LBO, S&P downgraded ISS 

from BBB+ to B+. Moody’s assigned the high-yield bond a Caa1 rating. In May 

2008, S&P raised its long-term corporate credit rating on ISS and ISS Global from 

B+ to BB-. Issue ratings from S&P remain two notches below the corporate credit 

rating. In July 2009, EUR525m senior unsecured notes due 2014 and rated B by S&P 

were issued through a new entity called ISS Financing plc. 

Potential IPO is key 

In March 2011, ISS was almost made public through an IPO, which was postponed at 

the last minute due to financial turmoil (the VIX index jumped by 50% to 30 from 

20) on the back of the conflicts in North Africa and the Japanese earthquake. As the 

IPO is a vital step in the deleveraging process, this was credit negative and news of a 

second IPO attempt will be the key credit driver in 2011 (read more on the IPO below). 

SELL 

Sector: Industrials, Commercial 

Services 

Corporate ticker: ISSDC 

Equity ticker: NA 

Market cap: NA 

Ratings: 

S&P rating: BB- S 

Moodys rating: B2 PW 


Analyst: 



+45 45128519 



+45 45148886 


Strengths: 

• Strong geographical and product 

diversification through integrated 

facility services 

• Highly diverse and recurring customer 

base 

• Industry resilient to business cycle 

fluctuations 

• Flexible low-cost base and capex 

directly related to sales 

Challenges: 

• Highly leveraged financial profile 

• Competitive and fragmented industry 

• Few barriers to entry and pricing 

pressure 

• Deleveraging path under pressure 

during financial crisis 


88 | 13 April 2011 



Liquidity 

As of end-2010, cash and cash equivalents amounted to DKK3.6bn, while adjusted 

FOCF was DKK898m. ISS had short-term debt of DKK5.3bn, plus estimated interest 

payments of DKK1.7bn. Importantly, due to the terms in the securitisation programme, 

DKK2.5bn of related debt was classified as short-term, although the facility 

is committed until September 2012. ISS Global has senior credit facilities with a 

principal amount of DKK19.6bn, of which DKK18.1bn was utilised at the end of 

2010. The senior credit facilities include customary covenants, all of which ISS complied 

with in 2010. These facilities mature in 2012 and 2013 and it was the intention 

to repay these facilities, as well as a second-lien facility of DKK4.5bn maturing in 

2015, with the proceeds from the IPO plus an additional DKK7.8bn from new IPOcontingent 

5Y credit facilities of DKK12.3bn. A refinancing of existing senior facilities 

without an upcoming IPO, i.e. as a highly leveraged entity, will significantly 

increase the interest rate burden and likely result in more supply from ISS in the 

high-yield bond market. 

On 25 March 2010, ISS made a EUR127.5m tap of its existing 2016 notes, with the 

proceeds passed on to ISS Global. We view ISS’s liquidity profile as adequate for the 

time being, but we (and so does S&P) expect the company to initiate refinancing of 

its large facilities well ahead of due dates in 2012 and particularly 2013. 


2010 was a strong year for ISS and it ended solidly as expected 

In the full year 2010, revenue increased 7.3% to DKK74.1bn. Organic growth for the 

year was 3.5% compared with 0.6% in 2009 while net divestments decreased revenue 

by 1.5%. France continued to suffer from exposure to the manufacturing and public 

sectors and the effect from turnaround initiatives have yet to substantially materialise. 

2010 clean operating profit (i.e. operating profit before other items) increased 

10% to DKK4.3bn and the clean operating margin improved to 5.8% from 5.6% in 

2009. 

As expected, ISS delivered robust Q4 10 numbers with organic revenue growth marginally 

up sequentially to 4.0%. As in earlier quarters, Asia and Latin America delivered 

double-digit organic growth rates, while growth was weaker – albeit improving - 

in mature markets. The clean operating margin improved to 6.21% from 5.97% in the 

same period last year. During Q4 10, cash flow was strong, supported by a 

DKK1.1bn seasonal inflow of working capital. As a result, net debt declined to 

DKK30.6bn from DKK31.8bn after the previous quarter and DKK30.7bn at the end 

of the previous year. Net debt to EBITDA declined to 6.0x end-2010 from 6.5x end- 

2009. 

Broadly stated, going forward ISS pursues a further increase in service integration, 

more international contracts and increased emerging markets exposure. It targets 

medium-term organic growth of at least 6% (3.5%, 0.6% and 5.9% in 2010, 2009 and 

2008, respectively). ISS also targets a medium-term clean operating margin of 6.5% 

(5.8%, 5.6% and 5.9% in 2010, 2009 and 2008, respectively). The company will 

continue the disciplined approach to acquisitions, with activities primarily taking 

place in emerging markets. For 2011, ISS expects organic growth of 5%, and it expects 

the clean operating margin to be slightly above the level realised in 2010. 

IPO postponed uncertainty remains regarding second IPO attempt 

On 17 February 2011, ISS announced its intention to launch an IPO and the book 

building process started up on 8 March. However, on 17 March, ISS announced that 

– due to the high uncertainty and volatility in the financial markets – it had postponed 

the IPO. According to ISS, “the IPO was oversubscribed within our price range and 

comprised a book of demand from over 150 institutions around the world and more 

than 10,000 retail subscribers in Denmark.” However, due to a very high increase in 

risk aversion during the book building process, we believe the order book ended up 

weak in the sense that it was only oversubscribed at the bottom of the price range. 

89 | 13 April 2011 

Debt maturity profile (end 2010) 

DKKm 

16000 

14000 

12000 

10000 

8000 

6000 

4000 

2000 

0 


Profitability 

DKKbn 

80 

70 

60 

50 

40 

30 

20 

10 

0 


Revenue by region 2010 



DKKbn 

35 

30 

25 

20 

15 

10 

5 

0 

2011 2012 2013 2014 20152016+ 

2006 2007 2008 2009 2010 



8% 

7% 

6% 

5% 

4% 

3% 

2% 

1% 

0% 

Net sales EBITDA EBITDA margin (rhs 

USA 

4% 

Latin 

America 

4% 

Asia 

7% 

Eastern 

Europe 

2% 

Pacific 

7% 

Nordic 

23% 

2006 2007 2008 2009 2010 

Western 

Europe 

53% 

8,0x 

7,5x 

7,0x 

6,5x 

6,0x 

5,5x 

5,0x 

4,5x 

Net debt Equity Adj net debt/EBITDA


Therefore, uncertainties exist regarding the IPO prospects, including the timeline. In 

our view, this event was credit negative, as the IPO was an important step in the 

deleveraging process. On 7 April 2011, ISS released some preliminary results for Q1 

in a trading update, well ahead of the final interim report expected to be published on 

12 May. The numbers were strong, as both revenue and operating profit were up, but 

the financial outlook for 2011 remains unchanged. In our view, the information signal 

from the update is more important than the exact numbers. The update signals 

that ISS could be working on a second IPO attempt, as the update should help to keep 

investors focused on ISS. With the equity market (as of the release day) in a substantially 

better mood than during the period when the first IPO attempt was postponed, 

this could be interpreted as if a second attempt is coming closer (ISS could have 

chosen not to disclose the numbers now and instead waited until the Q1 report on 12 

May). Still, we also caution against over interpreting the update, and we believe that 

the timeline remains uncertain, and that that the postponement could still be for a 

longer period. 

What could be expected should ISS successfully launch an IPO? 

The key credit driver for ISS in 2011 is likely to be news on a potential second IPO 

attempt. If ISS pursues a second IPO attempt, we expect the structure to mirror the 

first one. Hence, we expect the company to target net debt to adjusted EBITDA of 

3.5x immediately after the IPO, compared with 6.0x as of end-10, as well as targeting 

a stable investment grade rating down the road. 

The first IPO attempt consisted of a sale of new shares to raise gross proceeds of 

approximately DKK13.3bn. Proceeds were proposed, together with DKK7.8bn 

drawn under a new five-year senior secured facility (conditional on an IPO taking 

place), to repay all amounts under the current senior secured facilities (DKK18.1bn 

end-2010) and the second-lien (DKK4.5bn end-2010). Hence, the EUR581.5m 

8.875% 2016 Senior Sub. Notes issued by ISS (previously ISS Holding), the 

EUR525m 11% 2014 Senior Notes issued by ISS Financing and the residual 

EUR110.4m 4.5% 2014 EMTNs issued by ISS Global were not expected to be immediately 

redeemed after the IPO. 

ISS’s intention was to adopt a dividend policy with an initial target payout ratio of 

35% of profit after tax. However, ISS also stated that the target could be raised once 

ISS had reached a stable investment grade rating. In our view, this could take place 

after achievement of net debt to EBITDA of 3x, i.e. after further deleveraging. We 

would expect ISS to call and refinance the 2014 notes issued by ISS Financing and 

the 2016 notes when reaching investment grade status. The new DKK12.3bn IPOcontingent 

credit facility is secured (necessary due to the documentation in the 2016 

notes), raising concerns of notching and high yield status of future bond issues. However, 

the security package backing the new facility is released upon refinancing of 

the 2016 notes, opening up for future bonds being pari passu with most debt in the 

capital structure (excluding the securitisation programme). Hence, in our view, future 

bond issues after an IPO are likely to have investment-grade status. 


Due to the combination of a strong performance on the back of, among other things, 

IPO/deleveraging expectations and the uncertainty regarding a second IPO attempt, 

we keep a SELL recommendation on both the ISS 2016 (around ASW to final maturity 

+466/454bp) and the ISS Financing 2014 (around ASW to final maturity 

+480/445bp). The reason behind this view is not, that the IPO is unlikely, but that the 

potential credit benefits from an IPO are, to a large extent, already priced into the 

bonds, and that we view the downside risk as being higher than the upside potential. 

Hence, we find the bonds unattractive from a risk/reward perspective. The 5y CDSs 

on both ISS and on ISS Global have also tightened materially, and we recommend 

buying protection on ISS Global (trading around 145/175bp). However, we take a 

neutral stance on the ISS CDS (trading around 160/175) due to orphanage risk. 

90 | 13 April 2011 



Financial data ISS 


Net Sales 55,772 63,922 68,829 69,004 74,073 

EBITDA 3,979 4,680 4,930 4,742 5,117 

EBIT 3,234 3,835 4,061 3,874 4,267 


Net profit -809 -442 -631 -1,629 -532 

FFO (1) 2,348 3,041 3,657 3,554 3,792 

Capex 843 715 718 897 886 

EBITDA-Capex 3,136 3,965 4,212 3,845 4,231 

OpFCF (2) 3,020 3,718 4,225 3,658 4,059 

FCF (3) -894 -90 1,595 1,059 1,084 

RCF (4) -51 625 2,313 1,956 1,970 

Net debt (5) 26,365 29,340 29,528 30,739 30,638 


Equity (incl minorities) 5,980 5,518 3,533 2,213 2,651 

Total capital (7) 34,620 37,439 36,022 36,316 36,895 

Ratios 

EBIT margin (%) 5.8% 6.0% 5.9% 5.6% 5.8% 



Adj net debt/EBITDA (x) 7.7x 7.2x 6.9x 7.4x 6.9x 

Adj FFO/Adj net debt (%) 7.4% 8.7% 10.4% 9.7% 10.3% 


(1) Funds from operations. (2) Cash flow from operating activities before net interest paid and taxes paid but less capex. (3) OpFCF less net interest paid, taxes paid, 

and dividends (4) Cash flow from operating activities after net interest paid, taxes paid, change in working capital, and less dividends (5) Total interest-bearing debt 

less cash and cash equivalents (6) Net debt adjusted for contingent liabilities (7) Equity plus unadjusted total debt. Source: Company data, Danske Fixed Income 

Credit Research. 

Quarterly review (DKKm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 17,870 17,574 18,619 18,584 19,296 

Clean EBIT margin 6.0% 4.6% 5.8% 6.4% 6.2% 

Clean EBITDA margin 7.2% 5.7% 6.9% 7.6% 7.4% 

Net income -667 -197 -112 -29 -194 

Net debt 30,739 31,485 32,019 31,842 30,638 

Adj net debt/LTM EBITDA 7.4x 7.5x 7.5x 7.3x 6.9x 

LTM Adj FFO/Adj net debt 9.72% 9.61% 9.16% 10.3% 10.0% 

LTM Adj FOCF/Adj net debt 2.36% 3.47% 2.18% 2.68% 2.46% 

Equity/Total assets 4.07% 4.20% 4.84% 4.46% 4.78% 


91 | 13 April 2011 



Metso 


Finland-based Metso Corporation holds market-leading positions in the manufacturing 

of pulp and paper machinery, rock and mineral processing equipment, and energy 

and environmental technology. Metso operates in sectors characterised by cyclical 

demand, price competition and limited end-user industry diversification. These factors 

are mitigated by substantial aftermarket services and a well-diversified geographical 

representation. Metso is a global player with operations in more than 50 

countries, serving customers in more than 100 countries. The company employs 

around 28,500 people and had revenues of EUR5.6bn in 2010. Its largest shareholder 

is Solidium Oy (wholly owned by the Finnish state) with 10.4% of the shares and 

votes. 


Leading market positions 

Metso enjoys market-leading positions in equipment for metals & mining as well as 

pulp & paper machinery. Mining and Construction Equipment (accounting for 40% 

of sales in 2010) holds world-leading positions in crushing, screening and minerals 

processing equipment. Paper and Fibre (33% of sales) holds market-leading positions 

in paper, board and pulp lines. Energy and Environmental Technology (26% of sales) 

has strong positions in metal recycling systems, waste management and automation. 

In general, Metso’s strong brand name, technical capabilities, access to distribution 

channels and presence of an extensive installed base create substantial barriers to 

entry. However, the company is exposed to price competition in its core business, 

limited end-user industry diversification and bleak medium-term demand prospects 

in mature Western European and North American paper markets. 

Cyclicality mitigated by aftermarket sales and geographical spread 

Operations in Metso’s core business areas exhibit significant cyclicality. However, a 

diversification gain is derived from demand being only partially correlated across the 

paper and mining industries, etc. To mitigate the high cyclical dependence on newbuilds, 

Metso has expanded its aftermarket services (spare parts and maintenance 

services), which accounted for 45% of group sales in 2010. Besides reducing overall 

volatility, this also lowers the capital intensiveness of the company and yields higher 

margins. The order intake, and with that the group sales, is geographically well diversified 

across Europe (36% in 2010), North America (15%), South & Central 

America (17%), Asia-Pacific (27%) and Africa & Middle East (5%). 

Study to evaluate structural options discontinued 

In late 2008, Metso discontinued a study to evaluate structural options due to the 

uncertain economic outlook. This is clearly positive for credit investors, as a potential 

break-up of the company would create significant risks regarding where bonds 

are placed, where the CDS would reference and how the entities would be capitalised. 

Furthermore, diversification benefits are now maintained, as cash flows from 

different business areas are only partially correlated and kept under one roof. However, 

in our view, a study to evaluate transforming structural options could resurface 

in the future. 

HOLD 


Corporate ticker: METSO 

Equity ticker: MEO1V FH 

Market cap: EUR6bn 

Ratings: 

S&P rating: BBB / S 

Moodys rating: Baa2 / S 


Analyst: 



+45 45128519 



+45 45148886 


Strengths: 

• World-leading market positions 

and barriers to entry 

• Attractive geographical diversification 

• Strong cash flow generation and 

debt reductions through crisis 


aftermarket services 

Challenges: 

• Cyclical demand 

• High operating leverage and capital 

intensiveness 

• Limited end-user diversification 

• Structural overcapacity in paper 

segment 


Significant deleveraging in 2009 and 2010 

Following increased debt levels in 2007 and 2008, Metso significantly deleveraged in 

2009 helped by strong free cash flow generation and a massive release of working 

capital. This trend continued in 2010, as net debt decreased by almost 50% to 

EUR310m end-2010 from EUR583m end-2009. S&P and Moody’s placed the outlook 

on the BBB/ Baa2 ratings on Stable (up from negative) in August and September 

2010. 

92 | 13 April 2011 



Liquidity 

In late 2010, Metso refinanced its old 5Y EUR500m facility, set to mature in late 

2011, with a new 5Y EUR500m committed credit facility. The facility was undrawn 

at the end of 2010. According to S&P, the new facility contains a capital structure 

covenant (undisclosed), but it only applies at lower rating levels, and it currently 

leaves ample headroom. Cash and cash equivalents amounted to EUR645m end- 

2010, and Metso generated EUR372m in FOCF in 2010. The liquidity position comfortably 

covers short-term debt of EUR417m, and we view it as solid. 


2010 was a strong full year and it also ended solid in Q4 

FY 2010 was characterised by higher sales in Mining & Construction (up 8% compared 

to FY 2009) and Paper & Fibre (up 32%), but lower sales in Energy & Environmental 

(down 6%, due to low order intake in 2009). However, about 7% of the 

overall increase in net sales of 11% arises from exchange rate effects. The EBITmargin 

increased significantly to 8.0% in 2010 from 5.9% in 2009, and the net income 

ended up 71% higher at EUR258m, compared to EUR151m in 2009. The FY 

2010 order intake was up by 36%, as most of Metso’s markets improved significantly. 

Metso reported Q4 10 net sales up 25% y/y to EUR1.7bn, which was in line with 

consensus expectations, while an improved net result of EUR76m came in slightly 

below expectations. The clean operating margin was sequentially unchanged at 7.8%, 

but improved on the 4.1% in the same period last year. Order growth sequentially 

slowed to 10% y/y and orders received amounted to EUR1.5bn. Emerging markets 

accounted for 52% of new orders compared with 46% in the same period last year, 

illustrating Metso’s attractive global footprint. End-2010, the order book stands at 

EUR4.0bn, which is 18% higher than end-2009. New orders surged 42% y/y in Mining 

and Construction (40% of 2010 sales), where Metso towards the end of the year 

saw an increase in quotations for bigger new capacity investments. We interpret this 

as a sign of increased risk appetite among Metso’s major customers. New orders 

decreased 11% y/y in Energy and Environmental Technology (26% of 2010 sales) on 

tough comparisons while order intake in Paper and Fibre (33%) decreased 4% y/y. 

Cash flow remained solid in Q4 and continued to benefit from strong working capital 

management. LTM FFO to adj. net debt improved to 53% (40% after Q3 10, 22% 

end-09), while LTM FOCF to adj. net debt was 42% (53% after Q3 10, 57% end-09). 

Adj. net debt to LTM EBITDA improved to 1.4x (1.6x after Q3 10, 2.6x end-09). 

Credit metrics have improved to a level commensurate with the rating 

Cash flow was once again solid in 2010, and FFO nearly doubled to EUR481m in 

2010 from EUR252m in 2009. However, adjusting for capex and changes in NWC, 

the FOCF actually dropped to EUR372m from an impressive EUR654m in 2009. The 

reason for the strong FOCF in 2009 was a release of NWC of EUR518m, compared 

to EUR25m in 2010. In our view, however, Metso actually showed strong NWC 

management in 2010, as it managed to release NWC in times of increasing sales. Due 

to the strong FOCF in 2009, Metso significantly deleveraged in 2009, and in 2010, 

this trend continued, as net debt decreased by almost 50% to EUR310m from 

EUR583m. 


EURm 


Profitability 

EURm 


Sales by segments 2010 



EURm 

450 

400 

350 

300 

250 

200 

150 

100 

50 

0 

7.000 

6.000 

5.000 

4.000 

3.000 

2.000 

1.000 

0 

2.500 

2.000 

1.500 

1.000 

500 

2011 2012 2013 2014 2015 2016+ 

2006 2007 2008 2009 2010 


Energy and 

Environmen 

tal 

26% 

0 

Paper and 

Fibre 

33% 

Others 

1% 

Mining and 

Constuction 

40% 

2006 2007 2008 2009 2010 



12% 

11% 

10% 

9% 

8% 

7% 

6% 

1,6 

1,4 

1,2 

1,0 

0,8 

0,6 

0,4 

0,2 

0,0 

S&P expects FFO/adj. net debt of 35% for the current BBB rating, and the realised 

number ended well above this threshold at 53% in 2010. After accounting for a suggested 

121% ordinary dividend increase to EUR232m and a 10-20% capex increase 

to around EUR155m in 2011, we expect metrics in 2011 to remain solid for the rating. 

S&P and Moody’s placed the outlook on the BBB/ Baa2 ratings on Stable (up 

from Negative) in August and September 2010. 

93 | 13 April 2011 



2009 was a difficult year but 2010 marked the turning point 

Metso faced tough market conditions in 2009, as its customers dramatically reduced 

capital spending levels. Net sales declined 22% to EUR5bn, and the EBIT margin 

declined to 5.9%, from 10% in the previous year. However, in 2010 net sales increased 

11%, and the EBIT margin was up above 2pp to 8%. Although sales and 

profitability are not back at 2008 levels yet, we expect 2011 to be a strong year in 

terms of sales and profitability, highlighted by the impressive 36% increase in order 

intake in 2010 compared to 2009. 

Metso expects 2011 sales to grow more than 10%, and it also expects an improvement 

in clean EBITA from the 8.8% and 8.0% in 2010 and 2009, respectively. Metso 

bases these estimates on, among other things, the order backlog of EUR4.0bn at the 

end of 2010, compared to EUR3.4bn at the end of 2009. The order backlog contains 

orders worth about EUR3.1bn for 2011. 

Following the strong rebound in 2010, we expect order intake to slow over the coming 

quarters, but to remain supported by Metso’s global geographical diversification. 

We expect FFO to continue the improving trend, also supported by significant cost 

reductions and higher capacity utilisation. In our view, some increase in net working 

capital and higher capex will weigh on FOCF and reduce the potential for further 

significant debt reductions. 

Study to evaluate structural options discontinued 

In August 2008, Metso announced that it had hired Goldman Sachs to assess valueenhancing 

opportunities, including structural options for the group. Speculation of a 

break-up of the company was therefore on the table again (a similar announcement 

was made in August 2005). In November 2008, Metso announced that the study to 

evaluate structural options had been discontinued due to the uncertain economic 

outlook. 

This is clearly positive for credit investors, as a potential break-up of the company 

would create significant risks regarding where bonds are placed, where the CDS 

would reference and how the entities would be capitalised. Furthermore, diversification 

benefits are maintained as cash flow from different business areas is only partially 

correlated and kept under one roof. A study to evaluate transforming structural 

options could resurface in the future, in our view. 


METSO’14 trades just above a curve of BBB industrials. Still, we do not find 

METSO’14 attractive at current levels due to the latent break-up risk of the company 

with potential significant adverse consequences for debt holders. We want a material 

risk premium for exposure to METSO’14 (around ASW +94/88bp) relative to 

equally-rated SANDVK’14 (around ASW +83/77bp) and better-rated ATCOA’14 

(around ASW +24/18bp) and recommend investors to HOLD METSO’14 (we prefer 

exposure to SANDVK’14). We have a negative view on the 5y CDS trading around 

103/113bp and recommend buying protection. 

Metso signed a 5Y EUR500m committed revolving credit facility in December 2010 

to replace an existing facility of equal size. While Metso’s liquidity profile is strong, 

we would not be surprised to see the company approach the primary bond market to 

opportunistically extend debt maturities. 

94 | 13 April 2011 



Financial data Metso 

Key figures (EURm) 2006 2007 2008 2009 2010 

Net Sales 4,955 6,250 6,400 5,016 5,552 

EBITDA 562 728 775 437 623 

EBIT 457 580 637 294 445 


Net profit 410 384 390 151 258 

FFO (1) 460 580 574 252 481 

Capex 131 159 255 116 134 

EBITDA-Capex 431 569 520 321 489 

RCF (2) 262 368 149 153 376 

FCF (3) 113 -77 -543 555 267 

Net debt (4) 454 540 1,099 583 310 

Adjusted net debt (5) 797 856 1,614 1,151 894 


Total debt 830 819 1,435 1,576 1,373 

Total capital (6) 2,304 2,434 2,888 3,368 3,444 

Ratios 

EBITDA margin (%) 11% 12% 12% 9% 11% 







Net debt/Equity (%) 31% 33% 76% 33% 15% 




securities. (5) Net debt adjusted contingent liabilities/contractual obligations as reported. (6) Equity and unadjusted total debt. Source: Company data, Danske Fixed 

Income Credit Research 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 1,353 1,170 1,370 1,325 1,687 

EBITDA 124 135 169 174 196 

EBITDA margin (%) 9% 12% 12% 13% 12% 

Net income 25 30 85 67 76 

Net debt 583 578 538 415 310 

Adjusted net debt 1,151 1,146 1,106 983 878 


Divisional quarterly overview (EURm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Mining and Construction Net sales 524 472 541 563 659 

EBIT margin 8% 8% 18% 13% 13% 

Energy and Environmental Net sales 419 332 334 312 457 

EBIT margin 7% 7% 7% 10% 9% 

Paper and Fibre Net sales 406 364 494 443 555 

EBIT margin -2% 3% 5% 7% 2% 


95 | 13 April 2011 



Sandvik 


Swedish Sandvik, founded in 1862, has market-leading positions in tooling systems 

for the metalworking industry, products for rock-excavation operations and speciality 

steel products. Generally cyclical demand is mitigated by global diversification of 

sales, increasing aftermarket sales, technological leadership, effective barriers to 

entry and economies of scale. The business is split between Tooling (29% of 2010 

sales), Mining & Construction (43% of sales), and Materials Technology (21% of 

sales). Sandvik also fully consolidates Seco Tools (7% of sales) due to its 61% ownership. 

The group has about 47,000 employees and representation in 130 countries. 

Sandvik has a diverse ownership structure. The largest shareholder is Industrivärden 

AB (12% of shares). 


High value-added products and technological leadership 

Sandvik’s global business concept revolves around developing, manufacturing and 

marketing products and services of key importance to customer productivity. Given 

technological leadership, economies of scale and access to distribution channels, 

barriers to entry are significant. Sandvik Tooling (together with Seco Tools) is the 

clear global market leader in tooling systems for the metalworking industry while 

Mining & Construction holds leading positions in equipment for drilling, excavation, 

demolition and transport of rock and minerals. Materials Technology holds worldleading 

positions in most of its niche markets supported by high value-added content. 

Cyclical demand mitigated by global diversification 

Operations in the three core business areas of Tooling, Mining & Construction and 

Materials Technology exhibit significant cyclicality. However, a diversification gain 

is derived from demand being only partially correlated across divisions. Demand for 

Sandvik’s products is broadly correlated with general industrial activity in segments 

such as automotive and general engineering as well as capital spending levels in the 

mining and construction industry. Strong geographical and good customer segment 

diversification balance cyclicality in demand. While M&A activity has been reduced 

recently, Sandvik carried out some 50 acquisitions in 1997 to 2007 adding around 

17,000 employees in line with the company’s strategy to strengthen and add new 

products and markets. In the same period, geographical diversification increased 

significantly. In 2010, 38% of sales were generated in Europe, 17% in NAFTA, 28% 

in Asia and Australia, 10% in Africa and Middle East, and 7% in South America. A 

large installed base partially reduces earnings volatility given an increasing share of 

relatively stable service and aftermarket sales. Demand and operating performance 

plunged in 2009 but strongly recovered throughout 2010. 

Credit metrics are rapidly improving and strong for BBB 

While having an A+ rating from S&P until May 2008, the company was most recently 

downgraded two notches to BBB (Stable) in March 2010. For the current 

rating, S&P expects FFO to adjusted net debt of 30-35% (45% end-2010, 2% end- 

2009) and FOCF to adjusted net debt of 10-15% (29% end-2010, 20% end-2009). 

Hence, credit metrics have improved to a level significantly exceeding expectations 

for the rating. Despite an increase in the proposed dividend for 2010, we expect a 

one-notch upgrade from S&P to BBB+ to be just around the corner. This is also 

supported by strong working capital management under recent quarters of sales and 

order growth. 

BUY 


Corporate ticker: SANDVK 

Equity ticker: SAND SS 


Ratings: 

S&P rating: BBB S 



Analyst: 



+45 45128519 



+45 45148886 


Strengths: 

• World-leading market positions 

• High value-added products and 

technological leadership 

• Strong customer segment and 

geographical diversification 


aftermarket services 

Challenges: 

• Cyclical demand 

• High operating leverage and capital 

intensiveness 

• High debt level heading into crisis 

• Sharp decline in credit metrics 

triggered multi notch rating downgrades 

during crisis 


96 | 13 April 2011 



Liquidity 

End-2010, cash and cash equivalents amounted to SEK4.8bn and the EUR500m 

committed credit facility maturing 2012 and the EUR1bn committed credit facility 

maturing 2013 were fully undrawn. According to S&P, both are free of financial 

covenants. This compares with SEK3.8bn in short-term debt. Sandvik generated 

SEK8.4bn in FCF in 2010. This is record high, and we could see this decline in 2011, 

although we expect it to remain satisfactory. Following a 5Y EUR600m Eurobond 

issue in February 2009, Sandvik redeemed SEK3.5bn of commercial paper, thus 

reducing its short-term debt exposure. Debt maturities in 2011 to 2013 are fairly 

limited and smooth. Of course, the two before mentioned committed credit facilities 

are to mature in 2012 and 2013, but we do not expect the refinancing to cause any 

difficulties. All in all, we believe Sandvik’s liquidity position is solid. 


Strong rebound in profit and new orders 

Being a relatively cyclical company, Sandvik benefitted from the continued increase 

in global industrial production during 2010, and it experienced increased demand in 

all products across all markets. Net sales increased by 15% to SEK82.7bn in 2010, 

compared to SEK71.9bn in 2009. Importantly, net profit turned back to positive 

territory and amounted to SEK6.9bn for 2010, compared to a loss of SEK2.6bn in 

2009. However, net profit is still some 20% behind pre-crises levels. 

Sandvik reported Q4 10 sales and net profit in line with consensus expectations and 

materially up from last year. Net sales increased 28% y/y to SEK23.3bn after 3% 

currency headwind while order intake surged 33% to SEK26.3bn (the highest order 

intake in a single quarter to date), resulting in a 114% book-to-build ratio. Strong 

demand from particularly mining, energy, automotive and aerospace industries continued 

during the quarter. Sandvik saw a pronounced increase in major project orders 

most of which related to material-handling systems. Combined with significant 2011 

capex budgets expected from large mining companies, we interpret a pick-up in 

major project orders towards end-2010 as a sign of increased risk appetite among 

Sandvik’s major customers. 

The clean operating margin improved to 13.4% from 2.2% in the same period last 

year and 12.5% in the previous quarter supported by higher volumes, higher capacity 

utilization, favourable product mix and a lower cost level. Net profit increased to 

SEK2.1bn from red numbers in the same period last year. Cash flow remained strong 

during Q4 10 where only a minor increase in working capital resulted in a ratio to 

sales of 22% (32% last year). This is below the target level of 25% for the first time. 

Reported net debt further declined to SEK23.2bn from SEK30.3bn end-2009. A 

pension-adjusted gearing ratio of 0.7x is below the company target of a maximum 1x, 

and an increase in the proposed dividend to SEK3.00/share (from SEK1.00/share last 

year) is expected and acceptable from a credit perspective. 

Credit metrics turned significantly around in 2010 all for the better 

Sandvik was dramatically affected by the global economic downturn in 2009, but this 

trend turned around in 2010 when Sandvik benefitted from the continued increase in 

global industrial production. Hence, credit metrics improved significantly, and we 

expect a one-notch upgrade from S&P to BBB+ to be just around the corner. 


SEKm 

14000 

12000 

10000 

8000 

6000 

4000 

2000 

0 


Profitability 

SEKm 



SEKm 

100.000 

90.000 

80.000 

70.000 

60.000 

50.000 

40.000 

30.000 

20.000 

10.000 

0 

45.000 

40.000 

35.000 

30.000 

25.000 

20.000 

15.000 

10.000 

5.000 

0 

2011 2012 2013 2014 2015+ 

2006 2007 2008 2009 2010 


2006 2007 2008 2009 2010 




25% 

20% 

15% 

10% 

5% 

0% 

Adj Net debt Equity Adj. net debt/EBITDA 

Materials 

Technology 

21% 

Seco Tools 

7% 

Tooling 

29% 

Mining and 

Construction 

43% 

12 

10 

8 

6 

4 

2 

0 

FFO to adjusted net debt improved to 45% end-2010, compared to 2% and 30% in 

2009 and 2008, respectively. Adjusted net debt to EBITDA improved to 1.9x end- 

2010, compared to 11.4x and 2.4x in 2009 and 2008. As the metrics show, 2009 was 

an extremely bad year for Sandvik, but after a strong 2010, credit metrics are back at 

levels that are stronger than the 2008-levels – and actually closer to 2007-levels. 

97 | 13 April 2011 



2009 was brutal but after 2010 Sandvik is back in line with targets 

Sandvik was dramatically affected by the global economic downturn in 2009 and 

significant adjustments to production and cost-reduction efforts were initiated. Net 

sales organically declined 29% in 2009 and the operating loss amounted to SEK1.4bn 

compared with an operating profit of SEK12.9bn in 2008. This was reflected in a 

significant underperformance on long-term financial targets in 2009. Sandvik operates 

with four long-term financial targets: 1) Organic growth of 8%, 2) Return on 

capital employed of 25%, 3) net debt/equity ratio between 0.7-1.0, and 4) payout 

ratio above 50% of earnings per share. In 2009, organic growth was -29%, return on 

capital employed was -1.3%, net debt/equity was 1.0, and the payout ratio was not 

meaningful given negative earnings. However, as mentioned above, Sandvik’s performance 

turned around in 2010, and as a consequence it met three out of the four 

financial long-term targets. The organic growth was 17%, return on capital employed 

was 17%, net debt/equity was 0.7, and the payout ratio was 54%. 

Although Sandvik underperformed on financial targets in 2009, an important – and 

credit positive – take away from the year was Sandvik’s ability to manage and control 

cash flows. Sandvik took strong measures to secure cash flow generation in 

2009. The rate of production was below invoiced sales with significant fixed cost 

under-absorption as a result. However, the credit-supportive focus on cash flow resulted 

in a substantial reduction in inventory and a SEK12bn release of working 

capital for the full year. Capex declined 35% to SEK4.6bn in 2009. As a result, 

Sandvik generated a very strong SEK7.2bn FOCF in 2009. 

Broad exposure toward cyclical industrials 

Importantly, Sandvik serves a broad range of customers in different industries and 

geographic regions. However, the cyclical construction, mining and automotive 

industries accounted for roughly 60% of sales in 2010. Operations in the three core 

business areas of Tooling, Mining & Construction and Materials Technology exhibit 

significant cyclicality. However, a diversification gain is derived from demand being 

only partially correlated across divisions. Demand for Sandvik’s products is broadly 

correlated with general industrial activity in segments such as automotive and general 

engineering as well as capital spending levels in the mining and construction industry. 

Strong geographical and good customer segment diversification balance cyclicality in 

demand. This diversification has been increased throughout the period 2000-2010, as 

Sandvik has acquired about 40 companies in 20 countries, thereby adding around 

SEK17bn in sales and more than 10,000 employees to the organisation. 


Sandvik should clearly trade within equally rated METSO 2014 (around ASW 

+94/88bp) but we require a spread premium relative to better-rated SKF 2013 

(around ASW +38/28bp) and ATCOA 2014 (around ASW +24/18bp). SANDVK 

2014 (around ASW +83/77bp) trades cheap compared to BBB+ general industrials, 

and we see further upside and find it attractive on a relative basis. Hence, we have a 

BUY recommendation on the name. There is currently no liquid CDS trading on 

Sandvik. 

98 | 13 April 2011 



Financial data Sandvik 


Net sales 72,289 86,338 92,654 71,937 82,654 

EBITDA (1) 15,112 17,550 16,354 3,227 15,178 

EBIT (1) 12,136 14,473 12,873 -1,314 11,140 

Net interest expenses 900 1,344 2,217 2,060 1,617 

Net profit 8,107 9,594 7,836 -2,596 6,943 

FFO (2) 11,439 12,415 11,435 645 12,701 

Capex 4,801 5,399 7,169 4,625 3,747 

EBITDA-capex 10,311 12,151 9,185 -1,398 11,431 

OpFCF (3) 7,032 4,878 7,568 10,032 11,341 

FCF (4) -164 -4,130 -2,609 3,241 7,214 

Net debt (5) 13,630 26,840 32,130 29,218 22,420 


Total capital 42,573 58,669 73,853 66,681 61,016 

Ratios 

EBITDA margin (%) 20.9% 20.3% 17.7% 4.5% 18.4% 

EBIT margin (%) 16.8% 16.8% 13.9% -1.8% 13.5% 

Capex/net revenues (%) 6.6% 6.3% 7.7% 6.4% 4.5% 

EBITDA/net interest expenses (x) 16.8x 13.1x 7.4x 1.6x 9.4x 

FFO/net debt (%) 83.9% 46.3% 35.6% 2.2% 56.7% 

FFO/adj net debt (%) 58.0% 36.5% 29.6% 1.8% 44.5% 



Net debt/total capital (%) 32% 46% 44% 44% 37% 

(1) Adjusted for non-recurring items and operating leases. (2) Net income after tax plus depreciation and amortization, deferred tax and other non cash items. 

Adjusted for operating leases. (3) CFO plus interest and taxes paid less capex. (4) OpFCF less interest paid, tax paid, and dividends. (5) Total interest-bearing debt 

less cash and equivalents. (6) Net debt adjusted for operating leases, postretirement liabilities and contingent liabilities. Source: Company data and Danske Markets 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 18,211 18,534 20,603 20,241 23,276 

EBIT 408 1,897 3,471 2,532 3,129 

EBIT margin (%) 2% 10% 17% 13% 13% 

Net income -103 1,122 2,075 1,560 2,094 

Net debt (reported) 30,342 29,078 28,922 24,909 23,200 


LTM FFO/adj net debt (%) 3% 10% 24% 36% 45% 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Tooling Sales 4,960 5,551 6,122 5,966 6,255 

EBIT margin -2% 15% 21% 16% 19% 

Mining & Construction Sales 8,042 7,588 8,375 8,676 10,543 

EBIT margin 5% 8% 15% 14% 14% 

Materials Technology Sales 3,976 4,019 4,618 4,170 4,896 

EBIT margin 3% 8% 15% 5% 7% 

Seco Tools Sales 1,225 1,367 1,479 1,420 1,572 

EBIT margin 10% 16% 21% 17% 20% 


99 | 13 April 2011 



Scania 


Sweden’s Scania is the fourth-largest heavy truck producer globally, focusing solely 

on the heavy segment (over 16 tonnes). Scania also operates in buses, industrial engines 

and marine engines and provides significant aftermarket and financial services. The 

industry is capital-intensive, competitive and highly-cyclical. Scania has marketleading 

profitability, driven by its superior operating efficiency and component 

commonality. Scania’s largest market is Europe with 41% of vehicles delivered in 

2010, followed by Latin America (32%), Asia (18%), Africa & Oceania (5%) and 

Eurasia (4%). Volkswagen took over tendered shares from Porsche in February 2009 

and now controls 46% of the capital and 71% of the voting rights in Scania. 


Sound geographical diversification in highly-cyclical heavy truck market 

Scania operates in highly-cyclical, capital-intensive and competitive industries and 

has large operations in heavy-duty trucks over 16 tonnes (accounting for 61% of 

2010 sales). This segment is generally considered to be more profitable but also more 

volatile than lighter truck segments. This is mitigated by sound geographical diversification 

(although diversification lags its peer, Volvo), critical mass that creates economics 

of scale, market-leading innovations and an up-to-date product line. Furthermore, 

an increasing proportion of aftermarket and financial services is creditpositive, 

as the former is characterised by lower risk and higher margins, while the 

latter has rating dependency. Hence, Scania has an incentive to preserve a conservative 

capital structure to facilitate attractive financing conditions for customers. 

The demand for heavy trucks is strongly correlated with the level of overall economic 

and industrial activity, and the introduction of new emission standards. While 

Scania’s reliance on Europe is significant, with 51% of sales in 2010, the contribution 

from Latin America, where Scania is the market leader, has been growing steadily 

since 2002 and accounted for 28% of sales in 2010, ahead of Asia with 12%. New 

order intake and deliveries contracted sharply on a global basis in the first half of 

2009 and Scania initiated substantial production cuts. Although emerging market 

demand has picked up, the European market is still rather subdued. 

Leading operational efficiency and solid balance sheet 

Scania has market-leading operational efficiency and synchronisation of engine platforms, 

which is credit-positive and driven by its continued focus on synergies across its 

truck, bus and coach production sites. It benefits from the highest level of component 

commonality in the sector and has increased the annualised number of vehicles produced 

per employee from 3 in 1990 to 6.6 in 2010. Furthermore, Scania is not exposed 

to the traditionally more volatile North American heavy truck market. In 2010, Scania’s 

operating margin was 16.3%, compared with Volvo’s 6.8%. 

Two truck brands under one roof? 

Following the merger between Porsche and Volkswagen, to be completed in 2011, the 

focus will be on Volkswagen’s strategy related to its 71% stake in Scania and 30% 

stake in MAN. A future collaboration or merger between Scania and MAN has already 

been announced. Currently, S&P operates under a framework where Scania is effectively 

a subsidiary of Volkswagen, thus having its rating capped at the level of Volkswagen. 

S&P also incorporates a one-notch uplift to Scania’s ‘BBB+’ stand-alone rating 

due to the Volkswagen ownership stake, after having made an implicit downgrade its 

stand-alone credit rating in March 2010. 

SELL 


Corporate ticker: SCANIA 

Equity ticker: SCVB SS 


Ratings: 

S&P rating: A- /NO 



Analyst: 



+45 45148886 



+45 45128519 


Strengths: 

• Leading market positions in 

Europe and Latin America. 

• Leading component commonality 

supports high profitability. 

• Sound geographical diversification 

of end-markets. 

• Solid proportion of stable aftermarket 

service business. 

Challenges: 

• High degree of cyclicality makes 

sales and earnings volatile. 

• High operational leverage and 

capital-intensive production. 

• Competitive bus markets with 

resulting price pressure. 

• Heavy exposure to subdued European 

market with overcapacity. 


100 | 13 April 2011 



Liquidity 

We see Scania’s liquidity as adequate. After 2010, the company had cash and equivalents 

of SEK9.6bn in its industrial operations. However, S&P estimates that a substantial 

SEK6.6bn is reserved to maintain operations. Scania also has two committed revolving 

credit facilities of EUR1bn each, maturing in 2012 and 2013, and two committed 

credit facilities in the domestic Swedish market of SEK9.0bn. At the end of 2010, 

Scania had access to a total of SEK26.9bn in unutilised committed credit facilities. 

According to S&P, the bank lines are not subject to financial covenants or rating triggers, 

although the revolving credit facilities contain a material adverse change clause. 

This compares with current interest-bearing liabilities of SEK12.4bn. However, the 

vast part of the current liabilities relate to the captive finance division (more than 

100% of total net debt is attributable to the Financial Services division, as the Vehicles 

and Services division holds a net cash position). The captive financing portfolio 

amortises in accordance with debt maturities and the portfolio only includes customer 

credit risk, while currency, interest rate and liquidity risk are fully matched. Hence, 

financial services only needs to obtain new financing related to new truck sales. 


Profitability boosted by adjustments of production 

In response to the downturn, Scania focused on selling off inventories that had accumulated 

due to order cancellations during H2 09. Since then, capacity utilisation has improved 

as Scania has supplied the roaring Brazilian market with components from its 

European production unit with idle capacity. This helped to boost profit margins, in 

combination with cost reductions and other adjustments of production. In fact, the 

operating margin for the Vehicles and Services division ended up at a record 18.3% in 

Q3 10, while the EBITDA-margin for the quarter was 21.6%. 

Subdued demand in Europe remains a chink in Scanias armour... 

The majority of Scania’s operations (51% of 2010 sales) are in Europe. These markets 

remain relatively subdued and demand is expected to pick up later than in North America 

and Asia due to overcapacity among hauliers in the European transport sector, depressed 

freight prices and a young truck fleet with low replacement demand. This also 

resulted in price erosion on new trucks, which affected earnings negatively for Scania 

in H1 10. Demand has improved recently, albeit from low levels. Northern Europe is 

recovering while Southern Europe remains weak. Scania has noted that this recovery is 

occurring slowly and freight prices have remained at a low level. 

...while Brazilian demand has boomed, fuelled by government subsidies 

On other hand, Scania has benefited from its geographical diversification as emerging 

markets, led by Latin America, have seen a recovery, with roaring demand in 

Brazil. This has been fuelled by government tax breaks and interest rate subsidies to 

stimulate demand. Although the subsidised financing has been extended to expire in 

March 2011, Latin American truck orders already began to decline in Q4 10 (down 

11% q/q and down 10% y/y). We suspect that Brazilian demand might have peaked 

and expect Latin American demand to decline from its current apex. 

Credit metrics are strong as Scania turns net cash 

Due to strong cash flow, the Vehicles and Services division turned net cash in H1 10. 

However, Scania has significant unfunded pension liabilities and we estimate adjusted 

net debt-to-equity to be around 0% at the end of 2010. Adjusted net debt to LTM 

EBITDA has improved from 1.8x in 2009 to 0.0x in 2010. S&P targets this metric to be 

‘comfortably below 1.0x’ for the ‘A-’ rating. Hence, Scania has comfortable headroom 

for the current rating. However, rating upside is constrained by the ownership influence 

of Volkswagen in spite of solid credit metrics. 

Consolidated debt maturities 


SEKbn 

16 

14 

12 

10 

8 

6 

4 

2 

0 


Profitability 

SEKbn 

100 

90 

80 

70 

60 

50 

40 

30 

20 

10 

0 

'11 '12 '13 '14 '15 '16+ 





SEKbn 

30 

25 

20 

15 

10 

5 

0 

-5 

2006 2007 2008 2009 2010 


20% 

18% 

16% 

14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 


Used vehicles 

6% 

Service 

21% 

Buses 

10% 

Engines 

2% 

2006 2007 2008 2009 2010 

Trucks 

61% 

2.0x 

1.6x 

1.2x 

0.8x 

0.4x 

0.0x 

-0.4x 

Adj net debt Equity Adj. net debt/EBITDA (rhs) 

101 | 13 April 2011 



Scania as independent operation and brand may be at risk 

Volkswagen took over tendered shares from Porsche in February 2009 and now has 

effective control of Scania with 46% of the capital and 71% of the voting rights. At 

the same time, VW has a 30% stake in MAN, which led a failed attempt to buy 

Scania years ago and now controls 17% of the voting base in Scania. 

Ownership structure 

Volkswagen 

30% votes 

30% capital 

In July 2010, Scania and MAN announced that they are conducting feasibility studies 

for collaboration on component commonality and supply purchasing. While this 

could provide synergies, there are also associated downside execution and integration 

risks to this. The strategic decision appears to have been made by Volkswagen, with 

MAN seeming more in concurrence relative to Scania. Furthermore, we cannot rule 

out that the collaboration could later develop into a merger, as Volkswagen would 

bundle the two truck brands within Volkswagen into a single division. In fact, during 

MAN’s annual press conference, the CEO stated that a merger would result in more 

synergies and savings, compared to a loose cooperation between the two companies. 

71% votes 

46% capital 

Scania 

MAN 

17% votes 

13% capital 


The truck operations have already been somewhat consolidated as MAN took over 

Volkswagen’s Brazilian truck and bus operations in December 2008. This makes sense 

as benefits of engine synchronisation and component commonality are significant. 

However, Volkswagen is likely to focus on the integration of Porsche, planned for 

2011, before turning its attention to a potential strategic merger between Scania and 

MAN. 

Credit rating is highly dependent on Volkswagen 

From S&P’s perspective, Scania has effectively become a subsidiary under Volkswagen’s 

control, because Volkswagen has enough voting power to influence both 

Scania’s business risk profile and financial risk profile. Scania’s autonomy is a major 

risk factor. Hence the ratings of the two companies are tightly linked and S&P has 

capped the rating of Scania at that of VW (‘A-’ negative outlook). 

The negative outlook on Scania is a direct reflection of Volkswagen’s situation and we 

continue to think it unlikely that the negative outlook will materialise in a downgrade. 

However, the capped rating also means that rating upside for Scania is limited unless 

the credit rating of Volkswagen is revised upwards. Furthermore, the Volkswagen 

ownership gives Scania a one-notch uplift from S&P from a ‘BBB+’ stand-alone rating. 


We have an overall SELL recommendation on Scania, with focus on a tight CDS. 

For cash exposure within the sector, we prefer Volvo’s 2014 bond (Z-spread of 

+81bp). We do not rule out Scania as a new issue candidate, which could mark an 

opportunity to turn positive on cash. 

Although Scania’s credit metrics are superior to Volvo’s (BUY recommendation), 

Scania is highly reliant on the European market while Volvo has a much broader 

geographical diversification. The market for trucks in Europe is characterised by a 

relatively young fleet, with low replacement demand. We see markets such as the North 

American and Asian ones to gain momentum earlier than the European market, which 

will benefit Volvo more than Scania. Furthermore, we see risks to Scania’s financial 

and business risk profiles stemming from the influence of Volkswagen, and integration 

risk from collaboration and a possible merger with MAN. 

CDS levels on Scania are rather tight at 62/67bp and we recommend buying 5Y 

protection (see list of prices at the end of this book). Furthermore, with a 36bp spread 

gap in 5Y CDS between Scania and Volvo, we recommend at pair trade of selling 5Y 

protection on Volvo (103bp) and buying 5Y protection on Scania (67bp). Before 

December 2008, the respective CDS traded in line. 

102 | 13 April 2011 



Financial data - Scania AB* 


Net Sales 70,738 84,486 88,977 62,074 78,168 

EBITDA 11,628 14,757 15,333 5,420 15,140 

EBIT - Industrial Operations 8,605 11,636 12,098 2,648 12,575 

EBIT - consolidated 9,098 12,168 12,512 2,473 12,746 


Net profit 5,939 8,554 8,890 1,129 9,103 

FFO (1) 9,267 12,317 12,362 4,092 13,593 

Capex (2) 3,810 4,545 5,386 3,149 2,809 

EBITDA-Capex 7,818 10,212 9,947 2,271 12,331 

OpFCF (3) 9,697 11,198 5,446 7,351 14,039 

FCF (4) 3,817 4,696 -2,627 4,215 10,684 

RCF 7,627 9,241 2,759 7,364 13,493 

Industrial net debt (5) -3,298 -1,777 6,993 3,104 -7,955 

Adj. Industrial net debt (6) 2,865 3,440 12,914 9,958 -969 


Total capital 29,543 23,436 28,778 29,089 27,702 

Ratios 2006 2007 2008 2009 2010 

EBIT margin (%) 12.2% 13.8% 13.6% 4.3% 16.1% 


EBITDA/Net int. expenses (x) 62.2x 69.0x 40.9x 7.5x 78.4x 

FFO/Adjusted net debt 323% 358% 96% 41% n.m. 

Adjusted net debt/EBITDA (x) 0.2x 0.2x 0.8x 1.8x -0.1x 

Net debt/Total capital (%) -11% -8% 24% 11% -29% 

*Note: Excluding Financial Services. (1) Net income from continuing operations plus depreciations, amortizations, deferred taxes, and other non-cash items. (2) 

Investments in tangible & intangible assets. (3) Cash flow from operating activities before net interest paid and taxes paid but less capex. (4) OpFCF less net interest 

paid, tax paid, and dividends. (5) Total interest-bearing debt less cash and marketable securities. (6) Net debt adjusted for operating leases, unfunded pension 

liabilities and contingent liabilities. Source: Company data, Danske Fixed Income Credit Research 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 18,360 16,503 20,602 18,558 22,505 

EBIT 1,524 2,140 3,453 3,337 3,645 

EBIT margin 8.3% 13.0% 16.8% 18.0% 16.2% 

Net income (consolidated) 822 1,224 2,372 2,307 3,000 

Net debt 3,603 1,533 -1,308 -3,105 -6,580 

Net debt/LTM EBITDA 0.7x 0.2x -0.1x -0.2x -0.4x 


Divisional quarterly overview 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Europe Trucks Ordered 5,436 6,452 7,197 6,095 9,432 

Trucks Delivered 5,197 4,285 5,679 5,375 7,976 

Eurasia Trucks Ordered 444 450 393 1,126 1,892 

Trucks Delivered 456 392 312 398 1,267 

Latin America Trucks Ordered 4,324 4,439 6,194 4,356 3,879 


Asia Trucks Ordered 1,415 2,651 3,968 1,810 3,866 


Africa & Oceania Trucks Ordered 693 633 1,193 674 636 

Trucks Delivered 606 534 787 757 840 


103 | 13 April 2011 



Securitas 


Based in Sweden, the security services company Securitas has expanded rapidly over 

the past 20 years with sales rising from SEK1.3bn in 1988 to SEK61bn in 2010. 

After moving into Europe during the 1990s, it acquired Pinkertons in the US in 1999. 

Despite its gradual consolidation, the industry is highly fragmented. Securitas is the 

market leader in the mature European and North American markets but holds only 

11% of the global market. In 2006 Securitas spun off Security Systems and Direct 

(home alarms), while Loomis (cash-handling) was listed in 2008, after several postponements. 

The remaining operations of Securitas focus on security services, benefiting 

from a widespread client base. The largest shareholders are Gustaf Douglas and 

Melker Schörling, long-term shareholders with combined control of 41.8% of the 

votes and 17.2% of the capital. 


Market leader in attractive industry 

Securitas is a market leader in the mature European and North American markets, while 

holding only 11% of the world market, having very low exposure to emerging markets. 

In recent years, emerging markets have enjoyed significantly higher growth rates than 

Europe and North America. Guarding markets in Europe and North America have 

reported historical growth of 4-6% annually and are relatively resilient to the sharp 

deterioration in the global economy. These markets are supported by a continuing 

outsourcing trend, a perception of rising crime rates and a focus on corporate crime and 

terrorism. The industry is characterised by price pressure, low entry barriers and strong 

competition. A well-diversified customer base, high client retention rates and long-term 

relationships support earnings visibility, while low and flexible capital expenditure 

encourage strong cash-flow generation. In our view, Securitas is a late-cyclical company. 

Spin-offs change business and financial risk profiles 

The announcement of a demerger in 2006 took the market by surprise, with a decision 

to spin off three divisions (security systems, alarms and cash-handling), with the proceeds 

payable to shareholders as dividends. The cash-handling division, Loomis, was 

listed in 2008. Although cash-handling operations carry a higher risk than the rest of the 

group’s services, what remains of Securitas after the three divestments has a weaker 

business risk profile, as diversification across business segments is reduced. The financial 

profile and credit metrics have strengthened following the divestment of Loomis, as 

it accounted for a relatively large proportion of operating leases and unfunded pension 

liabilities, while the loss of cash flow is limited. Furthermore, SEK2.4bn in group debt 

was transferred to Loomis at separation. 

Following the divestment, the group consists of Security Services North America, 

Security Services Europe and Mobile & Monitoring. Given ongoing price pressure 

and modest but stable profitability, Securitas targets increased specialisation and is 

attempting to climb the value chain by providing more technology, specialised guarding 

and customised solutions. 

Long record of opportunistic debt-funded acquisitions 

The fragmented nature of the security services market drives acquisitions in order to 

maintain and build positions. Securitas has a long history of debt-funded acquisitions, 

stretching its balance sheet. We expect this behaviour to remain a major part of Securitas’ 

growth strategy. In the longer term, we believe that improved credit metrics 

following the Loomis divestment will be diluted by acquisition activity in emerging 

markets, aimed at catching up with G4S, with its strong presence and globallyintegrated 

facility service companies (e.g. ISS) in those regions. 

BUY 


Commercial Services 

Corporate ticker: SECURI 

Equity ticker: SECUB SS 


Ratings: 

S&P rating: BBB+ /S 



Analyst: 



+45 45148886 



+45 45128519 


Strengths: 

• Leading global position in 

security services market. 

• Operates in market that is relatively 

recession-resilient. 

• Low operational leverage and flexible 

cost base. 

• Diverse customer base and geographical 

exposure. 

Challenges: 

• Competitive markets with low entry 

barriers and price pressure. 

• Fragmented markets drive 

growth acquisitions. 

• Limited rating upside from relatively 

strained financials. 


104 | 13 April 2011 



Liquidity 

We consider Securitas to have adequate liquidity. At the end of 2010, Securitas had 

SEK2.6bn in cash and equivalents. This compares with SEK2.3bn of debt maturing in 

2011 and no material maturities in 2012. Securitas also has SEK4.6bn available in 

unused committed credit lines. 

In January 2011, Securitas cancelled 91% of commitments under its USD1.1bn revolving 

credit facility (maturing in June 2012). This was instead replaced by a new multicurrency 

revolving credit facility of USD550m and EUR420m with maturity in January 

2016. According to S&P, the credit facilities do not include financial covenants or a 

material adverse change clause, although the interest margin moves in line with 

changes in the credit rating. 

In April 2009, Securitas raised EUR0.5bn in a 4y bond issue as part of its Euro Medium-Term 

Note programme, which was used to refinance existing drawing credit 

facilities. In September 2010 Securitas also issued two 4y Swedish krona floating rate 

bonds. This has lengthened Securitas’ previously from-end loaded debt maturity profile 

and diversified its funding, lowing the amount drawn under short-term facilities substantially. 

We consider the current maturity profile as benign with no material debt 

maturing before the 2013 Eurobond is to be redeemed. 


Late cyclicality leaves recovery upside 

Due to the flexible business model with low operational leverage, Securitas managed 

to maintain stable EBIT during the crisis despite lower sales. Since then, Securitas 

has seen a slow recovery with the Security Services North American division dragging 

somewhat behind. Due to the late-cyclical nature of Securitas’ end-markets, we 

expect the numbers to improve, going forward. This is underlined by recent improvements 

in the contract portfolio. 

New dividend policy with limited effect on discretionary cash flow 

At the end of 2010, Securitas announced a change in its dividend payout policy. 

Previously, Securitas forecast a free cash flow averaging 75-80% of income with a 

dividend payout corresponding to between 40% and 50% of free cash flow. This will 

be changed, going forward, to free cash flow averaging 80-85% of income with a 

dividend payout of about 50% of free cash flow. While this increases dividend payments, 

the increase in the free cash flow also implies lower capital expenditure 

and/or improved working capital, which should offset the dividend increase and 

support discretionary cash flow. 

Credit metrics are adequate but with limited headroom 

Overall, Securitas benefits from solid and stable cash-flow generation, but has a 

stretched balance sheet following a history of debt-funded acquisitions. The adjusted 

net debt to EBITDA ratio is currently 2.8x at the end of 2010. For the ‘BBB+’ rating, 

S&P expects a FOCF to adjusted net debt ratio exceeding 15% on average and FFO 

to adjusted net debt of about 30%. Following the divestment of Loomis, FOCF to 

adjusted net debt improved to about 17% in Q1 09 but weakened slightly since to a 

level of 16% in 2010. FFO to adjusted net debt was 30% in 2010. 

We expect headroom to remain stretched 

The fragmented nature of the security services market drives acquisitions in order to 

maintain and build positions. With a heavy bias toward North America and Europe, 

Securitas aims to increase its global presence. In the longer term, we expect improved 

credit metrics following the Loomis divestment to be diluted by acquisition 

activity in emerging markets in order for Securitas to catch up with G4S, with its 

strong presence, and globally integrated facility service companies (e.g. ISS) in those 

regions. 



SEKbn 

8.0 

7.0 

6.0 

5.0 

4.0 

3.0 

2.0 

1.0 

0.0 


Profitability 

SEKbn 

70 

60 

50 

40 

30 

20 

10 

0 



SS Europe 

51% 



SEKbn 

20 

15 

10 

5 

0 

< 1y >1y 

2006 2007 2008 2009 2010 


14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 


Mobile & 

Monitoring 

10% 

SS North 

America 

39% 

2006 2007 2008 2009 2010 

8.0x 

6.0x 

4.0x 

2.0x 

0.0x 

Adj. net debt Equity Adj. net debt/EBITDA (rhs) 

105 | 13 April 2011 



Although Securitas has a strong track record in successfully integrating acquisitions, 

acquisitions outside its home territory in Europe and North America have a higher 

integration risk. We therefore expect the company’s financial policy and appetite for 

expansionary investments to continue to weigh on credit in the long-term. 

Strategy launched in 2007 

Securitas’ current strategy was launched in August 2007 with the following three key 

elements: a higher degree of specialisation in the service offering; expansion of the 

Mobile & Monitoring division; and an increased global presence. In addition, Securitas’ 

financial objectives include an annual increase in EPS of 10% and a free cash flow 

to net debt ratio of at least 0.2x, compared with 0.24x in 2010 and 0.25x in 2009. 

Geographical expansion continues 

Securitas is currently present in 45 countries, but intends to continue to expand with a 

target of presence in 60 countries within three years. We expect focus to be on 

emerging markets in order to catch up with the presence of peers in these regions. 

Although this implies more acquisitions, we expect these to be bolt-on in nature. 

While current credit metrics are commensurate for the current ‘BBB+’ credit rating, 

headroom to pursue larger debt-funded acquisitions remains limited. 


We have an overall BUY recommendation on Securitas. The SECURI 2013 bond is 

trading at a wide level relative to the ‘BBB+’ credit rating, currently offered around 

ASW +60bp (see list of instrument prices at the end of this book). Securitas is a lowbeta 

company with solid cash flow and in our view the major spread driver is largescale 

M&A in both mature and new markets, which in turn restricts rating upside 

potential. In January 2011, Securitas refinanced its 2012 RCF with a new 2016 facility 

(equal to about EUR825m). This should support the SECURI 2013 bond price 

(EUR500m outstanding) as Securitas has virtually no debt maturing before this. 

Although Securitas underperformed relative to other Scandinavian corporates during 

H2 10, after the LBO of Tomkins in July 2010, the levels have now normalised. We 

continue to believe that LBO risk is fairly remote and note that SECURI 2013 bondholders 

have partial downside protection through a Change of Control provision. We 

have a neutral stance on the 5y CDS (trading around 80/90bp). 

106 | 13 April 2011 



Financial data Securitas 


Net Sales 60,523 62,905 55,248 62,667 61,340 

EBITDA 5,069 4,630 4,111 4,684 4,625 

EBITA 3,591 3,182 3,271 3,757 3,724 

EBIT (excl non-recurring items) 3,498 2,685 3,087 3,612 3,470 


Net profit 514 526 2,322 2,118 2,081 

FFO (1) 4,217 2,865 3,134 3,428 3,240 

Capex 1,512 1,575 977 951 902 

EBITDA-Capex 3,557 3,056 3,134 3,733 3,723 

OpFCF (3) 3,065 3,575 3,249 3,375 3,267 

FCF (4) 502 1,280 880 998 935 

RCF 2,014 2,855 1,857 1,949 1,837 

Net debt (5) 11,234 11,613 9,606 8,630 8,483 


Total capital 22,505 24,778 22,064 19,949 20,008 

Ratios 2006 2007 2008 2009 2010 

EBITA margin (%) 5.9% 5.1% 5.9% 6.0% 6.1% 





FFO/Adjusted net debt (%) 27.7% 18.5% 24.5% 26.2% 25.0% 


(1) Net income from continuing operations plus depreciation, amortization, deferred taxes and other non-cash items. (2) Investments in tangible & intangible assets. 

(3) Cash flow from operating activities before net interest paid and taxes paid but less capex. (4) OpFCF less net interest paid, tax paid and dividends. (5) Total 

interest-bearing debt less cash and marketable securities. (6) Net debt adjusted for operating leases, unfunded pension liabilities, other off-balance sheet items and 

securitisations. 

Source: Company data, Danske Fixed Income Credit Research. 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 15,233 14,871 15,424 15,327 15,718 

EBITA margin 7.0% 5.5% 5.6% 6.5% 6.7% 

Net income 610 450 470 575 585 

Net debt 8,630 8,042 9,939 9,005 8,483 


Net debt/Equity 97% 97% 98% 96% 97% 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

SS North Net sales 5,397 5,362 5,855 5,769 5,745 

America EBITA 361 289 350 357 384 

EBITA margin 6.7% 5.4% 6.0% 6.2% 6.7% 

SS Europe Net sales 7,862 7,530 7,515 7,443 7,796 

EBITA 548 394 381 431 498 

EBITA margin 7.0% 5.2% 5.1% 5.8% 6.4% 

Mobile and Net sales 1,541 1,488 1,486 1,505 1,530 

Monitoring EBITA 197 168 157 217 201 

EBITA margin 12.8% 11.3% 10.6% 14.4% 13.1% 


107 | 13 April 2011 



SKF 


SKF is the world’s leading bearing company. It ranks #1 in Europe, #2 in North America 

and #1 in Asia (excluding Japan). It was founded in 1907 and has led the bearing 

industry in innovation since then. The company has expanded into the service business 

and has refocused its offering to become a friction and motion control solutions provider. 

This has reduced earnings volatility and improved margins in an otherwise cyclical 

and competitive industry. SKF’s technical knowledge and capabilities are distributed 

across five technological platforms: Bearings & Units, Seals, Mechatronics, Services 

and Lubrication Systems. In all of these it has ambitions to become the preferred 

supplier. SKF has three divisions: Automotive, Industrial and Service, and has 40,200 

employees. Through Foundation Asset Management, the Wallenberg family controls 

29% of the votes and 12% of the capital. 


Leading position in tough market 

The bearing industry is mature and competitive and SKF is the world market leader 

with an approximate share of 18%. The industry is cyclical, capital-intensive and characterised 

by customers’ high bargaining power. SKF has added to its product portfolio 

to reduce its cyclical exposure, which is also somewhat mitigated by strong geographical 

diversification and a broad customer base. Almost a third of sales go to the automotive 

industry, with the remainder spread among a large number of industries. SKF’s 

competitive advantages stem from a widespread distribution network and technological 

leadership through continued investments in R&D. Furthermore, SKF leads the industry 

in rationalisations and over the past decade it has implemented a number of large 

efficiency and cost-saving programmes. While the company has increased its product 

portfolio, bearings and related services remain core with 85-90% of revenue and EBIT. 

Over recent years, SKF has expanded higher-margin aftermarket services to account for 

more than a third of sales in 2010. Given its relatively resilient nature, this is positive 

from a credit perspective. 

New long-term financial targets set in 2010 

A new set of long-term financial targets was announced in H2 10 after SKF was operating 

in line with all of its main financial targets from 2007. The EBIT margin target was 

increased to 15% (previously 12%), sales growth to 8% in local currencies (previously 

6-8%) and ROCE to 27% (previously 24%). The ordinary dividend should amount to 

around half of SKF’s average net profit over the business cycle. SKF’s strategy focuses 

on expanding its high value-added products and solutions and reducing its exposure to 

commodity-like operations through outsourcing and disposals. 

Credit metrics improving, but headroom limited 

Large shareholder distributions and increased debt levels during past years have 

absorbed material rating headroom and left credit metrics more sensitive to deteriorating 

market conditions, in our view. Within the current ‘A-’ rating, S&P expects 

that the gearing ratio will not significantly exceed 50%, which does not leave much 

headroom from the current level of 49%. Furthermore, S&P expects FFO to adjusted 

net debt and FOCF to adjusted net debt to be above 40% and 20%, respectively, over 

the cycle. At the end of 2010, these metrics were 39% and 22%. Adjusted net debtto-EBITDA 

was 1.5x after 2010 versus the S&P requirement of below 2.0x. Following 

the decision to resume the previously suspended share repurchase programme (up 

to 5% of the outstanding shares) in 2009, the dividend per share for 2010 was increased 

by 43% from last year. 

HOLD 


Corporate ticker: SKF 

Equity ticker: SKFB SS 


Ratings: 

S&P rating: A- /S 



Analyst: 



+45 45148886 



+45 45128519 


Strengths: 

• Leading global position in 

bearings industry. 

• Broad customer base and geographical 

diversification. 

• Substantial higher-margin and 

stable aftermarket sales. 

Challenges: 

• Exposure to cyclical and competitive, 

mature markets. 

• Weak credit metrics for 

current A- credit rating. 

• Customers bargaining power. 


108 | 13 April 2011 



Liquidity 

We view SKF’s liquidity position as solid. At the end of 2010, SKF had SEK2.4bn in 

cash and cash equivalents, although some of the cash is held by subsidiaries and is 

not easily accessible. S&P estimates a requirement of SEK1.0bn to maintain ongoing 

operations. In addition, SKF has committed credit facilities maturing in 2014 and 

2017 of EUR500m (SEK 4.5bn) and SEK3.0bn, respectively. The 2014 facility is 

now 80% utilised after the acquisition of Lincoln, while the 2017 facility remains 

unused. According to S&P, there are no financial covenants or material adverse 

change clauses in the facility. 

This compares with SEK1.0bn in short-term debt. During 2009 and 2010, SKF has 

redeemed much of its debt without new issuance. Although a new 2015 EUR100m 

bond was issued in Q2 10, we consider it likely that SKF will issue new bonds in 

order to rebalance and diversify its funding sources. 


Major acquisition is likely to trigger new bond issuance 

SKF acquired 100% of Lincoln Industrial (a leading lubrication systems company) 

on 28 December 2010 with a cash flow payment of SEK6.8bn and one-off charges of 

SEK100m during Q4 10. The acquisition was financed using existing cash (around 

46%) and credit facilities (around 54%). Hence the acquired business has been included 

in the year-end balance of SKF, while the income statement will not be affected 

before Q1 11. 

The Lincoln acquisition improves SKF’s business risk profile due to improved geographical 

sales and manufacturing diversification in North America and Asia within 

Lubrication Systems. Furthermore, SKF will gain increased exposure to the more 

stable lubrication tools and equipment aftermarket services. Since SKF used its 2014 

credit facility to finance a big part of the acquisition, we believe that SKF is likely to 

issue new bonds in order to refinance this funding. Furthermore, SKF has to finance 

DMTN bonds of SEK556m in April 2011, as well as dividend payments, working 

capital, etc. 

Operating profit reaches record high levels 

During 2010, SKF presented very strong profit as strong demand leads to increased 

manufacturing levels. In combination with cost reductions, this helped SKF to beat 

its record of profit and profit margins in both Q2 10 and Q3 10. SKF managed to 

maintain the record 14.9% operating margin in Q4 10 when adjusting for one-off 

charges of SEK100m. This also sparked SKF to declare a new set of financial targets. 

Credit metrics leave limited headroom under current rating 

While SKF has a history of strong cash flow, this also comes with large shareholder 

distributions and increased debt levels. Although Moody’s removed its negative 

outlook in October 2010, limited rating headroom leaves the company sensitive to 

event risk. 

During 2009, net debt increased with net debt-to-equity rising above the company’s 

target of 50%. Since then, leverage has come down below the target level, although 

headroom remains limited. Currently, the ratio is 49%. S&P also targets a net debtto-equity 

ratio of not significantly above 50% over the cycle for the current ‘A-’ 

rating. After 2010, FFO to adjusted net debt was 39%, which is just below the S&P 

requirement of 40% over the cycle. FOCF to adjusted net debt dropped to 22%, as 

working capital releases started to run down during 2010. 



SEKbn 

6.0 

5.0 

4.0 

3.0 

2.0 

1.0 

0.0 


Sales growth decomposition (y/y) 

35% 

25% 

15% 

5% 

-5% 

-15% 

-25% 

-35% 

2011 2012 2013 2014 2015 2016+ 

Q4 

Q3 

Q2 

Q1 

Q4 

Q3 

Q2 

Q1 

Q4 

Q3 

Q2 

Q1 

Q4 

Q3 

Q2 

Q1 

Q4 

Q3 

Q2 

Q1 

Q4 

Q3 

Q2 

Q1 

Q4 

Q3 

Q2 

Q1 

Q4 

Q3 

Q2 

Q1 

2003 2004 2005 2006 2007 2008 2009 2010 



Automotive 

30% 



SEKbn 

25 

20 

15 

10 

5 

0 

Service 

36% 

Other 

2% 


Industrial 

32% 

2006 2007 2008 2009 2010 

Volume 

Currency 

Price/mix 

Structure 

Net sales 

5.0x 

4.0x 

3.0x 

2.0x 

1.0x 

0.0x 


109 | 13 April 2011 



Broad industry exposure 

While SKF operates in a market characterised by several negative credit factors (i.e. 

cyclical, mature and competitive end-markets with strong bargaining power of customers 

and a high degree of capital intensity), these factors are mitigated by SKF’s 

position as a market leader and by diversification of sales. 

The diversification comes from both different end-markets (see chart below) and 

from different geographic regions. In 2010, 46% of net sales were generated in 

Europe, 27% in Asia/Pacific, 18% in North America, 6% in Latin America and 3% in 

Middle East/Africa. Although demand for SKF’s products and services largely follows 

general economic activity, demand is not perfectly correlated across endmarkets. 

This, combined with the large service business, creates an important cushion 

against extremely adverse demand scenarios and stabilises profitability at group 

level to some extent. 

Profitability 

SEKbn 

60 

18% 

50 

15% 

40 

12% 

30 

9% 

20 

6% 

10 

3% 

0 

0% 

2006 2007 2008 2009 2010 



Net sales by end-market customer segment, 2010 

Cars & light trucks, 14% 

Industrial distribution, 

25% 

General industry, 13% 

Two wheelers & electrical, 

Off-highway, 3% 

3% 

Railway, 4% 

Aerospace, 5% 

Heavy industry, 7% 

Trucks, 4% 

Energy, 5% 

Special equipment, 5% 

Vehicle service, 12% 



We have an overall HOLD recommendation on SKF. Existing bonds are fairly illiquid 

and well placed among buy-and-hold investors. We advise new investors to wait 

for potential new bond issuance in relation to a refinancing after the Lincoln Industrial 

acquisition. 

The 2013 bond is currently offered at an ASW level of around 28 basis points (see 

list of prices at the end of this book). This valuation seems in line with the current 

‘A-’ rating. SKF has also issued a new 2015 bond but due to the small size it is very 

illiquid. Hence, we have a neutral stance on the cash bonds. 

The 5y CDS is trading around 30bp tighter than iTraxx Europe. In our view, this 

level is too tight. Given limited headroom under the current rating and the potential 

for refinancing with new bond issuance, we recommend buying 5y protection on 

SKF (65bp) against iTraxx Europe (94bp). 

110 | 13 April 2011 



Financial data SKF 


Net Sales 53,101 58,559 63,361 56,227 61,029 

EBITDA (1) 8,153 9,315 9,659 5,374 10,444 

EBIT (1) 6,319 7,539 7,710 3,203 8,452 


Net profit 4,432 4,767 4,741 1,705 5,296 

FFO (2) 5,598 6,752 5,895 4,925 6,767 

Capex 2,011 1,907 2,531 1,975 1,651 

EBITDA-Capex 6,142 7,408 7,128 3,399 8,793 

OpFCF (3) 5,291 6,106 4,800 7,770 5,979 

FCF (4) 1,148 -3,638 -3,459 4,397 2,278 

RCF 3,159 -1,731 -928 6,372 3,929 

Net debt (5) 3,854 8,808 9,078 5,265 9,029 


Total capital 32,391 31,438 34,306 29,285 32,069 

Ratios 2006 2007 2008 2009 2010 

EBIT margin 11.9% 12.9% 12.2% 5.7% 13.8% 

Capex/net revenues 3.8% 3.3% 4.0% 3.5% 2.7% 

EBITDA/Net interest expenses 28.1x 42.3x 19.2x 24.4x 53.0x 

Net debt/EBITDA 0.5x 0.9x 0.9x 1.0x 0.9x 

Adjusted net debt/EBITDA 0.6x 1.1x 1.6x 2.6x 1.7x 

Net debt/Total capital 12% 28% 26% 18% 28% 

(1) Adjusted for non-recurring items. (2) Net income after tax plus depreciation and amortization, deferred tax and other non cash items. (3) CFO plus interest and 

taxes paid less capex. (4) OpFCF less interest paid, tax paid, and dividends. (5) Total interest-bearing debt (incl. pension provision) less cash and marketable 

securities. (6) Net debt adjusted for operating leases and contingent liabilities. Source: Company data, Danske Fixed Income Credit Research. 


Quarterly review (SEKm) Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 13,887 14,446 15,709 15,465 15,409 

EBIT 1,004 1,702 2,239 2,309 2,202 

EBIT margin 7.2% 11.8% 14.3% 14.9% 14.3% 

Net income 505 1,070 1,451 1,425 1,350 

Adjusted net debt 13,374 13,571 14,685 12,285 17,233 

Adj. net debt/LTM EBITDA 2.0x 1.8x 1.7x 1.3x 1.5x 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Industrial Sales 4,448 4,695 4,873 4,952 4,904 

EBIT 238 713 909 974 902 

EBIT margin 5.4% 15.2% 18.7% 19.7% 18.4% 

Service Sales 5,069 5,093 5,635 5,637 5,664 

EBIT 739 647 745 803 841 

EBIT margin 14.6% 12.7% 13.2% 14.2% 14.8% 

Automotive Sales 4,110 5,230 4,850 4,528 4,491 

EBIT 83 374 570 470 445 

EBIT margin 2.0% 7.2% 11.8% 10.4% 9.9% 


111 | 13 April 2011 



Stena AB 


Stena AB is a Swedish holding company with diversified operations, mainly within 

industrial sectors (passenger and freight ferry services, shipping, offshore drilling, real 

estate investments, venture capital investments and financial investments). The group is 

organised in five divisions: Ferry operations, Drilling, Shipping, Property and Adactum 

(investments). The group has offices and operations in Europe, North America, 

South America, Asia, Australia and Africa, and employs a total of 10,236 staff (of 

which 45% are based in Sweden and 55% are based at international subsidiaries). The 

Stena AB group is privately owned by the Sten A. Olsson family, which has 100% 

ownership. We consider the family as long-term, stable owners with a history that dates 

back to 1939. 


Favourable operational diversification 

Stena’s exposure to capital-intensive, cyclical industries is mitigated by its favourable 

operational diversification. Besides the company’s offshore drilling and diversified 

shipping operations (ferries, freight transportation, and crude oil transportation), 

Stena is exposed to low-risk real estate investments, which have stable and predictable 

cash flows. Through Adactum, Stena also invests in venture companies that 

have potential to become new business areas. Furthermore, Stena maintains a financial 

investment portfolio of equity and debt securities as well as other short-term 

investments. 

Stena is also well diversified geographically. In 2009, 42% of sales were derived from 

Scandinavia, 28% from the rest of Europe and 12% from the rest of the world. 11% of 

revenue is from shipping operations and is therefore non-geographic. 

Corporate structure and non-recourse debt 

Because of the holding structure, senior debt issued by Stena AB is structurally subordinated. 

Furthermore, most of the debt in the real estate division is secured debt. For the 

purpose of the indenture governing senior bonds, the real estate and investment subsidiaries 

are designed as unrestricted subsidiaries (with no debt limitations). As a result, 

any new debt taken on by unrestricted subsidiaries must be non-recourse to Stena AB 

and its restricted subsidiaries. Both the unrestricted divisions are financed through 

equity contributions with all current debt also being non-recourse. 

Stena AB - Corporate structure 

Restricted Group 

Ferry operations (Stena Line) 

Stena AB 

Unrestricted Group 

Investments (Stena Adactum) 

BUY 

Sector: General industrials; 

Diversified conglomerates 

Corporate ticker: STENA 

Equity ticker: 1081Z SS 

Market cap: N/A 

Ratings: 

S&P rating: BB+ /S 

Moodys rating: Ba2 /S 


Analyst: 



+45 45148886 



+45 45128519 


Strengths: 

• Diversified conglomerate with 

stable ownership. 

• Market leader in the majority of 

operational segments. 

• Exposure to stable and highly profitable 

real estate portfolio. 

• Good contract coverage in 

Drilling and RoRo segments. 

Challenges: 

• Aggressive growth strategy and 

investment policies. 

• High financial leverage and negative 

free operating cash flow. 

• Exposure to capital-intensive industrial 

segments. 

• Weak industry fundamentals in 

shipping and ferry operations. 


Offshore drilling (Stena Drilling) 

Shipping (Stena Bulk, Stena 

RoRo, Stena Rederi, Stena 

Teknik and Northern Marine 

Management) 

Property/real estate (Stena 

Fastigheter and Stena Realty) 


112 | 13 April 2011 



Liquidity 

We view Stena as having adequate liquidity. After Q3 10, the company had 

SEK1.9bn in cash and cash equivalents, short-term investments of SEK4.0bn and 

SEK3.0bn in marketable securities. S&P estimates that about SEK1bn in cash is 

needed for ongoing operations and working capital fluctuations. Stena also has two 

committed credit facilities (a USD1.00bn revolving credit facility maturing in 2013 

and a USD0.2bn revolving credit facility maturing in 2012) with combined headroom 

of SEK0.4bn. Furthermore, in September 2010 Stena entered into a seven-year revolving 

credit facility of SEK6.6bn with a guarantee provided by the Swedish Export 

Association (which was unutilised as of 30 September 2010). 

This compares with short-term debt of SEK2.0bn and a very strong debt maturity profile. 

Stena also has committed capital expenditure of approximately SEK5.5bn for fleet 

under construction for the next 12 months and a dividend payment that we expect to be 

somewhat above SEK0.2bn. While Stena is also likely to carry out investments in real 

estate and venture companies (with a focus on oil, offshore and renewable energy 

sources), we note that the group divested properties for a gain of SEK10.0bn in the first 

nine months of 2010 and sees limited growth in the real estate segments. 

In March 2010, Stena issued a new 10-year bond of EUR200m and redeemed the 

outstanding 2013 bonds. In general, Stena has good access to capital markets and 

benefits from a good funding diversification of bank debt and capital market debt. 


Diversification mitigates earnings volatility 

Although Stena has leading market positions in Europe, it is affected by the weak 

industry conditions and high competition in its ferry and shipping operations. That 

said, Stena was able to maintain relatively strong earnings during the economic 

downturn, despite cyclical exposure, and stable profit margins, despite being exposed 

to high operational and financial leverage. 

However, Stena is not out of the woods yet. During the first nine months of 2010, 

revenue from the Shipping division declined by 17% y/y (mainly due to lower spot 

freight rates and adverse currency fluctuations) and revenue from the Ferry operations 

declined 6% y/y (mainly due to lower freight volumes, passengers and cars). 

This was mitigated by the Drilling division, whose revenue increased 12% y/y in Q3 

10, and the Property division, whose revenue increased 8% y/y in the same period. The 

Drilling division benefits from strong utilisation rates (98% over the past five years) 

and good contract coverage. The Property division benefits from a good tenant base 

(with good contract coverage) and strong asset quality (reflected by 99% occupancy 

for residential properties and 90% for commercial properties). 

Financial flexibility - but no deleveraging ahead 

Stena has an ambitious growth strategy and, as a consequence, high capital expenditure 

(30-40% of sales) in capital-intensive segments has resulted in negative FOCF. Hence, 

on 26 October 2010, Moody’s downgraded Stena’s corporate family rating from ‘Ba1’ 

to ‘Ba2’, but changed the outlook from negative to stable (Moody’s rates senior unsecured 

bonds one notch below this rating). 

However, this is mitigated by the company’s ability to divest assets (real estate properties, 

company ownership and financial investments) and the very modest dividend 

distributions, as most earnings are reinvested in the company. Nonetheless, we believe 

that rating upside is limited from the current ‘BB+’/‘Ba2’ levels as Stena is not likely to 

cut back on capital expenditure in order to deleverage its balance sheet. 



SEKbn 

25 

20 

15 

10 

5 

0 


Profitability 

SEKbn 

30 

25 

20 

15 

10 

5 

0 

2010 2011 2012-2015 2016+ 


Sales by segments, LTM Q3 10 



SEKbn 

60 

50 

40 

30 

20 

10 

0 

2005 2006 2007 2008 2009 


35% 

30% 

25% 

20% 

15% 

10% 

5% 

0% 


Property 

9% 

Shipping 

10% 

Adactum 

18% 

Ferry operations 

34% 

Drilling 

29% 

2005 2006 2007 2008 2009 

8.0x 

7.0x 

6.0x 

5.0x 

4.0x 

3.0x 

2.0x 

1.0x 

0.0x 


113 | 13 April 2011 




We initiate coverage of Stena AB with a BUY recommendation as we see Stena as a 

quality high-yield name with attractive valuation relative to the credit ratings. S&P 

assigns the senior unsecured debt a ‘BB+’ credit rating, in line with the corporate 

rating, while Moody assigns a ‘Ba3’ senior unsecured rating (ie, one notch below the 

Moody’s corporate family rating). Although the Stena group is highly leveraged with 

large capital expenditure, we believe the positive diversification mitigates the financial 

risk to a certain extent. 

The cash curve is rather flat, and we prefer the 2017 bond (offered at Z-spread 

+357bp) relative to the 2019 and 2020 bonds (offered at Z-spread +382bp and 

+415bp, respectively). The 2017 bond is also trading with a positive basis of 137bp, 

whereas the 2019 and 2020 bonds are trading at a slightly lower positive basis of 

137bp and 113bp, respectively. 

The indentures governing all senior bonds require Stena AB to make an offer to 

purchase all notes outstanding at 101% of par plus accrued interest if shareholders 

ultimately controlled by the Olsson family do not directly or indirectly beneficially 

own or control at least 50% of the voting equity in Stena AB (Change of control). All 

of the Eurobonds are trading below this strike price. Furthermore, all of the bonds 

have a make-whole provision, callable at any time. 

The Stena AB 5y CDS is trading at a wide level (455/485bp) and we recommend 

selling protection against iTraxx main (see list of prices at the end of this book). 

114 | 13 April 2011 



Financial data Stena AB 


Net sales 19,619 22,895 21,655 26,394 27,934 

EBITDA 5,127 7,221 6,140 6,873 7,417 

EBIT 2,393 4,587 4,460 4,372 4,002 

Net interest expenses -69 -143 -1 2,994 1,658 

Net profit 2,289 4,362 3,829 1,745 2,364 

FFO 2,742 3,311 3,529 5,788 5,962 

EBITDA - Capex -25 -927 -2,175 -2,769 -1,752 

FOCF -2,410 -4,837 -4,786 -3,854 -3,207 

RCF 2,547 3,096 2,979 5,398 5,772 

Net debt (incl. pensions) 24,124 16,568 18,983 42,370 39,467 



Total capital 47,417 50,441 66,152 80,895 77,727 

Ratios 2005 2006 2007 2008 2009 

EBIT margin 12% 20% 21% 17% 14% 

Capex/sales 26% 36% 38% 37% 33% 

EBITDA/net interest expenses -74.3x -50.5x -6140.0x 2.3x 4.5x 



Adjusted net debt/total capital 72% 67% 63% 65% 61% 



Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 

Sales 7,450 6,462 5,739 7,102 7,367 

EBIT 1,555 735 390 1,325 1,437 

EBIT margin 21% 11% 7% 19% 20% 

Net income 1,198 194 40 676 1,151 




Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 

Ferry operations Sales 3,307 1,942 1,651 2,462 3,061 

EBIT 830 -248 -303 142 544 

EBIT-margin 25% -13% -18% 6% 18% 

Drilling Sales 1,851 1,965 1,838 1,938 2,070 

EBIT 747 777 564 671 632 

EBIT-margin 40% 40% 31% 35% 31% 

Shipping Sales 703 699 627 733 619 

EBIT -286 -203 -66 -37 -147 

EBIT-margin -41% -29% -11% -5% -24% 

Property Sales 555 640 598 594 600 

EBIT 318 415 308 506 514 

EBIT-margin 57% 65% 52% 85% 86% 

Adactum Sales 1,034 1,215 1,025 1,370 1,016 

EBIT 29 55 -29 121 33 

EBIT-margin 3% 5% -3% 9% 3% 


115 | 13 April 2011 



Swedish Match 


Swedish Match is a global leader in smokefree tobacco products and one of the largest 

cigar companies in the world. The company operates in three main product areas: 

Snus and Snuff (smokefree tobacco), Other tobacco products (mass market cigars 

and chewing tobacco) and Lights (matches and lighters). Swedish Match sells its 

products across the globe and has production in Brazil, Bulgaria, the Dominican 

Republic, the Netherlands, the Philippines, Sweden and the United States. The company 

employs a total of approximately 3,900 people (excluding 6,500 people transferred 

to the new subsidiary Scandinavian Tobacco Group). The ownership structure 

is quite fragmented with the largest shareholders being Parvus Asset Management 

(6.6% of votes) and Morgan Stanley Investment management (6.1% of votes). 


Highly profitable and growing snus and snuff market 

Swedish Match benefits from a strong and stable cash flow. All of its divisions are 

very profitable, led by the Snus and snuff division (40% of 2010 sales). Besides 

being highly profitable, the snus market is also growing – unlike the declining cigarette 

market. The growth is primarily attributable to cigarette smokers looking for a 

healthier substitute through smokefree products. Swedish Match also enjoys considerable 

market shares in the two largest markets for snus and moist snuff with approximately 

86% of the Swedish market (leading position) and 12% of the US market 

(top 3 position). 

Regulatory setting increases geographical concentration 

Tobacco for oral use (except tobacco for smoking or chewing) has been banned 

within the European Union since 1992. This means that sales of snus is prohibited. 

However, Sweden was granted a permanent exemption from the ban, when the country 

joined the European Union in 1995. As a result, Sweden and Norway (which is 

not part of the European Union) are two of the largest markets for Swedish Match, 

besides the US. This increases concentration and limits geographical diversification. 

The Swedish government and the Swedish parliament oppose the ban on grounds that 

the ban is disproportionate and discriminatory. Furthermore, a new Tobacco Products 

Directive is expected at the end of 2011 as the Commission is currently reviewing it. 

Geographical expansion strategy with joint venture 

In 2009, Swedish Match established a 50/50 joint venture with Philip Morris International, 

named SMPM International. This joint venture seeks to explore global growth 

opportunities in smokeless products and snus outside Scandinavia and the US. Since its 

inception, the joint venture has begun tests and small launches of snus products in both 

Taiwan and Canada. From a credit perspective, this could improve geographical diversification 

of sales and hence the business risk profile of Swedish Match. 

Shareholder friendly financial policies 

Swedish Match has historically been very shareholder friendly with shareholder 

distributions through dividend payments and share buybacks. The company has a 

financial policy of paying 40-60% of earnings in dividends (subject to adjustments 

for larger one-off items). Furthermore, the company has a mandate of performing 

share repurchases for up to 10% of own shares. In addition, Swedish Match has a 

policy that the reported net debt/EBITA (clean) should not exceed 3x. This figure 

was at 2.2x for 2010. While the aggressive financial policy limits any upside rating 

potential, Swedish Match does have a policy of maintaining an investment grade 

rating and is able to scale back on share buybacks if needed. 

SELL 

Sector: Consumer staples; 

Tobacco 

Corporate ticker: SWEMAT 

Equity ticker: SWMA SS 


Ratings: 

S&P rating: BBB /S 



Analyst: 



+45 45148886 



+45 45128519 


Strengths: 

• Highly profitable operations in 

smokefree tobacco and cigars. 

• Stable and strong cash generation 

with low capital expenditures. 

• Solid market positions in Scandinavia 

and the US. 

• Strong liquidity with limited 

debt maturities. 

Challenges: 

• Limited geographical diversification 

of sales. 

• Shareholder friendly financial policies 

and track-record. 

• Regulated markets with 

risks of rising taxation. 

• LBO risk from fragmented ownership 

profile. 


116 | 13 April 2011 



Liquidity 

We view Swedish Match as having a strong liquidity profile. On top of a stable and 

strong cash flow, the company had liquid funds of SEK3.3bn at the end of 2010. 

Although liquidity is held de-centrally, it is readily available for debt reductions. 

Swedish Match also has an unused EUR160m (SEK1.4bn) committed revolving 

credit facility that will mature in January 2013. According to S&P, the company’s 

debt facilities have no financial covenants. 

This compares with very modest debt maturities in 2011 of SEK0.5bn and a strong 

back-end loaded debt maturity profile. During Q3 10, the company extended its debt 

maturities by issuing new bonds and repaying old bonds. However, in spite of low 

capital expenditure levels, Swedish Match has a track record of constrained discretionary 

cash flow as the total debt servicing (dividends and share buybacks) tends to 

be in the range of SEK3.0bn to 4.0bn. 


Majority of cigar and pipe tobacco operations seceded 

In October 2010 Swedish Match effectively completed its transaction with Scandinavian 

Tobacco Group, thereby creating a new Scandinavian Tobacco Group (STG). The 

new combined company is the largest manufacturer of cigars in the world and the leading 

pipe tobacco company. 

In the transaction, Swedish Match transferred all of its cigar and pipe tobacco business 

(except for US mass market cigars and the minority stake in the German cigar company, 

Arnold André). Scandinavian Tobacco Group transferred all of its tobacco business 

(cigars, pipe tobacco, and fine cut tobacco) into the new company. The new Scandinavian 

Tobacco Group has sales in 16 countries and production in eight. 

Swedish Match AB holds 49% of the shares and Skandinavisk Holding A/S holds the 

remaining 51%. Swedish Match has been compensated EUR30m to account for the 

shareholder disparity and relative differences in enterprise values. 

Credit metrics boosted by one-offs, may come under pressure in 2011 

During Q4 10, earnings were positively affected by a number of larger one-off items. 

This includes a gain from pension settlements of SEK59m due to transfer of pension 

obligations, a capital gain of SEK585m (with no cash effect) due to revaluation of the 

Swedish Match assets transferred to the new Scandinavian Tobacco Group. Swedish 

Match also received SEK1,560m of loan repayments from STG (including the 

EUR30m compensation for ownership differences). 

These one-off items helped to boost earnings and credit metrics. However, we expect 

metrics to come under more under pressure going forward, while the restructuring 

process is in effect until STG starts to pay dividends to its owners. Swedish Match’s 

share of the Q4 10 net loss (mainly stemming from restructuring charges and transactions 

costs of EUR175m) in Scandinavian Tobacco Group amounted to EUR60m. 

Synergy effects are expected to be above EUR25m and should become visible in H1 

11. Final purchase price adjustments are also expected to be settled in H1 11. 

Outlook for 2011 

Swedish Match continues its growth strategy in 2011 and will increase investments 

in Swedish snus in new markets (the US and other markets via SWPM International). 

Swedish Match expects the snus and snuff markets to continue to grow in both Scandinavia 

and the US. On the other hand, the company expects the declining trend of 

chewing tobacco to continue, while US mass market cigars are expected to continue 

positive momentum. Furthermore, Swedish Match intends to continue to distribute 

excess cash to shareholders in 2011. 



SEKbn 

3.5 

3.0 

2.5 

2.0 

1.5 

1.0 

0.5 

0.0 


Profitability 

SEKbn 

20 

15 

10 

5 

0 

2011 2012 2013 2014 2015 2016+ 

2006 2007 2008 2009 2010 






40% 

30% 

20% 

10% 

0% 


Other operations, 25% 

SEKbn 

10.0 

8.0 

6.0 

4.0 

2.0 

0.0 

-2.0 

Lights, 13% 

Other tobacco products, 22% 

2006 2007 2008 2009 2010 

Snus and snuff, 40% 

5.0x 

4.0x 

3.0x 

2.0x 

1.0x 

0.0x 

-1.0x 


117 | 13 April 2011 




We initiate coverage of Swedish Match with a SELL recommendation. Although the 

company benefits from stable and very strong cash flow with high margins, this is 

mitigated by generous shareholder remuneration which constrains discretionary cash 

flow. Swedish Match has also benefitted from one-off earnings (i.e. disposal proceeds) 

which has boosted credit metrics. Going forward, metrics could come under 

pressure as Swedish Match has somewhat less cash flow and will be more dependent 

on upstream dividends from Scandinavian Tobacco Group. Prior to the transaction, 

Swedish Match had a direct claim on cash flow with no dilution of control or subordination. 

However, we note that legal risks are limited. 

Cash bonds are trading at very tight levels, which price in 1-2 notch rating upgrades. 

The SWEMAT 2013 bonds (offered around ASW +47bp) are rather illiquid following 

the tender offer in Q3 10. The SWEMAT 2017 bonds (offered at ASW +84bp) 

are more liquid. We believe that rating upside is fairly limited and see limited potential 

for spread compression, going forward. Although Swedish Match is subject to 

LBO risk from its fragmented ownership structure, we do not expect bonds to be 

significantly affected by this. Both SWEMAT 2013 and SWEMAT 2017 have 

Change of Control clauses that give investors the right to put the bonds at par in the 

event of an LBO (the bonds are trading at cash prices of 103.4 and 97.2, respectively). 

The CDS on the other hand could come under pressure in such a scenario. 

With a very tight 5y CDS (65/70bp), we recommend buying protection on Swedish 

Match against iTraxx Europe (see list of instrument prices at the end of this book). 

118 | 13 April 2011 



Financial data - Swedish Match 


Net sales 12,274 11,970 12,611 14,204 13,606 

EBITDA 3,491 3,234 3,294 3,887 4,458 

EBIT 3,046 2,799 2,874 3,419 4,170 


Net profit 2,336 2,054 2,261 3,148 2,958 

FFO 1,551 2,372 2,158 2,978 2,576 

EBITDA - Capex 3,187 2,693 2,975 3,416 4,147 

FOCF 1,247 1,831 1,839 2,507 2,265 

RCF -2,750 -867 276 -644 -1,527 

Net debt (incl. pensions) 6,318 7,887 8,787 8,015 7,508 


Equity (incl. minorities) 2,040 724 1,381 903 -482 

Total capital 11,456 12,055 13,380 11,458 10,302 

Ratios 2006 2007 2008 2009 2010 

EBIT margin 25% 23% 23% 24% 31% 

Capex/sales 2% 5% 3% 3% 2% 

EBITDA/net interest expenses 32x 10x 7x 9x 8x 






Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Sales 3,545 3,282 3,701 3,823 2,801 

EBIT 850 755 945 1,049 1,421 

EBIT margin 24% 23% 26% 27% 51% 

Net income 596 518 636 729 1,074 


Source: Company data and Danske Fixed Income Credit Reseach 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Snus and snuff Sales 1,101 1,054 1,116 1,174 1,178 

EBIT 523 434 487 592 567 

EBIT-margin 48% 41% 44% 50% 48% 

Other tobacco Sales 456 588 664 631 557 

products EBIT 136 204 270 259 208 

EBIT-margin 30% 35% 41% 41% 37% 

Lights Sales 373 351 347 352 379 

EBIT 100 66 68 58 87 

EBIT-margin 27% 19% 20% 16% 23% 

Other operations Sales 690 615 722 806 687 

EBIT -18 -48 -32 -35 -26 

EBIT-margin -3% -8% -4% -4% -4% 

Source: Comany data and Danske Fixed Income Credit Research 

119 | 13 April 2011 



Vasakronan 


Vasakronan is the largest property company in Sweden with a property portfolio 

consisting of 222 properties (2.8m square meters) worth about SEK78bn at the end of 

2010. The portfolio is concentrated in Sweden’s larger cities with Stockholm accounting 

for 69% of rental income, Göteborg 16% and the Öresund region 9%. At 

the end of 2010 offices accounted for 81% of rental income and retail 14%, whereas 

residential property accounted for a very modest 1% of rental income. 

The current structure of the company was formed after AP Fastigheter (controlled by 

the state-owned AP funds), on 3 July 2008, bought all the shares of Vasakronan from 

the Swedish government. The merged corporation changed its name to Vasakronan 

and became one of the largest property management companies in Europe. Vasakronan 

currently employs 364 people. It is the strategy of the company to focus on 

growth markets in Sweden (Stockholm, Gothenburg and the Malmö/Öresund region) 

and own properties that provide a stable return over time. 


Strong ownership 

The old Vasakronan was owned by the Swedish government, but in 2008 it was sold 

off to the state-owned pension funds AP1, AP2, AP3 and AP4. Thus, the state ownership 

is now indirect and the company does not benefit from explicit state guarantees, 

although all loan agreements have ‘change of control’ covenants. The AP funds 

are long-term investors and we therefore consider it likely that they will stand behind 

Vasakronan in difficult times and, for example, provide more capital in case the need 

should arise. Each of the funds owns 25% of Vasakronan through the holding company, 

Vasakronan Holding AB. 

Heavy commercial real estate exposure, but diversified client base 

Commercial real estate currently makes up for the large majority of Vasakronan’s 

rental income, with residential real estate now accounting for a modest 1%. We therefore 

view the property portfolio as quite concentrated in a market that is rather cyclical. 

In 2010, Vasakronan divested 8,000 residential apartments situated in Stockholm, 

Uppsala and Göteborg to the AP4 fund. This increased the proportion of commercial 

rental income from 92% to 97%. However, stemming from its high-quality urban 

portfolio, Vasakronan has a rather low vacancy rate which has even been improving 

during the economic downturn. Vasakronan’s client base is quite diverse and 26% of 

the tenants are from the public sector, which adds stability. In 2010, the 10 largest 

tenants accounted for 19% of the rental income. The single-largest tenant is Swedish 

bank SEB, which accounts for 3% of the rental income. 

Contract maturities provide good earnings visibility 

The commercial real estate portfolio of Vasakronan has an average contract period of 

4.6 years and 17% of the commercial real estate contracts are up for renegotiation 

before the end of 2011. Between 10-15% of the contract portfolio is renegotiated 

annually, so concentration risk is rather low. Furthermore, 49% of the commercial 

contracts have terms beyond 2013. Short-term visibility is therefore relatively good 

with stable revenues. 

Indicative credit rating of ‘BBB+’ 

As Vasakronan can be classified as a GRE, we apply Standard & Poor’s ‘Enhanced 

Methodology And Assumptions For Rating Government Related Entities’. We view 

Vasakronan’s senior unsecured rating as a ‘BBB+’, based on a standalone rating of 

‘BBB’ and the Swedish government’s local currency rating of ‘AAA’. Thus the strong 

ownership justifies a one-notch uplift. 

HOLD 

Sector: Real estate; Property 

management 

Corporate ticker: FASTIG 

Equity ticker: 1276Z SS 


Ratings: 




Analyst: 


louis.landeman@danskebank.se 

+46 8 5688 0524 


asbjorn.andersen@danskebank.com 

+45 45148886 


Strengths: 

• High-quality urban property portfolio 

with low vacancy rates. 

• Strong ownership from government 

pension funds. 

• Diversified client base with large 

proportion of public sector. 

Challenges: 

• Late cyclical and volatile real estate 

market exposure. 

• Very high concentration in commercial 

properties. 

• High interest rate sensitivity from 

short-term funding strategy. 


120 | 13 April 2011 



Liquidity 

Vasakronan aims to have a diverse funding base and the company relies both on bank 

loans as well as the capital markets (bonds and certificates). The bank loans as well 

as the MTN programme contain a ‘change of control’ clause that will be triggered if 

at least 51% of the shares are not owned directly or indirectly by the AP1-AP4 funds. 

Vasakronan has recently increased its use of secured bank loans, which increases 

structural subordination risk, but we note that the company has a financial policy of 

funding a maximum of 20% of assets with secured loans (currently constituting 15% 

of assets and 27% of funding). 

We consider Vasakronan’s liquidity as adequate but somewhat tight as the company 

has a high share of short-term financing, and as a large share of the back-up facilities 

are renegotiated annually. Partly due to a high amount of commercial paper funding 

(SEK5.5bn, corresponding to 12% of total debt), Vasakronan’s debt maturity profile 

has a relatively high mix of short-term funding. Short-term debt constituted 31% of 

funding at the end of 2010, compared to a policy of a maximum of 40%. Vasakronan 

had committed credit facilities of SEK15.0bn as a backstop at the end of 2010, with 

credit facilities and liquid funds combined totalling 120% of short-term debt. However, 

the vast majority (93%) of the credit facilities are renegotiated annually. At the 

end of 2010, the average loan maturity was 2.4 years. Vasakronan has a policy of 

maintaining an average minimum loan tenor of 2 years. 


Property market values indicate a recovering real estate market 

Following five consecutive quarters of unrealised losses in the property portfolio, 

valuations have increased throughout 2010. This trend continued in Q4 10 with an 

increase of SEK832m. This was mainly attributable to a lower required rate of return 

but higher rents also contributed. While the largest increase in property value was in 

Gothenburg with 10.0% y/y, Stockholm had the greatest contribution to the rise in the 

total portfolio due to the large concentration of properties located in Stockholm in the 

overall portfolio. Although Vasakronan has already proved quite resilient to the economic 

downturn, the current strong macro-economic improvement in Sweden is a 

positive signal, going forward. The more favourable economic climate has also meant 

that the occupancy rate in Vasakronan’s property portfolio has gradually increased. At 

the end of 2010, the occupancy rate was 92.8% (end 2009: 91.9%). In terms of sensitivity 

to changing rent levels, Vasakronan calculates (as of end 2010) that a 1% change in 

rental income will cause an income change of SEK55m, whereas a 1% change in the 

vacancy rate will change income by SEK66m. 

Funding costs are currently low but risk of higher rates going forward 

Vasakronan has taken advantage of the low interest rates and favourable funding conditions 

to raise financing on attractive terms, both in the bank market and the bond market. 

As a result, Vasakronan’s average funding rate at the end of 2010 was a low 3.3% 

with a refinancing rate for the corresponding loan portfolio of 2.6%. Vasakronan’s 

relatively high proportion of short-term debt has lowered the company’s funding cost 

and thereby supported funds from operations. At the same time, this means that the 

company’s earnings have a certain interest rate sensitivity. The average fixed interest 

period was 1.7 years at the end of 2010 and some 64% of Vasakronan’s debt had interest 

rate fixings under 1 year. This relatively high interest rate sensitivity is mitigated by 

Vasakronan’s policy of maintaining a conservative balance sheet structure with a strong 

interest rate coverage. In Q4 2010 the company’s reported interest coverage ratio improved 

to 2.9x (2009: 2.8x). This can be compared to Vasakronan’s own financial 

policy of maintaining an interest coverage ratio of at least 1.9x. Since Vasakronan also 

has good access to diverse funding sources and as short-term debt is covered by liquid 

funds and committed facilities, we view the company’s financial profile as satisfactory. 



SEK m 

16 000 

14 000 

12 000 

10 000 

8 000 

6 000 

4 000 

2 000 

- 


Profitability 

SEKbn 

6,0 

5,0 

4,0 

3,0 

2,0 

1,0 

0,0 


Rental income by segments, 2010 



0-1 1-2 2-3 3-4 4-5 5+ 

2007 2008 2009 2010 


90% 

75% 

60% 

45% 

30% 

15% 

0% 

year 

Rent income EBITDA EBITDA margin (rhs) 

Residential 

property 

1% 

Retailers 

14% 

SEKbn 

50 

40 

30 

20 

10 

0 

Other 

4% 

Offices 

81% 

2007 2008 2009 2010 

20x 

16x 

12x 

8x 

4x 

0x 

Net debt Equity Net debt/EBITDA (rhs) 

121 | 13 April 2011 



Danske Markets expects the Riksbank to continue to hike rates briskly throughout 

2011. While Vasakronan currently has headroom for interest rate hikes from the current 

low levels, signs of an uptake in Swedish short-term interest rates – e.g. on the back of 

higher inflation expectations, and the risk of swifter hikes than expected – would be 

negative for the company (and other property companies). 

Ownership structure and GRE link 

Before the divestment and merger with AP Fastigheter on 3 July 2008, Vasakronan 

was a state-owned company with direct ownership by the Swedish government. After 

the merger, ownership of the new Vasakronan became equally shared by the first, 

second, third, and fourth Swedish National Pension (AP) funds via the Vasakronan 

Holding company. The four AP funds are government entities and are reviewed by 

the Swedish Ministry of Finance. Hence, Vasakronan can be classified as a government-related 

entity (GRE) as the Swedish government still yields some indirect influence 

on the company in spite of its autonomy. 

The ownership structure between Vasakronan and the AP funds is linked by the 

holding company, Vasakronan Holding AB. In our view, this link principally serves 

to utilise corporate taxation accounting rules. This is also underlined by the fact that 

Vasakronan AB and Vasakronan Holding AB share the same board of directors. 

Although Vasakronan does not benefit from an explicit state guarantee, the fact that 

the company is essentially a wholly owned subsidiary of the state-owned AP funds is 

significant for credit investors. Given that the AP funds are long-term investors 

(since the original company was founded in 1988), we consider it likely that they 

would stand behind Vasakronan in difficult times and, for instance, participate in a 

capital increase if the need arises. 

Ownership structure and GRE link 

Swedish government 

AP1 AP2 AP3 AP4 

25% 25% 25% 25% 

Vasakronan Holding AB 

100% 

Vasakronan AB 


The ownership commitment is further strengthened by the ‘change of control’ 

clauses of its bank loans and the MTN programme (while this is positive for bondholders, 

such covenants do not influence the company’s senior unsecured rating). 

These covenants will be triggered if at least 51% of the shares are not owned directly 

or indirectly by the AP1-AP4 funds and will give the investor the right (but not the 

obligation) to sell the bonds back to Vasakronan at par plus accrued interest. 


We have an overall HOLD recommendation on Vasakronan. The company currently 

has no outstanding Eurobonds. However, management has shown interest in diversifying 

bond issuance away from the concentration in Swedish kronor (SEK) into other 

currencies. This was underlined as Vasakronan initiated an MTN programme denominated 

in Norwegian kroner (NOK) during H1 10. With a high funding requirement, 

we consider that Vasakronan could be an interesting potential candidate for 

issuing Eurobonds. 

The signs of increasing rental levels and improving property valuations are positive 

signals, going forward. This should also be supported by the current strong macroeconomic 

situation in Sweden. At the same time, the improving macroeconomic conditions 

also mean that Vasakronan faces the risk of rising interest rates. Considering 

Vasakronan’s strong balance sheet and solid ownership situation, we see this risk as 

clearly manageable for the company. 

122 | 13 April 2011 



Financial data - Vasakronan 

P&L (SEKm) 2008 2009 2010 

Rental income 3937 5865 5508 

Operating costs -1339 -2058 -1802 

Operating income 2598 3807 3706 

Other income 31 -71 -11 

Administration expenses -160 -171 -108 

EBITDA 2469 3565 3587 

Realised value changes in property portfolio -19 192 

Unrealised value changes in property portfolio -2560 -4369 4029 

EBIT -110 -612 7,616 

Net interest expenses & derivatives -1426 -1257 -1171 

Pre-tax profit -1,536 -1,869 6,445 

Tax 1,133 520 -1,644 

Net profit -433 -1,354 5,303 

Balance sheet 2008 2009 2010 

Tangible assets 74,301 71,842 77,633 

Financial assets 807 975 726 

Total non-current assets 78,578 75,251 80,778 

Cash and cash equivalents 2,238 290 2,445 

Other current assets 776 1,119 943 

Total current assets 3,014 1,409 3,388 

Total assets 81,592 76,660 84,166 

Long term interest bearing debt 31,356 31,625 31,992 

Other long term liabilities 8,910 7,385 7,261 

Long-term liabilities 40,266 39,010 39,253 

Short term interest bearing debt 10,387 8,814 14,498 

Other short term liabilities 3,651 4,073 3,718 

Short term liabilities 14,038 12,887 18,216 

Total liabilities 54,304 51,897 57,469 

Shareholders equity 27,288 24,763 26,697 

Total liabilities and shareholders equity 81,592 76,660 84,166 

Cash flow 2008 2009 2010 

FFO 1373 2101 2339 

Changes in working capital 269 -99 203 

Operating cash flow 1642 2002 2542 

Capex -1,815 -3,069 -2,066 

Acquisitions & disposals -19,658 1,649 -216 

Cash flow after investments -19,831 582 260 

Dividends paid -5,000 -1,073 -4,156 

Debt financing 13,034 -1,457 6,051 

Shareholder contribution 14,000 

Cash flow from financing activities 22,034 -2,530 1,895 

Cash flow during the period 2,203 -1,948 2,155 

Key ratios 2008 2009 2010 

Total interest bearing debt 41,743 40,439 46,490 

Net debt 39,505 40,149 44,045 

Total capital 69,031 65,202 73,187 

EBITDA-margin 62.7% 60.8% 65.1% 

Solidity 33.4% 32.3% 31.7% 

ROAE -1.9% -5.2% 20.6% 

Gearing 145% 162% 165% 

EBITDA/net interest exp 2.2 2.7 2.7 

LTM FFO/net debt 3% 5% 5% 

Net debt/LTM EBITDA 16.0 11.3 12.3 

Vacancy rate, % 8% 9% 7% 


123 | 13 April 2011 



Volvo AB 


Established in 1927, Volvo is the largest industrial group in the Nordic region and has 

more than 90,000 employees worldwide. The company has a leading market position 

worldwide in heavy trucks (accounting for 65% of sales in 2010), construction equipment 

(21%), buses (8%) as well as marine, aircraft and industrial power equipment. 

Volvo also provides significant aftermarket and financial services. The sectors in which 

it operates are capital intensive, competitive and highly cyclical. In 1999, it sold its carmaking 

operations to Ford for USD6.45bn. It acquired Renault V.I. and Mack Trucks 

from Renault in 2001 in exchange for a stake in Volvo. Following the large acquisitions 

of Nissan Diesel, Lingong and Ingersoll Rand’s road development division in 2007, as 

well as a joint venture with Eicher Motors in 2008, Volvo has established a significant 

presence in Asia. The largest shareholder is Renault with 6.8% of the capital and 17.5% 

of the votes, followed by Industrivärden with 4.6% of the capital and 11.1% of the 

votes. 


Market-leading positions in highly cyclical industries 

Volvo’s strong position as the world’s second-largest truck manufacturer (behind 

Daimler AG) is complemented by highly volatile operations in construction equipment, 

as well as relatively smaller activities in buses, marine, aircraft and industrial power 

equipment. The demand for heavy trucks is strongly correlated with the level of overall 

economic and industrial activity and the introduction of new emission standards. Volvo 

operates in highly cyclical, capital-intensive and competitive industries. This is mitigated 

by strong geographical diversification, critical mass that creates economics of 

scale, market-leading innovations and an up-to-date product line. Furthermore, an 

increasing proportion of aftermarket and financial services is credit-positive as the 

former is characterised by lower risk and higher margins while the latter has rating 

dependency. Hence, Volvo has an incentive to preserve a conservative capital structure 

to facilitate attractive financing conditions for customers. 

Large acquisitions increase geographical diversification 

Following the large acquisitions of Nissan Diesel, Lingong and Ingersoll Rand’s road 

development division in 2007, as well as an Indian joint venture with Eicher Motors 

in 2008, Volvo has established a significant presence in Asia. This strong geographical 

diversification is credit-positive, as it reduces specific risks related to volatile 

demand and new regulation (e.g. new emission standards) across different regions. In 

2010, Europe accounted for 39% of net sales, followed by Asia, North America and 

South America with 25%, 18% and 11%, respectively. 

Lags Scania on profitability and operating efficiency 

Volvo lags its peer Scania on profitability. This is partly due to Scania’s market-leading 

operational efficiency, component commonality and synchronisation of engine platforms. 

In 2010 Volvo’s operating margin was 6.8%, compared with Scania’s 16.3%. 

Significant operating headwinds triggered rating action in 2009-2010 

Despite new financial targets in 2006 and large debt-financed acquisitions and shareholder 

distributions in 2006-07, Volvo entered the current brutal downturn with a 

somewhat conservative capital structure and significant financial flexibility. 

BUY 


Corporate ticker: VLVY 

Equity ticker: VOLVB SS 


Ratings: 

S&P rating: BBB- /S 


Fitch rating: BBB- /PO 

Analyst: 



+45 45148886 



+45 45128519 


Strengths: 

• Leading global positions in trucks, 

buses, construction equipment. 

• Very favourable geographical diversification 

of revenue. 

• Solid liquidity position and longdated 

debt maturities. 

Challenges: 

• High degree of cyclicality makes 

sales and earnings volatile. 

• High operational leverage and 

capital-intensive production. 

• Exposure to mature and competitive 

end markets. 


However, Moody’s downgraded Volvo to ‘Baa1’ in February 2009 and to ‘Baa2’ in 

July 2009. Both S&P and Fitch downgraded the company from ‘A-’ to ‘BBB+’ in 

April 2009 and to ‘BBB’ around August 2009 and ‘BBB-’ in February 2010. However, 

we think that rating upgrades are likely following a very strong recovery in 

2010. 

124 | 13 April 2011 



Liquidity 

Volvo’s main credit facilities include a USD1.8bn committed credit line due in 2013 

and a EUR1.45bn credit line committed until December 2011. According to S&P, the 

facilities (equivalent to a total of SEK35.3bn) are not subject to financial covenants 

or rating triggers. After 2010, the company had cash and marketable securities 

amounting to SEK37.4bn in the industrial operations. This compares with around 

SEK12.8bn of industrial debt maturing during the next 12 months. During the first 

part of 2009, Volvo raised a significant amount of capital, both through bonds (EUR, 

USD and SEK-denominated) and various transactions with banks. This demonstrates 

resilient and stable access to the public markets, even during turbulent times. We 

view the industrial operations as largely self-funding in the next few years. 

Of the group interest-bearing liabilities amounting to SEK124bn in 2010, around 

SEK64.3bn relates to the Customer Finance division. The customer financing portfolio 

amortises in accordance with debt maturities and the portfolio only includes customer 

credit risk while currency, interest rate and liquidity risk are fully matched. 

Hence, the Customer Finance division only needs to obtain new financing related to 

new truck sales. The write-off ratio was 1.65% in 2010. 


Extraordinary recovery after deep downturn 

During 2009, markets remained difficult for Volvo with continuing sluggish demand. 

Net sales plunged and operating margins turned negative. However, this dramatic 

decline was followed by an equally spectacular recovery and Volvo reported a record-high 

operating margin of 7.7% for a third quarter. In fact, during Q4 10 Volvo 

and subcontractors experienced bottlenecks due to large increases in production. 

Volvo expects this to gradually improve, and we believe that operational leverage 

should continue to support profits. 

North America expected to see very strong demand in 2011 

While the turnaround was particularly fuelled by growth in emerging markets (which 

now account for around half of group sales), North America demand is starting to 

pick up, with strong order intake. In March 2011, Volvo stated that it would ramp up 

production in North America due to rising demand. Volvo forecasts the North 

American heavy truck market to expand by 55% in 2011. The European and Japanese 

markets are expected to grow 23% and 10%, respectively, in 2011. 

The pick-up in North American growth, driven by replacement demand of an ageing 

truck fleet (associated with higher maintenance and repair costs), is positive for 

Volvo. The European market, on the other hand, has a relatively young fleet with low 

replacement demand and overcapacity in the transport sector. Relative to competitors 

more reliant on the European truck markets (e.g. Scania), this will benefit Volvo. 

Credit metrics are starting to look strong for rating 

In Q4 10, Volvo reduced leverage at an unprecedented rate due to strong cash flow. 

Hence, the company became compliant with its 40% leverage target at 37.4% of 

equity (industrial operations financial debt, including pension liabilities). When adding 

operating leases and contingent liabilities, the total adjusted leverage is 56.5%. 

FFO/adjusted net debt is now around 65% and FOCF/adjusted net debt 49%. One of 

S&P’s requirements for a credit rating upgrade is a sustained FFO/adjusted net debt 

ratio of above 35% and we believe a credit rating change should be on the cards. 

We expect Volvo to remain focused on its credit rating, since this is a competitive 

factor for its captive financing and Volvo’s credit rating is below peers such as 

Scania (‘A-’/NR), Paccar (‘A+’/‘A1’) and MAN (‘BBB+’/‘A3’). 

Debt maturity profile* 


SEKbn 

16 

14 

12 

10 

8 

6 

4 

2 

0 


*Industrial operations, excl. pensions 

Profitability 

SEKbn 

300 

250 

200 

150 

100 

50 

0 

'11 '12 '13 '14 '15 '16 '17 





SEKbn 

100 

2006 2007 2008 2009 2010 


15% 

12% 

9% 

6% 

3% 

0% 

-3% 


Volvo Penta 

3% Volvo Aero 

3% 

Construction 

Equipment 

21% 

75 

50 

25 

0 

-25 

Buses 

8% 

2006 2007 2008 2009 2010 

Trucks 

65% 

4.0x 

3.0x 

2.0x 

1.0x 

0.0x 

-1.0x 


125 | 13 April 2011 



Renault has divested majority of stake in Volvo 

In October 2010, Renault announced that it had divested the lion’s share of its Volvo 

shares in a private placement to institutional investors. This brings its share of the 

capital down from 21.8% to 6.8%. However, since Renault decided to keep its A- 

series shares, which have 10 times the voting rights of the B-series shares, the car 

manufacturer stills controls 17.5% of the votes. Renault’s ownership stake in Volvo 

has no strategic importance as it was received as payment for selling the Renault 

truck division to Volvo. Hence, the change in ownership is neutral for Volvo, given 

the amount of public information currently available. 

Monthly truck deliveries 

30,000 

28,000 

26,000 

24,000 

22,000 

20,000 

18,000 

16,000 

14,000 

12,000 

10,000 

8,000 

6,000 

4,000 

2,000 

Seasonal adj 

Actual 


We have an overall BUY recommendation on Volvo. We prefer the VLVY 2014 and 

2017 bonds, which are offered at Z-spreads of +81bp and +105bp, respectively (see 

list of prices at end of this book). 

0 

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 


We would not be surprised to see S&P and Fitch upgrading Volvo’s credit ratings. The 

current ‘BBB-’/‘Baa2’ ratings are still significantly below those of competitors. Since 

captive finance is a competitive factor, as funding costs influence truck sales, Volvo has 

an incentive to preserve and rebuild a solid capital structure. Before the economic 

downturn in 2009, Volvo was rated ‘A-’/‘A3’. Furthermore, credit metrics look strong 

for the current credit ratings. 

Furthermore, recovery prospects for Volvo look good relative to sector peers, due to 

broader geographical diversification. As the US economy improves, replacement 

demand for ageing trucks should drive a recovery in volumes as the US fleet is relatively 

old, with associated higher maintenance and repair costs. The European market, 

on the other hand, has a relatively young fleet with low replacement demand and 

overcapacity in the transport sector, which has resulted in price erosion on new vehicles. 

We therefore see markets such as North America and Asia to have higher 

growth compared to Europe. Relative to competitors more reliant on the European 

truck market (e.g. Scania), this will benefit Volvo. Volvo expects an increase in 

demand of 55% in North America and 23% in Europe in 2011. 

With a 36bp spread in 5Y CDS between Volvo and Scania, we recommend a pair 

trade, selling 5Y protection on Volvo (103bp) and buying 5Y protection on Scania 

(67bp). Before December 2008, they traded in line. 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 59,798 58,617 68,765 63,969 73,398 

EBIT -2,316 2,799 4,770 4,913 5,518 

EBIT margin -3.9% 4.8% 6.9% 7.7% 7.5% 

Net income -1,985 1,720 3,226 2,851 3,415 

Net debt 41,478 45,689 43,069 42,553 28,366 

Net debt/EBITDA (annualised) 18.2x 2.1x 1.4x 1.4x 0.9x 


126 | 13 April 2011 



Financial data - Volvo AB* 


Net Sales 249,020 276,795 294,932 208,487 257,375 

EBITDA (1) 30,539 29,702 27,978 -3,951 29,171 

EBIT (1) 20,869 19,916 14,454 -16,333 17,834 

Net interest expenses -81 170 764 3,169 2,700 

Net profit 17,203 15,028 10,016 -14,685 11,212 

FFO (2) 29,873 25,514 23,158 2,527 18,012 

Capex (3) 10,200 10,100 12,600 10,464 10,643 

EBITDA-Capex 20,339 19,602 15,378 -14,415 18,528 

OpFCF (4) 23,439 19,702 26,278 -19,115 13,928 

FCF (5) 18,363 5,482 21,506 -18,661 19,218 

RCF 28,563 15,582 34,106 -8,197 29,861 

Net debt (6) -19,853 8,260 24,174 41,486 28,366 

Adjusted net debt (7) -8,252 26,601 45,232 60,144 48,099 


Total capital (8) 89,106 113,415 121,795 137,375 125,958 

Ratios 2006 2007 2008 2009 2010 

EBIT margin 8.4% 7.2% 4.9% -7.8% 6.9% 

Capex/revenue 4.1% 3.6% 4.3% 5.0% 4.1% 

EBITDA/Net interest exp. n.m. 174.7x 36.6x n.m. 10.8x 

Net debt/EBITDA n.m. 0.3x 0.9x n.m. 1.0x 

Adjusted net debt/EBITDA n.m. 0.9x 1.6x n.m. 1.6x 

Adj. net debt/total capital n.m. 23% 37% 44% 38% 

*Numbers excluding Financial Services. (1) Adjusted for non-recurring items. (2) Net income from continuing operations plus depreciations, amortizations, deferred 

taxes, and other non-cash items. (3) Investments in tangible & intangible assets. (4) Cash flow from operating activities before net interest paid and taxes paid but 

less capex. (5) OpFCF less net interest paid, tax paid, and dividends. (6) Total interest-bearing debt less cash and marketable securities. (7) Net debt adjusted for 

operating leases, and contingent liabilities. 

Source: Company data, Danske Fixed Income Credit Research. 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Trucks Sales 37,678 36,488 41,589 41,187 48,041 

EBIT -1,316 1,444 2,478 2,700 3,490 

EBIT margin -3.5% 4.0% 6.0% 6.6% 7.3% 

Buses Sales 5,793 5,067 5,253 4,594 5,602 

EBIT -46 145 259 155 221 

EBIT margin -0.8% 2.9% 4.9% 3.4% 3.9% 

Construction Sales 10,159 11,148 15,295 12,710 14,657 

Equipment EBIT -564 1,006 2,086 1,330 1,758 

EBIT margin -5.6% 9.0% 13.6% 10.5% 12.0% 

Volvo Penta Sales 1,939 1,977 2,631 2,077 2,031 

EBIT 7 121 312 72 73 

EBIT margin 0.4% 6.1% 11.9% 3.5% 3.6% 

Volvo Aero Sales 1,978 1,910 2,133 1,815 1,850 

EBIT -169 152 -372 224 282 

EBIT margin -8.5% 8.0% -17.4% 12.3% 15.2% 

Customer Finance Sales 2,815 2,508 2,426 2,146 1,951 

EBIT 15 14 7 48 98 

EBIT margin 1% 1% 0% 2% 5% 


127 | 13 April 2011 



128 | 13 April 2011 



Pulp & Paper 

129 | 13 April 2011 



M-real 


Finnish-based M-real has undergone significant restructuring in recent years with 

material asset divestments to meet debt maturities. As a result, the short-term liquidity 

position has improved from a very vulnerable level. M-real has limited product 

diversification with activities in uncoated fine paper and consumer packaging. Within 

the consumer packaging segment, M-real has a leading European market position 

while the company is the sixth-largest European uncoated fine paper producer. The 

geographical diversification is limited as Europe generated roughly 80% of sales in 

2010. M-real has a below-average operating efficiency but credit metrics are currently 

improving, albeit from exceptionally weak levels. As of end-2010, M-real had 

4,500 employees. Metsäliitto, a Finnish forestry owners’ co-operative, holds 38.8% 

of the shares and 60.6% of the votes. 


Operational efficiency and diversification behind larger competitors 

M-real has a below-average cost efficiency and lacks the important scale of its larger 

competitors (e.g. Stora Enso and UPM). It benefits from full pulp integration through 

its own pulp operations and a stake in Metsä-Botnia. While its self-sufficiency in 

wood is limited, M-real has long-term wood purchase contracts with Metsäliitto’s 

members but must pay Finnish market prices. M-real’s energy self-sufficiency is 

roughly 60%. 

Supportive majority owner 

Metsäliitto holds 38.8% of the shares and 60.6% of the votes in M-real. Controlled 

by 131,000 private forest owners in Finland, it has historically provided support to 

M-real, including proportional participation in the EUR448m rights issue in 2004 and 

participation in the restructuring of joint ownership over Uruguayan assets in late 

2009. 

Significant asset divestments and debt reductions in 2008 and 2009 

In late 2008, M-real made an exit from magazine and coated fine paper as it divested 

its large graphics paper operations to Sappi. M-real’s net debt decreased by 

EUR630m due to the divestment and totalled EUR1.3bn at end-2008 compared with 

1.9bn at end-2007. Net debt decreased further to EUR777m at end-2009 (EUR827m 

end-2010) as M-real was compensated through a cash payment and debt transfer 

following the divestment of assets at Metsä-Botnia (subsequently owned 30% by M- 

real, 53% by Metsäliitto and 17% by UPM) to UPM. As demand patterns across 

different forest product categories are only partially correlated, an improved shortterm 

liquidity profile comes at the expense of lost diversification benefits following 

the divestments. Furthermore, M-real’s remaining Finnish pulp assets are less cost 

efficient than the eucalyptus-based assets divested through Metsä-Botnia. 

Increased focus on consumer packaging is credit positive 

M-real has a long-term strategy of growing the consumer packaging segment, where 

it holds a leading European position within cartonboard. In addition, the company is 

the sixth-largest European uncoated fine paper producer. Demand conditions in the 

consumer packaging market are relatively stable compared with other forest product 

categories. Furthermore, the market is less fragmented, supporting some pricing 

power. While an increased proportion of cash flow generated from consumer packaging 

is credit positive, M-real remains exposed to cyclical and challenging market 

conditions, particularly through its activities in uncoated fine paper. 

SELL 

Sector: Paper & Forest Products 

Corporate ticker: MESSA 

Equity ticker: MRLBV FH 


Ratings: 

Moodys rating: B3 /PO 

S&P rating: B- / PO 


Analysts: 



+45 45128519 



+45 45148886 


Strengths: 

• Leading position in the relatively 

attractive consumer packaging 

segment 

• Significant restructurings and 

debt reductions 

• High integration into pulp and energy 

• Improved liquidity profile coming 

from a very stressed level 

Challenges: 

• Below-average cost efficiency 

• Limited diversification across 

product categories and geographical 

regions 

• Exposure to challenging market 

conditions in uncoated fine paper 

market and volatile input costs 

• Very weak credit metrics although 

improving 


130 | 13 April 2011 



Liquidity 

Following the divestment of assets to Sappi at end-2008 and to UPM through Metsä- 

Botnia at end-2009, M-real has reduced debt and improved its liquidity position from 

an exceptionally weak level, albeit net debt increased EUR50m in 2010. Still, the 

liquidity position is a major rating factor and spread driver for the company. FFO 

generation was modest at best but positive at EUR17m in FY 2010 compared with a 

EUR59m burn in FY 2009. Following a EUR86m increase in working capital during 

2010 (EUR140m decrease in 2009), the FOCF outflow was EUR133m compared 

with a EUR11m FOCF inflow in 2009. S&P and Moody’s expect the cash generation 

to increase to positive territory in 2011 due to improved operating profitability. 

M-real extended the debt maturity profile in 2010, as in June 2010 the company drew 

EUR135m of pension loans maturing in 2020. Moreover, it raised additional pension 

loans for EUR31m in December 2010. The pension facilities are related to the special 

Finnish pension system where companies are entitled to borrow back a portion of 

their pension funds from pension insurance companies. 

At end-2010, M-real had cash and equivalents amounting to EUR408m. This compares 

with EUR111m of debt falling due in 2011. Debt maturities in 2012 amount to 

EUR158m. We view the medium-term debt maturity profile as challenging, as 

EUR605m matures in 2013, including the EUR500m MESSA’13. While cash is 

expedited to recover, the cash burn could easily return in the medium term, in our 

view, given the inherent volatility in M-real’s markets. 

M-real no longer has a significant committed bank facility after the EUR500m facility 

maturing in December 2009 expired. M-real has previously stated its desire to 

replace it with a smaller facility, but so far nothing has materialised. We believe it is 

uncertain whether banks will provide a new facility on an unsecured basis. A secured 

facility is, however, not in compliance with the negative pledge clause in M-real’s 

bond documentations. If a waiver fee is accepted by the bondholders, the bonds will 

effectively be subordinated. Alternatively, the bonds could be called. 

Covenant headroom 

M-real’s loans contain customary cross default and negative pledge provisions and 

require it to maintain covenant ratios. In particular, some of M-real’s loan agreements 

set a 120% limit on net gearing and a 30% limit on the equity ratio. If calculated 

as defined in the loan agreements, net gearing at end-2010 was 64% (63% end- 

2009) and the equity ratio was 38% (35% end-2009). We view current covenant 

headroom as adequate but lower headroom could result from renewed pressure on 

operations and impairments. 


Improved operating performance and upgrade by Moodys and S&P 

2010 was a strong year for M-real in terms of earnings, as the operating environment 

improved significantly, and both volumes and prices were up. For the full year, M- 

real achieved a positive net profit (EUR27m) for the first time in years (EUR354m 

loss in 2009). However, from a cash flow perspective, 2010 was a weak year, as the 

FOCF outflow was EUR133m compared with a EUR11m FOCF inflow in 2009. 

M-real reported Q4 10 sales in line with consensus expectations while a net loss of 

EUR22m was worse than expected. Comparable sales increased 0.5% q/q and 9.7% 

y/y to EUR665m. Clean EBIT declined sequentially but materially increased compared 

with Q4 09. The clean EBIT margin improved to 5.6% from 1.2% in Q4 09 

due to improved demand, implemented price increases in paper and board, cost savings 

and a sharp tailwind from higher pulp prices. The clean EBIT margin declined 

sequentially from 8.2% in Q3 10 due to a strengthening in SEK and an increase in 

costs. M-real expects accelerated cost inflation in 2011 to be “mostly offset” by a recently 

announced EUR70m profit improvement programme. The company expects 


EURm 


Profitability 

EURm 





EURm 

700 

600 

500 

400 

300 

200 

100 

0 

6.000 

5.000 

4.000 

3.000 

2.000 

1.000 

0 

3.000 

2.500 

2.000 

1.500 

1.000 

500 

0 

2011 2012 2013 2014 2015 2016+ 

2006 2007 2008 2009 2010 


Market 

Pulp and 

Energy 

17% 

Paper 

37% 


14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 

Consumer 

Packaging 

46% 

2006 2007 2008 2009 2010 


20 

18 

16 

14 

12 

10 

8 

6 

4 

2 

0 

131 | 13 April 2011 



the average pulp price to be slightly lower in Q1 11. It expects demand for board to 

remain good, while demand for uncoated fine paper is expected to remain stable. 

Overall, M-real expects Q1 11 clean EBIT to improve sequentially on the EUR37m 

realised in Q4 10. 

Short-term liquidity and covenant headroom remain adequate. While working capital 

was unchanged during Q4 10 (but up EUR86m in 2010), FFO was surprisingly weak 

and negative at EUR18m and M-real generated a FOCF burn of EUR36m during the 

quarter. With increased capex ahead related to announced capacity expansions, we 

see risks to S&P’s expectation of positive medium-term FOCF generation. Credit 

metrics gradually improved during 2010 but remain weak and volatile. 

Unsurprisingly, after the Q2 10 statement, both Moody’s and S&P upgraded the 

rating one notch to B3 and B-, respectively, while Moody’s even kept the outlook on 

positive. On 4 March 2011, S&P also placed the rating on positive outlook. We 

would not be surprised to see rating upside over the next 6-12 months if the strong 

demand recovery continues and the operating environment in general remains favourable. 

Significant asset divestments in 2009 

In July 2009, Metsä-Botnia and its owners (M-real 30%, Metsäliitto 23% and UPM 

47%) signed a letter of intent regarding an asset restructuring. In December 2009, the 

transaction closed. Metsä-Botnia and Metsäliitto’s shares of the Uruguayan Fray 

Bentos pulp mill and Forestal Oriental plantation forestry company were acquired by 

UPM. In addition, UPM acquired 1.2% of the energy company PVO from Metsä- 

Botnia. After the transaction, Metsä-Botnia is owned 30% by M-real, 53% by 

Metsäliitto and 17% by UPM. M-real’s net debt declined materially to EUR777m at 

end-2009 from EUR1.3bn after Q3 09. The net debt reduction consisted of a 

EUR300m cash consideration, a EUR50m three-year receivable from Metsäliitto and 

a change in how M-real accounts for its stake in Metsä-Botnia. In our view, the business 

logic behind a divestment of the eucalyptus-based assets at Metsä-Botnia level 

makes sense for M-real, as the company is less reliant on this raw material post the 

divestment of its graphics paper business to Sappi in 2008. However, M-real’s remaining 

Finnish pulp assets are less cost efficient than the eucalyptus-based assets. 


We are positive on M-real’s long-term strategy of growing the consumer packaging 

segment. However, M-real remains exposed to cyclical and challenging market conditions, 

particularly through its activities in uncoated fine paper, and it has recently 

been riding very favourable conditions in the pulp market. We expect cash generation 

and credit metrics to improve gradually. However, the cash burn could easily return 

in the medium term. We view the medium-term debt maturity profile as challenging 

with EUR605m maturing in 2013, including the EUR500m MESSA’13. While several 

things indicate that the tailwind from a sharply rising pulp price is currently 

losing momentum, we do not expect a hard landing for the pulp price. 

We have a negative stance towards both MESSA’13 (around ASW +235/209bp) and 

the 5y CDS trading around +355/365bp, i.e. flat to iTraxx Crossover. Both instruments 

are too tight, in our view, and do not adequately capture the volatility in cash 

flow generation, refinancing risk and risks inherent in M-real’s industry. 

132 | 13 April 2011 



Financial data M-real 


Net Sales 5,624 4,440 3,236 2,432 2,605 

Clean EBITDA 411 366 192 44 305 

Clean EBIT 45 49 -35 -150 173 


Net profit -349 -195 -508 -354 27 

FFO (1) 166 85 -90 -59 17 

Capex 428 259 128 70 64 

EBITDA-Capex -17 107 64 -26 241 

RCF (2) 127 65 -110 -59 15 

FCF (3) -244 -152 -245 11 -135 

Net debt (4) 2,403 1,867 1,254 777 827 

Adjusted net debt (5) 2,646 2,050 1,368 872 917 

Equity (incl. minorities) 1,906 1,670 1,386 924 999 

Total debt 2,781 2,336 2,106 1,411 1,350 

Total capital (6) 4,687 4,006 3,492 2,335 2,349 

Ratios 

EBITDA margin (%) 7% 8% 6% 2% 12% 



Adj. net debt/EBITDA (x) 6.4x 5.6x 7.1x 19.8x 3.0x 


FFO/Adjusted net debt 6% 4% -7% -7% 2% 

RCF/Adjusted net debt 5% 3% -8% -7% 2% 





securities. (5) Net debt adjusted contingent liabilities (6) Equity and unadjusted total debt. Source: Company data and Danske Markets 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 606 602 676 662 665 

EBITDA 51 72 77 85 71 

EBITDA margin (%) 8% 12% 11% 13% 11% 

Net income -68 19 -8 38 -22 

Adjusted net debt 872 916 940 916 922 

Adj. net debt/LTM EBITDA (x) 19.8 7.1 4.2 3.2 3.0 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Consumer Packaging Net sales 255 257 310 305 303 

Clean EBIT margin 13% 15% 12% 11% 8% 

Officer Papers Net sales 132 160 153 164 181 

Clean EBIT margin -41% 0% -3% 5% 5% 

Specialty Papers Net sales 73 82 80 75 66 

Clean EBIT margin -107% -7% -26% 5% -47% 

Market Pulp & Energy Net sales 126 95 126 107 106 

Clean EBIT margin -31% 9% 13% 11% -1% 

Other Net sales 59 46 44 53 55 

Clean EBIT margin 146% 15% 14% 13% -9% 


133 | 13 April 2011 



Norske Skog 


Norway’s Norske Skog is among the world’s largest producers of newsprint paper, 

and based on overall European market shares for publication paper it ranks third after 

UPM and Stora Enso. Narrow product diversification is only partially mitigated by 

meaningful geographical diversification. Material asset divestments in recent years 

have significantly lowered debt levels, but the liquidity profile remains weak. The 

company operates in industries characterised by high cyclicality, high capital intensity 

and weak pricing power. Norske Skog has a highly diverse ownership base. 


Market-leading position with narrow product focus 

Norske Skog has leading market positions and a focus on newsprint (52% of 2010 

sales) and magazine paper (28% of 2010 sales). It has around 10% of the global 

newsprint market and around 5% of the global magazine paper market. As demand 

patterns across different forest product categories overlap but are only partially correlated, 

Norske Skog’s narrow product mix results in lost diversification benefits compared 

with UPM, Stora Enso, etc. This is only somewhat mitigated by meaningful 

geographical diversification, with the following 2010 sales split: Europe 63%, Australasia 

20%, North and South America 11%, Asia 5%, Africa 1%. 

Cyclical and structural demand decline 

Demand for newsprint and magazine paper is highly cyclical and correlated with 

advertisement spending. Furthermore, the segments (particularly in mature markets) 

suffer from structurally declining demand due to conversion to digital media. Other 

structural challenges facing Norske Skog are overcapacity and poor supply discipline. 

The long-term structural challenges resulted in a generally weak point of departure 

heading into the significant economic downturn. 

2010 stuck in the middle 

While operating efficiency is highly important in the competitive and commoditised 

forest products industry, Norske Skog has a moderately to relatively strong cost 

position, reflecting its size and efficiency in most of its machinery and several profitability 

improvement programmes. Norske Skog has weak pricing power in its endmarkets 

and an exposure to input cost volatility owning to limited integration of 

wood operations. Following surging pulp and recovered paper prices over the last 12 

months and plunging newsprint prices in the annual 2010 contracts, Norske Skog was 

stuck in the middle, with very weak earnings and cash generation as a result. However, 

2011 looks more positive due to considerable price increases, both within 

newsprint and magazine paper. The European newsprint market has been characterised 

by a time-delayed correlation between capacity utilisation and pricing, as contract 

prices are fixed. Recently, though, the industry has to some extent been adopting 

quarterly instead of annual contracts, so the time-delay should be less pronounced 

going forward. NOK accounts for a small proportion of Norske Skog’s sales, while a 

relatively large proportion of the cost base is located in Norway. This creates a longterm 

currency mismatch, affecting competitiveness and margins. 

Divestments have lowered debt and now a rights issue could be ahead 

Material asset divestments in recent years (Korean assets in 2008, Chinese assets in 

2009, various properties in 2008 and 2009) have significantly lowered debt levels. 

However, cash flow has contracted significantly and Norske Skog was downgraded 

to B- (Negative Outlook) in August 2010 by S&P, primarily due to refinancing risk, 

tightening covenant headroom and poor operating performance. However, as part of 

the agenda for its AGM on 14 April 2011, the board proposes a rights issue (max 

10% of share capital), together with convertible bond issues (max NOK800m and 

10% of share capital if converted). This is part of a strengthening for potential consolidation. 

HOLD 


Corporate ticker: NSINO 

Equity ticker: NSG NO 

Market cap: NOK3.1bn 

Ratings: 

Moodys rating: B2 / NO 

S&P rating: B- / NO 


Analyst: 



+45 45128519 



+45 45148886 


Strengths: 

• Market-leading positions 

• Moderate geographical diversification 

• Moderate to relatively strong cost 

efficiency 

• Material debt reductions in recent 

years 

Challenges: 

• Narrow product mix 

• Structurally declining and cyclical 

demand 

• Volatile input costs and weak pricing 

power 

• Weak credit metrics and liquidity 

profile 


134 | 13 April 2011 



Liquidity 

While substantial asset disposals in recent years have provided a cash reserve to meet 

short-term debt maturities, significant refinancing risk looms, especially in 2012. 

Cash and equivalents amounted to NOK4.4bn as of end-2010, while LTM FOCF was 

neutral in 2010. Although uncertain, Moody’s expects FOCF to improve in 2011. 

This compares with debt maturities totalling NOK2bn in 2011 and NOK3.8bn in 

2012. 

Norske Skog plans to continue debt reduction through further asset divestments. We 

still emphasise latent value in Norske Skog’s long-term in-the-money electricity 

supply contracts (valued at around NOK3bn as of end-2010). However, this asset 

should not be seen as fully liquid. While we expect debt maturities in 2011 to be 

covered with available cash resources, refinancing risk relates to a EUR400m fullydrawn 

credit facility maturing Feb 2012. Full repayment could be contingent on 

uncertain asset divestments and positive free cash flow. According to its 2010 report, 

Norske Skog is in dialogue with the lenders regarding refinancing of debt maturing in 

2011 and 2012. 

Covenant headroom 

The EUR400m credit facility maturing 2012 contains financial covenants. If no 

waiver is obtained, a breach of covenants could cause early redemption and crossdefault 

on virtually all the company’s debt. At end-2010, the gearing ratio was 0.87x 

against a permitted maximum of 140%. This compared with 0.8x at end-2009. Tangible 

net worth, defined as total book value of equity less intangible fixed assets, was 

about NOK10bn, against a minimum of NOK9bn. This compared with NOK11.7bn 

at end-2009. S&P views the covenant headroom as tight, owing to poor profitability, 

impairment charges and volatility in the value of long-term energy contracts. 


2010 was a tough year 

The operating environment for Norske Skog was tough in 2010, as low paper prices 

in Europe in combination with higher input costs, especially related to recovered 

paper and market pulp, weighed on performance. Sales went down by 7% to 

NOK19bn, despite slightly higher delivered volumes. The 2010 cash flow from operating 

activities declined to NOK397m, from NOK1.7bn in 2009, due to weak operating 

earnings, redundancy expenses related to 2009 being paid for in 2010, and the 

change in NWC. 


NOKm 

6000 

5000 

4000 

3000 

2000 

1000 


Profitability 

NOKm 

0 

35.000 

30.000 

25.000 

20.000 

15.000 

10.000 

5.000 

2011 2012 2013 2014 2015 2016+ 

0 

2006 2007 2008 2009 2010 



Sales by category, 2010 

Energy 

10% 

Magazine 

Paper 

28% 

Other 

10% 

20% 

15% 

10% 

5% 

0% 

Newsprint 

52% 

Norske Skog reported weak Q4 10 numbers – as expected – with revenue amounting 

to NOK5.2bn and clean EBITDA NOK479m, resulting in a margin of 9.3%. Clean 

EBITDA increased 18% q/q with volumes up 4-5% q/q, largely due to seasonality. 

The net loss in Q4 10 amounted to NOK198m, compared with a NOK244m loss in 

the previous quarter and a NOK667m profit in the same period last year. As in previous 

period, Newsprint Europe was very weak due to lower prices and surging input 

costs, resulting in a clean EBITDA loss. This was to some extent offset by better 

results in Newsprint outside Europe and Magazine paper. 

As the majority of interest payments fall due in the second and fourth quarters, cash 

flow was fairly weak in Q4 10. Net debt declined to NOK8.9bn, which was slightly 

lower sequentially and down from NOK9.6bn at end-2009. 

Credit metrics remain very weak with adjusted net debt/EBITDA of 6.8x, FFO/adj. 

net debt of 7% and neutral FOCF generation. We expect credit metrics to improve in 

2011 – but to remain weak – as higher European newsprint prices, an implementation 

of quarterly price agreements (lowering earnings volatility, all else equal), higher 

European magazine paper prices and stable prices in Australasia are likely to improve 

margins, despite some continued input cost inflation. While further negative 

rating action cannot be ruled out, we expect some volume increase and meaningful 



NOKm 

20.000 

18.000 

16.000 

14.000 

12.000 

10.000 

8.000 

6.000 

4.000 

2.000 

0 

2006 2007 2008 2009 2010 



7 

6 

5 

4 

3 

2 

1 

0 

135 | 13 April 2011 



price increases in 2011 contracts to support a recovery in operating performance this 

year. 

Consolidation finally? 

In early September 2010, Finnish media reported that Stora Enso, Holmen and Norske 

Skog (three of the top four European newsprint producers, accounting for 40% of 

the European market) are planning a joint venture in Europe to reduce capacity and 

facilitate pricing power. Holmen and Stora Enso denied such discussions, while 

Norske Skog repeated its willingness to participate in restructuring, without commenting 

on specific discussions. While consolidation has been a theme for years, 

access to financing and disagreements on valuation have created difficulties. Following 

years of weak newsprint prices development, rapidly increased input costs, strong 

competition from digital media and weak (albeit improving) demand, the sector is 

desperate for action, and a joint venture could be the a feasible way to consolidate the 

industry. In our view, consolidation could end up being strongly beneficial for Norske 

Skog. 

In addition to this, on 21 December 2010, UPM announced an agreement to acquire 

Myllykoski, including alliance partner Rhein Papier GmbH, for a total enterprise 

value of EUR900m. While a number of issues remain to be resolved, including approval 

from the regulatory authorities, a transaction would finally bring some industry-consolidation 

in the European publication paper sector. If the transaction goes 

through, this could have positive spill-over effects for Norske Skog due to capacity 

shut-down. 

Rights issue and convertible bonds on the horizon 

As mentioned earlier, the Board has proposed a rights issue (max. 10% of share 

capital) together with convertible bond issues (max. NOK800m and 10% of share 

capital if converted). The purpose is to bring Norske Skog into a better financial 

position to play an active role in the consolidation, as well as increasing its flexibility. 

While we very much welcome further industry consolidation, as it undoubtedly 

makes sense from a business perspective, the exact constellation and transaction 

structuring will be crucial from a credit perspective. As Norske Skog is now starting 

to prepare financially for consolidation, this theme is likely to attract a lot of attention 

in 2011. In our view, this preparation is key, as a prerequisite for Norske Skog to 

play an active role in refinancing debt maturing in 2011 and 2012. Right now, the 

momentum for consolidation is good: in addition to the potential financial strengthening, 

better sales prices, higher risk appetite in the high-yield market and the 

UPM/Myllykoski consolidation are all in favour of more industry consolidation. In 

our view, Norske Skog could potentially play the role of either both acquirer or target, 

but irrespective of its role, the transaction financing will be the key credit driver. 


While we expect credit metrics to improve in 2011, we also expect internal cash 

generation to remain insufficient to meet the NOK3.8bn in 2012 debt maturities. 

While the CFO remains “confident” that the company will be able to roll its debt, we 

stress that refinancing risk is material and contingent on substantial investor risk 

appetite in the low end of the high yield segment. However, we by no means rule out 

that a smaller transaction may be possible, following a continued search for yield by 

investors and better short-term operating prospects. We also point to further asset 

divestments as a means to lower debt, although it could impair the business risk 

profile. Should the proposed rights and convertible bond mandate be accepted by 

shareholders, and subsequent be put into effect, this would most likely be a positive 

spread catalyst. 

With the 5Y CDS trading around 1.7x iTraxx Crossover (down from a peak of 2.7x 

in April 2010), we have a HOLD recommendation on the 5Y CDS. We also recommend 

to HOLD the highly illiquid NSINO 2017 (around ASW +588/579bp). 

136 | 13 April 2011 



Financial data Norske Skog 

Key figures (NOKm) 2006 2007 2008 2009 2010 

Net Sales 28,812 27,118 26,468 20,362 18,986 

Clean EBITDA 4,702 3,939 2,723 2,185 1,413 

Clean EBIT 1,476 1,060 100 -280 -580 

Net interest expenses 975 1,026 1,285 914 753 

Net profit -2,809 -618 -2,765 -1,400 -2,469 

FFO (1) 3,329 2,557 1,535 1,104 642 

Capex 1,722 1,746 1,283 580 411 

EBITDA-Capex 2,980 2,193 1,440 1,605 1,002 

RCF (2) 2,283 1,508 1,535 1,104 642 

FCF (3) 1,930 1,945 1,782 1,117 -14 

Net debt (4) 17,320 16,408 14,047 9,595 8,889 



Total debt 17,825 18,435 21,159 14,247 13,671 

Total capital (5) 36,375 34,027 34,791 26,262 23,854 

Ratios 

EBITDA margin (%) 16% 15% 10% 11% 7% 


EBITDA/Net interest exp. (x) 4.8x 3.8x 2.1x 2.4x 1.9x 


FFO/Adj. net debt 18% 15% 10% 11% 7% 



Adj. net debt/Total capital (%) 50% 50% 42% 40% 40% 


securities. (5) Net debt adjusted contingent liabilities/contractual obligations as reported. (6) Equity and unadjusted total debt. Source: Company data, Danske 

Markets 

Quarterly review (NOKm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 4,909 4,455 4,577 4,795 5160 

Clean EBITDA 472 275 275 384 479 

EBITDA margin (%) 10% 6% 6% 8% 9% 

Net income 667 -1,153 -874 -244 -198 

Adj. Net debt 10,382 10,252 11,086 9,785 9,676 

Adj. net debt/LTM EBITDA (x) 4.7 5.2 6.7 7.0 6.8 


Divisional quarterly overview (NOKm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Newsprint Net sales 2,999 2,613 2,840 2,944 2,999 

EBITDA margin 13% 9% 8% 12% 13% 

Magazine Paper Net sales 1,674 1,503 1,488 1,606 1,674 

EBITDA margin 10% 4% 3% 3% 10% 

Energy Net sales 435 589 495 527 435 

EBITDA margin -7% 8% 4% 6% -7% 


EBITDA margin -8% -10% -4% -8% -8% 


137 | 13 April 2011 



SCA 


Sweden-based SCA is one of the world’s three leading hygiene product companies, 

with strong brands within tissue, baby nappies, incontinence products and feminine 

hygiene products. While 58% of sales were generated by the relatively stable personal 

care and tissue operations in 2010, the remainder is derived from more cyclical 

activities in packaging, publication paper and solid wood operations. SCA is also one 

of the largest private owners of European forest land. SCA has 45,000 employees in 

more than 100 countries, but the geographical diversification is somewhat limited 

with a bias towards Europe, accounting for 75% of sales in 2010. Industrivärden AB 

is the largest shareholder with 10% of the shares and 29% of the votes. 


Large exposure to hygiene products and diverse earnings base 

SCA benefits from strong product diversity, with demand drivers across different 

divisions exhibiting a relatively low correlation. Compared with its ‘pure’ paper and 

forest industry peers, SCA has large exposure to the relatively stable hygiene product 

markets, accounting for 58% of sales in 2010. The hygiene sector is firmly consolidated, 

which further supports price and earnings stability. SCA’s geographical spread 

is fair, but with a strong reliance on Europe. SCA is the global leader in incontinence 

products, No.1 in Europe in tissue and No.3 in Europe in nappies and feminine care. 

In North America, SCA is the third-largest in away-from-home (AFH) tissue. In the 

cyclical and fragmented packaging sector, SCA is Europe’s second-largest supplier 

of containerboard and corrugated board. 

Operational efficiency and good level of vertical integration 

Pricing pressure from large retail chains and strong competition is somewhat offset 

by SCA’s strong brand portfolio (Libero, Libresse, Tena, Tork) and low-cost base. 

The company’s competitive cost position stems from efficient and modern machinery 

and a good geographical balance between production and sales. Furthermore, a good 

level of vertical integration reduces volatility in the cost base as SCA’s own forest 

resources provide 44% of its virgin fibre requirements. Its level of pulp self sufficiency 

is about 40% and about 75% of the company’s electricity needs are purchased 

externally, resulting in a relatively high exposure to energy and pulp price volatility. 

Focus on growing hygiene business relative to forest and packaging 

SCA pursues growing its hygiene business with focus on product innovation, higher 

value-added products and investments in greater emerging market presence. In the 

period from 2000-10, the hygiene business increased its share of sales to 58% from 

46%. We view the long-term demand prospects for hygiene products as attractive, 

although austerity measures are likely to result in pricing pressure or an adverse mix 

development from public accounts. Within packaging and forest, SCA focuses on 

improving cash flow and profitability through internal efficiency measures. The 

strategy of growing the hygiene business will increasingly position SCA as a consumer 

product company and less as a forest product company, which would reduce 

cyclicality. 

SELL 


Corporate ticker: SCACAP 

Equity ticker: SCAB SS 


Ratings: 


S&P rating: BBB+ / S 


Analyst: 



+45 45128519 



+45 45148886 


Strengths: 

• Strong market positions 

• Well-diversified operations with 

large exposure to relatively stable 

hygiene product market 

• Competitive cost position and 

good level of vertical integration 

• Relatively stable credit metrics 

over cycle 

Challenges: 

• Exposure to volatile costs including 

pulp and energy 

• Cyclical markets for publication 

paper and packaging 

• Risk of acquisitions to expand geographical 

scope of hygiene operations 


Credit metrics closing gap to requirements under BBB+ 

SCA is rated BBB+ and Baa1 by S&P and Moody’s, respectively. Moody’s revised 

the outlook to stable in October 2009. Credit metrics gradually reduced the gap to 

requirements for the BBB+ rating during 2010 and S&P stabilised the outlook in late 

September 2010. The rating headroom remains limited to pursue debt-financed 

M&A. 

138 | 13 April 2011 



Liquidity 

SCA has a front-end loaded debt maturity profile with substantial exposure to shortterm 

commercial paper (CP) financing. However, this is balanced by large back-up 

facilities. As of end 2010, SCA had cash and cash equivalents amounting to 

SEK1.9bn, and in addition to this, it had undrawn credit facilities of SEK28.4bn. As 

of end 2010, the main long-term credit facilities were a EUR1.1bn syndicated facility 

maturing in 2012 and a EUR1bn syndicated facility maturing in 2014. By year-end, 

SCA signed a new 5Y EUR1bn credit facility, which entered into effect from January 

2011. This facility refinances the old EUR1.1bn facility that was set to mature in 

2012. Moreover, two bilateral credit facilities of SEK6bn were terminated in January 

2011. SCA owns large areas of forest land, valued at SEK26bn at end-2010, which 

could be used as an extra source of liquidity. We expect FOCF to decline going forward 

but to remain solid as the working capital inflow is ended. As of end-2010, 

SCA reported SEK13.2bn of debt to mature in 2011, primarily CPs and the Eurobond 

mentioned below. 

SCA had a EUR700m Eurobond that matured in March 2011 and no longer has any 

Eurobond outstanding. We view the liquidity profile as adequate but see SCA as a 

likely new issue candidate to refinance the matured Eurobond without putting the full 

weight on credit facilities. 


Higher raw material costs but strong recovery in packaging 

2010 was characterised by higher raw material costs, which resulted in lower operating 

profitability in the hygiene business, despite favourable sales in personal care and 

AFH tissue. The packaging business, on the other hand, experienced significantly 

improved operating profit, despite a steep rise in raw material prices, as both volumes 

and prices were up. Moreover, savings from the restructuring programme started to 

kick in. Within the forest product business, the operating profit was broadly unchanged. 

In 2010, reported group sales were down SEK1.7bn to SEK109bn from SEK111bn in 

2009, but adjusted for exchange rate effects and divestments, however, they was 

actually up by 5%. Looking at the reported profitability, net profit was up SEK0.8bn 

to SEK5.6bn during the same period. From a credit perspective, the year 2010 clearly 

shows the diversification gains from being neither a pure hygiene business nor a pure 

pulp business, as internal company diversification reduced operating volatility. In 

2010, the operating margins changed to 12%, 8%, 5%, and 14% from 13%, 10%, 1%, 

and 15% in 2009, for Personal Care, Tissue, Packaging, and Forest Products, respectively. 

This compares to 2008 levels of 12%, 6%, 4%, and 13%. As the numbers 

show, the different business segments do not exhibit high positive correlation, which 

from a credit perspective is positive, as this in the longer term decreases cash flow 

volatility. 

Packaging also had a strong fourth quarter 

SCA reported Q4 10 numbers in line with consensus expectations. Both net sales and 

clean operating profit were flat y/y (but increased 8% and 5% y/y excluding FX) and 

amounted to SEK27.6bn and SEK2.6bn, respectively. The clean operating margin 

was unchanged at 9.3%. Net profit declined 3% y/y to SEK1.7bn. The large Personal 

Care and Tissue segments (22% and 36% of 2010 sales, respectively) again suffered 

from sharply higher raw material costs, which were only partially offset by higher 

volumes and prices. As a result, the operating profit declined 18% y/y in both segments 

to a combined SEK1.5bn. Meanwhile, Packaging (27% of sales) developed 

very favourably due to higher volume, higher prices and savings from the restructuring 

programme. As a result, operating profit almost tripled y/y to SEK567m. 


SEKm 

14000 

12000 

10000 

8000 

6000 

4000 

2000 

0 


Profitability 

SEKm 

120.000 

100.000 

80.000 

60.000 

40.000 

20.000 

0 





SEKm 

80.000 

70.000 

60.000 

50.000 

40.000 

30.000 

20.000 

10.000 

0 

2011 2012 2013 2014 2015 2016+ 

2006 2007 2008 2009 2010 


Packaging 

27% 

Forest 

Products 

15% 

Personal 

Care 

22% 

Tissue 

36% 

2006 2007 2008 2009 2010 



16% 

15% 

14% 

13% 

12% 

3,5 

3,0 

2,5 

2,0 

1,5 

1,0 

0,5 

0,0 

139 | 13 April 2011 



Credit metrics commensurate with current ratings 

Despite some additional build-up of working capital, cash flow remained solid during 

Q4 10. Net debt amounted to SEK34.4bn at year end compared with SEK40.4bn end 

2009. An 8% increase in the dividend to SEK4.00 per share (SEK2.8bn) is acceptable 

from a credit perspective, in our view. The debt/equity ratio was 51% at year 

end compared with 60% end 2009 and a long-term target of 70%. Over the last quarters, 

SCA has gradually closed the gap to S&P’s expectation of FFO to adjusted net 

debt around 30-35% (34% end 2010) for the BBB+ rating. 

SCA expects the favourable demand conditions to continue and does not expect pulp 

prices to rise further (SCA is net short pulp). The company plans to raise newsprint 

paper prices more than 20% in 2011 (positive spill over to Norske Skog etc.) and 

aims to enter the Brazilian personal hygiene market through an acquisition or joint 

venture. We do not view larger debt-funded acquisitions as consistent with the current 

rating. 

Attractive long-term demand outlook 

In the longer term, the demographic development towards ageing populations in 

developed countries and growth in emerging markets support demand for personal 

care products. However, the product mix could change towards simpler grades, as 

SCA reports greater price sensitivity among customers and rising cost consciousness 

in the public healthcare sector. The strategy of growing the hygiene business will 

increasingly position SCA as a consumer product company and less as a forest product 

company, which reduces cyclical dependence. In April 2010, SCA closed the 

divestment of the Asian packaging operation to International Paper, for a cash consideration 

of USD200m. 


We are positive on SCA’s large exposure to the relatively resilient and profitable 

hygiene operations, but carefully monitor the ability to offset surged pulp and input 

costs with higher selling prices, given the increased price consciousness in the public 

sector in particular. We expect credit metrics to remain commensurate with the 

BBB+ rating, despite our expectation of lower FOCF over the coming 12 months. 

The main risks for debt investors, in our view, are further increases in pulp prices 

(not our main scenario, although we do not expect a hard landing either) and large 

debt-financed acquisitions to capture growth opportunities and increase the geographical 

scope of the hygiene operations. 

The 5y CDS on SCA is very illiquid, which is partially explained by low hedging 

demand, as the only Eurobond matured in March 2011 and was by far covered by 

available facilities. The 5y CDS is too tight, in our view (although this is partially 

explained by few deliverable assets into the CDS), and we recommend buying protection 

on SCA around 63/68bp. If SCA were to print a new Eurobond, it could mark 

an opportunity to turn more positive on the name. We view the liquidity profile as 

adequate but see SCA as a likely new issue candidate to refinance the matured 

EUR700m Eurobond without putting the full weight on credit facilities. 

140 | 13 April 2011 



Financial data SCA 


Net Sales 101,439 105,913 110,449 110,857 109,142 

EBITDA 14,538 15,976 14,753 15,018 15,001 

EBIT 8,505 9,847 8,554 8,190 8,677 


Net profit 5,432 7,167 5,598 4,830 5,592 

FFO (1) 9,251 11,034 9,347 11,974 12,057 

FFO (adj. for op. leases) 10,153 11,955 10,218 12,964 13,161 

Capex 7,081 6,991 8,635 7,215 6,370 

EBITDA-Capex 7,457 8,985 6,118 7,803 8,631 

RCF 7,568 9,016 7,090 10,466 10,504 

FCF (3) 264 -195 -2,435 5,568 1,988 

Net debt (4) 36,399 37,368 47,002 40,430 34,406 


Equity (excl. minorities) 58,963 64,279 67,252 67,906 67,821 

Total debt 38,389 42,433 52,029 44,104 36,506 

Total capital (6) 97,352 106,712 119,281 112,010 104,327 

Ratios 

EBITDA margin (%) 14% 15% 13% 14% 14% 





FFO(adj)/Adjusted net debt 25% 29% 20% 29% 34% 






securities. (5) Net debt adjusted contingent liabilities/contractual obligations as reported. (6) Equity and unadjusted total debt. Source: Danske Markets 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 27,507 26,722 27,652 27,204 27,564 

Clean-EBITDA 4,265 3,643 4,134 4,113 4,144 

Clean-.EBITDA margin (%) 16% 14% 15% 15% 15% 

Net income 1,727 1,083 1,601 1,741 1,680 

Net debt 40,430 37,713 40,846 38,014 34,406 





Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Personal Care Net sales 6,393 6,109 6,418 6,125 6,375 

EBIT margin 14% 12% 12% 11% 12% 

Tissue Net sales 10,338 9,728 10,064 9,924 10,154 

EBIT margin 9% 7% 8% 8% 8% 

Packaging Net sales 6,960 7,253 7,583 7,392 7,405 

EBIT margin 2% 3% 4% 7% 8% 

Forest Products Net sales 4,201 4,110 4,308 4,415 4,290 

EBIT margin 16% 12% 16% 16% 14% 


141 | 13 April 2011 



Stora Enso 


Stora Enso is one of the three largest diversified forest product companies globally 

with leading positions in newsprint, fine paper, magazine paper, consumer board, 

packaging and wood products. End-2010, Stora Enso had 26,400 employees and 

almost 90 production facilities in more than 35 countries, with sales mainly focused 

on Europe. The company enjoys a stronger-than-average cost position supported by 

relatively efficient machinery and a relatively high degree of vertical integration into 

the key inputs of fibre, energy and pulp. The largest owners are Foundation Asset 

Management (the Wallenberg family) with 10% of shares and 27% of votes and the 

Finnish state (Solidium Oy) with 12% of shares and 25% of votes. 


Well-diversified operations only partially mitigate strong cyclicality 

Stora Enso has a well-diversified product mix and enjoys leading market positions in 

newsprint, magazine paper, fine paper and packaging. Demand patterns across different 

forest products overlap but are only partially correlated, offering some diversification 

benefits. The company has reasonably sound geographical diversification of 

sales with a bias toward Europe. This partially mitigates exposure to the highly competitive, 

capital-intensive, commoditised, fragmented and cyclical forest product 

industries. Pricing power is generally weak, increasing the exposure to input cost 

volatility. 

Relatively strong operational efficiency and vertical integration 

Stora Enso benefits from relatively low-cost production capabilities driven by significant 

economies of scale and relatively efficient machinery. Vertical integration 

into key inputs is relatively high with Stora Enso being self-sufficient in pulp, around 

60% self-sufficient in energy and about 10% in fibre. Stora Enso benefits from increased 

low-cost eucalyptus-based pulp sourcing from Latin American assets. We 

expect the company to further downsize high-cost Finnish capacity in the medium 

term, as Stora’s new large 1.3m t/a Uruguayan pulp mill is expected to be operational 

by the end of Q1 13. We view that the eucalyptus-based pulp mill will further 

diversify and strengthen Stora Enso’s raw material supply and access to low-cost 

pulp. 

Improving demand and pricing in 2010, but also increasing costs 

Years of structural supply and demand challenges created a weak point of departure 

heading into the financial crisis. Around 50% of Stora Enso’s sales in 2010 were 

derived from the graphic paper segments of newsprint, magazine and coated fine 

paper exhibiting strong cyclicality. However, Stora Enso also has a strong presence 

in the relatively more stable and profitable consumer and industrial packaging segments, 

representing around 30% of sales in 2010. Among the different forest product 

categories where Stora Enso is active, conditions in packaging are currently recovering 

the most while newsprint remains challenging despite increasing prices in the 

recent round of contract negotiations. Overall, demand recovered moderately in 2010 

from very weak levels and, where possible, producers are implementing price increases 

following increased input costs (notably pulp) and increased capacity utilisation. 

Credit metrics are strong for the current BB rating 

The company has made significant portfolio revisions in recent years, incl. the disposal 

of the North American operations for USD2.5bn in late-2007 and the merchant 

business operations Papyrus for EUR640m in April 2008. The lion’s share of the 

proceeds has been used for debt reduction. Recently, Stora has announced large 

investments in both Uruguay (50% of EUR1.4bn) and Poland (EUR285m). We view 

credit metrics as strong for the rating, but we do not expect this to improve much 

further. 

142 | 13 April 2011 

SELL 


Corporate ticker: STORA 

Equity ticker: STERV FH 


Ratings: 

Moodys rating: Ba2 / PO 

S&P rating: BB / PO 

Fitch rating: BB / S 

Analysts: 



+45 45 12 85 19 



+45 45 14 88 86 


Strengths: 

• Leading market positions and 

benefits from economies of scale. 

• High diversification across forest 

product categories. 

• Relatively cost efficient machinery. 

• Increased integration with lowcost 

Latin American pulp sourcing. 

Challenges: 

• Exposed to highly competitive, 

commoditised and cyclical forest 

product industry. 

• Structural demand challenges and 

excess capacity in some segments 

• Exposure to input cost volatility 

and limited pricing power. 

• Weak and cyclical credit metrics. 




Liquidity 

As of end-2010, Cash and equivalents amounted to an impressive EUR1.1bn, up 

from EUR890m and EUR416m in 2009 and 2008. However, FOCF was down to 

EUR277m from EUR721m in 2009. Stora’s previous liquidity reserve, a EUR1.4bn 

committed credit facility maturing 2012, has been refinanced with a EUR700m 

committed credit facility agreement, effective from January 2011 and maturing in 

January 2014. The new facility is free of covenants. Stora also has access to various 

sources of funding of up to EUR700m. This compares with EUR750m and 

EUR260m of debt maturing in 2010 and 2011. We view the liquidity profile as 

strong. 

Stora Enso has successfully accessed debt capital markets on several occasions in 

2009 and 2010. In May 2009, Stora effectively reopened the European HY market, as 

it made a EUR232m tap of its existing 5.125% 2014 bond priced with a huge discount. 

Most recently, Stora Enso issued two five-year bonds totalling SEK2.3bn in 

August 2010 and in November 2010 it tapped them for an additional SEK1.5bn. 


Continued improvement in market conditions 

2010 was a strong year for Stora Enso, primarily due to a significantly improved 

operating environment. Sales and earnings clearly tell the story, as net sales and net 

profit increased to EUR10.2bn and EUR 0.8bn, respectively, compared with 

EUR8.9bn and losses of EUR0.9bn the year before. From a cash flow perspective, 

the underlying cash generation improved too, as FFO increased to EUR1.1bn compared 

with EUR 0.7bn the year before. However, primarily due to increasing net 

working capital, FOCF decreased to EUR277m from EUR721m the year before, 

albeit still positive. 


EURm 

1800 

1600 

1400 

1200 

1000 

800 

600 

400 

200 

0 

2011 2012 2013 2014 2015 2016+ 


Profitability 

EURm 

15.000 

20% 

13.000 

11.000 

15% 

9.000 

7.000 

10% 

5.000 

3.000 

5% 

1.000 

-1.000 

0% 

2006 2007 2008 2009 2010 



In Q4 10, Stora Enso reported sales of EUR2.7bn (up 12% y/y and 2% q/q) in line 

with expectations and net profit of EUR313m (significantly up sequentially and 

compared with last year) somewhat ahead of expectations. However, net profit was 

significantly improved by a EUR238m net reversal of impairments. Clean EBITDA 

improved 27% y/y but declined 21% sequentially to EUR289m, resulting in a margin 

of 10.8%. Clean EBITDA sequentially declined as higher sales prices in local currencies 

did not fully compensate for higher costs, especially for maintenance and 

lower volumes. Maintenance costs were EUR34m higher sequentially and volume 

lost due to maintenance decreased operating profit by EUR20m. 

Sales by segment 2010 

Industrial 

Packaging 

9% 

Wood 

Products 

16% 

Newsprint 

and Book 

Paper 

13% 

Magazine 

19% 

Cash flow remained solid during the Q4 despite a modest build-up of net working 

capital. Net debt amounted to EUR2.4bn end-2010 and cash and cash equivalents 

remained strong at EUR1.1bn. Adjusted net debt/EBITDA improved to 2.6x, and 

adjusted FFO/net debt was 33% at end-2010. Demand for European newsprint is 

expected to be slightly weaker in 2011, while European prices are expected to return 

to the much higher 2009 levels. European magazine paper prices and demand are 

expected higher, while fine paper prices and demand are expected to be unchanged. 

Stora Enso expects to fully offset 3% 2011 input cost inflation. In its short-term 

outlook, Stora Enso expects Q1 11 clean operating profit to sequentially improve. 

Credit metrics are improving and are now strong for current ratings 

LTM FFO/adjusted net debt improved massively to 33% after Q4 10 (28% after Q2 

10 and 20% after Q4 09) while LTM FOCF/adjusted net debt fell to 13% (22% after 

Q2 10 and 26% after Q4 09). However, this FOCF phenomenon is actually not all 

that negative, as it is due to increased net working capital arising from the much 

higher activity level in 2010 compared with 2009. Capex is broadly unchanged at 

EUR377m in 2010 compared to EUR389 in 2009. Adjusted net debt to LTM 

EBITDA improved to 2.6x from 3.3x after Q2 10 and 4.2x after Q4 09. 

Consumer 

Board 

23% 



EURm 

9.000 

8.000 

7.000 

6.000 

5.000 

4.000 

3.000 

2.000 

1.000 

0 

Fine Paper 

20% 

2006 2007 2008 2009 2010 



3,5 

3,0 

2,5 

2,0 

1,5 

1,0 

0,5 

0,0 

143 | 13 April 2011 



We would not be surprised to see both Moody’s and S&P upgrade Stora Enso one 

notch to Ba1/BB+ during 2011, as current credit metrics are strong for the ratings, 

highlighted by the positive outlook from S&P on 15 December 2010. However, we 

do not expect credit metrics to further improve from current levels as Stora Enso 

expects 2011 capex to increase to EUR550m (from EUR400m in 2011). Furthermore, 

the company must inject about EUR280m in equity into the Uruguayan Montes 

del Plata joint venture to partially finance the new large 1.3m tonnes pulp mill 

expected to be operational in 2013 (see more below). While supportive of the longterm 

business risk profile, we see the pulp mill investment as moderately increasing 

Stora Enso’s medium-term financial risk profile. 

Latin American assets and the shutdown of Finnish capacity 

In October 2009, Stora Enso completed the acquisition of about 130,000 hectares of 

land and plantations in Uruguay. The acquisition was carried out on a 50:50 basis 

with Stora’s partner in Brazil, Arauco, and the enterprise value amounted to 

USD344m. On 4 February 2010, Stora Enso and Arauco’s joint venture company in 

Uruguay, Montes del Plata, initiated a feasibility study for an associated new pulp 

mill. Then, on 18 January 2011, Stora Enso announced that Montes del Plata will 

build a new large 1.3m tonnes per year Uruguayan pulp mill. The project, comprising 

a state-of-the-art pulp mill, a deepwater port and a power generation unit, is expected 

to be operational by the end of Q1 13 and will add an impressive 2% to Uruguay’s 

GDP. The total investment is estimated to be EUR1.4bn, and each joint venture 

owner will be entitled to half of the mill’s output. The investment is 60% debtfinanced 

through loans raised by Montes del Plata (guaranteed by parents) while the 

residual 40% is financed through equity (50:50 split between Stora Enso and 

Arauco). We view that the new eucalyptus-based pulp mill will further diversify and 

strengthen Stora Enso’s raw material supply and access to low-cost pulp. Stora Enso 

announced material reductions in its high-cost Finnish manufacturing base in August 

2009. About 450-1,100 employees in Finland would be affected by the plans and the 

targeted annual operating profit improvement is estimated in the range of EUR140- 

160m. We expect the company to further downsize high-cost Finnish capacity in the 

medium term. 


We are positive on Stora Enso’s relatively low-cost production capabilities driven by 

significant economies of scale, relatively efficient machinery and fair integration into 

key inputs. Credit metrics are strong for the BB rating. While several things indicate 

that the tailwind from a sharply rising pulp price is currently losing momentum, we 

do not expect a hard landing for the pulp price. 

We maintain a SELL recommendation on Stora Enso (STERV’14 trading around 

ASW +134/115bp) and recommend buying the 5y CDS (around 210/215bp). We see 

current spreads as too tight relative to a curve of BB industrials (prices more like a 

BBB- general industrial) and do not believe that current pricing adequately reflects 

risk factors inherent in the paper and forest industry. 

144 | 13 April 2011 



Financial data Stora Enso 


Net Sales 14,594 13,374 11,029 8,945 10,297 

EBITDA 1,848 1,455 1,027 823 1,217 

EBIT excl non-rec items 757 1,172 388 321 754 


Net profit 589 -215 -675 -878 769 

FFO (1) 1,168 1,231 531 665 1,084 

Capex 583 784 706 389 377 

EBITDA-Capex 1,265 671 321 399 840 

RCF (2) 812 876 176 507 926 

FCF (3) 518 -239 -449 721 277 

Net debt (4) 4,234 2,955 3,124 2,594 2,410 



Total debt 5,247 4,441 4,076 3,937 4,004 

Total capital (6) 13,150 11,989 9,727 9,119 10,259 

Ratios 

EBITDA margin (%) 13% 11% 9% 9% 12% 





FFO/Adjusted net debt (x) 21% 31% 13% 20% 34% 

RCF/Adjusted net debt (x) 15% 22% 4% 15% 29% 




securities. (5) Net debt adjusted contingent liabilities/contractual obligations as reported. (6) Equity and unadjusted total debt. Source: Danske Markets 

Overview (EURm) 

Q4 09 Q3 10 Q4 10 yr/yr qtr/qtr 

Net sales 2,399 2,624 2,685 12% 2% 

EBITDA 227 382 289 27% -24% 

EBIT 138 255 167 21% -35% 

Net financial expenses -25 -52 -22 -12% -58% 

Net income 46 194 313 582% 61% 

Capex 102 74 139 37% 89% 

EBITDA capex 125 308 150 20% -51% 

Total debt 3,937 4,058 4,011 2% -1% 

Net debt 2,594 2,445 2,410 -7% -1% 

Equity (incl. minorities) 5,183 5,782 6,255 21% 8% 

Adj. net debt/LTM EBITDA (x) 4.2x 2.8x 2.6x 

LTM FFO/Adj. net debt (%) 19.8% 34.6% 33.3% 

LTM FOCF/Adj. net debt (%) 26.2% 24.5% 12.6% 


145 | 13 April 2011 



UPM-Kymmene 


Finnish group UPM-Kymmene is among the top three diversified forest products 

companies in the world, with world-leading positions in magazine paper (roughly 

20% of global market), newsprint and fine paper. It also holds strong positions in 

label materials and wood products. UPM has market-leading operating efficiency and 

asset quality. In 2010, it had production facilities in 15 countries and employed 

22,000 people. While its products are sold worldwide, UPM’s most important market 

is Europe, accounting for 69% of sales in 2010. UPM has a very diversified and 

international shareholder structure with no majority owner. 


Well-diversified operations only partially mitigate strong cyclicality 

UPM has a well-diversified product mix with global-leading positions in the magazine 

paper, newsprint and fine paper segments. It also has strong positions in the 

specialty segment of self-adhesive label materials, as well as in wood products (plywood 

and sawn timber). Sales have reasonably good geographical diversification 

with Europe, Asia, the US and Rest of the World accounting for 69%, 14%, 12% and 

5% of sales, respectively, in 2010. This partially mitigates exposure to the highly 

competitive, capital-intensive, commoditised, fragmented and cyclical nature of 

forest product industries. Demand patterns across different forest products overlap 

but are only partially correlated, offering some diversification benefits. Pricing power 

is generally weak, increasing the exposure to input cost volatility. 

Leading operational efficiency and vertical integration 

UPM benefits from substantial economies of scale, a low cost base, best-in-class 

asset quality and a high degree of vertical integration into key inputs. UPM is currently 

self-sufficient in pulp and 93% self-sufficient in energy, through ownership 

stakes in part-owned energy companies that entitle UPM to acquire power at generation 

cost. Its own wood resources are limited however, and UPM is only 25% selfsufficient 

in fibre. In December 2009, Metsä-Botnia and its owners (M-real 30%, 

Metsäliitto 53%, UPM 17%) closed a restructuring of asset ownership. The transaction 

further diversified and strengthened UPM’s raw material supply and access to 

low-cost eucalyptus pulp. 

Improving demand and pricing in 2010, but also increasing costs 

Years of structural supply and demand challenges created a weak point of departure 

heading into the financial crisis. Graphic paper (newsprint, magazine and coated fine 

paper) represented almost 70% of UPM’s 2010 sales. These segments are generally 

more cyclical and suffer from a greater structural decline in demand than most other 

forest product categories. Overall, demand recovered moderately from very weak 

levels throughout 2010, and where possible producers are implementing price increases 

following higher input costs (notably pulp) and increased capacity utilisation. 

HOLD 


Corporate ticker: UPMKYM 

Equity ticker: UPM1V FH 


Ratings: 

Moodys rating: Ba1 / S 

S&P rating: BB / S 

Fitch rating: BB / S 

Analyst: 



+45 45128519 



+45 45148886 


Strengths: 

• Leading market positions, benefits 

from economies of scale 

• Leading cost efficiency 

• Wide diversification across forest 

product categories 

• High integration in energy and lowcost 

Latin American pulp sourcing 

Challenges: 

• Exposed to highly competitive, 

commoditised and cyclical forest 

products industry 

• Structural demand challenges and 

excess capacity in some segments 

• Exposure to input cost volatility 

and limited pricing power 

• Weak and cyclical credit metrics 


Myllykoski acquisition 

On 21 December 2010, UPM announced an agreement to acquire Myllykoski, including 

alliance partner Rhein Papier GmbH, for a total enterprise value of 

EUR900m. While a number of issues remain to be resolved, including approval from 

regulatory authorities, a transaction would finally bring some much-needed consolidation 

in the European publication paper sector (more details below). 

146 | 13 April 2011 



Liquidity 

As of end-2010, UPM had cash and cash equivalents amounting to EUR269m and 

two unused committed credit facilities of EUR1bn and EUR825m, respectively. The 

EUR1bn facility – with maturity in March 2012 – was refinanced with a new 5Y 

EUR0.5bn facility in March 2011. According to UPM, the facility is halved in size, 

as UPM does not need such large back-up facilities. S&P expects UPM to maintain 

considerable headroom in respect of a financial covenant (undisclosed) related to the 

EUR825m facility. LTM FOCF after 2010 was strong and amounted to EUR725m. 

This compares with around EUR600m of debt maturing in 2011, EUR850m in 2012 

and EUR250m in 2013. We view the liquidity profile as solid. 


Strong operating performance in 2010 

As for most other pulp and paper companies, 2010 was a strong year for UPM, and 

net sales increased by 16% to EUR9bn, primarily driven by volumes. Clean EBIT 

and net profit improved by 171% to EUR731m and 232% to EUR561m, respectively. 

UPM reported Q4 10 sales and net profit marginally ahead of consensus expectations. 

Sales increased 12% y/y to EUR2.4bn, but clean EBITDA declined 12% y/y to 

EUR318m as higher variable and fixed costs combined with increased maintenance 

outweighed a 3% y/y increase in the average EUR paper price and increased volumes. 

As a result, the clean EBITDA margin decreased to 13.5%, from 16.6% in the 

previous quarter and 17.2% in the same period last year. A 3% increase in paper 

deliveries did not prevent a continued clean operating loss in the Paper segment due 

to higher raw material costs, manifesting the desperate need for additional price 

increases. This was only partially offset by improved performance in the Pulp segment. 

Cash flow remained solid during the quarter, resulting in a further reduction in net 

debt to EUR3.3bn. Credit metrics marginally improved sequentially, as reflected in 

adjusted net debt/EBITDA of 2.9x (3.0x after Q3 10, 4.0x at end-2009). The dividend 

for 2010 is increased to EUR0.55/share, from EUR0.45/share in 2009. 

UPM gave an optimistic H1 11 outlook in its annual report, as it expects sales prices 

to increase, especially in paper, while volumes across the group’s business areas are 

expected to either remain stable or increase. UPM sees variable cost inflation moderating 

from the pace in 2010. All in all, this leads UPM to expect clean EBIT to be 

clearly higher in H1 11 than in H1 10. 

Myllykoski acquisition more details 

After UPM confirmed in September 2010 that it was in discussions to acquire 

Myllykoski, on 21 December 2010 it announced an agreement to acquire Myllykoski 

including alliance partner Rhein Papier GmbH for a total enterprise value of 

EUR900m. This price tag is in line with our previous expectations. The transaction, 

which is subject to customary closing conditions and is expected to close during Q3 

11, consists of seven publication paper mills in Germany, Finland and the US, with a 

total annual capacity of 2.8m tonnes, and 0.8% of the Finnish energy company PVO. 

UPM expects EUR100-150m in restructuring costs and will recognise a EUR300m 

one-off gain from the transaction. 


EURm 


Profitability 

EURm 





EURm 

1800 

1600 

1400 

1200 

1000 

800 

600 

400 

200 

0 

12.000 

10.000 

8.000 

6.000 

4.000 

2.000 

0 

8.000 

7.000 

6.000 

5.000 

4.000 

3.000 

2.000 

1.000 

0 

2011 2012 2013 2014 2015 2016+ 

2006 2007 2008 2009 2010 


Plywood 

4% 

Label 

12% 

Other 

1% 

Energy 

3% Pulp 

4% 

Forest and 

timber 

8% 

Paper 

68% 

2006 2007 2008 2009 2010 



20% 

15% 

10% 

5% 

0% 

4,0 

3,5 

3,0 

2,5 

2,0 

1,5 

1,0 

0,5 

0,0 

Myllykoski is a private, family-owned company operating in coated and uncoated 

magazine paper (European top three) and newsprint. Myllykoski is a medium-sized 

European non-integrated producer and as a result it has been severely impacted by 

weak pricing power and sharply increased input costs over the last 18 months. Credit 

metrics are extremely weak, and according to Fitch the company is operating under a 

12-month extension negotiated with creditors in March 2010. While creating some 

shorter-term risks to the business risk profile (execution and integration risks, etc.), 

147 | 13 April 2011 



we believe that the rationale behind including target assets into UPM’s verticallyintegrated 

operations makes sense and strengthens its business risk profile. As 

Myllykoski is not self-sufficient in pulp, UPM is likely to end up being net short in 

pulp. UPM estimates annual synergies exceeding EUR100m from 2012. Furthermore, 

increased consolidation within the troubled European magazine paper and 

newsprint segments improves pricing power and supply discipline, with clear benefits 

for UPM and sector peers. It could also trigger further consolidation in the sector. 

Credit metrics in line with BB rating also after Myllykoski transaction 

S&P downgraded UPM from BB+ to BB in February 2010. For the current rating, 

S&P expects FFO to adjusted net debt of 20% and adjusted net debt to EBITDA of 

3.5x. After FY 10, LTM FFO to adjusted net debt improved to 29% (17% after FY 

09), while LTM FOCF to adjusted net debt softened to 19% (24% after FY 09). Adjusted 

net debt to LTM EBITDA improved to 2.9x (4.0x after FY 09). 

The Myllykoski transaction will be financed through approx. EUR60m equity (a 

directed share issued of 5m UPM shares) and EUR800m in new bank loans with an 

average maturity exceeding five years and no financial covenants. The gearing ratio 

is estimated by the UPM to increase by 8 percentage point (46% at end-2010 and 

56% at end-2009). We only expect adjusted net debt/EBITDA to soften by around 

0.1x as a consequence of this transaction (2.9x at end-2010), and we would therefore 

be surprised to see negative rating actions, also considering the gradual strengthening 

of credit metrics throughout 2010. This view is in line with the stable outlooks assigned 

by all three rating agencies. 

Asset ownership restructuring increases access to low-cost pulp 

In July 2009, Metsä-Botnia and its owners signed a letter of intent regarding an asset 

restructuring, and the transaction closed in December 2009. Broadly speaking, 

UPM’s net debt increased by around 10%, while the company gained relatively 

cheap full ownership of attractive low-cost eucalyptus-based assets. In particular, 

Metsä-Botnia’s and Metsäliitto’s shares of the Fray Bentos pulp mill and Forestal 

Oriental plantation forestry company were acquired by UPM. In addition, UPM 

acquired 1.2% of the energy company PVO from Metsä-Botnia. After the transaction, 

Metsa-Botnia is owned 30% by M-real, 53% by Metsäliitto and 17% by UPM, 

while M-real is compensated through a cash payment and debt transfer. The transaction 

further diversifies and strengthens UPM’s raw material supply and access to 

important low-cost eucalyptus pulp. It lowers UPM’s pulp capacity at Metsä-Botnia’s 

higher-cost Finnish mills by 700,000 tonnes, while increasing its low-cost eucalyptus 

pulp production by approximately 500,000 tonnes. The Uruguayan mill is UPM’s 

largest. 


We are positive on UPM’s substantial economies of scale, low cost base, best-inclass 

asset quality and high degree of vertical integration into key inputs. Credit 

metrics have recently moved in line with expectations for the BB rating. While several 

things indicate that the tailwind from a sharply rising pulp price is currently 

losing momentum, we do not expect a hard landing for the pulp price. 

We keep a HOLD recommendation on UPMKYM ’12 (around ASW +74/10bp) and 

the 5Y CDS, trading around 215/220bp. While the Myllykoski-acquisition is mainly 

bank debt financed, we expect it to be managed within current ratings and not directly 

result in new debt capital market supply. 

148 | 13 April 2011 



Financial data UPM-Kymmene 


Net Sales 10,022 10,035 9,461 7,719 8,924 

EBITDA 1,678 1,546 1,206 1,062 1,343 

EBIT (clean) 725 835 513 270 731 

Net interest expenses 176 191 202 -62 117 

Net profit 275 81 -180 169 561 

FFO (1) 1,194 1,071 760 727 1,121 

Capex 631 683 532 236 241 

EBITDA-Capex 1,047 863 674 826 1,102 

RCF (2) 802 679 376 519 887 

FCF (3) 192 -208 -288 815 507 

Net debt (4) 4,048 3,973 4,321 3,730 3,286 



Total debt 4,345 4,315 5,071 4,464 3,979 

Total capital (6) 11,634 11,098 11,191 11,066 11,088 

Ratios 

EBITDA margin (%) 17% 15% 13% 14% 15% 


EBITDA/Net interest expenses (x) 9.6x 8.1x 6.0x nm 11.5x 









securities. (5) Net debt adjusted contingent liabilities/contractual obligations as reported. (6) Equity and unadjusted total debt. Source: Company data, Danske 

Markets 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Energy Net sales 128 174 116 124 153 

EBITDA margin 45% 45% 34% 39% 46% 

Pulp Net sales 226 341 455 489 413 

EBITDA margin 23% 35% 44% 49% 40% 

Forest and timber Net sales 348 339 393 387 402 

EBITDA margin 9% 1% 7% 5% 1% 

Paper Net sales 1,558 1,401 1,540 1,672 1,656 

EBITDA margin 14% 5% 5% 4% 4% 

Label Net sales 252 260 280 284 276 

EBITDA margin 10% 12% 12% 12% 9% 

Plywood Net sales 81 76 97 83 91 

EBITDA margin 4% -3% 2% 2% -1% 


EBITDA margin -77% -45% -37% -51% -17% 


149 | 13 April 2011 



150 | 13 April 2011 



Telecoms, Media & Technology 

151 | 13 April 2011 



Elisa 


Elisa Corporation is the largest mobile and fixed-line operator in Finland and also holds 

a number two position in the Finnish broadband market. Importantly, Elisa is the dominant 

operator in the Helsinki area, where 25% of the Finnish population live and the 

large majority of the country’s largest companies are based. Elisa also has some 

250,000 cable TV customers and provides mobile services in Estonia. The company is 

organised into two main business units: the Consumer Customer business and the Corporate 

Customer business. The operations in Estonia and some other independent companies 

are separately organised. The largest shareholder in Elisa is the Finnish state, 

which, via its investment vehicle Solidium Oy, holds a 10.10% stake in the company. 

Since 2003 Elisa has held BBB/Baa2 ratings from S&P and Moody’s, respectively. 

Neither S&P nor Moody’s account for any government support in their ratings of Elisa. 


Strong position in the competitive Finnish telecoms market 

Through the Elisa and Saunalahti brands, Elisa currently holds a leading market position 

in the Finnish mobile, fixed-line and broadband markets. In the mobile market, 

Elisa’s largest competitors are the two other facility-based mobile operators, TeliaSonera 

and DNA. Competition in the Finnish mobile market is intense and mobile termination 

fees in Finland are among the lowest in Europe. Elisa has tried to position itself as 

a high-quality provider of mobile services. The company has an extensive 3G mobile 

network and has also launched 4G services in the Helsinki area. Growth prospects in 

the Finnish mobile market have recently improved thanks to the rapid take-up of smartphones. 

At the end of 2010, some 45% of all new mobile phones sold were smartphones. 

At the same time, customer churn remains relatively high due to the intense 

campaigning by the various operators. 

In the fixed-line business segment there has been both revenue and margin pressure in 

recent years as fixed-to-mobile substitution has resulted in lower fixed-line traffic and a 

loss of access lines. On the positive side, Elisa is used to operating in this competitive 

market environment and has a solid track record when it comes to cost cutting. The 

company has also tried to pursue growth opportunities by offering new services such as 

IPTV and Information and Communications Technology (ICT) services for companies. 

Elisa’s geographic diversification is fairly limited, which means that the company has 

large exposure to the general economic development in Finland. The economic situation 

in Finland improved in 2010, with good consumer demand and more spending 

among corporate customers. Elisa’s only operations of meaningful size outside Finland 

are in Estonia, where it has close to 440,000 customers and a market share of around 

20%. The main competitors are Eesti Telekom/TeliaSonera and Tele2. The economic 

situation in Estonia stabilised in 2010 and is currently showing signs of improvement. 

HOLD 

Sector: Telecommunication Services, 

Diversified Telecom Services 

Corporate ticker: ELIAV 

Equity ticker: ELI1V FH 


Ratings: 

S&P rating: BBB/S 

Moodys rating: Baa2/S 


Analyst: 


Louis.landeman@danskebank.se 

+46 8 568 80524 

Jakob Magnussen, CFA 

jakob.magnussen@danskebank.dk 

+45 45 128503 


Strengths: 

• Leading mobile and fixed-line telecom 

operator in Finland. 

• Solid debt metrics. 

• Good track record in cost cutting. 

• Low cyclical industry. 

Challenges: 

• Tough competition in Finnish telecoms 

markets. 

• Fairly limited geographical diversification. 

• Generous dividend pay-out policy. 


Elisa has a generous dividend pay-out policy 

Elisa has maintained a rather conservative financial policy for several years, aiming to 

keep the unadjusted net debt to EBITDA ratio in the 1.5-2.0x range, the equity ratio 

above 35%, and a dividend pay-out ratio at 40-60% of net income. At the same time, 

the company has pursued a generous dividend pay-out policy. In conjunction with its 

Q4 earnings Elisa stated its intention to pursue a dividend payment of EUR0.90 per 

share, corresponding to 94% of the financial period’s net result. We expect this trend to 

continue. Although the Finnish state only has a minority stake in Elisa, we regard this 

holding as important as it could help maintain stable ownership conditions. Elisa’s 

4.75% 2014 bond also contains a change of control put covenant. 

152 | 13 April 2011 



Liquidity 

We regard Elisa’s liquidity position as moderate as the company has a tight balance 

between its available liquidity sources and short-term debt maturities. At the end of 

2010 Elisa had cash and cash equivalents of EUR32m. The company also had access to 

EUR300m in committed credit facilities, of which EUR170m is a revolving credit 

facility that matures in June 2012 and EUR130m is a revolving credit facility that matures 

in November 2014. The EUR170m facility was undrawn at the end of 2010 while 

some EUR32m of the EUR130m facility was utilised. Elisa’s liquidity position is also 

supported by its positive free cash flow generation. In 2010 the company generated free 

cash flow after capital expenditure (but before dividend payments) of EUR189m. 

These liquidity resources can be compared to the short-term debt maturities that 

amounted to EUR362m as of end-2010, of which EUR102m was commercial paper, 

EUR33m were loans from financial institutions and EUR225m were bonds. Elisa’s 

largest debt maturity this year is the EUR225m 4.375% bond that matures in September, 

while the company’s other two bonds (worth EUR75m and EUR300m) mature in 

2013 and 2014, respectively. As Elisa also has announced plans for a dividend payment 

of EUR140m (EUR0.90 per share) plus an additional dividend at a later stage, this 

highlights the need for the company to actively refinance its upcoming debt maturities 

during the coming quarters in order to maintain a satisfactory liquidity profile. 


Revenue growth picked up in Q4 

Elisa’s Q4 10 report indicates that revenue growth picked up somewhat during the 

quarter. At the same time, competition in the Finnish mobile market remains intense. 

As is the case with other Nordic telecom operators, increased sales of mobile smartphones 

helped to drive growth. The number of traditional fixed-line services continued 

to decline at the same time as the number of fixed broadband subscribers increased 

slightly. 

Debt maturity profile (as of end-2010) 

EURm 

400 

350 

300 

250 

200 

150 

100 

50 

0 


Profitability 

EURm 

1 800 

1 600 

1 400 

1 200 

1 000 

800 

600 

400 

200 

0 

11 12 13 14 15 16- 

2006 2007 2008 2009 2010 



EBITDA by segment (2010) 

35% 

34% 

33% 

32% 

31% 

30% 

29% 

28% 

27% 

26% 

25% 

During Q4, overall revenues rose by 5% year-on-year, with 2% growth in EBITDA. 

The Consumer Customer business revenue rose by 5.4%, driven by growth in mobile 

broadband and other mobile services. At the same time, fixed network services revenues 

continued to decline. Revenues and EBITDA in Estonia also declined. In the 

Corporate Customer business area revenues rose by 4%. While the traditional fixed-line 

revenues continued to decline, revenues related to mobile services rose during the 

quarter. 

The number of mobile subscriptions grew by 144,000 during the quarter (+14% y/y), 

while the mobile churn fell sequentially to 15% (Q3: 18.1%). The mobile average 

revenue per user fell somewhat to EUR20.7 (Q3: EUR21.2). 

Corporate 

Customers 


Consumer 

Customers 

Credit metrics remain strong 

Elisa’s Q4 free cash flow after investments fell to EUR28m (Q4 09: EUR74m). Capital 

expenditure fell somewhat in Q4 vs the year earlier to EUR56m (Q4 09: EUR61m). In 

total, Elisa’s capital expenditure rose to EUR184m in 2010 from EUR171m in 2009. 

The largest share of capital expenditure in 2010 related to 3G capacity and coverage 

increases and other network and IT investments. 

In Q4, Elisa’s cash flow was negatively affected by a one-off EUR40m CDO guarantee 

settlement payment. Net debt at year-end 2010 was EUR776m, up from EUR725m at 

end-Q3. Elisa’s net debt to EBITDA was 1.7x, up from 1.6x at end-Q3. This is at the 

low end of Elisa’s targeted 1.5-2.0x range. 

Slight growth in revenues and EBITDA expected for 2011 

For 2011 Elisa said that it expects a slight increase in revenues, driven by growth in 

mobile broadband services and equipment sales. The company expects FY 11E adjusted 

EBITDA to improve slightly vs 2010, while capital expenditure should 

amount to a maximum 12% of revenues (2010: 12.6%). 

Debt metrics 

EURm 

1 400 

1 200 

1 000 

800 

600 

400 

200 

0 

2006 2007 2008 2009 2010 

Net debt equity Net debt/EBITDA (rhs) 


X 

2,00 

1,80 

1,60 

1,40 

1,20 

1,00 

0,80 

0,60 

0,40 

0,20 

0,00 

153 | 13 April 2011 



Plan for extra dividend announced 

Elisa has announced plans for a dividend payment of EUR0.90 per share (94% of the 

financial period’s net result), with an extra EUR0.40 per share to be distributed at a 

later date, depending on Elisa’s financial position and financial targets at that point in 

time. Elisa also asked for authorisation to buy back a maximum of 5m shares, corresponding 

to 3% of the entire share capital. 

Adjusting Elisa’s credit ratios for the normal dividend payment and operating leases, 

we estimate that the company’s net debt to EBITDA ratio pro forma 2010 will rise to 

around 2.0x (2.1x including the extra dividend). We believe this is still in line with 

the requirements for Elisa’s BBB/Baa2 ratings, although the room for additional 

leverage beyond this should be relatively limited. Consequently, if Elisa were to 

carry out sizeable share buy-backs in addition to the planned dividend payments, we 

believe that this would put some pressure on the ratings. However, we believe that 

Elisa is committed to its current ratings. The company has also indicated that it is 

unlikely to both make the extra dividend payment while at the same time carrying out 

share buy-backs. We therefore expect that Elisa will make sure not to distribute more 

cash to its shareholders than the BBB/Baa2 ratings allow. 

We regard Elisa as a stable BBB credit 

We regard Elisa as a stable BBB credit. Compared to its larger Nordic peers, TeliaSonera 

and Telenor, Elisa has a more limited geographic diversification and hence a 

larger exposure to the economic development in its home market. While this means 

that growth prospects are more limited, it also means that Elisa has less exposure to 

more volatile emerging markets. Elisa has a shareholder-friendly cash pay-out policy, 

which limits the potential for debt reduction. At the same time the company has a 

consistent track record both of reducing operating costs and of maintaining a conservative 

balance sheet with only moderate gearing. We also take some comfort from 

the Finnish state’s 10% indirect stake in the company. 

In order to maintain its BBB rating on Elisa, S&P has stated that it would like to see 

Elisa maintain an adjusted debt to EBITDA ratio below 2.5x, slightly above Elisa’s 

own financial target of an unadjusted net debt to EBITDA below 2.0x. According to 

S&P’s method of calculation, Elisa’s adjusted net debt to EBITDA was 1.7x at the 

end of 2010. S&P has said that it would consider upgrading its rating on Elisa if the 

company were to pursue less aggressive liquidity management and if funds from 

operations consistently remain “in the mid-to-high” 40% (equivalent to unadjusted 

debt to EBITDA at the low end of the 1.5-2.0x range). 

Moody’s sees Elisa’s financial flexibility in its Baa2 rating as more limited. In general, 

Moody’s expects Elisa to remain at the low end of its 1.5-2.0x net debt to 

EBITDA target range, with restricted extraordinary cash distribution. 


We regard Elisa’s Q4 performance as encouraging. While margins remain under 

some pressure and mobile churn is still relatively high, it seems that revenue growth 

has recently gained momentum, thanks to the increased sales of mobile smartphones. 

In addition, Elisa’s balance sheet remains strong, with some financial flexibility 

compared to the rating requirements. At the same time, Elisa is likely to continue to 

pursue a generous distribution policy. While Elisa’s bonds are trading at higher 

spreads than Telenor’s or TeliaSonera’s, we argue that this is justified considering 

Elisa’s somewhat lower credit ratings and smaller scale of operations. We hence 

maintain our HOLD recommendation (see list of instrument prices at the end of this 

book). 

154 | 13 April 2011 



Financial data Elisa 


Net Sales 1,527 1,564 1,492 1,435 1,463 

EBITDA 435 499 472 484 485 

EBIT 225 302 265 268 268 


Net profit 161 220 177 177 151 

FFO [1] 411 385 367 394 364 

Capex [2] 206 204 179 170 184 

FCF [3] 129 82 271 261 187 

RCF [4] 296 9 100 247 143 

Net Debt [5] 377 741 812 719 776 

Adjusted Net debt [6] 489 856 920 820 836 

Total Debt 399 755 845 750 808 

Equity 1,312 1,035 873 899 833 

Ratios 

EBITDA margin 28% 32% 32% 34% 33% 

Net debt / EBITDA 0.9x 1.5x 1.7x 1.5x 1.6x 

Adjusted net debt / EBITDA 1.1x 1.6x 1.9x 1.6x 1.7x 

Adjusted FFO interest coverage [7] 13.3x 24.1x 6.9x 9.0x 4.4x 

Adjusted FFO/net debt 0.9x 0.5x 0.4x 0.5x 0.5x 

Adjusted RCF/debt 0.4x -0.1x 0.1x 0.3x 0.2x 

Adjusted debt/total capital 28% 46% 52% 49% 51% 

(1) Cash flow from operating activities before changes in working capital. (2) Investments in tangible assets. (3) Cash flow from operating activities less capex. (4) Cash 

flow from operating activities less dividends but before changes in working capital. (5) Total interest-bearing debt less cash and marketable securities. (6) Net debt 

adjusted for contingent liabilities/contractual obligations, pension liabilities and debt in subsidiaries, which are not wholly owned and operating leases. Source: 

Company Data and Danske Fixed Income Credit Research 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 365 353 364 363 383 

EBITDA 121 116 119 127 123 

EBITDA margin (%) 33% 33% 33% 35% 32% 

Net income 41 8 40 51 52 

Net debt 719 817 752 725 776 




Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Consumer Net sales 217 214 217 225 229 

EBITDA 71 73 68 77 71 

EBITDA-margin 33% 34% 31% 34% 31% 

Corporate Net sales 148 139 147 139 154 

EBITDA 50 43 51 50 52 

EBITDA-margin 34% 31% 34% 36% 34% 


155 | 13 April 2011 



Ericsson 


Stockholm-based Telefonaktiebolaget LM Ericsson (Ericsson) has origins that date 

back to 1876 and is a world-leading provider of fixed and mobile telecommunications 

infrastructure. In total Ericsson supports networks that serve more than 2bn 

subscribers and manages networks that serve more than 700m subscribers. Ericsson’s 

main business segments are Networks (55% of sales in 2010), Global Services (39% 

of sales in 2010) and Multimedia (5% of sales in 2010) and the 50/50 joint ventures, 

Sony Ericsson and ST Ericsson. Sony Ericsson is a mobile phone company that 

Ericsson owns together with Sony Corp, while ST Ericsson is a wireless platforms 

and semiconductors company that is owned together with STMicroelectronics. At 

year-end 2010 Ericsson had some 90,261 employees. Ericsson’s largest shareholders 

are the two Swedish investment companies, Investor AB and AB Industrivärden, 

which held 19.3% and 13.8%, respectively, of voting rights at the end of 2010. 


World leadership in mobile telecoms equipment 

Ericsson’s key credit strength is its leading position in the mobile networks and 

equipment industry. Over 1,000 networks in more than 175 countries use Ericsson’s 

network infrastructure and more than 40% of all of the world’s mobile calls pass 

through Ericsson networks. Its main competitors include Nokia Siemens Networks, 

Alcatel Lucent and the Chinese vendors Huawei and ZTE. The global telecoms 

equipment market is characterised by fierce competition and rapidly evolving technological 

changes. In recent years, Chinese vendors have gained strong momentum at 

the same time as the market has consolidated. Ericsson has participated in this consolidation 

through its acquisitions of Marconi in 2006 and by the acquisition of 

Nortel’s CDMA and LTE assets in 2009. In 2010 Ericsson acquired companies for a 

total price of SEK3.3bn. 

Ericsson’s large operational scale and installed client base offer important competitive 

advantages. Ericsson’s market position is also supported by the company’s technological 

leadership and large R&D investments. In 2010 Ericsson invested some 

15% of its total sales into R&D and had some 20,000 R&D employees. More than 

80% of the company’s product development is software related. Ericsson also has a 

strong patent portfolio, totalling some 27,000 patents. 

Mobile data traffic expected to continue growing rapidly 

Networks earnings are highly correlated to telecom operators’ general spending. This 

spending is subject to a certain degree of cyclicality and is dependent on factors such 

as the telecom operators’ financial health and the overall economic outlook. At the 

end of 2010 there were some 5.3bn mobile subscribers worldwide, of which some 

10% were mobile broadband subscribers. Due to the rapid growth in mobile smartphones, 

Ericsson expects the number of mobile broadband subscribers to reach almost 

5bn in 2016. Mobile data traffic more than doubled in 2010 and is expected to 

continue to double annually over the coming three years. This suggests that mobile 

operators will need to continue to make large investments in network capacity upgrades 

in the coming years in order to be able to handle these rapidly increasing data 

traffic volumes. Ericsson is also trying to take advantage of the outsourcing trend 

among network operations via its Global Services operations, which employed some 

45,000 professionals at the end of 2010. As these outsourcing contracts are typically 

multi-year, the recent growth in this business area should have improved Ericsson’s 

revenue stability. 

HOLD 

Sector: Information Technology, 

Communications Equipment 

Corporate ticker: LMETEL 

Equity ticker: ERICB SS 


Ratings: 

S&P rating: BBB+/S 

Moodys rating: Baa1/S 

Fitch rating: BBB+/S 

Analyst: 



+46 8 568 80524 


Jakob.magnussen@danskebank.dk 

+45 45 128503 


Strengths: 

• Market leader in mobile and fixed 

networks and network equipment. 

• Very well capitalised with negative 

net debt. 

• Among preferred providers with 

global footprint. 

• Rising share of high-margin expansion 

and upgrades business combined 

with rising margins. 

Challenges: 

• Competition from Chinese vendors 

increasing. 

• High technological risks from 

competing network standards. 

• Solid shareholder focus. 

• Struggling JVs although Sony- 

Ericsson has now turned profitable. 


156 | 13 April 2011 



Liquidity 

Ericsson enjoys a very strong liquidity profile. At the end of 2010 the company had 

cash and cash equivalents of SEK22.8bn while short-term investments totalled another 

SEK53.9bn. In addition, the company had access to an unused USD2bn revolving 

credit facility without financial covenants that matures in June 2014. Ericsson 

also has a strong strategic focus on improving its cash conversion rate and constantly 

strives to improve its working capital management. In 2010, the company generated 

operating cash flow after working capital of SEK26.6bn. Ericsson’s total debt included 

pension liabilities amounting to SEK35.9bn at the end of 2010, of which 

SEK3.8bn was short term. Ericsson has a conservative financial policy and generally 

likes to maintain a strong cash position as this allows the company to have an active 

M&A strategy. 


Improved top-line growth in Q4 largely thanks to mobile data 

Ericsson’s overall sales rose by 8% year-on-year in Q4, mainly due to strong growth 

in mobile broadband network sales, especially in the US and Japan. Also, 2G sales to 

China showed good growth during the quarter. Helped by the positive impact from 

the acquired Nortel businesses, Ericsson’s network sales rose by 14% in Q4 in spite 

of the negative effect from the stronger SEK. In contrast, Global Services sales fell 

by 1% year-on-year due to negative currency effects and lower network roll-outs due 

to the component shortage in the industry earlier last year. The EBIT margin (before 

shares in JVs and associated companies) was 10.6%, clearly up compared to Q4 09 

(5.6%) but somewhat down compared to Q3 (11.2%). This is mainly due to business 

mix changes during the quarter, with a higher share of projects and sales from new 

network roll-outs relative to higher margin network maintenance and upgrades sales. 

Strong cash flow generation and conservative balance sheet 

Due to a combination of higher earnings and better cash flow collection, Ericsson’s 

operating cash flow (after working capital items) rose to SEK15.2bn in Q4 (Q4 09: 

SEK12.5bn). This meant that Ericsson’s gross cash position rose to SEK87.2bn, with 

a net cash position of SEK51.3bn (Q3 10: SEK 43.8bn). On a fully adjusted basis we 

estimate the net cash position at SEK32bn. Adjusted gross debt to LTM EBITDA 

was 1.7x, down from 1.9x in Q3 10, while FFO to gross debt was 42% (Q3 10: 37%). 

Outlook 

Ericsson does not provide any formal guidance but remains of the opinion that 

longer-term industry developments remain solid as mobile data traffic continues to 

grow strongly and mobile broadband networks are being built out across all regions. 

This should result in higher demand for capacity upgrades. There should also be 

demand for services related to enhanced operational efficiency among telecom operators 

(managed operations, network sharing and network transformation). According 

to Ericsson, global mobile traffic more than doubled between Q3 09 and Q3 10. The 

expectation is that global mobile traffic will continue to almost double annually in 

the coming years due to the increased usage of smartphones, tablets and laptops. At 

the same time, it is clear that market conditions will remain tough with intense competition 

from a number of vendors (such as the Chinese vendors Huawei and ZTE). 

Consequently, Ericsson continues to focus on cost reductions, with some SEK2bn of 

restructuring charges planned for 2011. 

Improved profitability at Ericssons joint ventures 

Ericsson’s 50% ownership stakes, Sony Ericsson (SE) and ST Ericsson (ST), are 

consolidated in Ericsson’s reports on an equity basis. SE has a narrow product line, 

mainly focused on high-end mobile phones. In 2010 the company’s revenues fell by 

7%. At the same time SE’s margins improved significantly due to intensive cost 

cutting. In 2010 SE’s EBIT margin rose to 3% from a negative 15% in 2009. We 

subsequently see a reduced risk of Ericsson providing further liquidity injections into 

Maturity profile (as of end-2010) 

SEK bn 

6 

5 

4 

3 

2 

1 

0 


Profitability 

SEKm 

250 000 

200 000 

150 000 

100 000 

50 000 

11 12 13 14 15 16 17 18 19 20 

0 


EBIT by segment (2010) 

Networks 

64% 


Debt metrics 

SEKm 

200 000 

150 000 

100 000 

50 000 

0 

-50 000 

-100 000 

2006 2007 2008 2009 2010 


25% 

20% 

15% 

10% 

5% 

0% 

Net sales EBITDA EBITDA-margin (rhs) 

ST- 

Ericsson 

0% 

Global 

Services 

33% 

2006 2007 2008 2009 2010 

Multimedia 

0% 

Net debt Equity Debt / EBITDA 

Sony 

Ericsson 

3% 

2,8x 

2,4x 

2,0x 

1,6x 

1,2x 

0,8x 

0,4x 

0,0x 

157 | 13 April 2011 



SE in the near future. ST also experienced declining revenues in 2010. For 2010, 

ST’s sales fell by 9%, with a 22% y/y decline in Q4. While substantial cost cutting 

has been carried out, ST still recorded an EBIT loss of USD611m in 2010 (2009: loss 

of USD581m). Unfortunately a turnaround does not seem likely in the near term, 

with Ericsson guiding a sequential sales decline at ST in Q1 this year. 

Diverse earnings base partly offsets general industry risks 

Technology risks are generally high in the telecoms equipment industry and missing 

out on some important technological change can lead to significant loss of market 

share. In this regard Ericsson’s technology leadership and large-scale R&D is an important 

competitive advantage. It also typically means that the company is able to gain 

market share in periods of technological transformation. For example, Ericsson currently 

has a higher market share of 4G/LTE networks than it has for the earlier technology 

generations. Ericsson believes that it improved its overall market share in 2010 due 

to the acquired Nortel business. The intellectual property rights (IPRs) that Ericsson has 

also offer additional revenues for the company as these rights are licensed to other 

companies. In 2010 Ericsson’s net revenues from IPRs amounted to SEK4.6bn. 

Ericsson’s good geographic diversification together with its larger services business 

should also help to reduce earnings volatility. With its 45,000 service professionals 

Ericsson has the largest services organisation in the telecoms equipment industry, 

with services ranging from managed services, consulting and systems integration and 

customer support to network roll-out. In 2010, Ericsson signed some 54 managed 

services contracts, of which 26 were extensions or expansions. 

Geographically, Ericsson is present in all the world’s regions. In 2010, some 24% of 

sales were generated in North America, 9% in Latin America, 34% in Europe, Middle 

East and Central Asia, 5% in Sub-Saharan Africa and 24% in Asia and Oceania. 

The top five countries in terms of sales were USA, China, Japan, India and Italy. 

Ericsson’s strong geographic diversification also means that the company has large 

exposure to emerging markets. As the company typically serves the major telecom 

operators in the world this also means that it derives a relatively high share of earnings 

from individual customers. Ericsson’s ten largest customers accounted for some 

46% of the company’s net sales in 2010. 

Stable operating margins key for ratings 

We regard the strong cash flow generation in Q4 as supportive for Ericsson’s ratings. 

In order to maintain the current ratings it will also be important that Ericsson manages 

to keep its margins stable. S&P has previously stated that it sees continued 

margin recovery as a key component for its rating on Ericsson. S&P has said that it 

sees only limited headroom for further cash losses at Ericsson’s joint ventures. In Q4, 

Sony Ericsson reported net income of EUR3m while ST Ericsson reported negative 

operating income of USD171m (Q3 10: negative USD129m). Ericsson indicated that 

the near-term outlook for ST Ericsson is challenging but that it expects performance 

to improve over time as new products are launched and restructuring continues. 


While Ericsson remains supported by its leading market position, industry conditions 

in the telecoms equipment market remain challenging with intense competition and 

an intense cost reduction focus among telecom operators. Consequently, it will be 

important for Ericsson to continue to keep good cost control and maintain stable 

margins. Positively, the company’s conservative balance sheet management provides 

some flexibility. We regard Ericsson’s bond spreads as fair and maintain our HOLD 

recommendation, with a preference for the shorter-dated 2013s over the 2017s (see 

list of instrument prices at the end of this book). 

158 | 13 April 2011 



Financial data Ericsson 


Net Sales 177,783 187,780 208,930 206,477 203,348 

EBITDA 37,410 39,009 24,927 18,041 26,408 

EBIT 35,828 30,646 16,252 5,918 16,455 

Net interest expenses -165 -83 -974 -325 672 

Net profit 26,351 22,135 11,667 4,127 11,235 

FFO [1] 32,496 28,315 34,018 14,525 26,255 

Capex [2] 3,827 4,319 4,133 4,006 3,686 

FCF [3] 14,662 14,891 19,867 20,470 22,897 

RCF [4] 25,153 20,183 25,778 8,207 19,578 

Net Debt [5] -47,696 -30,500 -44,524 -44,604 -56,387 

Adjusted Net debt [6] -31,536 -10,127 -19,056 -20,830 -37,289 

Total Debt 14,584 27,216 30,481 32,120 30,763 

Equity 120,113 135,052 142,084 141,027 146,785 

Ratios 

EBITDA margin 21% 21% 12% 9% 13% 

Net debt / EBITDA -1.3x -0.8x -1.8x -2.5x -2.1x 

Adjusted net debt / EBITDA -0.8x -0.2x -0.7x -1.0x -1.3x 


Adjusted FFO/net debt -108% -297% -190% -80% -76% 

Adjusted RCF/debt 87% 46% 50% 19% 43% 


(1) Cash flow from operating activities before changes in working capital. (2) Investments in tangible assets. (3) Cash flow from operating activities less capex. (4) 

Cash flow from operating activities less dividends but before changes in working capital. (5) Total interest-bearing debt less cash and marketable securities. (6) 

Net debt adjusted for contingent liabilities/contractual obligations, pension liabilities and debt in subsidiaries, which are not wholly owned and operating leases. 

Source: Company Data, Danske Fixed Income Credit Research 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 58,333 45,112 47,972 47,481 62,783 

EBITDA 5,678 5,114 5,324 7,480 8,490 

EBITDA margin 10% 11% 11% 16% 14% 

Net income 725 1,274 2,027 3,553 4,381 

Net debt -44,604 -46,581 -34,302 -43,805 -56,387 




Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Networks Net sales 31,844 24,704 25,472 26,087 36,445 

EBIT 2,128 1,540 2,507 3,717 4,717 

Global Services Net sales 23,137 18,098 20,080 19,076 22,869 

EBIT 1,076 1,325 1,377 1,891 1,920 

Multimedia Net sales 3,352 2,310 2,420 2,318 3,469 

EBIT 263 -335 -479 -187 358 

SonyEricsson Net sales 9,053 6,985 8,469 7,438 6,823 

EBIT -1,044 76 134 290 164 

ST Ericsson Net sales 2,594 2,178 2,064 1,881 1,890 

EBIT -351 -467 -391 -392 -505 


159 | 13 April 2011 



Nokia 


Finland-based Nokia is the world’s largest producer of mobile handsets with an estimated 

global market share of 32% of handsets sold in 2010. In 2010, Nokia’s Devices 

& Services unit constituted 68% of total group sales. Through the 50%-owned 

joint venture with Siemens, Nokia Siemens Networks (NSN), Nokia also designs and 

builds mobile and fixed-network infrastructure and platforms and offers professional 

services to telecom operators. In 2010, NSN comprised some 30% of group sales 

(17% when deducting Siemens’ share of the fully consolidated joint venture). The 

remaining 2% of group sales are made up by Navteq, Nokia’s division for digital 

map data and related location-based content and services. Nokia’s sales are well 

spread geographically, with Europe representing 35%, Middle East & Africa 13%, 

Asia-Pacific 21%, China 18%, North America 5% and South America 9% of total 

sales in 2010. Nokia has an open shareholder structure, with a large number of institutional 

shareholders, of which the three largest held slightly more than 10% of the 

shares at the end of 2010. 


Broad strategic partnership with Microsoft announced 

In mid-February this year Nokia announced plans for a broad strategic partnership 

with Microsoft, whereby Windows Phone will become the new main smartphone 

platform for Nokia. Nokia’s own mobile operating system Symbian - with an installed 

user base of 200m - will become a franchise platform. Nokia said that it expects 

to sell an additional 150m Symbian devices over the coming years. Nokia also 

plans to ship some products based on its new software platform MeeGo later on this 

year, with MeeGo becoming an open-source mobile operating system project. 

New company structure as of 1 April 

To support this transition, Nokia will establish a new company structure as of 1 

April. Smart Devices and Mobile Phones will become two separate business areas in 

order to better differentiate between high-end smartphones and mass-market mobile 

phones. Some of the other new business areas include Services and Developer Experience 

(responsible for Nokia’s global services portfolio), NAVTEQ (the location 

and advertising business), The CTO Office (technology strategy – including Nokia 

Research Center) and Nokia Siemens Networks (NSN; continues to operate as a 

separate reporting entity). 

Strategic changes are positive but major challenges remain 

Considering Nokia’s rapidly weakening competitive situation in the smartphone 

segment, we agree with the company’s management that there is a need for radical 

change. Only in Q4 10, Nokia’s global market share in the smartphone segment fell 

to 31% from 38%. Also, as smartphones over time become cheaper and more like 

commodities, they should increasingly start to challenge Nokia’s currently strong 

market position for low-end mobile phones, which would likely have a further negative 

impact on Nokia’s operating margins. 

However, as Microsoft is currently a relatively small player in the mobile market, it still 

remains to be seen if Nokia and Microsoft can come up with an exciting range of 

products that can truly challenge the IOS (Apple) and Android (Google) platforms in 

terms of design and customer experience for smartphones. Hence this new strategic 

alliance entails a great deal of execution risk. Also, as it will also take some time 

before these new products can be launched on the market, we expect Nokia’s market 

share and operating margins to remain under pressure in the near term. 

SELL 

Sector: Information technology, 

Communications equipment 

Corporate ticker: NOKIA 

Equity ticker: NOK1V FH 


Ratings: 

S&P rating: A-/S 

Moodys rating: A3/NO 

Fitch rating: BBB+/NO 

Analyst: 



+46 8 568 80524 



+45 45 128503 


Strengths: 

• Large-scale advantages offered 

through world-leading market position 

and global footprint. 

• Diverse product range with particular 

competitive edge in low-end 

handset segment. 

• Very strong credit metrics with a 

large net cash position that offers 

financial flexibility. 

• High R&D budget. 

• Cost-cutting opportunities offered 

by Microsoft partnership. 

Challenges: 

• Weakening market position in the 

high-margin, high-end segment. 

• Very tough competitive situation 

with large technological challenges. 

• Declining overall market shares 

and margins risk of intensifying 

competition also in low-end market 

segment. 

• Large execution risks related to 

the partnership with Microsoft 

with tough transition period to be 

expected in coming years. 


160 | 13 April 2011 



Liquidity 

We regard Nokia’s liquidity position as very strong. At the end of 2010 the company 

enjoyed a net cash position of EUR6.1bn with cash, cash equivalents and liquid assets 

totalling EUR11.3bn. In addition the company had committed credit facilities of 

USD1.9bn maturing in 2012 (NSN also had a committed revolving credit facility 

amounting to EUR2bn maturing in 2012 that includes some financial covenants 

related to a gearing test, leverage test and interest coverage test of NSN). In comparison 

Nokia’s long-term debt amounted to EUR4.2bn while short-term debt was 

EUR1.0bn. Total debt to LTM EBITDA was 1.4x (1.5x on a lease-adjusted basis), 

unchanged from the end of Q3. Nokia’s liquidity position is also supported by its 

strong cash flow generation. In 2010 Nokia reported operating cash flow after working 

capital items of EUR4.8bn (2009: EUR3.2bn). This largely exceeded capital 

expenditure of EUR679m (2009: EUR531m) and dividends of EUR1.5bn (2009: 

EUR1.5bn). 


Improvements in margins and ASP but continued loss of market share 

Overall, Nokia’s Q4 results were somewhat better than expected. Both the Devices 

and Services division and Nokia Siemens Networks managed to achieve some sequential 

sales growth and margin improvement compared to Q3. In Devices and 

Services, sales rose by 4% y/y and by 18% q/q, respectively. The operating margin 

rose sequentially to 11.3% (Q4 09: 15.4%, Q3 10: 10.5%), helped by an improved 

mobile device ASP, which rose to EUR69 from EUR65 in Q3. While Nokia increased 

its total global market share for mobile devices to 31% in Q4 from 30% in 

Q3, the company continued to struggle in the smartphone segment where its market 

share fell to 31% in Q4 from 38% in Q3. Currently, a large part of total mobile devices 

sold are low-margin, low-end phones in emerging markets. Over time, Nokia’s 

strong position in this market segment could be threatened by the development of 

cheaper smartphones. Hence we see further downside risks for Nokia’s operating 

margins. 

NSN continues to struggle 

In addition to the smartphone problems, Nokia’s joint venture with Siemens, NSN, is 

struggling to achieve sustainable profitability due to the current intense price competition 

in the mobile telecoms equipment market. In 2010, NSN strengthened its market 

position through the acquisition of the majority of Motorola’s mobile assets for 

USD1.2bn in cash. Like other telecom equipment manufacturers, NSN constantly 

needs to develop new products and services in order to stay competitive. NSN also 

needs to continue to restructure its operations and cut costs in order to improve its 

profitability. This is important for Nokia to avoid the risk of having to inject further 

equity into the joint venture. A positive effect of the rapid growth in mobile smartphone 

usage is the consequent increase in demand for mobile data capacity. This is an overall 

positive trend for all telecoms equipment manufacturers including NSN. 

Maturity profile as of end-2010 

2500 

2000 

1500 

1000 

500 

0 


Profitability 

EURm 

60 000 

50 000 

40 000 

30 000 

20 000 

10 000 

0 


Revenue split per segment (2010) 

Nokia 

Siemens 

Networks 

30% 


Debt metrics 

EURm 

2011 2012-2013 2014-2015 2016- 

2006 2007 2008 2009 2010 

20% 

18% 

16% 

14% 

8% 

10% 

12% 

6% 

4% 

2% 

0% 


Navteq 

2% 

Devices & 

Services 

68% 

Cautious Q1 outlook... 

In conjunction with its Q4 earnings Nokia stated that it expects the Devices & Services 

division to achieve sales of EUR6.8-7.3bn in Q1 with an adjusted operating margin of 

7-10% (Q1-10: 12%). Nokia Siemens Networks is expected to achieve Q1 sales of 

EUR2.8-3.1bn with a margin of between -3% and breakeven (Q1-10: 0.6%). 

20 000 

15 000 

10 000 

5 000 

0 

-5 000 

-10 000 

-15 000 

2006 2007 2008 2009 2010 

2,5x 

1,5x 

0,5x 

-0,5x 

-1,5x 

-2,5x 

...and new financial targets presented 

In relation to the strategy update announcement in mid-February Nokia also provided 

updated financial guidance. Due to the uncertain near-term outlook for the Devices & 

Services business, Nokia did not present any 2011 guidance for this business unit at 

this point in time. Both 2011 and 2012 are expected to be “transition years” as the 

company invests in its new mobile ecosystem with Microsoft. After 2011, Nokia 



161 | 13 April 2011 



expects Devices & Services net sales to grow faster than the market with an operating 

margin of 10% or above. For NSN, overall industry revenue is expected to grow 

slightly in 2011 compared to 2010. NSN is expected to grow its sales faster than the 

market in 2011 with an operating margin “above breakeven”. NSN’s operating expenses 

and production overheads are expected to be reduced by EUR500m by the 

end of 2011 compared to the end of 2009. 

Nokia focuses heavily on product development. In 2010 the company spent EUR3bn 

on R&D, with more than 16,000 R&D employees in the Devices & Services division. 

If Nokia decides to give up the development of its own mobile operating systems this 

could allow for some serious cost savings. However, given the large installed client 

base using the Symbian operating system, it is more likely that this system will be 

phased out over time and that Nokia will continue to launch products both based on 

Symbian and MeeGo during this year, something that could become rather costly. At 

the same time, Nokia’s management has clearly stated that the ambition is to achieve 

“significant job reductions” and R&D savings in the coming years. 

Impact of the Japan earthquake on Nokias performance 

Like other handset manufacturers, Nokia sources components for its mobile devices 

from a global network of suppliers, including suppliers based in Japan. Following the 

Japan earthquake Nokia issued a statement saying that it does not expect any material 

impact on its Q1 11 results due to this tragic event. At the same time the company said 

that it continues to evaluate the situation and that it does expect some disruption to the 

Devices & Services unit’s ability to supply a number of products as an industry-wide 

shortage of components and raw materials sourced from Japan is expected to occur. 

Nokia said that it will provide more detailed information on the development of this 

situation at the latest in conjunction with its next quarterly results announcement on 21 

April. 

We foresee further rating pressure 

As long as Nokia does not manage to stabilise its profit margins we expect that its 

credit ratings will remain under pressure. While Fitch has downgraded Nokia’s ratings 

to BBB+ with a negative outlook, Moody’s downgraded the company to A3 with a 

negative outlook. In late March, S&P downgraded its ratings on Nokia to A- (from A) 

while changing the outlook to stable. S&P stated that it expects Nokia to maintain its 

conservative financial policy and very strong balance sheet during the coming years 

and that the Devices & Services margins should recover to “at least” 10% in 2013. 

Handset market shares by company 

40% 

35% 

30% 

25% 

20% 

15% 

10% 

5% 

0% 

Source: Gartner, Compactnews, Danske Markets 

Smartphone market shares by system 

50% 

45% 

40% 

35% 

30% 

25% 

20% 

15% 

10% 

5% 

0% 

2009 2010 

2009 2010 

Source: Gartner, Compactnews, Danske Markets 

To us this seems overly optimistic. In our opinion, it is far from certain that the partnership 

with Microsoft will be enough to stabilize Nokia’s market position. Rather, we see 

a large risk that Nokia’s market position and operating margins will erode further over 

the coming years as the competition also intensifies at the low end of the market and as 

Nokia manages the transition to its Microsoft Windows Phone software. In addition, we 

expect Nokia’s margins to be negatively impacted by royalty payments to Microsoft 

and the large restructuring charges that the company will have to take in order to adapt 

its current large R&D resources. S&P said that it may consider a further downgrade if 

Nokia’s Devices & Services margins fall below 5% or if the company’s smartphone 

market share drops below 20% 


Nokia’s creditworthiness continues to be supported by the company’s solid balance 

sheet and large liquidity position, which offer some financial flexibility. Still, in order 

to stabilize its credit profile we believe that Nokia is faced with a number of challenges. 

We continue to believe that Nokia’s bonds – which have rather long maturities – trade 

somewhat tight considering the large challenges the company is faced with. Consequently 

we maintain our SELL recommendation (see list of instrument prices at the 

end of this book). 

162 | 13 April 2011 



Financial data Nokia 


Net sales 41,121 51,058 50,710 40,984 42,446 

EBITDA 6,200 9,191 6,583 2,981 3,841 

EBIT 505 967 1,619 1,197 2,070 

Net interest expense -207 -239 2 265 108 

Net profit 4,366 7,205 3,988 260 1,343 

FFO [1] 5,271 7,277 5,743 3,107 2,425 

Capex [2] 650 715 889 531 679 

FCF [3] 3,828 7,167 2,308 2,716 4,095 

RCF [4] 3,510 5,517 3,695 1,561 906 

Net Debt [5] -8,221 -10,663 -2,368 -3,090 -6,085 

Adjusted net debt [6] -7,286 -9,353 -1,014 -219 -3,525 

Total Debt 316 1,090 4,452 5,203 5,279 

Equity 12,060 17,338 16,510 14,749 16,231 

Ratios 

EBITDA margin 15% 18% 13% 7% 9% 

Net debt / EBITDA -1.3x -1.2x -0.4x -1.0x -1.6x 

Adjusted net debt / EBITDA -1.1x -1.0x -0.1x -0.1x -0.8x 


Adjusted FFO / net debt -74% -79% -586% -1520% -75% 

Adjusted RCF /debt 21% 77% 13% 22% 14% 

Adjusted net debt / total capital -153% -117% -7% -2% -28% 

(1) Adjusted for non-recurring items. (2) Net income after tax plus depreciation and amortization, deferred tax and other non cash items. (3) CFO plus interest and 

taxes paid less capex. (4) OpFCF less interest paid, tax paid, and dividends. (5) Total interest-bearing debt (incl. pension provision) less cash and marketable 

securities. (6) Net debt adjusted for operating leases and contingent liabilities. 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 11,988 9,522 10,003 10,270 12,651 

EBITDA 1,592 925 758 844 1,314 

EBITDA margin (%) 13% 10% 8% 8% 10% 

Net income 882 349 104 322 742 

Net debt (end period) -3,090 -4,353 -3,446 -3,317 -6,085 

Net debt/LTM EBITDA (x) 0.1x 0.1x 0.0x 0.0x 0.1x 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Devices & Services Net sales 8,179 6,663 6,800 7,173 8499 

EBIT 1,257 820 660 807 961 

EBIT-margin 15.4% 12.3% 9.7% 11.3% 11.3% 

Navteq Net sales 225 189 253 252 309 

EBIT 54 41 50 -48 100 

EBIT-margin 24.0% 21.7% 19.8% -19.0% 32.4% 

NSN Net sales 3,625 2,718 3,039 2,943 3961 

EBIT 201 15 51 -282 145 

EBIT-margin 5.5% 0.6% 1.7% -9.6% 3.7% 


163 | 13 April 2011 



TDC 


TDC is the leading telecom operator in Denmark, offering a full range of telecommunication 

services, including fixed line, mobile, internet and cable TV. TDC’s 

business divisions consist of Consumer, Business, Nordic, Operations & Wholesale 

and YouSee. YouSee is Denmark’s leading cable TV operator with a fully digitized 

network covering some 56% of Danish households. Outside Denmark, TDC mainly 

provides telecoms services for businesses in the Nordic region through its pan-Nordic 

network. Mobile services are offered as a mobile virtual network operator (MVNO) 

through agreements with the local mobile network operators. At the end of last year, 

TDC sold its assets in Switzerland and prepaid part of its bank debt. At the same 

time, TDC’s majority owner, NTC, completed an IPO and redeemed its outstanding 

high yield bonds. Following the IPO, the consortium of private equity owners behind 

NTC reduced its ownership in TDC from 88% to 59% while TDC’s credit ratings 

were upgraded back to investment grade by S&P, Moody’s and Fitch. 


TDC is the clear market leader in Denmark 

TDC’s main credit strength is its leading position in the Danish telecoms market. 

This also means that the company is exposed to the general development of the Danish 

economy as this has an impact on the business and residential spending on telecoms 

services. According to the IMF (October 2010), the Danish economy is expected 

to grow by 2.2% from 2010 to 2012 – slightly faster than the eurozone average 

(1.6%). We highlight though that TDC is a relatively low-cyclical company that 

should display a lower-than-average sensitivity to the overall development of the 

Danish economy. 

In the Danish residential market, TDC is the market leader in the landline telephony, 

mobile voice, broadband and pay-TV markets, and no.2 by market share in mobile 

broadband, while in the Danish business market, TDC ranks no.1 in all major market 

segments. TDC has defended its market position well in recent years, using a multibrand 

strategy with brands such as TDC, Fullrate, Telmore, M1 and YouSee. 

Through YouSee, TDC offers quad-play (fixed and mobile telephony, broadband and 

TV) solutions via its cable TV network. The ownership of YouSee is a large competitive 

advantage for TDC compared with many other sector peers that have had to 

divest their domestic cable TV subsidiaries for regulatory reasons. 

Very competitive market conditions focus on cost reductions 

The Danish telecoms market is very competitive and substantial price discounting 

and expansion of flat rate products in the landline, mobile and broadband markets 

have had negative effects on revenues and margins. There is also an ongoing transition 

of customers from landline telephony to mobile voice and from landline broadband 

to mobile broadband. Despite the tough competition and the recent economic 

downturn, the Danish telecoms market has shown some growth in recent years, with 

a compound annual growth rate of 0.9% over 2007-09. While the number of landline 

customers has declined, the mobile broadband market has shown very rapid growth. 

This trend is likely to continue in the coming years. 

Considering the tough competitive climate, TDC has actively worked on reducing its 

operating expenses in recent years while at the same time continuously making large 

infrastructure investments. This enabled the company to achieve 6% compound 

growth in EBITDA over 2007-09 in spite of declining revenues. At the same time, 

the EBITDA margin rose from 33.5% at the end of 2007 to 41.2% at the end of 2010. 

BUY 



Corporate ticker: TDCDC 

Equity ticker: TDC DC 

Market cap: DKK 44bn 

Ratings: 

S&P rating: BBB / S 


Fitch rating: BBB / S 

Analysts: 



+46 8 568 80524 



+45 45 128503 


Strengths: 

• TDC is the clear market leader in 

the Danish telecoms market 

• The ownership of YouSee is a 

large competitive advantage compared 

with sector peers 

• TDC has a good track record in 

delivering on cost reductions 

• The new financial policy aims at 

maintaining investment grade 

credit ratings 

Challenges: 

• The Danish telecoms market is 

very competitive with substantial 

price discounting 

• TDC has relatively limited geographic 

diversification with a large 

dependence on the Danish telecoms 

market 

• The targeted dividend pay-out ratio 

is very high 

• There are some longer-term uncertainties 

related to the ownership 

of TDC 


164 | 13 April 2011 



Liquidity 

We regard TDC’s liquidity position as fully satisfactory, with underlying strong free 

cash flow generation and only limited short-term debt maturities. In 2010, TDC’s 

operating cash flow amounted to DKK7.2bn (2009: DKK7.4bn) while capital expenditure 

amounted to DKK3.5bn (2009: DKK3.9bn). At the end of 2010, TDC had cash 

of DKK831m while short-term loans amounted to DKK216m. The remaining debt 

outstanding under TDC’s senior debt facilities amounted to DKK17.8bn at the end of 

2010, while the remaining EMTN bonds amounted to DKK5.4bn with maturities in 

2012 (DKK3.4bn) and 2015 (DKK2bn). In February this year, TDC issued 

EUR2.25bn (DKK16.8bn) of new bonds with maturities in 2015, 2018 and 2023. The 

proceeds from the bond issues together with other liquidity were used to fully repay 

the secured senior credit facilities. At the same time, TDC signed new credit facilities 

totalling EUR700m with an average maturity of 4.4 years. 


Stable performance in Q4 but mobile competition intensifying 

TDC’s Q4 10 sales and earnings were broadly in line with the development noted 

during the previous quarters. While sales in the core Danish business remain under 

pressure – both in the Consumer and Business segments – this was offset by continued 

strong sales growth in YouSee (TV) and Nordic. Year-on-year group sales rose 

by 1.4%, with a 1.6% growth in EBITDA, which meant that the EBITDA margin 

was stable at 39% compared with the same period in the previous year. TDC reaffirmed 

its 2011 guidance of revenues at a similar level to 2010, with EBITDA growth 

of 2% and a capex-to-sales ratio of 13% (2010: 13.5%). 

A downside risk that we see for TDC’s revenues and EBITDA in 2011 is the intense 

competition in the Danish mobile market that has recently intensified further due to 

aggressive price offers in the discount segment from the new MVNO Onfone. With 

four mobile network operators in Denmark and additional capacity offered by the 

upgrades to HSPA and LTE, we see a risk that competition will continue to intensify 

during the coming quarters – with subsequent margin erosion for all operators including 

TDC – until some type of consolidation eventually takes place. 

Significant debt reduction following proceeds from Sunrise divestment 

At the end of October, TDC announced that it had completed the divestment of Sunrise 

in Switzerland with total cash proceeds of CHF3.3bn (DKK18.4bn). Following 

this, TDC decided to prepay DKK8.2bn of senior bank debt while also carrying out 

DKK9bn of share buybacks. In mid-December, TDC’s majority owner NTC completed 

an IPO of 210 million TDC shares at DKK51 per share, resulting in total proceeds 

of DKK10.7bn. After the completion of the IPO, NTC redeemed its outstanding 

DKK10.8bn of high yield bonds. 

Mainly due to higher taxes paid during the quarter, TDC’s operating cash flow fell in 

Q4 10 compared with Q4 09. Still, thanks to the divestment of Sunrise, TDC substantially 

reduced its debt in Q4, with net debt of DKK22.8bn at year-end 2010 (end-Q3: 

DKK30.7n). In addition to the on-balance sheet debt, TDC has operating leases totalling 

some DKK7.3bn. We estimate that TDC’s lease-adjusted net debt to EBITDA 

amounted to around 2.6x at year-end 2010 (not adjusting the EBITDA for restructuring 

costs; 2.9x when also adjusting the EBITDA for restructuring costs), compared 

with 3.1x at end-Q3 (excluding NTC debt). 

Investment grade financial policy 

In relation to the IPO, TDC presented a new financial policy. According to this policy, 

TDC aims to maintain stable investment grade ratings. The targeted leverage is a 

net debt to EBITDA ratio of 2.1x. Acquisitions are expected to be bolt-on and in 

Denmark and other Nordic countries. For the financial year 2011, a dividend of 

DKK4.35 per outstanding share is targeted, corresponding to DKK4.3bn, while for 

subsequent years a dividend payout of 80-85% of ‘equity free cash flow’ is targeted. 

165 | 13 April 2011 

Debt maturity profile (Dec 31, 2010) 

DKKm 

12 

10 

8 

6 

4 

2 

0 


Profitability 

DKKm 

45 000 

40 000 

35 000 

30 000 

25 000 

20 000 

15 000 

10 000 

5 000 

0 

11 12 13 14 15 


EBITDA by segments (2010) 

Operations 

10% 

2006 2007 2008 2009 2010 


Debt metrics (TDC level) 

DKKm 

60 000 

50 000 

40 000 

30 000 

20 000 

10 000 

0 



45% 

40% 

35% 

30% 

25% 

20% 

15% 

10% 

5% 

0% 

Sales EBITDA EBITDA-Margin (rhs 

YouSee 

13% 

Consumer 

38% 

Nordic 

5% 

2006 2007 2008 2009 2010 

Business 

34% 

X 

4,5 

4,0 

3,5 

3,0 

2,5 

2,0 

1,5 

1,0 

0,5 

0,0 

Net debt Equity Net debt/EBITDA (rhs)


This is relatively high compared with sector peers and leaves only limited room for 

potential add-on acquisitions and/or increased investment levels in spite of TDC’s 

strong free cash flow generation. 

De-leveraging positive for bondholders and ratings 

The debt reduction related to the Sunrise divestment and the IPO is obviously very 

positive for bondholders as it has once again allowed a return to investment grade 

ratings. We are also pleased by TDC’s new financial policy as it is targeting a lower 

leverage than we had expected. As of Q4 10, TDC’s reported unadjusted net debt to 

EBITDA stood at 2.1x, which is exactly at the level targeted by the company. At the 

same time, TDC’s targeted dividend pay-out ratio is very high, which leaves only 

limited room for potential add-on acquisitions and/or increased investment levels in 

spite of TDC’s strong free cash flow generation. 

Following the completion of the IPO, S&P, Moody’s and Fitch all upgraded TDC’s 

ratings back to investment grade. S&P initially assigned a one notch lower issue 

rating on TDC’s EMTN bonds (BBB-) than Moody’s (Baa2) and Fitch (BBB). However, 

following TDC’s new bond issues and the refinancing of its bank facilities, 

S&P also upgraded its bond ratings to BBB. 

In order to maintain a stable outlook on TDC’s ratings, S&P said that it wants the 

company to maintain its current EBITDA margin of 41% and solid free cash flow 

generation. Moody’s said that it expects TDC to maintain an adjusted debt to 

EBITDA ratio of 2.5x and a retained cash flow to debt ratio close to 20%. It also 

expects the company to only make bolt-on acquisitions within the guidance metrics 

for the current ratings. 

In order for TDC to maintain a mid-BBB credit profile, we expect the company to 

maintain low leverage as the company’s business risk is somewhat higher than its 

Nordic sector peers, TeliaSonera and Telenor, due to TDC’s more limited geographic 

diversification and dependence on the Danish telecoms market. On the positive side, 

TDC has a more limited exposure to volatile emerging markets than Telenor and 

TeliaSonera. 


With TDC still being majority owned by a private equity consortium, we believe that 

there are some uncertainties with regard to the company’s long-term ownership structure. 

Still, we regard the company’s announced strategy positively as it suggests that 

M&A activity will be limited, with leverage rather maintained around its current low 

level. 

We believe that TDC’s newly issued bonds came at an attractive level and we have 

therefore assigned BUY recommendations to both the 3.5% Feb 2015 and 4.375% 

Feb 2018 bonds. While the new 2015 bonds are trading somewhat inside the old 

5.875% Dec 2015 bonds, the new bonds contain change of control language (with a 

coupon step-up of 125bp in case ratings fall below investment grade) which the old 

bonds do not. Considering the uncertainty related to the ownership structure of TDC 

over the longer term we regard this as a positive feature with the new bond issues 

which should also warrant a certain spread premium. Following substantial tightening 

on the 6.5% Apr 2012 bond, we now downgrade our recommendation on this 

bond from BUY to HOLD (see list of instrument prices at the end of this book). 

166 | 13 April 2011 



Financial data TDC 


Net Sales 39,941 36,779 35,609 26,079 26,167 

EBITDA 6,188 4,820 3,031 4,758 4,069 

EBIT 44,343 866 635 7,990 70 


Net profit 3,443 3,632 557 2,383 3,007 

FFO [1] 10,026 9,217 6,640 10,472 8,171 

Capex [2] 5,595 3,545 3,539 3,891 3,534 

FCF [3] 4,546 6,326 3,624 6,728 5,208 

RCF [4] -34,317 8,351 6,005 2,482 8,101 

Net Debt [5] 55,221 41,516 35,032 33,635 22,813 

Adjusted net debt [6] 58,946 48,971 46,228 43,397 30,615 

Total Debt 58,676 49,813 41,750 34,398 23,644 

Equity 3,571 32,021 31,680 27,078 20,855 

Ratios 

EBITDA margin 33% 32.0% 34.3% 40.4% 41.2% 




Adjusted FFO/net debt 18% 20% 16% 26% 29% 

Adjusted RCF/debt -53% 16% 13% 7% -1% 



Cash flow from operating activities less dividends but before changes in working capital. (5) Total interest-bearing debt less cash and marketable securities. (6) 

Net debt adjusted for contingent liabilities/contractual obligations, pension liabilities and debt in subsidiaries, which are not wholly owned and operating leases. 

Source: Company Data and Danske Fixed Income Credit Research 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 6,565 6,549 6,547 6,460 6,609 

EBITDA 2,686 3,345 3,350 2,784 2,726 

EBITDA margin (%) 41% 41% 41% 43% 41% 

Net income 441 264 657 686 626 

Net debt 33,635 33,669 32,963 30,725 22,813 

Adj. Net debt/LTM EBITDA (excl ALC) 3.1x 3.2x 3.1x 2.8x 2.1x 

Source: Company data and Danske Fixed Income Credit Research. Not adjusted for operating leases and contingent liabilities. 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Consumer EBITDA 1,000 1,006 1,004 1,042 989 

Business EBITDA 956 932 893 907 912 

Nordic EBITDA 425 118 135 161 150 

Operations & Wholesale EBITDA 294 287 226 298 303 

YouSee EBITDA 694 323 326 352 352 


167 | 13 April 2011 



Telenor 


Telenor is one of the world’s largest telecom operators with some 203 million mobile 

subscribers, a workforce of 33,200 employees and reported revenues of NOK95bn in 

2010. The company is the dominant telecom operator in Norway and also provides fullscale 

telecoms services in the Swedish and Danish markets. In addition Telenor has 

mobile operations in a large number of countries in both Europe and Asia, including 

Hungary, Serbia, Montenegro, Malaysia, Pakistan, Bangladesh, Thailand, India and 

Russia. The international operations has shown rapid growth and in 2010 Telenor’s 

non-Nordic operations made up for 56% of total group EBITDA. The Norwegian government 

holds a 54% stake in Telenor. In case of a strategic transaction, the Norwegian 

state could potentially reduce its stake to one-third. Both S&P and Moody’s currently 

give Telenor’s rating a one-notch uplift due to the AAA-rated Norwegian state ownership 

of the company. 


Strong cash flows from domestic operations 

Telenor’s key credit strength is the strong cash flows generated from its domestic 

operations in Norway, and its well diversified international operations that offers 

good growth. Telenor is the market leader in all segments of the telecoms industry in 

Norway. In the Norwegian mobile market, Telenor mainly competes with TeliaSonera’s 

subsidiary Netcom, with Tele2 as the third largest operator. Tele2 operates as 

an MVNO (mobile virtual network operator) in Netcom’s network. Telenor’s domestic 

fixed-line revenues have for several years been under pressure from fixed-tomobile 

substitution and churn towards VoIP. Telenor addresses these challenges 

through cost reductions. In 2010 the company managed to maintain a stable overall 

EBITDA margin in Norway at 40%. The free cash flow generation from the domestic 

operations also remains strong, with an EBITDA minus capital expenditures of 

NOK7.6bn in 2010 (2009: NOK7.9bn) 

International mobile offers good growth but with higher risk profile 

The general revenue and price pressure that Telenor is experiencing domestically is 

contrasted by the good growth offered by the company’s international operations, especially 

in Telenor’s emerging market operations. In several of these markets mobile 

penetration is still relatively low. As Telenor in recent years has carried out several 

acquisitions of mobile operators in both Eastern Europe and Asia the company is now 

well positioned to benefit from this growth. In combination with Telenor’s more stable 

operations in Scandinavia this results in a geographically well-diversified business, 

with good medium-term growth prospects. 

At the same time, Telenor’s large emerging markets footprint also means that the company 

has some geopolitical, economic and foreign exchange rate exposure to these 

markets. Due to the higher risk profile of certain countries where Telenor operates, we 

believe that it is important to consider Telenor’s credit ratios both including and excluding 

the EBITDA generated from those countries. For this reason, S&P in its analysis of 

Telenor tends to exclude EBITDA from Bangladesh, Pakistan, Montenegro and Serbia 

and proportionally consolidate EBITDA and debt from Thailand and Malaysia. Some 

of the emerging market operators are only partly owned by Telenor. As the different 

local partners in the ventures may have a different view than Telenor on the preferred 

business and financial strategy, Telenor does not have the same control over the operations 

in these operators that it has in its fully owned subsidiaries. This risk has recently 

been demonstrated both in Russia (Vimpelcom) and India (Uninor) where Telenor has 

had a different view than its other partners on issues such as M&A activity (Vimpelcom) 

and a potential stock listing of the venture (Uninor). 

SELL 



Corporate ticker: TELNO 

Equity ticker: TEL NO 

Market cap: NOK152bn 

Ratings: 

S&P rating: A- / S 


Fitch rating: BBB+ / S 

Analyst: 



+46 8 568 80524 



+45 45 128503 


Strengths: 

• Geographically well diversified 

both stable Nordics and growing 

emerging markets operations 

• Proven track record of developing 

emerging markets 

• Majority government ownership by 

AAA rated Norway 

• Low leverage and sound credit 

metrics 

Challenges: 

• Generous shareholder payout 

policy 

• Tough regulatory and competitive 

environment in the Nordic region 

• Large emerging markets exposure 

• Telenors operations in India have 

yet to prove profitable 

• Some event risk related to potential 

M&A activity 


168 | 13 April 2011 



Liquidity 

Telenor’s enjoys a fully satisfactory liquidity position in our view, with ample cash at 

hand and only limited short-term debt maturities. At the end of 2010 Telenor held 

total cash and cash equivalents of NOK13.6bn. In addition Telenor has access to 

committed credit facilities totalling some NOK21.2bn. The company also enjoys a 

strong underlying cash flow with a free operating cash flow after investments of 

NOK10.1bn in 2010. As of end 2010 Telenor’s short-term debt amounted to 

NOK8.8bn. 


Operating margins down y/y due to losses in India 

Telenor’s Q4 results were mainly supported by continued good growth in the more 

mature markets in Asia. In the Nordic region, Sweden showed good growth while 

competition intensified in Norway and Denmark. Overall organic revenue growth 

rose to 8% y/y during the quarter. Consolidated group EBITDA rose to NOK7.0bn 

from NOK6.6bn the year earlier. The EBITDA margin fell to 29% (Q4 2009: 31%) 

due to the losses related to Telenor’s start-up mobile operator Uninor in India. 

Largely due to higher depreciation and taxes net income fell to NOK2.3bn (Q4 2009: 

NOK2.4bn). 

Net debt was reduced somewhat during the quarter 

Telenor’s operating cash flow after working capital rose to NOK5.4bn (Q4 2009: 

NOK4.8bn). Capital expenditure rose to NOK3.4bn (Q4 2009: NOK3.1bn). During 

the quarter, Telenor also bought back additional shares of NOK778m. Net debt was 

reduced somewhat to NOK20.8bn (Q3 2010: NOK21.4bn), resulting in a net debt to 

EBITDA of 0.7x (Q3 2010: 0.8x) and an adjusted net debt to LTM EBITDA of 1.1x 

(Q3 2010: 1.2x). Taking the conservative approach of also excluding EBITDA from 

the most volatile emerging markets and minorities in Thailand and Malaysia (as S&P 

normally does), this would bring the adjusted net debt to EBITDA to around 1.8x 

(Q3-10: 1.9x), well within the 2.5x that S&P considers adequate for the A- rating. 

Telenor has an internal target of reported net debt to EBITDA of maximum 1.6x. 

Moderate revenue growth and stable margins expected for 2011 

Telenor also presented its guidance for 2011, with expected organic revenue growth 

of at least 5% and an adjusted EBITDA margin of around 31% (2010: 30.8%). Capital 

expenditure is expected to be around 12-13% of sales. A dividend of NOK3.80 

per share is proposed for 2010. This pay-out ratio is at the high end of Telenor’s 

dividend policy range (40-60% of normalised annual profits). In addition, management 

stated that potential further share buy-backs will be evaluated during the coming 

quarters. 

Vimpelcom to acquire Wind Telecom 

Since 1998 Telenor has held a large ownership stake in the second largest mobile 

operator in Russia, Vimpelcom. The other large shareholder in Vimpelcom is the 

Russian Alfa Group and the telecoms arm of the Alfa Group, Altimo. Following 

several years of ownership disputes between Telenor and Alfa Group, the two companies 

decided to combined their holdings in Vimpelcom and the Ukrainian telecom 

operator Kyivstar into a separate and jointly owned company called Vimpelcom Ltd 

that was subsequently listed on the New York Stock Exchange. This transaction was 

completed in April 2010. Following this, Telenor holds a 39.6% economic interest 

and 36% of the voting rights in Vimpelcom Ltd. 

In mid January this year, Vimpelcom’s supervisory board said that it had approved 

the proposed merger of Vimpelcom and Wind Telecom. The combined company will 

hold telecom assets in 19 countries including Russia, Italy, Africa, the Middle East 

and Asia and create the world’s 6th largest telecom operator with over 173m mobile 

subscribers. While the Telenor-nominated board directors voted against the transaction, 

the six other board members (of which three Altimo-nominated and three inde- 

169 | 13 April 2011 

Estimated maturity profile 

NOKb 

30 

25 

20 

15 

10 

5 

0 

Cash and equivalents Short-term debt Long-term debt 


Profitability 

NOKm 

120 000 

100 000 

80 000 

60 000 

40 000 

20 000 

0 



Bangladesh 

9% 


Debt metrics 

NOKm 

120 000 

100 000 

80 000 

60 000 

40 000 

20 000 

0 

2006 2007 2008 2009 2010 

Net Sales EBITDA EBITDA margin (rhs) 

Malaysia 

15% 

Broadcast 

Other 6% 

mobile 

10% 

Thailand 

16% 

Norway 

31% 

Sweden 

7% 

Denmark 

6% 

2006 2007 2008 2009 2010 



37% 

36% 

35% 

34% 

33% 

32% 

31% 

30% 

29% 

28% 

27% 

1,8 

1,6 

1,4 

1,2 

1 

0,8 

0,6 

0,4 

0,2 

0 

Net debt Equity Net deb/EBITDA (rhs)


pendent) voted in favour of it. If the transaction goes through, Telenor’s voting rights 

in Vimpelcom would be reduced to 25% (from 36%), with an economic ownership 

stake of 31.7% (from 39.6%). Due to Wind’s high leverage, the debt burden of the 

combined group will also increase materially with pro forma net debt of around USD 

21.7bn and a net debt to EBITDA of 2.3x. As the issuance of new shares had to be 

approved by a majority of shareholders, a shareholders’ meeting was held at March 

17. Although Telenor fought hard to stop the acquisition, the transaction was approved 

by a majority of the shareholders (53%) that participated at the shareholders’ 

meeting. Vimpelcom’s CEO has stated that he now expects the transaction with 

Wind to close within the coming month. Following this, Moody’s downgraded its 

ratings on Vimpelcom to Ba3 from Ba2 as it believes that the financial risk of the 

company will increase following the merger with Wind. 

We see it as credit negative for Telenor that Vimpelcom’s acquisition of Wind now 

seems to be going ahead. Due to Wind’s higher leverage we believe that this will 

reduce Vimpelcom’s potential for dividend distributions. Also Telenor’s influence on 

Vimpelcom’s strategy will be reduced due to its diluted ownership stake in the company. 

While Telenor has requested an arbitration tribunal to determine if Telenor is 

entitled to exercise its pre-emptive rights related to the issuance of new Vimpelcom 

shares, it is currently uncertain if Telenor will have any success with this claim. 

Telenors investment in India is a credit negative 

During 2009 and 2010, Telenor gradually acquired 67.25% of the Indian greenfield 

mobile operator Unitech Wireless, now named Uninor. Due to its early stage of operation, 

Uninor is currently heavily loss making and will demand large investments 

before it can become profitable and achieve positive cash flows. We therefore regard 

Telenor’s investment in Uninor as a credit negative event. 

In Q4 2010 Uninor reported a negative EBITDA of 1.0bn, somewhat less than in Q3 

(NOK1.1bn). The company continued to grow strongly, with revenue growth of 87% 

in Q4 from Q3 to NOK400m. In 2011 Uninor is expected to generate an EBITDA 

loss around NOK4bn, with capital expenditure of NOK1-1.5bn. In addition to tough 

competition, the regulatory environment in India is challenging, which causes some 

uncertainties for Telenor’s investments in the country. Currently, Indian authorities 

are investigating if there were any wrongdoings when 2G licenses were issued to 

Uninor and other operators in 2008. While these corruption charges have been directed 

directly towards the minority (33%) partner Unitech and its Managing Director 

rather than towards Uninor or Telenor, there is still a risk that the licenses could 

be revoked as they were originally issued to Unitech. 

S&P revises its outlook on Telenor to stable 

In early April, S&P revised its outlook on its A- rating on Telenor to stable from 

negative. According to S&P, Telenor’s balance sheet should be strong enough to 

accommodate one off risk events related to its investments in Vimpelcom and India 

and moderately sized acquisitions. S&P expects Telenor to maintain an adjusted debt 

to EBITDA ratio of maximum 2x with an FFO to debt above 40%. 


All in all, Telenor demonstrated a solid performance in Q4. The company’s current 

leverage is only moderate and should be well in line with the rating requirements. 

Telenor’s credit ratings also benefit from an uplift due to the 54% ownership by the 

Kingdom of Norway. However, considering the expected negative cash flows from 

India, Telenor’s rather shareholder friendly payout policy, and the company’s general 

appetite for acquisitions, we continue to see a we see a clear risk that debt ratios will 

deteriorate in the coming year to a level that would be too high for the company’s A- 

/A3 ratings. Considering this risk we believe that Telenor’s bonds are trading tight 

compared to sector peers and therefore maintain our SELL recommendation (see list 

of instrument prices at the end of this book). 

170 | 13 April 2011 



Financial data Telenor 


Net Sales 91,077 92,473 96,167 97,650 94,843 

EBITDA 32,687 29,257 29,809 30,918 28,648 

EBIT 17,708 14,985 15,708 13,321 12,500 


Net profit 18,477 19,203 14,810 10,104 14,808 

FFO [1] 32,770 24,368 24,600 30,666 23,945 

Capex [2] 19,036 19,063 17,465 13,014 11,688 

FCF [3] 11,605 4,633 8,164 17,608 14,777 

RCF [4] 28,405 19,248 17,408 29,136 17,719 

Net Debt [5] 43,210 40,408 47,108 27,863 20,846 

Adjusted Net debt [6] 55,187 48,778 57,902 38,501 31,484 

Total Debt 49,957 47,249 56,033 39,342 34,452 

Equity 62,728 74,655 88,568 85,381 96,218 

Ratios 

EBITDA margin 36% 32% 31% 32% 30% 








Cash flow from operating activities less dividends but before changes in working capital. (5) Total interest-bearing debt less cash and marketable securities. (6) Net 

debt adjusted for contingent liabilities/contractual obligations, pension liabilities and debt in subsidiaries, which are not wholly owned and operating leases. Source: 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 24,191 23,952 25,177 24,096 24,858 

EBITDA 6,691 7,088 6,891 7,746 6,962 

EBITDA margin (%) 28% 30% 27% 32% 28% 

Net income 2,774 1,149 9,582 1,771 2,306 

Net debt 27,863 22,692 26,981 21,442 20,846 



Divisional quarterly overview, EBITDA (NOKm) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Norway 2,444 2,680 2,561 2,627 2,601 

Sweden 529 549 546 609 561 

Denmark 488 445 381 413 505 

Pannon - Hungary 490 499 496 599 155 

DTAC - Thailand 953 1,075 1,145 1,296 1,307 

DiGi - Malaysia 882 999 1,104 1,167 1,229 

Grameenphone - Bangladesh 717 798 719 892 802 

Other mobile operations 637 579 715 738 684 

UniNor -677 -974 -1,132 -1,115 -1,026 

Broadcast 497 527 525 619 532 

Other Operations 66 -19 -85 33 -158 

Note: Source: Company data and Danske Fixed Income Credit Research 

171 | 13 April 2011 



TeliaSonera 

Company Overview 

TeliaSonera is the result of the merger between the incumbent Swedish and Finnish 

telecom operators Telia and Sonera in 2002. The Swedish and Finnish governments 

are still the largest shareholders in the company with ownership stakes of 

37.3% and 13.7% respectively. TeliaSonera is one of the largest telecom operators 

in Europe. The company holds a leading position in Sweden and Finland, a number 

two position in Norway and a number three position in Denmark. The company 

also holds leading market positions in the three Baltic countries Estonia, Latvia and 

Lithuania. TeliaSonera also has a large international presence outside the Nordic 

and Baltic region with a presence in the emerging markets of Eurasia, including 

Russia and Turkey, and in Spain. TeliaSonera’s operations are organised in the 

business areas Mobility Services, Broadband Services, Eurasia and Other operations. 

At the end of 2010, TeliaSonera had a total client base of some 157m subscribers. 


Well diversified operations but intense competition 

TeliaSonera’s operations are well diversified with a healthy mix of stable earnings in 

its Nordic and Baltic home region, while faster growth is offered by operations in the 

more volatile markets in Eurasia. In 2010, close to 75% of total group revenues 

were generated in the Nordic and Baltic region. Revenues and margins in Broadband 

Services have in recent years been under pressure from fixed to mobile substitution 

and migration from traditional voice to VoIP. Also in Mobility Services competition 

and price pressure have intensified. At the same time, the recent strong uptake 

of smartphone usage in the Nordic area has significantly helped to improve growth 

prospects in this business area. To spur a continued development of this positive 

trend TeliaSonera has taken several initiatives to further roll out its 4G mobile networks 

and fibre to the home (FTTH) throughout the Nordic region. The Eurasian 

operations continue to be very profitable, with EBITDA margins around 50%. The 

operations in Eurasia are an important growth driver for TeliaSonera, but also carry a 

higher risk profile than the company’s traditional operations. 

Further privatisations remain uncertain 

As the Swedish minority government has stated that TeliaSonera remains on its privatisation 

list, there has been some speculation that a further tranche of the Swedish 

government’s shares in TeliaSonera could be placed in the market. At the same time, 

the opposition parties have objected to the privatisation plans. Recently, the Swedish 

parliament approved a proposal to limit the government’s mandate of a further privatisation 

of TeliaSonera and some other state-owned companies. While S&P does not 

include any ownership support in its ratings on TeliaSonera, Moody’s includes a one 

notch uplift from the Swedish and Finnish state ownership that according to Moody’s 

could be removed in case the Swedish state’s ownership drops below 20%. Given the 

political opposition against further privatisations in Sweden, we see it as unlikely that 

this would happen in the near future. 

HOLD 



Corporate ticker: TLIASS 

Equity ticker: TLSN SS 


Ratings: 

S&P rating: A-/ S 


Fitch rating: A- / S 

Analyst: 



+46 8 568 80524 



+45 45 128503 


Strengths: 

• Leader in Sweden and Finland, 

among the dominant operators in 

other Nordic markets 

• Broad geographical diversification 

into emerging markets 

• Strong cash generation 

• Low financial gearing and solid 

debt coverage metrics 

Challenges: 

• Exposure to volatile emerging 

markets with regulatory and geopolitical 

risks 

• Tough competition and regulation 

in Nordic region 

• Heightened focus on shareholders 

• Some event risk related to potential 

debt-financed acquisitions 


172 | 13 April 2011 



Liquidity 

We regard TeliaSonera’s liquidity position as strong. The financial flexibility is 

supported by the company’s strong underlying cash flow generation. In 2010, the 

company generated operating cash flow of SEK27.4bn, with a free cash flow after 

capital expenditure of SEK12.9bn. At the end of 2010, TeliaSonera held cash and 

cash equivalents of SEK15.3bn while short-term borrowings amounted to SEK4.9bn. 

In December last year TeliaSonera signed a new 7-year revolving credit syndicated 

loan facility of EUR1bn to replace a similar facility maturing in December 2011. The 

company further strengthened its liquidity position in February and March this year 

as it issued a EUR750m 4.25% bond maturing in 2020 and a SEK4bn FRN bond at 

Stibor +45bp maturing in September 2012. 


Further cost reductions in the pipeline 

As TeliaSonera’s result was negatively impacted by currency effects in Q4 10, reported 

net sales were down 2.8% compared to the year earlier, while EBITDA was unchanged. 

However, adjusted for currency effects and acquisitions, underlying revenue growth 

was 4.2%, with a 5.2% growth in EBITDA. The main growth engines were Mobility 

Services and Eurasia that showed underlying revenue growth of 6.9% and 20.8% respectively. 

In Broadband Services, underlying net sales declined 5%. For 2011 TeliaSonera 

has guided for 4% revenue growth with an improved EBITDA margin and a 

capex to sales ratio of 13-14% (2010: 14%). Further cost cuts are planned for this year, 

including a workforce reduction of some 800 employees (of which 640 in Sweden and 

165 in Finland). 

Dividend and share buyback announced 

TeliaSonera’s free cash flows after capital expenditures fell to SEK1.7bn (Q4 09: 

SEK4.1bn). This decline was due to higher capital expenditures and higher paid taxes. 

Net debt was virtually unchanged at SEK50bn (Q3 10: SEK49.7bn). This meant that 

the unadjusted net debt to EBITDA was unchanged at 1.4x. On a fully adjusted basis 

net debt to EBITDA was 1.9x, slightly below S&P’s guidance for the current A- rating. 

TeliaSonera announced both an ordinary dividend of SEK12.3bn (to be distributed in 

April) and a SEK10bn share buyback (that is to be carried out via a public offering). 

Mobile data and Eurasia continue to drive growth 

The positive development in Mobility Services was mainly driven by strong growth 

in mobile data services thanks to the strong uptake of smartphones. In Sweden underlying 

mobile net sales rose by 8% during the quarter, of which mobile data explained 

two thirds of the increase. Sales in Finland and Norway rose by a more moderate 

1.2% and 1.7% respectively. In Sweden, mobile margins were unchanged while in 

Finland they fell y/y. The development in Spain was also encouraging as sales rose 

52% y/y and the Spanish operator Yoigo reached its target of becoming EBITDApositive 

during the quarter. The performance in Denmark and the Baltic states was 

disappointing as local currency revenues and margins fell, negatively impacted by 

intensified competition and lower interconnect fees. Eurasia continued to grow 

strongly, with organic sales growth in local currencies of 17% and a high 54% 

EBITDA margin. 

Ownership disputes related to Turkcell and MegaFon still ongoing 

Apart from its majority-owned mobile operations in Eurasia, TeliaSonera has two large 

shareholdings in the associated companies MegaFon in Russia (43.8% owned by TeliaSonera) 

and Turkcell in Turkey (38% owned by TeliaSonera). MegaFon is the third 

largest mobile operator in Russia with some 57m subscribers at the end of 2010. The 

other large shareholders in MegaFon are the Alfa group (Altimo) with a 25% holding 

and AF Telecom with a 31% stake. Turkcell is the largest mobile operator in Turkey 

with some 31m subscribers. Turkcell is also partly owned by the Turkish Cukurova 

group and the Alfa Group (about 13% each). TeliaSonera has previously had some 

ownership disputes both with the Alfa Group and Cukurova over its holdings in Mega- 

173 | 13 April 2011 

Maturity profile as of end 2010 

SEKbn 

70 

60 

50 

40 

30 

20 

10 

0 

Cash and equivalents Short-term debt Long-term debt 


Profitability 

SEKm 

120 000 

100 000 

80 000 

60 000 

40 000 

20 000 


Debt metrics 

SEKm 

0 

160 000 

140 000 

120 000 

100 000 

80 000 

60 000 

40 000 

20 000 

0 

2006 2007 2008 2009 2010 



Eurasia 

23 % 

Broadband 

Services 

35 % 



36 % 

35 % 

34 % 

33 % 

32 % 

31 % 

30 % 


2006 2007 2008 2009 2010 

1,6x 

1,4x 

1,2x 

1,0x 

0,8x 

0,6x 

0,4x 

0,2x 

0,0x 


Other 

Operations 

2 % 

Mobility 

Services 

40 %


Fon and Turkcell. The disagreement with Cukurova over its shareholding in Turkcell 

dates back to 2005. In 2009, Cukurova was ordered by a Geneva court to sell its stake 

in Turkcell to TeliaSonera. Cukuvora has so far refused to comply and court proceedings 

in this matter are still ongoing. In November 2009 TeliaSonera and the Alfa Group 

reached an agreement to merge their ownership interests in MegaFon and Turkcell. 

However, this agreement is contingent on a satisfactory solution of the dispute with 

Cukurova. The proposed solution has been that the Alfa Group should acquire Cukurova’s 

stake in Turkcell and then include this with the new merged company. While we 

regard it as positive that TeliaSonera and the Alfa Group have reached an agreement, it 

still remains to be seen if a final resolution of the uncertain ownership situation in these 

companies can be achieved between all the parties involved. 

TeliaSonera has limited financial headroom in current ratings 

TeliaSonera’s operating performance during the past few quarters has been encouraging. 

Thanks to the good uptake in mobile data services in the Nordic region, the 

favourable growth in Eurasia and the intensified focus on cost reductions, the company 

has managed to deliver on some top-line growth and margin improvement in 

spite of the competitive and relatively mature nature of its home markets. 

We believe that TeliaSonera’s current leverage is in line with rating requirements. 

However, the combination of the SEK12.3bn dividend and the SEK10bn share buyback 

will bring leverage to the upper limit of what we think may be tolerable for 

S&P and Moody’s in order to maintain their A-/A3 ratings on TeliaSonera. Moody’s 

has also stated that it now sees TeliaSonera as “weakly positioned” in the A3 rating 

category. According to Moody’s, TeliaSonera’s adjusted debt to EBITDA ratio will 

rise to around 2.4x following the share buyback, which is at the higher end of the 2.0- 

2.5x range that Moody’s has indicated for the A3 rating. As TeliaSonera has a stipulated 

financial policy of maintaining A-/BBB+ ratings, we believe that potential 

downgrades to Baa1/BBB+ would be acceptable for the company. 

An additional risk that we see for TeliaSonera’s ratings is potential debt-financed 

acquisitions. The company is currently participating in a bidding auction for the 

Polish mobile operator Polkomtel. Polkomtel, valued at around EUR3.7bn 

(SEK33bn; valuation according to Bloomberg) is to be sold during the first half of 

this year. If TeliaSonera’s bid for Polkomtel is successful, we expect such a transaction 

to be structured in a way as to ensure that BBB+/Baa1 ratings are maintained. 

Apart from Polkomtel, TeliaSonera has previously expressed an interest to acquire 

the remaining minorities (41.5%) in the controlling company for its Eurasian operations, 

Fintur Holdings, currently held by Turkcell in case such an opportunity would 

arise at some point. 


We expect TeliaSonera’s management to remain committed to its financial policy of 

maintaining A-/BBB+ ratings. Consequently, we expect any negative rating actions 

related to potential M&A activity to be limited to one notch. Considering this, we 

regard TeliaSonera’s current bond spreads as fair and maintain our HOLD recommendation 

(see list of instrument prices at the end of this book). 

174 | 13 April 2011 



Financial data TeliaSonera 


Net Sales 91,060 96,344 103,585 109,161 106,582 

EBITDA 32,266 31,021 32,954 36,666 36,977 

EBIT 25,489 26,155 28,648 30,324 32,083 

Net interest expenses 263 904 2,237 2,710 2,147 

Net profit 19,283 20,298 21,442 21,280 23,562 

FFO [1] 28,034 27,541 28,480 31,965 28,722 

Capex [2] 11,101 13,525 15,758 13,967 14,533 

FCF [3] 16,400 13,004 11,328 17,024 12,810 

RCF [4] 10,794 -2,164 8,616 20,812 15,347 

Net Debt [5] 14,892 34,155 48,614 46,175 50,092 

Adjusted Net debt [6] 11,989 -935 9,845 22,109 16,016 

Total Debt 26,495 41,957 60,440 68,663 65,436 

Equity 127,717 127,057 141,448 142,499 132,665 

Ratios 

EBITDA margin 35% 32% 32% 34% 35% 



Adjusted FFO interest coverage 17.4x 11.5x 7.6x 10.1x 13.4x 


Adjusted RCF/debt 0.3x 0.0x 0.1x 0.2x 0.2x 


(1) Cash flow from operating activities after net interest paid and taxes paid but before change in working capital. (2) Investments in tangible & intangible assets. (3) 

Cash flow from operating activities before net interest paid and taxes paid but less capex. (4) OpFCF less net interest paid, tax paid, and dividends. (5) Cash flow from 

operating activities after net interest paid, taxes paid, change in working capital, and less dividend (6) Total interest-bearing debt less cash and marketable 

securities. (7) Net debt adjusted contingent liabilities/contractual obligations, pension liabilities and debt in subsidiaries, which are not wholly owned. 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 27,410 26,090 26,964 26,754 26,774 

EBITDA 9,039 8,724 9,214 9,776 9,024 

EBITDA margin (%) 33% 33% 34% 37% 34% 

Net income 5,499 5,236 5,886 6,107 5,965 

Net debt 49,345 47,789 54,688 49,670 50,092 



175 | 13 April 2011 



176 | 13 April 2011 



Utilities 

177 | 13 April 2011 



DONG Energy 


DONG Energy (DONG) is the largest energy company in Denmark, operating in most 

parts of the energy value chain. DONG derives its earnings from five operating segments: 

E&P, Renewable generation, Fossil Generation, Sales & Distribution and Energy 

Markets. DONG’s E&P division is responsible for exploration and production of 

oil and gas, predominantly in the North Sea, where the group has 73 E&P licences 

comprising some 446m boe proven oil and gas reserves. In 2010, DONG produced 

24.4m boe, indicating a reserve to production ratio of 19 years. DONG also has regulated 

gas and power distribution assets in Denmark. In Denmark, the group supplies 

11.4TWh of natural gas and 9.1TWh of electricity, corresponding to market shares of 

28% and 27%, respectively. The Generation and Renewables divisions comprises 

DONG’s power production, most of which is in Denmark. In 2010, the group produced 

20.2TWh and 53,200TJ of heat on its wind and fossil fuel-based generation fleet primarily 

based in Denmark and the UK. Going forward, DONG targets an increased 

share of wind assets. Through the Energy Markets segment, DONG procures and sells 

oil and gas in the North-West European energy markets. DONG is 76%-owned by the 

Kingdom of Denmark (AAA), with the bulk of the remainder owned by smaller Danish 

utilities. Both Moody’s and S&P apply one extra notch due to government support. 


Attractive vertical integration and diversification 

Although falling, DONG still has a high share of its generation assets being thermally 

based, making it somewhat exposed to rising CO 2 allowance prices. The group 

is also negatively exposed to rising gas and coal prices in its generation fleet as these 

commodities serve as input. However, this is more than offset by positive exposure to 

gas prices in the E&P segment, creating a valuable internal hedge for the group. This 

is also true because of coal and gas being partially positively correlated. DONG 

benefits from positive exposure to rising Nord Pool prices. This winter this has been 

the case due to below average temperatures, low precipitation and low Nordic nuclear 

capacity. In that respect we also believe that the aftermath from the ongoing 

Fukushima nuclear crisis could end up being positive for DONG if politicians demand 

a scale down on Nordic and German nuclear capacity. This would benefit 

DONG, as the subsequent fall in neighbouring countries power supply would cause 

retail power prices to rise. 

Switching to wind 

DONG is seeking to reduce its dependence on fossil fuels through investments in 

renewable generation assets, in particular wind. In 2010 some 79% of DONG’s generated 

power was thermal based (84% in 2009), with the rest coming from renewable 

energy plants. DONG primarily seeks to fulfil its CO2 reduction target through massive 

offshore wind park investments. Until 2020 some 3GW is planned to be operation. 

In 2010 DONG had 0.7GW of offshore capacity. We regard it as credit-positive 

that DONG diversifies its generation base, although the subsequent large investments 

will weigh on group metrics in the short- to medium-term. As DONG wants to diversify 

its wind production portfolio, reducing reliance on any one wind power park, the 

group is actively seeking partnerships on its larger wind power parks. This was most 

recently exemplified by DONG’s sale of 50% of the 400MW Anholt offshore wind 

park to two Danish pension funds. 

Ownership 

The current agreement in the Danish parliament states that DONG should be majority-owned 

by the Kingdom of Denmark until at least 2015. Given the group’s importance 

to Denmark’s gas and power infrastructure, we expect the Danish state to be 

supportive of DONG should the company experience financial problems. Previous 

discussion about the possibility of an IPO appears to have left the debate, which is 

credit positive. 

BUY 

Sector: Utility, Electric Utility 

Corporate ticker: DANGAS 

Equity ticker: 1001Z DC 


Ratings: 



Fitchs rating: BBB+ / S 

Analyst: 



+45 45 128503 


louis.landeman@danskebank.com 

+46 8 568 80524 


Strengths: 

• Well diversified across business 

areas and geography. 

• Solid share of earnings derived 

from regulated activities. 

• Proven focus on conserving debt 

metrics and protecting rating. 

• Majority government ownership 

with solid mandate. 

Challenges: 

• High capex budget directed at wind 

assets in particular. 

• Declining reserves in North Sea. 

• Exposed to rising CO 2 prices, predominantly 

fossil fuel fed Danish 

generation assets. 

• Time differences in earnings and 

P&L recognition yield volatility. 


178 | 13 April 2011 



Liquidity 

DONG’s short-term liquidity profile looks robust in our view. After 2010 DONG had 

some DKK11.8bn in cash & equivalents on its balance sheet, adequately covering 

short-term debt maturities of DKK4.4bn. Furthermore, we anticipate that DONG has 

additional DKK1.5bn of extra cash raised after Q4 from the net proceeds from the 

group’s new hybrid issuance and partial redemption of its old hybrid. DONG generated 

some DKK14.2bn of cash from operations in 2010. While we don’t expect such 

an amount to be repeated in 2011, we stress that cash generation is likely to also be 

high in 2011. This will be offset by some DKK13.3bn in capex (The three-year average 

of DKK40bn) and DKK2.2bn in proposed dividend payments. 

Combining all this, we don’t believe DONG should have any short-term liquidity 

issues. DONG’s evenly-spread medium-term debt maturity profile also protects 

against liquidity-consuming chunks of debt redemption over the coming year. Furthermore, 

DONG has access to some DKK12.6bn in committed credit facilities. 

While DONG doesn’t need the liquidity now, we note that the group prides itself 

with being a regular issuer in the euro bond market. We would therefore not be surprised 

to see DONG as an opportunistic issuer sometime during this year. 


Strong Q4 earnings driven by high fossil and power prices 

The Q4 report from DONG revealed very strong quarterly and full-year figures beating 

DONG’s previous guidance from November. Higher oil and gas prices – and especially 

higher power prices in the latter part of Q4 – helped boost revenues which were up 20% 

y/y. Danish power prices for the full-year 2010, which were aided by very cold winter 

temperatures and below-average supply from neighbouring countries, were up 37% y/y. 

The strong top-line is furthermore a result of previous quarters’ investments in windassets 

and oil & gas fields starting to come on line and generating income. Group Q4 

EBITDA rose 68% y/y as a result of the combined effect of higher top-line and 

DONG’s strong focus on cost reductions and efficiency improvements. As a result 

group EBITDA-margin improved 2.8pp q/q to 25.2%. The improvement was furthermore 

facilitated by a widening of DONG’s generation margins as FIFO accounted 

input costs (coal and CO2) did not rise to the same extent as power prices. 

Very strong cash flow boosted credit metrics to stellar levels 

DONG’s strong earnings also fed through to cash generation, which was very strong in 

Q4. Group FFO rose 155% y/y. With a lower working capital and an unchanged level 

of capex, Group FOCF improved to DKK284m vs negative DKK1.2bn last quarter. 

This caused reported net debt to fall 8% q/q, which was lower than guidance given in 

Q3. When adjusting for 50% hybrid capital, leases, pensions and other obligations we 

see adjusted net debt at DKK38.8bn down 5% q/q. This leaves the adjusted LTM 

FFO/net debt figure at 32% up from 25% last quarter. Adjusted net debt to LTM 

EBITDA was 2.7x (3.3x after Q3). When further adjusting for 50% of the newly issued 

hybrid (call 2021), we see this metric at 2.6x. These levels are clearly better than 

DONG’s own financial policy and also strong for the current rating at both rating agencies. 

We caution though, that this quarter’s strong cash flow generation is not expected 

to be a recurring theme, as especially power prices were affected by exceptional supply 

and weather conditions in the Nordic region. 

Parts of asset base regulated 

DONG’s distribution, oil pipeline and heat activities are carried out on a regulated 

basis. We believe it is comforting that a meaningful part of group EBITDA over the 

cycle comes from this stable and predictable cash flow source. DONG also argues that 

its large and increasing wind power generation fleet could also be considered regulated. 

As DONG is guaranteed a certain return on its wind investments through feed-in tariffs 

or other subsidy schemes, it makes the group immune to fluctuating power prices and 

wind production up to a certain level. This argument is contingent on the government 

standing by its subsidy commitments, and public sentiment not turning more negative 

179 | 13 April 2011 

Debt maturity profile as of end 2010 

DKKbn 

16 

14 

12 

10 

8 

6 

4 

2 

0 

11 

12 

13 


Profitability 

DKKm 

70,000 

60,000 

50,000 

40,000 

30,000 

20,000 

10,000 

0 

Hybrid debt 


EBITDA by segment, 2010 

Generation 

14% 


Debt metrics 

DKKm 

60,000 

50,000 

40,000 

30,000 

20,000 

10,000 

Renewables 

12% 

0 

14 

15 

16 

17 

18 

2006 2007 2008 2009 2010 



19 

+20 

30% 

25% 

20% 

15% 

10% 

5% 

0% 


Energy 

Markets 

23% Sales & 

Distribution 

15% 

E&P 

36% 

2006 2007 2008 2009 2010 

net debt (excl. Hybrid) 

Net debt/EBITDA (rhs) 

Equity 

4.0x 

3.5x 

3.0x 

2.5x 

2.0x 

1.5x 

1.0x 

0.5x 

0.0x


on wind power. We believe that support is likely, even across changing governments 

over time, as future public tender competitions would suffer if the government were to 

go back on its “promised” wind subsidies from historical tender competitions. 

Outlook for 2011 

In its full-year report DONG guides for 2011 EBITDA at a similar level as in 2010. 

Given the strong performance in especially Q1 and Q4 10, we view this as a strong 

signal from DONG. The guidance reflects a surge in earnings from new investments 

coming on stream offsetting DONG’s expectations that the close to perfect market 

earnings environment (hedging effect, high generation margins and very high commodities 

prices) seen in 2010 probably won’t be repeated. 

DONG also made creditor-friendly adjustment to its capex budget. Previously DONG 

guided for 2011-13 net capex in the range of DKK45-55bn. The new capex guidance 

for the same time period is now only DKK40bn. The revision is made as DONG expects 

to scale up its ambitions of co-ownerships implying an uptake of partial asset 

divestments. 

Financial targets and rating 

The creditor-friendly revision of the capex budget was accompanied by a change in 

financial guidance in a credit-positive direction. Previously DONG guided for adjusted 

cash flow from operations to net debt of “around 3x”. The wording of the new 

targets is “up to 3x”. Currently this metric is reported at 1.8x vs 3.5x after Q3. Interestingly, 

DONG adjusts its net debt by 50% from the “old” hybrid, but 0% from the 

new hybrid. This is because S&P would assign 100% equity content to the new 

EUR700m hybrid if DONG’s senior rating was to be downgraded to ‘BBB+’. Currently 

DONG is ‘A-’ rated, and the “new” hybrid counts as 50% debt. DONG uses 

0% debt weight though, as the group’s capital structure minimum target is ‘BBB+’. 

Therefore DONG currently overstates the quality of this metric slightly. We believe 

it is slightly worrying that DONG’s rating minimum target implies a one notch 

downgrade from S&P. We stress though, that a downgrade by S&P could also imply 

a downgrade from Moody’s to ‘Baa2’ which is not acceptable according to DONG’s 

policy. We believe the current state of DONG’s metrics certainly does not point to a 

downgrade from anybody. 

Due to the 76%-ownership by the ‘AAA’ rated Kingdom of Denmark, both Moody’s 

and S&P’s factors in a one-notch uplift due to an assumed low dependence and medium 

support by the owner. The investment grade rating of the group reflects the low 

cyclical nature of DONG’s regulated distribution activities offset by the more volatile 

E&P activities combined with gas supply and power generation and supply, leaving the 

group exposed to volatile commodities and currency prices. 

New hybrid to supplement the old hybrid 

In January DONG redeemed some EUR500m of its ‘old’ hybrid (DANGAS 5.5% 

call 2015). At the same time DONG issued EUR700m in a ‘new’ hybrid (DANGAS 

7.75% call 21). From a senior unsecured perspective the increased loss absorbing 

junior capital base is obviously positive. This is further fuelled by the fact that the 

new hybrid is more equity-like compared with the old hybrid. 


We believe that the strong 2010 results combined with more conservative capex and 

capital structure guidance underlines the quality of DONG from a credit perspective. 

We stress that metrics are likely to deteriorate from this very strong level as capex 

picks up and due to timing effects of working capital and investments. We believe 

that credit quality is very strong for the current spread-level of DONG’s outstanding 

bonds. We hence maintain our Buy recommendation, preferring the 2019’s and the 

hybrids. (See list of instrument prices at the end of this book.) 

180 | 13 April 2011 



Financial data DONG Energy 


Net Sales 36,564 41,625 60,777 49,262 54,598 

EBITDA 8,950 9,606 13,622 8,840 14,089 

EBIT 5,691 4,783 8,004 3,757 8,074 

Net interest expenses 592 740 1,134 1,362 1,595 

Net profit 5,039 3,259 4,815 1,138 4,464 

FFO [1] 9,670 8,729 9,418 7,529 12,498 

Capex [2] 4,946 10,718 9,529 15,956 15,073 

FCF [3] 6,011 -747 850 -6,488 -859 

RCF [4] 9,410 6,762 7,949 5,603 12,017 

Net Debt [5] 17,779 14,792 15,253 28,137 26,136 


Total Debt 27,760 17,309 18,047 35,206 37,903 

Equity 42,390 42,211 46,190 44,808 51,308 

Ratios 

EBITDA margin 24.5% 23.1% 22.4% 17.9% 25.8% 






(1) Cash flow from operating activities before changes in working capital. (2) Investments in tangible assets. (3) Cash flow from operating activities less capex. (4) Cash flow from operating activities 

less dividends but before changes in working capital. (5) Total interest-bearing debt less cash and marketable securities. (6) Net debt adjusted for contingent liabilities/contractual obligations, 

pension liabilities and debt in subsidiaries, which are not wholly-owned and operating leases. Source: Company data, Danske Fixed Income Credit Research 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 13,471 16,203 11,488 10,799 16,108 

EBITDA 2,010 4,343 3,276 2,413 4,057 

EBITDA margin 14.9% 26.8% 28.5% 22.3% 25.2% 

Net income 57 2,013 1,074 141 1,236 

Net debt 28,134 26,826 28,912 30,010 26,136 




PRIMARY SEGMENTS Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Exploration & Production Net sales 1,591 1,850 2,072 1,841 2,461 

EBITDA 545 1,076 1,276 1,086 1,574 

EBITDA margin 34% 58% 62% 59% 64% 

Renewables Net sales 664 710 680 685 872 

EBITDA 109 447 317 355 606 

EBITDA margin 16% 63% 47% 52% 69% 

Generation Net sales 3,309 4,219 2,128 1,470 3,513 

EBITDA 325 1,340 209 -162 477 

EBITDA margin 10% 32% 10% -11% 14% 

Sales & Distribution Net sales 3,744 4,687 2,941 2,643 3,914 

EBITDA 596 701 432 394 509 

EBITDA margin 16% 15% 15% 15% 13% 

Energy Markets Net sales 6,961 9,286 6,468 6,279 9,731 

EBITDA 318 962 1,154 354 737 

EBITDA margin 5% 10% 18% 6% 8% 

Source: Company data, Danske Markets . 

181 | 13 April 2011 



Fortum 


Fortum is a diversified Finnish power and heat company operating in the Nordic countries, 

Poland, the Baltics and Russia. Fortum generates power through predominantly 

hydro and nuclear plants in the Nordic region. In 2010 the group generated some 

52.3TWh, making it the second-largest generator in the Nordic region behind Vattenfall. 

Roughly 69% of Fortum’s total power generation comes from non-CO2 emitting 

nuclear and hydro plants (91% if Russia is excluded) making it one of the “cleanest” 

generators in Europe after Statkraft. Apart from generation, which contributed some 

68% of operating profits in 2010, Fortum is also engaged in regulated heat and distribution, 

which comprise some 15% and 16% of EBIT, respectively. Minor parts of Fortum’s 

Nordic power and heat production stem from fossil-fuelled plants, some of which 

use renewable technologies such as biomass, peat and waste. In the Nordic market the 

group is the largest within distribution with some 1.6m electricity customers. The group 

is also largest in the Nordic region within district heating with annual deliveries of 

some 21.7TWh. Fortum’s Russian activities consist mainly of generation and heat with 

annual volumes of 22.1TWh and 34.8TWh, respectively. The Finnish Government is 

the largest shareholder with a 50.8% stake. Parliamentary approval is required to reduce 

the stake to less than 50.1%. Both S&P and Moody’s factor in one notch of government 

support, estimating support and dependence as medium. 


Relatively low volatility in Nordic business profile 

We regard Fortum’s strong position as the largest heat and electricity distributor and the 

second-largest power generator in the Nordic market as very credit positive. Especially 

the group’s large exposure toward regulated distribution and heat, which combined 

contributed 31% of group EBIT in 2010, is credit positive. Together with the group’s 

extensive power price hedging programme, this yields large, stable and predictable cash 

flows. After 2010, 70% of 2011 power production was hedged and 40% for 2012. The 

average hedge price is EUR45/MWh and EUR44/MWh respectively, which is clearly 

below the current Nord Pool power price levels of about EUR60/MWh. We stress that 

current levels are elevated due to extraordinary issues such as excess demand due to a 

cold winter combined with supply shortages due to hydro and nuclear capacity issues. 

The group’s large share of hydro generation exposes it to Finnish and Swedish precipitation 

levels. We see a partial inverse relationship between precipitation levels (capacity) 

and Nordic power prices, yielding an attractive hedge as lower quantities will be 

offset by higher prices and vice versa. Fortum’s nuclear generation fleet creates a stable 

and low-cost base load capacity that contributes to high EBITDA margins. Fortum is 

currently expanding its nuclear footprint through its ownership in TVO, which is constructing 

the Olkiluoto 3 (Fortum’s share is 400MW) and seeking approval to build a 

fourth reactor (Olkiluoto 4). So far the Finnish politicians have not flagged any revisions 

to these plans on the back of the Fukushima nuclear crisis. 

Finland has a majority ownership stake in Fortum 

The AAA-rated Finnish state owns 50.8% of Fortum’s shares. The current agreement 

states that the government could reduce its stake to only 50.1%. Further divestments 

would require parliamentary approval. Both agencies factor in a one-notch uplift due to 

Fortum’s role as a supplier of key strategic utilities services. Fortum has a relatively 

aggressive payout history. In both 2009 and 2010 the figure was 66%, which to us is 

slightly credit negative as it exceeded the group’s stated payout policy of 50-60%. At 

Fortum’s CMD the CEO stated that he considered dividend payments to be important 

and that they should not be considered residual. To us this signals a rather credit negative 

shareholder focus. 

SELL 


Corporate ticker: FRTUM 

Equity ticker: FUM1V FH 


Ratings: 

S&P rating: A / S 


Fitchs rating: A / S 

Analyst: 



+45 45 128503 



+46 8 568 80524 


Strengths: 

• Market leader in Finland with geographical 

diversification to the 

east. 

• Predominantly low CO2 emitting 

generation portfolio. 

• Solid credit metrics. 

• Owned by AAA-rated Finnish government. 

Challenges: 

• Increasing exposure to volatile 

Russian market with political/regulatory 

risk. 

• Current low reservoir levels in the 

Nordic region threaten group 

margins. 

• Increasing capex budget primarily 

directed at Russia. 

• Shareholder friendly focus, with 

above average payout policy. 


182 | 13 April 2011 



Liquidity 

Fortum had some EUR971m of cash & equivalents sitting on its balance sheet after 

2010, just covering reported short-term debt maturities of EUR862m. In 2010 Fortum 

generated some EUR1.4bn in cash from operations. This level is likely to be repeated 

or even exceeded in 2011 as hydro capacity improves. In connection with the 2010 

report Fortum stated that it wanted to accelerate its capex in respect of Russia. For 

2011 this implies an aggregate capex outlay of roughly EUR1.7bn. On top of this 

massive capex level, Fortum also revealed a dividend payment in 2011 of EUR888m. 

When adding these items, we see Fortum’s short-term liquidity situation as rather 

stretched. 

If Fortum wishes to avoid using its credit lines, we see them as a likely issuer in 

2011. After 2010 Fortum has some EUR2.9bn in committed credit facilities. Further 

issues that could partly alleviate funding needs are Fortum’s divestment of its Fingrid 

stake and Swedish heating assets. The cash raised from the Fingrid stake is 

EUR325m and some EUR220m from its Swedish heating assets. 

In general, the group has a policy that cash and cash equivalents and undrawn committed 

facilities should always cover the coming 12-months’ maturities and always 

amount to at least EUR500m. 


High achieved Q4 power prices didnt feed through to earnings 

Fortum displayed a 22% growth in top-line in Q4, spurred by high Swedish and Finnish 

power prices as a consequence of continued low precipitation in the region, low nuclear 

output coupled with below average temperatures. This was further aided by a strong 

SEK/EUR and continued growth in Nordic industrial demand. Fortum stated that its 

achieved power price in Q4 was EUR51/MWh, which was lower than the average Q4 

spot price in the region of EUR62/MWh. The difference is due to Fortum’s short positions 

in the power futures market. Fortum’s Russian unit continued to deliver strong 

growth, fuelled by the Russian power liberalisation process, where the power price is 

now 100% unregulated and where the energy departments continues to deliver on its 

promised “beneficial” capacity payments. Fortum’s EBITDA fell 29% y/y due to 

higher than expected maintenance cost on Swedish nuclear reactors and impairments on 

short futures positions carried on the balance sheet. The low nuclear and hydroavailability 

also forced Fortum to increase its share of procurement from fossil-plants, 

where rising commodities prices yielded a negative development in Fortum’s procurement 

margins. Excluding the accounting effects of Fortum’s stock of short futures 

positions, group operating profit was largely unchanged y/y. Net earnings were 

EUR260m, short of market expectations of EUR305m. 

Fortum maintains its guidance for its view on future power prices, reiterating that the 

strong power demand levels seen in 2008 should not be expected until 2012-14. 

Leverage continues to edge higher 

Fortum’s FCF was negative EUR211m in Q4 as a consequence of a high capex level 

and short position in SEK/EUR derivatives used to hedge Fortum’s Swedishdenominated 

loans. The negative FCF caused Fortum’s net debt to increase to 

EUR6.8bn from EUR6.6bn after Q3 10. With EBITDA largely unchanged this leads 

to a rise in reported net debt to LTM EBITDA to 3x (2.7x in Q3). On adjusted figures, 

we see the metric at 3.3x. Adjusted FFO/net debt fell to 18.5% vs 20.8% last 

quarter. 

Russian investment to contribute to earnings volatility 

Currently Fortum owns 94.5% of the Russian OAO Fortum (the former TGC-10), 

which, combined with its 25% holding in TGC-1 makes the group quite exposed to its 

eastern neighbour. In 2010 the Russian division only constituted some 3% of group 

EBIT, as previous investments has yet to come on stream and generate income. While 

Debt maturity profile end 2010 

EURm 

1,400 

1,200 

1,000 

800 

600 

400 

200 

0 


Profitability 

EURm 

7000 

6000 

5000 

4000 

3000 

2000 

1000 

0 

11 12 13 14 15 16 17 18 19 >20 


EBIT by segment 2010 

Distribution 

16% 

Heat 

15% 


Debt metrics 

EURm 

10,000 

9,000 

8,000 

7,000 

6,000 

5,000 

4,000 

3,000 

2,000 

1,000 

0 

2006 2007 2008 2009 2010 


60% 

50% 

40% 

30% 

20% 

10% 

0% 


Electricity 

Sales 

1% 

Russia 

0% 

2006 2007 2008 2009 2010 

Power 

68% 

X 

3.5 

3 

2.5 

2 

1.5 

1 

0.5 

0 


183 | 13 April 2011 



geographical diversification is positive from a credit point of view, we caution that 

2009 demonstrated volatility in Russian power demand (down 5%) and in the rouble 

(down 4%). Another worrying issue right now is the Russian energy ministers talks 

about a potential power tariff revision in Russia to protect consumers bills from rising. 

That said the Russian market has great potential for long-term increasing power demand 

underlined by the Russian Ministry of Energy expecting electricity demand to 

increase by 50% in the coming 10 years. We believe Fortum’s Russian exposure should 

contribute to earnings volatility, given regulatory uncertainty, geopolitical risks, demand 

volatility and integration risk. 

Capex programme 

On the back of the continued positive developments in Russia and in particular due to 

the new generous capacity payments, Fortum has decided to accelerate its capex in 

respect of Russia. In total Fortum expects to spend EUR1.6-1.8bn annually in 2011 

and 2012. For 2013 and 2014 the number is EUR1.1-1.4bn. This compares poorly to 

Fortum’s long-term annual capex target of EUR0.8-1.2bn. On a further worrying 

note, Fortum indicates that it wishes to increase its footprint in Euro-Asian markets, 

seeking to deploy its “clean” technology into developing markets. We see this as 

credit-negative, as this would increase the volatility of Fortum’s assets due to rising 

geo-political risks. 

The Finnish government earlier this year gave a decision in principle that a third reactor 

at Fortum’s Loviisa nuclear site is not recommended. Instead TVO was permitted to 

build a fourth reactor at Olkiluoto, in which Fortum will hold a 26% stake. The government 

stresses that there were no business or operational reasons for Fortum being 

denied. The decision was solely based on a demand projection on Finnish power. Future 

rising demand would be served through the construction of two new reactors, one 

by TVO and one by Fennovoima. In that connection it is relevant to mention that, until 

now, the public reaction to the nuclear crisis in Fukushima hasn’t spurred any meaningful 

public demand for a contraction of nuclear capacity in either Sweden or Finland, 

where Fortum has nuclear capacity. It is difficult to imagine how Finland and Sweden 

should replace the vast amounts of power generated at its nuclear plants. As especially 

the Finnish plants are top-notch in terms of security and since the geological conditions 

in the Nordic region are far more stable than in Japan, we deem the risk of any material 

negative spill-over effects from the Japan crisis as remote. However, it is a political 

issue that could change if things turn increasingly “ugly” in Japan. 

Financial policy 

The hiked capex budget and continued benign shareholder focus makes us worry that 

Fortum’s leverage could deteriorate further in the short future. After Q4, Fortum’s 

adjusted FFO to net debt fell to 18.5%. S&P has recently stated that it expects this 

metric to be above 20% for the current ‘A’ rating. Fortum has, however, repeated its 

net debt to LTM EBITDA guidance of 3x, which is exactly what the metric was after 

Q4. Therefore a further releveraging would mark a temporary breach to Fortum’s 

own guidance. 


In the long-term we see Fortum being well positioned to profit from our expectations 

of recovering Nordic and Russian demand, rising power prices and rising 

CO2 prices. In the short-term, however, we fear that a negative rating-reaction 

could be under way in connection with the group’s Russian capex budget. This, 

coupled with Fortum’s relatively tight pricing relative to peer’s bonds and heightened 

risk of primary market activity makes us repeat our SELL recommendation 

on the name. (See list of instrument prices at the end of this book.) 

Finnish reservoir capacity 

% 

88 

78 

68 

58 

48 

38 

28 

18 

Week 

1 5 9 13 17 21 25 29 33 37 41 45 49 

2008 2009 2010 Median 2011 

Note: % of total Finnish capacity. Source: Nordpool 

Nordpool power prices 

EUR/MWh 

100 

90 

80 

70 

60 

50 

40 

30 

20 

10 

0 

Jan Mar May Jun Aug Oct Dec 

2007 2008 2009 2010 2011 

Source: Nordpool 

184 | 13 April 2011 



Financial data Fortum 


Net Sales 4,491 4,479 5,636 5,435 6,296 

EBITDA 1,884 2,298 2,478 2,292 2,271 

EBIT 1,455 1,847 1,963 1,782 1,708 


Net profit 1,120 1,608 1,596 1,351 1,354 

FFO [1] 1,329 1,619 2,104 2,245 1,399 

Capex [2] 485 592 1,108 862 1,222 

FCF [3] 666 1,078 894 1,402 215 

RCF [4] 342 497 906 1,357 511 

Net Debt [5] 4,345 4,466 6,179 5,969 6,826 


Total Debt 4,502 4,893 7,500 6,859 7,382 

Equity 8,161 8,651 8,411 8,491 8,742 

Ratios 

EBITDA margin 42% 51% 44% 42% 36% 











Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 1,563 1,947 1,295 1,152 1,902 

EBITDA 658 861 490 452 468 

EBITDA margin (%) 0% 0% 0% 0% 0% 

Net income 431 583 271 240 260 

Net debt 5,969 5,679 6,506 6,608 6,826 




Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Power Generation Net sales 663 769 597 584 752 

EBIT 327 467 280 256 129 

EBIT-margin 49% 61% 47% 44% 17% 

Heat Net sales 458 651 301 220 598 

EBIT 109 159 35 -15 124 

EBIT-margin 24% 24% 12% -7% 21% 

Distribution Net sales 227 280 200 196 287 

EBIT 81 113 53 62 93 

EBIT-margin 36% 40% 27% 32% 32% 

Electricity Sales Net sales 410 637 327 305 529 

EBIT 37 -29 23 12 40 

EBIT-margin 9% -5% 7% 4% 8% 

Russia Net sales 197 244 169 137 254 

EBIT 8 32 -9 14 16 

EBIT-margin 4% 13% -5% 10% 6% 


185 | 13 April 2011 



Neste Oil 


Based in Espoo, Neste Oil is Finland’s largest oil refiner employing some 5,030 

people around the globe. The Group has access to refinery plants with relatively high 

complexity, enabling it to process relatively more sour and heavier crude oil types 

with higher inherent margins compared to average oil grades. Neste Oil produces a 

wide array of oil-based products counting gasoline, diesel, aviation and heating fuels, 

base oils and bunker fuels. With some 25 vessels, Neste Oil has access to product and 

crude-tanker capacity, making the Group positively exposed to tanker rates. On top 

of traditional refining, Neste Oil also produces renewable diesel fuels based on vegetable 

oils and animal-waste fat. Finally Neste Oil is active in gasoline, diesel, fuel 

and heating oil retailing, covering the whole of Finland, North-West Russia, the 

Baltics and Poland with its 1,169 service stations. With the exception of crude oil 

procurement, Neste Oil is hence exposed to the whole liquids value chain. Neste Oil 

is 50.1% owned by the Finnish government, the rest of the shares are in free float. 

Neste Oil does not have a rating with either of the major rating agencies, but we see 

an indicative rating for the Group at ‘BBB-‘. 


Above-average complexity 

Neste Oil’s main refineries are situated in Porvoo and Naantali in Southern Finland. 

The distillation capacity of the two refineries is 205mbpd and 56mbpd respectively. 

This ranks Neste Oil as a relatively small player in a global context. What Neste lacks 

in size, it makes up for in complexity. The Nelson complexity index for Porvoo and 

Naantali is 12.1 and 7.1 respectively. In short, the Nelson complexity index reflects the 

oil quality requirements as input into the refinery. The higher the index, the more heavy 

and sour oils can be refined. Normally these oil types are cheaper to buy, reducing the 

variable input cost for a refiner. Furthermore, a high complexity index indicates a high 

value of the final output. Therefore, a higher Nelson complexity index, all things being 

equal, points to higher refinery margins, but also often to higher fixed costs, as complex 

refinery equipment is more expensive to build than low-complex. The average Nelson 

complexity index for European refiners lies in the 6.5 area, rendering Neste Oil a high 

complex refiner relative to peers. Some 54% of Neste Oil’s output is high margin middle 

distillates (heating oil, diesel and jet-fuels) which compares well with a European 

average of 43%. In Q4 10 Neste Oil’s achieved margin on its middle-distillates was 

USD16/bbl compared to Neste’s total refining margin of USD9.67/bbl. In general all 

refining margins tend to be positively correlated to the oil price. 

High cost focus and flexibility in procurement and delivery 

In addition to the margin-enhancing features offered by the complexity of the Group’s 

refineries, Neste Oil also has a very competitive cost structure. In 2010 Neste Oil continued 

its high focus on cost reductions and efficiency. In this connection a vast maintenance 

program was undertaken for its largest refinery in Porvoo. 

In 

addition to complex refinery assets and a competitive cost structure, Neste Oil has 

access to storage capacity of refined products in rock caverns and tank farms totalling 

some 9.7mCbm. This allows the Group to delay sales of refined products if it believes 

the price will rise in the future. Finally Neste Oil has its own tanker fleet, allowing the 

Group to capture international price differences in both crude oil and refined products. 

In 2010 roughly 69% of Neste Oil’s input crude was Russian Export Blend which is 

generally more sour, but also less expensive than ordinary North Sea Brent. As the 

Brent price normally dictates the refinery spreads (vital input for Neste Oil’s operating 

profit), the spread between Urals and Brent is a key spread to monitor for Neste Oil, as 

a cheaper Urals price relative to Brent will feed straight into the refinery spreads. 

HOLD 

Sector: Energy, Oil & Gas Refining & 

Marketing 

Corporate ticker: NESVFH 

Equity ticker: NES1V FH 


Ratings: 




Analyst: 



+45 45 128503 



+46 8 568 80524 


Strengths: 

• Complex refinery assets 

• Diversified over almost the whole 

liquids value chain 

• Conservative shareholder policy 

• Government owned 

Challenges: 

• Exposed to volatile refining margins 

• Relative small refiner 

• Below average credit metrics 

• We see Neste as having an Indicative 

rating borderline investment 

grade 


186 | 13 April 2011 



Liquidity 

According to Neste Oil’s Q4 report, the Group had a solid position of cash & equivalents 

of EUR380m. In 2010 Neste Oil secured some EUR1.1bn in cash flow from 

operations, which is a figure Neste Oil is likely to repeat in 2011. Over the coming 

years these sources of cash will be offset by some EUR299m in short-term debt 

maturities and capex outlays of EUR300m. Management has also decided to pay out 

EUR90m in dividend for the accounting year 2010. Based on these numbers, Neste 

Oil clearly has no liquidity problems in the coming 12 months. When combining this 

with some EUR1.4bn in committed credit facilities, Neste Oil can only be described 

as a company with a very robust liquidity profile. As shareholder friendliness has 

made its way onto many Nordic corporate agendas, we highlight that Neste Oil’s 

management has no mandate from the board to undertake share buybacks. In general 

Neste Oil aims to pay out at least 33% of net earnings each year. The payout ratio for 

2010 will be 39%, a level we think is conservative compared to Nordic industrial 

peers. 


2010 result exceeded expectations 

Generally 2010 was a strong year for Neste Oil. Revenue rose 23% y/y to 

EUR11.9bn as a direct consequence of a higher average oil price and in spite of 

lower production y/y due to a large maintenance outage at the Porvoo refinery. Clean 

EBIT ballooned to EUR240m up 107% y/y as a result of higher refinery margins and 

lower y/y fixed costs. Some of the key reasons for the margin improvements were the 

cold weather, strong refined products demand growth from emerging markets and a 

normalisation of the refinery overcapacity situation in 2009. Both the oil products 

and oil retail divisions performed strongly in 2010 with clean EBIT growth of 98% 

and 20% y/y respectively. Neste Oil’s expected future growth area ‘Renewable Fuels’ 

has yet to show performance with a negative clean EBIT of EUR65m in 2010. 

Neste Oil delivered a solid positive FoCF of EUR173m (-EUR639m in 2009), primarily 

driven by a significant release of working capital during the year. As a consequence 

of the strong cash flow, Neste Oil reduced its net debt position by EUR117m 

to EUR1.8bn. 

2011 Outlook 

Despite the strong result, the shares fell after the release of the 2010 report as the 

2011 outlook was a bit mixed. Neste Oil guided for continued losses in the renewable 

segment also in 2011. As this is meant to be the primary driver of growth for the 

Group, this disappointed the equity market. From a credit perspective, where the 

upside from earnings growth is limited, we see little impact from a delay of profitability 

in the renewable segment. On a positive note, Neste Oil guides for a continuation 

of growth in both refining margins and demand in 2011. Especially diesel demand 

growth is expected to be strong, which bodes well for 2011 cash flow. 

For 2011 Neste Oil guides for capex in the EUR300m area, which is clearly lower 

than the average of EUR745m in the last three years. The drop is primarily due to 

Neste Oil having completed the bulk of capex directed at its two renewable diesel 

refineries in Singapore and Rotterdam in the preceding two years. 

Group targets 

Neste Oil targets a leverage ratio of 25-50%. After Q4 10 this stood at 42.6%. Neste 

Oil has been above this throughout the past five quarters, but has lived up to the 

target in preceding years. Neste Oil targets a payout ratio equivalent to a third of 

underlying profits. In 2010 the payout ratio was 39% on headline numbers, but in the 

55% area on comparable net profit numbers. In the past six years Neste Oil has always 

paid out significantly more than 33%. From a credit perspective this is rather 

disappointing although the level is not high compared to other Nordic industrials. 

Debt maturity profile as of end 2010 

EURm 

700 

600 

500 

400 

300 

200 

100 

0 


Profitability 

EURm 

16000 

14000 

12000 

10000 

8000 

6000 

4000 

2000 

0 

2011 2012 2013 2014 2015 2016 2017+ 


Clean EBIT by segments 2010 

Renewable 

fuels 

0% 


Debt metrics 2010 


9% 

8% 

7% 

6% 

5% 

4% 

3% 

2% 

1% 

0% 

2006 2007 2008 2009 2010 


Oil Retail 

14% 

EURm 

3,000 

2,500 

2,000 

1,500 

1,000 

500 

0 

2006 2007 2008 2009 2010 

Oil 

Products 

86% 

X 

4 

3.5 

3 

2.5 

2 

1.5 

1 

0.5 

0 


187 | 13 April 2011 



Credit metrics improving for Neste Oil 

Following the strong annual report, the Group demonstrated improving credit metrics 

y/y. Headline net debt to EBITDA improved to 3.1x from 3.4x in 2009. We see adjusted 

net debt to EBITDA at 3.6x down from 5x in 2009. Group RCF to adjusted net 

debt was 29.5% in 2010 up 8.5%-points during the year. As cash flow generation is 

set to improve due to significantly lower capex in 2011, we are confident that Neste 

Oil will continue to deliver improvement in credit metrics. 

Another important metric to gauge when it comes to refiners is debt to complexity 

barrels. Basically this measures Neste Oil’s debt per unit of capacity when adjusting 

for the refiner’s complexity. On this measure Neste Oil scored ‘778’ in 2010, which 

in Moody’s methodology maps into a ‘B’ rating. To achieve investment grade on this 

metric in isolation, Neste Oil needs to improve to ‘475’. Compared to a long-term 

average, the last two years of average adjusted net debt to EBITDA of 4.3x mark a 

departure from a longer-term trend where this metric hovered in the 1.4x-area (05- 

08). 

Implied rating 

We believe that a strong leverage level is essential for a Group like Neste Oil because 

of the inherent high operational leverage and high exposure to volatile refinery margins 

and oil prices. This is partly offset by Neste Oil’s fair share of earnings coming 

from retailing and its strong vertical integration in the fluids value chain combined 

with top-notch equipment. Overall we view Neste Oil’s business risk profile as 

somewhere between ‘Fair’ and ‘Weak’. Currently we see the Group’s financial risk 

profile as ‘Intermediate’ but expect this to improve in the coming year. Combining 

these views, we estimate that Neste Oil qualifies as a ‘BB+’ rated issuer on a standalone 

basis. As Neste Oil is 50.1% owned by the government of Finland we see a moderate 

likelihood that Finland will provide some sort of support in case of financial distress. 

Due to this, we assign one additional notch, and arrive at a ‘BBB-‘ long-term 

rating at the senior unsecured level. In assigning our indicative rating to Neste Oil, we 

also take into consideration that only EUR2m out of EUR6.7bn of Group’s high 

quality assets are pledged, providing a relatively strong recovery rating profile for 

Neste Oil. 

Renewable division dependent on political regulation 

The profit of the renewable division, which is flagged as the key growth area for 

Neste Oil, is very dependent on politicians providing incentives to consumers to 

choose renewable fuels such as Neste Oil’s NExBTL renewable diesel over regular 

diesel. In an effort to reduce oil dependence and CO2 emissions, various governments 

require that a certain portion of diesel contains renewable diesel. In other 

instances politicians are providing, or are contemplating, subsidies for renewable 

fuels. Failure by politicians to agree on subsidy schemes or renewable requirements 

will impair Neste Oil’s growth ambitions in the renewable fuels sector. This will also 

lead to large impairments on Neste Oil’s renewable plants into which the Group is 

currently deploying most of its capex. Neste Oil has just recently commissioned a 

huge renewable plant in Singapore with production capacity of some 800kt of 

NExBTL. A similar sized plant is expected to come on stream in the summer of 

2011. The combined capital invested into these two plants is just shy of EUR1.22bn. 


We see Neste Oil as an intermediate issuer in terms of credit quality, where lack of size 

and inherent earnings volatility is offset by a relatively high margined business with 

improving credit metrics and partial government ownership. Neste oil only has three 

EUR issues outstanding all below benchmark size, making the issues rather illiquid. 

Seeing the Group as a ‘BBB-‘ issuer and factoring in a liquidity premium, we think 

Neste Oil’s secondary bonds trade at fair levels compared to other ‘BBB-‘ issuers. We 

initiate coverage with a HOLD recommendation. (See list of instrument prices at the 

end of this book). 

Neste Oil refinery margin 

USD/bbl 

40 

30 

20 

10 

0 

-10 

-20 

-30 

-40 

Q1 

08 

Q2 

08 

Q3 

08 

Q4 

08 


Urals Brent difference 

USD/bbl 

160 

140 

120 

100 

80 

60 

40 

20 

0 

Jan-08 

Apr-08 

Source: Bloomberg 

NWE Diesel margin 

Neste Oil total refining margin 

Jul-08 

NWE heavy fuel oil margin 

Oct-08 

Q1 

09 

Q2 

09 

NWE Gasolinemargin 

Q3 

09 

Q4 

09 

Q1 

10 

Urals -Brent difference >> 

Jan-09 


Financial data Neste Oil 


Net Sales 12,734 12,103 15,043 9,636 11,892 

EBITDA 1,007 996 409 569 582 

EBIT 854 801 186 335 323 

Clean EBIT 597 626 602 116 240 

Net profit 636 580 101 225 231 

FFO [1] 618 730 264 627 619 

Capex [2] 521 321 487 816 932 

FCF [3] -9 220 25 -639 173 

RCF [4] 413 499 8 422 553 

Net Debt [5] 721 755 1,004 1,918 1,801 


Total Debt 783 807 1,059 2,035 2,181 

Equity 2,097 2,427 2,179 2,222 2,426 

Ratios 

EBITDA margin 7.9% 8.2% 2.7% 5.9% 4.9% 



Adjusted FFO/net debt 54.4% 78.6% 19.7% 31.1% 32.3% 

Adjusted RCF/debt 38.0% 56.0% 4.7% 21.9% 29.1% 

Adjusted debt/total capital 37.4% 29.7% 43.8% 49.9% 46.2% 



adjusted for contingent liabilities/contractual obligations, pension liabilities and debt in subsidiaries, which are not wholly-owned and operating leases. Source: Company 

data, Danske Fixed Income Credit Research 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 2491 2725 2576 3,065 3,526 

EBITDA 74 155 -1 207 221 

EBITDA margin 3.0% 5.7% 0.0% 6.8% 6.3% 

Net income 1 64 -50 110 107 

Net debt 1,918 1,753 1,926 2,117 1,801 





Oil Products Net sales 1,987 2,272 2,064 2,491 2,962 

EBIT -11 58 -3 45 108 

EBIT margin -1% 3% 0% 2% 4% 

Renewable Fuels Net sales 61 36 60 120 112 

EBIT -10 -18 -23 -12 -13 

EBIT margin -16% -50% -38% -10% -12% 

Oil Retail Net sales 791 849 884 917 1,004 

EBIT 5 6 13 23 18 

EBIT margin 1% 1% 1% 3% 2% 


189 | 13 April 2011 



Statkraft 


Statkraft is Norway’s largest electric utility, being responsible for some 36% of the 

country’s total generation. With annual power production of 57.4TWh in 2010, 

Statkraft is the third-largest utility company in the Nordic region, following Fortum 

and Vattenfall. Through its large base of owned and partially owned hydrogeneration 

plants and various renewable assets, roughly 88% of its generation portfolio 

is comprised of non-CO2-emitting renewable assets, making it the cleanest generator 

in Europe in terms of emissions. The bulk of the company’s hydro-generation 

facilities are located in Norway, Sweden and Finland. Statkraft also holds peak-load 

capacity in the form of stakes in gas-fired plants in Germany and Norway. As the 

vast majority of Statkraft’s production comes from low variable-cost hydro plants, 

the group’s capacity is very dependent on the level of precipitation in Scandinavia. 

Production of electricity and trading with the wholesale market and major industrial 

customers are the largest contributors to Statkraft’s revenues and operating income, 

although moderate downstream integration through distribution and retail sales provides 

some diversification to cash flow. Statkraft also has a smaller emerging-market 

footprint through its 60%-owned SN Power. In 2010, SN Power’s installed capacity 

was 1GW. Statkraft has 181,000 grid customers across its consolidated companies 

and is 100%-owned by the ‘AAA’ rated Norwegian state. The government ownership 

is reflected in the ratings by both S&P and Moody’s, which give two-notch uplifts in 

their stand-alone ratings due to the assumed support in the event of financial hardship, 

arriving at a rating of Baa1/A-. 


Precipitation risk partly mitigated by large reservoir capacity 

Statkraft is vastly exposed to hydro production, holding more than 40% of the total 

reservoir capacity in Norway. Should precipitation be low, Statkraft can draw on reservoir 

levels to produce power. Currently, levels are very low compared with the average, 

which is a contributing factor behind the high Nordic power prices seen in the past few 

months. In general, although reservoir level volatility affects Statkraft’s earnings, this is 

mitigated to some extent by the negative correlation between reservoir levels and power 

prices, yielding a partial natural hedge. We also note that Statkraft uses power hedges 

to reduce the short-term impact on volatile power prices. 

Relatively low share of regulated earnings 

Parts of Statkraft’s earnings come from regulated distribution assets. We estimate 

that roughly 7% of Statkraft’s 2010 EBITDA was derived from regulated grid and 

heating activities. From a credit point of view, we would prefer more regulated income 

to less, given its predictability in terms of earnings. We see 7% as being at the 

lower end relative to Statkraft’s Nordic peers. Statkraft is further increasing its windgeneration 

capacity. In the sense that these earnings are guaranteed by feed-in tariffs 

imposed by public regulators, they could also be regarded as low-volatility regulated 

income. 

Strong position in Norway 100% government-owned 

As Norway’s largest power producer and owner of vital strategic assets, Statkraft is 

of considerable importance to the Kingdom of Norway. Governed by the Ministry of 

Trade and Industry, Norway has a 100% ownership stake in Statkraft. We do not 

expect the government to reduce its stake below majority going forward. The opposition 

party in Norway continually advocates a reduction in several state ownerships. 

We take comfort in the fact that Statkraft is not one of the companies mentioned and 

maintain that the Norwegian government considers Statkraft’s generation and infrastructure 

assets as key strategic holdings. 

BUY 

Sector: Utility, Electric Utilities 

Corporate ticker: STATK 

Equity ticker: 1256Z NO 

Market cap: not listed 

Ratings: 



Fitch rating: BBB+ / S 

Analyst: 



+45 45 128503 



+46 8 568 80524 


Strengths: 

• Market leader in Norway and topthree 

Nordic player. 

• Low-variable cost power producer. 

• Low CO2 emission produced 

MWh. 

• Vital strategic asset for the AAA 

rated Norwegian government. 

• Proven support from owner 

through equity injection. 

Challenges: 

• Volatile generation capacity, which 

is weather dependent. 

• High capex budget and high dividend 

requirements. 

• Poor diversification on generation 

portfolio. 

• Exposed to below-cost power delivery 

contracts. 


190 | 13 April 2011 



Liquidity 

Following the Norwegian government’s decision to inject some NOK14bn into 

Statkraft, we can only characterize the group’s short-term liquidity profile as solid. 

Statkraft has some NOK20bn in cash and cash equivalents and generated some 

NOK13.6bn in cash flow from operations in 2010, which we expect could be indicative 

of the level in 2011. In the same period Statkraft will face some NOK6.2bn in 

short-term debt maturities. Following the government’s decision to inject cash into 

Statkraft, the group raised its capex budget, which could indicate a level of 

NOK15bn in 2011 (based on a targeted budget of NOK70-80bn over the coming five 

years). 45% of 2011 capex is committed. The government has proposed a NOK5.2bn 

dividend to be paid in 2011. Summing up these items, Statkraft looks adequately 

funded in 2011. 

Statkraft has a policy of maintaining a liquidity reserve adequate to always meet the 

coming six-month maturities. Statkraft’s asset swap with E.ON has given the group a 

4.17% share in E.ON AG’s equity. At current market prices this is worth 

NOK14.6bn. As E.ON AG shares are very liquid, we believe it is prudent to also 

consider these when accessing Statkraft’s liquidity profile. 

Statkraft signed a NOK12bn drawing facility in January 2011, which replaced the 

existing NOK8bn facilities. After this, Statkraft has access to some NOK13bn in committed 

facilities. 


Strong Q4 10 result boosted by higher production & prices 

Statkraft delivered very sound Q4 top-line growth of 10% y/y, primarily driven by 

Nordpool power prices, which were up some 69% y/y. The rising prices were primarily 

the result of lower Nordic capacity as hydro and nuclear capacity were below 

normal. This was further supported by higher demand due to below-average temperatures 

and stronger demand from energy-intensive industrials. In Germany, where 

Statkraft secured just below 8% of its total revenues in 2010, power prices were up 

33% y/y. The higher group revenue was also explained by a slight uptake in hydro 

generation by some 400GWh y/y. We find this rather impressive given the belowaverage 

precipitation in Norway causing reservoir levels to be lower than normal. 

Going forward Statkraft guides below-average generation due to the low capacity at 

its dams. Group EBITDA improved 36% y/y. Excluding hedging and P&L adjustments 

due to value revisions on the balance sheet, group adjusted and comparable 

EBITDA rose 20% y/y, taking the underlying margin to 60.8%, up 5.4pp y/y. The 

higher margin is a direct reflection of Statkraft’s high share of fixed costs in its total 

cost base, causing the group to reap the full margin benefits from rising sales. 

Statkraft’s net income was down 61% y/y, but this was due to a non-cash impairment 

on the group’s 4.17% stake in E.ON AG due to the fall in E.ON’s share price. The 

impairment charge was NOK3.6bn. Adjusting for the E.ON impairment, Statkraft’s 

Q4 net income actually rose 142% y/y. 

Credit metrics improved due to equity injection and strong FOCF 

Statkraft continued its very solid credit trend of delivering strong quarterly FOCF 

numbers. In Q4 FOCF was NOK1.6bn, up 46% y/y. Combined with the Norwegian 

government’s equity injection of some NOK14bn into Statkraft, the group’s net debt 

situation improved substantially. At end-Q4 group net debt was NOK20.4bn, down 

NOK16.9bn during the quarter. On adjusted numbers we subsequently see Statkraft’s 

net debt to LTM EBITDA at 1.5x (2.8x after Q3 10). Adjusted FFO to net debt rose 

sharply to 58.7% (37.1%). LTM adjusted FFO interest coverage rose to 9.6x (9x after 

Q3 09). 


NOKbn 

7,000 

6,000 

5,000 

4,000 

3,000 

2,000 

1,000 

0 


Profitability 

NOK 

35,000 

30,000 

25,000 

20,000 

15,000 

10,000 

5,000 

0 

11 12 13 14 15 16 17 18 19 20 20+ 


Divisional EBITDA split 2010 

Emerging 

markets 

1% 

Wind power 

0% 


Debt metrics 

NOKm 

80,000 

70,000 

60,000 

50,000 

40,000 

30,000 

20,000 

10,000 

0 

2006 2007 2008 2009 2010 


90% 

80% 

70% 

60% 

50% 

40% 

30% 

20% 

10% 

0% 


Skagerak 

Energi 

13% 

Customers 

2% Industrial 

ownership 

0% 

Generation 

& Markets 

84% 

2006 2007 2008 2009 2010 


4.0x 

3.5x 

3.0x 

2.5x 

2.0x 

1.5x 

1.0x 

0.5x 

0.0x 

191 | 13 April 2011 



Outlook 

Statkraft sees 2011 generation at lower levels than 2010 due to the current very low 

hydrological situation in the Norwegian reservoirs. The group expects this to be 

partly offset by relatively higher power prices. We expect Statkraft to present lower 

FOCF going forward, as the group intends to increase its capex spending. 

Norway demonstrates valuable support willingness 

Norway’s decision to inject new equity is very credit positive in our view. To recap, 

Statkraft earlier this year announced its decision to reduce its capex budget from the 

previously targeted NOK90bn in the period 2009-2015 as a consequence of the government’s 

reluctance to give clarity on its decision regarding equity injections into 

Statkraft. After the government decided to inject NOK14bn into Statkraft, the capex 

budget was hiked again to NOK70-80bn in the period 2011-2015. Some 45% of the 

budget is committed, while credit quality preservation will be considered before 

using the remainder. The NOK14bn will be paid as equity capital to Statkraft SF, 

which in turn will increase its share capital in Statkraft AS (the issuer of the outstanding 

EUR bonds). Statkraft states that this "extra" capital will be devoted to 

"strengthen its efforts both in and outside Norway". Statkraft’s chairman said in a 

press conference that roughly 25% of Statkraft’s capital is to be invested in Norway. 

We think that the benefits from increased international diversification outweigh the 

increased inherent geo-political risks from emerging-market exposure. 

The government’s decision underscores the Norwegian state’s willingness to support 

Statkraft, a theme that is currently very valuable as Norway is one of the European 

sovereigns that is also able to support its incumbent utilities in the short to medium 

term. This is less obvious for many of its colleagues in peripheral nations. 

S&Ps removed its negative outlook 

Following the decision from the Norwegian government to inject capital into 

Statkraft, S&P’s removed the negative outlook on Statkraft’s A- rating. The capital 

injection underscores the Norwegian state’s commitment towards maintaining the 

quality of Statkraft. S&P highlights that the subsequently announced capex budget of 

NOK70-80bn is likely to be in line with the current assumptions behind its A- rating. 

Statkraft has a stated target policy of maintaining its current ratings from both 

Moody’s and S&P’s. 


Fundamentally, we like the operating profile of Statkraft and its relatively low-cyclical 

business with its large share of hydro assets being attractive given our expectations of 

higher fossil and CO2 allowance prices. The currently strong operating profile combined 

with management’s rating commitments and the Norwegian government’s equity 

support makes Statkraft a solid credit story, in our view. We caution that the low reservoir 

capacity could give rise to some earnings setback in the quarters to come. Although 

cash generation is likely to fall in the coming quarters as capex picks up, we still 

see Statkraft’s metrics as solidly anchored in its current ratings. We see a risk of opportunistic 

issuance pressure in 2011 but underscore that the group’s liquidity is currently 

strong. Despite good performance we continue to think that selected Statkraft issues 

offer attractive spread levels. We consider the Statkraft 15’s and 19’s as attractive while 

the 17’s are beginning to look fairly priced. Overall we maintain our BUY recommendation 

on Statkraft (see list of instrument prices at the end of this book). 

Nordpool power prices 

EUR/MWh 

100 

90 

80 

70 

60 

50 

40 

30 

20 

10 

0 

Source: Nordpool 

Norwegian reservoir capacity 

% 

100 

90 

80 

70 

60 

50 

40 

30 

20 

Jan Mar May Jun Aug Oct Dec 

2007 2008 2009 2010 2011 

1 5 9 13 17 21 25 29 33 37 41 45 49 

2008 2009 2010 

2011 Median 

Note: % of maximum capacity. Source: Nordpool 

Week 

192 | 13 April 2011 



Financial data Statkraft 


Net Sales 16,200 17,619 25,061 25,675 29,252 

CLEAN EBITDA 13,335 9,620 13,888 12,582 15,030 

EBIT 9,918 7,242 16,618 7,027 12,750 

Net interest expenses 928 1,317 -23,369 1,696 -453 

Net profit 7,735 6,632 33,262 7,716 7,451 

FFO [1] 8,550 7,412 12,459 8,864 14,453 

Capex [2] 3,648 2,014 1,992 3,755 2,852 

FCF [3] 2,896 5,706 9,507 8,959 10,725 

RCF [4] 3,560 -483 4,063 -1,396 6,489 

Net Debt [5] 28,871 34,134 38,582 38,997 20,434 


Total Debt 32,021 37,284 40,791 45,660 40,486 

Equity 44,565 44,418 72,324 64,901 75,302 

Ratios 

Clean EBITDA margin 82.3% 54.6% 55.4% 49.0% 51.4% 

Net debt / clean EBITDA 2.2x 3.5x 2.8x 3.1x 1.4x 

Adjusted net debt / clean EBITDA 2.2x 3.7x 3.0x 3.3x 1.6x 



Adjusted RCF/debt 14% -1% 9% -1% 15% 


(1) CFO before change in working capital (including dividend from associates). (2) CFO less capex. (3) OpFCF less net interest paid (assuming that this number is 

included in Repayment of long-term liabilities and sub. loans), tax paid, and dividends. (4) Total interest-bearing debt less cash and marketable securities. (5) Net debt 

adjusted for guarantees. Source: Company data and Danske Fixed Income Credit Research 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 8,157 10,507 5,443 4,364 8,939 

EBITDA 3,840 5,344 2,801 2,000 5,232 

EBITDA margin (%) 47.1% 50.9% 51.5% 45.8% 58.5% 

Net income 1,777 4,532 1,064 1,163 692 

Net debt 38,997 33,333 31,289 37,352 20,434 





Generation & Markets Net sales 6,140 7,557 3,285 3,546 7,213 

EBIT 2,781 5,344 1,532 1,600 3,774 

Wind power Net sales 115 76 57 48 109 

EBIT 10 5 -40 -83 -155 

Emerging markets Net sales 178 181 163 171 192 

EBIT 10 58 -24 183 -135 

Skagerak Energi Net sales 857 1,117 530 514 1,166 

EBIT 413 778 142 119 829 

Customers Net sales 585 403 653 37 237 

EBIT 39 121 426 -63 43 

Industrial ownership Net sales 991 2,069 1,006 819 2,107 

EBIT 84 14 17 -21 -9 


193 | 13 April 2011 



Statnett 


Statnett is the transmission power system operator (TSO) in Norway, owning some 

10,000km of high-voltage power networks, which comprises some 90% of Norway’s 

total transmission grid. As Statnett leases the remaining 10% from other utilities, Statnett 

is the sole operator of transmission assets in Norway. Statnett also owns part of the 

Norwegian distribution grid. Revenues on the power networks are regulated by the 

Norwegian Water Resources and Energy Directorate. It is Statnett’s task to secure a 

smooth and well functioning power network in Norway, ensuring that all agents have 

free and equal access to transport power. Apart from power networks, Statnett also has 

minor heavy transportation activities through the wholly owned Statnett Transport A/S, 

and is active in the Nordic power exchange through its ownership of the company Nord 

Pool Spot AS. Statnett also has a stake in the cross-border transmission cables connecting 

Norway and continental Europe. Statnett is 100% owned by the ‘AAA’ rated Kingdom 

of Norway. Statnett enjoys a strong credit rating from both Moody’s and S&P’s, 

and is rated, respectively, ‘A+’ and ‘A2’. Moody’s assigns a three-notch uplift due to 

government support while S&P’s assign four notches, reflecting the strong, implicit 

government willingness to support Statnett should the group face financial difficulties. 


Main business areas are regulated 

The Norwegian energy regulator, The Norwegian Water Resources and Energy Directorate, 

decides on the allowed revenue for Statnett. The regulator decides on a fair 

level of revenue to cover a pre-defined level of operating costs and a fair return on 

investments. It uses a yearly ‘revenue cap’ to decide Statnett’s allowed revenues: if 

Statnett’s income is too high or too low according to the allowed return on investments, 

the next year’s allowed revenue is adjusted downward or upward. In the new 

regulatory period, it has been decided that any over- or under-shooting of revenues 

shall be adjusted in the following three to four years instead of previously being 

adjusted over one year. This model ensures that in the medium and long terms Statnett’s 

income should be stable and reflect a fair return on previous years’ investments. 

In practice, Statnett’s revenues consist of a fixed tariff charged to power suppliers. 

On top of this, Statnett charges so-called congestion prices, where excess 

demand for a particular interconnector is regulated by higher prices. The Norwegian 

regulator ensures the long-term stability of the return on investments through annual 

adjustments to the fixed tariff element of Statnett’s revenues. Put simply, Statnett’s 

allowed return on investments is roughly the five-year yield on a Norwegian government 

bond plus around 300bp. Currently this corresponds to 6.27%. Finally Statnett’s 

revenues are adjusted to incentivise a low level of outages. 

Government ownership means long-term cash flow stability 

Statnett is 100% owned by the ‘AAA’ rated Kingdom of Norway. On the basis of 

statements from the ruling party we expect Norway to be very supportive of Statnett as 

it sees the group as a vital strategic asset. In this respect it is also important to note that 

Statnett is embedded in the Ministry of Oil and Energy as opposed to the Ministry of 

Trade and Industry. The Ministry of Oil and Energy traditionally holds Norway’s strategic 

core assets, such as Statoil, Statkraft and Statnett. It is also noteworthy that the 

opposition has not mentioned Statnett when it points to companies it sees as appropriate 

for part or full divestment, such as Telenor, Norsk Hydro and DnB NOR. Should Statnett 

experience financial difficulties it is very likely that the Norwegian government 

will intervene with some sort of financial aid. Furthermore, Statnett’s long-term financial 

rigour is ensured through the regulated income model in Norway, where Statnett is 

secured a fair return on its investments. 

HOLD 

Sector: Utility, Electric Utilities 

Corporate ticker: STATNE 

Equity ticker: 1005Z NO 

Market cap: Not Listed 

Ratings: 

S&P rating: A+/ S 

Moodys rating: A2/ S 


Analyst: 



+45 45 128503 



+46 8 568 80524 


Strengths: 

• Monopoly TSO in Norway. 

• Wholly owned by the Kingdom of 

Norway. 

• Visible regulated revenues. 

• Some diversification into other 

business areas. 

Challenges: 

• Stretched credit metrics. 

• Large investment budget. 

• Weak on a stand-alone basis. 


194 | 13 April 2011 



Liquidity 

Statnett’s liquidity profile is not strong in the short term. In its Q4 10 earnings statement 

Statnett showed a cash and equivalents position of NOK1.7bn. This doesn’t 

compare well to Statnett’s short-term debt maturities of NOK1.3bn and planned 2011 

capex of NOK2.9bn. Statnett also plans to distribute NOK499m in dividends in H1 

11. Due to the nature of Statnett’s regulated revenue profile, it is likely that the group 

will demonstrate a significant drop in cash flow from operations during 2011, as it 

will have to return parts of excess revenues gained in 2010. Therefore the contribution 

to Statnett’s liquidity situation from internally generated cash should be minor in 

2011. We therefore deem Statnett’s liquidity profile as stretched. Mitigating the 

short-term funding pressure is a strong credit facility base. Statnett has a two-tranche 

credit facility available: the first matures in 2012 and amounts to NOK2bn; the second 

was recently established and matures in 2016 with options to prolong it until 

2018 in the amount of NOK3.5bn. However, summarizing Statnett’s liquidity situation, 

we deem it very likely that we will see Statnett issuing in 2011. 


2010 report showed sequential improvement, but this is temporary 

In 2010 Statnett reported revenue growth of 153% y/y to NOK7.2bn. The strong topline 

figure reflects congestion revenues due to excess cross-border power transmission 

spurred by higher-than-normal imports into the Norwegian system. The higher-thannormal 

imports are a consequence of the very dry conditions seen in Norway in 2010, 

coupled with below-average temperatures. The combined effect of low supply and high 

demand has driven a surge in prices and import requirements. Statnett’s revenues were 

further boosted by an allowed tariff deficit recovery in 2010. In 2009 Statnett’s revenues 

were NOK1bn lower than the level commensurate with a fair return on investments 

as stipulated by the regulator. This meant that Statnett was allowed to hike its 

fixed network tariff in 2010 to compensate for the lost revenues in 2009. The high 

revenues in 2010 are above the allowed level and the estimated surplus of NOK1.5bn 

will contribute to tariff reductions in the coming 3-4 years. Statnett’s total costs were 

only up slightly during the year, taking group EBITDA to NOK4bn (NOK300m in 

2009). 2010 net earnings were NOK2.2bn vs a negative NOK500m in 2009. 

In 2010 Statnett landed some NOK3.8bn in cash flow from operations vs. negative 

NOK462m in 2009. In spite of capex being up 48% y/y, Group free cash flow still 

landed at a strong level of NOK1.9bn (negative NOK1.7bn in 2009). The strong, albeit 

temporary, inflow of cash, caused Group net debt to fall 12% y/y to NOK10bn. On 

adjusted basis we see Statnett’s net debt at NOK10.6bn. With the surge in operating 

cash flow in 2010, Statnett delivered a significant improvement in debt metrics with 

adj. net debt to LTM EBITDA at 2.6x vs. 40.8x in 2009. Adjusted net debt to total 

capital was 58.1% in 2010 vs. 68.2% in 2009. 


NOKbn 

12000 

10000 

8000 

6000 

4000 

2000 

0 

Source: Danske Markets & Company data. 

Profitability 

NOKm 

2,500 

2,000 

1,500 

1,000 

500 

0 

-500 


Earnings by segment, 2010 


Debt metrics 

NOKm 

14,000 

12,000 

10,000 

8,000 

6,000 

4,000 

2,000 

0 

Short term 


Long term 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

70% 

60% 

50% 

40% 

30% 

20% 

10% 


Nord Pool 

1% 

Significant capex on the agenda over the next 10 years 

Statnett has identified a capex budget of up to NOK40bn over the coming 10 years. 

This includes investments in a new Oslo fjord cable, a general upgrade and additions to 

Norwegian transformer stations, and the Skagerrak (Norway-Denmark) and Nordlink 

(Norway-Germany) interconnectors. Until and including 2014, Statnett guides investments 

in the NOK18bn area. This massive capex budget is a reflection of the Norwegian 

state’s ambitions to secure a well functioning transmission infrastructure. The 

investments in cross-border interconnectors should reduce Norway’s current dependence 

on hydro generation and subsequent very volatile power prices, as Norway will be 

better equipped to export power in times of overcapacity and vice versa. Currently 

Statnett contemplates interconnectors to the UK, Holland, Germany, Denmark and 

Sweden. The investment budget is also aiming to facilitate further investments from 

generators in remotely situated renewable energy. Constructing a new wind park or 

hydro-plant is only viable if the backbone power infrastructure is in place to facilitate 

transportation of power. Even though the capex budget is credit negative, we once 

again highlight that a fair return on the investments is ensured through the power regu- 

Transportation 

0% 

Revenues 

99% 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

0% 

-10% 

70.0x 

60.0x 

50.0x 

40.0x 

30.0x 

20.0x 

10.0x 

0.0x 

Net debt Equity Net debt/LTM EBITDA (rhs) 

195 | 13 April 2011 



lation model. The most negative implication of the tough capex budget is an increased 

issuance pressure, which could drive secondary spreads wider. Of the flagged 

NOK18bn over the next four years, we estimate that some NOK3.5bn is committed. 

In the case of government-owned power generator Statkraft, the government decided 

on an extraordinary equity injection to fund Statkraft’s large investment budget over the 

next five years. This was done to protect Statkraft’s credit metrics. The government, 

however, decided not to support Statnett’s significant capex budget. We believe, 

though, that the reason for this difference in treatment is the government’s ability to 

support Statnett through the regulated revenue cap. We don’t see the government’s 

reluctance to inject equity as a sign of weakening support. 

Financial targets 

Statnett aims to always hold cash and equivalents to cover the coming 12 months of 

operational and investment costs. Furthermore, it is Statnett’s ambition to have an 

evenly distributed maturity profile. As Statnett’s allowed return on investment is partly 

linked to the interest rate of a Norwegian bond, Statnett has an effective interest rate 

risk hedge. Statnett is positively exposed to interest rate hikes through its tariff structure, 

which to a certain degree offsets Statnett’s negative exposure to rate hikes through 

its funding. Statnett doesn’t provide any guidance on ratings targets or financial metrics, 

so it looks slightly less appealing than Nordic utilities peers, which generally have 

a good reputation of being clear about financial targets. 

Statnett has a long-term dividend payout target of 50%. 

Rating 

Moody’s assigns an ‘A2’ rating to Statnett. This rating includes a three-notch uplift due 

to assumed support from the Kingdom of Norway. On a stand-alone basis Moody’s 

sees Statnett as a ‘Baa2’ issuer. Moody’s states that a benign operating profile is partly 

offset by Statnett’s massive capex budget over the next 10 years. 

S&P’s sees Statnett’s rating a ‘A+’. S&P’s assigns four notches to Statnett due to government 

support. S&P’s hence shares Moody’s view that Statnett’s stand-alone rating is 

in the middle of the ‘BBB’ range. 

Both agencies flag that, under the revenue-cap model in Norway, Statnett won’t be 

compensated for incurred investment costs until the assets are in operation. As many of 

Statnett’s investments have a relatively long lead time from construction initiation to 

assets coming on stream, this implies a short-term negative cash effect, which is likely 

to impair credit metrics as Statnett hikes its investments. However, this is incorporated 

by rating agencies into current metrics. None of Statnett’s assets are pledged. 


We think the regulated nature of Statkraft’s business model makes it a strong credit. 

We like Statnett’s role in Norway as the government’s tool for facilitating its electricity 

policy, making the ties between the government and Statnett very strong. This 

should also ensure timely support if Statnett experiences financial problems. Compared 

to many transmission grid issuers from peripheral EU countries, the strong 

quality of the ‘AAA’-rated Norwegian government is a key comparative credit 

strength for Statnett. On a stand-alone basis, we think the credit-negative contribution 

from Statnett’s mediocre credit metrics and high capex budget are offset by the longterm 

stability of income. Currently Statnett doesn’t have any EUR bonds outstanding 

but only issues in NOK, SEK and CHF. However, we expect Statnett to visit the 

EUR market in the short to medium term, as it seeks funding for its large capex 

budget. We subsequently initiate coverage on Statnett with a HOLD recommendation 

(see list of instrument prices at the end of this book). 

196 | 13 April 2011 



Financial data Statnett 


Net Sales 3,205 3,415 4,256 2,862 7,247 

EBITDA 1,006 1,535 1,722 259 3,975 

EBIT 308 1,025 1,194 -403 3,309 


Net profit 163 651 1,517 -480 2,228 

FFO [1] 858 1,340 1,358 -98 3,682 

Capex [2] 863 661 2,773 1,278 1,892 

FCF [3] 196 1,134 -1,244 -1,740 1,912 

RCF [4] 771 1,188 1,040 -597 3,550 

Net Debt [5] 6,962 8,271 11,345 11,444 10,035 


Total Debt 7,752 9,309 12,340 12,340 11,757 

Equity 4,907 5,562 6,585 5,618 7,658 

Ratios 

EBITDA margin 31.4% 44.9% 40.5% 9.0% 54.9% 





Adjusted RCF/net debt 10.8% 14.1% 8.7% -5.0% 33.4% 



adjusted for contingent liabilities/contractual obligations, pension liabilities and debt in subsidiaries, which are not wholly owned and operating leases. Source: Company 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 855 2,270 1,573 1,392 2,012 

EBITDA -22 1,382 815 705 1,073 

EBITDA margin -3% 61% 52% 51% 53% 

Net income 60 65 41 59 67 

Net debt 11,444 10,257 10,398 10,237 10,035 



197 | 13 April 2011 



Statoil 


Norwegian Statoil ASA is the result of the merger between Statoil and the oil and gas 

activities of Norsk Hydro that took place on 1 October 2007. The group is a vertically 

integrated oil and gas company with activities in 42 different countries, employing 

some 30,300 people. It is the largest producer of crude oil and gas on the Norwegian 

Continental Shelf (NCS), which constitutes 73% of total group equity production. 

In 2010, Statoil had 5.3bn barrels of oil equivalent (boe) in proven liquids and 

gas reserves and an average daily production of 1.9m boe per day. International E&P 

is located in Canada, the Gulf of Mexico, Venezuela, Brazil, Algeria, Libya, Angola, 

Azerbaijan, the UK, China and Russia. In 2010 Statoil’s reserve replacement ratio 

was 87%. While improving, this underlines Statoil’s fundamental problems with 

declining reserves in the NCS, forcing Statoil to look beyond its traditional home turf 

in search of new production assets. Statoil is the second-largest supplier of natural 

gas to Europe and the world’s largest deepwater operator. After the partial IPO, Statoil 

has a 54% stake in Statoil Fuel and Retail, which includes refining activities and 

retail activities selling petrol, diesel and groceries at around 2,283 filling stations in 

Scandinavia. The ‘AAA’-rated Norwegian state holds a 67% stake in Statoil. This 

causes Moody’s to assign a two-notch uplift from the group’s standalone profile, 

arriving at an ‘Aa2’. S&P assigns a one-notch uplift to ‘AA-’. 


Strong operational profile 

Statoil has a strong asset base with NOK5.3bn in proven reserves in several attractive 

regions – i.e. North America, North Africa and several Eurasian states. The bulk of 

the reserves are located on the NCS and gives the group access to hydrocarbon assets 

located in a politically and economically stable region. The group is furthermore the 

world’s largest deepwater operator. The expertise in this segment will be a crucial 

competitive advantage going forward, as we believe future oil resources will be 

found in deep waters as most land-based production sites are being depleted. Statoil 

expects to increase its global liquids production by 3% annually, primarily due to 

acquired and potential reserves being matured for production. In 2010, Statoil experienced 

several technical problems relating to assets on the NCS. Combined with increased 

maintenance and declining production on old assets, overall equity production 

is down by 7% y/y in 2010. 

Declining reserves on the NCS 

Statoil has an ambitious capex budget of USD16bn for 2010 (up 23% on last year). 

The continued high capex budget is an attempt to address the group’s declining reserves. 

Proven reserves have dropped from 5.4bn boe to 5.3bn boe y/y. The reserve 

replacement ratio in 2010 was 87% up from 73% in 2009. Statoil is committed to 

increase its reserve replacement rate to over 100% in the next few years. It continues 

its soft guidance on daily production, expecting a level of 1.9m boe/day or slightly 

under. This guidance points to a lifetime of Statoil’s current proven reserves of fewer 

than eight years. To our understanding this is below levels seen at Statoil’s peers. 

The high capex budget could relieve some pressure in the reserve replacement ratio, 

but we expect that Statoil’s capex budget will need to stay at these high levels in the 

medium- to long-run also, to maintain an adequate reserve replacement ratio. The 

current E&P budget, which targets both NCS and international production, will lead 

to international fields coming on stream, thus creating greater diversification in cash 

flow generation across regions and a fair share of lower taxed income from the international 

division, which is credit positive. 

SELL 

Sector: Energy, Oil and Gas 

Corporate ticker: STOIL 

Equity ticker: STL NO equity 

Market cap: NOK505bn 

Ratings: 

S&P rating: AA- / S 

Moodys rating: Aa2 / S 

Fitch rating: NR / NR 

Analyst: 



+45 45 128503 



+46 8 568 80524 


Strengths: 

• Vital strategic asset for the AAArated 

Norwegian government 

• Largest deepwater operator globally 

• Second largest supplier of natural 

gas to Europe 

• Strong geographic diversification 

• Strong asset base 

• Majority of production in politically 

stable Norway 

Challenges: 

• Volatile oil and gas prices reduce 

earnings stability 

• Declining reserves on the NSC 

• Future large capex programme 

and dividend payouts pressure 

credit metrics 

• Increased production costs pressure 

earnings margins 

• Exposure to politically unstable 

markets 


198 | 13 April 2011 



Liquidity 

Statoil’s liquidity situation is somewhat stretched. In its 2010 report, Statoil demonstrated 

cash & equivalents of NOK30bn. In addition to this Statoil produced some 

NOK80.8bn in cash flow from operations last year. Given the elevated level of the 

current Brent oil prices, it is likely that Statoil will be able to reproduce or even surpass 

such a level in 2011. This, however, is offset by short-term debt maturities of 

NOK11.7bn, projected capex of NOK87.2bn and a dividend payment of NOK19.9bn. 

Adding these sources and drags on short-term liquidity, Statoil’s short term liquidity 

profile doesn’t look overly solid. We would hence not be surprised to see Statoil in the 

primary market during 2011. The most likely issuance currency is the US dollar as we 

see it, as most of Statoil’s income is in US dollars through oil & gas sales. 

Relieving short-term funding pressure somewhat is Statoil’s USD3bn revolving credit 

facility. This was agreed late-2010 and matures in five years with options for a twoyear 

extension. However, we expect that Statoil considers this as an emergency facility 

and hence we expect it to borrow in the primary market. 


Mixed 2010 numbers from Statoil 

Statoil reported a 4% reduction in equity production y/y in its 2010 annual report, 

with a production of 1,888m BOE. Rising liquids prices of 32% on average, more 

than offset the lower production and a 10% fall in gas prices y/y. This caused revenues 

to grow 14% y/y to NOK529.6bn. The production cost per barrel of oil equivalent 

increased to NOK42.8, from NOK38.4 in 2009. In spite of this, group EBITDA 

still rose 7% taking group EBITDA margins to 35.5% from 37.7% in 2009. The 

increase in production cost is mainly related to lower equity production, yielding 

lower fixed cost coverage. On top of this Statoil also incurred several costs related to 

new fields coming on stream. EBIT increased to NOK137bn, up from NOK121bn 

y/y. Net income increased to NOK37.6bn from NOK 17.7bn the year before. The 

increase is mainly due to stronger net operating income and a lower net financial loss 

from US dollar hedges (Statoil only hedges its dollar exposure, not its oil price exposure). 

The tax rate for the year ended at 72.5%, down from 84.6% in 2009, partly 

related to a relatively lower share of income stemming from the NCS which is aggressively 

taxed by the Norwegian authorities. 

Improved cash generation 

Cash flow from operations in 2010 increased to NOK80.8bn from NOK73bn the year 

before, mainly due to higher oil price, lower tax payments and higher cash flow from 

underlying operations. In spite of this, a high capex level caused net debt to increase 

to NOK81.2bn from NOK72bn in 2009. This translated into an adjusted net 

debt/EBITDA of 0.8x, which is on par with the level seen in 2009. Group leverage 

increased slightly, as adjusted net debt to total capital rose to 47.1% from 46.5% in 

2009. 

Fuel and Retail partially spun off 

In 2010 Statoil decided to sell close to half of its retailing network in an IPO. Together 

with the divestment of parts assets in Brazil and Canada, we believe this is 

mildly credit positive as the positive effect on reduced net debt offset’s the partial 

loss of a stable, albeit low margin, asset. Statoil now has 54% stake in Statoil Fuel & 

Retail. 


NOKm 

70,000 

60,000 

50,000 

40,000 

30,000 

20,000 

10,000 

0 


Profitability 

NOKm 

700,000 

600,000 

500,000 

400,000 

300,000 

200,000 

100,000 

0 


Divisional EBIT split 2010 

Development 

& 

Production 

International 

9% 


Financial metrics 

2011 12-13 14-15 2015+ 

2006 2007 2008 2009 2010 


41% 

40% 

39% 

38% 

37% 

36% 

35% 

34% 

33% 

32% 

31% 

30% 


Marketing, 

Processing 

and 

Renewable 

energy 

5% 

NOKm 

250,000 

200,000 

150,000 

100,000 

50,000 

0 

2006 2007 2008 2009 2010 

Political risk has emerged as an important driver in the industry 

The BP oil spill in the Gulf of Mexico in May 2010 turned out to be the biggest environmental 

tragedy ever recorded in the industry’s history. The US government imposed 

a six-month drilling moratorium to determine the cause of the accident. Statoil 

and other oil companies alike have been negatively affected by the moratorium. For 

BP, the dire effects of the accident have been reflected in the company’s CEO having 

to resign, massive negative media coverage, in addition to significant economic con- 

Development 

& 

Production 

Norway 

86% 


X 

0.45 

0.4 

0.35 

0.3 

0.25 

0.2 

0.15 

0.1 

0.05 

0 

199 | 13 April 2011 



sequences with accumulative losses of USD32bn for BP. We believe oil companies 

will meet stricter regulations in the form of safety and environmental requirements, 

which will have a financial impact through costs related to upgrades and maintenance 

activities. In short, we expect political risk to become a stronger driver of business 

risk in terms of capex requirements. We stress though, that safety requirements on 

the NCS, is already among the toughest in the world. 

Outlook and financial targets 

Statoil has on several occasions restated its production guidance and is now taking a 

more cautious stance on 2011, guiding for equity production to be on par with 2010. 

After 2011, Statoil guides for a 3% annual growth rate in production. Although we 

expect extensive maintenance work to translate into additional production, the overall 

trend is that NCS E&P assets are maturing and will require more maintenance, which 

could spell a less consistent operational profile going forward. On a positive note, a 

strong recovery in oil prices has a significant positive impact and offsets the impact 

of impaired operational performance. 

Founded in ambitions of increasing Statoil’s international footprint replacing depleting 

reserves on the NCS, the company is boosting its capital expenditures. Capex for 

2011 will be USD16bn, up from USD13bn in the past years. Group dividend per 

share for the year is NOK6.25 (NOK19.9bn) vs NOK6 in 2009 (NOK19.1bn). 

Statoil states that it seeks to always maintain credit metrics consistent with at least a 

rating in the ‘A’ category. Given Statoil’s current ratings of ‘Aa2’/’AA-’, this policy 

certainly allows for several notch’s downgrade worth of credit metric deterioration, 

which of course is a concern from a credit perspective. 

Rating 

In spite of the above mentioned drags on cash and subsequent pressure on debt metrics, 

we still believe Statoil has some headroom under its current rating and combined 

with a strong oil price, we don’t expect to see any short term rating action on 

Statoil. S&P requires Statoil’s adjusted FFO to adjusted net debt to be in the 55-60% 

area for the current rating. After 2010 this was 59%. The agency cautions, however, 

that Statoil’s ability to replace declining proven reserves will be a key issue for their 

credit quality in the medium term. 


Statoil is a strong E&P player across the whole value chain, with considerable potential 

in the international market. Statoil is refocusing its efforts to secure international 

expansion and streamlining operations to become a purer upstream business. We see 

this as a potential cause for concern, as Statoil will end up less diversified and more 

exposed to the volatile exploration business. In addition, Statoil’s continued efforts 

on expanding internationally bear both financial and political risk. About half of 

Statoil’s capex budget is intended for international development that does not yield 

immediate cash flow. Statoil delivered a decent 2010 report, which was helped by a 

strong oil price. We expect 2011 to show an average Brent price somewhat above the 

USD100/bbl, boding well for 2011 cash generation at Statoil. However, the company 

continues to be haunted by technical problems and impaired performance. We fear 

that we have not seen the full effect of these problems and the impact it will have on 

operational performance going forward. We therefore continue to have a cautious 

view on production. The financial risk profile is still strong, with credit metrics in 

line with current ratings. We believe cash bonds trade tight and fear that the bond 

could widen on the back of capex driven credit metrics deterioration in 2011. We 

therefore change our recommendation on Statoil to SELL from HOLD. (See list of 

instrument prices at the end of this book.) 

200 | 13 April 2011 



Financial data Statoil 


Net Sales 518,960 522,797 656,020 465,433 529,648 

EBITDA 205,614 176,576 241,828 175,696 187,836 

EBIT 166,164 137,204 198,832 121,640 137,228 

Net interest expenses -615 436 -14,198 8,743 -1,424 

Net profit 51,847 44,641 43,270 17,715 37,647 

FFO [1] 93,879 93,426 106,338 68,375 91,163 

Capex [2] 49,365 69,006 67,260 74,355 70,651 

FCF [5] 39,228 24,920 35,273 -1,354 10,164 

RCF [4] 76,123 67,731 79,256 45,290 72,068 

Net Debt [6] 46,222 28,917 46,916 72,367 69,681 


Total Debt 54,772 50,540 75,301 104,112 111,527 

Equity 169,407 179,067 216,055 200,118 226,395 

Ratios 2005 2006 2007 2008 2009 

EBITDA margin 40% 34% 37% 38% 35% 





Adjusted RCF/net debt 0.9x 0.8x 0.7x 0.4x 0.5x 





data and Danske Fixed Income Credit Research 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 124,369 129,715 127,417 125,809 143,286 

EBITDA 46,041 50,721 40,910 40,831 55,374 

EBITDA margin (%) 37.0% 39.1% 32.1% 32.5% 38.6% 

Net income 7,079 11,137 3,057 13,777 9,676 

Net debt 72,367 75,727 89,041 83,279 81,190 




Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

E&P Norway Net sales 158,663 42,119 42,990 35,630 49,989 

EBIT margin 66% 68% 69% 66% 68% 

E&P International Net sales 41,835 13,856 11,269 12,551 13,319 

EBIT margin 6% 35% 22% 9% 31% 

Natural Gas Net sales 98,613 24,336 18,694 18,233 26,258 

EBIT margin 19% 20% -24% 18% 19% 


*in these quarter Fuel & Retail is included in Marketing & Manufacturing 

201 | 13 April 2011 



TVO 


Teollisuuden Voima Oyj (TVO) is Finland’s largest nuclear-based power producer, 

producing 15.7TWh of power in 2010. The bulk of TVO’s power is produced by the 

Olkiluoto 1 and 2 reactors (OL1 and OL2), based near Rauma in South-West 

Finland, with installed capacity of 880MW and 860MW respectively. TVO also has 

some minor coal-fuelled power generation through the partly-owned Meri-Pori plant, 

with installed capacity of 257MW. The power generated at TVO’s plants comprised 

roughly 18% of total Finnish power production in 2010. TVO is a ‘not-for-profit’ 

entity, whose sole purpose is to provide low-cost power to its shareholders. The 

shareholders buy electricity from TVO at cost price pro-rata according to their ownership 

stake. The owners are large Finnish industrials and utilities, the largest being 

Fortum and Pohjolan Voima Oy (PVO). The latter is owned by various energyintensive 

industrial companies including the largest Finnish pulp and paper names 

and municipality-owned utilities. The power produced at OL1 and OL2 is virtually 

non-CO 2 emitting and also has very low variable costs. As such, the power produced 

at TVO is very competitive in relation to the average Nordic power prices on the 

Nordpool. TVO plans to increase its nuclear capacity further on the OL site: OL3 is 

under construction and, when finished, will increase capacity by 1.6GW. This summer, 

the Finnish parliament approved a decision in principle for the construction of a 

fourth reactor at the OL site. TVO is not rated by either Moody’s or S&P, as its notfor-profit 

earnings structure cannot be incorporated into existing rating methodologies. 

Fitch assigns an ‘A-’ rating to TVO, however. The rating has a stable outlook, 

reflecting a benign competitive production profile and ownership situation, offsetting 

very poor credit metrics. 


Credit metrics bad, but this is irrelevant 

The credit metrics of TVO are not good (2010 net debt to LTM EBITDA was 12.1x). 

We believe that this is of minor importance, however, as TVO is organised as a notfor-profit 

organisation, with strong contractual commitments from its owners to pay 

their respective shares of TVO’s cost commitments. Furthermore, should one of the 

owners be unable or decline to buy the power produced from TVO, it can be sold in 

the Finnish power market. Prices on the Nordpool are a lot higher than the cost of 

power produced by TVO. This is because TVO’s production profile primarily stems 

from low variable cost nuclear production, compared with the average producer 

generating through fossil fuels. Only in the very unusual scenario of prolonged multiple 

reactor outages, in combination with the default of several large shareholders, 

could one envisage a scenario in which TVO would have problems meeting interest 

payments and redemptions through internally-generated funds or fixed cost contributions 

from the remaining owners. We see the risk of this scenario as very low. 

Insurance schemes protect TVO in event of minor nuclear accidents 

According to current Finnish law, nuclear power plant operators can be found liable 

to a maximum of EUR342m in the event of a nuclear accident, which TVO has fully 

insured against. Current revisions of international conventions point to an increase in 

the liability to some EUR700m for the operator. The Finnish government and EU 

member countries are liable for EUR700m up to EUR1.5bn. Damages in excess of 

EUR1.5bn would be covered by the operator. The timing of this new rule is contingent 

on all member states implementing the law. TVO plans to insure the EUR700m 

potential liability. We note that TVO would face serious public and governmental 

scrutiny if safety standards were not optimal. A nuclear accident could very quickly 

shift public sentiment away from nuclear production, which could have serious adverse 

consequences for TVO. 

BUY 


Corporate ticker: TVO 

Equity ticker: TVOY FH 


Ratings: 



Fitch rating: A- / S 

Analyst: 



+45 45 128503 



+46 8 568 80524 


Strengths: 

• Largest nuclear producer in 

Finland. 

• Low marginal costs secure competitiveness 

relative to Nordpool 

prices. 

• Strong track record of low level of 

nuclear outages relative to peers. 

• Debt supported by solid Finnish 

industrial and utility players. 

Challenges: 

• Not-for-profit organisation yields 

very poor credit metrics. 

• Risk of negative outcome of 

Areva/Siemens court battle on 

OL3. 

• No rating from Moodys or S&P. 

• Prolonged reactor outages in 

combination with multiple owner 

default could compromise TVOs 

ability to meet debt obligations. 


202 | 13 April 2011 



Liquidity 

As TVO continues to face investment for OL3 and upgrades of OL2 in the coming 

year, the group’s liquidity situation is not overly comfortable. The 2010 report 

showed cash & equivalent of only EUR98m. As TVO’s costs are just covered by 

revenues, prospects for cash generation are low, evidenced by 2010 cash flow of only 

EUR62m. These means of cash hardly cover short-term debt maturities of EUR167m 

and our expectations of capex in the EUR300m area. 

At the end of 2010 TVO also had access to some EUR1.7bn in undrawn committed 

credit facilities, which matures in 2012. These back-up facilities were boosted earlier 

this year where TVO signed a five-year (with the option to prolong for two further 

years) revolving facility of EUR1.5bn. On top of this TVO also has the option to 

borrow up to EUR300m from its shareholders. An option that expires in 2013 and 

will constitute subordinated debt if exercised. We do believe, however, it is likely 

that TVO will engage in some opportunistic prefunding in 2011 in order to avoid 

using its credit facilities. This is also in line with previously stated ambitions from 

TVO to build out its credit curve. 

The relatively evenly-distributed maturity profile is in line with TVO’s policy of never 

having more than 25% of loans maturing within 12 months. Furthermore, TVO aims 

to always have at least EUR90m in cash at hand, allowing it to withstand delayed 

payments from shareholders or a temporary freeze from other funding sources. 


TVOs 2010 report demonstrated stability in generation 

Given TVO’s business profile, it is quite meaningless to discuss developments in 

revenues and earnings, as the latter hover around zero, as agreed between the owners. 

In this context, it is far more interesting to monitor the development in TVO’s power 

generation, as reliability and continuous power production are important as a guarantee 

of cash flows should any of its shareholders default. In this respect, it is also 

relevant to monitor power prices on the Finnish market. If these should fall below the 

variable cost of production for TVO, the shareholders would likely procure their 

wholesale power in the market instead of through TVO, causing the group to be 

forced to sell its power in the market and thereby under-absorb its variable costs. 

However, we consider it very unlikely that Finnish power prices will fall below the 

variable production costs incurred by TVO, which is in the EUR4-5/MWh range. 

In 2010 Finnish power demand grew by 7.6%, which combined with a belowaverage 

year in terms of temperature and rising fossil-fuel prices, caused the price of 

Finnish power to balloon, making TVO’s power relatively more attractive for its 

owners. 

Future prolonged excess maintenance at TVO’s reactors could impair TVO’s attractiveness 

for shareholders. The turbine upgrade of the OL1 and the refuelling of OL2 

in 2010 with subsequent outages caused TVO’s nuclear output to be slightly lower 

y/y. This was, however, offset by higher production from TVO’s coal-fuelled plant, 

causing 2010 power delivered to owner to be 15.7TWh, up 0.5TWh y/y. 

Group net debt at TVO rose y/y to EUR2.6bn, up 8%. Despite this, debt to total 

capital improved 1.7 percentage points to 73%, in line with group policy. Credit 

coverage metrics for TVO are very bad, but given the not-for-profit nature of the 

group, this is of negligible importance. The solidity of TVO’s credit profile was 

affirmed by The Japan Credit Rating Agency at ‘AA’ stable outlook in early- 

February 2011. 

Maturity profile end 2010 

EURm 

900 

800 

700 

600 

500 

400 

300 

200 

100 

0 


Profitability 

EUR 000 

400,000 

350,000 

300,000 

250,000 

200,000 

150,000 

100,000 

50,000 

0 

11 12 13 14 15 16 17 18 19 >20 


Revenue split by segment 2010 

Meri-Pori 

(Coal) 

18% 


Debt metrics 

EUR 000 

3,000,000 

2,500,000 

2,000,000 

1,500,000 

1,000,000 

500,000 

2006 2007 2008 2009 2010 


0 

2006 2007 2008 2009 2010 


70% 

60% 

50% 

40% 

30% 

20% 

10% 

0% 

OL 1 & 2 

(Nuclear) 

82% 

x 

90 

80 

70 

60 

50 

40 

30 

20 

10 

0 

Net debt Equity net debt/EBITDA (rhs) 

In 2010, the Finnish government made a decision in principle, to allow for the construction 

of a fourth reactor at the Olkiluoto site. This will require cash outlays for 

TVO to the tune of EUR3-4bn. We stress though, that the timing of payments will be 

stretched out into the future and that most of the funding will be carried by TVO’s 

owner. Hence the credit impact should be minor. 

203 | 13 April 2011 



Ownership structure secures demand 

TVO’s main shareholder is PVO with a 58.4% stake. PVO is a not-for-profit energyproducing 

entity owned by various Finnish utilities and industrial players, including 

many of the largest Finnish pulp and paper companies, such as UPM (43%) and Stora 

Enso (15%). TVO’s other large shareholders are the large utilities, Fortum (26.1%), 

Oy Mankala AB (8.1%) and EPV Energia (6.6%). The latter two are wholly- and 

7%-owned by the city of Helsinki. In general terms, TVO’s owners are spread across 

Industrials (44%), Fortum (26%) and Municipalities (30%), yielding quite a solid 

ownership base. Being an owner of TVO gives the shareholder the right to buy 

TVO’s produced power at cost price, proportionate to ownership. The variable cost 

price is the variable costs in the production (i.e. nuclear fuel). The owners are contractually 

committed to pay their proportionate share of fixed costs including interest 

payments. These fixed costs are paid one month in advance, reducing TVO’s working 

capital. 

Nuclear generation has public support... at least for now 

Up until the Fukushima nuclear crisis, Finnish public opinion regarding power derived 

from nuclear plants has generally been positive and improving. We do not have 

any surveys on the matter after the crisis in Japan struck, however. Up until now, it is 

our impression that the public reaction to the crisis has not spurred any meaningful 

public demand for a contraction of nuclear capacity in Finland. It is difficult to imagine 

just how Finland could replace the vast amounts of power generated at its nuclear 

plants. As the Finnish plants are top-notch in terms of security and since the geological 

conditions in the Nordic region are far more stable than in Japan, we deem the risk of 

any material negative spill-over effects from the Japan crisis as remote. However, it is a 

political issue that could change if things turn “uglier” in Japan. 

TVO in legal dispute with Areva regarding OL3 

The 1.6GW OL3 reactor was scheduled to be commissioned in the spring of 2009. 

TVO states that most of the construction work on TVO’s third reactor (OL3) is now 

complete and following installation work, TVO guides for reactor start-up in H2 13. 

TVO is still in ongoing arbitration proceedings with the construction consortium 

Areva/Siemens. The consortium has requested arbitration to get compensated for the 

cost related to the delay for which they blame TVO, with subsequent costs of 

EUR1.2bn for the consortium. TVO has in return sued the consortium for EUR1.4bn, 

as the NPV of the project is reduced due to the delayed start-up. We continue to see 

little risk of TVO being found liable for any damages in respect of the delayed construction. 

TVO is a low single A credit 

TVO’s strong rating is underpinned by its full cost pass-through in its ownership 

structure, offsetting very bad credit metrics. Fitch states that upgrade possibilities are 

limited due to asset concentration risk. Fitch flags possible downgrade triggers as a 

significant reduction in liquidity and a significant increase in the cost structure, causing 

TVO’s power to be more expensive than the market power price. 


We perceive TVO’s credit profile as solid. TVO has strong contractual commitments 

from its owners to pay their respective shares of TVO’s cost. Key credit drivers are 

TVO’s ability to stay competitive in terms of costs and to avoid longer unplanned 

outages. As TVO’s nuclear power plants are among the best in the Nordic region, we 

are optimistic on these points. We caution that TVO’s liquidity profile is stretched 

and highlight that primary issuance could be an issue in 2011. Currently investors 

should also require a premium for the uncertainty of political response from the Japan 

crisis currently unfolding, although we are optimistic that the impact will be 

minimal. Despite the strong spread performance we maintain our Buy recommendation 

on TVO. (See list of instrument prices at the end of this book). 

204 | 13 April 2011 



Financial data TVO 

Key figures (EUR 000) 2006 2007 2008 2009 2010 

Net Sales 230,439 232,327 257,275 305,390 362,552 

EBITDA 42,216 33,872 22,753 57,919 217,879 

EBIT -7,503 -16,439 -28,699 4,195 157,924 

Net interest expenses -10,314 21,357 25,181 45,586 120,642 

Net profit 3,619 -37,361 -53,133 -41,395 37,279 

FFO [1] 19,293 6,478 8,576 37,013 64,990 

Capex [2] 257,802 229,901 579,070 801,090 316,840 

FCF [3] -228,785 -228,241 -570,778 -814,832 -254,810 

RCF [4] 19,293 6,478 8,576 37,013 64,990 

Net Debt [5] 1,767,891 1,924,209 1,937,348 2,452,727 2,636,848 

Adjusted Net debt [6] 1,767,891 1,924,209 2,106,925 2,587,730 2,730,123 

Total Debt 1,856,616 2,005,707 1,952,442 2,567,815 2,734,948 

Equity 757,769 918,235 822,830 865,811 1,005,529 

Ratios 

EBITDA margin 18% 15% 9% 19% 60% 





Adjusted RCF/net debt 11% 6% 5% 5% 5% 






Quarterly review (EUR 000) 

Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 79,244 93,653 84,488 97,613 86,798 

EBITDA 15,846 25,294 131,646 30,725 27,214 

EBITDA margin (%) 20% 27% 156% 31% 31% 

Net income -10,957 4,537 26,075 34,091 -27,424 

Net debt 2,452,727 2,507,564 2,561,853 2,652,781 2,636,848 



Divisional quarterly overview (EUR 000) 


OL 1 & 2 Net sales 65,991 73,581 70,461 85,255 68,015 

EBIT -6,245 6,343 -5,970 5,958 5,042 

EBIT margin -9.46% 8.62% -8.47% 6.99% 7.41% 

Meri-Pori Net sales 13,253 20,072 14,027 12,358 18,783 

EBIT -2,123 -1,255 -784 -506 -2,087 

EBIT margin -16.02% -6.25% -5.59% -4.09% -11.11% 


205 | 13 April 2011 



Vattenfall 


Swedish Vattenfall is the largest utility in the Nordic region. Annual power generation 

of 173TWh makes the Group the fifth-largest generator in Europe. Vattenfall is well 

diversified in terms of geography and in terms of generation methods. Furthermore, the 

Group is active across the whole electricity value chain. After E.On and RWE, the 

group ranks third in generation in Germany. Through the acquisition of Dutch Nuon in 

2009, Vattenfall also has a leading position in the Dutch electricity and gas market. 

Vattenfall recently launched a new strategy seeking to focus on core markets Sweden, 

Germany and Holland. This entails divestment of fossil-fuelled power and heat plants 

in Denmark and Poland. While production in the Nordic countries is primarily based on 

nuclear and hydro plants, German and Dutch operations mainly use nuclear and fossilfuelled 

plants. Several of the German fossil-fuelled plants are lignite fired, where the 

lignite is procured from Vattenfall’s own mines. With an announced capex budget of 

SEK165bn during the coming five years, Vattenfall has a solid focus on building non- 

CO2 emitting generation assets. Vattenfall is 100% owned by the ‘AAA’ rated Swedish 

state. Both Moody’s and S&P factor in one notch of government support. Vattenfall is 

committed to maintaining at least a “A-/A3” rating. 


Good diversification across regions and operations 

Vattenfall is a vertically integrated utility company with a high degree of geographical 

diversification within politically stable and economically healthy areas. The 

Swedish generation is mainly hydro and nuclear based, while the German, Danish, 

Polish and Dutch generation is dominated by fossil fuels, adding up to a welldiversified 

group in terms of generation types and income sources. Vattenfall’s generation 

asset base is split between 21% hydro, 25% nuclear, 52% fossil. Overall we 

characterize Vattenfall as a relatively low-cyclical company amongst the Nordic 

industrials. Furthermore, the group enjoys a credit positive natural hedge from its 

Nordic hydro assets with capacity inversely correlated to power prices, all other 

things equal. The joint hydro-nuclear portfolio constitutes a low variable cost production 

base that benefits particularly when fossil fuel and CO2 emission prices are high. 

In Germany, Vattenfall also enjoys some degree of fossil-fuel price volatility immunity 

as it produces its input fuels for its Eastern Germany based lignite fuelled plants 

through its own neighbouring mines. Vattenfall secures roughly one fifth of its earnings 

from regulated distribution and heating assets, which traditionally yields rather 

predictable cash flows. A further credit-stabilising feature comes from Vattenfall’s 

power price hedging, which yields low short-run earnings volatility. For 2011 some 

74% of generated power was hedged at EUR45/MWh in Sweden and 98% hedged at 

EUR55/MWh in Germany. 

Strategy changed from focus on growth to focus on core markets 

In the past couple of years M&A has been high on Vattenfall’s agenda culminating 

with the acquisition of Dutch Nuon for an enterprise value of EUR8.5bn. In September 

Vattenfall updated its strategic plans for the coming years indicating that going 

forward it would focus the group. In that connection Vattenfall stated that its coremarkets 

are Sweden, Germany and the Netherlands. Vattenfall’s exposure to other 

markets will be reduced in the years to come through various asset sales. Asset sales 

in the core markets should not be expected with minority stakes being the exception. 

Vattenfall further stated that it would not invest in new coal capacity until adequate 

CCS (carbon capture and storage) technology is in place. The new strategic plan also 

implies a cost-rationalization programme where Vattenfall seeks to reduce its OPEX 

by 11% or SEK6bn per year (fully implemented by 2014). This should be done 

through head-count reductions and efficiency measures. 

206 | 13 April 2011 

BUY 


Corporate ticker: VATFAL 

Equity ticker: VATT SS 


Ratings: 

S&P rating: A / NO 


Fitch rating: A+ / NO 

Analyst: 



+45 45 128503 



+46 8 568 80524 


Strengths: 

• Leading utility in Europe in terms 

of size 

• Focus on financial leverage reductions 

• Non-core asset sales and cost 

cutting on managements agenda 

• Strong diversification across regions 

and generation mix 

Challenges: 

• Relatively high financial leverage 

after Nuon acquisition 

• Bearish outlook on medium to long 

term power prices 

• Exposure to volatile power prices 

and CO2 allowance prices 

• Risk of Swedish state reducing its 

ownership which could imply a one 

notch downgrade 




Liquidity 

Strength of liquidity profile is not clear cut 

We see Vattenfall’s liquidity position as mildly stretched. In its 2010 report Vattenfall 

showed cash & equivalents of SEK39.2bn hardly covering some SEK34.7bn in short term 

debt maturities and a planned SEK6.5bn dividend payment in 2011. Vattenfall guides for 

some SEK42bn in capex in 2011. Whether this can be covered by cash flow generation in 

2011 is not a given. In 2010 Vattenfall generated some SEK41.1bn in cash flow from operations. 

While these numbers point to a relatively high risk of primary issuance in 2011, we 

stress that cash raised in connection with Vattenfall’s asset disposal ambitions in 2011 is 

likely to make prefunding less imminent. That said, we would certainly not rule out Vattenfall 

as an opportunistic issuer in 2011 although we take some comfort in a relatively small 

chunk of debt maturities in 2012. In Q1 2011 Vattenfall secured a 5-year revolving credit 

facility of EUR2.55bn adding to committed facilities of SEK16bn at end Q4. 


Vattenfall delivered a strong Q4 2010 

In Q4 Vattenfall continued its stream of solid quarterly reports from a credit perspective. 

A solid Group Q4 power generation of 46.4TWh (up 6.7% y/y) was offset by a rising 

SEK and lost revenues from the divested German transmission grid. This caused Group 

revenues to fall 15% y/y. A strong focus on cost rationalisations was able to offset the lost 

revenue and yielded an unchanged EBITDA y/y. In January 2011 Vattenfall announced 

that it would take a Q4 2010 SEK4.3bn impairment charge on its Nuon investment. This 

was partly offset by a SEK1.3bn reversal on a previous impairment on Vattenfall’s divested 

German transmission grid. These effects caused head-line EBIT to drop 12% y/y. 

Excluding the impairments and other items affecting comparability, Vattenfall delivered a 

7% increase in EBIT. Group Q4 net income surged 17% partly due to a lower debt base. 

Vattenfall’s earnings are still handicapped by the loss of income from its partial ownership 

in its two German nuclear plants Krümmel and Brunsbüttel. In Q4 the foregone 

earnings are estimated to be SEK1.5bn. Currently the Krümmel and Brunsbüttel plants are 

among those seven German nuclear plants that have been chosen for a temporarily threemonth 

outage for security checks in the wake of the Fukushima nuclear incident. Several 

German politicians are currently suggesting that in the interest of public safety, these 

seven plants should never be reopened. Furthermore it is right now being debated whether 

the previously proposed nuclear lifetime extension in Germany should be abandoned. If 

this happens it will be interesting to see if the proposed German Nuclear tax, which is 

expected to weigh by some EUR165m in 2011 on Vattenfall will also be abandoned. 

From a credit perspective, one could argue that a closure of Krümmel and Brunsbüttel 

could be perceived as a positive if the compensation is adequate. The argument behind 

this is that cash on the balance sheet would be preferable relative to two assets notoriously 

known for unplanned outages (both have been out of service since 2007). 

Net debt and metrics improved to levels in line with the current rating 

In Q4 Vattenfall’s net debt position fell 8% sequentially to SEK144.4bn. On an adjusted 

basis we see this number at SEK190.9bn. This yields an adjusted net debt to EBITDA 

figure of 3x marking an improvement of 0.1x sequentially. Adjusted FFO to net debt 

improved 0.5%-point q/q to 21.9%. The Interest coverage trigger ratio which, as defined 

in Vattenfall’s hybrid prospectus, must be above 2.5x before its hybrid is obliged to cancel 

coupons, stood at comforting 7x (up from 6.2x in Q3 10). 

Financial targets reiterated in connection with the new strategic plan 

In the 2010 presentation, the CEO repeated that the current debt level in Vattenfall is 

too high. Apart from non-core asset sales, this will be resolved through capex budget 

cuts. In this context Vattenfall has reduced its 2011-2015 capex budget to SEK165bn 

from SEK201bn. The group maintains its financial targets, targeting a ROE of 15% 

(10% in 2010), CFO interest coverage of 3.5-4.5x (4.6x in 2010), a credit rating in 

the single ‘A’ category (Currently A2 S/A NO) and a dividend payout policy of 40- 

Debt maturity profile at end 2010 

SEKbn 

35 

30 

25 

20 

15 

10 

5 

0 


Profitability 

SEKm 

250,000 

200,000 

150,000 

100,000 

50,000 

0 


LTM EBIT by segments (2010) 

Benelux 

0% 


Debt metrics 

SEKm 

180,000 

160,000 

140,000 

120,000 

100,000 

80,000 

60,000 

40,000 

20,000 

0 

Central 

Europe 

34% 

Hybrid bond 

2006 2007 2008 2009 2010 


35% 

30% 

25% 

20% 

15% 

10% 

5% 

0% 


Supply & 

Trading 

13% 

Pan Europe 

(Nuclear, 

Wind) 

12% 

Nordic 

41% 

2006 2007 2008 2009 2010 


3.5x 

3.0x 

2.5x 

2.0x 

1.5x 

1.0x 

0.5x 

0.0x 

207 | 13 April 2011 



60% (50% for 2010). This will further be facilitated through efficiency measures 

aimed at reducing operating costs by SEK6bn annually by 2014. 

Rating downgrade should be off the table following focus on deleveraging 

Vattenfall's Q4 2010 adj. LTM FFO/net debt of 22% should be in line with the minimum 

requirement for the current ‘A’ rating at S&P. In November 2010 S&P repeated 

its ‘A’ rating with a negative outlook fearing that squeezed margins and a high capex 

budget could hamper free cash flow generation while also recognizing that Vattenfall’s 

asset disposal programme could strengthen the Group’s debt protection measures. We 

expect rating pressure to fade in the quarters to come. Furthermore, we see good shortterm 

momentum from relatively high power prices driven by rising demand and 

commodities prices. We note though, that Vattenfall is only committed to a low-‘A’ 

rating. As such a downgrade would be acceptable from both Moody’s and S&P. 

Currently Moody’s rates Vattenfall at A2 with stable outlook. 

Regulation plays a significant role for Vattenfall 

Vattenfall continues to face regulatory headwinds. We have seen tax increases on 

hydro property and nuclear capacity in Sweden. Current debates in the EU and Sweden 

point to a healthy rise in nuclear liabilities damages, impacting the whole industry. 

In Germany the government has imposed a nuclear tax for a total of EUR2.3bn 

for the industry. This will impact Vattenfall with a net loss of SEK2bn, pending on 

the resumption of operations of its German nuclear plants. Furthermore, Vattenfall is 

at risk of having its two partly-owned nuclear power plants shut down, compensation 

for which is very uncertain. On the positive side, regulation secures a steady source 

of income on monopoly-like operations such as distribution and heat. Going forward 

we fear that the regulatory environment will get tougher as excess profits in utilities 

are a politically feasible funding source for ailing government budgets. As the various 

nations are quite dependent on a well-functioning utilities sector, we believe that 

the extent of cash-drainage from utilities is likely to be done in a prudent manner, 

securing liquidity to fund necessary investments and financial stability. 

Vattenfall is still a candidate for partial divestment 

The Swedish election mid September secured the right-wing parties, who favour a 

partial divestment of Vattenfall, another four years. They only won a minority governmental 

seat, implying that they have to secure back-up for the Vattenfall divestment 

with competing parties. The majority of the opposition has recently made a 

statement opposing privatisation of Vattenfall, but one party, which could create a 

majority in favour of partial divestment, still remains to state its attitude in the matter. 

Although the prospect of a partial divestment of Vattenfall is negative, we stress 

that Sweden will remain a majority shareholder. Subsequently we believe that the 

support assumptions could be intact and hence that Vattenfall will retain its one notch 

uplift from rating agencies due to government support. Timing of a divestment is 

highly uncertain and depends on general market conditions. 


We view Vattenfall as a strong and improving Nordic utility from a credit perspective. 

The developments of Nuon’s profitability, continued focus on cost rationalisations, 

asset sales and capex budget reduction will lead to further improvement of Vattenfall’s 

metrics in our view. We expect that Vattenfall will have its negative outlook removed 

by S&P in 2011. We believe that Vattenfall management will continue to run the 

company in a more defensive manner, as opposed to previous management which 

was heavily scrutinized by public opinion and politicians for increasing the business 

risk in Vattenfall through investments in fossil-fuelled assets in the Netherlands. We 

continue to see value in Vattenfall and maintain our Buy rating, preferring the 14’s 

and 19’s (see list of instrument prices at the end of this book). 

208 | 13 April 2011 



Financial data Vattenfall 


Net Sales 135,802 143,639 164,549 205,407 213,572 

EBITDA 43,938 45,821 45,960 51,777 60,706 

EBIT 27,448 28,583 29,895 27,938 29,853 


Net profit 19,858 20,686 17,763 13,448 13,185 

FFO [1] 29,781 26,442 22,669 29,720 34,797 

Capex [2] 16,387 18,964 42,296 102,989 41,794 

FCF [3] 18,820 13,367 -6,102 -56,743 -563 

RCF [4] 29,781 26,442 22,669 29,720 34,797 

Net Debt [5] 56,941 56,626 74,579 156,554 144,404 


Total Debt 71,575 67,189 107,347 213,494 188,277 

Equity 107,674 124,132 140,886 142,404 133,621 

Ratios 

EBITDA margin 32% 32% 28% 25% 28% 










Company data and Danske Fixed Income Credit Research 


Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 65,405 70,657 49,713 37,665 55,537 

EBITDA 15,360 20,799 13,867 10,685 15,355 

EBITDA margin 23% 29% 28% 28% 28% 

Net income 2,110 3,787 5,185 1,749 2,464 

Net debt 156,554 167,398 152,893 145,489 144,404 




Business Group Nordic Net sales 11,736 12,618 10,215 9,639 13,176 

EBIT 3,346 6,592 2,964 2,516 4,726 

Business Group Central Europe Net sales 44,489 44,751 33,611 16,650 29,727 

EBIT 4,715 5,399 3,622 2,548 2,086 

Business Group Pan Europe Net sales 5,488 5,399 6,358 2,018 7,217 

EBIT 230 995 2,228 621 987 

Business Group Benelux Net sales 14,842 16,333 9,398 6,792 15,058 

EBIT 168 162 -195 -403 112 

Supply & Trading Net sales 26,319 22,413 18,589 2,652 26,885 

EBIT 1,166 2,164 824 624 1,488 


209 | 13 April 2011 



Vestas 


Danish-based Vestas Wind Systems A/S was redefined in 1986 as a pure wind power 

company. Vestas is the global market leader in wind turbines. With more than 23,000 

employees, the group is active in development, production, operation and maintenance 

of wind technology. With wind technology being the sole business area, Vestas’ product 

diversification is very narrow. However, this is partly offset by strong geographical 

diversification, with presence in a broad host of countries spread across the globe. 

Vestas produces a large part of its components itself at production facilities with close 

proximity to the factories. This reduces reliance on sub-suppliers and transportation 

costs. Vestas is one of the leaders of the wind segment in terms of technology. The 

group offers turbine capacity of up to 3MW and expects to offer turbines with up to 

7MW in the near future. Vestas is well positioned in terms of cost per capacity, which 

we see as a vital competitive edge in an increasingly tough marketplace for wind technology. 

Vestas’ shares are in free float with the largest shareholder owning some 5%. 

Vestas is not rated by any of the rating agencies, but we see it as a ‘BBB-’ entity on 

senior unsecured level. 


Market leader in a competitive environment 

According to BTM Consult, Vestas is the global leader in wind power technology, 

with a 2010 market share of 14.8% followed by Chinese Sinovel (11.1%), US-based 

GE Wind (9.6%) and Chinese Goldwin (8.5%). The fast rise of several Asian windturbine 

producers previously had a negative impact on Vestas’ market share, as evidenced 

by a drop in Vestas’ global market share of 7.4 percentage points (pp) from 

2008 to 2009. However, as a result of a strong 2010 order book, Vestas reclaimed 

some 2.3pp, landing at the current 14.8% market share. In both China and the US 

market, there has been tremendous order growth in 2010. According to AWEA, 

Vestas’ market share in terms of installations in the US has dropped to 4.3% in 2010 

from 15% in 2009. However, a high US order intake in 2010 is likely to boost Vestas’ 

market share in the US going forward. Vestas’ ability to defend its marketleading 

position is founded on its strong track record of delivering high-quality, lowcost 

wind turbines. Vestas expects strong growth in the offshore wind segment in 

which it holds an accumulated market share of 45% (40% in 2009). This market, 

however, only comprises some 3% of Vestas’ total delivered installed capacity (2% 

in 2009). However, as appropriate onshore locations for wind turbines are becoming 

increasingly scarce and as the achieved load factors are higher offshore, we expect 

the offshore market to grow significantly in importance in the coming years. 

Macro themes support Vestas business 

Being a non-CO2 emitting power generation technology provider, Vestas is comfortably 

aligned with the current public focus on CO2’s linkage to man-made climate 

change. In spite of the economic crisis, we still believe there is global political will to 

increase the price of CO2 emissions. Another important determinant of overall wind 

turbine demand is the price of fuel for competing power-generation technologies. As 

gas and coal prices increase, wind power becomes more attractive in terms of cost 

per MWh. While rising prices in the fuels commodities markets are positive for Vestas, 

rising commodities prices in the metals markets hurt group margins, as wind 

turbine components are produced from various metals. Finally, the Fukushima nuclear 

crisis is likely to dampen global demand from new nuclear capacity going forward. 

In some countries it even seems likely that current capacity could be reduced 

as a consequence of nuclear fears. This is obviously a positive theme for the windsector, 

being a supplier of a safe and clean power generation technology. The crisis is 

still unfolding, and it is still very uncertain what the final outcome in terms of policy 

response will be. 

210 | 13 April 2011 

SELL 

Sector: Industrials, Capital Goods 

Corporate ticker: VWSDC 

Equity ticker: VWS DC 

Market cap: DKK41.3bn 

Ratings: 



Fitchs rating: NR 

Analyst: 



+45 45 128503 

Asbjørn Purup Anderen 

Asbjorn.andersen@danskebank.dk 

+45 45 148886 


Strengths: 

• Market leader in wind technology. 

• Proven track record of cost efficiency 

and innovation 

• Solid debt metrics, albeit declining 

in quality 

• Global diversification 

Challenges: 

• Declining credit quality on the back 

of high capex budget 

• Subsidy-dependant industry 

• Tough competition and high technological 

risks in wind-energy 

segment 

• Q1 order intake not satisfactory 




Liquidity 

Vestas’ short-term liquidity profile is very dependent on its cash generating abilities in 

2011. On the back of a strong order intake in 2010, in our view it is likely that we will 

see a dramatic improvement in cash flow from operations, as turbines ordered in 2010 

are installed and delivered with subsequent cash payment. Vestas guides for FOCF in 

2011 of around zero, marking a significant improvement from the negative FOCF of 

EUR730m seen in 2010. Following capex guidance of EUR850 in 2011, we think that 

the implied operating cash flow guidance of EUR850m looks rather ambitious, though. 

After 2010 Vestas’ reported cash and equivalents stood at EUR335m. Vestas also has 

access to committed credit facilities, the size of which it doesn’t disclose. These items 

easily cover short term debt maturities of EUR4m in 2011. Vestas doesn’t expect to pay 

out any dividends for 2011. Overall Vestas’ liquidity situation is contingent on a strong 

cash generation in 2011. Should Vestas disappoint in this, it is very likely that we will 

see the Group in the primary market in 2011. 


2010 report a mixed bag clouded by accounting principle change 

On the back of increased investment activity from global utilities, Vestas was able to 

deliver a full year increase in revenues of 36% y/y. The European and Asian markets 

performed especially well with y/y top-line growth of 30% and 120%, respectively. 

In 2010, Vestas also reported a good order intake from the US, but these will not be 

booked until 2011 and 2012 when they are delivered. In Q4, Vestas changed its accounting 

principle, delaying revenue recognition on delivery and installation projects, 

making quarterly EBITDA comparisons difficult. The shift in earnings recognition 

made 2010 look relatively strong compared with 2009, which helped Vestas report 

59% growth in EBITDA y/y. It reported an EBITDA margin of 10.8% in 2010 up 

1.6pp y/y. However, we caution that the improved profitability is mostly a reflection 

of an increased capacity utilisation from a rather generous point of departure. Going 

forward, we fear that rising component costs and very tough competition fuelled by 

aggressive price undercutting by among others, Chinese turbine manufacturers, will 

lead to profitability erosion. This fear is partly mitigated by an upward trend in realised 

price per MWh in Vestas’ order book during 2010. For Q4, Vestas states that it 

achieved an average price in excess of EUR1.2m compared with just over EUR1m in 

Q1. However, for 2010 as a whole, the average price fell 5% y/y. 


In 2010, a relatively strong FFO of EUR409m was offset by increased working capital 

and a continued high capex level, which left the Group’s free operating cash flow 

at a negative EUR730m. This resulted in Vestas going from having net cash of 

EUR137m in 2009 to having a net debt position of EUR579m after 2010. Relative to 

Q3 10, this marks a net debt reduction of EUR148m. On an adjusted basis we see the 

net debt at EUR767m, translating into an adjusted net debt to EBITDA figure of 1x 

vs zero after 2009. Adjusted net debt to total capital stood at 22% after 2010 vs 0.3% 

after 2009. 

Subsidy dependant business 

In spite of a declining trend on the cost per MWh over the past decade, the price of 

producing power using wind turbines is still not competitive with other more established 

power generation methods. Generally the various politicians’ rhetoric around 

carbon emission reductions points to a strong willingness to support green industries 

like the wind power industry, offering subsidy schemes that make it attractive to 

invest in wind turbines. However, there is a potential risk of governments reducing or 

eliminating subsidies in the future. The current budget difficulties in southern Europe 

underline this risk as evidenced by Spain, which has temporarily backed down from 

incentives for wind turbine investments to defend its stressed public budget. 


EURm 

1,000 

900 

800 

700 

600 

500 

400 

300 

200 

100 

0 

Source: Danske Markets & Company data. 

Profitability 

EURm 

8000 

7000 

6000 

5000 

4000 

3000 

2000 

1000 

0 


Revenues by segment, 2010 

Asia/Pacific 

16% 

Americas 

24% 


Debt metrics 

EURm 

3,000 

2,500 

2,000 

1,500 

1,000 

500 

0 

-500 

-1,000 

5 years 


14% 

12% 

10% 

8% 

6% 

4% 

2% 

0% 

2006 2007 2008 2009 2010 


Production 

units 

0% 

2006 2007 2008 2009 2010 

Europe/ 

Africa 

60% 

X 

1 


0.5 

0 

-0.5 

-1 

-1.5 

-2 

211 | 13 April 2011 



Also, should future scientific research point to no causality between global climate 

change and industrially released CO2 gases, this could lead to public pressure to 

reduce green subsidies in an effort to lower power bills. Should government subsidies 

be reduced or removed, it would be seriously credit negative, as the incentive to 

choose wind technology over cheaper fossil-based technologies would fade. 

High technological risk 

The changing order of merit over time in terms of cost/MW and CO2 emission profile 

carries an inherent obsolescence risk for generation capacity producers. As Vestas 

carries a one stringed technology exposure it is, in our view, highly exposed to 

this risk. Potential new technologies include solar, tidal, pellet, geothermic, biomass, 

osmotic and CCS. None of these technologies are currently economically self sustaining, 

but with extensive research in the area, we see a clear medium- to long-term 

risk of an emergence of ‘better’ technologies. 

2011 guidance 

Vestas guidance for 2011 targets full year sales of EUR7bn. The Group repeated its 

EBIT margin guidance of 7% excluding restructuring costs, which is almost in line 

with the 6.8% margin achieved in 2010. Order intake guidance was repeated at 7- 

8GW. Fulfilment of this target got off to a slow start with only 338MW of announced 

orders in Q1. The big question mark is: how much margin contribution will the new 

turbines yield? From a credit perspective, Vestas’ 2011 guidance was disappointing. 

The Group hiked its capex guidance by EUR150m and is now targeting EUR850m. 

In spite of this, Vestas targets free cash flow around zero in 2011. Vestas also shed 

some additional light on its financial policy, stating that its net debt to EBITDA 

should not exceed 2x. With this metric currently at 0.8x (unadjusted), Vestas has 

additional room to lever up its balance sheet, which is obviously a concern from a 

credit perspective. 

Financial policies and indicative rating 

Vestas’ policy is to pay dividends of 25-30% of the profit for the year. However, the 

distribution of dividends is always decided once consideration has been given to the 

Group’s plans for growth and liquidity. The Group has not paid any dividends since 

2003 and it does not have a public rating. We believe Vestas’ market-leading position, 

strong geographical diversification and cutting-edge technology in a booming market 

are offset by a narrow product focus with a product characterised by high competition 

and high political and technological risk. When summarising Vestas’ business 

risk and financial risk profiles, we arrive at a ‘BBB-’ rating at the senior unsecured 

level. 


We continue to maintain a fundamentally bearish long-term view on Vestas rooted in 

high political risks fuelled by ailing government budgets threatening the future levels of 

green energy subsidies. Furthermore, competition and component costs are on the rise, 

threatening the margins of the Group. In the longer term, competition and technological 

leaps mark a more fundamental challenge to Vestas with its very narrow product diversification. 

On a short-term basis, Vestas’ mixed 2011 outlook from a credit perspective 

combined with deteriorated y/y credit metrics gives further fuel to our negative stance 

on the name. We highlight that the current strong momentum of fossil fuel prices and 

the developing story in Fukushima could be a positive short-term driver, making wind 

relatively more attractive relative to conventional generation technologies. 

Vestas order intake 

MW 

3,500 

3,000 

2,500 

2,000 

1,500 

1,000 

500 

0 

Q1 

09 

Q2 

09 

Q3 

09 

Q4 

09 

Q1 

10 

Announced orders 

Required to meet guidance 

Q2 

10 

Q3 

10 

Q4 

10 

Q1 

11 


Q2 

11 

Unanounced orders 

Q3 

11 

Q4 

11 

While the level of the Vestas’ 2015 bond currently trades favourably compared with 

‘BBB-’ rated industrials in the ASW+147 area, we still see medium-term downside 

risks as being above average for the rating category. Combining this with the illiquid 

nature of the bonds in combination with new issuance risk, we maintain our current Sell 

recommendation. (see list of instrument prices at the end of this book). 

212 | 13 April 2011 



Financial data Vestas 


Net Sales 4,179 3,828 5,904 5,079 6,920 

EBITDA 331 338 749 469 747 

EBIT 204 202 614 251 310 

Net interest expenses 40 0 -46 48 72 

Net profit 113 104 470 125 156 

FFO [1] 76 594 768 357 409 

Capex [2] 153 265 509 833 786 

FCF [3] 444 436 -232 -867 -730 

RCF [4] 76 594 768 357 409 

Net Debt [5] -270 -614 -39 -137 579 

Adjusted Net debt [6] -254 -512 117 7 767 

Total Debt 174 150 123 351 914 

Equity 1,262 1,516 1,587 2,542 2,754 

Ratios 

EBITDA margin 8% 9% 13% 9% 11% 

Net debt / EBITDA -0.8x -1.8x -0.1x -0.3x 0.8x 

Adjusted net debt / EBITDA -0.8x -1.5x 0.1x 0.0x 1.0x 


Adjusted FFO/net debt -0.3x -1.2x 6.8x 55.3x 0.6x 

Adjusted RCF/net debt -0.3x -1.1x 6.8x 55.2x 0.6x 

Adjusted debt/total capital -25% -51% 7% 0% 22% 

1) Cash flow from operating activities before changes in working capital. 2) Investments in tangible assets. 3) Cash flow from operating activities less capex. 4) Cash 

flow from operating activities less dividends but before changes in working capital. 5) Total interest-bearing debt less cash and marketable securities. 6) Net debt 

adjusted for contingent liabilities/contractual obligations, pension liabilities and debt in subsidiaries, which are not wholly owned and operating leases. Source: 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Net sales 1,474 849 1,032 1,916 3,123 

EBITDA -85 13 -101 342 493 

EBITDA margin (%) 5% 7% 1% 0% 7% 

Net income -70 -39 -143 187 151 

Net debt -137 404 896 727 579 

Net debt/LTM EBITDA -0.3x 1.1x 6.7x 4.3x 0.8x 



Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 

Europe Net sales 1,113 455 486 678 2,537 

EBIT 35 8 36 13 113 

EBIT-margin 3% 2% 7% 2% 4% 

Americas Net sales 350 138 418 753 317 

EBIT -3 -3 2 36 14 

EBIT-margin -1% -2% 0% 5% 4% 

Asia/Pacific Net sales 441 162 100 289 581 

EBIT -16 -6 -16 -21 -40 

EBIT-margin -4% -4% -16% -7% -7% 


213 | 13 April 2011 



214 | 13 April 2011 



Appendix 

215 | 13 April 2011 



Instrument price list - Financials 

Comparable EUR issues 

Name Ticker Collat. Coupon Maturity Call Rating Indicative ASW or DM offer 

Danske Bank DANBNK Senior 4.75 04/06/2014 A1/A/A+ + 78 

Danske Bank DANBNK Senior FRN 16/09/2013 A1/A/A+ + 45 

Danske Bank DANBNK T1 4.878 15/05/2049 2017 Baa3/BB+/A- + 247 

DnB NOR DNBNOR Senior 4.5 29/05/2014 Aa3/A+/A+ + 43 

DnB NOR DNBNOR Senior FRN 16/01/2014 Aa3/A+/A+ +36 

DnB NOR DNBNOR LT2 FRN 30/05/2017 2012 A1/A/A +55 

DnB NOR DNBNOR T1 7.068 19/11/2049 2012 Baa3/BBB+/NR + 163 

Handelsbanken SHBASS Senior 4.875 25/03/2014 Aa2/AA-/AA- + 30 

Handelsbanken SHBASS Senior FRN 14/01/2013 Aa2/AA-/AA- + 18 

Handelsbanken SHBASS LT2 FRN 19/10/2017 2012 Aa3/A+/A+ + 70 

Handelsbanken SHBASS T1 4.194 16/12/2049 2015 Baa2/A-/A +197 

Jyske Bank JYBC Senior FRN 04/04/2012 A1/A/NR + 45 

Nordea NBHSS Senior 4.5 12/05/2014 Aa2/AA-/AA- + 54 

Nordea NBHSS Senior FRN 10/12/2012 Aa2/AA-/AA- + 20 

Nordea NBHSS T1 8.375 25/03/2049 2015 Baa2/A-/A + 353 

Nykredit Bank NYKRE Senior FRN 11/03/2013 A1/A+/NR + 82 

Nykredit Realkredit NYKRE T1 4.901 22/09/2049 2014 Baa1/NR/NR + 300 

Pohjola Bank POHBK Senior 4.5 22/05/2014 Aa2/AA-/AA- + 60 

Pohjola Bank POHBK Senior FRN 25/02/2013 Aa2/AA-/AA- + 26 

Sampo Oyj SHAMPO Senior 6.339 04/10/2012 Baa2/NR/BBB + 39 

SBAB SBAB Senior FRN 02/03/2012 A1/A+/NR + 14 

SBAB SBAB Senior FRN 16/09/2013 A1/A+/NR + 51 

SBAB SBAB Senior 3.5 13/10/2014 A1/A+/NR + 65 

SEB SEB Senior 4.375 05/29/2012 A1/A/A+ + 14 

SEB SEB Senior 5.5 06/05/2014 A1/A/A+ + 69 

SEB SEB Senior FRN 21/09/2012 A1/A/A+ + 20 

SEB SEB LT2 FRN 28/09/2017 2012 A2/A-/A + 75 

SEB SEB T1 9.25 29/10/2049 2015 Ba2/BBB/A- + 370 

Sydbank SYDBDC Senior FRN 03/09/2012 A1/NR/NR + 86 

Sydbank SYDBDC T2 FRN 04/04/2015 2012 Baa1/NR/NR n.m 

Swedbank SWEDA Senior 3.125 04/03/2013 A2/A/NR + 52 

CDS Prices 

Bid/offer 

Danske Bank DANBNK Senior 5 year A1/A/A+ 102/109 

DnB NOR DNBNOR Senior 5 year Aa3/A+/A+ 64/71 

Nordea NBHSS Senior 5 year Aa2/AA-/AA- 64/69 

Swedbank SWEDA Senior 5 year A2/A/NR 77/87 

SEB SEB Senior 5 year A1/A/A+ 73/83 

Handelsbanken SVSKHB Senior 5 year Aa2/AA-/AA- 47/54 

Danske Bank DANBNK Sub 5 year Baa2/BBB/A- 143/153 

DnB NOR DNBNOR Sub 5 year A1/A/A 95/105 

Nordea NBHSS Sub 5 year Aa3/A+/A+ 96/106 

Swedbank SWEDA Sub 5 year A3/A-/NR 116/126 

SEB SEB Sub 5 year A2/A-/A 115/125 

Handelsbanken SVSKHB Sub 5 year Aa3/A+/A+ 80/90 

Note: Prices as of 11 April 2010. Source: Danske Markets 

216 | 13 April 2011 



Bond Price Chart - Financials 

Comparable Senior Unsecured EUR issues 

Indicative ASW offer (bps) 

100 

80 

60 

SYDBDC '12 (NR/A1) 

NYKRE '13 (A+/A1) 

SEB '14 (A/A1) 

SWEDA '13 (A/A2) 

DANBNK '14 (A/A1) 

POHBK '15 (AA-/Aa2) 

SBAB '14 (A+/NR) 

SEB '15 (A/A1) 

NBHSS '15 (AA-/Aa2) 

NBHSS 

POHBK 

'14 

'14 

(AA-/Aa2) 

(AA-/Aa2) 

40 

20 


POHBK '12 (AA-/Aa2) 

DANBNK '13 (A/A1) 

DNBNOR '14 (A+/Aa3) 



SHBASS '14 (AA-/Aa2) 


DANBNK '12 (NR/A1) 

SHBASS '13 (AA-/Aa2) 

0 

SEB '12 (A/A1) 

2010 2011 2012 2013 2014 2015 

-20 


AAA AA+/AA/AA- A+/A/A- Not rated by S&P/Moody's 


Comparable Subordinated EUR issues 

Indicative Z spread offer 

(bps) 

450 

DANBNK '17 (BB+/Baa3) 

400 

350 

300 

SEB '15 (BBB/Ba2) 

NYKRE '15 (BBB+/Baa1) 

NYKRE '14 (NR/Baa1) 



250 


SEB '17 (BBB/Ba2) 

200 

SHBASS '15 (A-/Baa2) 

DNBNOR '12 (BBB+/Baa3) 

150 

2011 2012 2013 2014 2015 2016 2017 2018 

AA+/AA/AA- A+/A/A- BBB+/BBB/BBB- BB+/BB/BB- Not rated by S&P/Moody's 


217 | 13 April 2011 



Instrument price list - General Industrials 


Company Bond Issue rating Indicative ASW bid Indicative ASW offer 

ABB ABB 4.625% 06/2013 A3/A/BBB+ 40 bp 29 bp 

Atlas Copco ATCOA 4.750% 06/2014 A3/A/NR 24 bp 18 bp 

Carlsberg Breweries CARLB 6.000% 05/2014 Baa2/NR/BBB 78 bp 76 bp 

Carlsberg Breweries CARLB 3.375% 10/2017 Baa2/NR/BBB 90 bp 86 bp 

Investor INVSA 4.000% 03/2016 A1/AA/NR 59 bp 49 bp 



ISS Global ISSDC 4.500% 08/2014 NR/B/NR 193 bp 151 bp 

ISS (prev. Holding) ISSDC 8.875% 05/2016 Caa1/B/NR 466 bp 454 bp 

ISS Financing ISSDC 11.000% 06/2014 N/B/NR 480 bp 445 bp 

A.P.Moller-Maersk MAERSK 4.875% 10/2014 NR/NR/N 93 bp 89 bp 

A.P. Moller-Maersk MAERSK 4.375% 11/2017 NR/NR/NR 110 bp 106 bp 

Metso METSO 7.25% 06/2014 Baa2/BBB/NR 94 bp 88 bp 

Sandvik SANDVK 6.875% 02/2014 NR/BBB/NR 83 bp 77 bp 

Securitas SECURI 6.500% 04/2013 NR/BBB+/NR 67 bp 60 bp 

SKF SKF 4.250% 12/2013 A3/A/NR 38 bp 28 bp 

Stena AB STENA 6.125% 02/2017 Ba3/BB+/NR (Z-sprd) 380 bp (Z-sprd) 357 bp 



Swedish Match SWEMAT 4.625% 06/2013 Baa2/BBB/NR 57 bp 47 bp 

Swedish Match SWEMAT 3.875% 11/2017 Baa2/BBB/NR 90 bp 84 bp 

Volvo VLVY 8.000% 10/2012 Baa2/BBB/BBB (Z-sprd) 46 bp (Z-sprd) 40 bp 



Company CDS Issue rating Indicative CDS bid Indicative CDS offer 

ABB 5y CDS A3/A/BBB+ 61 bp 66 bp 

Assa Abloy 5y CDS NR/A/NR 49 bp 54 bp 

Atlas Copco 5y CDS A3/A/NR 49 bp 54 bp 

Carlsberg Breweries 5y CDS Baa2/NR/BBB 85 bp 95 bp 

Electrolux 5y CDS NR/BBB+/BBB 67 bp 72 bp 

Investor 5y CDS A1/AA/NR 57 bp 62 bp 

ISS Global 5y CDS NR/B/NR 145 bp 175 bp 

ISS (prev. Holding) 5y CDS Caa1/B/NR 160 bp 175 bp 

A.P. Moller-Maersk 5y CDS NR/NR/NR N/A N/A 

Metso 5y CDS Baa2/BBB/NR 103 bp 113 bp 

Sandvik 5y CDS NR/BBB/NR N/A N/A 

Scania 5y CDS NR/A/NR 62 bp 67 bp 

Securitas 5y CDS NR/BBB+/NR 80 bp 90 bp 

SKF 5y CDS A3/A/NR 55 bp 65 bp 

Stena AB 5y CDS Ba3/BB+/NR 455 bp 485 bp 

Swedish Match 5y CDS Baa2/BBB/NR 65 bp 70 bp 

Volvo 5y CDS Baa2/BBB/BBB 103 bp 108 bp 

Source: Danske Markets. Ratings are Moodys/Standard & Poors/ Fitch 

218 | 13 April 2011 



Bond Price Charts General Industrials 

EUR issues - Investment Grade 


120 

100 

MAERSK '17 (NR/NR) 

VLVY '17 (BBB-/Baa2) 

80 

METSO '14 (BBB/Baa2) MAERSK '14 (NR/NR) 


SANDVK '14 (BBB/NR) CARLB '14 (NR/Baa2) 

CARLB '17 (NR/Baa2) 

SWEMAT '17 (BBB/Baa2) 

INVSA '21 (AA-/A1) 

60 

SECURI '13 (BBB+/NR) 


40 

20 

SWEMAT '13 (BBB/Baa2) 


ABB '13 (A/A3) 

SKF '13 (A-/A3) 

ATCOA '14 (A/A3) 


0 

2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 

AAA AA+/AA/AA- A+/A/A- BBB+/BBB/BBB- Not rated by S&P/Moody's 


EUR issues - High Yield 


600 

550 

NSINO '17 (B-/B2) 

500 

450 

400 

350 

ISSDC '14 (B/NR) 

ISSDC '16 (B/Caa1) 

STENA '17 (BB+/Ba3) 



300 

250 

200 

MESSA '13 (B-/B3) 

150 

100 

STERV '14 (BB/Ba2) 

50 

UPMKYM '12 (BB/Ba1) 

0 

2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 

BB+/BB/BB- B+/B/B- CCC+,CCC,CCC- Not rated by S&P or Moody's 


219 | 13 April 2011 



Instrument price list - Pulp & Paper 


Company Bond Issue rating Indicative ASW bid Indicative ASW offer 

Stora Enso STERV 5.125% 2014 Ba2/BB/BB 134 bp 115 bp 

UPM-Kymmene UPMKYM 6.125% 2012 Ba1/BB/BB 74 bp 10 bp 

Norske Skog NSINO 7.000% 2017 B2/B/NR 588 bp 579 bp 

M-real MESSA 8.750% 2013 B3/B/NR 235 bp 209 bp 

Company CDS Issue rating Indicative CDS bid Indicative CDS offer 

Stora Enso 5Y CDS Ba2/BB/BB 210 bp 215 bp 

SCA 5Y CDS Baa1/BBB+/NR 63 bp 68 bp 

UPM-Kymmene 5Y CDS Ba1/BB/BB 215 bp 220 bp 

M-real 5Y CDS B3/B/NR 355 bp 365 bp 

Norske Skog 5Y CDS B2/B/NR 5% upfront 5.5% upfront 

Source: Danske Markets. Ratings are Moodys/Standard & Poors/ Fitch 

Bond Price Chart - Pulp & Paper 

EUR issues - High Yield 


600 

550 

NSINO '17 (B-/B2) 

500 

450 

400 

350 

300 

250 

200 

MESSA '13 (B-/B3) 

150 

100 

STERV '14 (BB/Ba2) 

50 

UPMKYM '12 (BB/Ba1) 

0 

2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 

BB+/BB/BB- B+/B/B- CCC+,CCC,CCC- Not rated by S&P or Moody's 


220 | 13 April 2011 



Instrument price list - TMT 

EUR issues 

Issue Rating Indicative ASW offer 

TeliaSonera TLIASS 3.625% 2012 A3 S/ A- S/ A- S -10bp 

TeliaSonera TLIASS 5.125% 2014 A3 S/ A- S/ A- S 43bp 





Telenor TELNOR 4.5% 2014 (CoC) A3 S/A- S/BBB+ S 42bp 

Telenor TELNOR 4.875% 2017 A3 S/A- S/BBB+ S 71bp 

Telenor TELNOR 4.125% 2020 A3 S/A- S/BBB+ S 79bp 

TDC TDCDC 6.5% 2012 Baa2 S/ BBB S/BBB S -1bp 

TDC TDCDC 3.5% 2015 (CoC) Baa2 S/ BBB S/BBB S 74bp 

TDC TDCDC 5.875% 2015 Baa2 S/ BBB S/BBB S 107bp 

TDC TDCDC 4.375% 2018 (CoC) Baa2 S/ BBB S/BBB S 90 

Ericsson LMETEL 5% 2013 Baa1 S/BBB+ S/BBB+ S 53bp 

Ericsson LMETEL 5.375% 2017 Baa1 S/BBB+ S/BBB+ S 91bp 

Nokia NOKIA 5.5% 2014 A3 NO/A- S/BBB+ NO 68bp 

Nokia NOKIA 6.75% 2019 A3 NO/A- S/BBB+ NO S 114bp 

Elisa ELIAV 4.75% 2014 Baa2 S/ BBB S 96bp 

Bid/Offer 

TDC 5y CDS Baa2 S/ BBB S/BBB S 72/78bp 

Telenor 5y CDS A3 S/A- S/BBB+ S 65/68bp 

TeliaSonera 5y CDS A3 S/ A- S/ A- S 67/70bp 

Nokia 5y CDS A3 NO/A- S/BBB+ NO 113/117bp 

Ericsson 5y CDS Baa1 S/BBB+ S/BBB+ S 70/74bp 

Source: Moodys, Standard & Poors, and Danske Markets 

Bond Price Chart - TMT 

EUR issues 


130 

120 

110 

100 

90 

80 

70 

60 

50 

40 

30 

20 

NOKIA '19 (A-/A3) 

TDCDC '15 (BBB/Baa2) 

ELIAV '14 (BBB/Baa2) LMETEL '17 (BBB+/Baa1) 

TDCDC '18 (BBB+/Baa2) 

TLIASS '21 (NR/A3) 

TELNO '20 (A-/A3) 


TELNO '17 (A-/A3) 

NOKIA '14 (A-/A3) 

TLIASS '17 (A-/A3) 

LMETEL '13 (BBB+/Baa1) 

TELNO '14 (A-/A3) 



TLIASS '25 (NR/A3) 

10 


0 

-10 

2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 


-20 



221 | 13 April 2011 



Instrument price list - Utilities 


Issue Rating Indicative ASW offer 

Fortum FRTUM 5% 2013 A2 S/A S/A S 27bp 

Fortum FRTUM 4.625% 2014 A2 S/A S/A S 32bp 

Fortum FRTUM 4.5% 2016 A2 S/A S/A S 44bp 

Fortum FRTUM 6% 2019 A2 S/A S/A S 68bp 

Vattenfall VATFAL 4.125% 2013 A2 S/A NO/A+ NO 30bp 




Vattenfall VATFAL 5% 2018 A2 S/A NO/A+ NO 67bp 




Vattenfall VATFAL 5.25% (perp.) Baa2 S/BBB NO/ A- NO 164bp (209bp*) 

DONG Energy DANGAS 3.5% 2012 Baa1 S/A- S/BBB+ S 21bp 

DONG Energy DANGAS 4.875% 2014 Baa1 S/ A- S/BBB+ S 46bp 

DONG Energy DANGAS 4% 2016 Baa1 S/ A- S/BBB+ S 66bp 



DONG Energy DANGAS 5.5% 3005 Baa3 S/ BBB S/BBB- S 188bp (234bp*) 

DONG Energy DANGAS 7.75% 3010 Baa2 S/ BB+ S/ BBB- S 301bp (323bp*) 

TVO TVO 6% 2016 NR/NR/A- S 114bp 

Neste Oil NESVFH 4.875% 2015 NR/NR/NR 139bp 

Neste Oil NESVFH 6% 2016 NR/NR/NR 163bp 

Statoil STOIL 4.375% 2015 Aa2 S/AA- S 27bp 

Statoil STOIL 5.625% 2021 Aa2 S/AA- S 42bp 

Vestas VWSDC 4.625% 2015 NR/NR/NR 147bp 

Statkraft STATK 5.5% 2015 Baa1 S/A- S/BBB+ S 56bp 



Bid/Offer 

Fortum 5Y CDS A2 S/A S/A S 59/62bp 

Vattenfall 5Y CDS A2 S/A NO/A+ NO 64/67bp 

DONG Energy 5Y CDS Baa1 S/A- S/BBB+ NO 60/64bp 

Statoil 5Y CDS Aa2 S/AA- S 57/61bp 

* Spread to bunds, Source: Moodys, Standard & Poors, and Danske Markets 

222 | 13 April 2011 



Bond Price Chart - Utilities 



140 

NESVFH '15 (NR/NR) 

120 

TVO '16 (NR/NR) 

100 

80 

60 

STATK '15 (A-/Baa1) 

STATK '17 (A-/Baa1) 

DANGAS '16 (A-/Baa1) 

40 

20 

DANGAS '14 (A-/Baa1) VATFAL '16 (A/A2) 

FRTUM '16 (A/A2) 

VATFAL '14 (A/A2) 


FRTUM '14 (A/A2) 


FRTUM '13 (A/A2) STOIL '15 (AA-/Aa2) 

DANGAS '12 (A-/Baa1) 

0 

2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 



223 | 13 April 2011 



Disclosures 

This research report has been prepared by Danske Research, a division of Danske Bank A/S ("Danske 

Bank"). The authors of this research report (together with contact details) are listed on the inside front 

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224 | 13 April 2011 



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225 | 13 April 2011 


Danske Fixed Income Credit Research: Recommendation definitions 

Issuer / Specific bond 

Credit Trend 

Credit default Swaps 

Terminology 

BUY 

HOLD 

SELL 

Improving 

Stable 

Deteriorating 

BUY protection 

SELL protection 

Horizon 

3 months Investment recommendations are based on 

Credit Trend as well as relative value compared 

to sector and peers. A BUY/HOLD/SELL 

recommendation on a specific bond means that 

the bond is expected to outperform/perform 

in line/underperform bonds within the sector 

or peer group over a three-month period. A 

BUY/HOLD/SELL recommendation on a specific 

issuer means that the majority of the issuer’s 

outstanding bonds have a BUY/HOLD/SELL 

recommendation. 

6 months Underlying credit fundamentals are expected to 

improve/remain stable/deteriorate over the next 

six months. 

3 months A BUY/SELL recommendation on a CDS means 

that the CDS level is expected to widen/tighten 

compared to the sector, peer group, or cash 

bonds for the issuing entity over a three-month 

period. 

Rating Abbreviations 

Abbreviation Moody's Standard & Poor's Fitch 

“S” Stable Outlook Stable Outlook Stable Outlook 

“NO” Negative Outlook Negative Outlook Negative Outlook 

“PO” Positive Outlook Positive Outlook Positive Outlook 

“DO” Developing Outlook Developing Outlook Evolving Outlook 

“NW” Review for possible downgrade CreditWatch Negative Watch Negative 

“PW” Review for possible upgrade CreditWatch Positive Watch Positive 

“DW” Review - Direction uncertain CreditWatch Developing Watch Evolving 

“NR” Not rated Not rated Not rated

Gl o b a l Da n s k e Re s e a r c h 

H e a d o f Gl o b a l Da n s k e Re s e a r c h 

Thomas Thøgersen Grønkjær 

+45 45 12 85 02 

thgr@danskebank.dk 

C h i e f Ec o n o m i s t a t Da n s k e Ba n k 

Steen Bocian 

+45 45 12 85 31 

stbo@danskebank.dk 

I n t e r n a t i o n a l Ma c r o & 

F o r e i g n Ex h a n g e & 

F i x e d In c o m e Re s e a r c h 

C r e d i t Re s e a r c h 

I n t e r e s t Ra t e St r at e g y 

C o m m o d i t i e s 

C h i e f A n a l y s t & 

H e a d of 

Allan von Mehren 

+45 45 12 80 55 

alvo@danskebank.dk 


H e a d of 

Arne Lohmann Rasmussen 

+45 45 12 85 32 

arr@danskebank.dk 


H e a d of 


+45 45 12 85 02 



H e a d of 

Thomas Martin Hovard 

+45 45 12 85 05 

hova@danskebank.dk 

P e te r P o s s i n g A n d e r s e n 

+45 45 13 70 19 

pa@danskebank.dk 

Kasper Kirkegaard 

+45 45 13 70 18 

kaki@danskebank.dk 

Jens Peter Sørensen 

+45 45 12 85 17 

jenssr@danskebank.dk 

H e n r i k A r n t 

+45 45 12 85 04 

heand@danskebank.dk 

S i g n e P. R o e d - F r e d e r i k s e n 

+45 45 12 82 29 

sroe@danskebank.dk 

S v e r r e H o l b e k 

+45 45 14 88 82 

holb@danskebank.dk 

Gustav Bundgaard Smidth 

+45 45 13 07 89 

gusm@danskebank.dk 


+46 8 568 80524 

llan @danskebank.se 

Frank Øland Hansen 

+ 4 5 4 5 1 2 8 5 2 6 

franh@danskebank.dk 

C h r i s t i n K y r m e Tu x e n 

+45 45 13 78 67 

tux@danskebank.dk 

Christina E. Falch 

+45 45 12 71 52 

chfa@danskebank.dk 

J a ko b M a g n u s s e n 

+45 45 12 85 03 

jakja@danskebank.dk 

Anders Møller Jørgensen 

+45 45 12 84 98 

andjrg@danskebank.dk 

U n i t e d Ki n g d o m 

Christian Riemann-Andersen 

+45 45 12 85 65 

chande@danskebank.dk 


+45 45 12 85 19 


Lars Rasmussen 

+ 4 5 4 5 1 2 8 5 3 4 

laras@danskebank.dk 

F l e m m i n g J e g b j æ r g N i e l s e n 

+45 45 12 85 35 

flemm@danskebank.dk 

Chief Analyst 

John Hydeskov 

+44 20 7410 8144 

johy@danskebank.dk 

Søren Skov Hansen 

+45 45 12 84 30 

srha@danskebank.dk 


+45 45 14 88 86 


D e r i v at i v e s Re s e a r c h & 

E m e r g i n g Ma r k e t s 

D e n m a r k 

S w e d e n 

R i s k St r u c t u r i n g 


H e a d of 


+45 45 12 85 02 


M a r t i n D a l s ko v L i n d e r s tr ø m 

+45 45 12 85 20 

marlin@danskebank.dk 

Nicki S. Rasmussen 

+45 45 12 80 90 

nir@danskebank.dk 

Chief Analyst & 

H e a d of 

Lars Christensen 

+45 45 12 85 30 

larch@danskebank.dk 

Özhan Antero Atilla 

+45 45 12 80 04 

zat@danskebank.dk 

Stanislava Pradova 

+45 45 12 80 71 

spra@danskebank.dk 

Chief Economist 

Steen Bocian 

+45 45 12 85 31 

stbo@danskebank.dk 

L a s O l s e n 

+45 45 12 85 36 

laso@danskebank.dk 

J e n s N æ r v i g P e d e r s e n 

+45 45 12 80 61 

jenpe@danskebank.dk 


H e a d of 

Michael Boström 

+46 8 568 805 87 

mbos@consensus.se 

Roger Josefsson 

+46 8 568 805 58 

rjos@consensus.se 

M i c h a e l G r a h n 

+46 8 568 807 00 

mika@consensus.se 

I r e l a n d 

C h i e f E c o n o m i s t 

Dr. Ronnie O’Toole 

+353 1 484 2071 

ron@danskebank.com 

Violeta Klyviene 

Senior Baltic Analyst 

+370 611 24354 

vkly@danskebank.dk 

Economist 

Sanna Kurronen 

+358 10 546 7573 

kurr@danskebank.com 

N o r w a y 

Chief Economist 

Frank Jullum 

+47 85 40 65 40 

fju@fokus.no 

Jens Petter Olson 

+47 85 40 52 05 

jeols@fokus.no 

Carl Milton 

+46 8 568 805 98 

carmi@consensus.se 

Marcus Söderberg 

+46 8 568 805 64 

marsd@consensus.se 

Stefan Mellin 

+46 8 568 805 92 

mell@consensus.se 

Snorre Evjen 

+47 85 40 84 36 

evj@fokus.no 

Danske Bank, Danske Research, Holmens Kanal 2-12, DK - 1092 Copenhagen K. Phone +45 45 12 00 00 www.danskeresearch.com

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