EUROPEAN COMMISSION. COMMISSION DECISION of ON THE STATE AID. No C 43/2008 (ex N 390/2008)

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1 EUROPEAN COMMISSION Brussels, 12 May 2009 C(2009) 3900 final corr. In the published version of this decision, some information has been omitted, pursuant to articles 24 and 25 of Council Regulation (EC) No 659/1999 of 22 March 1999 laying down detailed rules for the application of Article 93 of the EC Treaty, concerning non-disclosure of information covered by professional secrecy. The omissions are shown thus [ ]. PUBLIC VERSION WORKING LANGUAGE This document is made available for information purposes only. COMMISSION DECISION of ON THE STATE AID No C 43/2008 (ex N 390/2008) implemented by Germany for the restructuring of WestLB AG (Only the German version is authentic) (Text with EEA relevance) 3

2 COMMISSION DECISION of ON THE STATE AID No C 43/2008 (ex N 390/2008) implemented by Germany for the restructuring of WestLB AG (Only the German version is authentic) (Text with EEA relevance) THE COMMISSION OF THE EUROPEAN COMMUNITIES, Having regard to the Treaty establishing the European Community, and in particular the first subparagraph of Article 88(2) thereof, Having regard to the Agreement on the European Economic Area, and in particular Article 62(1)(a) thereof, Having called on interested parties to submit their comments 1, Whereas: 1. PROCEDURE (1) In its decision of 30 April (hereinafter "the decision of 30 April 2008") the Commission found that the risk shield implemented by the owners of WestLB AG, i.e. the savings banks the Sparkassen- und Giroverband Westfalen Lippe and the Sparkassen- und Giroverband Rheinland as well as directly and indirectly (through NRW.BANK) the Land North Rhine-Westphalia, the Landschaftsverband Westfalen Lippe and the Landschaftsverband Rheinland (hereinafter "the owners") on 8 February 2008 in favour of WestLB AG (hereinafter "WestLB") constituted State aid. The Commission declared however the measure compatible with the common market as rescue aid and authorised it in conformity with the Community guidelines on State aid for rescuing and restructuring firms in difficulty (hereinafter "the R&R Guidelines") 3 for six months or if a restructuring plan is submitted until the final decision on the restructuring plan. (2) On 8 August 2008 Germany notified to the Commission a restructuring aid including a restructuring plan for WestLB, including a commitment to submit by 31 December 2008 "concrete steps" in view of the modification of the ownership structure OJ C 322, , p. 16. OJ C 189, , p. 3. OJ C 244, , p. 2.

3 (3) By letter dated 1 October 2008, the Commission informed Germany that it had decided to initiate the formal investigation procedure provided for in Article 88(2) of the EC Treaty with respect to the measure. (4) The Commission decision to initiate the formal investigation procedure (hereinafter the opening decision ) was published in the Official Journal of the European Union 4. The Commission invited interested parties to submit their comments on the measure. The Commission did not receive any observation from a third party. (5) Germany submitted its comments on the initiation of the formal investigation procedure on 24 November (6) On 16 December 2008 WestLB requested extension of the deadline (initially 31 December 2008) regarding the change in the ownership structure commitment. The Commission approved the extension of the deadline until 31 March (7) On 27 February 2009, Germany submitted an interim report about the progress achieved by end of February (8) From 6 to 8 April 2009, discussions on the restructuring took place between representatives of the Commission, Germany, the owners of the WestLB and WestLB. (9) On 17 April 2009 Germany submitted further information on the restructuring. On 30 April 2009 Germany submitted an amended restructuring plan. (10) On 12 May 2009 the Commission adopted the original decision. The wording of the decision of 12 May 2009 contained some minor mistakes which have no impact on the content of and the reasoning in the decision. This decision is adopted to ensure full correctness, replacing the decision of 12 May 2009 (C(2009)3900). 2. DESCRIPTION OF THE AID MEASURE 2.1. The beneficiary (11) The beneficiary is WestLB. WestLB is a European commercial bank based in North Rhine-Westphalia (hereinafter "NRW"), one of Germany's largest federal states. With a balance sheet total of billion as at 31 December 2007, WestLB group is a major German financial services provider. It is the central institution for the savings banks in NRW and Brandenburg, and as an internationally operating commercial bank it acts as their link to the global financial markets. Working in close partnership with the savings banks, WestLB offers the full range of products and services of a universal bank, focusing on lending, structured finance, capital market and private equity products, asset management, transaction services and real estate finance. As of 30 December 2007 WestLB employed 6,147 staff. (12) WestLB is a private joint stock company with its head offices in Düsseldorf and Münster. WestLB emerged from the former Westdeutsche Landesbank Girozentrale on 30 August 2002 after the public mission activities were integrated into Landesbank NRW, a company under public law, which was established on 1 August See footnote 1. 5

4 (13) The current shareholders in WestLB are the Sparkassen- und Giroverband Westfalen Lippe ( WLSGV ) (25.03%), the Sparkassen- und Giroverband Rheinland ( RSGV ) (25.03%) and, directly and indirectly through NRW.BANK (former Landesbank NRW), NRW (37.74%), the Landschaftsverband Westfalen Lippe ( LVWL ) (6.09%) and the Landschaftsverband Rheinland ( LVR ) (6.09%). (14) WestLB is one of the German public banks which until 18 July 2005 still profited from the unlimited State guarantees "Anstaltslast" and "Gewährträgerhaftung", which had to be abolished following a number of understandings between Germany and the Commission. 5 (15) In 2002, following the abolition of "Anstaltslast" and "Gewährträgerhaftung", the former WestLB was split up into NRW.BANK and WestLB. Between 2003 and 2005 WestLB was restructured and received between 2002 and 2005 various capital contributions. The Commission declared that these capital contributions did not constitute State aid by decision of 18 July Financial difficulties of WestLB (16) Since mid of 2007 the ongoing turmoil in the financial markets affected WestLB' structured portfolio investments, which include exposures to U.S. subprime real estate loans. The mark-to-market valuations of the securities suffered and WestLB was unable to refinance the structured portfolio by selling notes on the market. As a consequence WestLB had to consolidate the off-balance portfolios on its own balance sheet. (17) On 8 February 2008, the owners of WestLB reached an agreement on the basic principles of an additional measure (laid down in a so called "Eckpunktepapier"). 7 The parties were accompanied in the discussions by Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin) and Deutsche Bundesbank. The owners essentially agreed on a structure to ring-fence substantial risks in the bank's structured portfolios, which shall be secured by a risk shield of 5 billion 8 (which included the previously envisaged capital injections) Anstaltslast conferred rights to the financial institutions vis-à-vis its owners, whereas Gewährträgerhaftung provided for rights of the creditors of the financial institutions vis-à-vis the owners. Following the first of the Understandings (hereinafter: "the Understanding") dated , between a transitional period between and new liabilities could still be covered by Gewährträgerhaftung - so-called "Grandfathering" -, provided their maturity did not go beyond See for details case State aid E 10/2000, OJ C 146, , p. 6 and C 150, , p.7. OJ C 4, , p.1. See also See press release of 8 February 2008 under: N2FkNDZmMzU4OWFmYTIyMWM3N2Q2N2Q0YmU1NmI0OGU_.html Even if the measure could be considered as an asset relief, however, the main difference between an asset relief measure (as foreseen in the Communication from the Commission on the treatment of impaired assets in the Community banking sector, OJ 2009 C 72, p. 1) and the transfer of an asset portfolio to the Phoenix Light has to be seen in the fact that all WestLB owners pay the costs of the transaction according to their respective shareholdings. The effect of the measure is though comparable with the capital injection by the existing shareholders. Although the owners of WestLB are either the Land NRW or State owned entities, nevertheless they acted in their quality as owners of the bank and not as third party independent from the owners. Furthermore, as the transaction was carried out in March 2008, the Commissions' Communication on the treatment of impaired assets does not apply as the latter was adopted only in February

5 (18) Background to the agreement was that the owners intended to protect WestLB against the volatility of the markets. According to international accounting standards IFRS, applied by WestLB, the bank has to use the mark-to-market method which involves a regular assessment of a major part of the assets held by the bank. As a result of the subprime crisis, there was no longer a demand for the structured investment portfolios. Therefore, the mark-to-market loss that had to be accounted for in the balance sheet was approximately [( )] billion at the end of 2007 in relation to a portfolio of around 23 billion. (19) The risk shield provides the legal basis for the transfer of impaired assets from WestLB to a special purpose vehicle (SPV, later identified as Phoenix Light) so that WestLB will not have to incorporate the impact of market volatility related to these portfolios into its accounts. Once the assets have been transferred and the guarantee has been issued, the effects of this market volatility will have been completely removed from WestLB s accounts. This SPV is equivalent to an "individual" bad bank which benefits from a state guarantee. (20) On 31 March 2008 the owners of WestLB approved the measures, subject to a final approval of the regional Parliament of NRW. The bank and the auditors were convinced that the Parliament would very probably agree they considered the decision to be sufficient for the risk transfer to the owners on 31 March Finally the Parliament approved the measure The measure (21) The restructuring plan clarified that the risk shield granted to the Special Purpose Vehicle Phoenix Light SF Limited (hereinafter: "Phoenix Light") would be prolonged and transformed from a provisional into a permanent structure. However, the structure of the shield was not altered. (22) The risk shield consists of: a guarantee issued by the owners of WestLB in line with their respective shareholdings covering claims of WestLB up to an amount of 2 billion against Phoenix Light, a private limited company established under Irish law to which WestLB will transfer a structured securities portfolio with a nominal value of 23 billion; and a guarantee issued by the State of NRW covering further claims of WestLB against Phoenix Light up to an additional amount of 3 billion. (23) The transaction was carried out as follows: WestLB until 31 March 2008 held a 23 billion portfolio consisting essentially of structured securities, commercial papers, medium term notes and income and capital notes of the three investment vehicles Greyhawk, Harrier, and Kestrel 9. With effect from 31 March 2008 WestLB sold the above mentioned portfolio at its nominal value of 23 billion to Phoenix Light. In order to pay the 23 billion 9 Confidential information. Distribution of 23 billion portfolio by security type: [ ] billion U.S. and European CDOs, [ ] billion commercial mortgages, [ ] billion residential mortgages, [ ] billion other. 80% of the securities are AAA rated based on S&P ratings of 31 December

6 purchase price for the portfolio, Phoenix Light issued notes equal to the nominal value of the portfolio. The notes consist of two tranches. The lower tranche consists of junior notes which are prior in the event of non-performance of the assets (i.e. they carry all the risks) and have a total nominal value of 5 billion. The upper tranche consists of senior notes with a total amount of 18 billion. The State of NRW issued a guarantee for the Junior Notes. This has the effect that the Junior Notes are considered to be safe. Once covered by the guarantee the notes have been purchased by WestLB. There are two reasons for this: First, after the notes were covered by the guarantee, the auditors accepted not to depreciate the notes (contrary to the original portfolio investments) in the WestLB accounts. Second, given that the risk of the notes was fully taken over by the guarantee, WestLB could use the notes as collateral for raising the required funds in order to buy them. Phoenix Light is paying a commission of [( )]% p.a. for the guarantee of 5 billion to the guarantors as well as remuneration to the Senior and Junior Notes holder(s) (WestLB during the interim structure). These costs were borne together with all the administrative costs by the remuneration of the papers which have been transferred to Phoenix Light. The remuneration for the Senior and Junior Notes paid by Phoenix Light has been calculated in a way that WestLB was able to cover its refinancing costs. During the rescue period WestLB had to hold the Junior Notes as well as the Senior Notes in order to ensure their reversibility. After approval of the Commission, the interim structure was changed into a permanent structure. Within the permanent structure WestLB continues to hold the guaranteed Junior notes until maturity. As regards the Senior Notes, it is foreseen that Phoenix Light will try to place them on the capital markets as soon as the market conditions make such transactions again possible. For this reason WestLB holds the Senior notes also in the permanent structure until they can be placed on the markets. In this case, the Senior notes now held by WestLB would then be redeemed by Phoenix Light and sold to third party buyers. (24) Vis-a-vis third parties, the State of NRW is exclusively liable for the total amount of 5 billion. If held liable for the first 2 billion tranche, the State will reclaim internal pro-rata compensation from the other four shareholders. The State of NRW provides an additional, disproportional liability up to an additional 3 billion. In return for the additional amount of up to 3 billion, the State of NRW has obtained from the other participating shareholders an adjustment of its shareholder rights as well as compensation which the State can either receive in cash or by way of an assignment of shares in WestLB. (25) As regards the modifications in the Consortium Agreement, which would take place in any event, it was agreed that certain rights of the Sparkassen- and Giroverbände 10 are to be deleted or respectively adjusted, which still needed to be agreed upon between all shareholders of WestLB. (26) As regards the compensation for NRW referred to above, the State of NRW is entitled to demand that a corresponding number of WestLB shares currently held by the savings banks associations and the regional associations shall be transferred to the State of 10 These are rights, which have been accorded to the savings banks associations in the context of the acquisition of a major stake in mid

7 NRW as compensation in case that the disproportional 3 billion part of the guarantee will be called upon. The compensation will be based on a calculated share price of 220, less a discount of 20 per share. For the regional associations a share price of 220 shall apply. Instead of a transfer of the shares, the parties involved may also agree on a cash payment. (27) By decision of 30 April 2008, the Commission approved the above described risk shield as temporary rescue aid compatible with the common market pursuant to the R&R Guidelines until 8 August At the same time the Commission requested the submission by Germany of a far-reaching and coherent restructuring plan that was submitted by Germany on 8 August The restructuring plan (28) The notification consists of a framework agreement ("Eckpunktevereinbarung") by the owners of the bank of 8 August 2008 and a more detailed "stand alone" restructuring plan which has been amended subsequent to the discussion with the Commission. WestLB's restructuring plan can be summarized as follows: (29) A central element to the framework agreement and the restructuring plan is the substantiation of the intended change of ownership, for example in form of a Letter of Intent, which Germany and the owners initially committed to achieve by 31 December 2008, but which has not materialized. The downsizing, cost-cutting, de-risking and refocusing measures described below shall facilitate a new sales process. After unbundling, WestLB will therefore be offered for sale in whole or in form of independent business entities in an open, transparent and non-discriminating tender procedure which will be launched before the end of August 2010 and which will be completed before the end of [(June-October)] 2011, enabling the sale to become effective as of 1 January (30) Regarding the tendering procedure the restructuring plan comprises the condition to conduct an open, transparent and non-discriminatory tendering procedure open to any domestic and foreign buyer. It should be adequately publicized in at least one international press medium available throughout the Community in English. The WestLB is acting as a central institution for savings banks in NRW. The WestLB itself is a commercial bank in the legal form of a private joint stock company. Therefore neither the current role of WestLB as a central institution for savings banks nor the name WestLB shall be invoked to hinder a complete sale of the bank to a private investor. (31) The primary objective of the tender procedure is the change of ownership of the WestLB, i.e. the complete transfer of voting rights. The full divesture of the one or several unbundeled business areas is preferred to the transfer of the voting majority ("50% plus one share"). The transfer of the majority of voting rights to a new buyer is only admissible if there was no other offer made in the tender procedure for the full divesture of one or more segmented business. Although the complete transfer of the voting rights is the priority, taking into account the unpredictable situation on the financial markets and the unsuccessful attempts to change the ownership structure of WestLB the Commission agreed to alternative scenarios as transfer of the majority of voting rights and the consolidation of Landesbanken in Germany. The Commission does not oppose the restructuring of the banks on an aggregate level and accept the implementation of the restructuring plan in the context of the restructuring of the 9

8 Landesbanken sector in Germany. However, in order to monitor the correct implementation of the restructuring plan even if an alternative scenario for the change of the ownership will be chosen, the Commission considers it necessary to appoint a trustee. (32) In order to facilitate the sale of WestLB in whole or in parts the restructuring plan foresees cost cutting and downsizing measures. The divesture of shareholdings and the closure of locations are key elements. As regards cost cutting and downsizing, all major shareholdings will be divested in order to finance the restructuring activities. The sales process shall be organized in two tranches: The first tranche of shareholdings, comprising Weberbank, [ ] and [ ] will be sold before the end of [February-May] , the second tranche of shareholdings, comprising [ ] and [ ] will be sold before the end of [February-May] (33) With regard to cost cutting and downsizing WestLB will close down 5 (Bielefeld, Münster, Dortmund, Köln, Mainz) of its locations in Germany by [ ] 2010 at the latest. Furthermore WestLB will reduce its locations outside of Germany from above 30 to 7 14 by [ ] at the latest. (34) Finally, the concept of downsizing is specified in the restructuring plan as follows: - The balance sheet total 16 will be reduced by 25% until the end of March 2010 and by 50% until the end of March 2011, compared to the balance sheet total as shown in the year-end financial statement for In absolute numbers the balance sheet total will be reduced from net [( )] billion to net [( )] billion as of 31 March 2010 and net [(80-180)] billion as of 31 March At the same time, the amount of risk-weighted assets (RWA) will be reduced by 25% until the end of March 2010 and by 50% until the end of March 2011, compared to the amount of RWA as shown in the year-end financial statement for In absolute numbers the RWA will be reduced from 104 billion to 78 billion as of 31 March 2010 and 52 billion as of 31 March These target figures shall preferably be achieved by divesting/disposing a number of assets that have previously been grouped into the so called "exit portfolio". (35) In addition to cost cutting and downsizing, the plan involves a major refocusing and derisking of all activities. Key elements are: - The formation of three separate entities of core business activities, reflected by the organizational unbundling of all business processes. - The full withdrawal from the investment management business which will be subject to a phase-out. - The business volume in the field of structured finance including international project finance (global origination) will be considerably reduced and focused on identified sectors Provided the obtainable sales prices exceed the respective book value, otherwise sale by the end of If one of the subsidiaries is identical with one of the 7 international locations which can be maintained it will be part of the sale of WestLB until end of The following locations in Germany can be maintained: Düsseldorf, Berlin, Frankfurt, Hamburg, Munich, Stuttgart. The following locations can be maintained: London, New York, Hong Kong, Moscow, Sydney, Istanbul, Sao Paulo. In order to give the owners an incentive to speed-up the sales procedure a new owner may keep 3 additional locations of WestLB, provided that the sale is accomplished before the end of Excluding the market values of derivatives. 10

9 - The international capital market business will be limited to customer-related trading activities. (36) Concerning the formation of three separate entities of core business activities, WestLB will unbundle all business processes before the end of October 2009 in order to create the following entities which will abstain from external growth through mergers or acquisitions: - transaction banking, - medium sized companies and savings banks partnership (Verbund Mittelstand), - capital markets, wholesale banking and specialised financing. (37) As regards the withdrawal from the investment management business, until its sale WestLBwill no longer perform relative value trading activities and arbritage transactions trading for it's own account 17 and the execution of trading activities for client's accounts is restricted to the locations in Düsseldorf, New York, London and Hong Kong. (38) With respect to the reduction of business volume of capital market activities, until WestLB's change of ownership the business volume will be limited to the following extend: in 2009 until 31 December 2009 [(70-100)] billion, in 2010 until 31 December 2010 [(60-90)] billion, and in 2011 until 31 December 2011 [(50-80)] billion. (39) As regards the reduction of business volume of capital market activities, until WestLB's change of ownership the RWA to be allocated to the capital markets activity will be restricted as follows: [(10-25)] billion until 31 December 2009, [(5-25)] billion until 31 December 2010, and [(5-25)] billion until 31 December (40) Concerning the reduction of business volume in the field of wholesale banking and specialised financing, that being part of the entity capital markets, wholesale banking and specialised financing, until WestLB's change of ownership the business volume will be limited to the following extend: in 2009 until 31 December 2009 [(20-40)] billion, in 2010 until 31 December 2010 [(15-35)] billion, and in 2011 until 31 December 2011 [(10-30)] billion. (41) As regards the reduction of business volume in the field of wholesale banking and specialised financing, that being part of the entity capital markets, wholesale banking and specialised financing, until its change of ownership WestLB will restrict the RWA to be allocated to these activities as follows: [(30-60)] billion until 31 December 2009, [(20-50)] billion until 31 December 2010, and [(20-50)] billion until 31 December (42) All remaining activities, entities and locations established in form of subsidiaries, brunches or representation offices which could not be sold before the end of December 2011 will be wound up by the owners. All amendments to the restructuring plan of 8 August 2008 were discussed with the Commission, accepted by Germany and subsequently submitted to the Commission on 30 April 2009 as an amendment of the plan. However, the amended restructuring plan is still subject to official confirmation by three out of five shareholders of WestLB. For this reason the restructuring plan, although accepted by Germany and the owners, cannot be considered as committed. 17 Trading activities for client's accounts as well as commonly accepted trading activities to control the balance sheet total are still admissible. 11

10 During the procedure the Commission faced the situation that the owners were not able to meet the initial deadlines for an authorized restructuring plan and that the schedules of their decision-making bodies delayed the procedure. Therefore the Commission considers it necessary to adopt a conditional decision. (43) Finally, taking into account the complexity of the proposed restructuring measures and the tight deadlines for their implementation the Commission is of the opinion that a trustee should monitor the implementation of the restructuring plan and communicate the steps taken to the Commission. The appointment of a trustee is especially important because of the fact that the Commission accepted certain flexibility in the implementation schedule. In principle the divesture of holdings has to be completed by [(February-May)] However, it can be postponed if the WestLB provides evidence that it was only possible below book value. The decision provides also for the possibility of a restricted sale or the consolidation of the Landesbanken in Germany which means an exception from a tendering procedure. The trustee should monitor the implementation of the restructuring plan, report on decisions taken in the framework of the allowed flexibility during the implementation period and facilitate the communication with the Commission. 3. COMMENTS FROM GERMANY FOLLOWING THE OPENING DECISION (44) In response to the opening decision Germany submitted several comments regarding the assessment of the aid. (45) Regarding aid amount Germany argues that, contrary to the Commission's point of view, only the point in time at which the risk shield was put in place and announced to the public is relevant for the calculation of the amount of aid, but not the later point of time at which the provisional structure was transformed into a permanent structure. (46) Concerning the nature of the risk shield Germany argues that the transformation from a provisional structure to a permanent structure is not relevant as such. The respective criterion used by the Commission to assess the eligibility of the measure, i.e. its reversibility, is fulfilled although no specific time limit was set for the risk shield. (47) In respect to the aid amount Germany argues that the aid element involved in a guarantee to a company in difficulty would only be as high as the amount effectively covered by the guarantee if a total loss was very likely. Both the calculation performed by WestLB, presented to BaFin and Deutsche Bundesbank in December 2007 and January 2008, according to which the expected losses of the portfolio amount to nominal [...] million at the end of January 2008, and the calculation performed by Morgan Stanley in February 2008 which arrives at a significant higher value of about [...] billion, stay well below the nominal value of 5 billion and would therefore not support the assumption that a total loss was very likely. Furthermore the calculation performed by WestLB would already take into account a bad case scenario, as it is based upon an additional two notch downgrading of the recent ratings of all instruments assessed, while the expertise provided by Morgan Stanley, among other differing assumptions based upon a four notch downgrading, was based upon overly pessimistic assumptions. (48) Regarding the legal basis Germany argues that the aid should be found compatible with the common market pursuant to Article 87(3)(b) since there was a serious disturbance in the economy at the point in time at which the aid was granted and the risk shield for WestLB, which according to Germany's argumentation is a systemic bank, was also 12

11 intended to remedy that serious disturbance in the economy. The measure was also appropriate, necessary and proportionate. (49) Regarding the compatibility of the aid with the common market pursuant to Article 87(3)(c) Germany argues that the restructuring plan does not solely consist of incremental improvements, but foresees a considerable reduction of WestLB's trade for it's own account, a noticible improvement of WestLB's risk profile and a stabilisation of the earnings outlook. (50) Finally, Germany argues that the planned measures aiming at limitation of potential distortion of competition would not be necessary to restore long-term viability, and that the overall amount of these measures in relation to the amount of aid received by WestLB is considerably higher than in similar cases such as Crédit Lyonnais II 18, Banco di Napoli, Crédit Foncier de France, Societé Marseillaise de Crédit, BAWAG P.S.K. 19, Bankgesellschaft Berlin 20 or IKB ASSESSMENT OF THE AID 4.1. Existence of aid (51) The Commission had first to assess whether the measure constitutes State aid within the meaning of Article 87 (1) EC. According to this provision State aid is any aid granted by a Member State or through state resources in any form whatsoever which distorts, or threatens to distort, competition by favouring certain undertakings, in so far as it affects trade between Member States. (52) The Commission observes that the risk shield is the continuation of the rescue aid measure granted by the owners. The Commission has already established in its decision of 30 April 2008 that the risk shield constitutes State aid. Germany does not dispute this The amount of aid (53) The Commission does not agree with the calculation of the aid based on an expected losses valuation as put forward by Germany (54) First, as regards methodology, the Commission confirms that the risk shield was approved as rescue aid on the basis of its reversibility. The transformation of the risk shield into a permanent arrangement suggests a new assessment when calculating the value of the aid at the restructuring stage. However, despite having been requested in the opening decision, a fresh evaluation of the expected losses has not been submitted, although more up to date figures exist and could have been provided by the beneficiary. The Morgan Stanley expertise, which arrives at a significant higher value of about [...] billion, shows the sensitivity of such calculations, depending on the assumptions made in the methodology Commission Decision in case 1454/1998 of 20 May 1998, Crédit Lyonnais, OJ 1998 L 221, p. 28. Commission Decision in case C 50/2006 of , BAWAG, OJ 2008 L 83, p. 7. Commission Decision in case C 327/2004 of , Bankgesellschaft Berlin, OJ 2005 L 116, p. 1. Commission decision in case C 10/2008 of IKB, not yet published. 13

12 (55) Moreover, the Commission recalls that it concluded in its decision on SachsenLB 22 that in the current unpredictable circumstances of the financial markets a market economy investor would have taken into account at least a bad case scenario of expected losses. The Commission does not share the view that the differing assumptions in Morgan Stanley's expertise are overly pessimistic, nor that WestLB has already taken a bad case scenario into account, as a noticeable effect on the expected loss would only become visible if lower grades on the rating scale were chosen. The Commission recalled that in reaching this conclusion it is in line with the previous case Bankgesellschaft Berlin 23. (56) Furthermore the Commission is of the view that in the present case, the effect and the character of the 5 billion guarantee, which allows the bank to free up its balance sheet from a 23 billion portfolio, is similar to that of a capital injection. The aid amount is thus comparable to the capital, which would have been required to achieve the same effect in keeping the portfolio on balance 24. (57) The Commission recalls that based on the established Commission practice 25 and jurisprudence as well as the Notice on guarantees 26 the aid element involved in a guarantee to a company in difficulty may be as high as the amount effectively covered by the guarantee (i.e. 5 billion). (58) The Communication on impaired assets 27 states that the aid amount corresponds to the difference between the transfer value of the assets (based on their real economic value) and the market price. To this end the assets should be valued on the basis of their current market value, whenever possible. Given that the market for the assets in the portfolio has mostly dried up, as claimed by the German authorities, this implies that there is no market price in the absence of a market as defined by the Communication on impaired assets. Therefore the aid amount is likely to be the same as the amount of the guarantee, i.e. 5 billion. (59) In addition the commission of [(0,2-1,0)]% is significantly below the price the market investor would expect as stipulated in the Communication on treatment of impaired assets in the Community banking sector 28. (60) In sum, the Commission is of the opinion that the economic value of the aid is significantly higher than both Germany s assessment of the expected loss and the [...] billion calculated by Morgan Stanley. For the reason given above, the Commission must conclude that the aid is likely to be equal tothe nominal value of 5 billion Commission Decision in case C 9/2008 of SachsenLB, not yet published in the OJ ( Commission decision in case C28/2002 of , Bankgesellschaft Berlin, OJ L 116, p. 1, point 140. Communication from the Commission on the treatment of impaired assets in the Community banking sector, OJ C 72 of , p. 1. See c.f. Commission decision in case C 10/2008 of IKB, not yet published. Commission Notice on the application of Articles 87 and 88 of the EC Treaty to State aid in the form of guarantees, OJ C 155, , p.10. Point 39 of the Communication from the Commission on the treatment of impaired assets in the Community banking sector, OJ C 72 of , p. 1 See Annex 4 point II of the Communication from the Commission on the treatment of impaired assets in the Community banking sector, OJ C 72 of , p. 1. However, the consequence of the remuneration not being in line with the Communication on treatment of impaired assets would be that the bank has to undergo an in-depth-restructuring (point 41 of the Communication) which WestLB indeed does. Therefore the remunerations does not have to be adjusted. 14

13 4.3. The legal basis for the compatibility assessment of the aid (61) In the opening decision the Commission declared that Article 87(3)(c) EC is the legal basis for the compatibility assessment of the aid measure in question. is The Commission also analysed whether the aid measure should also be assessed on the basis of Article 87 (3)(b) EC. Art. 87 (3)(b) EC provides that aid to remedy serious disturbance in the economy of a Member State may be considered to be compatible with the common market. The Commission pointed out that at the time when the aid measure to WestLB was granted the crisis on the subprime market had not yet lead to a serious disturbance in the German economy in the meaning of Article 87 (3) (b). Furthermore the Commission had not received evidence from the German authorities demonstrating that not granting aid to WestLB would have led to such serious disturbance. (62) In the meantime the Commission has acknowledged in its three Communications 29 and in its approval of the German Rescue package 30 that there is a threat of serious disturbance in the German economy and that measures supporting banks are apt to remedy serious disturbance in the German economy. Therefore the legal basis for the assessment of the aid measure should be Article 87(3)(b) EC. (63) As the Commission has set out in the three Communications adopted in the context of the current financial crisis 31 aid measures granted to banks in the context of the ongoing financial crisis should be assessed in line with the principles of the R&R Guidelines : taking into consideration the particular features of the systemic crisis in the financial markets. 32 The R&R Guidelines require that State aid is accompanied by thorough restructuring to restore viability, by an adequate contribution of the beneficiary to the restructuring costs and by measures to remedy the potential distortions of the competition. They therefore also offer an appropriate framework for dealing with the restructuring of WestLB in the context of the crisis situation. However, the nature and the scale of the present crisis call for further specific elements related to the current market conditions to be taken into account. Therefore the principles of the R&R Guidelines have to be modulated when applied to the restructuring of WestLB in the present crisis. Special attention should be given to the rules set out in the R&R Guidelines for the own contribution of the beneficiary. Given the fact that the external financing for WestLB has [...], the 50% target set in R&R Guidelines appears very difficult to achieve, the Commission accepts that it may during the systemic crisis in the financial markets not be appropriate to request a precise quantification of the own Communication from the Commission - Application of the State Aid rules to measures taken in relation to financial institutions in the context of the current global financial crisis, OJ C 270, , p. 8. Communication from the Commission - Recapitalisation of financial institutions in the current financial crisis: limitation of aid to the minimum necessary and safeguards against undue distortions of competition, OJ C 10, , p. 2. Communication from the Commission on the treatment of impaired assets in the Community banking sector, OJ C 72, , p. 1. Commission Decision of 12 December 2008, N 625/2008 Rettungspaket für Finanzistitute in Deutschland. Communication from the Commission - Application of the State Aid rules to measures taken in relation to financial institutions in the context of the current global financial crisis, OJ C 270, , p. 8. point 10, 32, 42; Communication from the Commission - Recapitalisation of financial institutions in the current financial crisis: limitation of aid to the minimum necessary and safeguards against undue distortions of competition, OJ C 10, , p. 2, point 44. Communication from the Commission on the Treatment of Impaired Assets in the Community banking sector, OJ C 72, , p. 1, point 17 and 58 et seq.. See explicitly the Banking Communication - Application of the State Aid rules to measures taken in relation to financial institutions in the context of the current global financial crisis, OJ C 270, , p. 8. point 42 15

14 contribution.. Furthermore the design and implementation of measures to limit distortion of competition may also need to be reconsidered in so far as WestLB may need more time for their implementation due to market circumstances. (64) As the Commission has indicated in previous guidance 33, the depth of restructuring required to return to viability is likely to be in direct proportion to the scope and volume of the aid provided to WestLB on the one hand and to the fragility of its business model on the other hand Compatibility assessment under Article 87(3)(b) EC (65) In order to declare the aid measure in question compatible with the common market pursuant to Article 87(3)(b) EC the Commission has to assess whether the following conditions for restructuring aid set out in the R&R Guidelines are met: (i) the aid must be based on a restructuring plan, which must demonstrate that the company is capable of restoring its long-term viability, (ii) the aid must be limited to the minimum necessary in time and amount, and the beneficiary must significantly contribute to the costs of restructuring and (iii) the aid must not distort competition to an extent contrary to the common interest. In this respect the Commission may impose conditions on the beneficiary Restoration of long-term viability (66) According to point 3.2.2(b) of the guidelines, the grant of aid is conditional on implementation of the restructuring plan, which must be endorsed by the Commission in the case of all individual aid measures and examined to determine whether it is likely to restore the firm s long-term viability within a reasonable timescale. The restructuring plan must be of limited duration and be based on realistic assumptions. It must describe the circumstances that led to the firm's difficulties, thereby providing a basis for assessing whether the proposed measures are appropriate. It should enable the firm to progress towards a new structure that offers it prospects for long-term viability and enables it to stand on its own feet, i.e. it should enable the firm to cover all its costs including depreciation and financial charges and to achieve a sufficient return on its capital for it to compete in the marketplace. (67) The Commission has based its assessment on information furnished by Germany, including the restructuring plan and far-reaching modifications to the plan submitted at the later stage of the investigation procedure after discussions with the Commission including the detailed scheduling of the sale of specific assets. (68) In its opening decision the Commission expressed doubts that the documents initially submitted to the Commission by Germany could be considered as a proper restructuring plan meeting the conditions of points of the R&R Guidelines. In the opening decision the Commission expressed also its view that one of the reasons for WestLB problems is the ownership structure of the bank and different interests of the respective owners. Therefore the Commission considers that the change of ownership, to be achieved until the end of 2011 in form of an open, transparent and non-discriminating 33 See paragraph 52 of the Communication from the Commission on the Treatment of Impaired Assets in the Community banking sector and paragraph 44 of the Communication from the Commission - Recapitalisation of financial institutions in the current financial crisis: limitation of aid to the minimum necessary and safeguards against undue distortions of competition. 16

15 tender procedure is a key element to solving the difficulties and will support the positive economic development of the bank. (69) WestLB and its owners addressed this issue already and originally committed to substantiate the change of the ownership of the bank, for example in form of a Letter of Intent, until 31 December On Germany's request the deadline was extended until 31 March In the interim report 34 submitted by Germany on 27 February 2009 Germany presented progress achieved by end of February The preferred strategy was to create a consolidated supra-regional group (so-called "Landesbank Mitte") by merging two Landesbanks, WestLB and Landesbank Hessen-Thüringen (Helaba). The integration of DekaBank Deutsche Girozentrale was proposed as a complementary solution. Both options proofed not to be successful for many reasons. One of them was the conflicting interests amongst the WestLB owners. The interests of the owner savings banks and the Land are sometimes directly opposed which confirmed that Commission's opinion on this issue expressed in the opening decision was right and the ownership change issue is of the greatest importance if the long-term viability of WestLB has to be restored. (70) In view of the failure of the initial attempt at privatisation of WestLB the Commission s aim was to establish with a sufficient degree of certainty that the submitted restructuring plan is capable of restoring the bank's viability. (71) The amended plan includes not only more detailed information about the planned measures but also various significant measures, i.e. an almost 50% reduction of balance sheet and RWA respectively, the sale of the bank as a whole or in parts in form of an open tender procedure, the sale of nearly all subsidiaries including Westdeutsche ImmobilienBank and the closure of the majority of the bank's locations. (72) The sale of the bank has to be completed by 1January The WestLB owners have to start an open, transparent and non-discriminatory tendering procedure on 31 August It has to be completed (signing) by [(June-October)] 2011, so that the sale can take effect by 31 December Although the complete transfer of the voting rights is the priority, taking into account the unpredictable situation on the financial markets and the unsuccessful attempts to change the ownership structure of WestLB the Commission agreed to alternative scenarios as transfer of the majority of voting rights. Although the consolidation of Landesbanken in Germany has been unsuccessful so far the Commission does not oppose the aggregate restructuring of the banks and the implementation of the restructuring plan in the broader context of the restructuring of the whole Landesbanken sector in Germany. The implementation of the ownership change will be monitored by a trustee approved by the Commission and appointed by WestLB. (73) The sale of the bank will be facilitated by the previous unbundling of bank's activities into three core business areas, which will be offered for sale in a tender procedure both individually and as a whole, as well as the previous downsizing of bank's balance sheet total and RWA by 25% until the end of March 2010 and by 50% until the end of March 2011, compared to the balance sheet total as shown in the year-end financial statement for Cf Annex 2 (Mitteilung der Bundesrepublik Deutschland an die Europäische Kommission; Zwischenbericht über den Fortschritt der Konsolidierungsverhandlungen). 17

16 (74) Moreover, the investigation confirmed that WestLB has redirected the activities of the bank. It abandoned loss making activities like investment management business and proprietary trading, which were the reasons for the crisis, and refocuses on customerdriven business. The amended restructuring plan of WestLB refocuses the activities of the bank back to NRW and Germany, withdrawing from more than 20 locations and subsidiaries, and to the business segments transaction banking, Verbund/Mittelstand and wholesale banking, capital markets and specialised financing. The refocus from risky business activities to less-volatile business like transaction banking, cooperation with the savings banks, private-banking customers, and midsize corporates will increase the sustainable part of WestLB's activities and therefore contribute to the restoration of the viability. The Commission understands that under the amended restructuring plan, WestLB substantially deviates from its previous business model. The restructuring plan therefore constitutes a significant change in the business approach which in the past prooved unsustainable and unviable. (75) The Commission also recognises the cost cutting measures which will be implemented by end of In addition, WestLB has taken measures to improve its risk management and has already reduced its risk exposure. The Commission also analysed the underlying assumptions of the restructuring plan and has no reasons to doubt that they are realistic. The Commission therefore considers that the amended restructuring plan demonstrates the capability of WestLB to restore its long term viability Aid limited to the minimum necessary (76) Further the Commission's doubts as regards the aid being limited to the minimum have been allayed. The Commission can now conclude that the aid has been limited to the minimum necessary and is accompanied by a significant own contribution. The Commission acknowledges that the 50% target indicated in point 44 of the R&R Guidelines has to be modulated when applied to the restructuring of WestLB in the present crisis. (77) The Commission considers that the restructuring costs are borne by the bank itself to the greatest extent possible in the circumstances through the disposal of assets and subsidiaries. The effect of these divestments is twofold. On the one hand the divestments reduce the amount of risk weighed assets and therefore free up capital and increase the capital ratios. On the other side the divestments generate liquidity which can be used to finance the restructuring or to strengthen the liquidity basis 35. Part of this is expected future inflow of funds has already been realised and another part will be realised in the near future. So, even leaving aside expected inflows of funds which can only be realised in 2011 and considering for precautionary purposes that the projected proceeds may not fully materialize for all of these divestments, the Commission comes to the conclusion that the own contribution can be considered significant. (78) Independently of the modulation of the 50% own contribution target, the Commission still requests as much as possible equity holder contribution (i.e. burden sharing). That 35 Depending on the assets book value and the maturity of debt. This has been accepted in past Commission decisions, such as Commission decision of in case C 44/2005, Huta Stalowa Wola, OJ 2007 L 112, p.67, point 71,.Commission decision of in case C 20/2006, Novoles Straža, OJ 2008 L 29, p.7; Commission Decision of in case C 54/2006, Bison Bial, OJ 2008 L 46, p.41, Commission decision of in case C9/2008 SachsenLB, not yet published, Commission decision in case C 10/2008 of IKB, not yet published 18