Moody's downgrades takeover target Chile's CorpBanca

SANTIAGO, Dec 6 (Reuters) - Moody's Investors Service downgraded Chilean bank CorpBanca on Friday, citing fears about the impact on the bank of problems at a linked business also owned by billionaire Alvaro Saieh.

The downgrade comes at a time when the bank is in the midst of merger talks, according to several sources.

CorpBanca is part of Chilean businessman Saieh's financial empire, along with retailer SMU, which revealed accounting errors that led it to breach covenants earlier this year.

He has since been seeking to raise cash and has been in New York this week negotiating a merger for CorpBanca, with the front-runners being Spain's BBVA SA and Brazil's Itau Unibanco Holding SA, three sources told Reuters on Wednesday.

Moody's downgraded CorpBanca's global, local and foreign currency deposits and debt ratings to Baa3 from Baa2 and left them on review for further downgrade.

"Moody's noted its concerns that the entities' association with the financially troubled SMU S.A. via their common principal shareholder together with certain transactions within the financial group has hurt the funding flexibility and risk profile of both the bank and its holding," the rating agency said.

SMU's July revelations of errors found during a review of earnings was followed by a drop in CorpBanca's shares to an all-time low in August and pushed up its cost of borrowing. The situation has since improved.

The fifth largest bank in Chile as of the end of September, CorpBanca's problems prompted worry from the country's central bank, which said this week that more oversight was needed of companies that combine financial and non-financial operations.

Moody's added that the review would focus on the timing and extent to which the bank could extricate itself from the crossover risk from SMU, a retail group that includes Unimarc, one of Chile's biggest supermarket chains.

The bank's merger discussion "reflects management's efforts to reinforce CorpBanca's franchise, but also raises questions regarding the bank's strategic plan going forward," the agency said.

CorpBanca could not immediately be reached for comment.