DBRS: AIB Returns to Underlying Profit in 2013 but Elevated Impairments Lead to Net Loss

Summary:
•AIB reported positive income before taxes and provisions for 2013, however still elevated impairment charges led to a net loss.
•Impaired loans reduced in 2013, and this together with the high impairment charge increased the coverage ratio to 55%, however asset quality remains extremely weak.
•DBRS rates Allied Irish Banks at BBB (low), with a Negative trend, for Non-Guaranteed Long-Term Debt & Deposits.

DBRS Ratings Limited (DBRS) considers the 2013 results of Allied Irish Banks plc (AIB or the Bank) as illustrating the progress that the Bank is making towards rebuilding its earnings power. AIB reported an underlying profit before provisions (excluding exceptional items) of EUR 445 million, up from an underlying loss of EUR 324 million in 2012. The notable improvement primarily reflects a reduction in operating expenses and the falling costs of the Eligible Liabilities Guarantee Scheme (ELG). The Bank also reported an improved net interest margin (NIM) which, excluding the ELG costs, improved in 2013 by 15 basis points (bps) to 1.37%. Excluding the cost of the low-yielding NAMA bonds, the NIM improved further to 1.54%. However the level of impairment charges remains elevated and this led to the Bank reporting a net loss before tax of EUR 1.69 billion. The impairment charge in H213 was EUR 1.17 billion, up from EUR 0.74 billion in H113. As well as the still challenging economic environment, the impairment charge for 2013 reflects the balance sheet assessment carried out by the Central Bank of Ireland in Q4 2013.

Operating expenses reduced by 16% in 2013, compared to 2012, reflecting a 24% reduction in staff numbers since June 2012. As a result of the cost reductions, and the improvement in revenues, the Bank reported a cost-income ratio (excluding exceptional items) of 77% in 2013, still high but a significant improvement on the 123% level in 2012. Due to the high level of impairments taken to date, and the potential recovery in the Irish domestic economy, DBRS expects future impairment charges to be at lower levels and this should, together with the lower cost base, help to boost profitability.

For the first time in a number of years the level of impaired loans reduced and this, together with further impairment charges taken in the period, has led to an improvement in the Bank’s coverage ratio to 55% as of end-2013, up from 52% at end-2012. The improvement in impaired loans was seen across most of the Bank’s loan portfolios, although this was not the case in the Irish mortgage book. DBRS does note, however, that the Bank did report that the pace of increase in impaired Irish mortgages continues to slow. Nevertheless, overall asset quality remains extremely weak, with impaired loans accounting for almost 35% of the EUR 82.9 billion total loan book. This highlights the need for the Bank to arrest the trajectory in residential mortgage arrears. As a result of the ongoing process of restructuring Irish mortgage loans, and the improving property market, DBRS is of the view that the Bank should be able to improve its asset quality in 2014.

As of end-2013 the Bank’s fully-loaded Basel III common equity tier 1 (CET1) ratio was 10.5%, and under the transitional rules that came into effect on January 1, 2014 the ratio was 15.0%. However, DBRS notes that these ratios include the EUR 3.5 billion of preference shares that will cease to qualify from 2018. Although the Bank has indicated that it is likely to discuss converting the preference shares into equity DBRS is of the view that it is important for the Bank to continue its progression towards returning to statutory profitability to enable it to increase capital levels through earnings retention.

DBRS rates Allied Irish Banks at BBB (low), with a Negative trend, for Non-Guaranteed Long-Term Debt & Deposits.

Notes:
All figures are in Euros (EUR) unless otherwise noted.

[Amended on December 23th, 2014 to remove unnecessary disclosures.]