DBRS: Danske Bank Reports Strong 2Q14, on Continued Progress on Costs and Provisions

Summary:
• Strong performance reflects better efficiency, lower impairments and value adjustment on sale of Nets
• Provisions declined by 38% YoY led by continued improvement in asset quality in both core and non-core operations
• Management confirmed the Bank’s Pan Nordic strategy, building on stable market shares across Denmark, Norway, Sweden and Finland
• DBRS rates Danske Bank at A with a Stable trend for Senior Unsecured Debt & Deposits

DBRS Ratings Limited (DBRS) views the strong 2Q14 results for Danske Bank A/S (Danske or the Bank) as confirming the resilience of the Bank’s franchise. In 2Q14 Danske reported strong net income of DKK 4 billion, up 85% year-on-year (YoY) and 44% quarter-on-quarter (QoQ) driven by significant reductions in provisions (down 23%), further cost reductions (down 6%), and a one off DKK 1 billion valuation adjustment on Danske’s equity interest in Nordic payments provider Nets Holding A/S (Nets). The Bank reported improved results across all three banking units, but particularly in personal banking, as well as continued progress in cross selling of products with its pension and insurance operations. Management stressed Danske’s Nordic strategy, as well as the status of core operations in Northern Ireland and the Baltics.

The Bank’s core revenues grew 16% YoY and 10% QoQ supported by a positive trend in both net interest income and fees. Excluding the one off impact of Nets, core revenues were still up 5.6% YoY reflecting the resilience of Danske’s underlying franchise. QoQ, however core underlying revenues (excl. Nets effect) were slightly down due to lower net trading income.

Pre-impairment performance of Danske’s core operations continued to benefit from cost reduction measures taken in previous periods. These contributed to a 6% drop in expenses YoY and supported stronger underlying income growth before provision and taxes (IBPT) of 23%. Although core operating expenses increased 3% QoQ, this was largely due to the higher restructuring costs during 2Q. DBRS takes comfort in the Bank's expense control efforts which allowed the Group’s cost to income ratio (CIR), as calculated by DBRS, to fall to 52.4% in 2Q14 from 63.6% in 2Q13. On a core operations basis, Danske reported an improved CIR of 49.1% for 2Q14, down from 60.5% for 2Q13.

Asset quality improved further as evidenced by the gross non-performing loan ratio, which improved to 3.3% of lending at 2Q14 compared to 3.6% at 1Q14. On a quarterly basis credit costs stabilised at a low 13 basis points (bps) across the core operations due principally to improvements in the Danish market. At the Group level, a strong decline in losses from non-core operations contributed to an improvement in credit costs to 15 bps for the quarter. Overall, Danske reported further positive momentum in reducing Irish risk with losses in the non-core operations for the quarter dropping sharply to DKK 77 million from DKK 303 million the previous quarter. For the full year 2014, Danske provided guidance that potential losses on remaining non-core Irish assets could increase by as much as DKK 1.5 billion during 2H2014, largely reflecting possible adjustments for SME assets.

At the Group level Danske continued to improve its funding profile, reducing its reliance on wholesale funding to 55% at 2Q14 from 58% as of end-2013. Excluding covered bonds, DBRS calculates wholesale funding reliance of 27% at 2Q14 vs. 31% as of end-2013. The reduction was mostly driven by a reduction in liabilities to credit institutions and increased deposits. The European Commission decision on whether Danish mortgage bonds will be considered very highly liquid (or “L1” assets) for liquidity purposes under Basel III has been postponed and DBRS notes that an adverse decision could require an adjustment for Danske’s liquidity portfolio, as well as further changes at mortgage subsidiary Realkredit Danmark.

At 2Q14 the Bank reported a phased in Basel II Common Equity Tier 1 ratio of 14.4% which was up from 14% at 1Q14 due to retained earnings. The total capital ratio of 18.6% at 2Q14 benefitted from Danske’s EUR 500 million Tier II issue in May. Concurrently, Danske reported a CRD IV fully phased in leverage ratio of 3.5%. DBRS views the Bank as satisfactorily placed to manage the impact of the evolving regulatory environment and the increasing capital requirements which Danske will face in future periods.

DBRS rates Danske Bank A/S at A with a Stable trend for Senior Unsecured Debt & Deposits.

Notes:
All figures are in Danish kroner (DKK) unless otherwise noted.