DBRS: Swedbank Reports Solid 3Q14 Results; Further Cost Cuts Announced

Summary:
• Solid result in 3Q14, with IBPT up 8% QoQ.
• Continued good cost control with further cost target announced.
• Asset quality and capital ratios remain strong.
• DBRS rates Swedbank at A (high) with a Positive trend for Senior Unsecured Debt & Deposits.

DBRS Ratings Limited (DBRS) views the 3Q14 results of Swedbank AB (Swedbank or the Bank) as solid. Income before provisions and taxes (IBPT) was SEK 5.97 billion, an increase of 8.1% on 2Q14 and 14.5% on 3Q13. Across the main business lines (Swedish Banking, Large Corporates and Institutions (LC&I) and Baltic Banking) the results in 3Q14 were down slightly, however the results of the Group Treasury outweighed this. Overall net interest income (NII) rose 5.6%, helped by margin expansion on domestic mortgages (following the change in capital adequacy requirements for mortgages), as well as volume growth, the inclusion of Sparbanken Öresund for the full quarter and the Group Treasury results.

In 3Q14 the Bank’s reported cost-to-income ratio was 41%. However, as a result of the low interest rate environment which is likely to depress earnings, as well as the impact of increased direct banking, the Bank has announced that it now aims to lower the cost base towards SEK 16 billion in 2016, from the targeted SEK 17.7 billion in 2014. As a result the Bank expects total headcount to reduce by between 600 and 800 in the period to end-2016, mainly through natural attrition, although cost synergies are also expected to be realised from the acquisition of Sparbanken Öresund. DBRS views this continued focus on costs positively.

Asset quality remains strong. At end-3Q14 impaired customer loans were SEK 6.7 billion (or 0.52% of the customer loan portfolio), a significant improvement on the SEK 9.2 billion level at end-3Q13. Total impaired lending was, however, up slightly on end-2Q14 driven primarily by one legacy exposure in the LC&I division. As a result of this the quarterly credit impairment charge increased to SEK 235 million from SEK 30 million in 2Q14. The Bank’s operations in Russia are in wind-down and are classed as discontinued. DBRS views the remaining direct exposures as manageable given that at end-3Q14 2014, they totalled SEK 0.8 billion. In addition the Bank has repossessed properties in Ukraine totaling SEK 106 million. These compare to consolidated common equity tier 1 capital of SEK 84.7 billion at end-3Q14. DBRS will continue to monitor whether the elevated risks stemming from the ongoing issues in Ukraine and Russia will impact upon Swedbank’s operations in the Baltic countries.

The Bank’s capital adequacy remains strong with, at end-3Q14, a Common Equity Tier 1 (CET1) ratio (according to Basel 3) of 20.7%, down slightly on the 20.9% reported at end-2Q14. The Swedish FSA has now finalised the capital requirements for the four major banks beyond the EU minimum level of 7% CET1. These include (i) a systemic risk buffer of 5% (3% within Pillar 1 and 2% within Pillar 2) of risk weighted assets (RWAs), to be met with CET1 capital; (ii) a risk weight floor of 25% on Swedish mortgages, within Pillar 2; and (iii) a 1% countercyclical buffer from September 2015. Given the Bank’s strong internal capital generation and its current capital base, DBRS views the Bank as well placed to manage the impact of the evolving regulatory environment.

DBRS rates Swedbank at A (high) with a Positive trend, for Senior Unsecured Debt & Deposits. The ratings, and the Positive trend, remain supported by the wide-ranging turnaround implemented by the management team that has led to a reduction in the risk profile, improved earnings, a lengthened funding profile, and improved capital.

Notes:
All figures are in Swedish krona (SEK) unless otherwise noted.