Greater capital requirements and pressures on profits are likely to increase competition among Polish banks and encourage further consolidation. Stefanie Linhardt reports.

Bank Millennium

Lower prospects for profit generation and growing capital requirements are the latest factors that look set to change the make-up of Poland’s banking sector. Polish lenders have been involved in numerous mergers and acquisitions in the past few years, but continuing pressures are making further consolidation increasingly likely.

According to data from National Bank of Poland (NBP), net profits across the country's banking sector in 2017 were 1.7% lower than in the previous year, as Poland’s bank tax pushed up operating costs and prompted some lenders to make adjustments to their businesses, while the low interest rate environment added to pressures on profits.

Downward trend

Net income at the country’s seven largest banks (not including Bank Gospodarstwa Krajowego, the Polish development bank) was already on a downward trend, falling from an average of $455m in 2014 to $382m in 2015 and $369m in 2016, according to The Banker Database.

The bank tax, first imposed in February 2016, cost banks 3.6bn zlotys ($1.05bn) in 2017 (alongside corporate tax costs of 4.7bn zlotys and bank guarantee fund fees of 2.1bn zlotys), according to data from the Polish Bank Association. This figure is expected to rise in 2018 as lenders seek to further increase their assets, a percentage of which is one indicator for calculation of the tax.

Krzysztof Pietraszkiewicz, president of the Polish Bank Association, says the industry understands why authorities introduced the tax but believes “it could be a danger to the future of financial services for our economy”. He suggests that new credit activities should be exempt from the tax in future, adding that this would mean “the government would receive the same level of income of 4.5bn zlotys to 5bn zlotys a year”.

So far, however, there are no plans to amend legislation.

Franc exchange

An additional cost, at least for some Polish lenders, is likely to come from legislation on the handling of the remaining portfolio of Swiss franc loans. This has long been a bone of contention and has given rise to many different legislative proposals, but so far none has been passed.

“At any moment, the Polish parliament may pass one or another version of the Swiss franc bill,” says Brunon Bartkiewicz, chief executive at ING Bank Slaski. “We don’t expect [parliament] to choose the most far-reaching one, but this is still an important risk factor in 2018.”

Mr Bartkiewicz notes that the costs for the banking sector could climb to as high as 12bn zlotys. “This is the risk, but – in our opinion – [the] more likely scenario is that the Swiss franc bill will be watered down to [cost the banking sector] about 3bn zlotys, which would not hamper banking activity significantly,” he says.

According to a report by rating agency Moody’s, of the 10 Polish lenders it rates, Bank Millennium has the largest stock of Swiss franc mortgages, followed by Getin Noble and mBank, which would make those lenders the most affected by any legislation on outstanding Swiss franc mortgages.

“It was a highly politicised issue, overstated,” says mBank chief executive Cezary Stypułkowski. “Unfortunately, it emerged in the year of two elections. It was not justified. I was very active in this debate and I have to say that time has proven that the banking sector was, in principle, right. [We saw a] cascade of proposals, some of them basically ruining the banking sector in Poland – and they were coming from the official sector. But I believe the momentum is gone.”

Options on the table

Overall, Polish mortgages written in Swiss francs had greater requirements than the average local currency mortgage, including stronger income buffers, which leaves the Swiss franc mortgage portfolio very well serviced, according to Piotr Szpunar, director of the NBP’s economic analysis department.

The foreign exchange shock, after the Swiss National Bank lifted its cap on the franc exchange rate in early 2015 and the currency’s resulting appreciation, hit many borrowers in the franc in central and eastern Europe. But as of early 2018, the zloty had almost returned to pre-policy change levels.

Still, Mr Szpunar sees merit in the plans now under consideration. “Unlike in previous cases, this time there is a proposal on the table that should prompt banks to offer clients a plausible option to convert the loans to zlotys, but the terms and conditions are not defined in the law – only the incentives are,” he says, adding that under the current plan, banks’ contributions would be collected into a mutualised fund, which banks then can use to finance conversion.

“After six months, other lenders can utilise the unused money contributed by a bank for the same purpose,” says Mr Szpunar. “And this is exactly the incentive to encourage conversion – otherwise the boards of the banks will be much more reluctant to allow for any kind of losses.”

Banks will likely need to make some concessions to customers as interest rates on Swiss franc loans are lower than on local currency loans, which means that, at the moment, many Swiss franc borrowers are content with their loans.

Consumer lending

Opportunities for growth lie with the Polish consumer and a strong economy. On the back of government forecasts for gross domestic product increases of 3.8% in both 2018 and 2019, and with wages expected to rise, lenders are seeking to expand their private banking and consumer loan portfolios. In the last quarter of 2017, lenders on average eased consumer loan terms, according to the NBP’s latest senior loan officer opinion survey, and expected higher demand for both housing and consumer loans in the first quarter of 2018.

I believe there is a place for four or maybe five mortgage banks in Poland

Jakub Papierski

“We are focused on consumer loans – it is the most important revenue pool in Poland and we are increasing our market share,” says Bank Millennium chief executive Joao Bras Jorge, who adds that, as salaries increase, private banking opportunities are also growing in the retail sector. To offer customers hi-tech options, “we have developed a digital investment advisory tool and will be deploying robo-advisory algorithms by the summer”, he says.

Bank Zachodni WBK has also identified private banking as a growth area and strengthened its operations through the acquisition of Deutsche Bank Polska’s retail and private banking businesses. The subsidiary of Spain’s Santander Group further aims to increase its exposure in consumer loans and banking for small and medium-sized enterprises (SMEs).

“We are a universal bank, we don’t have a focus on a specific area, but SMEs are a very important element in our strategy,” says chief financial officer Maciej Reluga.

Dividend payout

To support lending to some of the more risky SMEs, Poland’s development institution, Bank Gospodarstwa Krajowego, offers guarantees to borrowers for up to 80% of the desired loan amount. Such a guarantee acts as a security when the borrower applies for a loan at a co-operating commercial bank such as PKO Bank Polski or Alior Bank, making the borrower more bankable.

Growth expectations and cost-reduction targets across institutions mean lenders are hopeful of being able to return to making dividend payments to shareholders on 2018 earnings in 2019, if not already on 2017 results this year.

“It is very important for us to pay dividends to our shareholders,” says Mr Reluga, who adds that in the past the dividend policy equated to 50% of profits. “The introduction of new criteria for 2016 connected with foreign exchange [FX] mortgages complicated this approach, but the regulatory dividend policy for 2017 was slightly relaxed.”

For 2017, Zachodni reached a dividend payout ratio of 100%, although FX mortgage criteria lowered this by 70 basis points, giving the bank a maximum possible payout at 30%, according to Mr Reluga.

Zachodni’s acquisition of Deutsche’s businesses could also support the bank’s future dividend prospects, as the new assets do not include FX loans, diluting the share of Zachodni’s FX exposures to below 10%, and therefore allowing for a higher dividend.

Future dividend payments are crucial across institutions. Pekao’s head of investor relations, Paweł Rzeźniczak, stresses that the bank seeks to distribute 100% of 2017 and 2018 profits to shareholders but will likely reduce payout in future to position itself “both as a dividend stock and growth stock”. ING Bank is recommending that its general meeting consider a 2017 dividend of 30% of net profit, while Millennium’s Mr Bras Jorge is keen to return to dividend payments on the bank’s 2018 financial year.

MREL question

Apart from using profits to pay dividends, Poland’s banks have historically sought to retain earnings to improve their capital base, according to Raiffeisenbank International’s head of economics, fixed income and FX research Gunter Deuber. This is something lenders will likely find increasingly difficult, especially as capital requirements increase further.

Still, there is no immediate concern regarding the banks’ capitalisation. Average capital ratios for the sector stood at 18% total capital and 16.5% Tier 1 capital in September 2017, according to NBP data.

Polish lenders still lack clarity over the requirements the country’s deposit guarantee fund, BFG, will seek to put in place regarding EU banks’ Minimum Requirement for Own Funds and Eligible Liabilities (MREL). The MREL implementation deadline is 2020, but several domestic regulators within the EU have been slow in setting out clear targets.

“We don't want to disadvantage our banking sector and increase costs to keep MREL, while other countries are not very willing to move forward with MREL and haven’t implemented it yet,” says Poland’s deputy minister of finance, Piotr Nowak. “We will speak to the banks when there is more clarification.”

The European Commission has so far indicated that banks should reach their individual MREL targets, once set, through the issuance of senior non-preferred debt, a debt instrument that would sit between a bank’s junior and senior securities in the capital structure.

Polish banks are heavily deposit funded. As of December 2017, the average loan-to-deposit ratio across the sector stood at 93.9%, according to NBP data, which leads some experts to suggest that lenders should start establishing an institutional investor base sooner rather than later to support future MREL debt issuances, especially those outside Poland.

“Should MREL be fully implemented and if all banks were to go to the market, the Polish market would not be able to service everyone – we would be dependent on the international markets,” says mBank’s Mr Stypułkowski. “For us this should be OK, because we are the most frequent issuer in Poland, raising up to €1bn from the international markets [a year], but some other [banks] could have more problems.”

Mortgage rush

Some Polish banks are more advanced in this than others, and the issuing of covered bonds through separate mortgage bank entities in particular is moving up bankers’ agenda.

Three lenders – PKO Bank, Pekao Bank and mBank – have for a few years been running separate mortgage banks, which, to safeguard customer deposits in the case of a resolution situation, are the only entities allowed to issue covered bonds.

PKO launched its mortgage bank in 2015 to raise longer dated funds for its mortgage portfolio in the form of covered bonds “in the process of preparation for MREL”, says Jakub Papierski, executive board member at PKO Bank Polski. “[Our covered bonds] are very well [received] by the market and provide us not only with cheaper funding but also more stable funding for our portfolio of mortgages. By regulation, mortgage banks are exempt from MREL and therefore we expect them to also be exempt on the consolidated level.”

Seeking to take advantage of this MREL exemption and to raise long-term funding to reduce maturity mismatches, other lenders such as ING Slaski, Bank Millenium and Zachodni are all in the process of establishing mortgage banks.

“I believe there is a place for four or maybe five mortgage banks in Poland,” says Mr Papierski.

Consolidation questions

If the mortgage banking sector can only take five institutions, what about the banking sector as a whole? Consolidation has been an ongoing feature of the sector, and this is set to continue.

Should MREL be fully implemented and if all banks were to go to the market, the Polish market would not be able to service everyone

Cezary Stypułkowski

The latest move was Bank Zachodni WBK’s acquisition of Deutsche Bank Polska’s retail and private banking businesses in December 2017. The takeover will see Zachodni expand its asset base by about 12% to 169bn zlotys pro forma as of September 2017, keeping it in third place by assets.

In June 2017, Italy’s largest bank, UniCredit, finalised the disposal of its 32.8% stake in Poland's second largest lender, Bank Pekao, which is owned by Poland’s largest insurance group, PZU, and the Polish Development Fund.

Alior Bank, 10th largest by assets on year-end 2016 data, has had, in PZU, the same strategic investor as Pekao since 2015, and in March 2016 purchased a controlling stake in the core bank of BPH Bank from US conglomerate GE. It is now rumoured that Pekao is looking to take over Alior to strengthen its position in the market.

“One bank gets sold in Poland every year – it’s a rule of thumb,” says Bank Pekao chief executive Michal Krupinski. “There are merger discussions between us and Alior, and we will see if this is going to happen.”

Yet he dismisses another rumoured merger, an amalgamation of the country’s two largest banks to create a strong Polish banking group, capable of competing outside Poland. “This is not being discussed right now,” he says. “I think this would create too big a player for the domestic market.”

But speculation over the super-merger does not come out of nowhere. Pawel Borys, the head of investment vehicle PFR, which holds a 12.8% share in Pekao, has opposed the bank’s takeover of Alior in the press and instead floated the idea of a merger with PKO, telling Reuters in early February that such a move is “worth discussing”.

“If there is a business opportunity, it is my duty to the shareholders to analyse it and to judge whether it is value-creative or senseless,” says PKO’s Mr Papierski. “Is there a current merger and acquisition [M&A] situation? I don’t see it yet. Strategically, do I think there should be more consolidation in Poland? Yes.”

Raiffeisen’s choice

In 2016, PKO bought Raiffeisen’s leasing business, which doubled the bank’s presence in the leasing market, making it Poland's market leader.

And there is more potential. Austria’s Raiffeisen Bank is required to list at least 15% of its Polish subsidiary by May 15, 2018, after it missed the initial deadline of the end of June 2017 set by the regulator. Listing a chunk of the lender was one of the terms imposed on Raiffeisen when it bought Polbank in 2012. Now Raiffeisen is caught between doing that and trying to sell a majority stake in Polbank’s core business (there are rumours that Raiffeisen might get taken over by BGZ BNP Paribas, but neither bank would comment on this). In both cases, the banks’ Swiss franc loan book could be retained by Raiffeisen.

There is also the option of a European mega-merger dragging fourth largest lender mBank into M&A. It is unclear what might happen to mBank, a strategic subsidiary of Germany’s Commerzbank, if the German government decides to privatise the Frankfurt-based lender. Some market participants suggest that a takeover of Commerzbank by BNP Paribas – which had been rumoured previously, but France’s largest lender has always denied – would create an interesting situation in Poland: the French bank’s subsidiary, BGZ BNP Paribas, if combined with mBank, could boost its market share to nearly $50bn equivalent worth of assets, which would make it the second largest bank in Poland (on year-end 2016 figures from The Banker Database). But mBank’s Mr Stypułkowski notes that a sale of the government stake is not of immediate concern.

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