Earnings Call: Q1 2010

May 4, 2010

Summary

Q1 net profit was DKK 0.8bn as lower costs and falling impairments partly offset a 30% decline in total income. Capital and liquidity remained strong, while the 2010 outlook stayed cautiously positive amid fragile recovery and elevated credit risks.

Welcome, and thank you for taking the time to attend this presentation of Danske Bank's financial results for the first quarter of 2010. With me today are Chief Financial Officer, Tonny Thierry Andersen, and Head of Investor Relations, Martin Gottlob. Please go to slide number 2. Tony and I have split today's presentation. I'll begin with a brief summary of Danske Bank Group's financial performance and the current macroeconomic environment. Then Tony will review the most important accounting items. Finally, I will comment on some key developments and give you some observations on the outlook for the rest of 2010. After the presentation, you will, of course, be able to ask us questions. Please go to slide 3. With a net profit of DKK 0.8 billion, Danske Bank is off to a fairly good start to the year, despite a 30% drop in total income. Expenses were lower in accordance with our intensified focus on cost management. This effort will continue in the coming years. We're leaving no stone unturned in order to streamline the organization, while at the same time investing heavily in our IT platform to take advantage of technological opportunities. At DKK 4.3 billion, our impairment charges were still very high, but they have declined for the fifth consecutive quarter since the peak in the fourth quarter of 2008. Many of our SME customers are still experiencing difficulties, and market conditions are especially unfavorable in Denmark and Ireland. At the beginning of the year, we had the strongest capital position in the group's history, and we have managed to maintain it. Our total Tier 1 and solvency ratios now stand at 14.2% and 17.9% respectively, which are also strong levels in comparison with other European banks. Our funding and liquidity positions remained firm as well. We therefore feel well prepared for the future regulatory changes in the financial sector. Despite signs of recovery, there's no doubt that 2010 will be another challenging year for the financial sector, for Danske Bank, and for many of our customers. We will focus on customers, credits, costs, and capital to strengthen Danske Bank and build a strong foundation for the future. Please go to slide 4 for an elaboration on the macroeconomic situation. We are pleased that we now see signs that we are on board on the road to recovery and that the risk of a double dip is diminishing. Still, we expect it to be slow and fragile. GDP is expected to grow in almost all of our markets this year and then to stabilize at a low but positive level. The Baltics is the exception. This area was hit very hard by the economic downturn and experienced a significant GDP drop in 2009. We do expect GDP growth in Ireland both this year and next, but it will be very low. The improvement is driven mainly by export growth, and the property sector is still under much pressure. Of the Nordics, Denmark has been the hardest hit by the recession. Very weak domestic demand has extended the downturn, and many corporates are still struggling. We're beginning to see a rise in house prices and consumption, however. Consumer confidence thus appears to be recovering despite increasing unemployment. Despite our brighter view of the macroeconomic situation, we must not forget that most of the current recovery is based on public stimuli that are debt-financed. For this reason, our main worries concern the timing and effects of any fiscal and monetary tightening, as well as possible adverse consequences of future financial sector regulation. However, the starting point is good for all Nordic countries as the public debt is among the lowest in Europe. Please go to slide 5. In the first quarter of 2010, Danske Bank posted a net profit of DKK 0.8 billion. We find this fairly acceptable given the difficult market conditions. The 30% decline in income was expected since the capital markets are slowly returning to a more normal level, and we could not book the same extraordinarily high trading income as we did last year. The 17% drop in net interest income was also expected, as reduced demand has lowered lending volumes during the past year. In addition, we are facing increasing cost from term-out funding and continued pressure on deposit margins. Expenses were 7% lower than in the same period of 2009. Some of the decrease occurred because integration costs and severance payments were higher last year, but the trend generally reflects our intensified focus on cost. The trend is actually quite encouraging. Loan impairment charges came to DKK 4.3 billion. That is almost 50% lower than last year and a continuation of the steady decline during the past five quarters. Please go to slide 6 as I turn the microphone over to Tony, who will take you through the specific accounting items in more detail. Thank you, Peter. Let us start with the net interest income. It came as no surprise that net interest income fell in comparison with the level both last year and in the preceding quarter. Peter has already touched upon the year-on-year comparison, so let me focus on the rather large quarterly drop of 11%, amounting to DKK 750 million. Before we look at the volume and margin trends, it is important to note a couple of explanatory factors. First, the fourth quarter of 2009 had more interest days and higher average interest rates. The effects were DKK 147 million and DKK 60 million respectively. Second, and most important, high year-end mortgage activity in Denmark contributed DKK 490 million. It was driven by the refinancing of floaters and a high return on the liquidity surplus on Realkredit Danmark loans with monthly payments. We will see some of this again in 2010, but probably less than half. We continued our work to make margins better, reflecting risk maturity and price of funding. Much of what could be done on the back book has now been done, but we continue to see lending margins rise in the first quarter, albeit at a slower pace than in 2009. We see increased price competition on new loans, and given the future regulatory and macroeconomic outlook, this is actually somewhat worrying. Deposit margins, on the other hand, continue to put pressure on net interest income because of floor risk from low short-term interest rates and fierce competition for deposits. Nevertheless, deposits at our banking unit increased, and we hope that the expiration of the first Danish bank package will have a positive effect on our deposit volume in Denmark. Lending volumes were flattish in the first quarter. Corporate customers, in particular, remain reluctant to make large capital investments and are strongly focused on holding down their working capital. The result was lower lending to corporate customers, whereas retail lending rose slightly. It is a positive sign, however, that volumes are stabilizing after the steady decline in 2009. Please note also that some DKK 87 million in one-off interest on a VAT refund for prior years that was booked in Q4 was exceeded in Q1 by DKK 101 million in one-off interest on a refund of surplus tax paid on labor cost. We have updated our internal funds transfer pricing model, and that caused fluctuations in some of the banking unit's net interest income. This is, of course, only an intra-group allocation with the effects most pronounced in Sweden and Norway. It does not affect the group's total net interest income. In spite of declining net interest income, banking activities are still very robust and remain our main source of income in the coming year. Please go to slide 7. In the first quarter, net fee income benefited from increased investments and higher activity in the housing market, which appears to be on the mend. The quarterly decrease in the net fee income reflects the inclusion of performance fees of DKK 119 million at Danske Capital in the fourth quarter. Please go to slide 8. Concurrently, with macroeconomic recovery, market conditions are becoming less favorable for Danske Markets, and trading income has declined in step with market stabilization, as illustrated by the CIX index. We are approaching a normal level of trading income after the extraordinary high gains in 2009. It was encouraging to see trading activity rebound in January after a rather quiet December. In the first quarter of this year, we booked DKK 2.4 billion in trading income, which suggests that we have not returned to normal yet. Upon the release of the annual report for 2009, we mentioned that in the first half of 2010, we would see an approximately DKK 700 million one-off gain in Danske Markets from the merger of partly owned PBS and Nordito. This income will be booked in the second quarter. Please go to slide 9, where I would like to spend a little time on the income from our insurance business, Danica. In the first quarter, Danica posted net income of DKK 0.6 billion, which was an improvement of DKK 0.5 billion over the same period last year. Income in the fourth quarter of 2009 was extraordinarily high owing to the booking of risk allowance for 2009 and part of the shadow account for 2008. This quarter, earnings benefited from a DKK 0.4 billion investment result owing to a good return on the equity portfolio. In 2010, we expect to book a DKK 0.5 billion expense for a special allotment to customers of the former Statsanstalten for Livsforsikring, and this reduced the first quarter result by DKK 100 million. We will not decide whether to book the remaining DKK 0.6 billion of the shadow account until the end of the year. Our unit-linked business continued to show positive improving results. This means that income from existing customers more than compensated for the cost of acquiring new customers. The insurance result was DKK 773 million better than last year. This quarter, lower sales improved the result because consequently, we paid low sales commission. Unit-linked premiums now account for 66% of total premiums, and the percentage is rising. Given the implications of Solvency II for capital, this is very encouraging. Now, let us turn to expenses. Please go to slide 10. In keeping with our intensified focus on cost control, expenses in the first quarter were 7% lower than in the same period last year and stood at DKK 6.4 billion. We have continued to reduce staff and close branches since the peak in the second quarter of 2008. In the first quarter of 2010, we reduced FTEs 1% and closed 14 branches. The restructuring of the Irish branch network is ahead of schedule. The underlying cost base declined 3%, mainly because of good cost control efforts and also because of a time lag in some of our accounts. Please note that at the same time as we are making these tangible cost reductions, we are also maintaining a high level of IT investment in 2010 and 2011 in order to take advantage of technological opportunities and launch a number of new products and services. Please go to slide 11. Loan impairments declined to DKK 4.3 billion, a further reduction of 14% from the preceding quarter. We have thus reduced impairments for the fifth consecutive quarter. The annual loan loss ratio came in at 89 basis points. The positive elements were a sharp reduction in the Baltics, no further impairments at Danske Markets, and low charges in Northern Ireland and the Nordic countries, except for Denmark. Less positive are the continuation of high impairments in Ireland and an increase in Denmark. The charges include DKK 636 million in collective impairments, mainly against the agriculture and hotel segments and retail customers. The largest single impairment was DKK 463 million to cover the expected cost at Financial Stability, the Danish governmental body that takes over troubled Danish banks. The remaining portion of the maximum obligation of a first tranche loss of DKK 3.3 billion is now DKK 0.9 billion, which is at stake until the end of the third quarter of this year. Please go to slide 12. Our corporate book is still showing more credit downgrades than upgrades, but we are getting closer to breakeven. This time, we have split the portfolio into two segments, Danish and non-Danish. The difference in recent quarters is very clear. Denmark has been decoupled since mid-2009 and is now lagging the rest of the group by six months or so. This is a clear indication of the continuing difficulties in Denmark, difficulties that can be explained by both domestic and export issues. Please go to slide 13. The split into customer segments show that SMEs still dominate the impairments at 54% of the total. Besides the impairments on Financial Stability, only seven customers accounted for impairments above DKK 50 million and only 20 customers for impairments of DKK 25 million or more. Impairments within the SME segment come from a wide range of sectors with the largest concentrations in commercial property and agriculture again this quarter. Personal customers account for 23% of total impairments, but for 51% of the total loans. Of the total impairments for personal customers, DKK 250 million were collective impairments in Denmark. Here, we have seen the number of compulsory property sales increase, and in the first quarter, the number of repossessed properties rose from 37 to 81, including 61 residential properties. The increase in loans subject to impairment has slowed in the quarter to 8% from 13% in Q4. The coverage ratio is slightly lower than last quarter, as credit exposure in rating category 10 increased more than in category 11. Please go to slide 14. A few comments on the impairments of each of our main business units. In Denmark, almost DKK 1 billion of the impairments were booked for Financial Stability and collective impairments. Even excluding them, we see that the economic crisis is not over yet, despite a number of positive signs of recovery. This is a classic proof that loan losses are late cyclical in nature. The annual loan loss ratio of 111 basis points is a little higher than the group's average. In Finland, the ratio remained low at 32 basis points, and the charges were split evenly between corporates and personal customers. In Sweden and Norway, loan loss ratios were also low, but they consisted entirely of charges against corporate customers. Please go to slide 15, which covers our other business units. The positive trend continued at Northern Bank, which brought its loan loss ratio down below 100 basis points. This is very encouraging, and it demonstrates that the crisis is less severe in Northern Ireland than in the Republic. We saw a declining trend in Ireland, but the ratio remained elevated at 5.8% annualized. Excluding a collective impairment charge, however, the ratio fell below 5%. More than 80% of the charges relate to commercial properties, mainly developers. Of the total commercial property portfolio, accumulated impairments now account for DKK 5.7 billion, which means that the write-down on the entire portfolio is 22%. The write-downs range from 39% on developers to 13% on commercial investment loans. Of the impaired loans, 97% are covered by impairment charges or collateral. In the Baltics, impairments declined sharply, and the loan loss ratio came in just above 2%, which is better than we had hoped. We did not reduce the collective impairments this quarter. Most of the charges are for personal customers, reflecting the difficulties many families in the region are undergoing right now. Finally, impairments in other areas, whose exposure comes mainly from Danske Markets, fell as expected and ended with a minor net reversal for the quarter. With these remarks on our credit exposure, I conclude my part of the presentation and hand the mic back to you, Peter. Please go to slide 16. Thank you, Tony. Let's turn to the bank's funding position. Our need for long-term funding remains low and stands at DKK 30 billion in 2010. Year to date, we have raised DKK 18.7 billion, including covered bonds and our US MTN program. All of the transactions in 2010 were made without using individual state guarantees. The remaining funding need in 2010 and 2011 can be fulfilled entirely from the unutilized covered bond pool. In the graph on the right, you can see that deposits, mortgage bonds, and covered bonds now make up a larger share of our funding sources. On the other hand, short-term funding is decreasing mainly because of lower funding from central banks. This reflects our effort to extend the maturity of our funding. Please go to slide 17. Our need for long-term funding has diminished substantially owing to the declining gap between loans and deposits. Our loan-to-deposit ratio remains strong, although it grew slightly from 114% at year-end to 116%, mainly because of the release of DKK 30 billion in deposits held as collateral for three CDS transactions that were terminated in January. As you can see from our 12-month liquidity curve, our liquidity position also remains strong. We are able to continue operating our business without access to capital markets for much longer than 12 months. Please go to slide 18. Our capital ratios remained strong at the end of the first quarter and even showed a small improvement. Our core Tier 1 ratio was up 0.1 percentage points to 9.6%, owing to total comprehensive income of DKK 924 million, despite a DKK 4 billion increase in risk-weighted assets. Including the convertible state hybrid loan capital, our total Tier 1 capital ratio was 14.2% and our total solvency ratio was 70.9%. When we compare these levels with our ICAAP ratio, it is clear that our capital base is very healthy. As I mentioned, risk-weighted assets increased by DKK 4 billion. This was due to an increased number of lending offers. Please go to slide 19. The future regulation of the financial sector has been a key issue thus far this year, and it will surely remain one for the rest of the year. We are in agreement about the need for a more robust global financial system, but it is also important, in fact, it is crucial, that the tightening measures are implemented and adjusted in an appropriate manner. If they are not, they could easily have a negative effect on the current improvement in the real economy. Or they could inappropriately penalize or raise the price of financial products that customers benefit from today. We are thinking here especially of the Danish mortgage finance system. The regulatory changes will affect all banks, but in comparison with other European banks, Danske Bank is well prepared for the new financial regime. Even according to the rather strengthened net stable funding ratio, we are stronger than other EU banks because of our match-funded Danish mortgage lending. We are contributing to the process of establishing the new rules, both by presenting our opinions and by calculating the effects of the current proposals. In April, we submitted our contribution to the quantitative impact study, and the result will lay the foundation for the changes to the current proposals. From a Danish perspective, it is clearly very important that we preserve as much of the Danish mortgage model as possible. This would mean that the funding model is accepted and that Danish mortgage bonds are recognized as fully liquid assets on par with government bonds. Please go to slide 20. The outlook for the remainder of 2010 has not changed substantially since our full-year report, although with our first-quarter result, we got off to a good start to the year. The overall macroeconomic outlook is still positive, but the upswing remains fragile. In Denmark, we cannot see positive signs at the micro level yet, but we expect they will appear later in the year. The central bank short-term rate hikes have been postponed until 2011, so we do not expect any support for net interest income in 2010 from general increases in interest rates. Trading income in the first quarter was closer to a normalized level. We expect this trend to continue, although the total will depend greatly on trends in the financial markets. As Tony mentioned, we expect a one-off capital gain of DKK 0.7 billion in the second quarter. Expenses came in lower than expected in the first quarter. Even though the decline will be partly offset in the coming quarters, we remain confident that as part of the Four C strategy, our emphasis on cost control will continue to show good results in the future. We have not changed our view that impairments will remain high in 2010, although not as high as in 2009. The first quarter was a good beginning in that respect, although we saw an increase in Denmark. Going forward, our base case is that the positive macroeconomic signs will gradually spill over into the micro level and improve the credit quality of our Danish SME book. The expected increase in unemployment will still be a challenge for our retail book, and the number of repossessed properties and arrears in our Danish mortgage book will most likely continue to rise. This postponement of short-term rate hike is both a sign of the fragility of the recovery and a benefit for many customers. in April, Denmark approved an agricultural package that will reduce land tax, among other things. In 2011 and 2012, the package will be financed by an increase in the financial services employer tax, which is a special tax on the Danish banking sector. Beginning in 2011, this will result in an annual expense of about DKK 90 million for Danske Bank. All in all, the outlook for 2010 remains fairly positive given the modest recovery we expect in the economy. With our focus on the four areas, customers, credit, cost, and capital, we will strengthen Danske Bank and create a good foundation for the future. Please go to slide 21. That concludes our presentation of our financial results for the first quarter of 2010, and we are now ready to answer your questions. Thank you. If you are listening to the conference call via our website, you are also welcome to ask us questions by email. Please, operator, we are ready for the Q&A session. Thank you. We will now begin the question and answer session. If you have a question, please press star then one on your touch-tone phone. If you wish to be removed from the queue, please press the hash key or the pound sign. If you are using a speakerphone, you may need to pick up the handset first before pressing the numbers. Once again, if you have a question, please press star then one on your phone. We have our first question from Christian Hede from Jyske. Yes, good afternoon. This is Christian Hede from Jyske Bank. I have a couple of questions. One is on the allowance account. I see that you have reversals of impairment charges amounting to around DKK 3 billion in Q1. Could you give us some more flavor on how this has come about? What went right, if I may say? Another thing would be to the higher collective impairments in Q1 relating to agriculture. Why is the time in Q1, and what has changed since last quarter? Then finally, I would like to hear if you have some remarks on the falling market shares and lending in Sweden, Norway, and Finland. Which plans do you have to improve this development? Thank you very much. First, the allowance account. While I search for that, I would answer the second one, which is related to agriculture and the collective impairment charge on that. Our take on it is that the Danish agricultural industry is under significant pressure, and for that reason, we have seen a number of our customers face some difficulties. That is the reason for that. We can also see that quite a number of our customers have negative cash flow expectations for the year. The impairments in 2010's first quarter saw, as you indicated, some reversals of about DKK 3 billion. That related to impairment activity that was taken in 2008, the fourth quarter, and the first quarter of 2009, where we also had quite a significant element of collective impairments. The bank's concern, I suppose, was good enough because it turned out that we needed impairments. We also, in that quarter, made many specific impairments. What has been happening here in the first quarter of 2010 is, if you like, a bit of a reshuffling. It is not unusual for Danske Bank to have relatively high reversals on an ongoing basis. The market shares in Sweden, Norway, and Finland. I think it is true that you can see that market share is coming down slightly on the corporate side in particular, and I think that is also reflecting part of the loan book composition. We believe that in both Sweden, Norway, and Finland, as the other Nordic countries, we have an excellent value proposition to our corporate sector and that we are focused at growing the business, but obviously also growing at the right segment at the right prices and where we have a good full customer relationship. I wouldn't say that put too much attention on market share coming down in the shorter term on those areas. We are very dedicated in all areas to have good relationship with the corporate sector, the clients. Can I just add that we have both countries, very low proportion of retail loans. If you look at these two markets, the market development has been that the corporate loans declined and the retail loans increased, and therefore the mix is the main reason for you see a 1.2% drop in market share. Thank you very much. Aaron Ibbotson from Goldman Sachs is online with a question. Yes. Hi there. Good afternoon. Just three or 2.5 quick questions, if I may. First of all, I am just curious about the cost-income ratio in your Danish banking operations. It seems to have stabilized around 60% now over the last four quarters. Is this something you are happy with? Are you going to try to bring it down if anything is actually ticking up? Also, are you basically waiting for interest rates to go up, or do you see any other action you can take to improve it? Secondly, and relatedly, if I look at return on allocated capital, return on equity in both Denmark and Finland, your two biggest banking markets, it is difficult to see you come up to more than 12%, 13%, maybe even assuming normalized or very low loan losses. I am just trying to understand how you are seeing your core banking business here. Finally, just a detailed question on Finland. When should we expect these integration expenses to subside in Finland? I cannot recall now exactly when you had planned for them to be done with. Thank you. If I take the first one on the cost-income ratio, the Danish franchise, which you are right, is around the 60% range. I think you have to keep in mind that in those cost figures I included DKK 625 million every quarter, which is the fee we pay to the Danish Banking Package 1. That is around 20% of the cost base that I inflated by this, and we know that this ends by Q3 this year, then we do not have to pay this fee any longer. That obviously helps significantly on the cost side going forward. In addition, we are taking our cost in the Danish franchise by using different distribution channels, Netbank call center, amalgamation of branches, and FTEs also coming down slightly. I think that you will see that on the cost side, we work pretty hard on that and some of that by ourselves and some of that we help externally by, as I said, the fee. On the top line, obviously, we are very sensitive to changes in the interest rate level on a more normalized basis. So normalized, I see no reasons why the cost-income ratio should not be able to improve, going forward, even maybe rather significantly given the elements I mentioned here. Do you expect it to come back to the high 40s level, or where do you think you- Well, I do not want to give numbers. I think that you can do a little bit math yourself in terms of taking out DKK 625 million per quarter. You can also include your assumptions on what is the net interest level and the impact on net interest income on that. You can look a little bit on the FTE traction we have had in that market, and some of the other cost efforts, and I think you could play around it. I see no reasons why we should not be one of the most efficient banking operations in Northern Europe on the longer term on that side. I could take the question, Rob, about Finland and integration cost. We have 2 items. We have this first quarter, DKK 118 million in amortization of intangibles. That is a 5-year period in amortization that began in February 2007 and therefore will last to January 2012. So DKK 118 million per quarter on that. The second part is a depreciation of software development, that is DKK 46 million in the first quarter. That would run until August 2011, so that will be for slightly more than a year. Again, 5 quarters and a bit. Then you asked for expected continuing return on the other side of whatever it is we live through. I think that is too early for us to communicate that. Indicated by Tony was some possibility of improving, of course, the returns in our domestic franchise, which will have an impact, but the same will be the case in others. But I think it is too early to communicate an expected return on equity. Okay. Thank you. I will drop in with a question from the website relating to the same questions coming from Gaia Granded from DnB NOR. He asked 2 questions. One question is that you say Basel III would take ROE out of the banking sector. Can you say at which interval you think ROE will end at if the Basel III is fully implemented? The second question is that in the outlook for 2010, you say insurance income will be lower. Can you please elaborate a little? Thanks. I think when we look at Basel III, some of the preliminary analysis done by different broker houses and international institutions indicate that retail banking sustainable return on equity could go down to, I do not know, 9%-10% to 12%-13% range if fully implemented. And obviously with huge differences in impact on different countries and different banks, depending on particularly the funding structure and the capital position that is going into this. I think that from Danske Bank, given what we have shown you on liquidity, we are quite well off on that relatively to most of the European peers, though obviously if fully implemented the net stable funding ratio, that could hurt all banks also. Insurance. Yeah, I can take the answer to the insurance question. What is the lower income? If you take a normalized end result of the Danica, assuming a normalized investment return and not including that we take the remaining part of the shadow account, we normally should have a result in the area of DKK 1.2 billion to DKK 1.4 billion in a year like 2010, including the DKK 0.5 billion to this special allotment we have warned about. Thank you, operator. Jacob Ring from Handelsbanken. I start now with a question. Hi, it's Jacob from Handelsbanken with a question on the costs. We're talking quite a lot about the full-time employees coming down and the number of branches coming down. I heard your Norwegian CEO was out saying something about continued cost cutting in Norway, also your IT expenses. Could you maybe just give us some indication of, first of all, how much, or let's say, what units of Danske Bank should we see the largest cost cutting in DKK in 2010, 2011? Where are you most positive on the cost and also the IT side? What could you actually cut the cost down with when the IT stuff is fully implemented? Thank you. When you look at the IT side, we said that over 3 years, we will spend DKK 1 billion in additional investment using the opportunities from digitalization, and also coming with new products, and also thinking hard about how to interact different distribution channels. That will be in 2009, 2010, and 2011. That will predominantly happen, and that is also key driver for some of the efficiencies you see now coming through our system. Obviously, there are flexibility within IT investment, but I think that is a very short-sighted decision to make, because this definitely creates a better bank for the future to make these investment. But obviously in the end, you will see a lower level, we expect, of these IT investment. On the cost side, without going down to the different brands per se, I think it is quite generic that with the changes we are doing to the distribution channels and how we look at all cost in the group, that you will see all brands will see a good cost performance going forward. Also, we have done quite a lot in Denmark. We are ahead of the schedule in Ireland. I think most brands will see good cost. Obviously, some brands will probably see growth coming up in certain countries than others, but I don't think I want to highlight out any particular brands as saying this is a group-wide focus to really be top efficient in all processes in all brands. I have another question from the website coming from one of Jacob's colleagues from Handelsbanken, Matti Ahokas. He says the following: "Tony said that the Q1 is a classic proof that loan losses are late cyclical. Why shouldn't loan losses in IFRS be early cyclical instead of late cyclical, especially when using a large number of collective provisions like Danske? I am going to help Tony on that. When the economy turns, it is obvious that more companies are subjected to impairments. But it is also a fact that bankruptcies have a long tail of increasing into the recovery phase. If you look at the Danish bankruptcies at this point in time, then they rise still at a very high level. When you have this general thinning of quality in the market, you see, unfortunately, some upward pressure into the recovery also on impairments. That is what we are trying to communicate. We are aware of the functionality otherwise of the IFRS provisioning system. Yes, operator. I have Andreas Håkansson from Credit Suisse on the line with question. Yes, I have two remaining question. One is on provisions. You booked DKK 463 million related to Bank Package 1. Nordea didn't book anything, and I had to call them back today and ask why when you took some, and they say that they didn't have to. I was under impression that it was more like a bill that was sent to the banks, and you had to pay it in. Can you just clarify that? The second is on, there were discussions in the beginning of the year about repricing the mortgage portfolio. Nykredit talked about it, and then I think you talked about it, but I haven't heard anything recently. Could you just give us an update on that, please? Thanks. The DKK 463 million is one third of what is left under the Banking Package 1 scheme. When the Banking Package 1 scheme matures, then there has to be a new assessment made of the losses in the banks that are part of banking activity ones, meaning having been taken over by the bank because by the government for not living up to the solvency requirements, et cetera. We are of the opinion that there's a substantial risk that this will show additional requirements for impairments, and therefore we have made the decision to chop that into thirds until the end of the third quarter. I think we are at our free will to make that decision, but as you rightly indicate, it's not a mandatory impairment that we have made. On the second one, the mortgage book, I think the situation has been that the largest mortgage company in Denmark, Nykredit, has a discussion with the regulatory, the competitive authorities on the timing and the rightfulness of an administrative fee increase. We are of the opinion that the market is priced very competitive at this point in time, and we watch these developments, and we will most likely make a decision, but not until something new happens. Can I just add on the impairments for the Financial Stability Company, we have seen a number of other Danish banks doing exactly the same as we have done. There is a couple of banks who have done the same way as we are not taking any impairment in this first quarter on this. That is very clear. Thank you. Johan Ekblom from Bank of America is online with a question. Thank you. Just two quick questions. First on NII, you show in one of your slides that the impact from Realkredit Danmark is DKK 490 million quarter-on-quarter. If I recall correctly, in Q4, you said that the one-off impact was DKK 290 million. If you can just clarify what the difference is there and what has driven the bigger than expected quarter-on-quarter change. Secondly, on the cost, you mention in the report that part of the reasons why costs were lower than expected was that you postponed some investments to later in the year. Could you give us an idea or help us quantify the extent of that? Thank you. Let me start with the NII. It is right that in Q4 we said that the impact between Q3 and Q4 was DKK 290 million. This is the same as saying that also now from Q4 to Q1, the difference is DKK 490 million because there is a bigger impact here. We have tried to illustrate that in the presentation in the appendix on slide 23, where you can see the quarterly interest income in Realkredit Danmark besides the customer margins. There you can clearly see that Q1 came up with a lower interest number than Q3, and therefore there is this difference. There are two main reasons for this extraordinary high income in this quarter. One is our one-year flex loans, where more than 90% of our customers are paying the interest monthly. We are paying the interest to the bondholders once a year on the 2nd of January. In 2009, because we had a high proportion of these flex loans, more than 50% of our mortgage book were flex loans, then there was quite a number of payments, and the interest we got was quite high amounts because interest rates on the flex loans were high, namely 4.75%. That we invested in the same bonds funding the flex loans, and thereby we got this high interest. Of course, we collect this money throughout the year, and therefore the impact is biggest in the fourth quarter. Now in the beginning of this year, we have emptied the book, so to speak, start all over again, and then the interest rate has gone down considerably, and that is why the amount in the first quarter is much lower than fourth quarter, but also lower than the first quarter last year. The second part of the reason for the high income is that many Danes decided to lock the interest rates on the flex loan in 2010 earlier than they should because they want to secure that they have this benefit of the falling interest rates we saw throughout 2009. Therefore we got a lot of money in advance, and we earned on that, and we also were able to have a good return on this money coming in advance. So that is the second part of the very strong income in Q4. On the cost side, how much of that is due to timing issues? I would say around DKK 100 million to maybe DKK 150 million for the quarter, which is due to postponement of the cost. That's a good approximation. Excellent. Thank you very much. Jan Wolter from Deutsche Bank is online with a question. Yes. Hi, Jan Wolter here at Deutsche Bank. A couple of questions. Sorry if they have been asked before. I joined a bit late here. First on credit quality on the agricultural book. Of the segments which you show in the presentation in the agricultural book, which one is more of a problem than the rest as you see it? The second question also, what development is most problematic in that book? Is it only the prices on the products there, or is it something else? Then the third question on the same subject, on credits. In the report, you say you've taken DKK 1.6 billion of impairment. How much was the impairment in the first quarter on that book? Second question is on the cost program. What kind of ambition do you have? Just to remind us on that. Is it to take out inflation or lower cost base nominally or what? The final one is the investment program, the cost for that, is that now fully reflected in Q1, so one fourth of that cost is taken now, or will it be later in the year? Thank you. On the credit quality in agriculture, which is in the material, I would say that the Danish agricultural industry has been hit basically across the board. But the pig farmers are having an especially difficult situation, some of them. Cattle breeding has also been suffering. But most farming industries are under some pressure. But those two, I think, will be the most difficult ones. And the pig farming also, of course, entails that you make major investments into the production unit. On the cost side ambition, I will not give you any numbers on that, Jan, but I would say that we are turning every stone around the group to take out unnecessary cost, but also to think cost in a more customer focused way, using of distribution channels and how we can make the dialogue with the customer more efficient and how we communicate and documentation and so forth. The ambition is pretty high in terms of efficiency for the group, but we will not come out with any specific numbers on that. I think you can see the last year that we have taken our cost quite significantly on FTEs and other cost items. So I think we are proving as we go along that this is definitely becoming a strong DNA within the group. So you will have to do the modeling yourself based on some of our performance so far. The third question, I'm not sure I got. You were talking about DKK 1.6 billion impairments. Can you just please repeat that? Sure. You state in the report that the total impairments in the agriculture book is DKK 1.66 billion. I wonder how much of that has been taken in the first quarter. That's on page 9 in the report. Total impairment charges on the agricultural sector. It's about DKK 400 million. Okay. Chris. Was that all the questions you had, or was there one more we have missed? Yeah, the one about IT investments, if that is now reflected in the first quarter or- Well, I think that's probably one of- -much later this year or. Well, that is probably one of the areas in terms of us saying that the DKK 100 million, that is probably some of the timing of the Q1 numbers on the cost side. But that could fluctuate from quarter to quarter in terms of when and how we acquire software and then other things are carried through. But that is one of the things that are affecting Q1 numbers a little bit more positively. Okay, thanks a lot for that. Jacob Krogsager from Autonomous Research is online with a question. Hi, thanks. It is Jacob from Autonomous. I just had two questions left. Firstly, on the Realkredit Danmark contribution to your NII, that is slide 23. Could you just give some idea of to what extent the 2009 contribution to NII was exceptionally strong, or whether you expect those dark blue bars to sort of match the light blue bars in 2010? Then the second question was just on credit quality in the Baltics. Your losses came down materially in the quarter, and you have provided quite aggressively already. So can we expect to see these losses going to zero or to recoveries in the near term? Thank you. The first question about Realkredit Danmark is difficult to say because we do not know exactly how big the activity will be in the end of 2010. I will roughly say that in a normalized year that the net interest income coming here will go down for these plus DKK 600 million we saw in Q4 last year to less than half, maybe between DKK 200 million and DKK 300 million. Again, it depends how many will try to lock the interest rates for 2011 at an earlier state than normal, and we do not know about that yet. On the Baltics and the impairments, it is true that the impairments declined very rapidly. Actually, much to our surprise the market developed better than we had thought, and if you look at the impairments at this point in time, collective impairment charges are actually one third of the impairments, so there is still some cushion to absorb whatever comes. I think it is too early to determine that the stressed situation is over in the Baltics. We remain cautious, so it will take some time at least before we consider any reversals of any magnitude there. Admitted, it did turn out better than we had expected. Okay. Thank you. Simon Christensen from SEB Enskilda is online with a question. Yes, good afternoon. Simon Christensen from Enskilda. I only have one question which has not been answered. I think you mentioned, Tony or Martin, that you had a withdrawal of around DKK 30 billion from the CDS agreement running on the Realkredit Danmark portfolio. I think I remember that 20% of the protection was re-bought in the second quarter of 2008. Are these deposits linked to these 20% of the protection, or have you actually chosen to call these CDS agreements? I think I remember that you did not call it in the first quarter, and they would be running for a number of years. Could you please explain that and maybe also just remind us what the quarterly cost on this agreement is? Thank you. There was a number of credit default swap. One was related to a retail book, that has not been called. Then there was three swaps that related to our corporate books, both in the Realkredit Danmark, and they were called in January. These three swaps, we had collateral DKK 30 billion, and it is these DKK 30 billion that was released when the swaps were called in January, of course. Okay. So in terms of, let's say, the starting protection, how much is left in percentage terms? I cannot remember exactly the number. It is in our risk management report from February. I think it is around DKK 180 billion, but I cannot remember exactly. But I can call you afterwards and give you the number. Okay. Thanks, Michael. Mats Liljedahl from Nordea is on the line with a question. Yes, good afternoon. I just wonder if you could shed some light on the new guarantee scheme. You state there will be costs related to DKK 3.2 billion, and you will pay about one third of that. When is that expected to start? Will it be quarterly payments that will sort of resume on the back of the expiration of the annual schedule? If you can just get some details on that. Then I think you stated in relation to the special allotment in Danica, DKK 100 million, you commented something that there will be more of this coming. I didn't really get that. So if you could clarify that, if there will be more of these costs coming later this year. Thank you. The costs I was commenting on concerning the guarantee scheme was related to Banking Package 1. Yeah. But in the new one, the new proposal. It is too early for us to communicate any costs. We have not information about how much it is going to cost the bank and how much it is going to be through commitment and not through paying in. So that is too early to do that. The special allotment to Danica relates to an obligation to pay to certain policyholders an additional bonus if the solvency ratio of Danica reaches a certain level. It has now reached this level, and that cost us about DKK 100 million in the first quarter. And what we are signaling is that it could cost us DKK 100 million per quarter during the last three quarters of 2010. Okay. Thank you. I have another question coming from the website from Tomas Johansson from Carnegie. He asked the following questions. One, is the low cost level in Q1 a good reflection of the underlying level, or were project expenses lower than normal? Two, why is it that you believe Basel III would take out ROE? Do you see any particular reason why banks will not be able to compensate for this in pricing? And three, have you had any discussions with the government regarding early repayment of hybrid loans? Okay. On the cost side, I think we have been talking about that before. I think that Q1 is probably artificially around DKK 100 million too low given some of the timing of the projects. You will probably have to adjust for that. I think we have a very good traction on the cost reduction throughout the group. Q1 isolated is affected by this. When we talk about return on equity in a Basel III world, I think it is quite clear that the proposal as it stands today on liquidity, the net stable funding ratio that will demand banks to raise a lot of long-term funding. The fact on the capital side, I think that without any doubt, if banks do nothing, will take out return on equity. Can they then raise the prices? That is a good question. I think right now the dynamics in the market is not going that way. I think by any standard, this will put pressure on the banking sector that obviously afterwards probably also will be a more safe banking sector and thereby reducing cost of capital. It will really take a lot of increase in prices for banks to mitigate this one. I have no idea what the market reactions would be in a post Basel III world. As far as the hybrid is concerned, it runs according to its text for at least five years. We have not taken any initiative to discuss with the government whether we should pay it out early, and I do not have any intention of us starting to do that, at least not while there is such little clarity about what the future capital regulations would be. I have a follow-up answer to Simon Christensen regarding the outstanding CDS number is 186 billion, and you can read on it on the risk management report on page 26. Yes, operator. Fridtjof Berents from Arctic Securities is on the line with a question. Yes, please. I have two questions. Maybe one of them you touched upon in the presentations we're given there. It's just this decline in net interest income in Norway dropping close to DKK 100 million, and at the same time, lending increasing with roughly DKK 5 billion. My second question relates to a general observation is that provisions or regulation regarding provision has moved from collateral to focus more on cash flow. As I understand, in Denmark, realization of property value or property within the next six months is a point that FSA makes. How much do you think this affects your provisions? Is this just regarding mortgages or is it also regarding commercial real estate? Question about Norway, we have changed our internal model and the funding distribution, and where we take further details into account is a bit complicated to come into here, but the effect is that net interest income in Norway is coming down, and on the other hand, is coming up in Sweden. It's only an internal distribution of the funding cost that has resulted in this change. When we measure out impairment charges on properties, we make across the board an assessment as to what value the property will be able to fetch if it should be sold within a six-month period. Of course, that's not all the time easy, but that is the basis on retail and commercial, so it's across the board. Have you done any consideration if you stick just to a cash flow-wise model and not having this realization principle within the next six months, would that have reduced your provisions or would it be sort of similar? I don't know offhand what a cash flow model would do, to be honest with you. My instinct tells me that that would most likely reduce our requirement for impairments, because you don't dare take the decline in market value into consideration, and you just base yourself on whatever cash flow is coming. So that would be my point of departure on that, but we don't calculate that. No. Thank you. Chintan Joshi from Nomura is online with a question. Hi, three quick questions. The first question, slide 6 of your presentation pack, you show a positive development of margins of DKK 63 million. I just wanted your outlook for the rest of the quarters in this year. Do you expect this development to be positive or negative? I know Tony said earlier that much has been done on the lending side. But what can we expect in terms of the direction here? Second question, just wanted a quick update on the activity levels in the capital markets in April for Danske. Question 3, just a follow-up on the Nykredit rate increase. I didn't quite follow your comments there. Would you follow Nykredit in increasing rates? Do you expect that whatever outcome comes could mean slightly higher margins for you there? Thank you. If I should take the net interest income on slide 6 on the margin, which is positive by DKK 63 million, I think there is a balance here between we still see a little scope for repricing on the back book as loans are maturing or extended again, but we also see increasing margin pressure on the front book. I think we hope that there will still be a slightly positive impact, but it will not be that big. I think the key driver on margins going forward will be when and if short-term rates come up, because a 100 basis point increase in ECB central rate will probably give us around DKK 1.6 billion-DKK 1.8 billion a year in net interest income. Obviously if loans pick up again, then that could also help that side of it. In terms of markets, April trading division, I don't think we should comment on specific just one month. I think we're quite clear as we say that we expect things to normalize more in our trading division. On the mortgage lending in Denmark, I think any change in administrative fee or margin would only be upwards. There are already a single institute that has increased its mortgage rate. We haven't made a decision as said, but following somebody else that pushes them in the right direction could be something we could consider, but it's too early to communicate on that. Thank you. Nick Davey with UBS is online with a question. Yes, good afternoon, everyone. Nick Davey from UBS. Just one final question on some well-hashed ground already, actually. Just circling back on the net interest income from Realkredit. I understand your comments on the seasonal impacts Q4 on Q1, but if I just look at it on an an absolute basis, it looks like DKK 147 million for Q1 2010. If I look back pre-crisis, I mean that run rate on an absolute basis was at around DKK 450 million in, say, 2008. Could you just talk us through the absolute level? Just clarify there, and I presume why we should extrapolate that DKK 150 million isn't the right run rate going forward. Thank you. Well, we cannot give a firm number because this depends on the development. The increase we have seen is both because interest rates last year were so high, but also because proportion of one-year flex loans has increased very much. If our customers decide to move back to fixed-rate loans, then this amount will diminish quite substantially. So it depends on the development. It is right that it was high last year, both because of interest rates and the high amount of flex loans. If it continues this high level, you will see that the Q1 number will gradually increase over the quarters and certainly be the highest in the fourth quarter. I think I said that a guesstimate could be that we will end in a DKK 200 million-DKK 300 million area in the fourth quarter. What will happen in 2011 depends, again, will people stay in flex loans or will they move to fixed-rate loans, or what will happen? Okay, thank you. Andreas Håkansson from Credit Suisse is back online with a question. Hi, sorry for that. Just a quick question. On slide 36, you look at your bond portfolio. You have some 30% to governments and municipalities. Can you just tell us how much of that, if any, would be to Southern European countries? If you take a look at Greece, which I think is the key here, this is so negligible, it would not be visible in anything if even in a very stressed scenario. We are talking a very small amount in Greece. Obviously we have also sovereign bonds in countries like Italy, but otherwise it is a covered bond that we have in some of the more southern space that are obviously still AAA rated. This is a small fraction of it. Okay. Thank you. Jan Wolter from Deutsche Bank is back online with a question. Yes, one follow-up question, if I may. The DKK 1.3 billion in extra reserves that you plan to take under the first three quarters here this year. You say, Peter, that you see a substantial risk that this will be paid. Why do you see that? Or is your decision just a reflection on the calculation that we've seen from the Financial Stability Company, where they upped their estimated loss from DKK 5.8 billion to DKK 7 billion here? Well. Thank you. The reason that we You know the structure, there is a DKK 10 billion limit that the banks have to share, and Danske Bank has to take a third of that. We have about seven, eight banks that are strong on property lending that has given up life and is lying now bankrupt in the hands of the government. The Banking Package 1 matures on 1 October 2010. I think the responsible would carefully go through that loan book. And if you look at developer property markets and also some of the commercial property markets in Denmark that these banks have been active in, there is a, in my opinion, large risk that they will be needing additional impairment charges. We are still not out of the woods. If they do need additional impairment charges, it is for our expense, and that is why we have that. Okay, thank you. As a reminder, if you have a question, please press star and one on your phone. There were no further questions. Thank you. Okay. It sounds as if we are finished. Thank you, operator, and thank you all for your interest in Danske Bank and for your questions. As always, you are all welcome to contact us if you have any further questions after you have had time to look at the accounts in detail. As usual, we will be ready to talk to you until 9:00 P.M. this evening, Central European time, and of course, again tomorrow morning. A transcript of this conference call presentation will-