Good afternoon, welcome to the DNB quarter one presentation 2020. My name is Anna. I will be your coordinator for today's conference. During this call, you will be on listening only. In the end of this presentation, you will have opportunity to ask questions. If at any time you need assistance, please press star zero on your telephone, and you will be connected to an operator. I'm going to hand you over to Head of IR, Rune Helland, your host for this call. Thank you.
Hello, everyone, and welcome. We hope you are all well and are comfortable where you are. Here in Oslo, we are the CEO, Kjerstin Braathen, CFO, Ottar Ertzeid, CRO, Ida Lerner. We have Head of Personal Banking, Ingjerd Blekeli Spiten, and Head of Corporate Banking, Harald Serck-Hanssen. Ottar will start with a brief introduction before we go to the Q&A. Please, Ottar.
Thank you, Rune. The first quarter has been an unusual quarter, also in banking. We believe that the Norwegian economy is well equipped to handle this situation. At our Capital Markets Day in November, we talked about Norway's strong fiscal and financial position, including the three built-in stabilizers in the economy, the fiscal policy with the strength of the Norwegian government, which have really been put to work during the last couple of months, and also the flexibility in monetary policy, where the key policy rate in Norway has been reduced by 125 basis points last month. In our view, Norway and DNB is also operationally well equipped to handle this situation.
We are a highly digitalized society and bank, having most of our contact with customers through the mobile banks, the internet bank, and the call centers, and have thus been able to continue running the banking operations almost as normal during these special times. We also see that solid financial foundations we put in place before this situation is really paying off. We are one of the most solid and best-capitalized banks in Europe. Liquidity is stronger than ever. Our credit ratings are really benefiting us in these times, as we see in growth in deposits. Not least, our high operating profit before provisions provide substantial loss absorption capacity during these special times. This is also what we see in the first quarter, with continued solid underlying operating performance, but results affected by significant loan loss provisions due to COVID-19 during the quarter.
We see a 12% growth in net interest income from the first quarter last year and half a percentage point from the fourth quarter, positively affected both by the repricing in 2019 and increased volume. With regard to commission and fees, they are up 1% from the first quarter of last year. The strong performance in January, February, and somewhat softer in March, due to the effects of COVID-19. We also see a positive development in other operating income, contributing to a solid development in operating profit before impairment provisions. The big number in the quarter is, of course, the impairment provisions. According to IFRS 9, they are taken somewhat earlier in the credit cycle than would have been the case under former accounting rules based on incurred losses.
We see that approximately half of the provisions we take in the quarter are related to Stage 1 and Stage 2 customers, performing customers, and approximately half is related to Stage 3. Even with these significant provisions, we have a return on equity for the quarter of 6.5%. On top of that, we also note that the capital situation is highly satisfactory. Leverage ratio 6.5%, a 50 basis point reduction is due to high deposits with central banks, which again reflects our desire to build resilience in these uncertain times. A common equity Tier 1, we have a bigger headroom towards the requirement than ever and are very happy with the capital situation. Okay, we can go to Q&A.
Thank you. Ladies and gentlemen, if you would like to ask a question, please press star one on your telephone keypad. We will introduce you with your name when it's your turn to ask a question. Well, we have a couple already coming through, and the first one is from Sofie Peterzens from JP Morgan. Please go ahead. Your line is now open.
Yeah. Hi. Here is Sofie from JP Morgan. I was just wondering if you could give a little bit more details around the macro scenarios and oil price assumptions behind your loan losses that you're taking this quarter. You mentioned that it's GDP growth around the levels we saw in 2008 and 2009, if you can give actual numbers for GDP, unemployment, house prices, that would be very helpful. My second question would be on payment holidays. What level of payment holidays are you seeing in your portfolios? Do you expect some of the payment holidays start to actually turn into NPLs? If so, what level when do you expect payment holidays to potentially become NPLs? The third question would be on the government guarantee schemes. How much have you taken of the government guarantee scheme?
What is the pricing and what kind of risk weight do you use for the government guarantee scheme? Thank you.
Thank you, Sofie. I'll start, and then Harald can address the third one. When talking about assumptions and what kind of a scenario we have built for the reserves we've taken, it's important to just be specific that these are related to the reserves we have taken in Stage 1 and Stage 2, which is approximately half of the reserves taken in the quarter. Secondly, I would also like to point out that it's a series of factors that we include in our modeling. In addition to these factors, we have also made specific consideration related to certain sectors that are too much reflected or not well enough reflected. There's a number of factors that goes into the aggregate consideration, leading to the provision close to NOK 3 billion in Stage 1 and Stage 2. As we've said, our scenario is more severe than the financial crisis.
We have used the finance department as a reference. They do have an interval when it comes to the GDP growth for Norway, if we use that as an example. Obviously a sharp decrease in the second quarter, with a gradual opening up of the economy again towards the end of the quarter and a relatively end of the year with a slower pickup in the economy, in the third and fourth quarter. If you use a sensitivity, for instance, on the GDP, given the large uncertainty that we appreciate is there in the market, we have sensitized on an additional five percentage points decrease in the GDP. The point estimates currently in our assumption is - 2%. If we scale this up and put an additional 5% decrease on the GDP, this would have led to an additional loss of NOK 300 million, everything else being equal.
Oil price, we've used an average for the year of $48.
$43.
$43, sorry, a barrel, also reflecting the higher pricing level going into the year. With the sensitivity, if we reduce this to $30 a barrel, this would also lead to an additional NOK 300 million of losses. A manageable impact of these factors. It's important to understand that it's a series of factors that impact the picture. Payment holidays have been very actively sought from the personal customers. It's important to point out that it's installment relief. No customers have asked nor are getting any holidays on interest rate payments. The portfolio is very solid. We have approved in the range of 27,000 requests for payment relief. This is not in any way meaningfully impacting the risk profile of the portfolio, nor do we expect these to turn into NPLs over time.
That situation, in a broader perspective, would be similar also for corporate clients, even though we have been active helping them with pushing installments somewhat out in time and also providing liquidity facilities. As for the guarantee scheme, this is an important initiative, and I'll leave it to Harald to answer.
Yeah. Thank you. I'll give you some key facts on that. DNB was the first bank in Norway to really launch these guarantees with a 90%, no, sorry, these loans with a 90% state guarantee, obviously affecting also our use of capital on these loans. It's fair to say we've been somewhat surprised by the moderate demand so far. So far, we have approved approximately NOK 1 billion of these loans. The average size of the loan is as small as NOK 1.5 million. It's somewhat difficult to give you exact figures as to the percentage approved, but it looks like it's in the area of 50% that we will be able to approve based on the regulations or the standards set by the government.
In my mind, the cash compensation scheme that was launched after the state guaranteed loans will have a much, much bigger impact on the Norwegian economy, and it will be a very important factor in reducing the knock-on effects to other industries from this downturn.
Okay. Thank you very much. If I may, could I just ask about the credit rating migration that you have seen on your portfolio. How much negative rating migration did you see this quarter on your corporate portfolio, please?
Negative credit migration is visible in the RWA inflation that is showed in the bridge where approximately 30 basis points is related to negative credit migration in the quarter. There is some migration, but the larger impact is from the macro factors.
Thank you. That's very clear.
The next questions come from Johan Ekblom from UBS. Please go ahead. Your line is now open.
Thank you. Just two questions from me, please. Number one, can you talk a bit about the sensitivity and help us understand. All of the Nordic banks have reported, some banks are indicating multiple NOK billions of higher expected credit loss by moving to a downturn scenario that tends to be -5% to -7% GDP. You are talking about a couple of NOK 100 million. For us, a lot of these models are very opaque. Can you understand why your model seems to be so insensitive to worse macro outcomes, both in terms of GDP and I guess also in terms of oil price? If they're so insensitive, how do we explain the large provision charge in the first quarter? That's the first question.
The second question, just if you can remind us in terms of interest rate sensitivity, is there any reason not to assume an unwind of what you guided to previously when rates were rising?
Thank you for the question, Johan. I think it's an important one. I would not say that our models are not sensitive. There is a series of factors that needs to be taken into account, and these models are quite complex, which is why I pointed out earlier on that you will not get visibility just from taking out a couple of reference points and trying to use that as a full basis for the picture. Our model related to the future outcome is based on the economic outlook for the coming three years with a multitude of factors. Obviously there's been a sharp, at least I can only speak for our view, change in how we see the world and the uncertainty in the world in the coming three-year period compared to where we were at the end of fourth quarter.
Furthermore, we have also taken a look at specific sectors. Now we are talking about the healthy portfolio where we have made some additional reserves in the offshore sector, expecting a lower activity level on the oil investment side. We have also shown some caution on the commercial real estate related to the fact that hotels are practically shut down and that shopping malls see a lower revenue activity and a lower revenue stream. In aggregate, there's a series of factors that have been taken in where we reflect the future uncertainty, which is why our numbers in overall turn out as they do for the first quarter. The sensitivity that we refer to on GDP for Norway and oil price just reflects the fact that there is indeed a broad variety of factors and not just single estimates that comes into the picture.
Can I just follow up on that? Can you disclose what probability you assign to your base case and downturn case today and what the ECL impact would be of assuming 100% on the downturn case? I think that's pretty standard disclosure in the annual reports, I think some of your peers have updated those numbers with Q1 results.
I'm afraid we can't. I think it's important to keep in mind that we appreciate that it's not necessarily easier to compare one bank to the other. We can talk to our consideration where a substantial degree of uncertainty towards the outcome is factored into the numbers. What we know for sure is that it's not accounting principles that actually ends up impacting how high losses will or will not be. In today's world, I think we all have to acknowledge that how much will be actual losses from this situation is highly uncertain, and that's the fact we just all have to live with for a while. We do our utmost to improve both the situation for the customers to sustain the period as well as work to limit impairments as much as possible. You asked about interest rate sensitivity. Ottar, you can comment on that.
Yeah. We have reduced customer rates by up to 85 basis points following the cut in the rates by the central bank. As we correctly hinted to, when we increased rates last year, we said that each 25 basis point hike increased net interest income by approximately NOK 1 billion annually. When we now reduce rates, you should expect an approximate proportionate opposite effect on the way down.
Very clear. Thank you.
The next questions come from Riccardo Rovere from Mediobanca. Please go ahead. Your line is now open.
Good afternoon to everybody. I just want to get back one second to the assumptions plugged into the almost NOK 6 billion. You have taken almost NOK 6 billion. You're telling us that if the GDP in Norway falls to 7%, so an additional five on top of the two that you have already plugged, and if the oil price remains at $30 per barrel for the rest of the year, you will be charging an additional NOK 600 million, give or take, of provisions. I don't know what else can go worse than that. Maybe GDP could go to the decline of 10%. In any case, implicitly, and correct me if I'm wrong, you are basically saying or signaling that you have taken the majority of the provisions in this quarter.
Even if I double the NOK 600, even if I treble the NOK 600, implicitly, if the GDP decline had been another 5%, is kind of correct, I would need a complete I don't even think what I could, should plug to have similar quarters in the three quarters left for the year. Is there anything wrong in what I'm saying?
What I think is important to highlight is that when you can first of all, there are different number of macro factors that are in, such as into the looking at it from also how it impacts the economy as such, it is a lag effect. A lower GDP this year has a negative effect next year as well. I think it's important to say that what we're saying here is that we are also, in terms of the guidance given by the regulators, is also that you should take into account government initiatives and how they are expected to dampen the effects. I think it's fair to say that the government initiatives we've seen in Norway have been extraordinary. That's also one of the reasons why you might see that it hasn't that severe effect, even if you push it further down.
The government has also been very clear, saying that they will do its utmost to support the Norwegian economy.
Again, from what you're saying, this is like saying that again, it sounds like that you have taken a very good part of the provisions in this quarter if the situation remains more or less what it is today from the visibility you have today. Agree?
This is right, Riccardo. This is also our understanding of the IFRS 9 framework that losses should be taken early on in the cycle, obviously in a situation with substantial uncertainty, this is reflected. It's also fair to say that it's a higher sensitivity with a GDP level moving from +2 to -2, versus from -2 to -7. You need to keep in mind that this is a three-year view we're taking into account. Also the development beyond this year will be important for future considerations. This is the situation for Stage 1 and Stage 2. In Stage 3, there will always be the risk of company specific situations. This can go both ways. We're not giving a guidance specifically on losses, but we are saying that we expect most of the losses to be taken in first and second quarter.
Okay. Very clear. A second question, if I may. Can you update us with your recent thinking around the dividend, the buyback, any capital return? Where do we stand? Is everything frozen?
The proposed dividend for the year, or the decision on dividend has been pushed out by the board, and they have announced that they will take a view on this no later than December this year. We will schedule an extraordinary general assembly during the third quarter. We have, due to the uncertainty, also suspended our activity in terms of share buyback, and have said that the next time we will consider to apply for a proxy on share buyback is at the same time as we take, or the board makes the recommendation to the general assembly on the dividend. This seems like, in our view, a wise consideration by the board given the uncertainty in the economic outlook.
It is important to say that the considerations then at that time, in our view, will be based on the robustness of both the capital structure and the buffers at the time, as well as how the economic outlook appears then in the fourth quarter this year, where hopefully we have much more visibility on how this is going to turn out than we have today.
Let's say everything is kind of suspended, hoping for better times. Fair?
There will be no further considerations relating the dividend for 2019 until the fourth quarter of this year. I think that is what we can say. We can also, to reiterate what our CFO pointed out in his introduction, we are very comfortable with our capital position. We have a larger buffer towards the required level of capital than ever before. Substantial capacity to withstand the downturn we're in, while at the same time supporting customers and maintain our dividend strategy intact. Obviously the board will have to take into account the economic outlook and the situation when they make their considerations in the fourth quarter.
Okay. Very clear. Thanks.
Ladies and gentlemen, if you would like to ask a question, please press star one on your telephone keypad. Next question come from Ulrik Zürcher from Danske Bank. Please go ahead, your line is now open.
Yeah. Thank you for taking the questions. I have two. First one is a bit technical, but does a change in the macroeconomic forecast affect the migration of loans into Stage 3, or is that company specific? What I mean is that if you say, "Okay, we think the economies and the oil price is going to develop this way." Okay, maybe some oil exposures need to be moved into Stage 3, or does it only affect the provisioning rate? Second question is that, just want to make sure I understood this correctly, because you hinted to at the presentation that losses might stay a bit elevated in Q2 under your current assumption, but then will we see a more normalized rate in the second half of the year, like loan loss rate under your current assumption? I know it's a lot of uncertainty. Thank you.
First of all, if we start with what happens when a company moves from Stage 2 into Stage 3, that's based on individual assessment. That's the similar process that we always had when it comes to the individual impairments, where the customer is thoroughly analyzed, and then we make a decision based also on different factors affecting that specific customer. That's not model based in that sense. When it comes to Sorry, your second question was more?
Second question was on second quarter losses.
Yeah.
I think we addressed them earlier on. Given the uncertainty, I think it's difficult to say more than we previously said. We expect the losses to be highest in first and second quarter. We also reiterate that we have taken in the future uncertainty in the first quarter, but there may be changes to the scenario as illustrated by the sensitivities given as the situation develops. There will be company specific situations that can, even in this situation, move in both directions. I think that's what we can say.
Okay. Thank you. It's all very clear.
The next questions come from Jacob Kruse from Autonomous. Please go ahead, your line is now open. It could be that Jacob? Jacob is showing twice in the queue line, I will just see if I can reach him the other one because he's probably registered twice. One second, I'm just going to open up the other phone line for him. Jacob, your phone line is now open on the second line.
Great. Thank you. Can you hear me now?
I can hear you now. Thank you.
Excellent. Thank you so much. Sorry about that, I was disconnected. First question was just on the mortgages and the pipeline that you have there. How do you think about if the lockdown restrictions start to open up a bit or, given the lockdown restrictions that you have, how do you see that developing in Q2 and does it change when the lockdown restrictions ease up at the latter end of Q2, if that's what happens? My second question was just on asset quality. You used to give some detail on kind of breaches of covenants and where you are in discussions with clients. Could you just talk a bit about what you're seeing specifically in terms of corporate clients in those more vulnerable sectors, either already breaching covenants or asking for extensions or asking for some types of restructurings?
Just to give an idea what you're actually anecdotally seeing more specifically with those exposures. Thank you.
Thank you, Jacob. Ingjerd will answer the first question, and then Harald can assist on the second one. Ingjerd?
Yeah. On your first questions, Jacob, we experience a quite normal situation now when it comes to mortgages, both in the MoM and also for the real estate brokering. They will deliver more than 80% of the budget we set in 2019 actually on the real estate. When it comes to mortgages, we have had many customer conversations
As we have a lot of demand regarding an application regarding mortgage installment postponements, around 27,000 actually. As we have previously commented, that is not payment holiday as you call it globally. It's only postponement of paying installments.
Installments.
We just got the Norwegian figures for expected mortgage growth in March, and that was still 4.7% for March. We expect it to decrease a bit, probably. We still see a well-functioning market actually, both for mortgages and in the real estate market. An increased demand for deposits. Good. Harald?
Well, first of all, it's been gratifying to see that a fairly large share of our corporate banking portfolio is pretty insulated from this downturn. I think there are two key industries to focus on. One is the maritime industry, and oil and gas, where we see limited impact on shipping. There have been no new distress cases there. Also on oil and gas, we are very comfortable with our E&P portfolio. It's the offshore portfolio where we have the challenge. We already have 1/3 of the portfolio there in restructuring. Obviously the second round of restructuring that we are in the midst of will become more challenging. That is reflected in the increased provision levels that you see in the first quarter. When it comes to the retail sector, it's been an interesting development because we had expected this to be worse.
We see that again, about half the portfolio has been insulated. We saw a 37% increase in online purchases in March. We have had one bankruptcy among our clients on the retail side since mid-March. On the other hand, we actually had 10 challenging situations, all ending up with the sponsors putting in more equity. All in all, we have not seen a strong increase in the number of companies where we will see a need to provision from what we see today. Again, emphasizing the uncertainty on the offshore side.
Okay. Thank you. Just could you say, I don't know if you still give this disclosure, but how big a portion of your offshore portfolio going into this was already in breach of covenants?
We don't have the exact number in breach of covenant, but we had 1/3 in Stage 3. There might be some minor covenant breaches also in the other two-thirds of the portfolio, but it's basically 1/3 that's been challenging. Again, the loan loss provisions we take are mainly on the existing names where we've already taken provisions.
Yeah. Okay. Thank you.
The next question comes from
Just to say again, the Stage 3 portfolio.
I'm sorry.
Sorry. Just again to specify, that's the Stage 3 provisions.
Yeah.
Thank you. The next question comes from Martin Leitgeb from Goldman Sachs. Please go ahead. Your line is now open.
Yes. Good afternoon. My first question is again back to provisioning and I think it's the first time we see the application of IFRS 9 and how it works in practice and there's just differences in the sector. Just trying to better understand what the message is here. If we look at the first quarter provision, which is large if you compare to loan loss rate as implied by stress test and if you compare that across the sector, is the message here that from here, for the rest of the year, if the economic outlook stays unchanged, we should revert back to some form of normalized loan loss rate, maybe similar to what we had in 2019, maybe a touch higher given how things evolve.
The message very clearly, obviously don't annualize the first quarter and we are having to do some more normalization here. The second question, I was just wondering if you could help us quantify what the impacts are on revenues arising from COVID-19 related disruptions. Obviously, you have flagged the impact of low interest rates and the sensitivity to low interest rates. I was just wondering if there's other major elements within revenues worth flagging. Thank you.
To address your first question, we're now in the then Stage 1 and Stage 2 portfolio consideration when it comes to losses. It's important to bear in mind that there are two categories impacting the reserves on this portfolio. One is the series of macro factors and the economic outlook. Secondly, it's the grade and the risk of each and every customer in the portfolio. Firstly, just take the assumption that there are no changes to our view on the future economy and the various parameters that we've set aside for the future in the coming quarter. The only additional potential reserves would be from increase in exposure. There would be no additional losses then in view of the macro factors. The second factor to keep in mind would be to watch the credit migration in that portfolio.
If there is a negative credit migration, that would lead to some additional reserves. If it's a positive, it would lead to the opposite. I'll leave it to Ottar to answer.
On the COVID-19 income effects, besides the net interest income, there will be effects on commission and fees, and mainly twofold. The first effect is on the transaction-based income, mainly investment banking, where we will see a slow march and going into April in debt capital markets, equity capital markets, and M&A, which we'll expect to pick up again, particularly in the ECM and DCM area. We have the second area is the money transfer and banking services, where we see less cash withdrawals from ATMs and also less use of credit cards internationally. There will be an impact on money transfer and banking services. Thirdly, there will be some effect on real estate broking, even though activity in April has not been affected as much as expected as the Head of Retail just commented. That's with regard to transaction-based income.
We have what's based on market values. Of course, equity prices are lower now. As you know, that will have a fee income on revenues from asset management and defined contribution pension. The sensitivities in those areas combined is that 1 percentage point in equity values amounts to 10 million NOK annually in fees.
Very clear. Thank you very much.
The next question comes from Joseph Dickerson from Jefferies. Please go ahead. Your line is now open.
Testing mic. That's good.
I'm so sorry, Joseph. Your phone line is really poorly. Could you please see if you can remove your headset and talk straight into the phone, please?
Is that?
We are so sorry, Joseph. If we can't hear you, if you can try to dial back again and press star one, and we will connect you.
Can you hear me now?
We can hear you. Thank you.
Okay. Welcome. I just have a couple of questions on the oil price movements. At what price can you tell your exploration and loans even I get not a linear relationship given the commentary that at $30 a barrel, the additional impairment?
We are so sorry, Joseph. Your phone line is really poorly, and we can't hear half of the words we are saying. I don't know if you can just try to dial back again, and we transfer you back into the question area when you dial up again. Can you please do this?
Okay.
We'll do the next person.
Yep.
Thank you.
Yep.
The next question comes from [Ramia Shaminkhotova] from Citi. Please go ahead. Your line is now open.
Yes. Hello. Thank you so much. I have a couple of questions. First of all, on asset quality, could you please provide a bit more color on the increase in Stage 3 loans over the quarter? You mentioned that you had one bankruptcy in retail and I think oil-related increase in Stage 3 is not surprising, but you've also seen some, according to a disclosure, peak up in services and also financial companies. Maybe you could just talk about whether that was driven by some specific cases or you already saw deterioration because of the COVID-19 situation. The second question on your cost outlook. How confident are you with the ambition to have a cost-income ratio below 40%, given that you provided this target in the very different revenue environment?
Maybe you can talk about if there are any actions you can take on the cost side to actually deliver on your ambition?
Should I start perhaps, and then Harald could fill out if there is anything that he thinks should be added to my comments. When we look at Stage 3, as you can see from the disclosure also in the presentation, NOK 1.5 billion of the impairments we took in Stage 3 are related to oil, gas, and offshore. The rest is related to other parts of the sectors or the other parts of the portfolio. I would say that, and that's also then reflected in the presentation where we've seen some of the most affected sectors. Yes, we have had a few customer cases in service, and we've also had other customer-specific cases in other sectors as well.
I wouldn't say that it's not the single large exposure in that sense that has opened up, but it's more of a multiple of different customers in the different sectors, as you can also see in terms of the increase in Stage 3. What's important to highlight in terms of the impairments in Stage 3 as well is, of course, that has a, as also pointed out in the Q&A during the presentation, some exchange rates effects there as well.
I think it's fair to say when it comes to service, Ronit, that the biggest challenges are related to travel and leisure. That's where we see the biggest challenge. On the cost side, there will be some negative effects from foreign exchange. We estimated equal to NOK 35 million in March due to the weak Norwegian krone. As you see from the numbers, overall costs are down from the fourth quarter. Going forward, we have said that it may be challenging or perhaps also unlikely to meet all the financial ambitions this year, that's more related to the income side of the cost-income ratio, reflecting the earlier comments on the second quarter effects on NII and commission and fees due to the effects of the lockdown in this period.
Thank you. Just maybe one Sorry.
No, just to add one point maybe. When it comes to cost efficiency, I'm sure for those of you who followed us for a while, you know that we work consistently and systematically on cost efficiency, which also means that we have ambitious plans and targets when it comes to increasing efficiency and impacting costs going forward. The key focus will be to continue that and deliver on that. But we do expect revenue impacts, as Ottar is saying, and we will of course also look for opportunities to increase cost efficiency given the new environment we're in.
I understand. Thank you for that. Just maybe a small question on exposure to vulnerable sectors. Thank you so much for this additional disclosure on specific industries. You provided the total share in your portfolio based on net exposure. Do you have a number how much provisions do you have against these vulnerable sectors?
Well, I don't have that number in my head in terms of accumulated impairments we've got.
Norwegian
in the vulnerable sectors that we've identified. I'll need to come back to that.
Okay. Thank you.
You get the guidance in the fact book where we show the table per industry, where you can see the reserves made against the various sectors that are defined. That's the level of disclosure we have per industry.
In the fact book, it also states clearly how that's spread as well.
Page 23.
Page 23.
Okay. Thank you.
We do have Joseph back again in the room. Joseph Dickerson from Jefferies, please go ahead. Your line is now open.
Is that any better?
If you just try to talk again, Joseph. I do think the connection to your phone is really poorly. If you just try again, please.
Yes. Can you hear me now?
We can hear you now. Thank you.
Okay. Well, I just wanted to know break even for your exploration and production loans. If you can discuss the relationship between the oil prices and the provisioning. As you went from, I've got about $43 assumption for this year, that drove up NOK 6 billion of provisioning, more or less, based on your disclosures today. You go down to $30, it's NOK 87 million. If you could just discuss the relationship there, that would be helpful. Presumably, if the average was also at $20, would that a larger impact or less? It sounds like the broader impact has been from the move from $50 down to $43 than $43 to something else.
It's Harald. I'll try to answer your questions. We didn't hear you clearly, but hopefully I'll be able to answer your main questions. I think we need to split our oil-related exposure into two areas. One is where we have a direct correlation with oil price, and that's on the exploration and production side. If you look at that portfolio, 2/3 of the exposure is related to the North Sea, either U.K. or Norwegian sector. There was actually a study by an independent analyst called Rudmeck that said that 95% of the production in the North Sea is cash break even at below $10 per barrel. That's one reference point. We do have some reserve-based lending. It's less than 20% of the E&P portfolio with very robust structures for the senior lenders and where the borrowing base is reset periodically.
We have the more challenging part to explain is oil service and offshore, where you have a derived demand, which is not directly dependent on the oil price, but depending on the activity level, especially on the offshore drilling side. That is where we have taken the provisions on the offshore side. Not much on oil service, because historically, the oil service companies have been very good at adjusting their cost base based on the activity level. Today, we received news from the Norwegian government that they are introducing measures to stimulate the Norwegian oil industry, which will impact the oil service and offshore industry positively. We still need some time to digest the effects, but they will clearly be positive in terms of the activity level for the next two to three years, which are the most critical in those sectors.
Again, we have recognized the increased challenges on the offshore side. We have pushed out in time the expected recovery. We have reduced our estimates on both the rates and the utilization, and that is reflected in the provision levels made in the first quarter.
I'm so sorry. I do think that Joseph had a really poor phone line. He dropped in the middle of your explanation. Hopefully he will call back again. I'm so sorry. It's probably his phone on his side. We do have three more questions. Actually, I can see that Joseph actually called back. I will transfer him straight back to your question. Joseph, your line is now open again.
I hope to be some helpful. I'll circle back to you.
Excuse me. I think this is the third time we're not hearing. Operator, I think we just have to move on. I'm sorry.
Yeah. Joseph, if you have any question, you can also write and ask the question. Thank you. We've gone to the next question here. That is Chris Hartley from Redburn. Please go ahead. Your line is now open.
Thanks. I actually think you've covered almost everything I was going to ask. I just want to be really clear on that sensitivity, the numbers you've given. Sorry to labor the point, those numbers you've given, are they very much all else being equal numbers? Whilst oil down to $30 would have a NOK 300 million impact, the reality is that if oil averaged $30, then it's also quite likely that unemployment will rise and therefore house prices will fall. There is more of an impact than just that single sensitivity. Is that the right message?
The sensitivities are given, everything else being equal. Quite correct.
Okay. Yeah. Great. Thank you.
The next question is another question from Riccardo Rovere from Mediobanca. Please go ahead. Your line is now open.
Yes. Good. Thanks for taking my follow-up questions. Getting back one second on provisions. Is it fair to say that in using IFRS 9 in this quarter, you have not adopted any kind of relaxation, so you have calculated 12 months expected losses and lifetime expected losses, as normal with no kind of relaxation, so plugging anything into the models normally like you would have done in everything without this current situation? This is the first question. The second question I have, is it possible for you to give a ballpark on what % you think of Stage 2 exposures might eventually migrate to Stage 3, with the current visibility that you have at the moment? Finally, before you mentioned that there are some part of your exposures in the oil sector that are related to the activity levels?
When I look at the website of Oljedirektoratet, they clearly say that the activity level on the shelf is expected to remain at fairly stable levels over the next foreseeable years. Also, thanks to Johan Sverdrup. Does this mean that those sectors should not eventually suffer more than they have done so far? There is no relationship between the two things?
Thank you, Riccardo. On your question number one, you are quite right. We have deployed IFRS 9 without making any meaningful adjustments to the framework. We have noted regulatory authorities in other jurisdictions encouraging banks to consider how they would like to deploy it. We have deployed it to reflect the uncertainty and the estimated loss as you describe it. As for the ballpark of exposure moving from two to three, I apologize, we won't be able to help you on that. I think, again, we all need to factor in the uncertainty and the outlook that we do experience in the situation. When we refer to activity level, it's more specifically the new investment activity that leads to additional activity for the offshore sector. The ongoing fields are not expected to be shut down. It's more related to the future exploration and drilling and search projects.
Oil majors have come out after the virus outbreak and the turbulence in the oil price, stating that they will reduce their planned investments quite considerably in the area of 20%-25% across the industry. However, as Harald pointed out earlier today, we've received news of material changes to the tax regulation for oil investments, for new investments, which means that investments taken this year and next year can be written off in the same year as they are taken. These are forceful stimulus to the companies in order to make further investments, and we expect the revisions on the upside to be meaningful compared to how we saw the picture before this news came out.
Clear and clear. Thanks, Kjerstin. Thanks a lot.
There is one question less than that from another question from Jacob Kruse from Autonomous. Please go ahead. The line is now open.
Oh, thank you. Just two quick questions on the oil side. You mentioned the break-even price on the Norwegian shelf. Could you just give any indication of how your offshore books is split up geographically? How much of it is Norway and how much of it is U.S. or other areas? My second question was just, and excuse me if you answered this, but you gave a sensitivity of oil going back to $ 30 or being at $ 30. Do you have some idea what happens if oil stays at $20 persistently? Not the recovery, but just a flat oil price, $20 from here on out, what that would do to your losses? Thank you.
I'll answer you on the geographic split. I don't have it actually calculated on the offshore side because offshore market, remember, is very much a global market. If you are a Norwegian operator, you can operate in other markets and vice versa. We have a number of international operators. It doesn't really make that much sense. The majority of our exposure is in the Norwegian market on the offshore side, more than 50%. When it comes to E&P, it makes much more sense to look at it geographically, and there it is 1/3 in the U.S., and 2/3 in the North Sea.
As for the future oil price, we gave a sensitivity, all else being equal for this year. When it comes to a future longer-term oil price of $20, it is difficult to see such a level without a fundamental change in the structure of energy demand in the world. We've had a substantial drop in demand from 100 million barrels a day to now the area of 70 million barrels a day, and the airline traffic is just a smaller part of that. A much bigger part of it is related to people's cars, for instance. When everybody is staying at home, not a lot of people are driving around. We do expect over time demand to pick up again. This is bound to happen when economies start to open up and people start driving their cars again.
With a price of $20 a barrel, there just isn't enough supply that would stay open over time in order to service the necessary demand. An interesting data point, I believe, is to look to China, who is nowhere near in normal operations, to put it that way, but gradually they have started to reopen. One of the findings is that if you look at the traffic pattern, it's above what you would see as a normal level. The reason for this is that nobody or very few would like to take public communication. Everybody is jumping in their car when they need to go anywhere.
A car overall represents approximately 30 million barrels a day, whereas the airline traffic is somewhere in the range of 5 million-9 million barrels a day, which means that we can get back to very, in this sense, decent increases in demand without having the airlines back into any type of normal operations.
Okay. That's very helpful. Thank you very much.
We did get in one last question, and that's from Thomas Svendsen from Nordea Markets, and that's the last question we have in the queue. Your line is now open, Thomas. Thank you.
Yes, good afternoon. Could you say something about the cost level so far in Q2 versus the pre-crisis level, and whether the decline is material? Also on the number of full-time employees, it was down around 2% QoQ. Is that a coincidence, or do you think this is a trend that will continue throughout the year? Thank you.
If you look at the Q1 numbers, we saw there was a NOK 634 million decrease in costs in the first quarter. NOK 300 million of those were pension costs, part of that was pension cost, which we expect to be around NOK 300 million higher going forward. I think you should take a look at the first quarter numbers, adjust for the provision for the lead claim of NOK 169, add back around NOK 300 million in pension costs, and also part of the variable pay we said reduced personnel expenses.
That is as close as we can say something at the present time with regard to costs. FTEs, I think we should not only look at FTEs number. We will gradually and have gradually converted, for example, consultants to full-time employees. I think it's more relevant to look at the cost numbers as such than only the number of FTEs.
Taking in mind, as CEO mentioned already, of course, we have ambitions with regard to cost efficiency, which we pointed to at the Capital Markets Day in November, and we are still working on that topic, definitely.
All right, everybody. Thank you so much for your participation. Stay safe out there, and I hope you all have a nice day. Thank you very much.