Islandsbanki hf

ICEX:ISB

Q3-2025 Earnings Call

[BjarÂney BjarÂnadotÂtir, executive]

Good morning, and welcome to Islandsbanki, it's Friday, where we present the results for our third quarter financial results. I'm Bjarney Anna with Investor Relations, and I'm joined today by our CEO, Jon Gudni Omarsson; and CFO, Ellert Hlodversson. Before I hand the session over to them, I want to remind you that we welcome any questions following the presentation. [Operator Instructions] Now Jon Gudni, the floor is yours.

[Jon Guoni Omarsson, executive]

Thank you, Bjarney, and welcome to this call. Iceland has had quite unusual weather this week, where we have had almost 0.5 meter of snow, which is highly unusual for October, and this is actually breaking, I think, around 100-year-old record. Now we're going to get some rain, and so we will have slippery roads in the days ahead here in Iceland. And we have had some slippery roads in the Icelandic mortgage market actually as well in October, where a Supreme Court ruling in the middle of October determined that some of the terms of our mortgages were not in line with the EU legislation. And therefore, we have to reassess those terms and set new terms for mortgages going into the future. At the same time, we have put around just over ISK 500 million through our earnings to take this into account. The quarter has actually been extremely eventful. We announced merger discussions with Skagi, and I will talk a bit more about that a bit later on. Moving into the numbers. We had 12.2% return on equity for the quarter, which obviously is well above our current targets. And so we are quite happy with the results. The cost-income ratio came well below our targets, and that is actually usually the case in the third quarter of the year as we have summer holidays and therefore, lower salary costs during that quarter. Access capital remains in place, and Ellert will take you more through that later and our plans in terms of how we plan to optimize the capital stack.

Asset quality remains very strong, and the economy here in Iceland is still doing quite well. So most industries are in good shape. Inflation is still running quite high and above our expectations at around 4%. And therefore, the Central Bank rate is still stubbornly high at 7.5%. We expect modest growth in the months ahead. So no downturn expected, but no fireworks either. So basically just modest economic growth. In terms of our targets, as I mentioned, we are obviously well above both the return on equity targets and in terms of the cost income. And we will present updated targets along with our Q4 results, along with obviously our guidance for 2026. In terms of individual banking, we have been making huge progress in terms of our app, which is now best-in-class. And we, for example, have new features in terms of the family, bringing the family together in terms of finances and helping parents to set the goals for the children. And as a result of this and all the features that we have been implementing, we have been seeing a very steady rise in the Net Promoter Score and the overall acceptance of the app. So very good progress there on the individual banking side. In terms of the SMEs, that is actually, you could say, our relative strength, and we maintain a very strong market share there of around close to 40% overall and even higher than that in the capital region. We continue to invest in digital solutions there, both in the Internet bank, which where we are soft launching a new bank basically based on a new technology stack and have been moving customers into that stack a bit by bit over this year and hope to finish the transition early next year.

We have also been helping corporates to simplify their bookkeeping and being able to move transactions directly to their accounting systems. So that's something that's an ongoing project. Ergo, our car leasing arm has had an extremely strong second half of the year or actually the year as a whole, both in a strong cooperation with Tesla, where they have been providing financing and also what we call experienced cars, providing financing for a bit older cars, and we have been seeing a big pickup in terms of lending to individuals on the back of these.

In terms of large corporates, we remain in a very strong position in terms of brokerage and very much activity in corporate finance. But I would like to mention a couple of things. So firstly, in terms of infrastructure, we were just funding now the largest infrastructure project of the year, which is a bridge in the south part of Iceland, overall cost of ISK 18 billion, which was partly financed by the bank and then some pension funds here in Iceland. And we see a lot of opportunities on this front in the months and years ahead where there's actually a pent-up demand for quite sizable infrastructure projects. At the same time, we have been growing our loan portfolio outside of Iceland and have seen an ISK 11 billion increase so far this year and expect to see further increases there in the months and, let's say, at least the next year or so. This is where we participate in both infrastructure lending and some leveraged loans as well. So mainly in syndicated loans or club deals alongside the foreign international banks. So this is something that we see as a growth opportunity for us and at the same time, diversifying our loan book. Just to mention quickly here, we had our annual Reykjavik Marathon in August, which is the biggest charity event of the year here in Iceland. And as always, I would say, this far exceeded our brightest hopes and overall, ISK 327 million raised for over 170 charities, and this is an extremely important event for the charities here in Iceland. And overall, since 2006, about ISK 2 billion has been raised for these charities. So always a brilliant event.

In terms of our merger discussions with Skagi, that was announced, obviously, during the quarter, and we are in those discussions now. You can see the time line here at the bottom. We obviously have signed, you could say, a term sheet of letter of intent. Now we have a due diligence ongoing and at the same time, preparing our approach towards the competition authorities. We have an indicated time line of 9 to 12 months, but I have to say that the time line is largely dependent on the competition authorities and their assessment of the potential merger.

What we see in this, obviously, is, firstly, we have 110,000 individual customers, about 30,000 SMEs and to have being able to offer them insurance products. And we see that in terms of the overall value of Skagi, their insurance operations are by far the biggest. We assess around 85% of the total value. And we see obviously huge opportunities to introduce those products to our clients. We have already been in cooperation with these. So we already see how well this connects and how we can enhance the services to our clients, both in terms of offense, you can see, say, in terms of raising new revenue, but also in terms of defense to be able to have a full range of product offering towards our clients. At the same time, we -- with the merger, we see a strengthening of our asset management, where we see an uplift of somewhere around 30% of assets under management. And asset management is obviously a growth business. So enhancing those operations is a very good step for us. At the same time, we also managed to enforce our leading position as an investment bank here in Iceland.

In terms of synergies, we have about ISK 1.8 billion to ISK 2.4 billion in assessment for annual value of synergies. That's largely based on cost synergies, but some revenue synergies as well. We assess the NPV of these synergies to be in the range of ISK 15 billion to ISK 20 billion. So quite a good value for obviously, both parties to the merger to realize those. We see also this as an opportunity to further strengthen our -- the opportunities and development for the employees of the bank by broadening basically our business and operations and further developing as a company. And obviously, a highly compelling investment case for our shareholders. Then over to you, Ellert, in terms of the financials.

[Ellert Hlodversson, executive]

Thank you, Jon Gudni. As Jon Gudni stated in the first step of his presentation, we are quite happy to present our returns for the third quarter, where we turned a profit of ISK 6.9 billion, growing core income by 9.4% between years. As you can see on the figure or on the figure in front of you, this is primarily driven by net interest income as inflation has been given us good results through the third quarter. As a result, the return on equity in the quarter was, as Jon Gudni stated, 12.2% or 12.9% if we adjust for the ISK 550 million provision during the quarter, bringing the total return on equity for the year as a whole -- for the year-to-date up to 11.5% or 11.7% adjusted for the ISK 550 million. Focusing on NIMs. We are seeing NIM uplift year-on-year, where we turned a margin of 3.1% during the quarter, 3.2% if we adjust for the ISK 550 million, bringing the total net interest margin for the year-to-date to 3.2%. We are seeing net interest income on comparable levels between the second and the third quarter, primarily driven by the fact that the inflation was at similar levels. During the quarter, we accounted for 101 bps of inflation in the third quarter and are expecting 73 bps to come through our books during the fourth quarter, subject to economic forecasts. As Jon Gudni stated, we provisioned ISK 550 million charge as contingent liability done through interest, thus affecting the reported net interest income and net interest margin during the quarter.

Net fee and commission was broadly flat between years with mixed signals from different items. For example, we saw good growth in lending fees, primarily on the back of strong activities in business banking. But at the same time, we are seeing quite a lot of cost increases in payments and card processing, mainly related to loyalty schemes, but those are offset through annual fees and FX gains coming through other items and other quarters of the year. So overall, we are seeing net fee and commission flat between years. In addition, capital markets have been slow during the third quarter in terms of volumes, which is impacting revenues from both capital markets as well as from asset management, which we expect to take off once capital markets regain their strength.

The bank turned a charge of ISK 350 million through net financial income, largely related to interest rate swaps in the treasury book, which is then offset through interest income -- which is then offset to interest income. In addition, we saw some adverse effects on our own market-making positions and our own equity holdings. As before, we have seen equity holdings a very limited part and market risk, a very limited part of the banking book as seen on the top right-hand side. Moving to cost. Salaries grew 5% between years, while OpEx was year-to-date more or less flat. This turned a very strong cost-to-income ratio at 38.2%, bringing the total cost to income for the year-to-date up to 42.6%, all well within our financial targets. Overall, a very strong cost -- quarter as the third quarter usually is. Then focusing on the balance sheet. As before and as we have stated in our previous earnings calls, the loan portfolio remains very reflective of the underlying economy. On the top right-hand side, you can see the segregation between individual segments, where around 44% are mortgages towards individuals and the remaining parts reflects the underlying economy quite well. There was very little loan growth during the quarter, while we experienced quite more loan growth in the second quarter.

Overall, we have seen the loan book growing by 2.9% year-to-date, reflecting to close to 4% annualized growth. As before, the book is highly collateralized and skewed towards lower risk classes where LTVs are modest, which then brings us to asset quality, which both is strong and stable, quite consistent with historical quarters. We saw Stage 3 loans remaining flat at 1.6% and have been so for quite a few quarters. Stage 2 loans remained flat as well, having taken a bit of an upward turn in the second quarter on the back of forbearance as we discussed in our last earnings call. Overall, the cost of risk was close to 0 bps in the quarter, where we turned a write-back of ISK 7 million overall. Focusing on the mortgage market, as Jon Gudni stated in his prologue, there was a Supreme ruling, which took place early October, stating that the bank was -- I would say, stating that the bank was not able to change rates on its variable non-index loans in according with provision. Related to that, we provisioned ISK 550 million through net interest income, as we stated before. Although this ruling considers non-index mortgages, it can be ruled out that this can have an effect on CPI-linked mortgages.

In addition, we are seeing court cases being sought towards other lenders, which may also have an impact. We have, in our contingency note stated that the risk related to the CPI-linked loans could range from ISK 2 billion to ISK 5 billion, subject to various assumptions. Overall, however, the asset quality in the mortgage book remains very stable, where NPLs are at 1%, where they have been for quite a long time. On the top right-hand side, you can see the interest rate reset profile for the net interest loans for the 3- to 5-year fixed rate mortgages, which has been running off quite rapidly as we have discussed in our previous earnings call and will be completely run off during the course of this year.

Now focusing on the liability side. Deposit growth was quite good in the third quarter of around ISK 44 billion, and deposit growth has now reached a 9.2% year-to-date growth. For the first time, we have reported deposits from customers accessing of ISK 1,000 billion. Deposits are growing in our balance sheet and deposits are now, I would say, above 50% of our balance sheet as they have been before. This, of course, allows us to be quite agile when it comes to wholesale funding. The name of the game when it comes to wholesale funding for us is diversification between products, maturities, types of investors and location of investors. As you can see on the top left-hand side, we have been increasing the diversification of products or sources of our wholesale borrowings. On the bottom right-hand side, the geographical location or the currency location of it and on the top right-hand side, the maturities of our wholesale funding. The maturity profile throughout 2026 is very light and allowing us to be very adaptive when it comes to wholesale funding. Liquidity position is quite strong and well in excess of regulatory requirements, closing off at 207% across all currencies and 125% for ISK. As of now, liquid assets are around 20% of our balance sheet and as they have been fully mark-to-market either through P&L or through OCI.

And lastly, towards capital. As we have stated before, the bank remains committed to its efforts of optimizing capital structure and capital usage to growth and distributions. From a CET1 standpoint, we closed off at 18.9% compared to a midpoint of a management buffer of 17.1%. We were pleased with the results of the SREP process announced during -- announced recently, where the Pillar 2 was announced at 1.4%, reducing by 0.4 percentage points from its previous decision. This reflects well the risk diversity in our banking book. However, we are still a standardized banks and as a result, leverage ratio remains around 12%. As of now, we are stating that the adaptation of CRR3 will reduce risk weights by around 6% to 7% comparable to what we said in our last earnings call. This will increase CET1 given our current assumptions by around 1.5 percentage points, as you can see on the figure towards the left.

All in all, this means that the total excess capital the bank possesses, including the regulatory changes, assuming a fully optimized capital stack, including allocated buybacks, which are yet to be bought back is around ISK 43 billion, and the bank remains committed to its efforts of optimizing that. And to do so, we feel that we are in an optimal position to use this capital to fuel further growth. As you can see on the left-hand side, we have identified where we want to deploy this capital as we want to grow in specialized lending in the foreign markets, as we have discussed before, and Jon Gudni touched upon in his prologue, mainly through syndicated loan, potentially other products. And we are going to issue capital or use capital in the amount of ISK 10 billion to ISK 20 billion for those efforts. In addition to that, we are also open to external international growth in complementary sectors to the operation of the bank. To this, we are going to allocate capital somewhere between or up to ISK 15 billion. Having grown, we also want to remain committed to buybacks. So we are going to allocate capital somewhere in the range of ISK 10 billion to ISK 20 billion through buybacks or through distribution to shareholders, mainly through repurchase programs and/or potential reverse auctions. The merger to Skagi is further going to enhance our capital position and maintain a strong position for growth. We believe that the merger is likely to benefit from Danish Compromise, enhancing the capital position. The merged entity will offer stronger platform for asset management and investment banking as well as further align bancassurance products across all fields of operation. This is going to improve profitability and revenue generation, providing more diversification in revenues and higher recurring dividends due to higher ESP accretion from a solid capital position. So with that, we turn the floor to questions.

[BjarÂney BjarÂnadotÂtir, executive]

[Operator Instructions]

So, are there any questions on the line?

[Unknown Executive]

There are actually no questions from the telco at this time. So if you have any written questions.

[BjarÂney BjarÂnadotÂtir, executive]

Yes, that's okay. We've had questions submitted. [indiscernible] has submitted 3 questions, and I trust you both to take them all at once. So the first one, cost-to-income ratio is strong due to very limited OpEx growth. Should we expect your cost-to-income target to be lowered from the current 45% target? Are you comfortable with your current loan loss provisions despite a deteriorating situation on the residential real estate market? And the last one, on your capital allocation, can you shed some light on what kind of external international growth you're looking at asset management, lending or something else?

[Jon Guoni Omarsson, executive]

Thank you for those questions. To start with the last one in terms of the capital allocation. So we are looking in terms of broad internationally, firstly, in terms of internal growth, which I described earlier in terms of taking part in the syndicated loans outside of Iceland to diversify our loan book. In terms of external growth outside of Iceland, there we would be looking at the Nordics, Northern Europe, the U.K. and particularly in asset management or SME lending. And that's something that we are just starting to have a look now and to be certain that any such acquisition would be -- need to be something that we can add value, obviously, as a bank, both having industries where we can have -- rely on our expertise and they see there's clear value added. In terms of the loan loss provisions, the real estate market here has clearly slowed down quite a bit and was already slowing down before we had the Supreme Court ruling in the middle of October. And this is obviously largely caused by the high inflation and high interest rates here in Iceland. At the same time, in terms of our loan book, we can see that our clients are actually in a good shape, very strong contractors that have the means and possibilities to basically you could say, delay sales of apartments and then rather rent out in some shape or form over some time period. So we are not seeing increased risk of losses in terms of that portfolio.

And in terms of the mortgage book itself, in terms of retail customers, as Ellert mentioned earlier, we are seeing hardly any pickup in terms of delinquencies and the LTV of that book is very low. So we are not seeing any particular deterioration in terms of the quality of the book. In terms of the cost-income ratio, I think that one as well. We -- like I said, we will be updating our targets along with the Q4 results. So it's a bit too early to tell on that front. But at least I can say, I mean, based on obviously, the current underlying operations that we are fairly optimistic going forward.

[BjarÂney BjarÂnadotÂtir, executive]

There are some additional questions, and they have been submitted and concern the merger discussions with Skagi. So what are the main benefits Islandsbanki has identified through the merger? Are the synergies reported on the cost side or also taking into account revenue synergies? What is the expected time line on realizing the synergies? And the last one, what is the estimated capital impact from the merger?

[Jon Guoni Omarsson, executive]

Okay. So I'll leave the capital to Ellert. But starting with the benefits, like I said, the biggest part of Skagi's operations is the insurance part. And there, we see clear opportunities, having been in cooperation with them already and clear benefits in terms of selling to our customers, enhancing revenue for us and obviously, service for our customers and to enhance their financial health. And at the same time, being able to broaden our product offering, so as you could say, a bit of a defense as well at the same time so that we can have a full suite of product offerings to our clients. At the same time, we will be strengthening our asset management unit with both higher AUMs and obviously, a strong team as well. So high hopes there. And at the same time, adding, you could say, a bit a new flavor in terms of our investment banking activities, enhancing our opportunities in terms of selling of loans and overall making even greater team on that front. In terms of the time line -- let's see, what was the question exactly there?

[BjarÂney BjarÂnadotÂtir, executive]

On realizing the synergies.

[Jon Guoni Omarsson, executive]

Yes, in terms of synergies, we would assess that they will probably take 12 to 24 months. Quite a big part of the synergies can be realized rather quickly within 12 months. But then, for example, in terms of computer systems and other things, it can take a bit more time. So we expect some 12 to 24 months on that front. And then over to you, Ellert, on the capital.

[Ellert Hlodversson, executive]

Yes. Thank you. Maybe the last part on the synergy was on the segregation of it. And I will say that this is predominantly cost saving synergies, especially towards the lower end of the range. When it comes to capital, we expect the merger to be capital positive for the merged entity. There is an excess capital position within Skagi. And given the fact that this is a fully share-based merger, that's going to translate over to the merged entity. But in addition, we expect the effect of the Danish compromise to be mildly capital positive.

[BjarÂney BjarÂnadotÂtir, executive]

I think that's it. As there are no further questions, we want to thank you for joining us this morning. We appreciate both the questions and the time you've allocated to join our webcast this Friday morning. We hope you have a good Friday and an even better weekend. Thank you.