Financial review of operations

Similar to the previous year, the NLB Group’s operations were strongly affected by the lingering economic crisis in Slovenia and the majority of countries where the Group operates. This was reflected on the one hand in low growth in lending and in a rise in the proportion of bad claims on the other. The latter, in particular, has required a high level of asset impairments. In addition to the impairment of the credit portfolio, the impairment of capital investments and securities received as collateral, and provisions for reorganization costs also had a significant impact on results. In 2010, these extraordinary business events had a negative impact on the Group’s results in the amount of EUR 67.5 million and on the Bank’s results in the amount of EUR 107.3 million.

Despite growth in revenue and the streamlining of costs, prudence required the creation of impairments and provisions exceeding generated profits. The Group thus generated a net loss after taxes of EUR 202.3 million in 2010, while the Bank’s ended the year with a loss of EUR 183.4 million.

Comprehensive income, which includes the effects of revaluation recognized in equity, amounted to -EUR 206.1 million at the Group, and -EUR 184.1 million at the Bank level.

As a response at the adverse conditions and the need to increase capital, the NLB Group adopted a new strategy in 2010 that envisages a contraction in operations and the maintaining of only strategic activities on markets, and a reduction in operating costs and the optimization of business processes. The implementation of the program of activities for the realization of the objectives set out in the strategy began in earnest, and was reflected in part in lower total assets at the end of the year.

The scope of the Group remained unchanged at the end of 2010. However, the investment in the subsidiary bank NLB Banka Sofia was disclosed in non-current assets held for sale at the end of 2010 due to its impending sales. The aforementioned disclosure had no impact on the Group’s total assets, nor on its capital, while certain items in the Group’s statement of financial position were disclosed without NLB Banka Sofia. The aforementioned bank is the smallest in the NLB Group in terms of total assets, and thus has no material impact of individual items in the statement of financial position. The bank’s credit portfolio represents 0.5% of the Group’s portfolio, while the proportion of deposits by the non-banking sector is even lower, at 0.2%.

 

Contribution of individual activities to the NLB Group’s results

Given the structure of its total assets, the NLB Group is primarily a banking group. In recent years, focus has also been placed on other activities such as leasing, factoring and forfeiting, which at the end of 2010 accounted for 5.9% of total assets. In accordance with its new strategy, the Group will once again focus primarily on its core banking activity.

Banks have been severely affected by payment delays in the last year. The impact has been even more evident on factoring and leasing companies, whose operations are, by nature, riskier with regard to payments.

Banks operating on the markets of the former Yugoslavia were somewhat less affected by growth in non-performing loans in 2010. The majority of banks thus generated a profit, as the need for impairments was also lower. A recovery in the mutual fund and asset management market was reflected in the profit of asset management and banking-insurance companies.

 

Income statement

Net interest income, which accounts for the highest proportion of the NLB Group’s revenue, amounted to EUR 436.1 million in 2010, an increase of 3% on the previous year, despite a decline in the volume of operations. The interest margin rose in 2010 following two consecutive years of decline, and stood at 2.4% at the Group level, an increase of 0.1 percentage points on the previous year. Interest rates on loans to and deposits by the non-banking sector fell in 2010, although the fall in the latter was sharper, which had a positive affect on the interest margin. Higher net interest income from derivatives also resulted in a rise in the interest margin. NLB’s interest margin stood at 1.9% in 2010, up 0.1 percentage points on 2009.

The NLB Group’s net non-interest income amounted to EUR 203.1 million in 2010, representing 32% of total revenue. Net fees and commissions amounted to EUR 158.7 million, up slightly on the previous year. Fees from guarantees and card operations recorded the sharpest increase, while payment transaction fees account for the highest proportion of revenue, at nearly one half.

The Group received EUR 5.2 million in dividend income in 2010.

The valuation of securities resulted in a decline in net income from financial transactions compared with the previous year.

Net income from other sources totaled EUR 29.4 million. The majority of this income derives from the sale of IT services and fees from cash transactions for other banks, and from rents.

Activities aimed at rationalisation of operations and cost control resulted in a decline in costs for several consecutive years. Operating costs including amortization and depreciation amounted to EUR 393.1 million at the NLB Group in 2010, down 5% on the previous year. Labor costs were down EUR 10.6 million or 5% primarily owing to a more significant decline in the number of employees. Amortization and depreciation costs are declining on account of a restrictive investment policy.

The cost-to-income ratio (CIR) improved considerably to stand at 61.5% for the NLB Group and 59.3% for NLB.

The crisis in the real sector was reflected in the deterioration of the credit portfolio, and in increasingly rapid growth in bad claims towards the end of the year. Thus in 2010, the NLB Group created additional credit impairments and provisions of EUR 404.4 million, while NLB created additional impairments and provisions of EUR 267.8, which is significantly more than the already high amount of impairments recorded the previous year. The "cost of risk" indicator, which is measured as the ratio of impairments of loans to the average balance of loans during the year, was high in the NLB Group at 2.6%, up 0.6 percentage points on 2009. The coverage of portfolio by impairments amounted to 7.6% at the Group level and to 6.0% at the Bank, an increase of 2.0 percentage points and 2.2 percentage points, respectively.

In addition to impairments and provisions for credit risk, available-for-sale securities were also impaired through profit or loss in the amount of EUR 46.7 million in 2010 due to declining market values. The majority of the aforementioned impairments relate to securities received as collateral.

The negative trends in the business environment no longer allowed some of the banks in the Group to achieve the results expected upon acquisition or establishment of these companies.

NLB therefore impaired capital investments in the following companies: NLB banka Belgrade, NLB Banka Sofia, NLB Leasing Ljubljana, NLB Leasing Maribor, NLB Factoring Ostrava, NLB Factor Bratislava and NLB Nova penzija Belgrade. Capital investments were impaired in the total amount of EUR 51.9 million at NLB, while at the Group level goodwill and other intangible assets were impaired in the amount of EUR 12.1 million for NLB banka Belgrade and NLB Banka Sofia.

One of the areas subject to the streamlining of costs in accordance with strategic objectives is labor costs, through an employee restructuring program. Provisions in the amount of EUR 6 million were created to that end at NLB.

The profits of the associates and joint ventures amounted to EUR 3.9 million, or 1.5% of the NLB Group’s profit before the effects of impairments and provisions.

 

Statement of financial position

The NLB Group’s total assets stood at EUR 17,888.0 million in 2010, down 9% on the end of previous year. The volume of transactions in non-strategic activities is declining in line with strategic objectives. On the liability side, the repayment of loans raised has resulted in a reduction in borrowings on the international financial markets, and thus in liquidity reserves.

Growth in lending activity began to decline in the banking sector two years ago, when the crisis began to shift to Europe. The consequences of the recession in the real sector were seen in the deterioration of the Group’s credit portfolio and the need to reprogramming loans in the sectors most affected by the recession. The NLB Group responded to the conditions with a more conservative lending policy, and by tightening project feasibility criteria and collateral requirements. In addition, activities to reduce the operations in non-strategic segments began, in particular factoring and real estate leasing. Gross loans to non-banking sector amounted to EUR 13,054.4 million at the end of 2010, a decrease of EUR 158 million on the previous year. Corporate loans declined by EUR 401 million, while loans to household and the government were up EUR 61 million and EUR 182 million, respectively. Net loans were down 4% due to the significant increase (of EUR 295 million) in impairments. Similar movement was also seen at NLB, while the majority of banks in SE Europe increased the volume of their lending.

Deposits from non-banking sector amounted to EUR 10,387 million at the end of 2010, a decrease of EUR 354 million on the previous year. The main reason for this decline was a decline in government deposits, which were down EUR 589 million at the Group level, majority in NLB, owing to gradual decline in deposits by the Ministry of Finance to the pre-crisis level. Corporate deposits were also down by 2%, while household deposits were up by 4% or EUR 289 million, also as the result of successful marketing campaigns in SE Europe.

 

The coverage of loans to the non-banking sector by deposits by the non-banking sector (LTD ratio) stood at 126% for the Group at the end of 2010, and was up 2.7 percentage points following a continuous decline in the previous year primarily owing to the withdrawal of government deposits.

Major liabilities to foreign financial institutions and the ECB matured during the second half of 2010. The balance of loans raised was thus down more than EUR 1 billion on the end of previous year. Funds to settle liabilities were secured by decreasing liquidity reserves in the form of deposits at banks and the securities portfolio.

NLB issued a subordinated bond intended for the general public to improve its capital adequacy, successfully raising EUR 61.4 million, while NLB Montenegrobanka raised a subordinated loan in the amount of EUR 5 million.

 

Capital and capital adequacy

The NLB Group’s regulatory capital stood at EUR 1,595.3 million at the end of 2010, down EUR 140.1 on the end of 2009. In addition to the Group’s loss in 2010, the discount of subordinated instruments maturing over the next five years (EUR 20 million) was the major factor in the aforementioned decrease.

The capital adequacy ratio of the NLB Group stood at 10.2%, while the Tier 1 ratio stood at 6.0%, down 0.9 percentage points on the end of 2009. Capital requirements for credit risk were reduced through the active implementation of a program to reduce risk-adjusted items. Thus, the main reason for the deterioration of the capital adequacy ratio was a reduction in capital.

NLB’s regulatory capital amounted to EUR 1,147.3 million at the end of 2010, down EUR 114.6 on the end of 2009. NLB’s capital adequacy ratio was thus down 0.4 percentage points to stand at the 9.96%.

 

NLB Group
Annual Report 2010