While Danske Bank A/S is yet to receive fines stemming from investigations into money laundering at its Estonian branch, the scandal is already taking its toll on the bank's earnings and franchise, and will continue to do so in the year ahead.
Denmark's largest bank, which is at the heart of a €200 billion dirty money case, is a typical example of how money-laundering headlines have had "material impacts throughout the whole [profit and loss]," Berenberg said in a report on Nordic banking published Jan. 22.
While probes by Danish, Estonian and U.S. regulators pose the risk of financial penalties on Denmark's largest bank, "it is important to widen the assessment away from just fines," Berenberg said.
The Danske Bank case could illustrate some of the challenges in store for other Nordic banks finding themselves drawn into the Baltic scandal, with Berenberg also identifying Nordea Bank Abp, Swedbank AB (publ) and Skandinaviska Enskilda Banken AB as regional peers where implications "may be material."
UBS also expects Nordic banks to "face material headwinds in the coming year[s]," driven in part by a continued high pace of IT investments and anti-money laundering-related uncertainty, the investment bank said in an analyst note released Jan. 13. As a result, it predicts "slowing earnings momentum" for the region's banks.
Danske is also facing a growing number of shareholder lawsuits related to the Estonia scandal.
Elevated funding costs
One "clear consequence" of the money-laundering scandal on Danske Bank's P&L is higher funding costs, Mads Thinggaard, an equity analyst at ABG Sundal Collier, said in an interview.
"Throughout 2019, Danske Bank has been paying a premium on Tier 3 debt for the [minimum requirement for own funds and eligible liabilities] regime as compared to Nordic peers, which could be a long-term challenge for the bank from a competition point of view," he said.
In the first nine months of 2019, Danske Bank issued 58 billion Danish kroner of senior nonpreferred debt, a form of debt raised to meet minimum loss-absorbing capital requirements known as MREL, at an average cost of 170 basis points over three-month Euribor. This is more than double the rate of 2018, when the bank issued 26 billion kroner of such debt at 72 basis points.
"We are still impacted by higher funding costs as a result of the Estonia case, especially due to the need to issue nonpreferred senior debt," said CFO Jacob Aarup-Andersen on Danske's third-quarter earnings call Nov. 1, 2019.
Together with historically low interest rates, the high cost of funding is hampering Danske's net interest income. The latest analyst consensus, according to figures from Danske itself, predicts the bank's 2019 full-year net interest income to land at 21.75 billion kroner, down from a reported 23.57 billion kroner in 2018. The figure is expected to further decrease to 21.68 billion kroner in 2020, before starting to recover in 2021.
Thinggaard said Danske's funding costs started to reduce again in the latter part of 2019. While this will likely continue in 2020, he said it is only from 2022 that the bank could see a significant relief on its funding costs, when part of the high-cost debt is up for renewal.
Danske's funding costs in the years ahead are likely to normalize, agreed Vitaline Yeterian, vice president in the global financial institutions group at DBRS Morningstar. But, she added, it will depend on the size of potential penalties stemming from investigations into the bank.
"If the case materializes in huge financial penalties, that again creates uncertainty and triggers a lack of confidence from investors, which would effectively increase funding costs," she said in an interview.
Hike in operating costs
Danske Bank's operating expenses have also been significantly marked by the Baltic scandal, and the impact has already started to spill over into the rest of the Nordic region.
Analysts expect Danske Bank's operating costs to reach 28.91 billion kroner for the full year 2019, up from 25.01 billion kroner in 2018 and 22.72 billion kroner in 2017.
This hike is largely a result of Danske Bank having to ramp up spending on compliance and money-laundering controls, but the figure likely also encompasses general IT investments as the risk of cyber-attacks is becoming increasingly important for banks, said Yeterian.
The trend is set to continue, with analysts expecting operating costs to peak at 31.43 billion kroner in 2020. Based on these estimates, Danske Bank could see its cost-to-income ratio reach 74.0% in 2020, up from 47.2% in 2017.
Danske Bank has itself said that spending on anti-money laundering measures and compliance will likely increase to 3.5 billion kroner by 2020. By 2023 this figure is set to reduce to below 1.7 billion kroner.
In Danske Bank's 2018 full-year earnings call, interim CEO Jesper Nielsen said the bank had lost 11,000 Danish retail customers due to the money-laundering scandal. Yet, he said, the departing customers accounted for only 0.8% of the bank's core Danish retail client base, and the outflow had "not been large enough to impact materially on the business."
In a June 2019 survey, UBS found that franchise erosion was among the top concerns for investors, but it argued that Danske Bank "has done a good job addressing customer concerns" by actively communicating with them on the allegations and actions taken. It said that while Danske will continue to see modest customer outflows, "the earnings impact from this will be limited."
Nevertheless, said Thinggaard, the scandal has likely impacted Danske's ability to build new customer relationships.
"There have been missed opportunities," he said. "I don't see a mass escape of customers from Danske Bank, but there has been a loss in business momentum, where the bank has missed out on a growth it could have enjoyed had the scandal not happened."
Thinggaard said this is particularly evident on the mortgage side of the business. An analysis by Finans.dk found that mortgage loan volumes to private customers provided by Realkredit Danmark A/S, a part of the Danske Bank group, declined by 2.6 billion kroner in the first nine months of 2019, amid exceptionally high remortgaging activity.
Meanwhile, loan volumes from competitor Totalkredit A/S, part of Nykredit Realkredit A/S, grew by 49.5 billion kroner, corresponding to 90% of total lending growth in the period.
"The money-laundering scandal has taken focus away from what could have been a conversation with the customer about refinancing their mortgage," Thinggaard said.
As of Jan. 24, US$1 was equivalent to 6.78 Danish kroner.