We believe that BNPP would be able to bring its capital ratios back in line with those of its main peers, especially given its solid recurring profit. Absent the fine, 2Q14 has been a solid quarter for almost all of BNPP’s businesses, underscoring the advantage of a diversified franchise. The results have no immediate effect on BNPP’s ratings.
BNPP reported a EUR3.6bn pre-tax loss in 2Q14, due to a settlement with the US authorities over USD payments involving countries subject to US sanctions, resulting in a EUR5.95bn pre-tax charge in 2Q14. This charge wiped out the bank’s earnings for 1H14 (pre-tax loss of EUR1.1bn in 1H14). We consider this a financial setback for BNPP, but do not expect its franchise to suffer lasting damage as a result of it (see ’Fitch: No Immediate Effect on BNP Paribas’s Ratings from Settlement’, published on 1 July 2014). However, we believe that BNPP remains exposed to significant litigation and regulatory risk, as is the case for its peers. Its Viability Ratings and Issuer Default Ratings remain sensitive to further large litigation or regulatory expenses that would significantly alter its capital ratios or severely tarnish its franchise.
BNPP would have reported EUR2.7bn in pre-tax profit in 2Q14, excluding the large fine and the associated remediation costs, and adjusting for fair value of own debt changes and debt value adjustments (EUR187m charge in 2Q14), funding valuation adjustment (FVA; EUR166m charge) and other small non-operating items (EUR16m income). This EUR2.7bn adjusted pre-tax profit was up 1% yoy and 16% qoq, given improving performance in the investment solutions and corporate and investment banking (CIB) businesses but with more mixed results in retail banking. In 1H14, BNPP generated an 8.2% return on equity.
Retail banking continues to drive more than half of BNPP’s pre-tax profit (excluding contribution from the corporate centre in 2Q14). We expect this division to continue to generate satisfactory pre-tax return on allocated equity (20% in 2Q14 on an annualised basis), although performance in the bank’s core European markets is likely to remain constrained by low client demand and persistently low interest rates. Loan exposure continued to decline, mainly in France (-1.3% yoy) and Italy (-2.3% yoy). Retail banking revenue in these core markets was up 0.7% yoy on improved performance in private banking and leasing activities, while operating costs were down 0.6%. Loan impairment charges (LICs) declined both yoy and qoq in 2Q14, mainly in personal finance, Europe-Mediterranean and Belgium. However, the low levels of LICs in Belgium are unlikely to be sustained.
BNL, BNPP’s main subsidiary in Italy, continues to suffer from high LICs, which consumed all of BNL’s pre-impairment operating profit in 2Q14. LICs represented 185bp of customer loans in 2Q14 on an annualised basis, and while stable qoq were above 2013 levels (150bp). While the group is working on reducing LICs (target of 100bp by 2016), notably through progressive reduction in the higher risk small- and medium-sized company segment, we believe this is likely to take time.
BNPP posted a solid EUR0.7bn pre-tax profit in CIB in 2Q14, up 64% yoy and 33% qoq (excluding FVA). We believe BNPP has regained some market shares after a more difficult 2013 year, particularly in capital markets, underlined by a 22% yoy rise in revenue in 2Q14 (excluding FVA). The equities division enjoyed solid performance in derivatives, both in flow and structured products, and BNPP’s advisory franchise continued to benefit from sustained M&A activity and equity underwriting volumes. Revenue from equities and advisory was up 23% yoy (at constant scope and exchange rate). The fixed income division also performed well given solid volumes in rates and credit. Revenue from fixed income rose 22% yoy (excluding FVA), which was far better than at its US peers, which have generally seen yoy declines in fixed income trading.
Pre-tax profit in BNPP’s corporate banking business improved both yoy and qoq to EUR0.4bn, partly driven by low LICs (-58% yoy and qoq). The division’s cost-to income ratio narrowed to a satisfactory 51% in 2Q14 (1Q14: 56%) on higher revenue (+14% qoq), despite stable loan exposure, which more than offset increasing operating expenses as a result of business expansion.
BNPP’s investment solutions business (which includes wealth and asset management, insurance and securities services) continued to generate a sound pre-tax return on allocated equity (29% in 2Q14 on an annualised basis). The division’s pre-tax profit improved 9% yoy (at constant scope and exchange rates), with solid growth in insurance and securities services (+6% and 13% respectively), which together contributed to around two-thirds of the division’s pre-tax profit in 2Q14. Net new money inflows in the investment solutions business were modest in 2Q14 at EUR2bn, after more robust inflows in 1Q14 (EUR9bn), mainly due to outflows in money market funds (EUR3.3bn outflow for the asset management division in 2Q14), as was the case with peers.
BNPP’s Basel III ’fully applied’ CET1 ratio was 10% at end-2Q14, down 60bp qoq, as the impact of the large fine (-100bp) was partly offset by earnings retention (+30bp) and revaluation reserves appreciation (+10bp). The bank’s CRD IV leverage ratio (based on total CRD IV Tier 1 capital but including hybrid instruments that are subject to phase-out) was 3.5% at end-2Q14 (3.7% at end-1Q14).
BNPP’s funding and liquidity remain adequate. Its liquidity buffer, comprising deposits with central banks and unencumbered assets eligible for central banks repo after haircuts, continues to cover more than its unsecured short-term wholesale funding maturing within a year. At end-July 2014, BNPP had completed its medium- and long-term wholesale funding programme (EUR30bn), around a quarter of which was placed with its network clients.
