Saturday, December 24, 2005

Cdn Banks Post Solid Profits in 2005 Despite Enron Charges

Canadian Press, Rita Trichur, 24 December 2005

Toronto (CP) - The Canadian banking industry got sideswiped by the Enron scandal in 2005 after three of the country's six-biggest banks took billions of dollars in charges for their liabilities in related lawsuits.

Nevertheless, the industry affirmed its resiliency by mustering record profits as vigorous mortgage and consumer lending, along with roaring wealth-management sales, left the Big Six with brimming coffers.

"So, even when you get a bid torpedo like Enron, yes, you take on water, but you can repair it, patch it up, pump it out and keep steaming ahead at a reduced speed, said Gavin Graham, director of investments at the Guardian Group of Funds.

CIBC took the biggest bruising over Enron Corp., the U.S. energy trader that went bankrupt in 2001 amid a massive accounting-fraud scandal.

Earlier this month, the Toronto-based bank booked a rare full-year loss of $32-million as it slashed its executive ranks by 15 per cent and eliminated 900 other jobs.

That followed a whopping third-quarter loss of $1.91 billion - the biggest in its 138-year history - as its costly cleanup of Enron-related lawsuits resulted in a $2.53-billion after-tax charge.

Settlements on two Enron-related matters were completed in August, but CIBC remains a defendant in a number of remaining actions.

"CIBC lost money because of that writeoff but it will make that money back in the next 18 months," Graham said. "If you take out CIBC's Enron hit, they actually had a pretty decent year."

Rivals Royal Bank and TD also absorbed charges related to their respective Enron-related litigation but their exposure was considered minor compared with that of CIBC.

Both are defendants in a securities class-action lawsuit in U.S. federal court. The suit, which is pending in Texas, was filed by Enron's shareholders.

For its part, Royal Bank has set aside $591 million in reserves for Enron litigation but that did not prevent its annual profit from soaring 21 per cent year-over-year to a record $3.4 billion.

That upturn also came as the Royal booked hefty one-time costs for insurance claims arising from hurricanes Katrina, Rita and Wilma during its fourth quarter.

In a further testament to its financial strength, Canada's largest bank remains bullish about fiscal 2006 and has set aggressive goals, including 20 per cent plus growth in earnings per share and a six to eight per cent spike in revenues.

TD, meanwhile, has set aside $500 million to deal with any Enron fallout. Nevertheless, with litigation still pending, some observers have said it's impossible to estimate the scandal's final toll on Canadian banks.

"You go to court in Texas and anything can happen," commented John Kinsey, a portfolio manager with Caldwell Securities.

Enron woes aside, the banks continued to churn out robust gains in 2005, largely credited to the strength of mortgage lending and wealth-management sales.

"(It was) a pretty decent year after people started off being very worried about the squeeze on their margins because of a flattening yield curve," Graham said.

"The difference between the amount they very ungenerously pay you and me and what they charge us has been narrowing."

That shrinking difference between long and short interest rates squeezes the banks' profit margins and hampers earnings growth. The impact, however, was not as bad as previously feared because interest rates did not rise dramatically in Canada in 2005.

"Over half the banks' earnings these days comes from non-interest deposits," said Graham.

In particular, he added, it was a strong year for things like mutual fund sales, as some 70 per cent of all net new sales was into the country's biggest five banks - a roster that includes the Royal, Scotiabank, Bank of Montreal, TD and CIBC.

National Bank of Canada, the country's sixth-biggest bank, made its own headlines in 2005, reporting its best year yet, with an 18 per cent rise in profit to $855 million thanks to solid business growth and all-time low provisions for credit losses.

Primarily a Quebec-based bank, National expects continued favourable results in 2006 despite a "cautious" economic outlook.

Going forward, analysts expect rising interest rates to have a slightly negative impact on the banks' mortgage lending as the housing market cools. Meanwhile, loan loss provisions, which reflect the amount of anticipated bad loans, are expected to increase for most banks.

"The increase is more a reflection of the low level of losses and not a severe deterioration in credit quality," remarked Darko Mihelic, an analyst with Blackmont Capital in a recent note to clients.

Otherwise, observers predict TD will push ahead with Banknorth, as BMO scours for more tuck-in acquisitions for its U.S. Harris Bank and Scotiabank boosts its presence in Central America.

Earlier this month, Scotiabank announced a $390-million deal giving it 80 per cent ownership of Peru's third-largest bank. However, with plenty of capital still on hand there is also speculation that Scotiabank could be eyeing Canadian Western Bank to boost its domestic presence, as the Alberta-based bank is likely small enough to be excluded from the federal government's ban on big-bank mergers.

Big-bank mergers have essentially been prohibited in Canada since 1998, when Ottawa quashed two proposed deals. In September, Finance Minister Ralph Goodale said a lack of political consensus prompted Ottawa to once again delay its final rules governing the controversial deals.

Analysts have surmised that if mergers were allowed, the most likely pairing would be between Scotiabank and CIBC. But with country in the throes of its second federal election in as many years, observers say the issue is likely to be stalled indefinitely.

"All of them have managed to do very nicely, thank you, without any mergers," Graham said.

"The banks have moved on."