OP Financial Group's Interim Report for 1 January-30 September 2017: We are continuing to invest in present-day business reform; stable financial performance and in line with expectations

OP Financial Group
Interim report 1 January-30 September 2017
1 November 2017 09.00 am EET

OP Financial Group's Interim Report for 1 January-30 September 2017: We are continuing to invest in present-day business reform; stable financial performance and in line with expectations

Earnings level in line with expectations, deposits and assets under management on the increase

• Earnings before tax amounted to EUR 873 million (921). Expenses rose and non-recurring income was lower than a year ago.
• Total income was 4% higher than a year ago. Net interest income increased by 2% and net commissions and fees by 6%. Net insurance income decreased by 19%.
• Expenses increased as expected, being 12% higher than a year ago, due mainly to an increase in investments related to the reform of the present-day business.
• Impairment loss on receivables, EUR 28 million (36), remained low and accounted for 0.04% of loans and receivables.
• The CET1 ratio was 19.2% (20.1) on 30 September 2017.  
• Banking: The loan portfolio increased by 4% and deposits by 9% in the year to September. Banking net interest income increased by 5% and earnings before tax by 14%, supported by investment income.
• Non-life Insurance: Insurance premiums from private customers increased by 3%, while those from corporate customers decreased slightly. Non-life Insurance earnings were eroded particularly by lower net insurance income resulting from bringing forward the plan to reduce the discount rate.
• Wealth Management: Assets under management increased by 6%. Wealth Management earnings before tax increased by 4% as a result of higher net commissions and fees. 
• Other Operations: Significant investments in the development of services reduced earnings. 
• Timo Ritakallio, LL.M., MBA and D.Sc. (Tech.), has been appointed OP Financial Group's new President and Executive Chairman. He will take up his duties in March 2018. President and Executive Chairman Reijo Karhinen will retire on 1 February 2018, based on his executive contract.
• Full-year earnings for 2017 are expected to be about the same as or lower than those for 2016 due to increasing development costs and other expenses arising from strategy implementation. 

• Our development programme at annual level of over EUR 400 million is proceeding as planned.

• • Alongside the basic system reforms of our present-day business, development projects originating from the relevant authorities and legislation are still at the core of development work.
  • The service range related to housing widened as OP Home marketplace and related housing service search were launched. OP also introduced several new investment solutions into the market as well as an equity-based crowdfunding service. OP continued the development work in the field of mobility services and fully digital insurance services.
  • In operational efficiency enhancement, steps were taken to utilise robotics more.
• During the reporting period, OP Financial Group opened Pohjola Hospitals in Oulu and Kuopio. 
• In the reporting period, the number of OP cooperative banks' owner-customers increased by almost 63,000 to 1.8 million and that of OP Financial Group's joint banking and insurance customers by 30,000 to 1.8 million.
• OP bonuses increased by 6% to EUR 164 million (154). 
• OP Financial Group is currently building a new and proactive operating model for updating employee competencies in an effort to prepare for a change and reduction in work performed by individuals caused by digitisation and automation.

OP Financial Group's key indicators

Comparatives deriving from the income statement are based on figures reported for the corresponding period in 2016. Unless otherwise specified, balance sheet and other cross-sectional figures on 31 December 2016 are used as comparatives. In the reporting period, non-recurring items included VAT refunds of EUR 22 million and a 19-million-euro profit from the sale of the portfolio of agreements and POS terminals of merchant acquiring and POS terminal services. A non-recurring item a year ago included a gain from the sale of Visa Europe Ltd, totalling EUR 71 million.

* Change in ratio
** 12-month rolling
*** The FiCo ratio has been calculated under Solvency II transitional provisions.
                                                                                                                   

Comments by Reijo Karhinen, President and Group Executive Chairman

OP Financial Group's financial performance remained strong and in line with expectations. January-September earnings were close to those reported for prior years while being close to all-time high earnings, despite a significant increase in development expenditure. The exceptionally large increase in expenses is a direct consequence of our dedicated efforts to reinvent ourselves as specified in our strategy. I find it particularly positive that net commissions and fees increased and growth in net interest income strengthened in an exceptionally challenging interest rate environment. Banking and Wealth Management improved their earnings supported by strong income performance. Non-life Insurance earnings and growth did not reach the levels reported for previous years. Wealth Management volume growth was brisk across the board. In Banking, the growth rate of deposits was clearly and that of the loan portfolio was slightly faster than the market average.

It is gratifying to see that our corporate image and employer brand have remained the best in the sector according to a survey conducted this autumn. The role of reputation, trust and attraction will only increase in a digital operating environment where customers and stakeholder groups will require of a company not only increasingly better customer experience but also action and values that are relevant to them.

During the reporting period, we continued building service packages in the field of health and wellbeing, mobility and housing, as specified in our strategy, that go beyond industry boundaries. We launched several new products and services. By giving a weighting to our business in a new way, we want to respond to change in customer behaviour, create conditions for improved customer experience and diversify our revenue generation. At the same time, we offered a considerable number of new career opportunities.

OP has a strong earnings power when facing a drastic financial-sector transformation that entails significant costs. During the next few years, we need to implement a very extensive investment programme, create new business models and new revenue generation as well as a large-scale update of employee competencies. Meanwhile, we must also ensure our price competitiveness. The speed of the change and increasing efficiency requirements will make our reinvention challenging.        

In this moment too, a real driver of change lies in a new way of thinking and readiness to reinvent oneself. In reinvention, the enhancement of employee competencies is gathering pace along with the development of systems. The ability to learn new things is everyone's key asset in the future. Transformation in the employment landscape and increasingly accelerating digitisation will in the years to come shake up not only businesses but also entire sectors. The acute and profound change is not based on economic trends and will require of the entire society reforms never seen before. Jobs will disappear and new ones be created, but more and more often work duties and the skills they require will change.

As one of the pioneers in digitisation, OP will be at the forefront in encountering the transformation in the employment landscape. In this situation, OP's strong earnings power and values will direct us to bear greater responsibility for the enhancement of competencies of our personnel and for their new career paths. It is everyone's interests that the force and speed of change will not take us by surprise: it is necessary to be more open and more proactive in communicating changes in competence needs. It is crucial to find tools to prevent job displacement together with the personnel.

While digitisation challenges us, it will, however, benefit the Finnish economy significantly. Finland will face the change in the operating environment in a favourable economic situation. Our economy has just gathered momentum and the growth is on a broad basis. The virtuous upward spiral is likely to strengthen next year. Now it is high time to make reforms. Sufficient energy must be found in the economic policy not only in respect of efforts to reform health and social services but also of conditions for managing and succeeding in the digital world.

January-September

OP Financial Group's earnings before tax amounted to EUR 873 million (921). The figure decreased by EUR 47 million over the previous year. Earnings were reduced by a decrease in non-recurring items, lower net insurance income and higher expenses. The reported earnings included EUR 41 million (71) in non-recurring income. In the meantime, net commissions and fees and net investment income increased year on year.

Net interest income increased by 2.0% to EUR 815 million. Net interest income from Banking rose by almost 5%, but the Group's net interest income was reduced by lower net interest income from the Other Operations segment. Net insurance income fell by 18.5% to EUR 341 million, resulting especially from bringing forward the plan to reduce the discount rate and from poorer claims developments than a year ago. The reduced discount rate increased claims incurred by EUR 102 million (41). Net commissions and fees were EUR 674 million, or EUR 37 million higher than the year before. Mutual fund commissions increased by EUR 11 million and Life Insurance commissions by EUR 10 million. Commission expenses declined by a total of EUR 15 million.

Net investment income increased by 43.9% to EUR 405 million. Income from equity investments under available-for-sale assets increased by a total of EUR 105 million year on year. Impairment losses on available-for-sale assets fell by EUR 15 million. Positive value changes in Credit Valuation Adjustment (CVA) in derivatives owing to market changes improved net income from securities trading. Life Insurance net investment income was reduced by lower capital gains.

Other operating income decreased by 20.9% year on year to EUR 82 million. Non-recurring VAT refunds for prior years, interest included, totalled EUR 22 million. In the second quarter, OP Financial Group sold its portfolio of agreements and POS terminals of acquiring and POS terminal services to Nets. Non-recurring gain of EUR 25 million on the transaction was recognised in other operating income. OP Financial Group recognised extra amortisation and other expenses of EUR 6 million related to the transaction. OP Financial Group recognised EUR 71 million in non-recurring gain a year ago as a result of the Visa Europe Ltd transaction in the second quarter. 

Total expenses increased by 11.7% to EUR 1,269 million (1,136). This increase is mainly explained by higher development costs of present-day business, higher operating expenses of new businesses and higher amortisation/depreciation and impairment losses. OP Financial Group's significant investments in service development increased development costs by EUR 50 million. Development costs totalled EUR 146 million (96). New businesses accounted for EUR 19 million of the increase in total expenses. Depreciation/amortisation and impairment losses increased by EUR 43 million to EUR 159 million year on year as a result of higher amortisation on computer software and impairment loss on real property in own use. Personnel costs remained at the previous year's level at EUR 564 million.

Impairment losses recognised under various income statement items that reduced earnings amounted to EUR 50 million (84), of which EUR 28 million (36) concerned loans and receivables. Net impairment loss on loans and receivables were very low, at 0.04% (0.06) of the loan and guarantee portfolio.

OP Financial Group's current tax amounted to EUR 171 million (183). The effective tax rate was 19.6% (19.8).

OP Financial Group's equity capital increased by 6.9% to EUR 10.9 billion (10.2). The reported earnings and Profit Shares were behind the increase. Equity capital included EUR 2.8 billion (2.7) in Profit Shares, terminated Profit Shares accounting for EUR 0.2 billion (0.3). The return target for Profit Shares for 2017 and 2018 is 3.25%. Interest payable on Profit Shares accrued during the reporting period is estimated to total EUR 67 million (62). The amount of interest paid for 2016 totalled EUR 83 million in June 2017. The fair value reserve decreased by EUR 84 million to EUR 234 million.

Outlook towards the year end

The world economy showed favourable development during the third quarter. The euro-area economy has grown at a brisker pace than expected, but the inflation rate has remained moderate and the interest rate outlook has remained low. The Finnish economy continued to grow strongly and on a broad basis. Economic sentiment is still improving. Improvement in employment will support consumer confidence and better business profitability will increase fixed investments. Favourable economic development is expected to continue in the near future. Geopolitical risks, in particular, are casting a shadow over the outlook. In Finland, the risk is that a longer-term economic growth will remain modest if adequate reforms that support an increase in the employment rate cannot be implemented.

The financial sector has adjusted rather well to the new type of low interest rate environment. While low interest rates have retarded growth in banks' net interest income and eroded insurance institutions' income from fixed income investments, they also have improved customers' repayment capacity. Impairment losses have remained low despite the slow growth that has lasted for several years now. The most significant strategic risks in the financial sector are currently associated with changing customer behaviour, operating environment digitisation and more complex regulation. Industry disruption is threatening to slow down growth and erode income generation in the years to come. In the next few years, the financial sector will be faced with a strong need to reinvent itself. Changes in the operating environment will emphasise the necessity of reinvention with a long-term approach as well as the role of the management of profitability and capital adequacy.

OP Financial Group expects its full-year earnings before tax for 2017 to be about the same as or lower than those for 2016 due to increasing development costs and other expenses arising from strategy implementation. Uncertainty that is still related to the operating environment may cause short-term earnings volatility, which will have an effect on the predictability of OP Financial Group's earnings performance. The most significant uncertainties in respect of the financial performance towards the year end relate to changes in the interest rate and investment environment as well as impairment losses. 

All forward-looking statements in this interim report expressing the management's expectations, beliefs, estimates, forecasts, projections and assumptions are based on the current view of developments in the economy, and actual results may differ materially from those expressed in the forward-looking statements.

Press conference

OP Financial Group's financial performance will be presented to the media by President and Group Executive Chairman Reijo Karhinen in a press conference on 1 November 2017 at 11 am at Gebhardinaukio 1, Vallila, Helsinki.

OP Corporate Bank plc will publish its own interim report.

Financial reporting in 2018

Schedule for Financial Statements Bulletin for 2017 and Interim Reports in 2018:

Financial Statements Bulletin 2017              8 February 2018
Interim Report Q1/2018                               3 May 2018
Interim Report H1/2018                               1 August 2018
Interim Report Q1-3/2018                            31 October 2018

Helsinki, 1 November 2017

OP Cooperative
Executive Board

Additional information:
Reijo Karhinen, President and Group Executive Chairman, tel. +358 (0)10 252 4500
Harri Luhtala, CFO, tel. +358 (0)10 252 2433
Carina Geber-Teir, Executive Vice President, Corporate Communications, tel. +358 (0)10 252 8394

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OP Financial Group is Finland's largest financial services group whose mission is to create sustainable prosperity, security and wellbeing for its owner-customers and in its operating region by means of its strong capital base and efficiency. OP Financial Group consists of about 170 member cooperative banks, its central cooperative OP Cooperative, and the latter's subsidiaries and affiliates. The Group has a staff of 12,000 and approximately 1.8 million owner-customers and 4.4 million customers. www.op.fi