Financial results of the Bank

Net interest income earned in 2018 amounted to PLN 8 490 million and was PLN 589 million higher than in 2017. The improvement in net interest income was determined by an increase in the credit portfolio with a simultaneous drop in the cost of funds.

In 2018 interest income* amounted to PLN 10 504 million and was 4.3% higher than in 2017, mainly in effect of:

• an increase in income from financing granted to Customers (+ PLN 347 million, i.e. +4.1% y/y) – an increase in the average interest on the loan portfolio as a result of positive changes in the loans structure (an increase in the share of consumer loans which bear the highest interest rates, and business loans) and an increase in the average volume of amounts due in respect of loans, generated despite the transfer of the housing loans portfolio to PKO Bank Hipoteczny SA (the value of the portfolio was approx. PLN 2.5 billion in 2018);
• higher income on derivative hedges (+PLN 95 million y/y), mainly in effect of an increase in the volume and average interest on CIRS hedges;
• a drop in other interest income of PLN 29 million y/y, resulting mainly from the drop in interest income on the mandatory reserve of PLN 61 million in connection with the introduction of a new interest rate on those funds by the Monetary Policy Council as of the beginning of 2018 (reduction from 1.35% to 0.50%).

Interest expense amounted to PLN 2 014 million in 2018 and was 7.4% lower than in the previous year, mainly due to:

• a decrease in costs of the deposit base of PLN 69 million y/y, resulting from the change in the term structure in favour of current deposits, whose share increased by 6 p.p. y/y to approx. 62% of the amounts due to Customers;
• a drop in other costs of PLN 91 million y/y, including a drop in the costs of loans and advances received of PLN 120 million y/y as a result of the gradual overpayment of amounts due to Nordea AB – the debt was fully repaid in the first quarter of 2018 – and an increase in costs of the Bank’s own issues of debt securities and subordinated liabilities of PLN 30 million y/y, in connection with an increase in medium-term issues.

The net interest margin increased by approx. 0.2 p.p. y/y to 3.4% as at the end of 2018. In 2018 the average interest rate on PKO Bank Polski SA loans was 4.5%, and the average interest rate on total deposits was 0.7%, compared with 4.4% and 0.7% respectively in 2017.

*To ensure data comparability interest income was adjusted: income from non-Treasury bonds, which are recognized in income from debt securities in the Financial Statements were transferred to income from financing granted to Customers.

In 2018 net fee and commission income amounted to PLN 2 482 million and was PLN 205 million lower than in the previous year.

The following factors had the greatest impact on net fee and commission income in 2018:

• lower result on investment funds and brokerage activities (PLN -238 million y/y), caused mainly by a drop in the fee for managing investment funds recognized by the Bank and by transferring the result to a subsidiary in effect of implementing the provisions of MiFID II, and a drop in the level of commissions for distributing participation units in connection with the promotion aimed at purchasing units in selected funds;
• lower net income on servicing bank accounts and on other activities (- PLN 46 million y/y), related – among other things – to a change in the structure of accounts of Customers who decide to switch to accounts with lower maintenance charges;
• higher net income on loans and insurance granted (+ PLN 51 million y/y), mainly in effect of an increase in sales of insurance products linked to consumer and housing loans;
• higher net income on cards (+ PLN 28 million y/y), in effect of a higher number of cards and higher volumes of non-cash transactions.

In 2018 net other income amounted to PLN 912 million and was PLN 258 million higher than that earned in 2017.

The y/y increase in net other income was mainly due to an increase in result on financial transactions (+ PLN 128 million y/y), mainly earned on sales of securities (disclosed under net income on derecognition of financial assets and liabilities).

Also the net foreign exchange gains/losses and dividend income improved.

The drop in net other operating income and expenses (PLN -108 million y/y) was mainly the result of the disclosure of a provision of PLN 62.5 million in connection with the binding decision issued by the President of the Office of Competition and Consumer Protection* in the proceedings concerning practices of violating collective interests of consumers, and an increase in the costs of donations of PLN 31 million.

*Information on setting up the provision was published on 27 June 2018 in current report No. 24/2018.

In 2018 general administrative expenses amounted to PLN 5 133 million and were 1.9% higher y/y. Their level was mainly determined by:

• an increase in employee benefits of PLN 31 million, i.e. of 1.2%;
• an increase in overheads of PLN 84 million, i.e. of 7.1%, mainly in connection with an increase in the following expenses:
  • marketing (of PLN 71 million – including mainly the Bank’s activities in respect of its image, of PLN 25 million, and promoting banking products, of PLN 17 million);
  • postal services (increase of PLN 18 million – mainly in connection with sending information to Customers about product changes as a result of the Act on amendments to the Act on payment services PSD2, sending commission and fee tariffs, and the PAD Directive (Payment Accounts Directive));
• a PLN 6.7 million, i.e. 9.6% increase in fee and commission expenses, mainly due to higher PFSA costs;
• a PLN 20.5 million, i.e. 5.1% increase in contributions and payments to the BGF – after Q4, costs in respect of the BGF amounted to PLN 422 million, of which PLN 162 million was the contribution for mandatory restructuring of banks. In the corresponding period of the prior year costs in respect of the BGF were PLN 401 million, of which the contribution for mandatory restructuring was PLN 209 million;
• a drop in amortization and depreciation (mainly amortization) of PLN 47 million, i.e. of 6.5% (full amortization of software licences).

The effectiveness of operations of PKO Bank Polski SA measured with the C/I ratio on an annual basis was 43.2% and improved by 1.6 p.p. y/y in consequence of better result on business activities (+5.7% y/y), with a simultaneous increase in general administrative expenses (+1.9% y/y).

In 2018 the Bank incurred entertainment costs, expenditure on legal services, marketing services, public relations and social communication services, as well as advisory services related to management in the total amount of PLN 202 million, which represented 3.9% of the Bank’s total administrative expenses.

*includes contributions and payments to BGF, fees to the PFSA, taxes and charges

Net write-downs and impairment reflect the Bank’s conservative approach to recognizing and measuring credit risk. In 2018 they amounted to PLN 1 397 million. The improvement in the result (+ PLN 129 million y/y) was mainly due to the more favourable net write-downs balance on exposure to the portfolio of business entities and mortgage banking loans.

The share of impaired loans amounted to 5.0% as at the end of 2018 (a 0.6 p.p. decrease compared with the end of 2017).

The cost of risk amounted to 0.61% in 2018, and compared with the corresponding period of the prior year it was approx. 0.10 p.p. more favourable.

The improvement in risk ratios with a simultaneous 5% y/y increase in the portfolio of receivables is the effect of the continuation of the current conservative credit risk management policy of the Bank’s Group and of strict monitoring of the receivables portfolio.

As at the end of 2018 financing granted to Customers amounted to PLN 207.2 billion, which is an increase of PLN 11.5 billion y/y.

Housing loans and business loans were the main items in the structure of the net loan portfolio by type, with shares of 44.3% and 43.1% of the portfolio as at the end of 2018.

In 2018 a further increase was noted in the most profitable consumer loans (of PLN 1.8 billion) and business loans (of PLN 8.1 billion). Housing loans increased by no more than PLN 1,6 billion y/y due to the further sale of mortgage covered housing loans to PKO Bank Hipoteczny SA (totalling PLN 2.5 billion in 2018).

In the term structure of financing granted to Customers long-term loans dominate, which is mainly due to the high share of housing loans in the loan portfolio.

*including other than Treasury bonds (excluding helds for trading)

As at the end of 2018 amounts due to Customers totalled PLN 245.2 billion and continue to be the basic source of finance for the Bank, constituting 81.6% of the balance sheet total. As at the end of 2018 they increased by approx. PLN 22.7 billion, and the increase in deposits placed by individuals (+ PLN 13.8 billion y/y) was the main factor that contributed to the increase. The Bank also noted increases in the business customer segment (+PLN 2.8 billion y/y) and in the segment of budget entities (+PLN 5.1 billion).

In the break-down of amounts due to Customers by type, amounts due to individuals constitute the main item. Their share in the structure was 67.0% as at the end of 2018. In the break-down of amounts due to Customers by term, current deposits dominate with a share of 62.4% as at the end of 2018.

* Other liabilities include repotransactions, loans and advances receive and liabilities from insurance products

PKO Bank Polski SA is an active participant of the debt securities markets, both Polish and international. Such enable it to diversify the sources of financing its operations and to adapt them to the regulatory requirements regarding the long-term financial stability.

In 2018 external financing amounted to PLN 17 billion and did not change significantly during the year, and the Bank:

• in Q1 2018 fully repaid the borrowings from Nordea AB (a drop of PLN 2.7 billion y/y); in 2017 the Bank made a partial repayment of the borrowings from Nordea Bank AB, including: CHF 3.3 billion, USD 4 million and EUR 107 million;
• in Q1 2018 issued 10-year subordinated debt with a nominal value of PLN 1 billion with an early redemption option after 5 years of the issue date.

In 2018 amounts due to non-monetary financial institutions were another material category of long-term financing, including primarily to the subsidiary PKO Finance AB, a company engaged in the issue of securities on foreign markets. The increase in those liabilities is mainly the effect of the receipt of additional borrowings from the European Investment Bank under the framework agreement (PLN 0.6 billion) and the effect of the fluctuations in foreign exchange rates (PLN 0.5 billion).

Detailed information on the issues conducted by PKO Bank Polski SA is provided in Notes 35, 36 and 37 of the Financial Statements of PKO Bank Polski SA for the year ended 31 December 2018.