Financial and
ESG report 2020

Polish banking sector, Bank’s position and risk factors

The year 2020 will inseparably be connected with the COVID-19 pandemic. Net profit of the banking sector (commercial banks’ segments according to PFSA’s data) for the first two months of the year was 48% above this in the corresponding period of the preceding year (partly an effect of lower resolution fund fee).

Polish banking sector

However, the outbreak of the pandemic in March and the resulting restrictions on movement and economic activity (lockdown) as well as uncertainty as to the further development of the pandemic resulted in a proactive creation of ‘COVID-19 provision’ already in March. As a result, the month of March brought a net loss of the sector, while 1Q20 sector’s net profit was down 55% y/y. Interest rate cuts by the MPC (140bp combined in March through May) brought the reference interest rate an unprecedented low level of 0.1% and as a result cause a significant reduction of banks’ interest income in the following period. The loss of revenue combined with provisions against return of fees on earlier repaid consumer loans, legal risk related to FX-mortgages and higher cost of risk in general were so significant that even the pick-up of economic activity in summer months and in final months of the year and the resulting increase of demand for banking services and products were insufficient to compensate.  

As a result of the combination of the abovementioned factors, net profit of the banking sector in 2020 overall totalled just off PLN7bn and was down 47% y/y (PFSA’s preliminary data). Operating trends of the banking sectors deteriorated significantly. The pace of revenue growth decelerated to -4% y/y after 9%/+7%/+4% respectively in 2019 overall, January 2020 and first two months of 2020. Interest income, the main source of revenue growth in the preceding year, contracted 3% y/y after 10% growth in the previous year, while the NIM shrunk to 2.27% (last twelve months to end of November) from 2.63% at YE19. Net fee income grew 12% y/y after 9% growth in the preceding year while its share in total income increased to 23% from 19% in 2019. Banks responded to revenue collapse with cost containing initiatives and as a result 2020 opex fell 1% y/y after 7% y/y increase in the previous year. The cost reduction was achieved despite substantial increase of BFG charges, higher banking tax or provisions on return of fees on from earlier repaid consumer loans. The cost/income ratio for the whole sector worsened however increasing to 55% from 53% in the previous year. The pandemic accelerated sector digitalisation which resulted in an acceleration of branch closure and staff reduction. At the end of December the number of banking branches was 9% lower than at YE19 (2% drop in 2019 overall) while the number of staff decreased by 5% (3%). Increasing risk charges (+42% y/y) were another reason behind the substantial deterioration of the results of the sector. Risk charges were equivalent to 46% of operating profit compared to 30% the year before. Sector’s ROE for the 12-months trailing to November fell to 3.2% from 6.7% in 2019. According to PFSA’s data, in 2020 25 banks (8 commercial and 17 co-operative ones) posted combined net loss of PLN1.5bn while their share in total assets stood at 8.5%. Moreover, 4Q20 will, according to estimates of brokerage houses’ analysts, bring an unprecedented high (40%) share of banks reporting quarterly loss among Poland’s top ten largest banks.  

M2020-002 M2020-002

Banking balance sheets grew considerably during 2020 (+19% y/y), chiefly due to an inflow of deposits. The latter largely came from the corporate sector which through banks received substantial liquidity support from State owned institutions – PFR and BGK. Since the start of the receivables from the non-financial sector grew by a mere 1% (households: +3%, corporates: -4%) while deposits increased 13% and as a result the overliquidity of the sector increased further. This was evidenced, i.a., by a drop of loan/deposit ratio to 77% from 89% at YE19 or increase of LCR/NSFR ratios to 200%/130%+ from 156%/125% respectively.  

The Polish banking sector maintained a very strong capital position. At end of December 2020 the equity of Polish banks reached PLN214bn while capital ratios increased further from the already strong levels at YE19 (TCR at 20.5% at the end of September vs. 19.0% while Tier 1 ratio at 18.4% from 17.0%). In December, PFSA published its recommendation on dividend policy of commercial banks in 2021 in which if informed than it was necessary that banks withhold dividend pay-outs in 1H21 and that PFSA’s stance on dividend policy in 2H21 will be presented upon analysis of the financial standing of the sector in 1H21. 

2020 brought a continuation of concentration and sector consolidation processes. At end of November the share of top 5 largest banks in total sector’s assets was 55% vs. 50% at YE19, while their share in net profit was 88% vs. 76% respectively. The number of commercial banks decreased to 29 from 30 at YE19, after Idea Bank on Dec 31, 2020 became subject of resolution process while substantial part of its balance sheet was taken over by Pekao S.A. on January 3, 2021. 

The Bank’s position

At end of 2020 Bank Millennium ranked 7th among top commercial banks in Poland by total assets and deposits. The Bank’s market share in deposits was 5.3% (6.0% at end of 2019) and 6.1% (5.7%) in loans. Bank Millennium Group had a relatively stronger position in the household segment (loans at 8.0% vs. 7.7% at YE19, deposits at 6.7% and 7.2% respectively, in particular in mortgage loans segment (8.6% vs. 8.3%), non-mortgage loans (8.6% vs. 8.2%) or transactions made with cards (7.8% in 3Q20 vs. 7.6% at YE19). In the companies’ segment, where the Group has a lower share than in the retail segment (3.2% in deposits and 4.2% in loans), the Group maintains a traditionally above-average position in factoring products. The Group continues to distribute its products and services via a network of 702 branches (own and franchise ones), as well as through electronic channels, including cash machines, the Internet, phone and mobile apps.  

7th 

among top commercial banks in Poland

5.3%

market share in deposits

6.1%

share in loans

Factors of macroeconomic uncertainty for the economy and Bank Millennium Group

In 4Q20 and in early 2021 the main risk factor for the economy and the Bank Millennium Group, as indicated in previous reports i.e. strong spreading of the COVID-19 pandemic and implementation of new restrictions, was materialising. 

According to the Bank, development of the COVID-19 pandemic resulting in sustaining of administrative restrictions in Poland and at the most important trade partners of Poland still remain the most important risk factor. It seems however that economies are operating better and better under the restrictive conditions. A worse than expected development of macroeconomic situation could impact the BM Group through: 

  • stronger increase of unemployment and drop of income of households, which would weaken demand for banking products. Moreover, a deterioration of economic prospects and lack of recovery of business investments would contribute to a lowered corporate demand for investment loans; 
  • a stronger than expected deterioration of the income situation of households and businesses could translate into a decrease of quality of BM Group’s loans portfolio; 
  • increase of uncertainty on financial markets and further interventions of the central bank on the FX market resulting among others in a depreciation of the zloty. This would push up the costs of financing in foreign currencies as well as the value of required collateral and would increase the PLN value of FX debt thus having potentially an impact upon the repayment of liabilities due to BM Group by households and businesses. It would also increase potential losses in case of unfavourable court verdicts regarding FX mortgage loans; 
  • subsequent interest rate cuts in Poland that would additionally decrease the Group’s income.  

There is also a chance that in 2021 the economic situation will be more favourable than in the Bank’s current baseline scenario. They would first of all involve a lower scale of COVID-19 infections as well as fast development of collective immunity thanks to efficient execution of the vaccination programme. Economic growth higher than forecasted by the Bank could be supported by greater fiscal easing in Poland and abroad, especially earlier than planned implementation of the EU Recovery plan after the pandemic, with Poland as one of the biggest beneficiaries. Effective implementation of these actions would help prevent occurrence of the above-mentioned main negative uncertainty factors or mitigate their impact on BM Group’s results. 

Other risk factors

Despite improving prospects for the Polish economy and the banking sector in 2021, there are, however, potential risks, which, if materialised, might have significant impact, upon operations and results generated by the Polish banking sector (including Bank Millennium): 

resulting from slower-than-expected lessening of the impact of the coronavirus pandemic a return of protectionist trends in global trade and worsening global economic sentiment. In view of links within global production chains, incidents of this type in external environment could have negative impact upon Polish exports and, thereby, upon incomes of domestic enterprises and households. 

could significantly increase wage demands and wind the wage-inflation spiral. High inflation would decrease consumer purchasing power thereby limiting economic activity; this effect would be additionally strengthened by interest rates’ increases by monetary authorities. 

as well as the progress of populations’ immunity may have a direct impact on the pace of recovery of economic growth, while the effectiveness of government’s support programmes aimed at the most impacted industries/companies as well as the pace of relaxation/lifting of restrictions may in turn have a direct and indirect impact on demand for banking products/services and quality of banks’ loan book, including this of the BM Group (more details are available later in this report). 

After the base rate cut by the MPC to 0.1%, interest income of the banking sector, including the Bank Millennium, saw a significant contraction. Banks have partly neutralised the lower income by lowering interest rates on deposits, however the net impact of lowered interest on the sector’s profitability, including this of the BM Group, was negative and material. Under a scenario of maintained low interest rates (the Bank’s base scenario) compensation of lost revenues will be possible only in the mid-term, provided the demand for banking loans recovers. Additionally, banks, including the BM Group, are undertaking cost adjustment initiatives, however their impact on the results will likely be spread over time, while the sector’s profitability, including this of the BM Group, will remain under pressure. 

On 31 December 2020, the Bank had 5 018 loan agreements and additionally 496 loan agreements from former Euro Bank (98% loans agreements before the Court of first instance and 2% loans agreements before the court of second instance) under individual ongoing litigations (excluding claims submitted by the bank against clients i.e. debt collection cases) concerning indexation clauses of FX mortgage loans submitted to the courts with the total value of claims filed by the plaintiffs amounting to PLN 562.4 million and CHF 34.3 million (Bank Millennium portfolio: PLN 508.2 million and CHF 33.4 million and former Euro Bank portfolio: PLN 54.1 million and CHF 0.9 million). The outstanding amount of the loan agreements under individual court cases as at 31.12.2020 was PLN 1 794 million.  

Until 31.12.2020 only 69 cases were finally resolved (49 in claims submitted by clients against the Bank and 20 in claims submitted by the Bank against clients i.e. debt collection cases). 

The claims formulated by the Clients in individual proceedings primarily concern the declaration of invalidity of the contract or payment for reimbursement of allegedly undue performance, due to the abusive nature of indexation clauses. The pushy advertising campaign observed in the public domain affects the number of court disputes.  

In addition, the Bank is a party to the group proceedings (class action) subject matter of which is to determine the Bank’s liability towards the group members based on unjust enrichment (undue benefit) ground in connection with the foreign currency mortgage loans concluded. It is not a payment dispute. The judgment in these proceedings will not grant any amounts to the group members. The number of credit agreements covered by these proceedings is 3,281. At the current stage, the composition of the group has been established and confirmed by the court. The proceedings entered the phase of reviewing the case on the merits. On 11 August 2020, the claimant requested granting interim measures to secure the claims against the Bank. In a decision of 18 August 2020, the request for granting interim measures was dismissed. On 26 October 2020, the claimant filed another application for granting interim measures to secure claims against the Bank concerning two group members. By decision of 6 November 2020, the application was rejected. The court’s decision dismissing the request for interim measures with a justification has not yet been served. During the session on 26 October 2020 the Court conducted a hearing of parties' position and afterwards postponed the session without setting the next term. The outstanding amount of the loan agreements under the class action proceeding was PLN 1 000 million as at 31.12.2020.  

The Bank continues to be open to its customers in order to reach amicable solutions on negotiated terms. Bank Millennium undertakes number of actions at different levels towards different stakeholders in order to mitigate legal and litigation risk as regard FX mortgage loans portfolio. The Bank is open to negotiate case by case favourable conditions for early repayment (partial or total) or conversion of loans to PLN. On the other hand, the Bank will continue to take all possible actions to protect its interests in courts while at the same time being open to find settlement with customers in the court under reasonable conditions. The Bank has already reached agreement and settlement with 117 borrowers that participated in the class action.  

Based on ZBP (the Polish Banking Association) data gathered from all banks having FX mortgage loans, vast majority of disputes had been finally resolved in favour of banks until 2019 year. However, after the Court of Justice of the European Union (CJEU) judgment issued on 3 October 2019 (Case C-260/18) the proportion haadversely changed and majority of court cases have been lost by banks.  

Taking into consideration the increased legal risk related to FX mortgages, in 2019 Bank Millennium created provisions totalling PLN 223 million while in 2020 PLN 713 million in total which included PLN 677 million provision for legal risk for Bank Millennium originated portfolio and PLN 36.4 million for ex-Euro Bank originated portfolio. The methodology developed by the Bank is based on the following main parameters: (1) the number of current (including class action) and potential future court cases that will appear within a specified (three-year) time horizon, (2) the amount of the Bank’s potential loss in the event of a specific court judgment (three negative judgment scenarios were taken into account), (3) the probability of obtaining a specific court verdict calculated on the basis of statistics of judgments of the banking sector in Poland and legal opinions obtained. Variation in the level of provisions or concrete losses will depend on the final court decisions about each case and on the number of court cases. 

On 31 December 2020, the balance sheet value of provisions set aside for FX mortgage legal risk for the portfolio originated by Bank Millennium reached PLN 924 million, and PLN 36.4 million for the portfolio originated by ex-Euro Bank. Legal risk from ex-Euro Bank portfolio is fully covered by Indemnity Agreement with Societe Generale. 

The Bank analysed the sensitivity of the methodology for calculating provisions, for which a change in the parameters would affect the value of the estimated loss to the legal risk of litigation: 

Parameter Scenario Impact on loss due to legal risk related to the portfolio of mortgage loans in convertible currencies
Change in the number of lawsuits  Additionally, 1 p.p. of active clients file a lawsuit against the Bank  PLN 33 million 
Change in the probability of winning a case  The probability of the Bank winning a case is lower by 1 p.p  PLN 25 million  

 

 

The CJEU judgment in Case C-260/18 issued on 3 October 2019, concerns only the situation where the national court has previously found the contract term to be abusive. It is the exclusive competence of the national courts to assess, in the course of judicial proceedings, whether a particular contract term can be regarded as abusive in the circumstances of the case. It can reasonably be assumed that the legal issues relating to foreign currency mortgage loans will be further examined by the national courts within the framework of disputes considered which would possibly result in the emergence of further interpretations, which are relevant for the assessment of the risks associated with subject matter proceedings. This circumstance indicates the need for constant analysis of these matters. Further request for clarification and ruling addressed to the European Court of Justice and Polish Supreme Court have already been filed and may still be filed with potential impact on the outcome of the court cases.  

In this context, taking into consideration the recent negative evolution in the court verdicts regarding FX mortgage loans, and if such trend continues, the Bank will have to regularly review and may need to continue to increase the balance of provisions allocated to court litigations.  

Invalidity of the Bank Millennium loan agreements currently under individual court and class action cases could have a pre-tax cost up to PLN 2 385 million.  

On 29 January 2021, it was published a set of questions addressed by the First President of the Supreme Court to the full Civil Chamber of the Supreme Court which may have important consequences in terms of clarifications of relevant aspects of the court rulings and their consequences. The Civil Chamber of the Supreme Court has been requested for answering the questions concerning key matters related to FX mortgage agreements: (i) is it permissible to replace – with the law provisions or with a custom – the abusive provisions of an agreement which refer to FX exchange rate determination; moreover, (ii) in case of impossibility of determining the exchange rate of a foreign currency in the indexed/denominated credit agreement – is it permissible to keep the agreement still valid in its remaining scope; as well as (iii) if in case of invalidity of the CHF credit there would be applicable the theory of balance (i.e. does arise a single claim which is equal to the difference between value of claims of bank and the customer) or the theory of two condictions (separate claims for the bank and for the client that should be dealt with separately). The Supreme Court has also been requested for answering the question on (iv) from which point in time there shall be starting the limitation period in case of bank’s claim for repayment of amounts paid as a loan and (v) whether banks and consumers may receive remuneration for using their pecuniary means by another party. The date of the meeting of the Supreme Court is scheduled for 25 March 2021. The Bank will assess in due time the implications of the potential decisions of the Supreme Court on the level of provisions for the legal risk. 

On December 8, 2020, Mr. Jacek Jastrzębski, the Chairman of the Polish Financial Supervision Authority (‘PFSA’) proposed a ‘sector’ solution to address the sector risks related to FX mortgages. The solution would consist in offering by banks to their clients a voluntary possibility of concluding arrangements based on which a client would conclude with the bank a settlement as if his/her loan from the very beginning had been a PLN loan bearing interest at an appropriate WIBOR rate increased by the margin historically employed for such loan. 

Following that public announcement, the idea has been subject of consultations between banks under the auspices of the PFSA and Polish Banking Association. Banks in general have been assessing the conditions under which such solution could be implemented and consequent impacts.  

In the view of the Management Board of the Bank, important aspects to take into consideration when deciding on potential implementation of such program are : a) favourable opinion or at least non-objection from important public institutions; b) support from National Bank of Poland to the implementation; c) level of legal certainty of the settlement agreements to be signed with the borrowers; d) level of the financial impact on a pre- and after tax basis; e) capital consequences including regulatory adjustments in the level of capital requirements associated with FX mortgage loans.  

At the time of publishing this report, neither the Management Board nor any other corporate body of the Bank took any decision regarding implementation of such program. If/when a recommendation regarding the program would be ready, the Management Board would submit it to the Supervisory Board and General Shareholders meeting taking into consideration the relevance of such decision and its implications.  

According to preliminary calculations, implementation of a solution whereby loans would be voluntarily converted to Polish zloty as if from the very beginning they had been a PLN loan bearing interest at an appropriate WIBOR rate increased by the margin historically employed for such loans, could imply provisions for the losses resulting from conversion of such loans (if all the current portfolio would be converted) with a pre-tax impact between PLN 4,100 million to PLN 5,100 million (non-audited). The impacts can significantly change in case of variation of the exchange rate and several assumptions. Impacts on capital could be partially absorbed and mitigated by the combination of the existing surplus of capital over the current minimum requirements, the reduction of risk weighted assets and the decrease or elimination of Pillar 2 buffer. The above mentioned impact would be substantially higher than the estimated impact of PLN 500 million to PLN 600 million (non-audited) in the scenario of replacing the exchange rate applied in the contracts by the average NBP exchange rate. Finally, it should be mentioned, that the Bank, as at 31.12.2020, had to maintain additional own funds for the coverage of additional capital requirements related to FX mortgage portfolio risks (Pillar II FX buffer) in the amount of 3.41 p.p. (3.36 p.p. at the Group level), part of which was allocated to operational/legal risk.  

Due to the complexity and uncertainty regarding the outcome of court cases, as well as from potential implementation of KNF Chairman solution or from potential Supreme Court decisions, it is difficult to reliably estimate potential impacts of such different outcomes and their interaction as at the date of publication of the financial statements. 

On 11 September, 2019 the Court of Justice of the European Union ruled in the case of Lexitor against SKOK Stefczyka, Santander Consumer Bank and mBank (case C 383/18) in which it stated that consumer has rights to demand the reduction of the total loan cost corresponding to interest and costs for the remaining term of the agreement in case of early repayment of loan. Taking into consideration this verdict, Bank Millennium Group created in 2019 a provision in the amount of PLN 66.4 million (split between Net Interest Income and Other Operating Costs), for potential returns to the clients. In 2020, the provision was increased by additional PLN142mn. The provision was estimated based on the maximum amount of potential returns and the probability of payment being made. 

The decision of the Banking Guarantee Fund on 26 March 2020 to extend by one year the date of full implementation of MREL requirements as well as no-obligation to reach an interim level in 2020 provides more time to assess the new requirements and flexibility in their achievement. Additionally, the systemic risk buffered lowered to 0% from 3% also decreases the future level of MREL requirements. In order to fulfil and maintain required MREL limits, the Group may issue MREL eligible instruments that could cause increase of financing costs for the Group.  

The franchise network has significantly increased the Bank’s distribution network in 2019 along with the take-over of Euro Bank. Its size remained practically unchanged since. In late 2020, the Bank offered its franchisees new terms of co-operation reflecting new market reality, unprecedented low interest rates level included. At the moment, franchise Partners managing close to 90% of outlets signed co-operation agreements with the Bank on new terms.  

is among the highest ranked risks that banks are facing globally and the Polish banking market is no exception. The rapid development of new technologies, digitalisation of the economy and increasingly sophisticated cyber-attacks make cyber-risk a likely constant risk factor that banks going forward will need to put increasing resources to mitigate. 

remains a big challenge for the banking sector and further tightening of rules and introduction of new ones by either European or local regulators cannot be ruled out.

in the financial services sector. While historically banks had to mostly combat threats from their peers, the relaxation of access to customer data that results from the recent introduction of PDS2 directive accelerates the potential entry of bigtechs and fintechs onto the market. Furthermore, the ongoing consolidation of the domestic banking market is likely to further increase competitive pressures further out. As a result larger players are likely to benefit from the economies of scale to the detriment of smaller banks. The increasing share of State owned/controlled banks in the sector is another risk factor worth highlighting. 

Other risk factors are discussed in detail later in the report 

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