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Update IFRS 9: Current Implementation Challenges and Solution Approaches

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Update IFRS 9: Current implementation challenges and solution approaches Risk EMEA conference, 10 May 2017 Implementation of IFRS 9 is much more than just a simple Change in Bank Accounting – enormous changes and challenges to be considered Impact of IFRS 9 on financial institutions Impact of IFRS 9 Challenges for Top Management IFRS 9 Accounting rules will replace actual Standard IAS 39 per 1.1.2018 GET guidance for IFRS 9 defines new standards for P&L & equity impact financial instruments with significant 1 impact on financial institutions FOSTER co-operation IFRS 9 directly affects P&L and Strong Impact between Risk and balance sheet positions, regulatory of IFRS 9 Finance function capital and major KPIs challenges Top In addition, due to numerous new Management MANAGE high change regulatory requirements business, and run the bank costs process and IT dependencies with IFRS 9 need to proactively considered and managed PREPARE EBA “stress test” 2018 with focus Therefore a change management for on IFRS 9 impact the organization, processes and IT landscape is necessary 1 With new requirements for the insurance contract insurance companies have a longer transition period with 2021. Big players have started in 2017 with goal to complete in 2018. Source: zeb Risk EMEA Conference 2017 20170510_IFRS 9 impact - 2 IFRS 9 implies significant economic and organizational impact on banks which report their financial statements according to IFRS IFRS 9 impact on banks Based on EBA Impact Study Survey results based on a sample of 58 institutions zeb view 1 CET1 ratio is estimated to decrease on “What effect does IFRS 9 have on existing equity?” average by up to 80 bps and total capital Equity <-10 bps >-70bps ratio by up to 50 bps. require- “What effect does IFRS 9 have on P&L volatility?” ments P&L volatility will arise from new IFRS 9 0% >+20% requirements e.g. due to changes in loss allowance methodology. 2 “What effect does IFRS 9 have on CTB and RTB cost?” Introducing IFRS 9 will not only result in high Opera- slight major change-the-bank (CTB) cost but also in tional impact RTB CTB impact cost increased run-the-bank (RTB) cost. 3 “What effect does IFRS 9 have on organizational processes?” Changes to the bank management have slight major not yet been sufficiently specified. impact impact Bank However, clear need for further in-depth co- Mgmt. “What effect does IFRS 9 have on lending practices?” operation between risk & finance function slight major impact impact The impact on new product design & product maturity needs to be considered. 4 “What effect does IFRS 9 have on the IT architecture?” As part of IFRS 9 implementation existing IT IT/ major systems slight systems need to be adjusted and new IT impact impact components have to be introduced. Source: EBA impact assessment IFRS 9 (11/2016); zeb assessment IFRS 9 Classification & Risk EMEA Conference 2017 20170510_IFRS 9 impact - 3 complete Measurement Impairment For IRBA banks1 an average increase of ~20% in loss provisions due to IFRS 9 requirements has noticeable negative impact on available capital2 1 I IRBA Bank example m IFRS 9 impact 1p The increase in IFRS risk provisions is followed by an equity adjustment… a Reduction of Common inc € m Old approach (IAS 39) New IFRS 9 approach Equity Tier 1 (CET 1) t capital due to IFRS 9 +20% assumed to be less than 8.000 <10% by most zeb IFRS o IAS 39 clients f 500.000 1.600 IFRS 9 However, negative 492.000 I 490.400 macroeconomic F developments in R Gross loans Impairment Gross loans Increase in Gross loans combination with other S less impairment impairment less impairment regulatory changes (e.g. Basel IV) may further 29 … which reduces the Common Equity Tier 1 (CET 1) ratio. endanger CET 1 ratios 2,8% CET 1 o 14,0 % zeb recommendation: reduction new: n 13,6 % Increase overall scenario 1.600 700 simulation capability b Adjustment based based on IFRS 9 figures to 32.000 a on estimated 31.100 derive relevant mgmt. l IRB expected loss impulses early in advance shortfall a (also in preparation of CET 1 - IFRS 9 n CET 1 - IAS 39 future EBA stress testing) 1 IRBA=c Internal Ratings Based Approach, risk measurement approach acc. to Basel guidelines based on bank‘s own 2 Average estimated loss provision increase based on zeb IFRS 9 survey internal estimates Risk EMEAe Conference 2017 20170510_IFRS 9 impact - 4 s h e e t e q u i t y a n d o n r e g u l a t o r y c a p i t a l IFRS 9 negatively affects change-the-bank (CTB) costs and run-the-bank (RTB) costs 2 Cost impact Estimation of CTB and RTB cost zeb key observations Change-the-bank cost − IFRS 9 implementation budgets in 40% 2016 & 2017 among the highest 30% project budgets in nearly every bank − Still budget overruns in many cases 14% 16% due to project inefficiencies: Need for < €5m €5m < €25m €25m < €100m > €100m strong, result-focused program Expected IFRS 9 implementation budget management; tight budget controls; > €600bn €200bn < etc. €600bn • Run-the-bank cost − Expected to be significant due to < €200bn current focus on compliance while efficiency often only treated with 63% secondary priority Sample of financial institution 37% categorized by total assets − Still many follow-up efforts anticipated due to replacements of short-term workarounds and < €1m €1m < €5m resolving of auditor findings Expected 1-year post-implementation cost Source: zeb IFRS 9 client survey Risk EMEA Conference 2017 20170510_IFRS 9 impact - 5 Risk professionals’ advice on IFRS 9-based risk modelling will remain crucial to prevent unwanted effects on IFRS financial statements 3 IFRS 9 Impact on risk management organisation Internal advisor for the organisation with regards to IFRS 9-based risk modelling (e.g. expected credit “Advise“ losses): Support New product design – reduce potential negative FS impact; advise accounting dept., etc. Assessment of macroeconomic developments and consideration/integration into IFRS 9 ECL models “Define” Definition and updating of stress scenarios for simulations and for impairment calculation Analysis of credit and market risk results at each IFRS reporting date and derivation of recommendations “Analyse” E.g. assessment of credit risk parameter effects with Risk managers‘ role regards to IFRS 9 impairment (decompose ECL results) in IFRS 9 Optimisation of calculation methods, parameter “Optimise” estimations, etc. in order to lower negative IFRS P&L and Balance Sheet impact Reconciliation of IFRS 9 ECL calculation results with expected loss figures from RWA reporting and from “Reconcile” internal capital adequacy assessment (ICAAP) at each reporting date Source: zeb Risk EMEA Conference 2017 20170510_IFRS 9 impact - 6 IFRS 9 strongly affects other bank management areas, such as regulatory capital, pricing, ALM as well as internal reporting 3 Further bank management dependencies Bank management areas (selection) IFRS 9 impact & zeb key observations (selection) Interest margin 5 5 5 5 5 Risk premium 20 20 20 20 20 perspective Revenues 25 25 25 25 25 Standard risk -20 -20 -20 -20 -20 costs (EL, 12M) Controlling Market result 5 5 5 5 5 Valuation changes of financial assets – volatile fair values or ECL (Stage 1/2) -20 -20 -20 -20 0 ECL (Stage 3) 0 0 0 0 -100 Loss provision expected credit losses have to be considered and managed as part 0 20 20 20 20 amount perspective Loss provisions -20 0 0 0 -80 of asset liability management Risk result 0 20 20 20 -60 Accounting Accounting P&L results 5 25 25 25 -55 Pricing / ALM / Pricing Equity 5 30 55 80 25 Period 1 2 3 4 5 1 The increase in IFRS-provision is followed by … 2 …equity adjustments … in m EUR Loans outstanding: Gross and net amounts ECL approach +20% 8.372 466.208 1.674 1.674 457.836 41.280 456.162 39.606 IFRS 9 linked effects work directly on steering KPIs – direct Gross loans and Total impairments Net loans Expected Credit Loans Equity Equity advances to customers Losses2) (IFRS 9) (IAS 39) (IFRS 9) 3 … and the impact on the core capital quota (CET 1)2). impact especially on overall profitability ratios and on capital ratios Additional impacts on the 13,5 % risk-bearing capacity and new: leverage ratio to be 12,7 % estimated 1.674 ECL 213.092 KPI impact RWA 28.754 27.080 CET1 (IAS 39) CET 1 (IFRS 9) Segment Retail Treasury Trading Σ periodic PV-based periodic PV-based periodic PV-based 1 External loan +7,0 -3,75 3,25 2 Internal refinancing -5,5 3,89 5,5 -3,89 0 3 External refinancing -5,0 0 -5,0 4 Internal interest swap -0,2 3,64 0,2 -3,64 0 5 External interest swap 0,5 3,03 3,53 Adaptation of internal segment reporting in order to fully reconcile PV-based result 1,64 0,05 0,09 1,78 Interest result 7,0 0 -5,0 0 0,5 0 2,5 Trading result 0 0 0 0 0 0 0 with IFRS 9 induced adjustments à Adjustments to internal vs. Hedge result 0 -3,75 0 0 0 3,03 -0,72 Diff. External Σ IFRS result – external 3,25 -5,0 3,53 1,78 ≈ 0 external -5,5 3,89 5,5-0,2 3,64-3,89 0,2 -3,64 0 external reporting reconciliation procedures Interest result 0 0 0 0 0 0 0 Internal vs. Internal Trading result Internal Σ IFRS result – internal -1,61 5,05 -3,44 0 IFRS result incl.
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