CFA Institute Research Challenge hosted by CFA Society Romania Alexandru Ioan Cuza University of Iasi

Alexandru Ioan Cuza University of Iasi Student Research

This report is published for educational [Financial Intermediation/Banking] purposes only by students competing in the CFA Institute Research Challenge. Banca Transilvania S.A. Ticker: TLV Exchange: BSE

Date: 20.02.2014 Current Price: RON 1.737 Recommendation: HOLD EUR/RON: 4.5239 Price Target: RON 1.7

2012 A 2013 A 2014 F 2015 F 2016 F 2017 F 2018 F

Market Profile Profit for the year 320.4 374.9 441.7 520.8 649.1 776.4 896.4 12.78% 12.98% 13.37% 13.76% 14.86% 15.28% 15.15% 52-week price ROaE 1.1610 – 1.7480 range ROaA 1.16% 1.22% 1.32% 1.42% 1.64% 1.84% 1.98% Source: Company data, team estimates Average daily 277,947,581 volume Highlights

Shares 2,206,436,324  We issue a hold recommendation with a target price of RON 1.7 per share. We consider outstanding TLV shares to be fairly priced by the market at the current level of RON 1.737, as the future positive evolution of the bank is already taken into account by investors. Market 3,830,373,458.46 Capitalization  Competitive positioning. Banca Transilvania (“BT”) is third bank in Romania by market share. It declares that it applies conservative provisioning – we have our doubt here and we are Book value per 1.00 concerned about underprovisioning, but given the improving economic perspectives of Romania, share we believe BT can smooth out the actual underperforming loans – and reports lower Deposits/Loan Return on ratio than the Romanian banking sector, which is a clear positive point. BT is a stable bank 13.37% Equity (2014F) emphasizing organic growth: 14% CAGR in deposits in 2009-2013 years, which is higher than the banking sector (7.5%). Also it is a blue chip on Bucharest Stock Exchange, and this helps with the public perception. BT outperformed market index for both short-term and long-term for 1997-2013 P/BV 1.42 period. Source: Team estimates, BSE  Financial position. The preliminary results for 2013 show a net profit of RON 374.9m, a 17% yoy increase. With a new CEO focused on growth rather than on restructuring, BT is one of the few banks in Romania that can accelerate loans generation due to less constraints from a parent bank Residual Justified bound to tighter capital requirements. Nonperforming loans ratio increased for the last 2 years, but Valuation Income P/BV for now it remains below sector’s average. model model  Main risk issues. Competition risk is high due to existence of other dominant players in the Estimated market, but BT position is strong in their core market – SMEs. Macroeconomic factors are also 1.68 1.72 price sources of risk, as there are important factors of financial intermediation development. However, as economic growth in Europe recovers, the peripheral countries as Romania should benefit both in Weights 50% 50% terms of real trade flows and on investors’ perception.

Target 1.7 Price Banca Transilvania S.A. daily stock prices (RON) 1.8 1.737 Source: Team Estimates 1.7 2.13% downside 1.6 1.5 1.7 1.4

1.3 1.2 Closing price Current price 1.1 Target price 1

Source: Team estimates

CFA Institute Research Challenge 20.02.14

Figure 1: BT Clients Structure Business Description

Banca Transilvania S.A. was incorporated in Romania in 1993 and started its activity in 1994. Its 1% 9% 1% main operations involve banking services for companies and individuals. The Bank carries its activity through its Headquarters in Cluj-Napoca and 63 branches, 445 agencies, 31 bank units, 10 Healthcare Division units located throughout the country and 1 regional center located in Bucharest. Banca Transilvania S.A. is the parent company in Banca Transilvania Financial Group created in 2003. The group’s core business is run through Banca Transilvania S.A. (generating 92.4% of the Group Net Income and 93.7% of Operating Income in year 2012). In 1997 Banca 89% Transilvania became the first Romanian banking institution listed on the Bucharest Stock Exchange. In 2012 BT was ranked #3 in the banking system of Romania with a market share 8.08% Retail Banking in terms of assets (this ranking is distorted due to the fact that major banks with foreign holding Corporate Banking companies use securitization or transferred a part of their loans abroad in order to optimize the Healthcare Division SME balance sheet), #3 largest issuer of credit/debit cards in Romania, #1 Visa card issuer in Romania, #1 in premium cards. Source: Company data Business lines of BT are Corporate Banking, Retail Banking, Small and Medium Enterprises (SMEs) and Healthcare Division (“HD”). Corporate Clients portfolio is well diversified in terms of Figure 2: Income & Expense type and industry exposure. Trade industry is slowly declining while manufacturing and agriculture distribution in BT business lines are advancing. In 2012 the Corporate loan portfolio increased by 15% reaching 49% of bank’s total loans. Retail banking client portfolio share is the biggest one and increased by 8% in 2012. 600 60% 52% 52% 500 42% 50% SME banking is a business line which generates new product packages, so it is attracting more and 400 40% 40% more clients. In 2012 the “First Year Free Account”, “Offer for self-employed” and “Fast 300 30% factoring” packages were successfully launched. Retail Banking has a dominant share of 200 20% customers, while SME and Corporate Banking have only 10% of customers, however their 100 10% operating margin (based on total expenses less net impairment losses for assets, other contingencies 0 0%

and loan commitments) is higher than in Retail Banking by 10% (see Figure 2). SME

Retail Healthcare Division has virtually no competition from other banks in offering specialised banking Banking

Division services for the medical sector. Healthcare Division’s active clients are exceeding 25,000, making Corporate Healthcare up for about 45% of market share. This position is due to a dedicated team for doctors, 9 specialised units, a Special Credit Scoring System and the first credit card only for doctors. Total Income Total Expense BT Current strategy is based on the following main cornerstones: Operating Margin . Bank for entrepreneurial people. BT’s main strategy is to keep its image of having the widest range of products and services for SMEs. The main pillars of BT approach from this Source: Company data perspective are stable relationships with customers, flexibility and diversity of the credit portfolio. (See Appendix 7 for the dispersion of loan portfolio of BT). Figure 3: Loans as % of Deposits . Conservatism. BT declares that it applies conservative provisioning policy emphasizing 110% 111% stability, high liquidity and organic growth. BT’s loan/deposit ratio is lower than Romanian 120% 107% banking sector’s average (See Figure 3), below 75% objective was set for year 2013 by BT 100% management. 80% 60% . Visibility. Despite the tendency to reduce marketing budgets for cost control, BT has increased its input in this field. During 2012 BT moved from 8th to 5th position in TV advertiser’s 40% ranking. BT’s visibility increased by nearly 60% during the year 2012, as BT’s communication 20% share increased from 5% (year 2011) to 8% in year 2012. 0% 2010 2011 2012 . Innovations. BT and especially the retail banking business line acts in accordance with a leader’s position in technology and innovation. BT was first to launch Western Union money BT transfer service through Internet banking in Romania. BT and Western Union were first to Romanian Banking Sector launch money transfer service through ATM in the world. In 2012 BT started the Source: Company data, National Bank implementation process of a new core-banking system, Flexube by Oracle. The new system, of Romania (NBR) started to work successfully in January 2013 (See Appendix 8 for advantages of the new system). Figure 4: Shareholders structure Shareholders structure. The bank’s strategy is supported by a solid shareholder bases: the European Bank for Reconstruction and Development, holding 14.61% of the bank’s share capital, 20.2 24.8% the Bank of Cyprus (9.98%) and IFC – the Investment Division of the World Bank – holding % 3.53%. Romanian investors hold 45.03% of shares, while foreign investors hold 54.97%. Romanian individual investors hold 20.2% of shares. A Romanian institutional investor who holds more than 5% is Investment Company SIF MOLDOVA S.A. Another investment company, SIF OLTENIA S.A. holds 4.96% of shares. 52.6 2.40 % % Romanian individual investors Romanian institutional investors Foreign individual investors Foreign institutional investors

Source: Company data

2

CFA Institute Research Challenge 20.02.14

Figure 5: Real GDP Growth Rate Industry Overview and Competitive Positioning of Romania Macroeconomic analysis % 10 Real GDP growth rate is a dominant factor of financial intermediation development. First 3 quarters of 2013 showed a stable economy expansion, which is positive sign for banking sector 5 both from loans and deposits growth perspective. (See Figure 5, Appendixes 9, 10, 11 for details). 0 Inflation. The National Bank of Romania’s (NBR) primary objective is to ensure and maintain

-5 price stability. The NBR shifted to direct inflation targeting in August 2005. The annual Consumer Price Index (CPI) reached 24-year low at the end 2013 Q4, falling close to the lower bound of the -10 target range which is 1.5 – 3.5% (See Figure 6).

Unemployment rate in Romania is lower than that of the neighboring countries. The stability of Source: NIS the country from the perspective of labor market can be considered as satisfactory, as the rate was stable for 2012 and 2013 (7% and 7.2% respectively), whereas median for EU countries for 2012 Figure 6: CPI annual change % and 2013 was 10.15% and 10.2% respectively (See Appendix 12 and 13 for details). 7 6 Exchange rate regime in Romania is classified as managed floating. Exchange rate EUR/RON is 5 an important factor in the banking industry as loans to the private sector in foreign currency are 4 3 prevailing in Romania’s banking sector. The historical data shows fluctuation of exchange rate in 2 certain limits which are observable and controllable (See Appendix 14 and 15 for details). 1 0 Investments and Savings. Investment rate and saving rate are important macro drivers of the banking industry. High investment rate indicates high rate of lending to the private sector and high saving rate will bring opportunity of deposit increase. From this view Romania is in a healthy

Annual inflation rate position because the investment rate was higher than the average in EU in 2012. It was the highest Upper bound among EU countries from 2009 to 2012 (See Appendix 16 and 17 for details). Lower bound Money supply. Money supply has increased. Broad Money M3 increased by 8.8% during 2012-

2013, Narrow Money M1 increased by 12.7 % and its component Currency in Circulation by Source: NIS 10.5% (See Appendix 18).

Figure 7: Capital Adequacy Analysis of Romanian macro climate leads to the conclusion that the banking system is not only indicators stable, but also has good perspectives of growth along with the overall economic activity.

Industry overview 24 20 Regulations. The National Bank of Romania (“NBR”) is the authority in charge of the regulation, 16 licensing and prudential supervision of credit institutions including banks, credit cooperative 12 organizations, saving banks for housing and mortgage banks. NBR sets up regulations regarding 8 4 the minimum amount of funds, capital and risk management, operations etc. NBR shall not grant

authorization to a credit institution if the credit institution does not possess own funds or initial 2006

2004 capital no less than an amount equivalent in RON of EUR 5 million. A credit institution’s own

Sep/2008 Sep/2009 Sep/2010 Sep/2011 Sep/2012

Mar/2008 Mar/2009 Mar/2010 Mar/2011 Mar/2012 Mar/2013 funds may not fall below the amount of initial capital required at the time of its authorization. Solvency ratio (%) Credit Institutions should provide own funds that are at all times equal to or exceeding the sum of Tier 1 capital ratio for credit capital requirements established for the mitigation of the following risks: credit risk, including the risk (%) counter-party credit risk, position risk, settlement/delivery risk, foreign exchange risk, commodities Minimum requirement for Solvency ratio (%) risk and operational risk, as applicable. The required capital for credit risk in respect of all of their business activities with the exception of their trading book business is 8% of the risk-weighted Source: NBR exposure. Banking coverage. Romania is the 8th among the European Union countries by population, Figure 8: Banking sector performance however banking coverage is low. The number of banks per 100,000 people is 0.19 and is the lowest among EU countries where the average and median are respectively 3.45 and 1.62. 5.00 20.0% Meanwhile the network of branches is not the lowest one, there are 27 branches per 100,000 4.00 15.0% inhabitants and EU-27 median is 33. BT has 2.57 branches per 100,000 inhabitants meaning 3.00 2.00 10.0% approximately 10% of banks network. This is a significant result taking into consideration the 1.00 5.0% number of credit institutions in Romania which is 40 (2012) from which 39 are banks. The number 0.00 0.0% of branches and bank employees show dramatic increase until December 2008, however in last 3 -1.00 years the tendency of cost control brought decreases in the number of employees and branches. -5.0% -2.00 Currently the number of bank employees is lower than the pre-crisis level, however the number of Bln.-3.00 RON -10.0% branches is equal with the pre-crisis one (See Appendixes 19, 20 and 21 for details). Concentration of banks. According to the Herfindahl-Hirschmann index calculated for banking sector, the sector can be described as non-concentrated. According to the index by assets, the

Net Profit/Net Loss (RON bn.) banking sector can be described as a composition of approximately 12 banks of the same size. The ROE (%) value of this index for Romania is lower than EU average. The share of the top five banks in banking sector by assets, loans and deposits is 54%, 55.9% and 53.5% respectively (See Appendix Source: NBR 22 and 23 for details).

Shareholding structure of the banking system. The Romanian banking sector is dominated by foreign capital. By Aug 2013 the assets of foreign-owned credit institutions represented a 90.8% share of the total assets of the Romanian banking sector. This fact speaks both about attractiveness

3 CFA Institute Research Challenge 20.02.14

Figure 9: Assets, Loans and of banking sector for foreign investments and about the sensitivity of banking sector to abroad Deposits of Banking sector changes. The capital share of the banking industry by country of origin is concentrated in the following countries: Austria, France, Greece and The Netherlands. The international shareholders’ base means a knowhow injection from more developed banking systems. The number of banks 80% with a majority of foreign capital is 36 from the total of 41 credit institutions by Aug 2013 (See 60% Appendix 24 for details). The liabilities of the banking sector are less exposed to foreign sources. The main source of financing are household and corporate deposits which with capital and reserves 40% add up to app. 70% of liabilities (See Appendix 25) 20% 0% Loans, Deposits, Assets. The transmission of GDP growth to banking sector will be lower if the country has a low level of financial intermediation. Romania has the lowest level of financial intermediation calculated by 3 main ratios: Assets/GDP, Loans/GDP and Deposits/GDP. This is mainly due to a large share of the population living in rural areas with limited access to banking services, so probably this measure is not relevant at country level and it should be measured Assets/GDP separately for rural and urban areas. However, Deposit/GDP ratio is stable, with growth Loans/GDP perspectives (See Appendix 26 for details). The total value of loans to households is stable for the Deposits/GDP last two years; however, the components differ in their evolution. The amount of consumer loans is showing a decreasing trend, meanwhile mortgages are increasing due to Government “First Home” Source: NBR Program (See Appendix 27).

Figure 10: Cost to income Capital Adequacy indicators of the banking sector are satisfactory. Solvency ratio as per Basel rules had a stable dynamic during the last 2 years. The banks distribution based on solvency ratio ratio shows that the biggest concentration is within 12-16% interval with total assets of 69% as of June 2013 (See Appendix 28 for details). Capital adequacy is a strong characteristic of the Romanian 52.91% 52.22% banking system, which is ready for implementation of the Basel III regulations. The level of Tier 1 capital ratio is very close to that of the solvency ratio, which reflects the high quality of own funds 49.50% 48.10% 46.80% of the banks, as well as their capacity to withstand shocks. Non-performing loan ratio is calculated 45.40% 46.10% as a ratio of loans overdue for more than 90 days to total loans. This ratio is definitely high for the 45.02% Romanian banking – 20.3% as of June 2013 (See Appendix 29). The return on equity of credit institutions comes back to positive territory during 2013, reporting 5.9% on Aug 2013 and overall the industry reported net income of 1.53 billion RON. The distribution of credit institutions’ assets 2013 2012 2013 2012 2013 2012 2013 2012 by ROA level for year 2012 shows concentration of 60% assets with negative ROA, however the results for 2013 should be more satisfactory, as ROA for Sep 2013 was 0.55% (See Appendix 30). BCR BRD Banking sector statistics relating to the daily transactions of banks are growing for the last 5 years UniCredit Tiriac Bank (See Appendix 31 for details). BT Competitive positioning Source: Company data BT is in the top 5 Romanian banks, which control over 54% of the banking sector. The peer group selected for comparison consists of BCR, BRD and UniCredit Tiriac Bank, based on the position Figure 11: Loans and deposits within the banking system and data availability. relation Assets comparison. BT has the lowest Loan/Deposit ratio among the banks. This fact can be viewed as an advantage, on the other hand BT has less sources of funding than other 3 banks which 140.00% are part of international groups, so it needs to be more cautious – BRD and BT have increased their 120.00% 100.00% deposits in H1 2013 by 4.27% and 4.012% respectively. 80.00% Performance comparison. Four banks reported net profit as of June 2013. The two leading banks, 60.00% BCR and BRD, did not have Net Interest Income (NII) increases as of June 2013 compared to Dec 40.00% 20.00% 2012, and BT and UniCredit Tiriac Bank had respectively 9.19% and 12% increases. Operating 0.00% income of the leading 3 banks decreased in H1 2013 yoy, BT minimizing this decrease by higher BCR BRD BT UniCredit increase in NII. BT has the highest NII/ Total operating Income ratio by H1 2013 counting 70.63%. Tiriac bank This is a negative situation as banks try to diversify their income sources away from NII so they are not so exposed to interest rate risk. Cost to Income ratio for the peer group is within the range of Loan/Deposit ratio 45-53%. BRD has the largest network distribution (See Figure 12). BCR, BRD and BT have Deposits from customers/Total decreased their advertising expenses in H1 2013 while UniCredit Tiriac Bank had a significant Liabilities ratio increase of 12%. BT and BRD motivate their staff by distributing stocks for productivity and fidelity: allocating for this 14.48 % and 5.69% respectively of personnel expenses. Source: Company data Stock market BT is the first bank to be listed in Bucharest stock exchange. BT contributes to BET Figure 12: Branches index by weight 21.15% that is the highest by January 2014. Three other banks (Society Generale BRD, Banca Comerciala Carpatica S.A. (“BCC”) and Erste Group Bank AG (“EBS”) that controls BCR) are listed on BVB. However, from this perspective, only BRD is a relevant comparison term 889 602 for BT, as BCC only holds 1.29% of all banking sector assets and Erste Group Bank AG represents 550 Austrian Group with operations in 7 countries. BT outperformed the market both in long-term and 189 short-term. It outperformed BRD since BRD’s listing in terms of returns and for the last 52 weeks BT traded 12.59% of all it shares, showing higher liquidity than BRD, BCC and EBS which traded respectively 9.34%, 9.05% and 0.79% of their shares. However, the comparison is not entirely BCR BRD TLV Unicredit relevant for Erste as it is listed also on Vienna (main market) and Prague stock exchange (See Tiriac Appendixes 33, 34 and 35 for details). Source: Company data

4 CFA Institute Research Challenge 20.02.14

Figure 13: Market share by assets Investment Summary

Fundamentals based valuation indicate a HOLD recommendation 25.00% Based on our valuation of the bank, we issue a HOLD recommendation for BT, with a target price 19.0% 20.00% of RON 1.70. We consider that TLV shares are fairly priced by the market at the current level of RON 1.71, as the future positive evolution of the bank is already taken into account by investors. In 15.00% 12.7% 6.5% the last 12 months, TLV share price increased from RON 1.42, outperforming the BET Index. 10.00% 8.5% 7.1% 6.7% 4.6% Valuation methods 4.3% 3.8% 5.00% 3.3% Our 12M TP price was determined by combining Residual Income and Justified P/BV models with

0.00% equal weights. In our opinion, these models are the most appropriate for valuing BT, since the bank does not pay dividends. Ambitious growth objectives

With a new CEO focused on growing the company, BT has a market share target of 10-11% for Market share by assets Dec-12 2015-2016. This growth is expected to come mostly from new business, as BT continues lending Market share by assets Q1-2013 while many of its peers are deleveraging. BT has positioned itself as the SME Bank in Romania, offering over 20 specialized products for this sector and gaining a 15% market share with over Source: Company data 200,000 active clients. There is significant growth potential on this client base, as only 10% of SMEs currently have loans. BT has also a well-diversified portfolio of corporate clients, in terms of Figure 14: Geographic coverage both type and industry exposure. While financing for trade is declining, manufacturing and agriculture are advancing. In the retail sector, the bank’s objective is to consolidate its Top 3 position in cards and to generate more revenues from operational products and value added services. BT has a good geographical coverage in terms of branches, being able to serve new and existing clients without making significant new investments in fixed assets. BT has especially good coverage in the Transylvania region, which was less affected by the financial crisis and where the economy is developing at a faster pace than the rest of the country. The bank’s strategy for growth includes opening branches outside Romania, in countries like Italy and Spain, where the numerous Romanian immigrants form a large potential client base. In the 2009-2013 period, BT has been consistently growing at a much faster rate than the Romanian economy, with a CAGR of 13.4% for total assets and a CAGR of 11.8% for gross loans. In order to Source: Company data sustain this growth rates, BT has not paid cash dividends since 2009, preferring stock dividends as a solution for organic growth. The solvency ratio has increased as a consequence, but it remains below the banking system average, due to the even faster increase in gross loans. Nonperforming loans ratio below sector’s average The nonperforming loans ratios reported by BT have increased in the past 3 years, up to 12.57% of gross loans for 12/2013, however still below the sector’s average. The coverage ratio has also increased to 122.4%, the value of net impairment losses on assets having a significant impact on the size of the reported net profit. BT officials declared that the bank is very well provisioned, which will increase net profits in future years, if economic conditions improve and some of the nonperforming loans will be repaid. On the other hand, if NPL ratio continues to increase and catches up with the sector’s average ratio, the profitability of BT will be drastically affected, as the bank is currently very sensible to the cost of risk. Deposits from customers provide the necessary financing Customer deposits provide most of the funds needed for the banks operations. In 2013, deposits from customers accounted for over 80% of total assets and over 89% of total liabilities. Most deposits and loans are in RON, so there is only a small mismatch between the available and necessary financing resources, limiting the bank’s foreign exchange exposure. BT corporate governance is rated high BT receives a score of 9 out of 10 related to the Principles of Corporate Governance as developed by the Organization for Economic Cooperation and Development. The main issues identified are the fact that the Board of Directors does not include any independent members and that these members are elected for a period of 4 years, instead of just one year as recommended.

5 CFA Institute Research Challenge 20.02.14

Figure 15: Components of Cost Valuation of Equity We evaluated BT using two models: Residual Income Model (RIM) and Justified P/BV Model. 2015-18e The Residual Income valuation model Risk-free rate 3.67 – 4.74% This approach is suitable for BT as the company does not pay dividends. Other advantages of the ERP 9.13% model are that it is driven by publicly available accounting data and the terminal value is less Adjusted β 1.11 significant when compared to other models, therefore it is providing greater certainty in the Cost of equity 13.77 – 14.84% valuation.

Source: Team estimates This model is built on the assumption that the value of a company is equal to the capital invested plus what is created in excess of the cost of equity. The larger the difference between the ROE and the required rate of return given the risk of the company, the higher the value of the firm. Therefore Figure 16: Components of this model shows the opportunity cost of investing in a share of BT. According to our detailed RIM Perpetuity Cost of Equity analysis we determined the target price of RON 1.68 (See Appendix 4 for details).

Perpetuity The Justified P/BV model YTM 30yrs DE bond 2.53% The model uses long-term sustainable figures of ROE, growth and cost of equity. The model is LT inflation diff. 0.73% based on Gordon’s growth model and its results depend on the total equity value from the last Risk-free rate 3.26% forecasted year and the P/BV ratio computed using the long-term values mentioned earlier. We ERP 9.13% estimated a target price of RON1.72 (See Appendix 4 for details). Adjusted β 1.11 Key drivers and outlook Cost of equity 13.36% . We have constructed our models by incorporating estimations for 2014-2018F, following 2013 IFRS preliminary individual (only the bank) financial results released by BT. Models Source: Team estimates are mostly sensitive to the following factors: . Loans/deposits ratio is estimated to be maintained below 75% for 2014-18F. . Significant growth of clients’ loans, but at a lower rate than in previous years. . Interest rates are expected to decrease for both loans and deposits. . A sustainable growth rate (g) of 3%, which approximates Romania’s long-term GDP growth. . We assume that the bank will not pay dividends

Cost of Equity The Cost of Equity was calculated with CAPM model. Our risk-free rate is based on YTM Romanian government bonds for the explicit forecast (2014-2018F) and on YTM 30yrs German Government bond plus an estimated inflation differential between Germany and Romania for perpetuity. We calculated a beta of 1.16 from the regression between TLV and BET index and then adjusted it using Bloomberg formula, obtaining the value of 1.11 (See Appendix 36 for details). The expected market return of 9.13% is the sum of market and country risk premium (based on Damodaran’s estimation1). Thus, we have computed the cost of equity, which ranges between 13.77% and 14.84% and a perpetuity cost of equity of 13.36% (See Appendix 6 for details). Sensitivity analysis for Justified P/BV We examined the sensitivity of Justified P/BV model to changes in key long-term assumptions. A 100bp change in the long-term ROE affects the 12M target price by ca. 9%, while a change in the long-term growth rate has a lesser impact on the 12M target price, all other factors being constant. The estimated long-term ROE has a value which is not significantly higher than the perpetuity cost of equity, so growing the company in the long term is not expected to increase its value, unless the efficiency of operations is improved first. Analyzing the variation in target price as a function of ROE and perpetuity cost of equity shows that a 50bp change in the cost of equity affects the 12M target price by ca. 5%, all other factors being constant. Table 1: Justified P/BV sensitivity analysis LT growth rate Cost of equity - perpetuity LT ROE 1.00% 2.00% 3.00% 4.00% 5.00% 12.36% 12.86% 13.36% 13.86% 14.36% 11.5% 1.44 1.42 1.39 1.36 1.32 1.54 1.46 1.39 1.33 1.27 12.5% 1.58 1.57 1.55 1.54 1.52 1.72 1.63 1.56 1.48 1.42 13.5% 1.71 1.72 1.72 1.72 1.72 1.90 1.81 1.72 1.64 1.57 14.5% 1.85 1.87 1.88 1.90 1.93 2.08 1.98 1.88 1.80 1.72 15.5% 1.99 2.01 2.05 2.08 2.13 2.26 2.15 2.05 1.95 1.87

Source: Team estimates

Weighting of the models We treat both RIM and Justified P/BV equally in our valuation as we consider them equally relevant. The price we obtained is RON 1.70 per share.

1 Aswath Damodaran is a Professor of Finance at the Stern School of Business at New York University, best known as the author of several widely used academic and practitioner textson Valuation 6 CFA Institute Research Challenge 20.02.14

Figure 17: BT share price and news flow since 2011

RON 2.0 2013 gross profits 16 new shares issued increase by 30% over RON 1.8 for every 100 held by Issue of 2012 295,735,713 new Buyback of stockholders RON 1.6 shares 1,166,000 shares RON 1.4 RON 1.2

RON 1.0 Rumors of taking RON 0.8 over Bank of Cyprus RON 0.6 BT borrows $45 mln from EBRD RON 0.4 Robert Rekkers and IFC to finance SMEs Omer Tetik officialy resigns as CEO named as new CEO RON 0.2

RON 0.0

10000000 Traded volume 8000000 6000000 4000000 2000000 0

Figure 18: Main items of gross operating revenues 450.0 Financial Analysis 400.0 350.0 Profits are steadily increasing 300.0 250.0 The preliminary results for 2013 show a profit before tax of RON 443.1m (+30% yoy) and a net 200.0 profit of RON 374.9m (+17% yoy). The last quarter of 2013 had a significant contribution to the 150.0 bank’s net profit, with RON 134.7m, more than double the result for 3Q13. The management of the 100.0 bank declared that their main objective for 2014 is to increase revenues and the efficiency of 50.0 0.0 operations, so even higher profits are expected. From our estimations, the net profit for 2014 will 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 be RON 441.7m (+17.8% yoy).

Net Interest income (RON m) BT is among the few banks in Romania that can accelerate new loans generation Net fee and commision income (RON m) Gross operating income (RON m) BT reported for 2013 a 9.0% increase in gross loans to customers, much higher than the average for Source: Company data the banking system, but lower than the 11.9% increase realized in 2012. Q413 was the best quarter in terms of loans given in the last years, with a value of RON 743.6m, representing almost 50% of Figure 19: Gross operating income the increase in total gross loans for 2013. Growth was registered in all business lines, in retail and credit risk provision lending relying mostly on clients refinancing their loans from other banks, while in the SME 350.0 segment growth came from new business. 300.0 250.0 200.0 In August 2013, BT appointed a new CEO, focused on growth rather than restructuring. While 150.0 many large banks with foreign shareholders are expected to continue deleveraging (due to 100.0 European Union Bank regulations), BT with its status of independent bank can step in and increase 50.0 0.0 its market share to the target level of 10-11% for 2015-2016. Based on our estimates, we expect the -50.0 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 increase in loans to continue, although at a less spectacular pace of around 6-8% per year. -100.0 -150.0 Growing customer base -200.0 The number of active clients of the bank increased during 2013 from 1.67m to 1.76m, while the number of account operations increased with over 8%. BT reported a portfolio of 2.1m debit and Gross operating income (RON m) Net impairment losses on assets (RON m) credit cards (a 10% increase over the end of 2012, but below the target of 2.17m), generating a 13% Net profit (RON m) higher transaction volume. The bank’s market share regarding transaction volume reached 17%, with the target of obtaining no. 1 ranking in terms of credit cards. Source: Company data

7 CFA Institute Research Challenge 20.02.14

Customer deposits are a reliable financing resource for BT Figure 20: IEA, NII and NFI BT controlled at the end of 2013 total assets of RON 23.0m, an 8.4% yoy increase, versus previous 14.5% yoy increase in 2012. Asset growth was mostly achieved on the back of local funding. 32,000 40.0% Deposits from customers reached the value of RON 25.8m, an increase of 11.1% yoy (14.6% in 31,000 30.0% 2012). The ratio of gross loans to deposits is 74.25%, similar to the 2012 level (76% in 2011), 30,000 20.0% 29,000 while the sector average exceeds 100% (120.12% in 2012 and 116.7% in 2011). The bank does not 10.0% 28,000 have to struggle for deposits gathering, enjoying reasonable financing costs. The bank’s clients 0.0% 27,000 have a stable behavior, with no significant withdrawals happening so far. -10.0% 26,000 25,000 -20.0% Higher net interest income in spite of decreasing interest rates 24,000 -30.0% Net interest income increased 27.3% yoy in 2013, due to a simultaneous 4.0% increase in interest 23,000 -40.0% 1Q122Q123Q124Q121Q132Q133Q134Q13 income and a 16.3% decrease in interest expense. This decrease was caused mainly by a significant

reduction of interest rates paid for deposits from customers. For loans and advances to customers, Interest earning assets (RON m) the interest rate suffered only a small decrease. We consider this situation to be temporary and we Net interest income (%, qoq) expect the gap between the interest rates for loans and deposits to narrow in the following years. Net fee and commission income (%, qoq) Net interest income will continue to increase, but the growth rate will be around 5-6%, much lower

Source: Company data than in 2013.

On a quarterly basis, net interest income increased steadily since 4Q12 (with less than 10% qoq) Figure 21: NIM and NFI annualized and jumped 30% qoq in 4Q13. The increase of net interest income in the last quarter is explained evolution by a 6% qoq increase in interest earning assets, which have been maintaining an almost constant level during the rest of the year. Net interest margin has been slowly decreasing during 2012 and 6.00% this trend was expected to continue in 2013. However, starting in 4Q12, net interest margin started increasing and spiked to 5.0% (annualized) in 4Q13. The bank continues to lend predominantly in 5.00%

5.01% RON, and this should help to improve net interest margin, as RON yields are higher than for FX 4.00% placements. We expect net interest margin to suffer a small correction during the first semester of 3.96% 3.00% 3.65% 3.62% 2014 and then to stabilize for 2014 and 2015. Expectations regarding net interest margin are based 3.48% 3.43% 3.29% 3.20% on more stable funding costs, lower reserves requirements and the consolidation of the banking 2.00% system. 1.00% 1.49% 1.53% 1.50% 1.51% 1.32% 1.07% 1.16% 1.22% Nonperforming loans ratio increases, but remains below sector’s average 0.00% 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 At the end of 2013, nonperforming loans represented 12.57% of gross loans, an increase from the previous values of 11.31% (2012) and 8.62% (2011), but significantly below the sector’s average NII (annualized*)/Avg. IEA (%) ratio. The coverage ratio reached a new high, with a level of 122.4%, versus the previous ratio of NFI (annualized*)/Avg. Total Assets (%) 108.0% for 2012. Since most nonperforming loans are coming from the past and the average maturity of corporate loans (the most affected ones) is 2 years, it is unlikely that the bank will need *NII and NFI annualized based on quarterly figures significant additional provisions booking. However, many loans have been restructured in order to

avoid provisioning, and some of them may still be losses. In addition, the increase in NPL ratio Figure 22: Balance sheet growth supports the theory that BT will eventually catch up with the sector level of provisioning, with a significant impact on profitability. 18.0% Net impairment losses on assets increased in 2013 to RON 407m (+9% yoy), mostly during the last 16.0% 2 quarters, but without exceeding the target. Total allowance for loan losses reached RON 2,493m, 14.0% an 18% yoy increase from the 2012 level of RON 2,111m. The solvency ratio increased to a 12.0% comfortable level of 13.78% (including net profit for 2013) from the previous value of 12.16% 10.0% (including net profit for 2012). Although above the National Bank of Romania’s requirement, the 8.0% solvency ratio is below the banking system average and we expect it to remain so, given the 6.0% increase in new loans. The bank will probably continue its no dividend policy, transferring the net 4.0% profit to share capital. 2.0% 0.0% Net fee and commission income expected to increase due to higher business volumes

Net fee and commission income decreased to RON 361.7m in 2013 (-14.8% yoy), due to a 10.8%

2011 2012 2013

2010 yoy decrease in fee and commission income coupled with a 16.5% yoy increase in fee and

2015E 2016E 2017E 2018E 2014E commission expense. On a quarterly basis, net fee income suffered a downward correction in 1Q13 and then slowly increased for the rest of the year. The net fee income margin maintained an almost Loans growth constant value of around 1.5% during 2012, decreasing sharply in 1Q13. Net fee income margin Deposits growth started increasing in 2Q13 and we expect it to continue this trend, as higher business volumes 2010-2018E average loan growth should push up net fee income. The management of the bank declared that fees and commissions 2010-2018E average deposit growth are rather below market, so this could be a source of additional income in the future. The bank grants start-ups a grace period of one year not to pay fees and commissions for some of the bank’s products. This diminishes income in the short term, but increases customer base and net fee income after the grace period expires. Cost to income ratio falls below 50% BT managed to reduce its cost/income ratio in 2013 to 48.7%, from previous values of 53.13% (2012) and 51.65% (2011). Personnel expenses increased 7.7% yoy in 2013 (+11% yoy in 2012) due to higher remuneration for employees in line with the better performance of the bank. The migration to a new IT core banking system plus other measures to be implemented by the new CEO are expected to reduce the yoy increase of personnel and other expenses. We consider that the target of 45% for the cost/income ratio can be reached, but rather by increasing revenues than by cutting cost further.

8 CFA Institute Research Challenge 20.02.14

Corporate Governance and Social responsibility Corporate governance. In order to measure the general condition of BT’s corporate governance, we used the Principles of Corporate Governance as developed by the Organization for Economic Cooperation and Development (OECD). We illustrate the factors that are taken into account and their respective weigh (See Appendix N). Each criterion was graded from 1 to 10, leading to a final score of 9 for BT (See Appendix 38 for details). This is a high score, but it does allow for some improvement. The issues that keep the score from being a perfect 10 could be: . The European Bank for Reconstruction and Development (EBRD) owns almost a 15% share of the stocks, which is an exception to an internal rule stating that no shareholder can own more than 10%; . The EBRD also has a veto power, being able to turn down any proposal, even if all other shareholders have agreed on it; . The Board of Directors is elected for 4 years. Recommendations are that elections take place yearly, so that members of the Board take decisions with caution; . The Board does not include any independent members. While the law does not forbid this, it is recommended in practice in order to ensure independence and competence.

Environmental protection. Although the area of activity isn’t known for notable damages to the environment, BT partnered with the European Bank for Reconstruction and Development with the purpose of ensuring the efficiency and the reduction of power consumption. BT has also implemented a system by which to identify and track the social and environmental risk of the project financed by the bank. Therefore it is important that potential clients of the bank demonstrate that they respect the legislation regarding the social and environment aspects. Investment Risks Market risk: currency risk BT is exposed to currency risk by transactions in foreign currency against RON. In the last 2 years we have witnessed numerous shocks of different sizes on the exchange rates of main foreign currencies against RON due to Romania’s political instability. The best example would be the change of Government in the summer of 2012. While apparently the political situation has become more stable, it is a risk we cannot rule out. Market risk: Trading losses Although BT’s trading has not lead to losses due to a careful process of monitoring the portfolio, we must take into account the possibility of systemic risk that could hinder trading gains on a wide scale, inevitably leaving a mark on BT’s results from this area. Market risk: Romania enters the EURO zone Even though Romania does not fulfill all required criteria, it has announced not long ago that it aims to enter the Eurozone in 2018-2019. Joining the Eurozone would decrease exchange rate risk significantly with other currencies too since their exchange rate with the EURO is much less volatile than against RON. Operational risks: Increase in energy and labor costs. An increase in the costs of labor and energy can affect the future margins of BT. Labor costs have risen in Romania in 2013 by an average of 7% for government employees, with the private sector lagging behind at 2%. We believe this gap will be recovered partly in the coming year. An advantage for BT is that its employees are not part of any union. Energy costs are also expected to rise in 2014, as well as other utilities prices. Public Image risk: Company identity The BT name and logo are present within all subsidiaries of the group. It can work well to promote each of the group’s entities but it can also present a public image risk if one of the companies performs in a poor or unlawful manner. Public opinion will most likely associate such actions with the entire group, regardless of the entity’s autonomy. Non-Performing Loans Ratio Romania currently has the highest NPL ratio in the region with 21.6%. While BT has done well to avoid the NPLs of the real estate sector in the last few years, it can still be affected by shocks originating from other companies that can no longer pay their suppliers, which in turn can be BT clients, resulting in NPLs on BT’s balance sheet. The high NPL ratio for Romania makes us believe this is a risk worth considering. Competition risk: BT’s competitors on the Romanian Market BT’s competitors on the Romanian market are mainly banks with foreign capital. This poses a series of risks since these companies can access a larger amount of capital and can secure foreign currency at cheaper rates. This is noteworthy in the current situation where the majority of loans are in euros. However, being a Romanian based company, BT can access cheaper RON sources and, 9 CFA Institute Research Challenge 20.02.14

most importantly, can take decisions faster, since they are not depending on a parent company for approval. Figure 23: Monte Carlo Simulation for Justified P/BV. Valuation risks Two main assumptions which were considered for valuation were: Long-term Growth rate and Return on Equity ratio. Long term growth rate is main assumption for Residual Income Model where it is stated as 3%. In addition to sensitivity analysis we perform Monte Carlo simulation to check how changes in long-term growth rate will influence our target price. Variation interval of long term growth rate is within [1% – 5%], with Standard deviation 1.37% and Median 1.5% based on Romanian Real GDP growth rates historical data. We assume that long-term growth rate follows normal distribution. Results have 90% significance. 10,000 Economic scenarios were simulated and considered. Results of stock price and relating probabilities were plotted on the graph. The mean is 1.67 which supports our hold recommendation for Residual Income model (See Appendix 40). We

perform Monte Carlo analysis for Justified P/BV model checking the effect of perpetuity rate

1.78 1.48 1.53 1.58 1.63 1.68 1.73 1.83 1.88 1.93 1.98 2.03 1.43 change on our recommendation. We assume that perpetuity rate will change in [12.36% -14.36 %] BT stock price with 90% significance having normal distribution with 0.5 % standard deviation. The results for

stock prices are plotted on graph. The mean is 1.72 which supports our hold recommendation for Justified P/BV model. Sell area -13.56%

Hold area - 60.24%

Buy area - 26.2%

Source: Team estimates

Team disclosure: We assign a BUY rating when a security is expected to deliver returns of 15% or greater over the next twelve months. A SELL rating is given when the security is expected to deliver negative returns over the next twelve months, while a HOLD rating implies flat returns over the next twelve months.

10 CFA Institute Research Challenge 20.02.14

Appendix 1: Statement of financial position

FY 09 A FY 10 A FY 11 A FY 12 A FY 13 A FY 14 F FY 15 F FY 16 F FY 17 F FY 18 F

Assets

1. Cash and cash equivalents 3,183.3 3,696.8 4,546.5 5,576.3 4,102.3 4,138.6 4,469.7 4,144.9 4,074.8 4,319.2

2. Placements with banks 1,520.7 1,221.5 769.4 1,383.1 1,758.5 1,924.0 1,929.0 1,911.4 2,038.6 2,188.0

3. Investment securities 2,645.2 3,865.7 5,933.6 6,568.9 8,947.6 10,289.7 11,524.5 12,792.2 14,071.4 15,197.1 4. Loans and advances to customers 11,542.3 12,264.8 14,035.3 15,457.5 16,667.2 18,106.4 19,666.7 21,282.5 22,920.5 24,295.8

5. Property and equipment 276.6 260.5 266.6 290.0 289.0 294.8 299.8 304.3 310.4 316.6

6. Intangible assets 10.2 47.4 69.1 80.1 82.9 85.4 88.0 91.0 94.2 97.5

7. Equity investments 95.8 105.5 70.0 74.1 74.0 74.0 74.0 74.0 74.0 74.0

8. Other assets 94.1 82.0 127.3 142.1 144.6 160.3 175.4 172.0 175.3 175.0

Total assets 19,368.3 21,544.2 25,817.8 29,572.0 32,066.0 35,073.2 38,227.0 40,772.3 43,759.2 46,663.2

Liabilities

1. Deposits from banks 259.1 333.2 251.2 46.0 419.0 350.7 382.3 407.7 437.6 466.6

2. Deposits from customers 15,059.2 17,324.4 20,280.2 23,232.9 25,803.9 27,590.8 29,798.0 31,883.9 33,956.4 35,993.7

3. Loans from banks and other financial institutions 1,865.1 1,401.4 2,469.0 2,969.3 2,067.3 2,981.2 3,249.3 3,057.9 3,063.1 3,033.1

4. Other subordinated liabilities 254.9 257.6 260.1 288.8 337.9 350.7 382.3 407.7 437.6 466.6

5. Other liabilities 99.9 155.7 237.5 340.1 355.5 275.5 370.0 320.8 393.9 336.0

17,538.4 19,472.2 23,498.0 26,877.1 28,983.5 Total liabilities 31,548.9 34,181.9 36,078.0 38,288.5 40,296.1

Equity

1. Share capital 1,176.2 1,560.5 1,860.2 1,989.5 2,292.9 2,645.7 3,061.1 3,551.0 4,161.4 4,891.6

2. Own shares 0.0 0.0 (1.9) (7.8) (0.8) (0.8) (0.8) (0.8) (0.8) (0.8)

3. Share premium 97.7 0.0 0.7 0.0 0.0 0.0 0.0 0.0 0.0 0.0

4. Retained earnings 369.8 300.4 235.0 376.1 430.1 496.9 576.0 704.3 831.6 951.6

5. Revaluation reserve 21.2 26.9 34.1 38.1 29.0 29.0 29.0 29.0 29.0 29.0

6. Other reserves 165.0 184.3 191.7 298.9 331.3 353.5 379.8 410.8 449.4 495.6 1,829.9 2,072.0 2,319.8 2,694.9 3,082.6 Total equity 3,524.3 4,045.1 4,694.3 5,470.7 6,367.1

Total liabilities and equity 19,368.3 21,544.2 25,817.8 29,572.0 32,066.0 35,073.2 38,227.0 40,772.3 43,759.2 46,663.2

Source: Company data, Team estimates

11 CFA Institute Research Challenge 20.02.14

Appendix 2: Income Statement (RON million)

FY 09 A FY 10 A FY 11 A FY 12 A FY 13 A FY 14 F FY 15 F FY 16 F FY 17 F FY 18 F

Interest income 2,060.9 1,862.7 1,804.2 2,012.4 2,093.7 2,130.7 2,177.4 2,278.1 2,367.1 2,440.4 Interest expense (1,341.5) (890.9) (932.4) (1,074.5) (899.7) (874.9) (852.7) (832.9) (808.3) (774.0)

Net interest income 719.3 971.8 871.9 937.9 1,194.0 1,255.8 1,324.7 1,445.2 1,558.8 1,666.4

Fee and commission income 396.6 401.2 441.0 487.7 435.1 487.3 545.8 605.9 666.4 726.4 Fee and commission expense (43.6) (44.2) (51.7) (63.0) (73.4) (80.0) (87.2) (94.2) (100.8) (106.8)

Net fee and commission income 353.1 357.0 389.3 424.7 361.7 407.3 458.6 511.7 565.7 619.6

Net trading income 138.9 119.0 117.1 131.2 128.8 137.9 148.9 161.5 175.3 191.0 Other operating income 29.8 18.5 24.4 42.8 39.2 41.1 43.2 45.3 47.6 50.0

Operating income 1,241.1 1,466.2 1,402.7 1,536.5 1,723.7 1,842.1 1,975.3 2,163.7 2,347.3 2,527.0

Net impairment losses on assets (415.8) (652.1) (380.8) (379.4) (407.4) (417.2) (427.0) (436.8) (446.6) (456.4) Personnel expenses (326.1) (350.9) (368.9) (409.6) (441.3) (463.4) (481.9) (498.8) (513.7) (529.2) Depreciation and amortization (61.2) (54.2) (49.3) (46.4) (56.8) (45.6) (42.7) (39.5) (36.4) (37.3)

Other operating expenses (266.6) (280.0) (325.4) (360.3) (375.1) (390.1) (403.8) (415.9) (426.3) (436.9)

Operating expenses (1,069.6) (1,337.2) (1,124.4) (1,195.8) (1,280.6) (1,316.3) (1,355.3) (1,391.0) (1,423.0) (1,459.8)

Profit before income tax 171.5 129.0 278.2 340.8 443.1 525.9 620.0 772.8 924.3 1,067.2

Income tax expense (23.3) (20.2) (49.7) (20.3) (68.2) (84.1) (99.2) (123.6) (147.9) (170.8) Taxation rate 13.6% 15.7% 17.9% 6.0% 15.4% 16.0% 16.0% 16.0% 16.0% 16.0%

Profit for the year 148.2 108.7 228.5 320.4 374.9 441.7 520.8 649.1 776.4 896.4

Source: Company data, Team estimates

12 CFA Institute Research Challenge 20.02.14

Appendix 3: Operating model FY 09 A FY 10 A FY 11 A FY 12 A FY 13 A FY 14 F FY 15 F FY 16 F FY 17 F FY 18 F Investment Securities Investment Securities 2,645.2 3,865.7 5,933.6 6,568.9 8,947.6 10,289.7 11,524.5 12,792.2 14,071.4 15,197.1 % growth 46.1% 53.5% 10.7% 36.2% 15.0% 12.0% 11.0% 10.0% 8.0%

Placements with banks Placements with banks 1,520.7 1,221.5 769.4 1,383.1 1,758.5 1,924.0 1,929.0 1,911.4 2,038.6 2,188.0 % of total assets 6.3% 3.6% 5.4% 5.9% 6.0% 5.5% 5.0% 5.0% 5.0%

Loans Loans and advances to customers, gross 12,234.0 13,542.7 15,694.6 17,568.5 19,160.3 20,693.1 22,348.5 23,912.9 25,467.3 26,995.3 % growth 10.7% 15.9% 11.9% 9.1% 8.0% 8.0% 7.0% 6.5% 6.0%

Fixed assets Property and equipment 276.6 260.5 266.6 290.0 289.0 294.8 299.8 304.3 310.4 316.6 % growth -5.8% 2.3% 8.8% (0.3%) 2.0% 1.7% 1.5% 2.0% 2.0% Intangible assets 10.2 47.4 69.1 80.1 82.9 85.4 88.0 91.0 94.2 97.5 % growth 364.4% 46.0% 15.8% 3.5% 3.0% 3.0% 3.5% 3.5% 3.5%

Other assets 94.1 82.0 127.3 142.1 144.6 160.33 175.37 172.02 175.32 175.04 % of total assets 0.4% 0.6% 0.6% 0.5% 0.5% 0.5% 0.5% 0.4% 0.4%

Deposits Loans and advances to customers, net 11,542.3 12,264.8 14,035.3 15,457.5 16,667.2 18,106.4 19,666.7 21,282.5 22,920.5 24,295.8 Allowance for loan losses (692) (1,278) (1,659) (2,111) (2,493) (2,587) (2,682) (2,630) (2,547) (2,700) % of loans and advances to customers 6.0% 10.4% 11.8% 13.7% 15.0% 12.5% 12.0% 11.0% 10.0% 10.0% Loans and advances to customers, gross 12,234.0 13,542.7 15,694.6 17,568.5 19,160.3 20,693.1 22,348.5 23,912.9 25,467.3 26,995.3 Deposits from customers 15,059.2 17,324.4 20,280.2 23,232.9 25,803.9 27,590.8 29,798.0 31,883.9 33,956.4 35,993.7 Ratio of loans / deposits 81.2% 78.2% 77.4% 75.6% 74.3% 75% 75% 75% 75% 75%

Deposits from banks 259.1 333.2 251.2 46.0 419.0 350.7 382.3 407.7 437.6 466.6 % of total assets 1.3% 1.5% 1.0% 0.2% 1.3% 1.0% 1.0% 1.0% 1.0% 1.0% Loans from banks and other financial institutions 1,865.1 1,401.4 2,469.0 2,969.3 2,067.3 2,981.2 3,249.3 3,057.9 3,063.1 3,033.1 % of total assets 9.6% 6.5% 9.6% 10.0% 6.4% 8.5% 8.5% 7.5% 7.0% 6.5% Other subordinated liabilities 254.9 257.6 260.1 288.8 337.9 350.7 382.3 407.7 437.6 466.6 % of total assets 1.3% 1.2% 1.0% 1.0% 1.1% 1.0% 1.0% 1.0% 1.0% 1.0%

Cash, deposits from customers Cash and cash equivalents 3,183.3 3,696.8 4,546.5 5,576.3 4,102.3 4,138.6 4,469.7 4,144.9 4,074.8 4,319.2 % of deposits from customers 21.1% 21.3% 22.4% 24.0% 15.9% 15.0% 15.0% 13.0% 12.0% 12.0%

Net interest income

Interest income Loans and advances to customers 1,638.0 1,537.2 1,436.3 1,425.7 1,498.5 1,502.8 1,514.3 1,553.6 1,604.4 1,652.1 % of loans and advances to customers 14.2% 12.5% 10.2% 9.2% 9.0% 8.3% 7.7% 7.3% 7.0% 6.8% Current accounts held with banks 98.7 44.4 39.4 36.8 33.1 27.3 29.1 24.9 24.4 21.6 % of cash and cash equivalents 3.1% 1.2% 0.9% 0.7% 0.8% 0.7% 0.7% 0.6% 0.6% 0.5% Available for sale securities 274.9 254.4 294.0 520.1 534.5 565.9 599.3 665.2 703.6 729.5 % of investment securities 10.4% 6.6% 5.0% 7.9% 6.0% 5.5% 5.2% 5.2% 5.0% 4.8% Placements with banks 49.3 26.7 34.6 29.8 27.6 34.6 34.7 34.4 34.7 37.2 % of placements with banks 3.2% 2.2% 4.5% 2.2% 1.6% 1.8% 1.8% 1.8% 1.7% 1.7% Total interest income 2,060.9 1,862.7 1,804.2 2,012.4 2,093.7 2,130.7 2,177.4 2,278.1 2,367.1 2,440.4

13 CFA Institute Research Challenge 20.02.14

Interest expense Deposits from customers 1,119.1 816.4 834.7 916.7 812.5 786.3 774.7 765.2 747.0 719.9 % of deposits from customer 7.4% 4.7% 4.1% 3.9% 3.1% 2.9% 2.6% 2.4% 2.2% 2.0% Loans from banks and other financial institutions 216.1 70.7 70.0 113.3 82.8 83.3 72.6 62.4 56.0 49.0 % of loans from banks and other financial institutions 10.2% 4.3% 2.6% 3.5% 3.4% 2.5% 2.0% 1.8% 1.6% 1.4% Available for sale securities 0.0 0.0 22.4 33.6 0.0 0.0 0.0 0.0 0.0 0.0 % of investment securities 0.0% 0.0% 0.4% 0.5% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% Deposits from banks 6.3 3.8 5.3 11.0 4.4 5.3 5.4 5.3 5.3 5.1 % of deposits from banks 2.4% 1.1% 2.1% 23.9% 1.1% 1.5% 1.4% 1.3% 1.2% 1.1% Total interest expense 1,341.5 890.9 932.4 1,074.5 899.739 874.9 852.7 832.9 808.3 774.0

Net fee and commission income Fee and commission income 396.6 401.2 441.0 487.7 435.1 487.3 545.8 605.9 666.4 726.4 % growth 1.1% 9.9% 10.6% (10.8%) 12.0% 12.0% 11.0% 10.0% 9.0% Fee and commission expense 43.6 44.2 51.7 63.0 73.4 80.0 87.2 94.2 100.8 106.8 % growth 1.5% 16.9% 21.9% 16.5% 9.0% 9.0% 8.0% 7.0% 6.0%

Net trading income 138.9 119.0 117.1 131.2 128.8 137.9 148.9 161.5 175.3 191.0 % growth (14.3%) (1.6%) 12.0% (1.8%) 7.0% 8.0% 8.5% 8.5% 9.0% Other operating income 29.8 18.5 24.4 42.8 39.2 41.1 43.2 45.3 47.6 50.0 % growth (38.1%) 32.1% 75.3% (8.5%) 5.0% 5.0% 5.0% 5.0% 5.0%

Operating expenses Net impairment losses on assets 415.8 652.1 380.8 379.4 407.4 417.2 427.0 436.8 446.6 456.4 % of loans and advances to customers 3.6% 5.3% 2.7% 2.5% 2.4% 2.4% 2.4% 2.3% 2.3% 2.2% Personnel expenses 326.1 350.9 368.9 409.6 441.3 463.4 481.9 498.8 513.7 529.2 % growth 7.6% 5.1% 11.0% 7.7% 5.0% 4.0% 3.5% 3.0% 3.0% Depreciation and amortization 61.2 54.2 49.3 46.4 56.8 45.6 42.7 39.5 36.4 37.3 % of fixed assets 21.3% 17.6% 14.7% 12.5% 15.3% 12.0% 11.0% 10.0% 9.0% 9.0% Other operating expenses 266.6 280.0 325.4 360.3 375.1 390.1 403.8 415.9 426.3 436.9 % growth 5.0% 16.2% 10.7% 4.1% 4.0% 3.5% 3.0% 2.5% 2.5%

Source: Team estimates

14 CFA Institute Research Challenge 20.02.14

Appendix 4: Residual income model

FY 09 A FY 10 A FY 11 A FY 12 A FY 13 A FY 14 F FY 15 F FY 16 F FY 17 F FY 18 F Profit for the year 148.2 108.7 228.5 320.4 374.9 441.7 520.8 649.1 776.4 896.4 Total equity 1,829.9 2,072.0 2,319.8 2,694.9 3,082.6 3,524.3 4,045.1 4,694.3 5,470.7 6,367.1 Residual Income (160.0) (73.9) (24.9) (23.0) (13.3) (0.5) 39.8 49.9 17.8

ROE 5.57% 10.41% 12.78% 12.98% 13.37% 13.76% 14.86% 15.28% 15.15%

Valuation 31-12-2014 (RON million)

FY 09 A FY 10 A FY 11 A FY 12 A FY 13 A FY 14 F FY 15 F FY 16 F FY 17 F FY 18 F Residual income (0.5) 39.8 49.9 17.8

Continuing value 177.4

Discount factor 0.879 0.771 0.675 0.588

Present value of RI and CV (0.4) 30.7 33.7 114.7 Sum of PV of Residual Income 178.7

Total equity 3,524.3

Value of equity 3,703.0

Number of shares (millions) 2,206.44

TLV value / share 1.68

Source: Team estimates

Appendix 5: Justified P/BV model

FY 18 F Total equity 6,367.1 Justified PB 3,790.9

Number of shares (millions) 2,206.4 TLV value / share 1.72

FY 15 F FY 16 F FY 17 F FY 18 F Perpetuity Cost of equity 13.77% 13.94% 14.29% 14.84% 13.36%

Discount rate 0.879 0.771 0.675 0.588

CV assumptions ROE 13.5% Long-term growth rate 3.0%

Source: team estimates

15 CFA Institute Research Challenge 20.02.14

Appendix 6: Cost of equity

FY 15 F FY 16 F FY 17 F FY 18 F Perpetuity YTM Romanian government bond 3.67% 3.84% 4.19% 4.74%

YTM 30yrs German government bonds 2.53% Long-term inflation differential 0.73% Risk-free rate 3.26%

Equity risk premium 9.13% 9.13% 9.13% 9.13% 9.13% Adjusted β 1.11 1.11 1.11 1.11 1.11 Cost of equity 13.77% 13.94% 14.29% 14.84% 13.36%

Total ERP 9.13% Country risk premium 3.38% Equity risk premium 5.75%

Raw β 1.16 Bloomberg adjusted β 1.11

Differential inflation Long -term target CPI Romania 2.50% CPI Germany 1.77%

Source: team estimates

16 CFA Institute Research Challenge 20.02.14

Appendix 7: BT loans and Advances to customers

In RON thousands 31-Dec-12 31-Dec-11 2011-2012 % increase Individuals 6,325,313 5,819,493 8.69% Trading 2,882,807 2,712,410 6.28% Manufacturing 2,507,113 2,196,027 14.17% Construction 990,287 838,050 18.17% Services 941,908 829,219 13.59% Transport 702,256 632,995 10.94% Real Estate 526,755 474,057 11.12% Agriculture 729,524 560,453 30.17% Free Lancers 382,202 340,535 12.24% Chemical Industry 315,305 322,707 -2.29% Energy Industry 322,277 249,034 29.41% Financial Institutions 312,254 197,103 58.42% Telecommunication 125,484 108,477 15.68% Mining Industry 170,697 142,517 19.77% Fishing Industry 7,255 4,607 57.48% Government Bodies 31,030 27,560 12.59% Others 296,018 239,398 23.65%

Total loans and Advances to customers before 17,568,485 15,694,642 11.94% impairment allowance

Less allowances for impairment losses on loans (2,111,004) (1,659,352) 27.22%

Allowances for impairment losses on loans as a % of Total loans and Advances to customers 12.02% 10.57% before impairment allowance

Total loans and advance to customers, net of 15,457,481 14,035,290 10.13% impairment allowance

Source: NBR

Appendix 8: Advantages of Flexube core-banking system

For the customer For the bank  Client enrollment is just a matter of signing  Process automation and optimization the form  Customer electronic files (ID scan included)  Account attachments are automatically posted  Customer info update for all  Centralization of IT infrastructure agencies/branches  24/7 available e-channels: a key ingredient for self-banking  Account statements available in all branches and Internet Banking  Reconciliation and automatic transfer of bill payments  End of day/month processes considerably faster

Source: Company data

17 CFA Institute Research Challenge 20.02.14

Appendix 9 Real GDP growth rate of EU countries

6

4

2

0

-2

Italy

Spain

Malta

Latvia

France

Cyprus

Poland

Ireland Austria

-4 Greece

Croatia

Finland

Estonia

Sweden

Belgium

Bulgaria

Slovakia

Slovenia

Hungary

Portugal

Romania

Denmark

Germany

Lithuania Netherlands

-6 Luxembourg

Czech Republic Czech UnitedKingdom

-8

Source: Eurostat

Appendix 10: GDP per capita of Romania.

7,000

6,000

5,000

4,000

3,000

2,000

1,000

0 2004 2005 2006 2007 2008 2009 2010 2011 2012

Source: Eurostat

18 CFA Institute Research Challenge 20.02.14

Appendix 11: GDP per capita of EU countries

Country 2004 2005 2006 2007 2008 2009 2010 2011 2012 Serbia 2,500 2,700 3,100 3,900 4,400 4,000 3,800 4,400 4,100 Bulgaria 2,600 3,000 3,400 4,000 4,600 4,600 4,800 5,200 5,400 Romania 2,800 3,700 4,500 5,800 6,500 5,500 5,800 6,200 6,200 Hungary 8,100 8,800 8,900 9,900 10,500 9,100 9,600 9,900 9,800 Poland 5,300 6,400 7,100 8,200 9,500 8,100 9,200 9,600 9,900 Croatia 7,400 8,100 8,900 9,800 10,700 10,100 10,100 10,400 10,300 Latvia 4,900 5,800 7,200 9,600 10,500 8,600 8,600 9,800 10,900 Lithuania 5,400 6,300 7,400 8,900 10,100 8,400 8,900 10,200 11,000 Estonia 7,200 8,300 10,000 12,000 12,100 10,400 10,700 12,100 13,000 Slovakia 6,300 7,100 8,300 10,200 11,900 11,600 12,100 12,800 13,200 Czech Republic 9,000 10,200 11,500 12,800 14,800 13,600 14,300 14,800 14,600 Portugal 14,200 14,600 15,200 16,000 16,200 15,900 16,300 16,100 15,600 Malta 11,600 12,200 12,800 13,700 14,600 14,400 15,400 16,000 16,300 Greece 16,700 17,400 18,700 19,900 20,800 20,500 19,600 18,500 17,200 Slovenia 13,600 14,400 15,500 17,100 18,400 17,300 17,300 17,600 17,200 Cyprus 17,300 18,400 19,500 20,700 21,800 20,900 21,000 21,100 20,700 Spain 19,700 21,000 22,400 23,500 23,900 22,800 22,700 22,700 22,300 European Union (28 countries) 21,600 22,400 23,600 24,900 25,000 23,400 24,400 25,100 25,500 European Union (27 countries) 21,700 22,500 23,700 25,100 25,100 23,500 24,500 25,200 25,600 Italy 24,000 24,500 25,300 26,200 26,300 25,200 25,700 26,000 25,700 Euro area (18 countries) 24,300 25,000 26,200 27,500 28,000 26,900 27,500 28,200 28,400 Euro area (EA11-2000, EA12-2006, EA13- 2007, EA15-2008, EA16-2010, EA17-2013, 24,900 25,600 26,800 28,000 28,400 27,100 27,700 28,400 28,500 EA18) Euro area (17 countries) 24,400 25,200 26,300 27,600 28,100 27,000 27,700 28,400 28,500 Euro area (12 countries) 24,900 25,600 26,800 28,000 28,500 27,400 28,100 28,800 28,900 European Union (15 countries) 26,000 26,800 28,100 29,400 29,100 27,400 28,500 29,200 29,700 United Kingdom 29,900 31,000 32,700 34,200 29,900 25,700 27,800 28,200 30,300 France 26,500 27,300 28,400 29,600 30,100 29,300 29,900 30,700 31,100 Germany (until 1990 former territory of the 26,600 27,000 28,100 29,500 30,100 29,000 30,500 31,900 32,600 FRG) Iceland 36,500 44,300 43,800 48,000 32,200 27,200 29,800 31,600 32,900 Belgium 28,000 29,000 30,200 31,600 32,400 31,600 32,700 33,600 34,000 Finland 29,100 30,000 31,500 34,000 34,900 32,300 33,300 35,000 35,500 Ireland 36,900 39,200 41,600 43,100 40,100 35,800 34,700 35,500 35,700 Netherlands 30,200 31,500 33,100 34,900 36,200 34,700 35,300 35,900 35,800 Austria 28,700 29,800 31,300 33,000 34,000 33,100 34,100 35,700 36,400 Sweden 32,400 33,000 35,000 36,900 36,100 31,500 37,300 40,800 42,800 Denmark 36,500 38,300 40,200 41,700 42,800 40,500 42,600 43,200 43,900 Switzerland 40,400 41,300 42,700 43,200 46,400 47,100 53,300 60,300 61,900 Norway 45,600 52,900 58,100 61,100 65,300 56,500 65,000 71,300 77,500 Luxembourg 59,900 65,000 71,700 78,000 76,400 71,400 77,400 80,300 80,700

Source: Eurostat

19 CFA Institute Research Challenge 20.02.14

Appendix 12: Unemployment rate of EU countries Appendix 13: Labor force demand

Country 2012 2013 Vacancies Hiring Period Austria 4.3 : thousand; monthly averages Luxembourg 5.1 5.9 2011Q1 39.2 30.8 Netherlands 5.3 6.7 2011Q2 42.4 31.2 Germany 5.5 5.3 2011Q3 38.3 30.4 Malta 6.4 6.5 2011Q4 36.7 26.5 Czech 7 7 2012Q1 36.9 26.4 Republic 37.9 26.3 Romania 7 7.2 2012Q2 Denmark 7.5 7 2012Q3 37.8 26.6 Belgium 7.6 8.4 2012Q4 38.6 26.8 Finland 7.7 8.2 2013Q1 39.0 26.5 United 2013Q2 39.6 26.4 7.9 : Kingdom 2013Q3 41.5 27.0 Sweden 8 8 2013 Oct.-Nov 43.0 26.5 Slovenia 8.9 10.2 Poland 10.1 10.4 Source: NIS, NBR Estonia 10.2 : France 10.2 10.8 Italy 10.7 : Hungary 10.9 : Cyprus 11.9 16 Bulgaria 12.3 12.9 Lithuania 13.4 11.8 Slovakia 14 14.2 Ireland 14.7 13.1 Latvia 15 : Croatia 15.9 17.6 Portugal 15.9 16.5 Greece 24.3 : Spain 25 26.4 : Missing data

Source: Eurostat

20 CFA Institute Research Challenge 20.02.14

Appendix 14: USD/RON and EUR/RON exchange rate dynamics.

4.7500

4.5000

4.2500

4.0000

3.7500

3.5000

3.2500

3.0000

2.7500

2.5000

USD/RON EUR/RON

Source: NBR

Appendix 15(9): Private sector loans in domestic and foreign currencies 70.00 60.00 50.00 40.00 30.00 20.00 10.00

0.00

Jul/2006 Jul/2011

Jan/2009 Jan/2004

Jun/2004 Jun/2009

Oct/2002 Oct/2007 Oct/2012

Apr/2005 Apr/2010

Feb/2011 Sep/2005 Feb/2006 Sep/2010

Dec/2001 Dec/2006 Dec/2011

Aug/2003 Aug/2008 Aug/2013

Nov/2004 Nov/2009

Mar/2003 Mar/2008 Mar/2013

May/2002 May/2007 May/2012

loans to private sector in domestic currency percent loans to private sector in foreign currency

Source: NBR

21 CFA Institute Research Challenge 20.02.14

Appendix 16: Total investment % of GDP of EU countries

Country 2008 2009 2010 2011 2012 Romania 31.92 24.43 24.71 25.97 27.125 Estonia 30.31 21.19 18.97 23.59 25.22 Czech Republic 26.8 24.64 24.55 24.13 23.09 Latvia 29.65 21.58 18.22 21.33 22.79 Austria 21.63 20.7 20.16 21.22 21.44 Bulgaria 33.6 28.87 22.8 21.55 21.4 Norway 21.18 21.64 18.94 19.61 20.75 Belgium 22.31 20.81 20.1 20.72 20.36 Slovakia 24.8 20.74 21.02 23.14 20.11 France 21.31 19.49 19.47 19.98 19.77 Finland 21.36 19.73 18.85 19.41 19.59 Luxembourg 21.44 19.22 17.36 18.54 19.29 Spain 28.69 23.63 22.23 20.71 19.19 Poland 22.26 21.17 19.86 20.2 19.15 Sweden 20.03 17.99 18.03 18.7 18.99 Euro area (17 countries) 21.79 19.66 19.23 19.32 18.66 EU (28 countries) : : : : 18.29 Italy 20.99 19.39 19.42 19.07 17.91 Slovenia 28.63 23.06 19.71 18.59 17.76 Germany 18.58 17.21 17.44 18.13 17.65 Hungary 21.7 20.69 18.56 17.91 17.4 Denmark 21.03 18.07 16.92 17.35 17.39 Netherlands 20.5 18.98 17.36 17.84 17.02 Lithuania 25.35 17.18 16.29 18.03 16.65 Portugal 22.46 20.55 19.57 17.99 16.03 Malta 18.42 16.84 17.62 15.11 14.76 United Kingdom 16.79 14.9 14.89 14.36 14.37 Cyprus 22.94 20.54 19.14 16.64 13.71 Greece 22.56 19.88 17.64 15.15 13.14 Ireland 21.98 16.06 12.17 10.63 10.69 Switzerland 21.27 19.92 20.08 20.56 : : Missing data

Source: Eurostat, NBR

22 CFA Institute Research Challenge 20.02.14

Appendix 17: Investment and Savings Rates, Current account deficit of Romania

Current account Period Investment rate Saving rate deficit/GDP Quarters' average (%)

2011Q1 25.5 21.8 3.7 2011Q2 26.1 22.1 4.0 2011Q3 26.8 22.5 4.3 2011Q4 26.9 22.4 4.5 2012Q1 27.0 22.1 4.8 2012Q2 27.1 22.7 4.4 2012Q3 27.4 22.9 4.5 2012Q4 27.0 22.6 4.4 2013Q1 26.4 22.8 3.6 2013Q2 25.0 23.2 1.8 2013Q3 24.5 23.3 1.2 Domestic investment rate is the ratio of gross capital formation to GDP. Domestic saving rate is the difference between national gross disposable income and final consumption as a share of GDP.

Source: NBR, NIS

Appendix 18: Money aggregates M3 (Broad money) (RON thousand)

300,000,000.0

250,000,000.0

200,000,000.0

150,000,000.0

100,000,000.0

50,000,000.0

0.0

Jan. 2013 Jan. Jan. 2007 Jan. 2008 Jan. 2009 Jan. 2010 Jan. 2011 Jan. 2012 Jan.

Sep. 2007 Sep. 2008 Sep. 2009 Sep. 2010 Sep. 2011 Sep. 2012 Sep. 2013 Sep.

May. 2007 May. May. 2009 May. 2010 May. 2011 May. 2012 May. 2013 May. May. 2008 May.

M1 (Narrow money) 80,000,000.0 70,000,000.0 60,000,000.0 50,000,000.0 40,000,000.0 30,000,000.0 20,000,000.0 10,000,000.0

0.0

Jan. 2007 Jan. 2008 Jan. 2009 Jan. 2010 Jan. 2011 Jan. 2012 Jan. 2013 Jan.

Sep. 2007 Sep. 2008 Sep. 2009 Sep. 2010 Sep. 2011 Sep. 2012 Sep. 2013 Sep.

May. 2010 May. May. 2007 May. 2008 May. 2009 May. 2011 May. 2012 May. 2013 May. M1 (Narrow money) currency in circulation (RON thousand) M1 (Narrow money) overnight deposits (RON thousand)

Source: NBR 23 CFA Institute Research Challenge 20.02.14

Appendix 19: Number of banks and population of EU countries

Banks/100,000 Country Population Nr of banks citizens Romania 20,121,641 39 0.193821 Greece 10,815,197 40 0.369850 Bulgaria 7,364,570 30 0.407356 Slovakia 5,410,836 28 0.517480 Czech Republic 10,513,209 56 0.532663 United Kingdom 63,181,775 358 0.566619 Spain 46,704,314 290 0.620928 Croatia 4,284,889 35 0.816824 Belgium 11,099,554 103 0.927965 France 66,616,416 623 0.935205 Slovenia 2,055,496 23 1.118951 Italy 59,685,227 694 1.162767 Portugal 10,487,289 151 1.439838 Netherlands 16,819,595 253 1.504198 Sweden 9,633,490 168 1.743916 Poland 38,186,860 691 1.809523 Hungary 9,908,798 189 1.907396 Germany 80,585,700 1842 2.285765 Estonia 1,311,870 31 2.363039 Denmark 5,602,536 161 2.873699 Lithuania 2,955,986 91 3.078499 Latvia 2,005,200 63 3.141831 Finland 5,454,444 303 5.555103 Malta 452,515 27 5.966653 Austria 8,414,638 731 8.687242 Cyprus 1,117,000 101 9.042077 Ireland 4,593,100 458 9.971479 Luxemburg 537,853 147 27.330888 Source: European Banking Federation

24 CFA Institute Research Challenge 20.02.14

Appendix 20: Number of branches Appendix 21: Number of branches in Romania In EU countries

Branches per 6,800 74 Country 100,000 6,600 72 inhabitants 6,400 70 Austria 53 6,200 68 6,000 66 64 Bulgaria 52 5,800 62 Czech Republic 20 5,600 60 Estonia 13 5,400 58 5,200 56 France 59 5,000 54 Germany 44 4,800 52 Greece 32

Italy 53

Apr/2008 Apr/2009 Apr/2010 Apr/2011 Apr/2012 Apr/2013

Dec/2008 Dec/2011 Dec/2007 Dec/2009 Dec/2010 Dec/2012

Aug/2009 Aug/2010 Aug/2011 Aug/2012 Latvia 20 Aug/2008 Lithuania 23 branches thou. employees The Netherlands 15

Poland 39 Source: NBR Portugal 59 Slovakia 20 Slovenia 34 Spain 83 Hungary 33 EU-27 average 43

Romania 2011 30

Romania 2012 28 Romania 2013 27 Q2

Source: European Banking Federation

25 CFA Institute Research Challenge 20.02.14

Appendix 22: Concentration of Romanian banking system

Assets of top five banks as a Loans of top five banks as Deposits of top five banks as Period share in total assets (%) a share in total loans (%) a share in total deposits (%) 2008 54.3 53.3 54.0 2009 52.4 53.4 52.0 2010 52.7 51.5 55.4 2011 54.6 52.3 58.0 2012 54.7 54.4 54.9 Aug/2013 54.0 55.9 53.5

60.0

58.0

56.0

54.0

52.0

50.0

48.0 2008 2009 2010 2011 2012 Aug/2013 Assets of top five banks as a share in total assets percent

Loans of top five banks as a share in total loans

Deposits of top five banks as a share in total deposits

Source: NBR, ECB (Statistical Data Warehouse)

26 CFA Institute Research Challenge 20.02.14

Appendix 23: Herfindahl-Hirschmann index values for EU countries

Market share of HH index (point) Country top five banks (%) Austria 36 395 Bulgaria 50 738 Czech Republic 61 999 Estonia 90 2,493 France 45 545 Germany 33 307 Greece 79 1,487 Italy 40 410 Latvia 64 1,027 Lithuania 84 1,749 The Netherlands 82 2,026 Poland 44 568 Portugal 71 1,191 Slovakia 72 1,221 Slovenia 58 1,115 Spain 51 654 Hungary 54 806 EU-27 average 59 1,066 Romania* 54 834

3,000

2,500

2,000

1,500

1,000

500

0

Source: ECB (Statistical Data Warehouse)

The Herfindahl index (also known as Herfindahl–Hirschman Index, or HHI) is a measure of the size of firms in relation to the industry and an indicator of the amount of competition among them. Named after economists Orris C. Herfindahl and Albert O. Hirschman, it is an economic concept widely applied in competition, antitrust and also technology management. It is defined as the sum of the squares of the market shares of the 50 largest firms (or summed over all the firms if there are fewer than 50) within the industry, where the market shares are expressed as fractions. The result is proportional to the average market share, weighted by market share. As such, it can range from 0 to 1.0, moving from a huge number of very small firms to a single monopolistic producer. Increases in the Herfindahl index generally indicate a decrease in competition and an increase of market power, whereas decreases indicate the opposite. Alternatively, if whole percentages are used, the index ranges from 0 to 10,000 "points".

27 CFA Institute Research Challenge 20.02.14

Appendix 24: Credit institutions and branches with foreign capital in EU countries

Assets of foreign-owned credit Credit institutions (branches and subsidiaries) institutions as a share in total Country with foreign capital. (Number) assets. (%) Estonia 96.40 13 Lithuania 94.43 12 Czech Rep. 92.68 38 Romania* 90.80 36 Slovakia 88.36 26 Bulgaria 73.58 22 Poland 61.93 56 Latvia 61.32 16 Hungary 58.13 27 Slovenia 29.48 10 Austria 27.16 64 Portugal 22.49 35 Greece 15.42 27 The Netherlands 10.17 62 Italy 8.66 102 Spain 7.44 128 Germany 4.09 145 France 3.33 204 Aug. 2013

Source: ECB (Statistical Data Warehouse)

Appendix 25: Liability structure of credit institutions operating in Romania

Dec. Dec. Dec. Dec. Dec. Jun. Aug. Dec. Mar. Aug. Liabilities 2008 2009 2010 2008 2011 2012 2012 2012 2013 2013 Domestic Liabilities, of which 69.3* 73.6 73.2 73.5 75.2 76.1 76.8 77.8 78.0 78.6 -Interbank deposits 2.1 5.4 3.4 3.4 5.0 4.7 4.6 2.5 2.2 1.9 -Government sector deposits 3.1 2.1 1.7 1.4 1.5 1.4 1.3 1.3 1.3 1.4 -Corporate deposits 20.2 19.3 19.0 19.0 17.7 18.3 18.5 18.9 19.1 19.5 -Houshold deposits 24.4 26.7 27.0 28.7 29.2 29.5 30.2 31.7 31.6 31.8 -Capital and reserves 10.6 12.0 14.2 16.2 16.9 17.3 18.0 18.8 19.3 19.7 -Other liabilities 8.9 8.1 7.9 4.8 4.9 4.9 4.2 4.6 4.4 4.3 -Foreign liabilities 30.7 26.4 26.8 26.5 24.8 23.9 23.2 22.2 22.0 21.4

*-percent of total liabilities

Source: NBR

28 CFA Institute Research Challenge 20.02.14

Appendix 26: Financial intermediation, international comparison

Country Assets/GDP (%) Loans/GDP (%) Deposits/GDP (%) Austria 315.50 112.44 104.66 Bulgaria 114.45 70.84 69.07 Czech Republic 125.86 55.35 75.04 Estonia 115.89 78.83 58.83 France 397.38 105.99 95.35 Germany 311.12 98.09 118.86 Greece 228.23 118.30 86.66 Italy 269.52 112.19 95.70 Latvia 128.49 65.59 37.74 Lithuania 74.25 48.99 38.95 The Netherlands 415.79 177.98 149.38 Poland 93.05 53.72 52.83 Portugal 337.13 152.32 127.45 Slovakia 83.54 49.54 56.81 Slovenia 143.23 84.59 58.93 Spain 341.21 156.76 145.02 Hungary 114.26 53.85 48.63 EU-27 351.72 120.03 113.43 Romania 68.93 38.44 33.58

Source: NBR, ECB (Statistical Data Warehouse)

Assets/GDP Loans/GDP Deposits/GDP

Max Max Max

The Netherlands 415.79 The Netherlands 177.98 The Netherlands 149.38

Min Min Min

Romania 68.93 Romania 38.44 Romania 33.58 Median Median Median

143.23 84.59 75.04

EU-27 351.72 120.03 113.43

Source: Team estimates

29 CFA Institute Research Challenge 20.02.14

Appendix 27: Credit to households; lending for house purchase; RON

4,000,000.0

3,500,000.0

3,000,000.0

2,500,000.0

2,000,000.0

1,500,000.0 RonThousands 1,000,000.0

500,000.0

0.0

Jan. 2007 Jan. Jan. 2008 Jan. 2009 Jan. 2010 Jan. 2011 Jan. 2012 Jan. 2013 Jan.

Sep. 2007 Sep. 2008 Sep. 2009 Sep. 2010 Sep. 2011 Sep. 2012 Sep. 2013 Sep.

May. 2011 May. May. 2008 May. 2009 May. 2010 May. 2012 May. 2013 May. May. 2007 May.

140,000,000.0

120,000,000.0

100,000,000.0

80,000,000.0

60,000,000.0 RonThousands

40,000,000.0

20,000,000.0

Jul. 2007 Jul. 2008 Jul. 2009 Jul. 2010 Jul. 2011 Jul. 2012 Jul. 2013 Jul.

Jan. 2007 Jan. 2008 Jan. 2009 Jan. 2010 Jan. 2011 Jan. 2012 Jan. 2013 Jan.

Oct. 2009 Oct. 2010 Oct. 2011 Oct. 2012 Oct. Oct. 2007 Oct. 2008 Oct. 2013 Oct.

Apr. 2007 Apr. 2008 Apr. 2009 Apr. 2010 Apr. 2011 Apr. 2012 Apr. 2013 Apr.

Credit to households (RON thousand) Deposit from households

30 CFA Institute Research Challenge 20.02.14

Appendix 28: Bank distribution in terms of solvency ratio

8 - 10% 10 - 12% 12 - 16% 16 - 20% 20 - 24% 24 - 30% above 30% Period Number of banks Dec/2008 2 6 9 4 2 3 6 Dec/2009 0 2 14 7 2 2 4 Dec/2010 0 2 16 7 0 3 4 Dec/2011 2 3 8 9 5 1 4 Jun/2012 1 4 10 7 6 0 4 Dec/2012 1 2 15 4 4 2 3 Mar/2013 1 4 15 6 0 1 4 Jun/2013 1 5 14 5 0 1 5

Source: NBR

Appendix 29: NPL ratio of credit institutions (%)

25.00

20.00

15.00

10.00

5.00

0.00

Jul/2008 Jul/2009 Jul/2010 Jul/2011 Jul/2012

Jan/2009 Jan/2010 Jan/2011 Jan/2012 Jan/2013

Sep/2012 Sep/2008 Sep/2009 Sep/2010 Sep/2011

Nov/2008 Nov/2009 Nov/2010 Nov/2011 Nov/2012

Mar/2008 Mar/2009 Mar/2010 Mar/2011 Mar/2012 Mar/2013

May/2009 May/2010 May/2011 May/2012 May/2013 May/2008

Source: NBR

Appendix 30: Distribution of credit institutions’ market share based on ROA

Period ROA<0 0≤ROA<1 1≤ROA<2 2≤<=ROA<3 ROA≥3

2008 9.9 22.8 32.2 6.7 28.3

2009 21.0 47.7 30.1 0.1 1.0

2010 21.9 53.6 21.7 2.8 0.0

2011 44.7 28.8 24.8 1.6 0.0

2012 59.8 18.2 19.8 2.2 0.0

Source: NBR

31 CFA Institute Research Challenge 20.02.14

Appendix 31: Romanian banking sector everyday transactions activity

Active cards (units) ATMs (units)

12,000,000 12,000

11,000,000 11,000

10,000,000 10,000

9,000,000 9,000

8,000,000 8,000

7,000,000 7,000

6,000,000 6,000

Jul. 2011 Jul.

Jan. 2009 Jan.

Jun. 2009 Jun.

Oct. 2012 Oct.

Apr. 2010 Apr.

Sep. 2010 Sep. 2011 Feb.

Sep. 2008 Sep. 2009 Sep. 2010 Sep. 2011 Sep. 2012 Sep. 2013 Sep.

Dec. 2011 Dec.

Aug. 2008 Aug. 2013 Aug.

Nov. 2009 Nov.

Mar. 2008 Mar. 2013 Mar.

Mar. 2008 Mar. 2009 Mar. 2010 Mar. 2011 Mar. 2012 Mar. 2013 Mar. May. 2012 May.

POS terminals (units) Cards in circulation (units) 140,000 14,500,000

130,000 14,000,000 120,000 13,500,000 110,000 100,000 13,000,000

90,000 12,500,000 80,000 12,000,000 70,000

60,000 11,500,000

Jul. 2011 Jul.

Jan. 2009 Jan.

Jul. 2011 Jul.

Jun. 2009 Jun.

Oct. 2012 Oct.

Apr. 2010 Apr.

Sep. 2010 Sep. 2011 Feb.

Dec. 2011 Dec.

Aug. 2008 Aug. 2013 Aug.

Jan. 2009 Jan.

Nov. 2009 Nov.

Jun. 2009 Jun.

Oct. 2012 Oct.

Mar. 2008 Mar. 2013 Mar.

Apr. 2010 Apr.

Sep. 2010 Sep. 2011 Feb.

May. 2012 May.

Dec. 2011 Dec.

Aug. 2008 Aug. 2013 Aug.

Nov. 2009 Nov.

Mar. 2008 Mar. 2013 Mar. May. 2012 May.

Source: NBR

32 CFA Institute Research Challenge 20.02.14

Appendix 32: Porter Analysis

Threat of Entry Scale of interaction

1. Capital Requirements 0 No interaction 2. Product differentiation for overcoming customer loyalty 1 Insignificant 3. NBR supervision 4. Existence of economies of scale 2 Low Bargaining power of suppliers 1. Specialized labor force required 3 Average 2. Limited number of input sources 3. Strong position of labor unions 4 High

Bargaining power of customers 5 Very high 1. Undifferentiated product 2. Price sensitivity of customers 3. Large volume customers

Threat of Substitute Products Forces Points

1. No perfect substitute for loans Threat of Entry 3 2. Substandard product 3. Government programs existence Bargaining power of suppliers 3

Bargaining power of customers 2 Competition in the industry 1. Relatively large competitors Threat of Substitute Products 2 2. Law product differentiation. 3. Fixed costs are high Competition in the industry 4 4. The rivals are diverse in strategies Final rating 2.2 5. High exit barriers

Threat of Entry

Competition in the Bargaining power of industry suppliers

Threat of Substitute Bargaining power of Products customers

Source: Team Estimates

33 CFA Institute Research Challenge 20.02.14

Appendix 33: BT and BRD equity comparison 1.8 1.7 1.6 1.5 1.4 1.3 1.2 1.1 1 0.9 0.8

TLV RO equity BRD (Reference date 01.03.2013 )

Source: Bloomberg

Appendix 34: BET2, BET-C3, CECEBNK4, SX7E5 Index comparison with BT

1.8

1.7

1.6

1.5

1.4

1.3

1.2

1.1

1

0.9

0.8 Jan-13 Feb-13 Mar-13 Apr-13 May-13 Jun-13 Jul-13 Aug-13 Sep-13 Oct-13 Nov-13 Dec-13 Jan-14 Feb-14

BET-C Index (Reference date 01.03.2013 ) TLV RO equity SX7E Index (Reference date 01.03.2013) CECEBNK Index (Reference date 01.03.2013) BET Index ( Referrence date 01.03.2013)

2 Bucharest Stock Exchange Trading Index 3 BET-composite 4 The CECE Banking Index consists of blue chip stocks of the banking sector which are traded on stock exchanges in the region of Central, Eastern and South-eastern Europe 5 SX7E – Euro STOXX Banks index 34 CFA Institute Research Challenge 20.02.14

Appendix 35: BET, WIG6, BUX7 and FTASE8 Index comparison

1.4

1.2

1

0.8

0.6

0.4

0.2

0

Jul-11 Jul-12

Jan-11 Jan-12 Jan-13

Jun-11 Jun-12 Jun-13

Oct-11 Oct-12

Apr-11 Apr-12 Apr-13

Feb-11 Sep-11 Feb-12 Sep-12 Feb-13

Dec-11 Dec-12

Aug-11 Aug-12

Nov-11 Nov-12

Mar-11 Mar-12 Mar-13

May-11 May-12 May-13

BET (RO) WIG (PL) BUX (HU) FTASE (GR)

Source: Bloomberg

Appendix 36: Regression Analysis

We have conducted simple regression analysis between BT returns and BET index returns in order to identify the value Beta.

Dependent Variable: TLV_CLOSE_PRICE_RETURN Method: Least Squares Sample: 1 271 Included observations: 271 Variable Coefficient STd. Error t-Statistics Prob. BET_INDEXRETURN 1.166806 0.091560 12.74367 0.0000

R-squared 0.372131 Mean dependent var. 0.104347

Adjusted R-squared 0.372131 S.D dependent var. 1.406576

S.E of regression 1.114546 Akaike info criterion 3.058454

Sum squared residuals 335.3974 Schwarz criterion 3.071746

Log likelihood -413.4206 Hannan-Quinn criterion 3.063791

Durbin-Watson statistics 1.918392

Source: Team estimates

6 WIG – Warsaw stock exchange index 7 BUX-Budapest stock exchange index 8 FTASE – FTSE/Athens stock exchange large cap index 35 CFA Institute Research Challenge 20.02.14

Appendix 37: Objectives and results of BT (2013

Objectives of BT for 2013 Results (based on Dec 2013)

Total assets: 8% increase + 8.4% Total credits: 8% increase + 7.83% Total resources from clients: 10% increase + 11.07 % Credits / Deposits: 74.63% 74.25% Cost / Income: maximum 52% 48.7%

Source: Company data

Appendix 38: Corporate Governance

BT’s score BT’s score for OECD Criteria after applying each criteria weights 10% Ensuring the Basis for an Effective 20% 10 Corporate Governance Framework 1 The Rights of Shareholders and Key 9 20% Ownership Functions 1.8 The Equitable Treatment of 8 20% Shareholders 1.6 The Role of Stakeholders in 10 Corporate Governance 1 20% 10% Disclosure and Transparency 9 1.8 The Responsibilities of the Board 9 1.8 SUM 9

Source: Team estimates

36 CFA Institute Research Challenge 20.02.14

Appendix 39: Risk matrix

Increase in energy and labor costs

Currency

risk

PPROBABILIT Y Non- BT’s Trading Performing competitors losses Loans

Romania Company enters identity Eurozone

Low Moderate High

Insignificant Moderate Severe

IMPACT

Economic Operational Market risk risk risk

Source: Team estimates

Appendix 40: Monte Carlo Simulation for Residual Income model based on long-term growth rate changes

10.00% 9.00% 8.00% 7.00% 6.00% 5.00% 4.00% 3.00% 2.00% 1.00% 0.00%

Source: Team estimates

37

Disclosures: Ownership and material conflicts of interest: The authors, or a member of their household, of this report do not hold a financial interest in the securities of this company. The authors, or a member of their household, of this report do not know of the existence of any conflicts of interest that might bias the content or publication of this report. Receipt of compensation: Compensation of the author(s) of this report is not based on investment banking revenue. Position as a officer or director: The authors or a member of their household do not serve as an officer, director or advisory board member of the subject company. Market making: The authors do not act as a market maker in the subject company’s securities. Disclaimer: The information set forth herein has been obtained or derived from sources generally available to the public and believed by the author(s) to be reliable, but the authors do not make any representation or warranty, express or implied, as to its accuracy or completeness. The information is not intended to be used as the basis of any investment decisions by any person or entity. This information does not constitute investment advice, nor is it an offer or a solicitation of an offer to buy or sell any security. This report should not be considered to be a recommendation by any individual affiliated with CFA Society Romania or the CFA Institute Research Challenge with regard to this company’s stock.

CFA Institute Research Challenge