Tourism in : Here to stay? Arion Research September 2017 Key conclusions

• Despite the fact that official figures exaggerate the actual number of foreign visitors, the big picture remains unchanged – numbers have grown remarkably and the importance of to the economy has grown. Rising numbers of tourist not only generate revenue but also call for stronger infrastructure and various services. • We expect a continued growth of tourism but at a more modest pace. In our baseline scenario the number of tourists increases by 11% in 2018 and 8% in 2019. The availability of flights to Iceland is the determining factor and there is considerable uncertainty in this regard. • Occupancy rates at hotels have declined slightly in recent months so RevPAR has grown slower than ADR. We expect continued strong hotel investment which will probably be sufficient to meet the growing number of tourists. • Tourism, as the largest export sector by far, has a major impact on the exchange rate of the króna. It is extremely rare for tourism to be such a determining factor for an economy and a currency area. • The strong króna seems to have shortened the length of stay, which is reflected in a decrease in overnight stays in areas away from Keflavík International Airport. Tourists seem to have shifted their consumption away from goods towards experience, which might partly be explained by the high prices and strong króna. The effects of a high real exchange rate on tourism remains to be fully seen. • Financial performance has recently been good overall but different circumstances, such as a stronger exchange rate, higher wages, higher VAT rate and slower growth present challenges. Mergers, acquisitions and other changes are likely to be the consequence of the current turmoil.

2 Arion Research is presenting its special report on tourism in English for the fourth time

Click the pictures to view previous reports

2016

2015 2014

3 People are still coming (even though we’re expensive)

Erna Bjorg Sverrisdottir Arion Research Importance is growing

From zero to hero

5 The old clichés

Tourist numbers have increased, seasonal fluctuations smoothed out and the tourist sector has flourished

Total number of tourists Seasonality Proportion of exports - millions 70% 100% 20% 9 90% 19% 20% 65% 24% 26% 29% 31% 8 80% 39% 60% 42% 32% 7 70% 55% 30% 29% 28% 60% 27% Decreasing relative 29% 6 50% importance of 27% 50% summer 26%24% 5 45% 22% 40% 26% 24% 22% 21% 20% 4 40% 30% 20% 15%16% 20% 3 35% 26% 25% 26% 27% 26% 10% 23% 22% 30% 19%17% 2 0% 1

Percentage of tourists visitng in June-August

62 years period 62years 7 years period years 7 0 Percentage of tourists visiting in other motnhs 1949-2010 2011-2017* Seafood Aluminium Other Tourism

Sources: Icelandic Tourist Board, Statistics Iceland, Arion Research. * Forecast for 6 last 4 months of 2017. ** As projected in Arion Research‘s Economic Outlook. How many foreign tourists actually visit Iceland?

If we use the definition that a tourist is someone who stays overnight, the estimated number of tourists last year was 1.55 million, not 1.77 million as stated in official figures. Doesn’t change the big picture. Number of tourists - millions and growth from 2010 2.5 386%

2.0 369% 350% 1.5

1.0

0.5

0.0 2010 2011 2012 2013 2014 2015 2016 2017*

Official numbers by the Icelandic Tourist board Official numbers adjustested for self-connecting passengers and foreigners living in Iceland Official numbers adjustested for self-connecting passengers, foreigners living in Iceland and travellers who don't stay overnight

Sources: Icelandic Tourist Board, Statistics Iceland, Arion Research. * 7 Forecast for last 4 months of 2017. Importance of tourism in national accounts is growing

Tourism accounted for more than 10% of GDP last year – likely to be closer to 12% this year

GDP in tourism Business investment - billion ISK at constant prices - billion ISK at constant prices 2,500 12% 400 30%

2,400 350 10% 25% 2,300 300

2,200 8% 20% 250

2,100 6% 200 15% 2,000 150 10% 1,900 4% 100 1,800 5% 2% 50 1,700 0 0% 1,600 0% 2010 2011 2012 2013 2014 2015 2016 2010 2011 2012 2013 2014 2015 2016 Contribution of tourism to business investment Tourism contribution to GDP GDP without tourism Business investment without tourism Share of tourism in GDP (r. axis) Share of tourism in business investment (r. axis)

8 Sources: Statistics Iceland, Arion Research 7.4% GDP growth last year excluding tourism? Don’t think so!

According to these measurements, GDP growth in 2016 would have been closer to 4% and GDP far lower than it is today Economic growth and effects of tourism 8% 7.4%

7%

6% 5.2% 5% 4.3% 4.3% 4.1% 4% 3.6% 3.9% 2.8% 3% 2.5% 2.4% 2.0% 2.1% 2% 1.5% 1.3% 1.4% 1.5% 1.3% 1.1% 0.8% 0.9% 1% 0.6% 0.7%

0% 0.0% -1% -0.5% 2011 2012 2013 2014 2015 2016 Economic growth without tourism contribution to GDP Economic growth without tourism contribution to GDP and business investment Economic growth with 5% annual growth in revenues of foreign travellers since 2010

9 Sources: Statistics Iceland, Arion Research Arion Research’s projections for number of tourists

Slower growth ahead

10 Tourist forecast: what do you do when the statistics let you down?

Until now we have based our forecast on data and past trends. What would the last few years tell us? Stronger króna, more tourists? Wait, what? Tourist arrivals forecasts EURISK exchange rate and number of tourists - compared to actual numbers, millions 2,300 2.5

2,100

2.0 1,900

1,700 1.5 1,500

1,300 1.0

1,100

0.5 900 … more tourists? more …

Numberofforeign travellersm 12m moving average 700 Stronger Króna... 0.0 2016 2017 500 Arion Research 2014 Arion Research 2015 180 160 140 120 100 Arion Research 2016 Actual* EURISK

Sources: Icelandic Tourist Board, Central Bank of Iceland, Arion Research. 11 * Forecast for last 4 months of 2017. For a small island nation, the availability of flights is the key to increasing the number of tourists

In 2005 two airlines flew to Iceland all year. In the winter of 2017 there will be 15. Any changes to the availability of flights will clearly have an effect on the numbers of foreign tourists visiting Iceland. Number of airlines flying regularly to and from Iceland

20 3.0

18 2.5 16

14 2.0 12

10 1.5

8 1.0 6

4 0.5 2

0 0.0 2005 2010 2015 2017*

Number of airlines (l. axis) Number of tourists (r. axis)

Sources: Icelandic Tourist Board, ISAVIA. * Forecast for last 4 months of 12 2017. Base case: We expect almost 2.5 million tourists next year

Based on expected flight availability in next few years, which is in fact subject to considerable uncertainty Tourist arrivals via KEF airport* - millions annually, % increase 3.0 6% Base case 8% 11% 2.5 26%

2.0 40%

1.5 30%

1.0

0.5

0.0 2015 2016 2017 2018 2019 2020

Sources: Icelandic Tourist Board, Arion Research. *As by official numbers, 13 not estimates presented earlier. Three different scenarios: Optimistic, pessimistic and base case

Changing the assumptions regarding the operations of the airlines produces different scenarios

Optimistic scenario Pessimistic scenario - millions annually, % increase - millions annually, % increase 4.0 4.0

14% 3.5 3.5 15% 3.0 6% 3.0 6% 18% 8% 8% 11% 11% 2.5 2.5 26% 26% 26% 26% -7% 2.0 2.0 -10% -12% 1.5 1.5

1.0 1.0

0.5 0.5

0.0 0.0 2017 2018 2019 2020 2017 2018 2019 2020 Base case Optimistic scenario Base case Pessimistic scenario

14 Sources: Icelandic Tourist Board, Arion Research Great uncertainty, especially as you get further into the future

The availability of flights places certain restrictions on the growth of the number of tourists. However, there is no limit to how much the number of tourists can decrease – uncertainty underestimated? Tourist arrivals • Key factors: - millions, scenario comparison 4.0 • Airlines

3.5 – Price of oil – Salary expenses 3.0 – Competition

2.5 • Other factors: 2.0 – Exchange rate of the ISK 1.5 – Economic conditions for trading partners – Natural disasters 1.0 Are we – Competition with other destinations underestimating – Reaching the limits of tolerance for 0.5 downward risk? – The countryside 0.0 – Infrastructure 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 – The locals Base case Pessimistic Optimistic – Tourists

15 Sources: Icelandic Tourist Board, Arion Research Playing with numbers: What does the base case mean for the Icelandic economy?

More tourists not only generate more revenue but also place more strain on infrastructure and require more service in the form of accommodation and entertainment

16 Revenue from foreign tourists will continue to grow but at a slower rate

In our base case, we estimate that revenue from foreign tourists in 2017-2020 will be approximately ISK 2,400 billion, or the equivalent of Iceland’s GDP last year! Revenues of foreign travellers - b. ISK at constant exchange rate 700 45% Base case 40% 600 35% 500 30%

400 25%

300 20%

15% 200 10% 100 5%

0 0% 2013 2014 2015 2016 2017 2018 2019 2020 Travel services (left axis) Passenger transport by air (left axis) YoY change (right axis)

Sources: Icelandic Tourist Board, Statistics Iceland, Central Bank of 17 Iceland, Arion Research Increasing number of people in Iceland at any one time

Over the next 3 years the number of people in Iceland at any one time is expected to grow by 8,000 persons a year Average number of people in Iceland Increase in average number of people in - and tourist % of total Iceland at any given time 16,000 400,000 Base case Base case 14,000 390,000

380,000 12,000

370,000 13% 10,000 12% 360,000 11% 350,000 9% 8,000

340,000 8% 6,000 6% 330,000 5% 4% 4,000 320,000 4%

310,000 2,000

300,000 0 2012 2013 2014 2015 2016 2017 2018 2019 2020 Average number of tourists at any given time 2012 2013 2014 2015 2016 2017 2018 2019 2020 Population, adjusted for travel abroad Tourist and population increase, adjusted for travel abroad

18 Sources: Icelandic Tourist Board, Statistics Iceland, Arion Research Tolerance limits of infrastructure: Strain on road system has grown

If things continue in same vein, the total number of cars will have rarely, if ever, grown so much in a single year Traffic and registered passenger cars - numbers and increase from previous year, % of total in columns 300,000 90,000 10,5% 290,000 80,000 13,3% 7,4% 280,000 5,9% 70,000 270,000 5,5% 3,4% 60,000 6,6% 92,6% 260,000 50,000 250,000 5,5% 93,4% 4,5% 40,000 240,000 3,7% 94,5% 30,000 230,000 96,3% 95,5%

220,000 20,000

210,000 10,000

200,000 0 2013 2014 2015 2016 2017* Registered passenger cars on average, excluding rental cars (left axis) Registered rental cars on average (left axis) Ring road traffic, average number of cars per day (right axis)

Sources: Icelandic Transport Authority, The Icelandic Road and Coastal Administration, 19 Statistics Iceland, Icelandic Tourist Board, Arion Research. * The Icelandic Road and Coastal Administratio forecast Tolerance limits of infrastructure: Estimate of required accommodation if the base case is accurate

Registered overnight stays at all kinds of accommodation increase by an average of 2,000 a day over the next three years – the equivalent of 1,100 new hotel rooms a year

Total registered overnight stays and increase per day 12,000,000 3,500 Base case 3,000 10,000,000

2,500 8,000,000

2,000 6,000,000 1,500

4,000,000 1,000

2,000,000 500

0 0 2015 2016 2017 2018 2019 2020 Registered overnight stays per year (left axis) Increase in average number of registered overnight stays per day

20 Sources: Statistics Iceland, Icelandic Tourist Board, Arion Research Rapidly growing hotel market

Swift development, rising revenue and good occupancy rates – in most places

21 Hotels are responsible for majority of registered overnight stays, and the Reykjavík hotel market is by far the largest

In other parts of the country, other types of accommodation play a larger role

Number of hotel rooms by regions in July Distribution of overnight stays within regions 2017 100% in 2016 - numbers and increase from previous year 6,000 90% 24% 20% 32% 80% 42% 40% 5% 47% 45% 5,000 6% 70% 28% 60% 16% 4,000 50% 23% 31% 25% 3,000 40% 29% 70% 30% 2,000 5% 52% 51% 20% 37% 27% 30% -1% 10% 24% 1,000 62% 0% 0% 0% 0 Capital Southwest West North East South region

Hotels Guesthouses Other

22 Source: Statistics Iceland, Arion Research 17% of overnight stays in the capital area last year were not registered

Statistics Iceland estimated that in 2016 almost 3,600 rooms/apartments were regularly let through Airbnb, 2,000 of which were in the Registered and unregistered overnight stays - in millions and share of total in each region 4.5 20%

4.0 18%

3.5 16% 14% 3.0 12% 2.5 10% 2.0 8% 1.5 6%

1.0 4%

0.5 2%

0.0 0% Capital region Soutwest West Northwest Northeast East South

Registered overnight stays (left axis) Estimated unregistered overnight stays (left axis) Unregistered share of total (right axis)

23 Sources: Statistics Iceland, Arion Research The occupancy rate of hotel rooms in the capital region has slumped during the summer

Occupancy rates outside Reykjavík have remained more stable, but it must be remembered that the number of available hotel rooms has increased, both in and outside Reykjavík Hotel room occupancy rates Hotel room occupancy rates - Capital region - other regions 100% 100%

90% 90%

80% 80%

70% 70%

60% 60%

50% 50%

40% 40%

30% 30%

20% 20%

10% 10%

0% 0%

2013 2014 2015 2016 2017 2013 2014 2015 2016 2017

24 Source: Statistics Iceland, Icelandic Tourist Board, Arion Research Tourists have faced increasingly expensive accommodation

The average price of accommodation in Reykjavík has increased significantly in euros. The increase in ISK has been less, and virtually zero over the summer.

Average daily rate (ADR) in Reykjavík Average daily rate (ADR) in European cities in - Euros and YoY change 250 350 2016 - Euros 299 300 21% 13% 200 8% 248 250 230

150 200 19% 41% 39% 162160 148 140137136135 34% 150 128 72% 124120 100 104 98 98 98 96 100 81 80 75

50 50

0

0 Paris

Porto

Milan

Rome

Berlin

Zurich

Lisbon

Dublin

Vienna

Prague

Madrid London

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Geneva

Frankfurt

Budapest Barcelona

2013 2014 2015 2016 2017 Amsterdam

Rekjavík 2017

Reykjavík2015 Reykjavík 2016 Reykjavik 2014

25 Source: Benchmarking Alliance, Central Bank of Iceland, Arion Research Poorer occupancy rates this summer means that revenue per available room has grown more slowly than the average price

The average price of a room (in ISK) at peak times has increased by 2% between years while revenue per available room has increased by 1%. The opposite applies off peak, as occupancy is greatly improved. Revenue per available room (RevPAR) in Reykjavík - ISK, thousands and change from previous year 25 9% 1%

7% 13% -2% 20

15 17% 15% 14% 12% 10 16%

5

0 2013 2014 2015 2016 2017 High season Low season

26 Source: Benchmarking Alliance, Central Bank of Iceland, Arion Research There will be severe hotel shortage in the capital region if no investment is made and hotels maintain their competitive position

Few European cities, if any, top Reykjavík in terms of hotel occupancy. If no investment is made in new hotels and overnight stays continue to increase in step with the rise in the number of tourists, hotels in Reykjavík will soon be full to bursting.

Hotel occupancy rates in Europe in 2016 Hotel occupancy rate in Capital region 90% - assuming base case scenario and no hotel investment 120 85% 100 80%

75% 80

70% 60 65%

60% 40

55% 20

50%

Paris

Porto

Milan Rome

Berlin 0

Zurich

Lisbon

Dublin

Vienna

Prague

Madrid London

Geneva 2015 2016 2017 2018 2019 2020

Frankfurt

Reykjavík

Budapest

Barcelona

Reykjavík* Amsterdam

Source: Benchmarking Alliance, Statistics Iceland, Icelandic Tourist Board, 27 Arion Research. * Based on data from Statistics Iceland We estimate that 2,700 new hotel rooms will be added in the capital region over the next few years

Scheduled construction projects seem likely to cover demand placed by increasing tourists. The high level of uncertainty is reflected in great delays to hotel projects recently and the fact that the majority of projects are still under development. Hotel investment pipeline in Capital region - number of rooms 9,000 3,000,000

8,000 2,500,000 7,000

6,000 2,000,000

5,000 1,500,000 4,000

3,000 1,000,000

2,000 500,000 1,000

0 0 2014 2015 2016 2017 2018 2019 2020 2021

Number of rooms 1 January Already added Estimated addition Number of tourists in base case scenario (million, r. axis)

28 Source: The City of Reykjavik, Arion Research The króna and tourism: A stormy marriage

Konráð S. Guðjónsson Arion Research Cause and effect is like a merry-go-round...

Tourism benefited from a weak króna at the start of the growth period. A strong króna is now cooling down the tourist sector.

Tourism grows

ISK FX inflows depreciates increase

FX inflows decrease ISK appreciates

Tourism contracts

30 ... and it’s complex too

No wonder so much appears to be unclear… A lot is unclear!

Impact of tourism on the exchange rate: Impact of the exchange rate on tourism: • Revenue from tourists • Revenue from tourists – number – number – length of stay – length of stay – consumption pattern – consumption pattern • Expectations of trends in tourism • Travel pattern within Iceland • Foreign investment in tourism • Performance of companies in tourism • Etc. • Etc.

Impact often hard to measure and effects often delayed

31 Effect of tourism on the króna

Tourism is in the driving seat as the biggest export sector

32 Extremely rare for a country, let alone a currency area, to be so dependent on tourism

Tourism-related exports per capita in Iceland probably six times higher than in

International tourism, receipts per capita 73,5 24.5 - In th. USD, excluding transport. Highest value in 2014-2015, excpet for 2017 in Iceland 25 Top ten Selected countries

20 Only sovereign state 16.1 15.9 above Iceland 15 12.8 11.1 10.9 10 8.8 7.3 7.0

5 2.6 2.4 2.4 2.4 2.0 1.7 1.5 1.5 1.4 1.4

0

Spain

Palau

Aruba

Ireland

Austria

Croatia

Iceland

Norway

Slovenia

Portugal

Maldives

Switzerland

Luxembourg

part)

NewZealand

CaymanIslands

MacaoSAR,

VirginIslands (U.S.)

BritishVirgin Islands

SintMaarten (Dutch UnitedArabEmirates

33 Sources: World Bank, Arion Research. Huge relative size of tourism sector in Iceland means it has greater impact on exchange rate than elsewhere

Without growth in the tourism sector we could import far less and/or would have a large current account deficit Current account with or without tourism ISK real exchange rate 120 - b. ISK at fixed exchange rates 400 110 300

Thousands 100 200 90

100 Fore- 80 cast 0 70

-100 60

-200 50

-300 40 2010 2011 2012 2013 2014 2015 2016 2017*

Central Bank FX purchases Current account excluding fallen banks Relative prices, index Relative labour costs, index Current account with 5% growth in tourism revenues

34 Sources: Statistics Iceland, Central Bank of Iceland, Arion Research. Strong growth of tourism sector restricts ability of other exports to compete: Symptoms of Dutch disease

Exports of various other commercial services fell short of our expectations in Q2 2017, because of the króna? Export revenue growth at fixed exchange rates 50%

40%

30%

20%

10%

0%

-10%

-20% 2011 2012 2013 2014 2015 2016 1H 2017 Marine products Aluminium Tourism Other Exchange rate, average (+:appreciation, -:depreciation)

35 Sources: Statistics Iceland, Central Bank of Iceland, Arion Research. What do the different scenarios mean for the króna?

We haven‘t estimated the impact of tourism on imports and other indirect effects on the current account balance, but the effect is considerable. The scenarios do give us an idea of how things might develop. Tourism FX revenues and current account assuming different tourism scenarios other things being equal 1,000 - b. ISK at current exchange rates

800

Thousands - Stronger ISK 600 - Strong GDP growth - Probably decline in other exports 400

- Similar exchange rate 200 throughout the period - In line with Economic Outlook - Modest GDP growth 0

- Weaker króna -200 - Slow growth or a recession - Yet, more reveneues than in 2015 -400 2016 2017 2018 2019 2020 Current account - Optimistic Current account - Base case Current account - Pessimistic Tourism revenues - Optimistic Tourism revenues - Base case Tourism revenues - Pessimistic

36 Sources: Statistics Iceland, Central Bank of Iceland, Arion Research. Effect of the króna on tourism

Tourism will cool itself down

37 Iceland is one of the most expensive destinations in the world – if not the most expensive

We do not know yet what the end effect will be – but it’s gradually materializing

Relative prices of restaurants Relative prices of recreation Relative prices of transport and hotels and culture - EU=100 250 - EU=100 250 - EU=100 250

200 200 200

150 150 150

100 100 100

50 50 50

0 0 0

2013 2013 2013 First 8 months of 2017 at August exchange rates First 8 months of 2017 at August exchange rates Including proposed VAT increases in tourism Including proposed VAT increases in tourism First 8 months of 2017 at August exchange rates

Sources: Eurostat, Statistics Iceland, Central Bank of Iceland, Arion 38 Research. Strong króna appears to have shortened tourists’ length of stay and/or changed where they stay

There is some correlation between trend of real exchange rate and length of stay. Airbnb etc. undoubtedly distorts the picture. Total registered overnight stays per tourist Growth in hotel overnight stays and no. of and real exchange rate tourists 7 40 90% - contribution by region 80% 60 6 70%

80 60% 5 50% 100 4 40% 120 30% 3 20% 140 10% 2 160 0% -10%

1 180

Jul-16 Jul-17

Jan-16 Jan-17

Jun-16 Jun-17

Oct-16

Apr-16 Apr-17

Feb-16 Sep-16 Feb-17

Dec-16

Aug-16

Nov-16

Mar-16 Mar-17 May-17 0 200 May-16

Capital region Southwest South

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2003 West North East Summer Winter Real exchange rate (r. axis, reverse order) No. of tourists

39 Sources: Statistics Iceland, Central Bank of Iceland, Arion Research. Outside the capital region, tourists have become even more concentrated in SW corner

Contrary to the aim of spreading tourists across the country more evenly

Tourist overnight stays distribution** during Tourist overnight stays distribution** during winter 35% 80% 70% spring and summer 42% -November-March - April-July 78% 30% 60% 41% 76% 25% 50% 23% 40% 74% 22% 29% 28% 32% 20% 26% 72% 40% 39% 20% 14% 17% 13% 70% 15% 30% 38%

68% 10% 20% 37% 37% 39% 66% 33% 32% 29% 5% 10% 10% 8% 10% 36% 8% 7% 64%

0% 62% 0% 35% 2012/2013 2013/2014 2014/2015 2015/2016 2016/2017* 2013 2014 2015 2016 2017*

Other regions South and Southwest Capital region (right axis) Other region South and Southwest Capital region (right axis)

Sources: Statistics Iceland, Arion Research. * Estimated with registered overnight stays 40 in hotels in 2017. **Höfn in Hornafjordur is included with East of the country from 2014. Tourists have responded to strong króna by changing consumption patterns

Shopping has given way to visitor experiences – may also be due to greater popularity of adventure tourism Total foreign card turnever June-August 2017 Tourist‘s consumption pattern - %-change from previous year in ISK - distribution of card turnover in January-July 100% Cash withdrawals -22% 17% Other retail 90% -12% 26% Toll-free retail -3% 80% Souvenirs -19% 70% Clothing 8% 60% Groceries 13% 53% Other services -5% 50% 44% Cultural services 3% 40% Other transport 7% 30% Fuel and car related expe. 7% Other travel services 5% 20% 30% 30% Transport by land -1% 10% Catering and restaurants 6% 0% Accommodation 10% 2012 2017 Total, excluding flights 5% Accommodation and other necessities Experience Goods -30% -25% -20% -15% -10% -5% 0% 5% 10% 15%

41 Sources: RSV, Central Bank of Iceland, Arion Research. Although strong currency has meant that each tourists spends fewer krónur, spending in tourists’ home currency has remained stable

Strong indications that Iceland has successfully managed to attract bigger spending tourists. Cheaper flights might also play a role and increase purchasing power once people have arrived. Consumption per tourist - and other toursim services exports per tourist, th. ISK by quarters 200 20%

150 15%

100 10%

50 5%

0 0%

-50 -5%

-100 -10%

-150 -15%

-200 -20% 2013 2013 2013 2013 2014 2014 2014 2014 2015 2015 2015 2015 2016 2016 2016 2016 2017 2017 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2

YoY change at current exhacange rate (r. axis) YoY change at constant exhacange rate (r. axis) Current exhange rate (l. axis) Constant exchange rate (l. axis)

Sources: RSV, Statistics Iceland, Icelandic Tourist Board, Central Bank of 42 Iceland, Arion Research. Increase in tourists has changed revenue structure

More dependent now on US dollar and therefore the USD/ISK exchange rate – which has been one of the more stable exchange rates since 2013 Export of air transport and tourism services Exchange rate against ISK - distribution by markets -index, January 2013=100 100% 4% 4% 4% 4% 110 4% 4% 4% 5% 90% 100 17% 13% 80% 26% 30% 8% 70% 8% 90

60% 8% 7% 80 26% 31% 50% 19% 17% 70 40% 8% 10% 11% 11% 30% 60 12% 10% 10% 9% 20% 50 10% 17% 19% 20% 18% 0% 40

2013 2014 2015 2016

Jul-13 Jul-14 Jul-15 Jul-16 Jul-17

Jan-13 Jan-14 Jan-15 Jan-16 Jan-17

Oct-13 Oct-14 Oct-15 Oct-16

Apr-14 Apr-15 Apr-16 Apr-17 Other European countries Asia Apr-13 United States Scandinavia USD GBP NOK SEK EUR CNY Americas excl. USA Other

43 Sources: Statistics Iceland, Central Bank of Iceland, Arion Research. Performance of tourism companies in the króna economy

Effect of a strong króna and other changes in the tourism sector create challenges and opportunities

44 Financial performance has been good and better than in other sectors

At the same time the financial position of tourism companies has improved

Return on equity Equity ratio 60% 50%

50% 40%

40% 30%

30% 20%

20% 10%

10% 0% -10% 0% -20%

-30% Car Car rentals -40%

Accommodation 2010 2011 2012 2013 2014 2015 water Tourism industries, total

Total business economy Totalbusiness economy Tourismindustries, total Passenger transport on land and water Passenger transport air by Passenger transport by air

Restaurantsand foodservices Accommodation 2014 Passenger transportland on and 2015 Restaurants and food services

Travel agencies, Traveltouragencies, etc. operators Travel agencies, tour operators etc. Total business economy 2014 Total business economy 2015 Car rentals

45 Sources: Statistics Iceland, SAF, Arion Research. On the whole the tourism sector seems well prepared to cope with more challenging times

Large uncertainty about how things pan out and even larger heterogeneity within tourism sub-sectors

EBITDA/revenue 35% Projection 30%

25%

20%

15%

10%

5%

0% 2010 2011 2012 2013 2014 2015 2016 2017

Travel agencies, tour operators etc. Accommodation Restaurants and food services Total business economy Passenger transport on land and water Car rentals Passenger transport by air

46 Sources: Statistics Iceland, SAF, Arion Research. Salary expenses have grown faster than revenue in tourism sector

One of the main reasons that results in 2016/2017 probably deteriorated/will deteriorate

Labour costs/revenue 45% Projections 40%

35%

30%

25%

20%

15%

10%

5%

0% 2010 2011 2012 2013 2014 2015 2016 2017 Tourism industries, total Total business economy Travel agencies, tour operators etc. Accommodation Restaurants and food services Passenger transport on land and water Passenger transport by air Car rentals Other rentals

Sources: Statistics Iceland, Arion Research.*2016 and 2017 estimated by 47 Arion Research Debts in króna but clients’ revenue in foreign currency – where are the foreign loans?

There is a risk involved in having high debts in ISK when the underlying revenue is in foreign currency

Commercial bank lending to the tourism industry - b. ISK 200 24% 180 22% 160 20%

140 18% 108 16% 120 105 107 14% 85 100 80 85 12% 80 10%

60 8% 30 34 38 33 6% 40 28 31 4% 20 35 34 35 27 26 30 2% 0 0% 2015Q3 2015Q4 2016Q1 2016Q2 2016Q3 2016Q4

FX Indexed - ISK Non-indexed - ISK % of loans in FX (r. axis)

48 Sources: Statistics Iceland, Central Bank of Iceland, Arion Research. Over next few years the adaptability of tourism companies will be put to even greater test if our forecasts prove accurate

Slower growth, higher VAT, even higher salary increases and continued strong exchange rate

Tourism business environment - change from previous year 15% 40% Base case 30% 10% 20% 5% 10%

0% 0%

-10% -5% -20% -10% -30%

-15% -40% 2015 2016 2017 2018 2019

Common VAT in tourism (r. axis) Wages Exchange rate Number of tourists (r. axis)

Sources: Statistics Iceland, Central Bank of Iceland, Icelandic Tourist 49 Board, Arion Research. Where are the mergers? Accommodation sector shows that there are opportunities in this area

Growth in tourism largely achieved through creation of more companies – a sensible development?

Gross operating surplus/revenue in Average number of employees per company, accommodation activities related to tourism 15% -by number of employees 22 - 12 month average in June and YoY change

20 13% 18

16 2% 11% 4% 4% 0% 0% 1% 14

9% 12

10 7%

8

5% 6 2012 2013 2014 2012 2013 2014 2015 2016 2017 50-100 >100

Sources: Statistics Iceland, Central Bank of Iceland, Arion Research. *að 50 undanskilinni lyfjaframleiðslu, fjármála- og vátryggingastarfsemi Contacts

Erna Bjorg Sverrisdottir Konrad S. Gudjonsson [email protected] [email protected]

Head of Research Stefan Broddi Gudjonsson [email protected]

51 Disclaimer

• This presentation is for information purposes only and is not designed to form a basis on which recipients should make decisions. The information contained in this presentation does not represent any promise or forecast of future events. The Bank is not obliged to provide the recipient with access to further information than that contained in this presentation or to update the information contained within. The Bank is not obliged to correct information should it turn out to be incorrect. • The information on the Bank, its subsidiaries and associate companies has not been verified. This presentation does not represent exhaustive information on the Bank, its subsidiaries or associate companies. • The information contained in this presentation is based on existing information, projections of expected developments in external conditions etc. The information is subject to various uncertain factors and may change without warning. • The Bank, including shareholders, management, employees and their advisers, take no responsibility for the information, assumptions and conclusions contained in the presentation or the information or information provided in connection with it. The above parties will not issue statements that the information, assumptions or conclusions are accurate, reliable or sufficient and they shall not be liable for damage which can be traced to such information being inaccurate, unreliable or insufficient. • Receiving this presentation does not represent investment advice on the part of the Bank. • By receiving this presentation the recipient accepts the above disclaimer.