Company Update BPU BANCA. Buy Price: April A Win-Win Situation

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1 Company Update BPU BANCA Buy Price: April 2005 A Win-Win Situation Aurelio Palombo Tel: aurelio.palombo@ubm.it Roberto Marchesi Tel: roberto.marchesi@ubm.it

2 BPU Banca Company Update Buy Price: April 2005 Sector Market Cap Free Float Reuters Code 12-Mth Range Banks 5,513m 100% BPU.MI Key Data ( m) E 2006E Client deposits 26, , , ,864.3 Client Loans 43, , , ,222.0 Total AuM 23, , , ,563.0 Total Assets 62, , , ,386.2 Net Equity 3, , , ,321.8 Total Income 2, , , ,818.5 Net Oper. Profit ,030.7 Group Net Profit Adj. Net Profit Adj. EPS ( ) BVPS ( ) DPS Ord ( ) P/E Ord (x) Adj. P/E Ord (x) P/BVPS (x) Div. Yield Ord 5.0% 4.8% 4.8% 5.2% Adj. ROAE 3.3% 8.6% 9.8% 12.6% Source: Company Data and UBM estimates Stock Performance BANCHE POPOLARI UNITE A Win-Win Situation BPU is unique amongst Italian banks, given its rare capacity to further reduce fixed costs and benefit from an upward trend in interest rates. Our SOTP valuation calculates an EFV of 18.8 per share, a figure supported by the discount at which BPU is currently trading to peers on FY2006E multiples. The icing on the cake is a high dividend that we believe will grow in The most recent positive newsflow from BPU was the agreement with BPA minority shareholders. The deal proved to be expensive, but it eliminates any legal risk for the bank and brings 110 million of extraordinary profits that will be used to pay for the minority stake in Banca Carime. Quite apart from any other Italian Bank, BPU can counter a difficult macroeconomic scenario with its costs cutting ability. On the flipside, an increase in interest rates could also be favourable for the bank. We believe that 2005 will be a transitional year for BPU, as most of the revenue synergies should start to be realised from 2H05, while the consolidation process should bear fruit from 2006 onwards. Our current forecasts predict a 5.7% CAGR for revenues from , and with fixed costs declining by 0.5% per year. Hence operating profitability should increase by an average 13% per year in the period PRICE REL. TO MILAN MIBTEL A M J J A S O N D J F M A Source: Dastastream 1mth 3mth 12mth Absolute % Relative % Average Trading Volumes: 1,588.9(000s) Despite the stock s positive performance in recent months, we believe that BPU remains one of the few Italian Banks with potential upside from fundamentals. Indeed, our SOTP valuation yields an EFV of 18.8 per share, revealing a potential upside of 17%. Our valuation is also supported by the comparison with peers, as BPU trades at a discount to peers on FY2006 multiples. Last but by no means least, we believe that BPU will increase its FY2005 dividend by 14%, maintaining a 4.8% yield. We thus confirm our Buy rating. Aurelio Palombo Tel: aurelio.palombo@ubm.unicredit.it Roberto Marchesi Tel: roberto.marchesi@ubm.unicredit.it

3 BPU Banca 21 April 2005 UniCredit Banca Mobiliare Contents 1. Investment Case Valuation: SOTP & Value Maps Agreement with BPA Minorities Sensitivity Analysis and IAS FY2004 Results Highlights Earnings Forecasts

4 UniCredit Banca Mobiliare BPU Banca 21 April 2005 Figure 1. BPU Banca Key Data ( m) E 2006E 2007E Market Data Price Ord ( ) No. Issued Shares (m) Total Market Cap 3, , , , , , ,513.2 Key Figures ( m) Net interest income 1, , , , , , ,789.1 yoy % change 12.5% -0.4% 0.9% 1.6% 0.1% 8.7% 7.6% Non interest income , , , ,209.4 yoy % change -10.3% 4.5% 13.5% 6.9% 0.8% 8.2% 4.6% Total Income 2, , , , , , ,998.5 yoy % change 3.1% 1.4% 5.6% 3.7% 0.4% 8.5% 6.4% Net Operating Profit , ,234.9 yoy % change -6.6% -0.7% 1.4% 13.3% 3.9% 30.3% 19.8% Total Risk Provisions yoy % change 42.1% -12.1% 118.7% -35.7% -18.3% 7.9% 6.5% Group Net Profit yoy % change -15.9% -13.7% 2.7% 45.0% 30.2% 8.8% 26.6% Adj. Group Net Profit yoy % change -11.2% 0.4% -57.2% 179.9% 19.5% 33.9% 20.4% Total Assets 61, , , , , , ,045.9 yoy % change 4.7% 2.5% 0.1% 1.4% 2.0% 5.0% 5.4% Shareholders' Equity 3, , , , , , ,554.8 yoy % change 18.0% 10.7% 3.6% 7.7% 3.7% 3.5% 5.4% Client Loans 38, , , , , , ,159.8 yoy % change 5.9% 6.9% 5.7% 2.2% 3.6% 8.0% 8.0% Client deposits 25, , , , , , ,954.7 yoy % change 4.6% 0.5% 5.1% 2.2% 1.4% 7.0% 7.0% Total AuM 23, , , , , , ,161.3 yoy % change -4.4% -11.7% 14.0% 9.4% 10.7% 10.7% 11.4% Net NPL yoy % change -1.1% 1.4% 6.8% 0.7% -8.5% 0.0% 0.0% Risk Weighted Assets 44, , , , , , ,887.6 yoy % change 16.8% 3.4% 5.5% 6.4% 1.1% 2.7% 5.2% No. Branches 1,196 1,205 1,207 1,209 1,183 1,193 1,198 No. Employees Year-End 15,402 15,231 14,851 14,550 14,023 13,873 13,723 Operating Ratios ROA 1.1% 1.1% 1.1% 1.2% 1.2% 1.5% 1.8% ROAE 7.5% 5.7% 5.4% 7.5% 9.2% 9.7% 11.7% Adj. ROAE 9.2% 8.1% 3.3% 8.6% 9.8% 12.6% 14.5% Spread (1) 2.55% 2.45% 2.54% 2.60% 2.53% 2.65% 2.72% Tier I Ratio 5.8% 6.3% 6.1% 6.8% 7.1% 7.2% 7.5% Total Capital Ratio 8.8% 10.1% 9.8% 10.0% 10.7% 11.0% 11.4% Net NPL/Total Loans 2.0% 1.9% 1.9% 1.9% 1.7% 1.5% 1.4% Cost/Income Ratio 71.4% 72.0% 73.1% 70.6% 69.6% 63.4% 58.8% Client loans/client deposits 83.7% 87.9% 92.4% 94.1% 95.2% 97.1% 99.1% Per Share Data EPS ( ) yoy % change -24.1% -22.8% 2.0% 35.0% 29.4% 8.8% 26.6% Adj. EPS ( ) yoy % change -19.8% -10.3% -57.5% 160.5% 18.8% 33.9% 20.4% BVPS ( ) DPS Ord ( ) DPS Sav Non Conv ( ) n.a. n.a. n.a. n.a. n.a. n.a. n.a. Per Share Ratios P/E Ord (x) Adj. P/E Ord (x) P/BVPS (x) Div. Yield Ord 5.1% 5.1% 5.0% 4.8% 4.8% 5.2% 5.7% Div. Yield Non Conv n.a. n.a. n.a. n.a. n.a. n.a. n.a. Source: Company data, UBM Estimates 3

5 BPU Banca 21 April 2005 UniCredit Banca Mobiliare Figure 2. BPU Banca Income Evolution ( m) Figure 3. BPU Banca Operating Growth Rates (% chg) 3,500 3,000 2,500 2,000 1,500 1, % 6.4% 5.6% 3.1% 3.7% 1.4% 0.4% '01 '02 '03 '04 '05E '06E '07E 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% -2.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% -2.0% -4.0% 36.0% 26.0% 16.0% 6.0% -4.0% -14.0% '01 '02 '03 '04 '05E '06E '07E NOP (rhs) Total Income (lhs) Total Income (lhs) yoy % chg. (rhs) Fixed Costs (lhs) Source: Company data, UBM estimates Source: Company data, UBM estimates Figure 4. BPU Banca NOP Evolution ( m) Figure 5. BPU Banca Adj. EPS Evolution ( ) 1, , , %28.0% 26.9% 29.4% 30.4% 41.2% 36.6% '01 '02 '03 '04 '05E '06E '07E 45.0% 40.0% 35.0% 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% '01 '02 '03 '04 '05E '06E '07E Net Operating Profit (lhs) Source: Company data, UBM estimates NOP Margin (rhs) Source: Company data, UBM estimates Adj. EPS ( ) Figure 6. BPU Banca DPS Evolution ( ) % % 5.1% 5.0% % 4.8% % '01 '02 '03 '04 '05E '06E '07E DPS (lhs) Div. Yield Ord (rhs) Source: Company data 5.7% 5.5% 5.3% 5.1% 4.9% 4.7% 4.5% 4.3% Figure 7. BPU Banca Assets Under Management ( m) E 2006E 2007E Mutual funds 11, , , , ,331.7 Discr. accounts 9, , , , ,389.2 Technical reserves 2, , , , ,440.3 AUM 23, , , , ,161.3 Funds of Funds 3, , , , ,378.4 AUC 22, , , , ,522.1 Life premiums , , , ,413.5 Indirect deposits 45, , , , ,683.4 AUM/ind. deposits 51.4% 52.7% 54.2% 55.8% 57.9% AUM/clients funds 25.5% 26.9% 28.4% 29.4% 30.8% Source: Company data, UBM estimates 4

6 UniCredit Banca Mobiliare BPU Banca 21 April 2005 Figure 8. BPU Banca Asset Quality ( m) E 2006E 2007E GDLs 2, , , , ,023.5 Provisions NDLs 1, , , , ,350.9 Generic provisions GDLs/client loans 5.4% 5.0% 4.3% 4.0% 3.7% NDLs/client loans 3.5% 3.2% 3.0% 2.7% 2.5% NDLs/RWA 3.1% 2.8% 2.6% 2.5% 2.4% NDLs/Equity 34.9% 30.6% 28.8% 28.4% 27.1% Coverage ratio 37.0% 36.4% 33.2% 33.2% 33.2% Provisioning ratio 1.1% 0.5% 0.4% 0.4% 0.4% Source: Company data, UBM estimates Figure 9. BPU Banca Asset Quality Ratios ( m) % 2.0% 1.9% 1.9% 1.9% 1.7% 1.5% 1.4% '00 '01 '02 '03 '04 '05E '06E '07E Net NPL (lhs) Source: Company data, UBM estimates Net NPL/Total Loans (rhs) 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% Figure 10. BPU Banca Adj. ROAE Evolution Figure 11. BPU Banca Solidity Ratios 16.0% 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% 9.2% 9.2% 8.1% 3.3% 8.6% 9.8% 14.5% 12.6% '00 '01 '02 '03 '04 '05E '06E '07E Source: Company data, UBM estimates Adj. ROAE 4,500 4,000 3,500 3,000 2,500 2, % 10.7% 11.0% 11.4% 10.1% 9.8% 10.0% 5.8% 6.3% 6.1% 6.8% 7.1% 7.2% 7.5% Tier I Capital (lhs) Tier I Ratio (rhs) Total Capital Ratio (rhs) Source: Company data, UBM estimates 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% Figure 12. BPU Banca Price & Volume Chart Figure 13. BPU Banca Shareholders (%) Volume ( 000) - rhs 87,000 77,000 67,000 Price ( ) ,000 47,000 37,000 27,000 17,000 Float 100.0% ,000 Apr Jun Aug Oct Dec Feb Apr Source: Datastream Source: Company data 5

7 BPU Banca 21 April 2005 UniCredit Banca Mobiliare 1. Investment Case BPU has now eliminated the legal hurdle One of the few Italian banking groups forecasted to cut fixed costs An upward trend in interest rates would increase desirability Undervalued both on fundamentals and FY2006E multiples The deal made with BPA minority shareholders was expensive for BPU, but it eliminates the only potential hurdle that we foresaw for the group After a solid and growth abundant 2004, BPU Banca should continue to record a significant expansion in profitability thanks to the possibility of taking full advantage of the expected reduction in fixed costs from the integration process Furthermore, in our current forecast, we have not factored in the potential benefits from a possible upward trend in interest rates. A trend whose impact would be hard to ignore given that BPU has more than 3 billion of available cash Our SOTP valuation returns an EFV of 18.8 per share, indicating a potential upside of 17%. This, combined with the under valuation with respect to peers in the Italian Banking Sector and an outstanding dividend yield mean we confirm our Buy rating A multiple of 3x the book value is not cheap when you buy a 5% minority stake in a bank you 95% own, but with this deal, BPU has eliminated the only legal dispute that was hanging over it. What s more, the 111 million capital gain on Carifano, together with the capital gains on the selling of minority stake to CUV, improves the visibility on FY2005 profitability. From 2005 to 2007, we forecast a continuing reduction in fixed costs, a trend that sets BPU apart from the rest of the sector, which should start recording an expansion in fixed costs by an average 1% in FY2005 and 1.3% in FY2006. On the other hand, revenues should start to grow thanks to increased synergies. Consequently, we expect BPU to record 378 million net profit in FY2005 ( 400 million at adj. Level), while over , the bottom line should grow by 17% per year to a total 520 million in FY2007, a figure below the management s target (> 550 million) and corresponding to a ROE of 11.7% (14.5% at adj. level). In our forecasts, we have not included the potential positive impact of an upward trend in interest rates (a trend we do not expect in the short term). We must point out that in 2004, BPU heavily invested in insurance products ( 4.2 billion) that guarantee a 4% yield and have an average duration of 5 years that could be easily transformed into cash and lent to clients. Thanks to the modest impact of IAS (a neutral or million at net equity level, pending the revaluation of real estate properties, with a positive impact at P&L level after the elimination of goodwill amortisation and capitalised costs), the management has confirmed that, should FY2005 results be in line with budget targets, any excess capital will be given back to the shareholders in the form of a higher dividend. When taking into account the positive trend that BPU has recorded so far this year and the extraordinary profits that the bank has gained, we believe that our dividend forecast in FY2005 (+14% yoy) is sustainable, and has not yet been discounted by the market. Our SOTP valuation calculates an EFV of 18.8 per share, a figure confirmed by the upside potential on FY2006E multiples compared to the rest of the Italian banking sector. These factors, combined with a 4.8% forecasted dividend yield in FY2005, mean we confirm our Buy recommendation on BPU Banca. 6

8 UniCredit Banca Mobiliare BPU Banca 21 April Valuation: SOTP & Value Maps Our SOTP valuation calculates an EFV of 18.8 per share, revealing a c. 17% potential upside The stock trades in line with peers on FY2005 forecasts, while it is trading at attractive multiples with peers on FY2006E earnings 2.1 Sum of the parts valuation Our SOTP valuation is based on the following key assumptions: A risk-free rate of 5% and a market risk premium of 4% that we consider appropriate in reflecting the entire economic cycle. A beta based on each respective business area: we applied a 1.2 beta to the commercial activity as BPU Banca essentially works with retail clients (families and SME s which have a lower risk profile), a 1.7 beta for the investment banking activity and 1.0 beta for the asset management activities (both mutual funds and bancassurance). A nominal long-term growth rate of 2%. Figure 14. BPU Banca SOTP Valuation Key Assumptions Commercial Banking Beta 1.20 Asset Management Beta 1.00 Bancassurance Beta 1.00 Investment Banking Beta 1.70 Risk-free Rate 5.0% Risk Premium 4.0% Long-term Growth Rate 2.0% Source: UBM estimates The capital allocated to the investment banking activity was 2x the market risks, the capital allocated to the asset management business is set at 0.5% of the assets, while in the case of the bancassurance we have used the net equity invested by BPU in BPB Vita and in the joint venture with Aviva. For the commercial banking activity, we estimated absorption to be 6% of the RWA. The asset management activity was evaluated with a DCF model based on our FY estimates, and a nominal long-term growth rate of 2%; the cost of equity was set at 9%. The other business segments were calculated using a DDM model base with a sustainable ROE calculated on the estimated average over (previously it was based on estimates). Figure 15. BPU Banca Valuation m % of tot. per share ( ) Asset management 1,322 20% 3.8 Bancassurance 299 5% 0.9 Commercial banking 4,378 67% 12.7 Investment banking 386 6% 1.1 Excess capital 103 2% 0.3 Total Valuation 6, % Source: UBM Estimates 7

9 BPU Banca 21 April 2005 UniCredit Banca Mobiliare SOTP valuation calculates an EFV of Our valuation calculates a total fair value of 6,489 million for BPU Banca, corresponding to an EFV of It s important to highlight that: The commercial banking business is valued at 4,378 million, a figure that corresponds to 1.37x the capital allocated to the business and 10.4x the earnings in FY2006E, substantially in line with current market multiples of other Italian retail banks. The asset management business, excluding the bancassurance activity, is valued at 1,322 million, 10.25x the allocated capital or 5.5% of the AUM forecasted for current year. For the bancassurance activity we have used the sum of the net equity of BPB Vita, BPB Assicurazione and 50% the JV Aviva Vita. The high profitability (Rorac estimated at 68%) brings the valuation of this business line to 299 million, which equals 8.8x adj. Profit, 6x allocated capital, or 5.6% technical reserves. The limited returns, (8.4%, substantially lower than the 11.8% cost of equity), was reflected in the valuation of the investment banking business ( 387 million against the 594 million of allocated capital). Figure 16. BPU Banca Implicit Valuation FY2006E Multiples EFV Adj. Net Profit Capital Allocated Rorac Adj. PE P/Capital Allocated ( m) ( m) ( m) (%) (x) (x) Asset management 1, % Bancassurance % Commercial banking 4, , % Investment banking % Source: UBM estimates A latecomer in the race to consolidate, meaning that synergies are yet to be fully exploited 2.2 Peers comparison There was a two-year gap between the creation of BPU Banca and the previous flurry of consolidation in the Italian Banking Sector that spawned BPVN. Consequently, there still remains a clear profitability gap between BPU Banca and other regional and national banking groups, caused by synergies still not yet fully exploited and the integration costs that BPU still has to record. For the most part this gap should be closed in 2006, when cost synergies should be fully achieved and revenue synergies should peak. These factors are the reason why we believe that the most relevant comparison between BPU Banca and peers should be done with FY2006 estimates. BPU Banca is currently trading at 1.36x book value in FY2005E, well below the sector average of 1.60x and the 1.46x for the other regional banks; however, this is justified by the lower profitability, a trend confirmed by the FY2005E Value Map Analysis. From 2006 onwards things should change, as BPU is expected to record higher profitability growth and close its gap with peers. We thus believe that the market will bring about a revaluation in the stock, and to levels higher than the rest of the sector. The Value Map Analysis based on FY2006 forecasts also supports these forecasts, from which it emerges that BPU Banca is currently slightly undervalued. 8

10 UniCredit Banca Mobiliare BPU Banca 21 April 2005 Figure 17. Market Multiples Adj. PE PBV Adj. ROE 2004E 2005E 2006E 2004E 2005E 2006E 2004E 2005E 2006E BPU Banca % 9.8% 12.6% Sector Average % 12.1% 14.4% Regional Banks Average % 10.5% 12.4% Source: UBM estimates Attractive upside on multiples, 18.8 EFV to bring BPU into line with peers In order to give a more precise assessment of the potential upside, we have mapped P/BV on ROE and used its trend line equation to determine the upside in question. According to our calculations and relative to other peers, BPU Banca still holds a potential upside of some 17% on current market prices, thus confirming our SOTP valuation. Since the creation of BPU Banca in July 2003, the stock price has appreciated significantly, by more than 30%, but still under performing the sector. In recent months, given the credibility and capacity of the management in meeting targets, the stock price and volumes traded have started to rise. Despite this, we believe that BPU Banca has still yet to entirely absorb the discount at which it trades, as: i) the stock has the possibility to compensate for eventual difficulties by achieving higher revenues with lower costs (most of BPU s competitors are expected to record significant cost increases); and ii) there remains good visibility on the bank s ability in reporting solid results and the continuation of a strong dividend policy. Figure 18. BPU Banca Price & Volume Chart J-03 A-03 S-03 O-03 N-03 D-03 J-04 F-04 M-04 A-04 M-04 J-04 J-04 A-04 S-04 O-04 N-04 D-04 J-05 F-05 M-05 A-05 Price ( ) Volume ( 000) - rhs 87,000 77,000 67,000 57,000 47,000 37,000 27,000 17,000 7,000 Source: UBM on Datastream 9

11 BPU Banca 21 April 2005 UniCredit Banca Mobiliare Figure 19. Peer Group Correlation ROE & P/BV (2005E) 3.00 R 2 = PBV 2005E BP Milano Capitalia BNL B. Lombarda BPU MPS Antonveneta BPVN Fineco Sanpaolo Intesa Credem UniCredit BP Lodi % 8.0% 9.0% 10.0% 11.0% 12.0% 13.0% 14.0% 15.0% 16.0% 17.0% Adjusted ROE 2005E Source: UBM estimates Figure 20. Peer Group Correlation ROE & P/BV (FY2006E) 3.00 PBV 2006E 2.50 R 2 = Fineco Antonveneta 2.00 Credem UniCredit 1.50 B. Lombarda Sanpaolo BP Milano BNL BPVN BPU Intesa 1.00 Capitalia MPS BP Lodi % 10.0% 12.0% 14.0% 16.0% 18.0% 20.0% Adjusted ROE 2006E Source: UBM estimates 10

12 UniCredit Banca Mobiliare BPU Banca 21 April Agreement with BPA Minorities It was a costly conclusion, but it meant that all legal risks connected to BPU are now eliminated BPA s minority shareholders were paid 3x the book value for their stake, while the disposal of Carifano should bring 111 million of capital gains The deconsolidation of Carifano does not dramatically change BPU s structure. BPB launched a bid in 1995 to take control of BPA A lawsuit was filed in 1998 by minority shareholders of BPA The agreement eliminates any further legal risk 3.1 The background In 1995, the ex-banca Popolare di Bergamo (BPB) reached an agreement to gain control of Banca Popolare di Ancona (BPA), which was made on the condition that BPA converted from a co-operative society with limited liability into a joint stock company. The deal was concluded with an increase in the share capital and the issue of convertible bonds reserved to BPB, excluding the option right for BPA shareholders, which ultimately led to BPB controlling 51% of BPA. In 1998, a group of five minority shareholders (controlling a total 5% of BPA) made an application to the Ancona Court, contesting that all resolutions approved by BPA shareholders were null and void for some alleged formal irregularities. In January 2002, the Court of First Instance of Ancona ruled in the favour of the minority shareholders. Both BPU and BPA have lodged appeals in an attempt to overturn the ruling; the appeal ruling was expected in the short term, but the risk associated with a further negative judgement was classified as exceptional risk for which, the evaluation of a mitigation action is recommended. Consequently, BPU reached an agreement with BPA minority shareholders to cease proceedings and eliminate the risk of any additional legal disputes in the future 3.2 The terms of the deal BPU will launch a tender offer to purchase the remaining 5.3% of BPA (1,300,304 ordinary shares) for a total consideration of 130 million, which corresponds to a P/BV multiple of 3x, extremely high when compared to the 1.8x paid in 2000 in the PTO launched to gain full control of BPA s capital, or the average 1.55x paid by BPU to acquire the entire BPA Group. BPU will sell 99.9% of Carifano s share capital to Intesa Casse del Centro (30% of the share capital) and to a new company comprised of the five minority shareholders (69.9%). BPU will cash-in 280 million that will generate a capital gain in 2005 of approximately 111 million. BPU will pay a maximum amount of 22.8 million for abandoning any current and future legal actions. 11

13 BPU Banca 21 April 2005 UniCredit Banca Mobiliare The clear winners were BPA s minority shareholders, but BPU now wholly owns BPA 3.3 Impact on BPU Without doubt the deal s winners were BPA's minority shareholders that, without spending a single penny (Intesa will finance the entire acquisition and after three years will become the owner of Carifano), will take control of a bank with 41 branches located in one of faster growing area in Italy and cash-in a huge amount of money. With respect to BPU Banca, the deal clearly eliminates any additional risk of a further negative ruling, and what s more, the fact that BPU now controls the entire capital of BPA leaves it free to fully exploit cost synergies through structural reorganisation, an aspect not included in our current forecasts. In terms of fundamentals, the absence of Carifano from BPU s consolidated accounts does not dramatically change figures, also considering that the 41 branches were not having any significant impact on the Group s profitability. Figure 21. BPU Banca 2004 P&L without Carifano P&L ACCOUNT CONS Carifano 2004 ex Carifano Net interest income 1, ,494 Trading activities 93 (0) 93 Net commissions Other income Earnings equity method Non interest income 1, ,045 Total Income 2, ,540 Staff costs (983) (20) (964) Other costs (518) (11) (507) Gross Oper. Profit 1, ,069 Depreciations (325) (3) (322) Provisions for loan losses (203) (1) (202) Investments write-down (12) - (12) Extraordinary items Other provisions (75) (1) (74) Pre-tax profit Taxes (263) (7) (255) Minorities (28) - (28) Net Profit Tax rate 45% 43% 45% BALANCE SHEET CONS Carifano 2004 ex Carifano Client loans 43,975 1,037 42,937 Total securities 8, ,546 Client deposits 27, ,081 Certificates of deposit 3, ,823 Bonds 16, ,817 TOTAL LIABILITIES 63,885 1,259 62,626 AUM Branches 1, ,168 Employees 14, ,223 Source: UBM on Company data 12

14 UniCredit Banca Mobiliare BPU Banca 21 April Sensitivity Analysis and IAS BPU Banca has in its portfolio 4.2 billion of insurance products with an average yield of 4% and a 5 year duration, but the bank has the option to sell these products after one year at no penalty; hence an upward trend in interest rates could be favourable for BPU No major impact from the introduction of IAS An optimisation of the Group s portfolio has led to an increased investment in high liquidity and potentially high yield insurance products 4.1 Sensitivity analysis As reported in FY2004 accounts, BPU has worked intensely in optimising its Group portfolio; in fact, it was reduced by 12.8% to 8.7 billion and the weight of fixed assets fell from 25% in FY2003 to 7% in FY2004. The aim of the management was to stabilise the interest margin and reduce the accounts volatility. To do that the management dramatically reduced the weight of government bonds (from 4.6 billion to 2 billion) and invested in insurance certificates, whose total value increased from 1.9 billion in 2003 to 4 billion. They were subscribed with the major companies and granted a minimum interest floor that enabled BPU to record a 4% yield in FY2004. These products have a 5-year duration, but they can be sold after one year without any penalty. This would be particularly significant if interest rates were to reverse their current trend. In fact, if there was an upward revision in interest rates, the management forecasts that there would be an increase in net interest income (+ 44 million in the case of a +50 bp in ECB rates, + 84 million in the case of a +100 bp). However trading profits would suffer from the devaluation of the non-fixed portfolio (as most of the products are set at fixed rates) that, according to the management, could be between - 64 million (+50 bp in refi rates) and million (+100 bp). Given that the option is open to sell these insurance products after just one year without any penalty (more than 3 billion of these are already over one year old), BPU should be able to achieve only positive net interest income. IAS neutral or only slightly negative 4.2 Introduction of IAS During the conference call on FY2004 results, BPU s management confirmed that preliminary estimates have revealed that the introduction of IAS should have a neutral or slightly negative impact at the net equity level. To be more precise, the CEO declared that, pending the revaluation of real estate properties, the introduction of IAS should be either neutral or negative by some 100 million at the net equity level. For the P&L account, BPU expects a sustainable gain of 150 million per year thanks to the absence of goodwill amortisation and capitalised costs. We point out that this figure will not have an impact on our EFV as our valuation is already based on adjusted figures. 13

15 BPU Banca 21 April 2005 UniCredit Banca Mobiliare 5. FY2004 Results Highlights BPU Banca s FY2004 results surpassed our expectations in terms of both income and margins The dividend of 0.67 per share has been confirmed A slight growth in volumes and stable margins A reshuffle in direct deposits reduced the cost of funding 5.1 FY2004 income Consolidated total income reached 2,587 million in FY2004, up 3.7% on the 2,495 million registered in FY2003. Net interest income Net interest income increased 1.6% yoy to 1,527 million, as the 3 bp decrease in the spread was offset by a modest increase in volumes (customer loans +2.2% yoy to 44 billion) and the contribution of 120 million from the financial area. At first, it may look like as though BPU Banca has adopted a different strategy from its peers (who have compensated for their lower margins by raising volumes). However, a closer analysis reveals that the limited growth in BPU s volumes was in fact due to its decision to sharply reduce its exposure to Centrobanca, whose loans fell 12% yoy in FY2004, while the rest of the bank recorded a 4.4% yoy increase with no penalty on margins. Indeed, BPU Banca managed to maintain an essentially stable spread throughout the year (down by just 3 bp from the 3.13% at end-fy2003 to 3.10%, vs. the 29 bp drop in the 1m Euribor rate), thanks to the lower cost of funding (the markdown went up 5 bp from the 62 bp of 2003 to 67 bp) that compensated for the 8 bp reduction in the mark-up. This is particularly important, considering that BPU s decision to increase customer loans in 4Q04 was immediately reflected in similarly proportioned growth in income, without penalising margins. The increase in the mark down was thanks to a re-composition of deposits. Indeed, while the change in absolute terms was marginal (+0.8% yoy to 49.1 billion), the mark down still improved, thanks to: i) a 3.2% increase in sight deposits (to 26 billion) and ii) the issuance of bonds under the EMTN programme to compensate for the reduction in the costly certificates of deposit, repos and interbank funds (from 2.1 billion to 671 million). Service income Non-interest income rose 6.9% yoy to 1,060 million from the 991 million recorded in FY2003. It is worth bearing in mind, however, that this was because BPU Banca was created in 2003 and the management focus has since changed. Profit from financial operations came to 93 million in FY2004, vs. 57 million in FY2003, as a result of the transferral of 2 billion of securities from the fixed assets to the non-fixed assets portfolio. While this generated a positive contribution of 64.6 million in 1Q04, in the following 3 quarters the mark-to-market valuation of these securities had a negative impact on service income by roughly 33 million. Given that BPU Banca has now sold the majority of these assets (only 250 million were still in the bank s portfolio at end-2004), we expect them to make a limited contribution but nonetheless lower the volatility of trading results in coming years. Net commissions increased 5.4% yoy to 789 million, from 748 million in FY2003. This increase would have been +8.5% yoy, if we were to strip out the 21 million of upfront commissions related to structured bonds sold in FY2003 by the ex-bpci. 14

16 UniCredit Banca Mobiliare BPU Banca 21 April 2005 These were booked in when they were cashed and not spread over the duration of the product, as introduced by BPU from 2004 onwards. The contribution of net commissions from AUM increased by 10% yoy to 179 million, mainly thanks to a surge in bancassurance business fees (from 26 million to 40 million) and in mutual funds fees (from 101 million in FY2003 to 152 million). We highlight that this result was obtained without having to undertake a repricing campaign. Indeed, volumes grew in line with fees (+10% yoy). The management s refocus on AUM products was also reflected in the AUC commissions trend, which dropped dramatically (fees on securities almost halved from 13 million to 8 million). The only negative result was recorded at other income, which fell from 196 million in FY2003 to 165 million. This was due to the tough FY2003 comps base, when private equity participations generated 20.4 million of sales and when the reimbursement of interest on withholding tax contributed 5.4 million. 5.2 Costs Consolidated total costs remained substantially stable yoy in FY2004, at 1,826 million, mainly as a result of the management s decision to accelerate the integration of the IT platform and the redundancies plan. Higher than forecasted synergies The integration of IT platform is bearing fruit but capitalised costs weight on depreciation Labour costs Personnel costs reduced 0.8% yoy to 983 million, vs. the 991 million recorded in FY2003. Indeed, the 32.3 million of cost synergies generated by the net exit of 602 staff offset: i) the 3% rise in staff costs related to the renewal of the National Labour contract and to incentives programmes and ii) the 5.4 million integration charges. If we analyse the quarterly trends, this figure looks even more positive: personnel costs declined 0.7% yoy from the year s peak of 252 million in 1Q04 to 234 million in 4Q04. Administrative costs The bank recorded an excellent result in terms of administrative costs, which went down by 1.9% yoy to 518 million despite a 3.8% yoy increase in indirect taxes to 94 million. Other administrative costs declined 3% yoy to 424 million despite 8.2 million of contract work related to the Carime/BPCI IT migration. Depreciation & amortisation The abovementioned results were counterbalanced by the significant expansion of value adjustments on tangible and intangible assets, which were up 6.7% yoy at 324 million. This was a result of the 15.7 million of additional depreciations from the new redundancy plan (capitalised costs of c million), and 22 million of capitalised costs related to the amortisation of the migration of Carime and BPCI to a single IT platform. 15

17 BPU Banca 21 April 2005 UniCredit Banca Mobiliare 5.3 Margins As a consequence of the income and cost trends, net operating income totalled 761 million, up 13% from 672 million in FY2003. This figure should be adjusted for the following factors: Non-recurring income of 64.6 million for the transfer of securities from fixed assets to non-fixed assets. Non-recurring costs of 13.6 million, of which 8.2 million for the migration of IT at Banca Carime and BPCI and integration charges of 5.4 million. When adjusted for these non-recurring items, net operating income comes to million (+5.7% yoy). However, this is not particularly meaningful, considering that the management used non-recurring trading profits to overload costs, and thereby accelerate the redundancy plan and integration of IT systems, which will both only reveal tangible results in later years. 5.4 Provisions BPU Banca recorded a 36% yoy decrease in FY2004 provisions to 290 million, thanks to the non-recurrence of the Parmalat disaster and the improvement in credit quality at Centrobanca. The provisions figure would have been even better without the 23 million of extraordinary costs related to the conclusion of the Banca Popolare di Ancona litigation. Value adjustments on loans Provisions on customer loans accounted for 203 million or 46 bp of customer loans, thus surpassing the FY2004 target of bp and more than half the 107 bp recorded in FY2003. This was thanks to the heavy reduction of write downs from the 576 million in FY2003 to 346 million in FY2004, and the 23% yoy surge in write-backs from 116 million to 143 million. Moreover, net of Centrobanca, the figure would have been equal to 42 bp of customer lending. These figures showed a clear improvement in the Group s asset quality. As a matter of fact, the net NPL ratio stood at 1.88%, slightly better than the 1.9% recorded in FY2003, and in line with the sector average. Again, we must stress that without the inclusion of Centrobanca, the net NPL ratio would have stood at 1.06%, one of the best figures in the sector. The low coverage ratio of 36.4% was due to the significant amount of generic provisions ( 318 million at end-fy2004) that brought the coverage ratio to 50%. Moreover, net doubtful loans only represent 30.6% of BPU s equity, which is well below that of peers (BPVN 40%, Antonveneta 48%, Banca Intesa 52% and MPS 48%). Other provisions Other provisions were negatively affected by extraordinary costs related to the conclusion of the Banca Popolare di Ancona litigation, and the absence of the contribution of the General Banking Risks Funds that accounted for 201 million in FY2003. Provisions for risks and charges remained unchanged yoy at 75 million, as a result of 22.8 million of extraordinary costs related to the definitive settlement of the Banca Popolare di Ancona litigation. 16

18 UniCredit Banca Mobiliare BPU Banca 21 April Profitability Net profit surged 45% yoy to 290 million from 200 million in FY2003, as the impact of lower extraordinary profits ( 110 million, vs. 124 million in FY2003) was offset by a lower tax rate (45% vs. 62% in FY2003). The bottom line corresponded to an EPS of 0.85, up 35% from 0.63 per share in FY2003 (the number of shares increased after the conversion of warrants in the money and convertible bonds that expired in 2004). The improvement in profitability is even more evident at the adjusted level, where net profit reached 335 million, up 180% yoy on the 120 million recorded in FY2003. Hence, the adjusted EPS rose 161% yoy to 0.98, from 0.37 in The BoD has proposed the payment of a dividend of 0.67 per share (still to be approved at the ASM), in line with the figure of previous years, which would make for a total payout of roughly 229 million. Figure 22. BPU Banca Quarterly P&L Evolution: Reclassified Criteria ( m) 1Q03 2Q03 3Q03 4Q03 1Q04 2Q04 3Q04 4Q04 Net Interest Income yoy % change -0.2% 0.8% 5.5% 6.6% Trading Profits Net Fees Other Revenues Non Interest Income yoy % change 40.2% -22.5% -9.0% -5.4% Total Income yoy % change 14.6% -8.9% -0.3% 1.9% Fixed Costs Depreciation Net Oper. Profit yoy % change 38.2% -26.5% 10.2% 7.8% Provisions Extraordinary Items Pre-Tax Profits yoy % change 20.1% -11.0% 58.8% % Taxes Minorities Net Profit yoy % change 8.3% -41.2% 96.0% % Client Deposits 47,783 48,846 47,782 48,681 48,807 47,255 47,255 48,549 Client Loans 41,059 41,832 41,246 43,045 42,556 42,911 42,518 43,906 Assets Under Management 20,808 22,511 23,090 23,499 24,800 25,200 25,300 26,314 Tax Rate 47.8% 35.9% 51.2% 75.1% 48.6% 56.6% 38.3% 38.3% C/I Ratio 57.8% 56.7% 60.2% 59.6% 52.5% 61.2% 58.1% 55.5% C/I Ratio (Incl. D&A) 69.1% 67.3% 73.6% 73.8% 62.7% 73.6% 70.8% 72.2% Source: UBM on Company Data 17

19 BPU Banca 21 April 2005 UniCredit Banca Mobiliare Figure 23. BPU Banca Evolution of Net Interest Income (qoq % change) 6.00% 4.00% 2.00% 0.00% -2.00% 1Q03 2Q03 3Q03 4Q03 1Q04 2Q04 3Q04 4Q % -6.00% Volumes Spread Net Interest Income Source: UBM on Company data Figure 24. BPU Banca Evolution of Net Commissions ( m) Q1-03 Q2-03 Q3-03 Q4-03 Q1-04 Q2-04 Q3-04 Q % 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% -5.0% -10.0% Fees (lhs) yoy - % change (rhs) qoq - % change (rhs) Source: UBM on Company data Figure 25. BPU Banca Evolution of Fixed Costs ( m) 20% 15% 10% 5% 0% -5% -10% -15% Q1-03 Q2-03 Q3-03 Q4-03 Q1-04 Q2-04 Q3-04 Q Staff Costs (SC) SC qoq % ch Other Admin. Costs (OAC) OAC qoq % ch Source: UBM on Company data 18

20 UniCredit Banca Mobiliare BPU Banca 21 April 2005 Figure 26. BPU Banca Evolution of Value Adjustments on Loans ( m) % 0.89% 0.46% 0.37% 0.56% 0.43% 0.46% 0.44% 1Q03 2Q03 3Q03 4Q03 1Q04 2Q04 3Q04 4Q % 2.50% 2.00% 1.50% 1.00% 0.50% 0.00% Net Value Adj. On Loans Parmalat Centrobanca Weight on Customer Loans Source: UBM on Company data Figure 27. BPU Banca Quarterly Cumulative P&L Evolution ( m) 1Q03 1H03 9M03 FY2003 1Q04 1H04 9M04 FY2004 Net Interest Income ,118 1, ,141 1,540 yoy % change -0.2% 0.3% 2.0% 3.1% Trading Profits Net Fees Other Revenues Non Interest Income yoy % change 40.2% 5.5% 0.7% -0.8% Total Income 597 1,246 1,848 2, ,275 1,875 2,506 yoy % change 14.6% 2.3% 1.5% 1.6% Fixed Costs ,076-1, ,070-1,420 Depreciation Net Oper. Profit yoy % change 38.2% 3.6% 5.5% 6.0% Provisions extraordinary Items Pre-Tax Profits yoy % change 20.1% 6.6% 21.0% 68.4% Taxes Minorities Net Profit yoy % change 8.3% -15.6% 12.0% 45.0% Client Deposits 47,783 48,846 47,782 48,681 48,807 47,255 47,255 46,722 client loans 41,059 41,832 41,246 43,045 42,556 42,911 42,518 43,975 Assets Under Management 20,808 22,511 23,090 23,499 24,800 25,200 25,300 25,754 Tax Rate 47.8% 42.7% 45.0% 40.7% 48.6% 51.5% 46.7% 45.2% C/I Ratio 57.8% 57.3% 58.2% 58.6% 52.5% 56.5% 57.0% 56.7% C/I Ratio (Incl. D&A) 69.1% 68.1% 69.9% 70.9% 62.7% 67.7% 68.7% 69.6% Source: UBM on Company data 19

21 BPU Banca 21 April 2005 UniCredit Banca Mobiliare Earnings Forecasts The sector outlook remains linked to interest rates, but BPU has the possibility of going against the general trend 2005 will be a another year of stable income and expanding margins Important changes to our FY2005 forecasts Increasing volumes and stable margins 6.1 Incomes As we have already mentioned, the agreement reached with the minority shareholders of Banca Popolare di Ancona (BPA), and the consequent decision to sell the 99.95% of Carifano, brought some changes to our estimates. The most obvious was including in our FY2005 forecasts the 111 million extraordinary profits that the bank will benefit from. On the other hand, we have excluded the impact of Carifano; it s important to note that we have not included in our forecasts the theoretical impact on revenue from the 20 new branches that BPU will open in Carifano s reference area. Despite the negative environment weighing heavily on banking activity, we believe that BPU Banca is in a good position to take full advantage of the restructuring phase that is currently setting the bank apart. BPU was the last large banking group created, so the integration plan was launched a couple of years later than its competitors. This means that in the last two years most of the management s efforts were focused on the creation of common structures, products, the optimisation of its human resources through the redundancies plan and on the integration of IT systems. To accelerate the integration process, the management postponed the launch of new products and services to the beginning of 2005, after fully integrating the IT systems. From 2005, in particular from the second half of the year, BPU Banca should start delivering growing revenue synergies. We believe BPU Banca could end FY2005 with consolidated total income of 2,597 million, which represents a stable figure on FY2004 results but a 2.3% yoy increase ex-carifano. In the following years, revenues are expected to grow 8.2% yoy to 2,819 million in 2006 and by 6.4% yoy to 2,999 million in The significant expansion of revenues in the period is connected to the expected recovery in interest rates and on the significant development of revenue synergies. In more detail, we believe that net interest income should record a higher CAGR than service income (+6.2% per year against +5%). Net Interest Income The key assumptions in forecasting BPU s net interest income: Interest rates and spread: +25bp within the end of 2005, 50bp in Spread stable in 2005, +15bp in 2006 and +10bp in Volumes: loans to customers up by 6% yoy in 2005 and by 8% in the period, deposits +5% yoy in 2005 and +7% in the following two years. Net Interest Income should increase 2.3% yoy to 1,529 million, as a result of a pick-up in volumes (customer loans +6.1% yoy to 45,573 million) and the stability in the spread. Whilst in the following two years net interest income should accelerate thanks to the forecasted improvement in interest rates (that should be translated into an improvement in the spread by 25bp in the period), and the expansion of volumes in fast growing markets/segments (BPU is focusing on the retail market with a specific target of a significant improvement in 20

22 UniCredit Banca Mobiliare BPU Banca 21 April 2005 consumer lending, revolving cards and mortgages). Consequently, we forecast net interest income to reach 1,663 million in FY2006 (+8.7% yoy), and 1,789 million in 2007 (+7.6% yoy). Furthermore, we highlight that our model does not include any specific forecast regarding the 4.2 billion currently invested in capital redemption policies with an average yield of 4%. In the case of an upsurge in the economy, and the consequent upward trend in interest rates, these products could be dismissed and the cash lent to customers with a higher return. In terms of spread, the stability forecasted in the current year is because BPU Banca is focusing on long-term products (such as mortgages where competition is becoming tougher). These, on average, have lower margins than short-term products; a factor that could bring increased pressure on the mark-up. Conversely, we stress that the excellent spread performance in 2004 was achieved by improving the markdown, thanks to the heavy reduction in certificates of deposits, repos and interbank funds. Given the success achieved in 2004, we do not see any further scope in either repeating such a performance in 2005 or thus reducing the cost of funding. Figure 28. BPU Banca Evolution of Net Interest Income (qoq % change) 10.0% 5.0% 0.0% '01 '02 '03 '04 '05E '06E '07E -5.0% -10.0% Volumes Spread Net Interest Income Source: UBM on Company data Service Income Non-interest income is expected to increase by 5% per year to 1,209 million in FY2007, a slowdown with respect to the 6.9% yoy recorded in FY2004. Here again, we must highlight that the expansion in service income should not be linear; we forecast a 2.2% improvement in FY2005, 8.2% in FY2006 and 4.6% in FY2007. In more detail: After the strong growth recorded in FY2004, we estimate that profit from financial operations will remain stable at a more conservative level of 52 million per year. As already mentioned in the comment on FY2004 results, more than 64 million was gained in 1Q04 from moving assets from the fixed assets portfolio to the nonfixed assets portfolio. Given that the fixed assets portfolio now only represents 7% of the total portfolio (or 574 million), we don t believe there will be any additional capital gain/transfer. On the other hand, the switch in the asset portfolio had a negative impact over April-December for the mark to market valuation of the non-fixed assets portfolio. To avoid further volatility, BPU Banca sold most of these assets on the market to acquire more stable insurance products that offer a better risk/return profile (4% average yield with low volatility). 21

23 BPU Banca 21 April 2005 UniCredit Banca Mobiliare The key assumptions in forecasting net commissions: Margins on AUM: -10 bp on mutual funds, stable margins for FOF and bancassurance products. Volumes: AUM %, mutual funds CAGR of 11%, individual schemes +2%, technical reserves +28% per year. Most of the growth in revenues should come from net commissions that we forecast will grow at a CAGR of 7.7% over , an acceleration with respect to the +5.4% recorded in Note that we don t expect a linear trend, with an 8% improvement forecasted in FY2005 and 9.4% in FY2006, while in FY2007 we predict a more limited +5.8% yoy. This is because we believe that most of the revenue synergies will emerge in the next two years, as existing and new products will be sold throughout the entire distribution network, which should enlarge the share of wallet of existing customers. From 2007 onwards, the performance of BPU Banca should return to the sector average. Hence we expect net commissions to increase from the 777 million in FY2004 (ex-crf), to 972 million in FY2007. Most of the improvements should come from the AUM business, where a gap emerges between BPU Banca and its competitors (the AUM/customer funds ratio stands at 26.9% against the 31% sector average). In particular, we believe that there is significant scope for BPU to develop the bancassurance business (technical reserves currently have a total weight of 13.8% on total AUM against the 20.5% sector average). Hence, we expect AUM to grow by 11.3% per year over , only marginally above the 9.4% recorded in FY2004 and below the 14.0% achieved in FY2003. Given that we expect the pressure on margins to increase in the coming years, we forecast net commissions on AUM products to grow by 8.3% per year. Figure 29. BPU Banca Evolution of Net Commissions ( m) 1, % 8.00% 6.00% % % 50.0 '01 '02 '03 '04 '05E '06E '07E 0.00% Fees (lhs) yoy - % change (rhs) Source: UBM on Company data After the drop recorded in FY2004, we believe that Other Income should start recording modest but consistent increases: we expect 3.2% growth per year from the 162 million in FY2004 to 278 million in FY Costs This is the area that sets BPU apart from its peers. Most of the Italian Banking Groups are reporting or even anticipating an upsurge in the trend of costs, connected to the conclusion of their restructuring plans and to the renewal of labour contracts, which should be translated into +3% of fixed costs per year. On the contrary, over the next three years, we estimate that BPU should record a 0.5% decrease in fixed costs per year, falling from the 1,792 million recorded in FY