Oil price slide casts shadow over Canada’s banks, despite solid quarter

Canada’s big banks wrapped up the very first quarter of the fiscal year with increased profits and widely expected dividend hikes. However the early impact of the oil rut was evident, with an increase of provisioning and reports of accelerating charge card and loan delinquencies within the hardest hit provinces, primarily in Western Canada.

Scotiabank hikes dividend as profit rises, but oil woes are registering

Bank of Quebec beat analyst estimates with first quarter earnings, the quarterly dividend by nearly three per cent

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Bank of Quebec, the last to report for the period ending Jan. 31, beat analyst estimates by a couple of cents using the results released Tuesday.

Like Toronto-Dominion Bank, Royal Bank of Canada, and Canadian Imperial Bank of Commerce before it, Canada’s third-largest bank raised the quarterly dividend to become paid to shareholders. Scotia boosted the dividend nearly three per cent to 72 cents a share.

Despite a quarter described as solid by financial analysts, Scotia executives followed other bank officials by acknowledging a less pretty picture for clients hit through the plummeting price of oil.

Canadian banks are starting to determine the impact from the oil rut within their corporate lending books and in their consumer loan portfolios. Pockets of unsecured lending, including credit debt and some automotive loans, are expected to be the toughest hit with the unemployment rate in Alberta now above the national average.

The amount of cash Scotia put aside in credit loss provisions rose to $539 million the first quarter, up from $463 million last year, with the increase driven mainly by higher provisions in the oil and gas sector and in the Canadian retail portfolio.

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Impaired loans within the gas and oil portfolio doubled from the previous quarter to $336 million, and executives said about five per cent of energy loans are on a “watch list,” which Scotia’s chief financial officer Sean McGuckin characterized as an early warning system for potential defaults. 

Loans about this list could return to the “fully performing” list if conditions improve or steps are taken to reduce the bank’s contact with losses, he said within an interview with the Financial Post.

Scotia’s chief risk officer Stephen Hart said low oil prices are causing more energy companies to trip covenants on their loans, leading to negotiations using the bank.

“Just because someone trips a covenant does not mean they’re seconds away from default,” he explained on the morning conference call with analysts. Negotiations are targeted at increasing the position of the bank to ultimately recover funds, whatever the outcome is for that borrower.

Despite the continuing energy issues, Scotia reported an uptick in overall profits in the first quarter. 

Net income rose to $1.81 billion ($1.43 a share), from $1.73 billion ($1.35) a year earlier.

An growth of domestic margins allowed the bank to “earn with the energy provisions,” John Aiken, an analyst at Barclays Capital, said in a note to clients.

Excluding an item related to amortization, Scotia said the income arrived at $1.44 a share, beating the consensus analyst estimate of $1.42.

“At first blush, the results appear to be reasonably clean, using the purchase of JPM’s (JP Morgan) charge card portfolio adding anything to earnings and assisting to increase domestic retail margins,” Aiken wrote.

McGuckin said charge card delinquencies are rising in Alberta, but improvements over the rest of the country a lot more than counterbalance the trend in the first quarter.

Alberta represents about 15 percent of Scotia’s Canadian loan book, with unsecured exposures of roughly $2.5 billion, according to Peter Routledge, an analyst at National Bank Financial.

On the organization side, Routledge said it makes sense for Scotia to be working with gas and oil companies, easing covenants, for example, in exchange for a lower loan commitment, better security, or a better price for that bank.

“A bank includes a much better possibility of getting repaid on its Oil & Gas loans entirely if your borrower is constantly on the operate, as opposed to a decision to make a borrower out of business in order to seize the collateral for ultimate resale,” he explained in a note to clients.

“A decision to ease covenant restrictions to acquire a lesser commitment, for instance, will lower the bank’s ultimate risk to acquire providing the client with increased financial flexibility,” Routledge wrote. “This decision may well keep a client in going concern status and, thereby, lower the prospect of default on that loan.”