Flying under the Radar- Opinion and Analysis

Alberta Treasury Branches (ATB Financial) released its financial statements on 24 May corresponding with its Annual Public Meeting in Calgary. Uncharacteristically for the media-savvy provincial agency, it did not receive any major media mentions in spite of higher than anticipated net income ($150 million) compared to the projection released in last April’s provincial budget of $27 million. Still, there were several aspects in the report that bear further scrutiny.

A Social Institution

In its low-key news release  entitled “ATB stands by customers as Alberta economy begins to turn corner,” ATB’s downplayed its higher income as loan loss provisions fell by about 40 per cent. The release continued

“Even when things were at their worst, our team members didn’t panic, we didn’t change our credit criteria,” Mowat said. “We listened to our customers, we heard what they needed and we went to work with the faith that when we eventually turned the corner, we’d still be in it together.”

“In that sense, this last year has been vintage ATB.”

Curiously, the big driver for ATB was Corporate Financial Services which earned $221 million compared with $31 million in 2016. In 2016, this unit faced loan loss provisions of $204 million. Speaking to the revamped Business & Agriculture line of business, CEO Dave Mowat observed “ATB’s decision to stand shoulder to shoulder with our business and agriculture clients is reflected in those numbers. Now, we expect those numbers to grow, just as the numbers in Corporate Financial Services grew after we didn’t flinch in that area of our business.”

Nuit Blanche receives $50,000 boost from ATB20-7-17 EJ

Speaking to the NDP government’s desire to reduce the impact of pay-day lenders on vulnerable Albertans, the release referred to the arrangement with Cashco Financial “to offer alternatives to payday loans and to provide better banking services to Albertans not properly served by traditional financial institutions.”  Ironically ATB was late to the party to support the government’s initial move on payday lending as Alberta credit unions came on board first to work with the government on this file.

ATB Robot Pepper12-6-17 EJHow Banks are using artificial intelligence 12-6-17 EJ

Signifying ATB’s move to a feel -good social institution that happens to loan money to Albertans and Alberta businesses is its 2017 Annual Report entitled “It’s All About You.”  The front-piece of ATB’s Annual Report is a self-styled Corporate Social Responsibility (CSR) Report- (CSR- “a peek into our soul”) . And this from page 29- “We’re listening to what the community needs, too.” The first 34 pages of the 173 page report highlight the various philanthropic enterprises, including statements like the following in 20 point font:

Everything we do is about doing a better job of listening
to you and giving you what you need and want from
your bank (SIC!).  (ATB is not and never has been a BANK!)

Overuse of the word Bank?

Section 983 (2.1) of the federal Bank Act

Unauthorized use of word “bank”, “banker” or “banking”

(2.1) Subject to the regulations and subsections (4) to (5.1), (6) and (12), every person, other than a bank, who uses the word “bank”, “banker” or “banking” to indicate or describe a business in Canada or any part of a business in Canada, without being authorized to do so by this Act or any other Act of Parliament, is guilty of an offence.

In ATB’s 2017 Annual Report the word bank, banker, banking, is used over 140 times: “reimagining banking;” “digital banking;”  “everyday banking;” “anytime banking;” etc.  The prohibition against the use of the term bank or banking in connection to activities has been in the Bank Act since at least the 1990s. If OSFI is serious, ATB will have to “re-imagine” much of its business and marketing strategies. Compliance will not be without its costs. OSFI to crack down on use of banking descriptors1-7-17 GM

Financial Disclosure, including Executive Compensation, remains weak

There remain outstanding some needed improvements to the financial disclosure in the Annual Report. To wit:

Exhibit 1. On pages 97-100, there is virtually no detailed information about the compensation of ATB’s executives. There is no disclosure on the comparator group of organizations (“peer group”) on which ATB’s board makes a determination on base pay, and short and long-term compensation. There is no mention of what specific financial or operational metrics are used by the board to determine the pay of executives although corporate net income is a “key metric ..control mechanism to ensure affordability of STIP  (short-term incentive plan) payments…set annually based on the approved business plan.”  In constrast, the Royal Bank of Candaa’s executive compensation disclosure contained in its Management Proxy CIrcular is 47 pages on its five top executive officers (more below) .

The determination of Long-term incentive pay, which pay out after three years, and are about 150 percent of short-term payments, is even murkier. These payments, partly designed to ensure executive “talent” does not leave, is based on a concept called RAROC- short for Risk- Adjusted-Return-on-Capital.  Unfortunately there is no definition to be found in the dozens of pages of financial information in the Management Discussion and Analysis nor in the Report’s Glossary.  The Board sets “targets” for RAROC but the not disclose what they are or the related “appropriate hurdle rate.”

Happily, and perhaps due to the efforts of Joe Ceci and his cabinet colleagues, executive pay at ATB has been moderated in spite of the improvement above original budget projections. But more on that below.

Exhibit 2.  In ATB’s 2017 annual report, there continues to be a singular lack of disclosure concerning concentration risk. The report indicates that ATB “manages its credit through diversification of its portfolio by limiting concentrations to single borrowers, industries, and geographic regions in Alberta.”  The financial report discloses that commercial real estate is the largest single industry segment at $5.2 billion dollars. This is an increase from $4.7 billion the previous year. According to the report this represents “no more than 27% of business loans.”  

Since 2008 ATB has not reported its industry break=down on its commercial loan book. There remains considerable uncertainty about ATB’s exposure to the energy sector. Without knowing the amounts of loans to the energy sector, it could well be that commercial real estate loans and energy loans represent almost one half of ATB’s commercial loan book. If so, this would be highly problematic to the provincial government, whose credit rating is partially determined by its financial exposure to ATB. Also perplexing, is the above-noted turnaround in the Corporate Financial Services. That division of ATB had a massive turn-around in net income of over $190 million due to a reduction in loan loss provisions of nearly $200 million. This is an extraordinary movement in an environment where economic recovery is still tentative.

Exhibit 3. While executive compensation at ATB was generally flat there are two notable exceptions to that. In the case of the president and chief executive officer, his salary in 2016 was reported at $3.7 million (on an adjusted basis) and in 2017, his salary was reported at $1.6 million. The table below shows the details of the CEO’s overall salary and benefits package. Line 1 is 2016 as recorded in the 2016 Annual Report and line 2 is 2017.

Base Pay Short Term Incentive Long Term Incentive Other Cash Benefits Non-cash Benefits Retirement and Other Post-Employment Benefits Total Change in Pension, OPEB  or Future Pay-out Values Accrued Obligation
504 600 758 22 11 829 2724 607 5155
502 660 921 22 14 -532 1587 -394 9723


Prior to the finalization of the financial statements, a correction in the calculation of the Post-Employment Benefits was made affecting that liability. Previously the CEO did not participate in the ATB pension plan or supplemental retirement plan. In 2017, the CEO “agreed to terminate the original post-employment benefit plan and participate in an individual registered plan and a supplemental retirement plan retroactively implemented for all prior employment service,” according to the footnote. The consequence of this change is that the 2016 total remuneration would have been higher by $1.032 million being the difference between the 2016 (mis)calculation of the accrued liability and the actual liability under the new post-retirement arrangements and as reported in 2017. In 2017, retirement and other post employment benefits is a negative number as the change in the new pension arrangement “allowed ATB to reduce its costs substantially,” according to another footnote.

The “correction” illustrates the complexity of employment contracts, the assumptions used, and the various elements to be incorporated in the financial models to accrue these liabilities. The disclosure also seems to suggest that a one-time cash payment has been converted into a long-term pension and benefits liability of ATB and hence, the provincial government. Unlike executive compensation for the banks, which describes in great detail what an executive’s pension will be,  ATB only provides an estimated liability.  The following comes from page 81 of the 2017 Royal Bank Management Proxy Circular:

Mr. McKay’s (CEO) individual executive pension arrangement provides for an annual pension of $700,000 at age 55 (November 2018), increasing by $110,000 for each additional year of service after age 55 and capped at a maximum annual pension of $1,250,000 at age 60 or later, inclusive of benefits payable from the RBC Canadian DB pension plan. Increases to Mr. McKay’s salary would not increase Mr. McKay’s pension benefits.

The other significant change was for the compensation of the former Executive Vice President, Corporate Financial Services. This individual received “other cash benefits” of $1.38 million in 2017 for total compensation of $1.94 million. There is no explanatory footnote on the nature of this cash benefit, but this appears to be the result of a separation agreement. Such agreements are not uncommon in an industry (and government) when an individual resigns and not retires, leading to foregone income had that person carried on employment. The individual occupied the position for six months until the end of September 2016.  The previous year the person’s total remuneration was $877,000. will publish its ranking of top provincial agencies’ executive compensation in a few weeks.

Financial performance:  an Absentee Owner?

Financial performance for financial institutions is usually measured in three ways. The first method is Return on Capital invested;  second,  the return on average assets; and third, the efficiency ratio which is non-interest expenses divided by revenue. In the case of ATB’s 2017 performance, its return on average assets was 0.32 per cent,  up from 0.24 per cent in 2016.  ATB does not present a return on invested capital. That is perhaps  since part of its capital is in the form of “notional” capital provided by the provincial government. Using the capital base of average  retained earnings of $3.1 billion, ATB’s return on average equity invested was 4.9 per cent in 2017  ATB’s efficiency ratio was 70.8 per cent, up from 65.4 per cent in 2016.  A low number is preferable to a higher number.

How does ATB’s performance compare with competitors like Canadian Western Bank, SERVUS credit Union, and the major banks?  The Table below shows ATB’s performance relative to other deposit-taking institutions.  As illustrated, ATB’s performance is quite poor when compared against the largest Canadian banks. When compared to smaller regional institutions, ATB’s performance remains weak.

One could regard ATB as Alberta’s equivalent to Hydro Quebec, a “Crown jewel” that, if performing to the standards of its private sector competitors, would be returning higher income to the government. A return on assets comparable to Canadian Western Bank would mean net income of approximately $300 million.  While not enough to significantly reduce the province’s very substantial deficit, the relative underperformance suggests that the Ministry is indeed an absentee shareholder. That is regrettable.

Return on Average Assets Return on Capital Efficiency Ratio
ATB Financial 0.32 4.9 70.8
Canadian Western Bank 0.73 9.3 46.8
SERVUS Credit Union 0.835 5..4 65.6
Laurentian Bank 0.46 9.6 74.2
National Bank 0.56 15.5 58.2
HSBC Canada 0.73 10.6 63.5
Royal Bank 0.89 16.3 52.4
TD Bank 0.77 13.3 55

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