UniCredit bets on east spell trouble

Bloomberg

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It took a decade and more than $65 billion of acquisitions for Alessandro Profumo to turn a regional Italian lender into the nation’s biggest bank, UniCredit, with operations stretching from Poland to Kazakhstan.

Now that expansion, which swelled UniCredit’s market value to almost 85 billion euros ($111 billion) in October 2007, is alarming analysts who say loan defaults in Eastern Europe, where the bank focused its growth, are set to balloon. The stock fell 77 percent in the past 12 months, the second-biggest decline among Italian banks.

"Eastern Europe is the new bogeyman," said Massimiliano Romano, an analyst at Concentric Italy. "UniCredit has subsidiaries in 17 different countries there. We used to see that as diversification, now we see it as a risk."

UniCredit, which owns Bank Pekao, Poland’s largest lender, and banks in countries including Ukraine, Hungary, Romania and Slovakia, generated 44 percent of its pretax profit from central and Eastern Europe during the first nine months of last year. European banks may need to raise as much as 40 billion euros of capital by 2010 because of loan losses in the area, JPMorgan Chase & Co. wrote in a March 5 note.

Profumo, a 52-year-old former McKinsey & Co. consultant, said this month that the Milan-based bank’s units in the region are performing well. "The situation we see is better than what has been described," he told reporters in Rome on March 4. "We support our banks."

Shrinking economies

The economies of Central and Eastern Europe and the Commonwealth of Independent States, including Russia, will shrink 0.4 percent this year, as demand for exports and commodities declines, the International Monetary Fund predicted on Jan. 28.

Moody’s Investors Service said Feb. 17 that banks may face credit-rating downgrades as loan default rates rise in the region.

In the month since the Moody’s report, 13 analysts recommended selling or holding UniCredit’s stock, and six advised buying, data compiled by Bloomberg show. The shares fell 20 percent in Milan trading during the period.

UniCredit may report a 72 percent drop in fourth-quarter profit to 351 million euros when it publishes results today, the consensus estimate of 22 analysts posted on the bank’s Web site showed. Earnings for 2008 were probably below the company’s goal of 4 billion euros, according to the survey.

UniCredit lost its position as Italy’s largest bank by market value to Intesa Sanpaolo in the second half of last year.

Eastern Europe was at the center of UniCredit’s growth strategy nine months ago. Profumo told reporters in Vienna last June that he planned to add 11,500 new jobs and open 1,300 branches in the region, while eliminating 9,000 jobs in Western Europe. The initiative was put on hold, Profumo said in November.

"That’s why we’re so concerned," said Edoardo Liuni, an analyst at IlNuovoMercato.it in Rome. "If loans default and growth stops in the area that was supposed to bring profit, there’s not much else to turn to. It’s a pity because UniCredit did everything right in many ways."

Profumo has already scrapped a cash dividend to conserve 3.6 billion euros of capital and raised an additional 3 billion euros from investors including Libya to strengthen its finances. The bank froze branch openings, cut 700 jobs at its investment bank and is considering further staff reductions.

UniCredit is also weighing whether to take government help. Italy’s Finance Ministry has offered to buy bonds convertible into stock from the nation’s banks to bolster their reserves.

Short of capital

JPMorgan analysts, in their March 5 note, estimated UniCredit may need an additional 5 billion euros of capital because of loan losses in Eastern Europe. UniCredit’s loans in the region total about 90 billion euros, out of 610 billion euros for the bank as a whole, the company said on March 4.

Profumo said last October that he had made "mistakes," such as underestimating the severity of the financial crisis and making acquisitions at the top of the market. In December, he cut the bank’s profit forecast to 4 billion euros from 5.2 billion euros.

UniCredit is among six banks pressing the European Union to organize financial aid for countries in the east of Europe. Profumo said on March 4 that Ukraine, which accounts for 0.7 percent of the bank’s loans, is the nation "most at risk," while Poland "isn’t doing badly."

Risks arising from Western European bank investments in the east will be a key concern for investors until the EU decides to more "transparently address" them, Barclays Capital analysts said in a note to investors on March 11.