With some €2.7bn in losses expected to feature in results, AIB faces tough decisions, writes SIMON CARSWELL

ALLIED IRISH Banks (AIB), the State’s largest bank, is the first of the domestic banks out of the traps in the 2009 reporting season when it publishes full-year figures on Tuesday, followed the next day by Irish Life Permanent.

Bank of Ireland will report at the end of next month. State-owned Anglo Irish Bank will report later in the month after a 10-month hiatus since it last published any financial details. The bank’s next capital bill for the Government is likely to be about €6 billion, above the €4 billion in State capital already injected.

While Anglo faces the biggest challenges in the sector, AIB has an equally large mountain to climb. Nama’s early estimates showed that AIB would transfer €17 billion in land and development loans, against which all banks are taking the heaviest writedowns, compared with €16.3 billion for Anglo.

AIB is expected to post a loss of about €2.7 billion for 2009 after making provisions of €5.2 billion to cover loan losses for the year.

The bank, like Bank of Ireland, has three major obstacles on the road ahead:

The fallout from Nama with the losses incurred and subsequent capital requirements;

The European Commission’s view on the bank’s viability for the future; and

Where, in the long-term, the Central Bank will set the capital threshold.

While the bank may not transfer the €24 billion in loans originally estimated by Nama, the discount is likely to be higher than anticipated, leaving the bank facing the same capital deficit.

Analysts estimate that AIB needs €4.4 billion to raise capital to the crucial ratio of 8 per cent of risk-weighted assets – the international standard expected for retail banks with large franchises. The bank may have more options than Bank of Ireland when it comes to generating capital – it has more businesses to sell – but the bank has more money to raise than its rival, which requires an estimated €2.2 billion.

Analyst Sebastian Orsi at Merrion Stockbrokers believes that, after Anglo, AIB is “the worst affected” on the capital front. “There are still significant challenges in raising the quantum of capital that is needed,” he said.

The struggle for AIB is how it can get to that crucial €4.4 billion figure. Selling Polish lender Bank Zachodni would create an estimated €1.8 billion in capital gains and savings by reducing loans against which it must hold cash.

Disposing of the bank’s 24 per cent stake in US bank MT would bring in €800 million. This would still leave the bank some €1.8 billion short. Given that the bank is valued at €883 million after the share price dropped below the €1 mark this week, a “rights issue” cash call would be a hard sell to investors, particularly if the bank tried to retain the Polish or other businesses. The sale of the bank’s UK business could generate €650 million.

Selling smaller businesses, such as Goodbody Stockbrokers, might help but it will yield only modest gains, given the capital required.

AIB is planning a debt swap of some of €3.3 billion in lower tier-two bonds – similar to a deal that netted Bank of Ireland €405 million earlier this month. Plans for this liability management exercise are expected to be announced with the results next Tuesday.

Depending on the take-up from bondholders, this could net €300-€400 million.

Another headache for AIB is that one option for boosting capital – bringing in a strategic investor by selling a stake in the bank – may only work with the Polish division attached.

Analysts at French bank Société Générale said this week that AIB could raise €519 million by selling a 20 per cent stake to an investor.

Introducing a large international investor may also ease the bank’s heavy funding pressures. Canadian bank CIBC, which has been circling AIB since its interest emerged last year, could still take a stake, but its interest in the lender is thought to be as a base for international growth out of both Ireland and Poland.

Therefore, AIB faces a dilemma – should it keep the one asset (Bank Zachodni) which, if sold, could generate the most capital to keep open the option of luring a strategic investor? The bank has signalled it is keen to keep it.

Ultimately, Brussels may force AIB’s hand when it rules on its restructuring plan and the bank’s future viability without State aid, compelling it to offload key businesses.

Given the task facing AIB, it is generally anticipated it will have to cede a large tranche of ordinary shares to the Government, converting some of the State’s €3.5 billion preference share investment to make up the capital deficit. However, the bank will be pushing all other options before falling further (and reluctantly) into the arms of the Government.

With little clarity on the impact of the first Nama transfers, and no fixed date on the commission’s ruling, Colm Doherty will announce the 2009 results in his first presentation as managing director in something of a vacuum.