Keywords Finance

The banks' year-end bonanza immediately drew fire. Urged on by the COUNCIL OF CANADIANS, small groups of protesters demonstrated outside bank branches in Edmonton, Ottawa, Toronto and St. John's, Nfld. "Put an end to the greed," declared Peter Blair, the council's executive director. Democracy Watch, an independent Ottawa-based consumer group, said that Canadians are justified in suspecting that the banks are "gouging" them on service charges and interest rates because the industry has failed to disclose information that proves otherwise.

Academics and bank industry analysts, however, say that service charges actually contribute only a small proportion of the banks' total profits. At the Bank of Nova Scotia, income from service charges across all divisions rose by 11 per cent to $439 million, but only about 10 per cent of that is profit, vice-chairman Bob Chisholm estimated. Royal Bank spokesman David Moorcroft, meanwhile, said that about three per cent of after-tax earnings came from service charges on personal deposit accounts. Compared with overall bank earnings, profits from deposit service charges are a "pittance," said Bill Cannon, a professor of finance at Queen's University in Kingston, Ont.

Industry observers cite three major factors for this year's big jump in bank earnings:

Lower loan losses. Each of the banks has sharply reduced its provisions for bad debts. "The reduced losses are just huge in explaining the better bottom line," said Larry Wynant, associate dean of business at the University of Western Ontario in London, Ont. Analyst Hugh Brown of Nesbitt Burns Inc. added that loan-loss reductions account for about half of the $4 billion in annual profits the banks have added to their balance sheets since 1992, the industry's worst year this decade.

In the easy-money days of the late 1980s, loan write-downs took an enormous bite out of bank profits. Traditionally, loan-loss provisions account for about 0.3 per cent of each bank's assets, says Wynant. In the late 1980s and early 1990s, that figure rose to more than one per cent, forced up in part by the collapse of corporate giants such as Olympia and York, the Toronto-based real-estate empire controlled by the REICHMANN FAMILY. Lower interest rates and a healthier economy have since brought credit-loss provisions down to about 0.22 per cent of assets, Brown estimates. And while personal bankruptcies are still high, "you need a lot of little guys going under to equal the corporate losses," says Susan Cohen, an analyst with Deacon Capital Corp. in Montreal.

Investment banking and mutual fund sales. Most of the banks' operations enjoyed increased volumes in 1996, but the stellar success of their brokerage houses and mutual funds left all other divisions in the dust. Flying high on the strength of a skyrocketing stock market, the Bank of Nova Scotia's Scotia Capital Markets, for example, tripled its net income in 1996 to $232 million, while the Bank of Montreal saw its investment-banking earnings more than double to $115 million. "The profits coming from those operations are record-breaking," said Cohen. The Toronto-Dominion Bank has become one of the country's leading mutual fund dealers. TD's mutual fund assets rose by $4 billion in 1996 to $10.2 billion.

International operations: The five largest banks now generate a significant slice of their profits outside Canada. The Bank of Montreal leads the pack, earning 47 per cent of its net income internationally. In the past two years, the bank has boosted its Chicago-based subsidiary, Harris Bank, from 40 branches to more than 140, becoming one of the largest retail banks in the U.S. Midwest. And this year's purchase of a 16-per-cent stake in Mexico's Bancomer accounted for $39 million of the bank's $182-million increase in annual profits. "We planted trees in an environment where the growth rates are higher," said Barrett.

The Big Six have also positioned themselves for the future by investing millions in telephone and on-line banking, services that are growing rapidly. Last year alone, the number of customers using the Royal Bank's telephone banking service jumped 184 per cent to 870,000. In the crucial area of loan-loss reductions, however, Brown and other analysts believe the banks may have gone as far as they can go. As a result, he predicts that earnings will grow by eight per cent in each of the next two years, compared with this year's 21 per cent. But even with those more modest growth rates, Canada's largest banks will continue to bring in the billions.

Total Profits of Canadian Banks
In billions of dollars (courtesy Maclean's).

Bashing Zed
The fight between Canada's banks and backbench MPs over credit-card interest rates is starting to get personal - not to mention nasty. Last month, New Brunswick Liberal MP Paul Zed organized an all-party group of more than 100 parliamentarians to support his call for a public inquiry into the rates charged by banks and major retailers. "It's important to realize this is not a bank-bashing exercise," the MP said at the time. "There are retailers who deserve equal scorn."

Zed's dogged pursuit of the issue has won him no friends on Bay Street. Last week, bank industry representatives were privately asking why Zed has not been equally critical of the interest rates charged by major oil companies. They pointed out that Zed is connected by marriage to New Brunswick's powerful Irving clan, which owns Irving Oil, the largest gasoline retailing company in Atlantic Canada. Zed's wife, Judith Irving Zed, is a granddaughter of the late tycoon K. C. IRVING. Currently, Irving Oil charges its customers 24 per cent annually on balances that are not paid within 25 days.

In fact, Zed's initial press release on the subject did mention gasoline cards, albeit only in passing. "Our group may decide to address the gas companies at a later date, depending on the response provided by the banks and retailers," the statement said. "Gas company cards represent a very small proportion of total credit cards in use and are responsible for only a small portion of sales in comparison with banks and retail cards."

Asked about the Irving connection last week, Zed defended his approach and accused the banks' Toronto-based lobby group, the Canadian Bankers' Association, of trying to smear his reputation. "It's too bad they've stooped to this sort of personal attack on my wife's family," he said, adding that CBA vice-president Mark Weseluck raised the Irving family tie earlier in the week while both men were appearing on a radio call-in show in London, Ont. "What interests me is the fact that the CBA seems to have significant dossiers on members of Parliament," Zed said. "They're a cartel. I think this is going to blow up in their face."

At week's end, CBA officials were trying to defuse the controversy. "I recognize it probably was inappropriate to single out that one company," Weseluck said. "All we're saying is that there hasn't been much reference in this debate to other card issuers" besides the banks themselves. By the sound of things, however, Zed and the banks are far from ready to make up.

Maclean's December 16, 1996

Author JOHN SCHOFIELD, ROSS LAVER