Minister O’Donovan Speech to MergerMarket Deal Drivers Ireland Conference, 27th September 2017
Perspectives on the Irish banking sector, the economy and the international risks facing Ireland
Speech to MergerMarket Deal Drivers Ireland Conference by
Patrick O’Donovan, Minister of State with special responsibility for Public Procurement, Open Government, and eGovernment at the Department of Public Expenditure and Reform
Wednesday 27th September, 2017
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Good morning everyone. I would like to thank MergerMarket for inviting the Minister for Finance to speak at this prestigious event and send on his apologies as due to diary constraints he is unable to be here today. I am here and am delighted to address several topics which I hope will be of interest.
Today’s event is entitled “Deal Drivers Ireland” and I know you will hear from speakers later this afternoon in relation to the Irish M&A market, technical aspects of executing transactions, IPOs and financing transactions – whether by debt or equity. I will touch on some of these topics from the Government’s perspective. I will also comment on Budget 2018 which is less than two weeks away and our thoughts on corporation tax policy.
Let me first try to set the scene from a macro perspective by commenting on the state of the Irish economy. The economy and its outlook will have a significant bearing on M&A activity in Ireland and also for Irish companies seeking to expand abroad.
The strong growth in the economy last year, of 5.1 per cent, has continued into this year with annual GDP growth of 5.8 per cent recorded in the second quarter of this year.
Growth is now increasingly driven by domestic factors, following an initially export-led recovery, as both consumer and business confidence continue to recover.
We are predicting continued growth next year, which will be spread across the economy rather than be concentrated in a small number of sectors as during the Celtic Tiger years.
A good indicator of the health of the economy can be measured in terms of jobs and job creation. In business it is often commented that “cash is king” and I think the equivalent in assessing the strength of the economy is the labour market. This is a rich source of high frequency economic data which can be used to assess, at a point in time and on a trend basis, the underlying performance of the economy.
The latest data, published by the Central Statistics Office last Friday, shows that total employment rose by 2.4 per cent on an annual basis in the second quarter of the year.
What is even more encouraging is the shift from part-time to full-time work, with the number of those now in full-time positions increasing by 77,800 or 5 per cent, year on year.
To put this in context, the number of people in employment is now at its highest level since 2008 and the seasonally-adjusted unemployment rate of 6.1 per cent in August is the lowest rate since the second quarter of 2008 and compares with a high of over 15% in early 2012.
Importantly, employment growth remains broad based with gains reported in 11 out of 14 sectors.
More broadly speaking, for every 10 jobs lost during the deep recession, 7 have now been replaced.
And in what would be considered an extraordinary thing to say just a couple of years ago, the economy could once again move towards full employment next year.
The Banking Sector
There is a symbiotic relationship between banks and the economy as we need our banks to support the growth in the economy and we need our economy to grow to ensure the continued viability of our banks.
We should take a moment to remember the lessons from the past. Prior to the global financial crisis, there is little doubt that with the benefit of hindsight our market, which is small in European terms, was overbanked.
The easy availability of wholesale funding from around the world enabled many banks to sacrifice lending standards and pursue unsustainable lending growth in a race for market share and profits.
Over-confidence and a lack of oversight and challenge both internally and externally also contributed to the boom and subsequent bust.
It is obviously more complicated than that but broadly speaking this is what happened.
The financial crash, when it happened here, unfortunately broke international records and not in a good way.
Ireland was forced to take decisive action to address our banking collapse through the bank guarantee, the cumulative investment of €64 billion into the sector; the establishment of NAMA to deal with problem land and development loans; the merging and downsizing of banks; and the liquidation of IBRC.
The banks themselves also took action with significant deleveraging, staff cuts, branch closures and, in many cases, the forced sale of foreign businesses which provided diversification.
Banks cut headcount and branches as they sought to realign costs with significantly reduced income and in recognition of changing consumer behaviour.
Frontline staff were redeployed to deal with mortgage arrears and problem loans.
Boards and executive management teams were significantly changed over a period of several years. A new fitness and probity regime was introduced which, if you talk to any bank chairman in Ireland, is a very onerous process. Rightly so.
A new European regulator, the SSM, commenced operations in late 2004. But the regulatory changes in Ireland started even prior to that with significant changes in the Irish Central Bank in terms of intrusive regulation by higher calibre people who could more effectively challenge the banks.
The result of this collective effort is that our banking system is now smaller, simpler and stronger with both Bank of Ireland and AIB profitable since 2014.
I welcome the fact that AIB is back paying dividends and that Bank of Ireland recently signalled that it intends to resume payment of dividends.
The sector has come a long way from the days when it was reliant on Central Bank funding and State support for its survival.
However, I recognise that we have not solved every problem.
For instance, there are still many customers who struggle with excessive debts and those that find it challenging to access the credit that they need at a price they believe makes sense. I would encourage such customers in the first category to engage with their lender if they have not already done so. For those seeking credit, shop around. Ultimately banks exist to lend but it is important that underwriting standards are maintained.
The recent IPO of AIB
Since there will be a session on Irish IPOs later this afternoon, I thought it would be of interest to provide the government’s perspective on the recent IPO of AIB.
Taxpayers invested €20.8 billion in AIB and government policy is to recover this investment in full over time.
The IPO was two years in the planning and as it turned out is currently the second largest IPO in the world, and the largest in Europe, this year.
It was also the largest IPO on the London Stock Exchange since 2011.
The bank obtained premium listings on both the London and Irish Stock Exchanges and many of you present will recognise the importance of this.
Therefore in global equity capital market terms this was a very significant transaction which showcased Ireland and the remarkable recovery of the Irish banking sector to a global audience of sophisticated institutional investors.
Our advisers were a mixture of local and international firms who worked well together under the direction of the Minister and his officials to deliver a positive outcome for the State.
Our sale of shares raised €3.4 billion for the State and was used for debt reduction as we borrowed most of the money we invested in the banks in the first place.
Therefore we have €3.4 billion less debt which, using our average debt funding cost of 3%, implies an annual interest saving of about €100 million.
As I mentioned this IPO was almost two years in the making and was only possible due to the progress made by the economy and the bank itself along with market conditions as these factors all contribute to valuation.
The bank, my officials and our selling syndicate carried out over 1,400 investor meetings globally.
The quality of the order book was very high and allocations were made to approximately 350 global institutional investors with the Top 15 investors all categorised as either “long-only” investors or sovereign wealth funds.
As you may recall, we also provided for a retail offer.
This was important to the Government as we felt it only fair and equitable that taxpayers were afforded the opportunity to buy stock at the same price as the institutional investors.
One of the many lessons from the financial crisis is that share prices can go down as well as up so the retail offer was conducted through several stockbroking firms so that professional advice was available if required.
The size and quality of the institutional order book enabled us to secure an excellent valuation for the State and a successful start and top class share register positions us well for future sell-downs of AIB in the coming years.
Taking our three investments in AIB, Bank of Ireland and PTSB in aggregate, I am confident that we will recover in full the taxpayer investment of €29 billion over time.
Challenges facing the Economy
Having commented on the economy, the banking system and the recent AIB IPO in a positive light I should assure you that we are by no means complacent. There are challenges ahead which we have to plan for to the extent we can.
In particular the UK’s decision to leave the EU and the ongoing changes in US policy may significantly impact the Irish economy.
The recent appreciation of the euro-sterling bilateral rate will, if sustained, pose significant challenges, particularly for agri-food, tourism and areas of our economy that are sensitive to cross-border trade.
As the depreciation in sterling most likely reflects a structural change in the UK economy, it is essential that the policy response is also structural in nature and, it goes without saying, in line with EU State aid rules.
Continued market diversification must be part of the policy response, so that dependence on and exposure to the UK market is reduced.
The Government’s trade strategy – Ireland Connected – published earlier this year, sets out a number of measures specifically addressing Brexit related issues, including diversification of markets for indigenous exporters.
In addition to the potential challenges posed by external factors, we must also remain conscious of domestic challenges.
The ongoing issues in the housing market have imposed not just a hugely significant social cost on society but may begin to inhibit the competiveness of the Irish economy, by restricting the mobility of labour and potentially discouraging companies from moving here.
Given these challenges it is vital that;
- the public finances remain on a sustainable path;
- we maintain our focus on competitiveness, and;
- we address the lack of housing supply along with other infrastructural bottlenecks.
As we approach full employment, it is important that we learn from the mistakes of the past and ensure that budgetary policy does not contribute to the overheating of the Irish economy.
The Government is acutely aware of this.
We are now less than two weeks away from Budget 2018 and as you can imagine there is a considerable amount of work taking place in Merrion Street within both the Department of Finance and the Department of Public Expenditure and Reform.
It has to be acknowledged that the turnaround in our economic fortunes would not have been possible without the difficult choices and sacrifices made by the Irish people.
Minister Donohoe commented on Saturday at the Dublin Economic Workshop that he will do nothing in next month’s Budget to endanger the hard won gains of the last few years.
Sustainable public finances are a pre-requisite for improvements in living standards and for those considering investing in Ireland.
Our first priority was to correct the excessive deficit – that is to bring the deficit below 3 per cent of GDP – which was achieved in 2015.
The next requirement is to eliminate the structural deficit and broadly balance our books. We will achieve that next year for the first time in 10 years.
Our debt remains high but is reducing as a percentage of our economy and it was very encouraging to see Moody’s upgrade the Irish sovereign last week.
However, an issue of some concern is the fact that actual public indebtedness continues to increase.
Moreover, other metrics such as the ratio of debt-to-GNI-star show a much less rapid reduction in the public debt to income ratio.
For these reasons, the Government will continue to place a premium on debt reduction.
A second priority is to invest taxpayers’ money carefully and with continued reform to deliver the best capital projects, services and targeted income supports.
To deliver more for vital infrastructure like roads, energy and communications.
Or to deliver better health services, faster broadband and a more efficient public transport system.
And to deliver on our promise of more housing, both public and private.
Budget 2018 will see an additional €4.1 billion for capital investment across the next four years.
This will see public capital expenditure increase by over 80% by 2021 to €7.8 billion and will position Ireland above the long-term EU15 average of 3% of GDP by 2021.
Our third objective in Budget 2018 is to make steady and affordable progress in reducing high rates of tax for low- and middle-income earners.
We need to affordably and sustainably move away from a system of personal taxation where those on average incomes pay the top rate of income tax.
My colleague, the Minister for Finance, will in the coming weeks speak to our colleagues in the Government and in the wider Oireachtas about how we can move, in the spirit of consensus, towards progress in this area, while also ensuring our other commitments in terms of tax and spending, as set out in the Programme for Government and the Confidence and Supply Agreement, are met.
The fourth objective we have in Budget 2018 is to support businesses and families to plan for the future.
This means having a long-term vision for this country, not just one that focusses on the short-term.
For that reason, the Government will be publishing a ten year capital plan for our country not long after the Budget which will seek to address the investment, housing and spatial planning issues that we must address if we are to be fighting fit for the future in the decade to come.
Corporate tax is a topic which often comes up as a topic of interest. Let me be very clear – Ireland remains committed to global tax reform and believes that global solutions are needed to ensure tax is paid by companies where value is created.
That is why Ireland has been a committed participant in, and strong supporter of, tax reform efforts led by the OECD through the BEPS process.
The OECD is already carrying out important research into the digital economy, with the publication of its interim report expected in Spring 2018.
This will provide important input into the ongoing consideration of where value is created in digital business.
Ireland’s position is that it would be best to take action having considered that OECD analysis as a consistent global approach is needed.
Any solution must build on a shared understanding of where value is actually created by digital business.
Because we can no longer speak of “the digital economy”.
Instead, we can speak of an entire economy that is “digitised”.
Applying different rules within the EU to what is being applied globally is likely to result in double taxation and greater uncertainty.
It is also important to note, I hasten to add, that there is no official proposal currently for a change on the way tax policy decisions are taken in the EU.
Under the EU Treaties, for the European Council to move a policy area such as taxation from unanimity to qualified majority voting, it would require a unanimous decision to do so.
The support of the European Parliament would also be required and the Irish Government will not support any change to existing EU voting rights on corporation tax.
In conclusion let me finish by assuring you that Ireland is well on the road to recovery as the recovery in the economy and our banking system clearly demonstrate. We are, however, by no means complacent and we recognise the challenges on the horizon. Budget 2018 will be framed with these challenges in mind.
Thank you for your attention and I hope that dealmaking activity in Ireland and by Irish companies abroad continues to increase and that you enjoy the rest of the sessions this afternoon.
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