Royal Bank of Canada (RY) 2003 Q4 法說會逐字稿

Good afternoon, ladies and gentlemen. Welcome to the Royal Bank fourth-quarter earnings release conference call. I would now like to turn the meeting over to Ms. Nabanita Merchant, Senior Vice President of Investor Relations.

Thank you. Good afternoon everyone and thank you for participating in this conference call regarding our fourth-quarter 2003 results. We will spend about 15 minutes describing our results and then take your questions. Gordon Nixon, President and CEO, will provide the highlights of our performance; Jim Rager, Vice Chairman for RBC Banking, our largest business segment which accounted for 47 percent of our fourth-quarter earnings, will discuss RBC Banking's performance in the fourth quarter; Peter Currie, Vice Chairman and CFO, will give more details about our results, and then Suzanne Labarge, Vice Chairman and Chief Risk Officer, will outline trends in our asset quality. Five other members of our group management committee are available to take your questions -- Elisabetta Bigsby, Senior Executive Vice President Human Resources and Public Affairs, and four heads of our business segment -- Peter Armenio from RBC Investments; Chuck Winograd of RBC Capital Markets; Marty Lippert of RBC Global Services, who is also our CIO, and Jim Westlake, Head of our RBC Insurance. Our VP of Finance Janice Fukakusa is also with us.

Please not that the comments we make in this call may include forward-looking statements that are subject to risks and uncertainties. In that regard, I would draw your attention to the cautionary statement, which is the first slide in our quarterly results, slide Document.

With that, I will now turn it over to Gordon Nixon.

Thank you and good afternoon. We are pleased to report record fourth-quarter net income of $804 million, as well as record 2003 earnings of over $3 billion. As shown on charts four and five, fourth-quarter net income was up 10 percent from a year ago, diluted earnings per share were $1.19, up 13 percent from a year ago, and our return on equity was 18 percent. These were achieved despite a 10 percent or 16 percent appreciation of the Canadian dollar relative to the U.S. dollar, which reduced the translated value of U.S. dollar-denominated earnings as shown on chart six, as well as an accounting loss as outlined in our press release from our decision to use equity rather than cost accounting for private equity investments.

I will leave it to Peter Currie and Suzanne Labarge to discuss our revenue, expense and asset quality performance in a few minutes.

You will note from chart eight that our performance for all of 2003 met or exceeded our objectives for the year in the areas of ROE, portfolio quality and capital ratios with ROE in line with our 17 to 19 percent target. The provision for credit loss ratio below the target range and capital ratio is above our medium-term goals. However, expenses were unchanged, while revenue growth was dampened by the weak capital market environment during the first six months of the fiscal year, as well as the significant strengthening of the Canadian dollar this year which lowered the translated value of U.S. dollar-denominated revenues by $495 million.

Chart nine shows our objectives for 2004, which are similar to those in place in 2003, with the exception of the specific provision for credit loss ratio goal which we are lowering to .35 to .45 percent to reflect the improved credit market environment bringing it in line with our medium-term goals. We have not made any changes to medium-term goals.

The performance of our business segments is shown on charts 10 to 19. In the interest of time, I will focus only on chart 10 which shows that three of our business segments -- RBC Capital Markets, RBC Investment, and RBC Insurance -- recorded strong earnings growth in the fourth quarter. RBC Capital Markets benefited from lower provisions for credit losses, RBC Investments from higher client trading volumes in the U.S. and Canadian brokerage operations and RBC Insurance from better reinsurance results.

Turning to our U.S. operations, you will note from chart 20 that our U.S. net income of 382 million accounted for 13 percent of total net income, up from 210 million or 7 percent in 2002. Net income from U.S. acquisitions made since 2000 shown on chart 21 was up $25 million between 2002 and 2003.

In the fourth quarter, there was a signature improvement in the earnings at RBC Dain Rauscher due to strong performance in its full-service brokerage business and a decline in its retention compensation costs. However, earnings at RBC Centura fell largely due to a decline in mortgage origination volumes and higher hedging and other costs at RBC Mortgage. This was a result of problems that are being fixed and of which Jim Rager will discuss in a few moments. Improving the performance of our U.S. operations is one of our critical objectives for many of us in group management committee.

With that, I would like to turn it over to Jim who is going to go through some of highlights of the results in RBC Banking.

Thank you and good afternoon. I will briefly review our RBC Banking's performance focusing on our earnings, revenue, market share, expenses and provision for credit losses. As you can see on chart 12, our net income after-tax was $1.55 billion in 2003, which was up 1 percent over last year, although that was down 6 percent in the fourth quarter from the same quarter of last year.

Results were positively impacted in the quarter and the year by strong volume growth in Canada and the U.S. with the exception of Q4 U.S. mortgage volumes. Our results were negatively impacted by RBC Mortgage hedging and other costs as Gordon mentioned, continued strengthening of the Canadian dollar and continuing spread compression. Return on equity strengthened. Our ROE was over 20 percent in both Q4 and 2003, and both of those were up from a year ago.

Total revenues in Q4 were down 3 percent from the year ago. I would like to discuss this performance breaking it down into Canada and the U.S.. First of all, our Canadian results as shown on chart 13, Q4 Canadian revenues were up 2 percent over a year ago. Q4 volumes were up significantly with residential mortgages up 8 percent, personal loans also up 8 percent. Excluding student loans which you know are running off, such volumes were up 13 percent, fueled in part by the success of our secured Royal credit line product.

Card volumes were up 15 percent, primarily due to the success of our Aviion (ph) campaign and proactive increases in credit limits to targeted qualified clients, and personal and business deposits were up 7 and 9 percent respectively. The pressure on spreads resulted in net interest income declining 3 percent in the quarter, but other income was up 16 percent in the quarter compared to a year ago, which included a 20 percent increase in fees earned on card products. A 1.6 percent reduction in our noninterest expense in Canada resulted in earnings growth in the fourth quarter over the fourth quarter of last year of 11.5 percent and a 56.5 percent efficiency ratio.

Our Canadian market share position shown on slide 14 as of August 2003, which is the latest date we have, and are compared to January of 2003. Total personal deposits and mutual fund market share increased 11 basis points since January. This is attributable to nonregistered GIC growth through selective competitive product positioning and pricing and a significant success in the retention of registered investments this year, with registered deposit and mutual fund investment transfers out of our company to the competition reduced by over 20 percent. RBC continues in a number one market position for personal deposits and mutual funds combine.

Our market share and mortgages at 14.9 percent has held its own this year with a 14 basis point increase since January 2003. It is a very competitive market, and we continue to be the number one provider in the country. Our specialized mortgage salesforce with strong origination capabilities coupled with our September launch of a new self-employed mortgage options product positions us well in a market for the future.

Our personal loans and credit cards market share at 13.5 percent is up 16 basis points from January of this year. We have witnessed strong Visa card balance growth and strong growth in lines of credit, especially home equity lines and indirect lending that provides point-of-sale financing to over 3000 Canadian auto and recreational vehicles dealers.

Now let me talk about the U.S.. Returning to slide 13, you will see that Q4 USA revenues denominated in U.S. dollars were down 13 percent, whereas for the year as a whole, they were up 6 percent. Personal and business loans and deposits compared to a year ago were up 5 to 8 percent including good growth in core deposit balances. However, RBC Mortgage Q4 revenues declined by $50 million compared to a year ago, principally due to a 16 percent reduction in mortgage origination volumes in Q4 and additional hedging and other costs, which were due to record mortgage applications experienced in the third quarter the May to July period of 2003, which resulted in backoffice problems as our staff, technology and processes were unable to handle the volumes on a timely basis impacting the delivery of loans for the secondary market.

Our new management team is now addressing these backoffice problems and is making new technology investments and strengthening our management reporting systems to ensure that they do not reoccur in the future. We expect U.S. revenues to strengthen in 2004 in response to further development and aggressive rollout of our home equity line of credit or helock (ph) origination capability in our Centura footprint, leveraging the technology infrastructure and marketing and distribution capabilities of Sterling Capital mortgage, and expansion of our Southeast U.S. branch network, as well as positive results for leveraging our proven Canadian sales processes. Once again we expect to contain the problems at RBC Mortgage, and that they will not reoccur in similar fashion in the future.

Turning now to costs, overall and back to slide 12, noninterest expenses in Q4 were down 1 percent from a year ago. Tight expense management was able to cover increased costs emanating from the addition of 415 full-time equivalent positions in the Canadian network to build our sales capacity, increased pension and benefit costs, U.S. acquisition impacts, and higher costs at RBC Mortgage in response to the increased origination and refinancing activity in the third quarter. Our provision for credit losses in Q4 was up $9 million or 7 percent from a year ago, largely due to lower commercial market recoveries. In 2003, PCO was down 12 percent, largely in our small business and personal lending portfolios.

So in conclusion, Q4 was a challenging quarter for us due to continuing pressure on spreads, the strengthening of the Canadian dollar and the problems that we had at RBC Mortgage. Going into 2004, we are taking firm action to reposition RBC Mortgage and grow earnings in both Canada and the U.S. leveraging our strong sales infrastructure and healthy PCL performance.

I will now turn it over to Peter Currie.

Thanks, Jim, and good afternoon everybody. Turning now to our revenue performance, you will note from chart 25 that total revenues were $4.25 billion in the fourth quarter, and that is down $17 million from the year ago. Noninterest revenues were 62 percent of total revenues compared to 59 percent a year ago.

As shown on chart 26, the significant appreciation of the Canadian dollar relative to the American dollar reduced the translated value of our U.S. dollar denominated revenues and negatively impacted our revenue growth. Were it not for the stronger Canadian dollar, revenues in the fourth quarter would have been up $183 million or 4 percent, and revenues for the year would have been up $382 million or 2 percent from the corresponding period a year ago.

Turning to the net interest margin, you will note from chart 27 that it was down 23 basis points from a year ago due to narrower domestic banking margins, largely from deposit spread compression and a growth in low-interest yielding assets. Compared to last quarter, the margin narrowed 5 basis points, reflecting spread compression in Canadian retail banking. Chart 28 shows that fourth-quarter noninterest revenue was up $110 million or 4 percent from a year ago, largely due to $113 million of losses on the sale of available for sale securities in the last year's fourth quarter, and those did not reoccur this quarter.

Primarily for this reason, gain on sale of securities was up $126 million from the fourth quarter of 2003. Other notable changes were a $44 million increase in underwriting and other advisory fees which reflected stronger investment banking results, a $28 million increase in investment management and custodial fees largely reflecting increased fees from the appreciation of equities. Trading revenue was down $45 million due to lower revenues earned on many of our fixed-income businesses and in global equity derivatives trading. Mortgage banking revenues, which relate to mortgages originated in the USA by RBC Centura and its subsidiary RBC Mortgage, were down $69 million for reasons discussed by Jim Rager a moment ago.

Chart 30 shows that excluding U.S. acquisitions, revenues would have been up 3 percent from the fourth quarter of 2002, and further excluding the Canadian U.S. dollar exchange rate change, revenues would have been up 5 percent. This is a gain due to the impact of RBC Mortgage.

Turning now to expenses, you can see from chart 32 that noninterest expenses were down $19 million or 1 percent from last year's fourth quarter, net of a $140 million reduction in the translated value of U.S. dollar-denominated expenses, again due to the depreciation of the Canadian dollar relative to its American counterpart. We recorded higher pension and (inaudible) benefit costs as shown in chart 31, as well as higher expenses relating to further augmenting our retail banking technology infrastructure and expanding our retail banking salesforce.

Moving onto the balance sheet, you will infer from charts 34 and 35 that we registered strong growth in residential mortgage, personal loans and credit cards over the past year and continue our deliberate effort to reduce the size of our corporate loan book. As shown on chart 36, our Tier One and total capital ratios now stand at 9.7 percent and 12.8 percent respectively, and they are both up over last quarter and year ago. During the quarter, we repurchased a total of 3.6 million common shares at a cost of $214 million, and during the year, we repurchased a total of 14.5 million common shares at a cost of $852 million.

We have 19.1 million shares available for repurchase up to the expiration of the current share repurchase program, which expires on June 23, 2004. Our sizable internal capital generation appears on chart 37. In terms of our quarterly common share dividend, as chart 38 shows, we increased our dividend in the fourth quarter when our payout ratio was 38 percent, in line with our 35 to 45 percent payout target. We announced today that our common share dividend for the first quarter would remain at 46 cents per share.

That concludes my brief remarks. I will now turn it over to Suzanne Labarge to discuss our loan portfolio. Suzanne?

Thank you, Peter, and good afternoon everyone. I will now take a few minutes to provide you with an update on RBC Financial Group's asset quality. To get started, chart 39 provides you with the current breakdown of our loan portfolio by sector. The consumer lending portion increased to 66 percent of our loan book as business and government loan declined to 34 percent, down from 35 percent last quarter and 39 percent a year ago. Our business and government loan portfolio continues to be well diversified.

Turning to charts 40 and 41, you can see that nonaccrual loans climbed by a further $154 million in the quarter and are down 720 million or 29 percent from their peak of 2001. The improvements were noted in virtually all products for the past two quarters. Domestic consumer nonaccrual loans declined by 2 percent in the quarter and are now 14 percent lower than this time last year. The decrease in domestic business nonaccrual loans included the sale of part of the loans related to a Canadian transportation account. As well, the decreases in our U.S. and other international nonaccrual loans were largely driven both by loan sales and recovery in certain media and cable and energy accounts. This decrease was partially offset by the classification of the U.S. energy account of nonaccrual in the quarter.

As shown on chart 42, the provision for credit losses in the fourth quarter is $137 million compared to 157 million last quarter. The provision for credit losses for the year is 715 million, which at 350 million lower than last year. This year's provision for credit losses is at its lowest level since 2000.

Chart 43 provides the impact of credit-driven gains and losses realized on accounts and defaults. This year the bank realized net credit derivative gains of $14 million compared to 46 million in 2002. Chart 44 provides you with an update on the current level of credit protection that the bank has purchased and sold by sector. As of October 31st, 2003, we have bought credit protection totaling 694 million and sold protection totaling 289 million. The continued reduction in credit protection bought reflects the overall improvement in our asset quality.

Chart 45 demonstrates the stability of our Canadian consumer loan portfolio as provisions for credit losses to average loans have been well within the 35 to 45 basis points range for the past seven quarters. Chart 46 shows that during the quarter net charge-offs were $211 million compared to 227 million last quarter and 330 million a year ago.

Charts 47 to 50 provide an update on our exposure to the more sensitive sectors. As you will see, we reduced our loan exposure in all of these sectors this quarter. Power generation distribution loans decreased by 18 percent this quarter to $1.2 billion. The majority of this decline was in the non-investment grade portfolio. The increase in net impaired loans of 27 million this quarter was largely due to a new impaired loan in the energy sector as mentioned earlier.

Consistent with previous quarters, telecommunications cable loans decreased again by 15 percent this quarter. The telecom non-investment grade loan portfolio has now been reduced by over 50 percent from a year ago. Airlines and aerospace loans as well as net impaired loans decreased by 23 percent this quarter with most of the decline attributed to the airline sector.

Loans outstanding in hotels, restaurants and entertainment are also down 9 percent this quarter. While this sector is largely comprised of non-investment grade loans, the credit quality of this portfolio still remains sound. Charts 51 and 52 attest to our continued solid trading performance.

In conclusion, the Capital Markets nonaccrual loan portfolio continues to decline and remains well provided for. Exposure to challenged sectors continues to be reduced, the consumer lending portfolio of credit quality remains stable, and our trading performance remains solid.

At this point, I would like to turn the call over to the conference operator so we can begin the question-and-answer period.

(OPERATOR INSTRUCTIONS). Jamie Keating, RBC.

Good afternoon everyone. My question relates to page 32 of the Canadian GAAP fourth-quarter report. I am curious if we can expand a bit on the progression in shareholders equity, which has moved up but only marginally, and I believe the reason it did not move up more had a lot to do with the unrealized FX translation gains and losses and the net impact of the hedging. I am just wondering if you can describe if that is a timing difference situation, and/or if there's a tax impact just to get a sense of what the underlying retained earnings might be over time?

Were you referring to page 32 of the Canadian GAAP chart?

Of the fourth-quarter report, it says 32 on my printout. It is just the statement of changes in shareholders equity statement.

You are talking about the earnings press release. Okay.

While you're looking for it, at the bottom, the balance of the end of the period in retained earnings, it grew from 10.18 to 10.44 from last year to this year. It is a big swing obviously in unrealized FX, and I just wondered if you could talk through whether there is a timing issue there, or whether that capital is lost?

We have Janice Fukakusa with us, who is our EVP of Finance. I am going to ask her to make a comment on that. It's on page 32 of the Canadian GAAP statement relevant to the press release.

This year we implemented a new hedging policy where we effectively unhedged some of our strategic investments, and those are investments in the U.S. that we will be retaining for the long-haul. As a result of us taking the hedges off and the hedges came off mostly for goodwill, all of the net currency translation gains and losses pass through the statement of retained earnings here. So what is reflected on a net change basis is the result of the change in hedging policy.

And the fluctuation in the currency in the year, and that will fluctuate depending on the movement of the Canadian dollar quarter to quarter. But it flows through retained earnings only.

but I think the other important thing is to look at the 1814 in concert with the 3094 that you see below. So I think you've got to look at those two numbers in tandem. The net decline is about 400 also.

Okay. Maybe I will follow-up on that, but that is helpful. Perhaps for Suzanne, if I could just ask, the loan-loss provision this quarter was nice and low. It looks like it is below trend. You're guiding I think a bit higher on a target basis. Could you just describe what lead to the decision to keep the loan-loss provision low this quarter?

It is the natural fact the number of accounts we had that went bad and the kind of provisions we needed against it. It has been a very good quarter. We have had very few loans that were moved into impaired that require provisions. We have found that all of our regulatory views and our internal practices that we were well provided on existing bad debts, and we had very good performance in our regular loan books. So we had recoveries on the commercial loan as Jimmy mentioned, but essentially our portfolio performed extremely well over the last quarter, and we are as every indication would suggest very comfortably provided on the accounts that we have in our special loans group.

Thank you.

Rob Wessel, National Bank Financial.

I have a question about your U.S. acquisition strategy. I just want to know if this is the right way to think about it. Your Tier One is not quite 7 percent. In your 2004 objectives, you do not give a minimum capital ratio. You use the term, maintains strong capital ratios. I would resume that's to give you flexibility to draw your capital down should you make an acquisition.

But I think the general question is, obviously if your three to five-year medium-term capital ratio is 8 to 8.5 percent, you're suggesting you are going to draw your capital ratios down. I guess what I am wondering is when? When are you going to buy something, or how much further along or what progress have you made on your U.S. expansion strategy or are we just on a holding period until the government clarifies consolidation next fall?

I will make a comment, and then I think Peter wants to chirp in. Firstly, you say drawdown; there are other alternatives in terms of managing capital -- (multiple speakers). It can always be paid out to shareholders.

I think we made it very clear that we are going to continue to invest in all of our businesses in all markets. Priority is clearly the U.S., but we have also made it very clear to the market that we are not going to invest aggressively if it's going to impair our fundamentals. One of the challenges you have in terms of acquisition investments in the U.S. is to simplify things. You have got to have got a look a lot of mid-sized institutions with midteen ROEs that trade at very high earnings multiples, and you have got ourselves and the other Canadian banks with very high ROEs trading at lower multiples. Whether that it is right or wrong, that is the way the market currently is reflected.

As long as that remains the case, we are going to continue to invest slowly, and as you have heard before, we have got really a three-pronged approach. One is we're continuing to open branches in the Southeast, and we've got a game plan in place, and we have been doing that over the last little while, and we will continue to do so. We have made some smaller acquisitions, just recently closed one of them in Florida as you know. We will continue to look to add to the existing platform that is in place. We would look at more meaningful acquisitions if they were attractive and presented themselves. But there are not a lot of alternatives at this point in time given relative valuation, so we are going to remain very cautious for the time being.

It leaves us the challenge of managing our overall capital, but we are managing that between a reasonable amount of investments, and of course, we just announced the acquisition of UnumProvident Canadian operations, some of the smaller acquisitions that I mentioned in the U.S.. We have been increasing our dividend payout ratio, and we have been buying back stock, and we will continue to do that until we see opportunities to breakout more effectively.

I think with respect to next fall, I think your guess is as good as mine in terms of what may or may not occur with respect to consolidation in the Canadian marketplace. But in the interim, we are going to continue to manage the business as we have been over the last little while.

It is Peter Currie. I just wanted to make a point on the capital ratio outline that we provided in our press release. I point out that we're quite explicit in terms of our medium-term goals, which for us are three to five years, and we say 8 to 8.5 percent for Tier One ratio and 11 to 12 percent for total capital ratio.

We think it is more prudent to indicate that we want to maintain strong capital ratios in the intervening periods like next year and the year after rather than give a specific number for all the reasons Gordan has enunciated. But I think it is also -- it would be uncharacteristic for us to give a very very specific number in that case as well. So that is the reason behind that sort of guidance if you will.

Sure. But would a 7 percent Tier One ratio qualify as strong?

Well, you know as well as I do, the guidance that Aussie (ph) has given to all the large Canadian financial institutions, where they view notwithstanding the BIS minimum levels, they view 7 percent as a or have viewed it as a floor. So I am not sure I would say 7 percent is strong, but that is just my interpretation at this stage in the game. I think it's largely situational as well.

I would just say given the nature of this organization and the importance we place on balance sheet strength, financial strength, credit ratings, etc., it would be very unlikely that we would trend down to the low-end of a minimum range.

Great. One more quick follow-up. Given that you mentioned that the acquisition environment is less than favorable, have you contemplated a more aggressive de novo strategy? One more quick part of that, how many years does it take you to get your branches to breakeven?

We have increased slightly our de novo expansion strategy. I am going to ask Jim Rager to just outline what we are doing now.

We've got plans -- let's talk about the Atlanta region and Florida. In both of those places, we have plans to open 10 to 12 new branches in the next year. We have already opened three or four in the Atlanta area just in the last couple of months. The rest of those will be I think in place by the end of the second quarter of next year. That has gone very well so far in terms of the initial launching of those branches and the customer acquisitions that we have managed to achieve in that short period of time.

The same thing with Florida, we broke ground the other day on our first new branch there, and we have 10 planned for next year. So I think that is about what we can safely and comfortably launch, say, through the first six to nine months of next year, and we are going to see how those things progress, what sort of success we have with them.

You know the breakeven points depend on the areas really. Florida is faster growing. We have a shorter I would say 12 to 18 month horizon on breakeven in those branches. Atlanta probably two years.

Thank you very much.

Steve Cawley, TD Security.

I want to focus on RBC Mortgage with Jim. The first question, Jim, is on a Canadian GAAP basis, there was a $75 million fluctuation in the revenues. I believe Sterling was included for one month of the quarter. Can you breakout for us, of that $75 million variance, how much of it was as a result of the hedging losses, and how much of it would have been as a result of lower revenues because of volumes?

Well, volumes in the fourth quarter were just short of $3 billion versus just short of $8 billion in the third quarter. Sterling contributed very little to revenue in the fourth quarter, less maybe 6 or 7 percent. So that really was not that much of a factor there.

Virtually all of the issues in RBC Mortgage in the third quarter/fourth quarter were due to hedging costs, mark-to-market costs, and some servicing rights that we had that we sold just to get those off of our books and dispose of those entirely.

Okay. So you were mentioning that you have got new people in place that are trying to stop this issue. Are we going to continue to see hedging type losses into 2004 and the beginning of 2004, or is that it?

We will not have the same kind of experience in 2004 as we have had in the fourth quarter of this year. That is for sure. So you will see this stabilizing very quickly.

Stabilizing quickly. Okay. Your distribution you have on the mortgage front, I believe that is pretty much entirely in trial. Is that correct? It's pretty much a captive salesforce?

The Sterling Capital Mortgage is about 90 percent internal product, yes mortgage banking.

What about your own? What about excluding Sterling? You are using outside distributors there?

No. These are all our salespeople. The difference is that RBC Mortgage has been what we call a banker/broker model. 60 percent RBC product, 40 percent broker product. Sterling Mortgage is about 90 percent Sterling product versus 10 percent broker product. We want to shift the balance of the whole thing more toward the Sterling product and the Sterling operating model because the margins are higher and there is more stability in the earnings.

One point that I would make is clearly we've got a hiccup in that mortgage business in the fourth quarter, which we fully disclosed in the results. Since inception of that acquisition, the returns from RBC Mortgage remained very attractive. But there is no question as a result of a number of the reasons that were outlined we had some operational problems which have been dealt with.

I can appreciate that, but with the 40 percent that you say is 60/40 with the RBC, has the distribution relationship been negatively impacted acted because of the backoffice issues or not?

I am not sure I understand the question, Steve?

How about I ask you another question, and maybe what I will do is follow-up with Nabanita on distribution and whether or not these issues have impacted distribution or not?

They have not. They have not at all.

On Sterling, the timing of the Sterling acquisition, and I was hoping we could go into that a little bit, you bought it pretty much what I would consider to be at the top of the mortgage market, and now that there are some operational issues going on at RBC Mortgage, should I be concerned about your ability to manage this acquisition? Can you talk about how Sterling will be integrated and what their role is in all of this?

The management of Sterling is strong. They have had a very disciplined approach to the business. The technology that they use in their -- they have more of a straight-through processing capability in the infrastructure that they use. They did not have these problems in the fourth quarter in their business. They are much more efficient, streamlined and disciplined in the approach so that they manage through this.

There was a great surge in volume there in the third quarter of this year. They managed very well through that, and we have confidence that they will give us a significant improvement in the overall management of the business.

Thanks.

Ian de Verteuil, BMO Nesbitt Burns.

My first question has to do with slide 20 of the Canadian GAAP. It looks as if the market risk associated with the Royal Bank continues to rise quite dramatically. You are up about 4 percent in the quarter, but you are up almost 50 percent versus last year and almost double what you were two years ago. I was wondering, Suzanne, if from a risk point of view, you could talk to the issue of the Royal Bank generally taking on what looks to be more trading risk. It looks as if the VAR is up a bit, but not tremendously, and the trading numbers, which can be volatile, were not as good as Q3. Is there a fundamental shift going on at the Royal Bank with respect to trading?

Go back to two years ago and just remember that we dropped down all of our trading following September 11th. So two years ago we were definitely where we probably were the lowest we have ever been and ever will be again because we pulled out of markets as we were rebuilding our New York operations.

The VAR varies from quarter to quarter and as you can see from day-to-day. It does tend to remain under $15 million, which is where it has been over really the last five years. There has been more activity in certain areas. We did acquire another fixed-income team, which meant we were doing more in interest rate. But a lot of it is really just the normal activity. We still run one of the best returns for trading relative to the risks that we take in the industry and continue to manage it very closely. But there is not a major strategic shift or a major risk increase going on in the trading group.

Again, I am slide 20 here. Your market risk associated with the bank has traveled in five years. I don't understand how there could not be a meaningful increase in risk. I forget 2001, which I see is down a bit, but you can pick this as any year, the market risk associated with the bank seems to be meaningfully higher. How should I look at that? It looks as if RBC is effectively saying there is more risk associated with the books.

In business, we have grown every business. We have grown our trading business, and you will get, as we increase our economic capital, we've increased our economic capital for market risk as well. So our share of risk is attributed to market risk, as really what I am saying is we have not shifted our profile to increase our trading risk relative to our other risks. So as the bank grows, yes, our trading risk will grow because we've got more economic capital. We have maintained if not lowered really the amount of capital allocated purely to trading risk.

On that analysis, the market risk was 3.7 billion in 1999, which was about 3 percent of the credit risk. Now it's almost 8 percent of the credit risk.

I will also make the point that what we have had since then is a complete revamping of our value at risk model. So in actual fact, we have got a much more refined model that picks up products that before we were doing under the standardized approach because they could not include it in the model. So what you have got now is more of our risk is reflected in the VAR rather than what we used to use which is a standardized approach where we calculated off to the side because we could not take certain products in our trading risk models.

I would love to understand why that number is increasing so much. The second question is -- I guess go back to Steve's issues on the mortgage business. It seemed -- I was not clear -- the problems weren't in getting the mortgage backs off the balance sheet it sounds like so that you hedged. Does that show up in spread revenue, or does that show up somewhere else?

It shows up in non-interest income. Non-interest revenue.

Non-interest revenue. So the spread compression that occurred in RBC Banking does not have anything to do with what happened in the mortgage --?

That is right. That is a different set of circumstances.

And you pointed out in your presentation that was almost due entirely to deposit spreads on deposits. Is that right?

The changes in spread in RBC Centura are due to a couple of things. First of all, we are repositioning the asset side of the balance sheet of RBC Centura. We are reducing our real estate exposure. Although we are replacing that with new C&I loans, the spread on those loans is lower; they are higher quality and I think better for the future.

Secondly, we have changed the risk profile of the securities portfolio. As a result, that has lowered the margin, the spread in RBC Centura. They had prime deposit compression as you have seen throughout the industry in the U.S.. It is a combination of those three things that has hit their net interest margin.

And the Canada spreads still remain under pressure?

No. In Canada, the whole issue of deposit compression and competitive pricing on our deposit products, mortgage breakage and I think I have spoken before about this, we are on our credit card portfolio locking in some funding on that portfolio in anticipation of some day rates going up so that we will be more hedged against that increase in rates. That has lowered our net interest margin on that portfolio.

I think it is also important to realize if you look at RBC Centura, there has been growth in personal loans, business loans, deposits. Essentially there is a lot of input and output into that business. As Jim mentioned, we have reduced significantly the real estate portfolio that was in RBC Centura, which was an intentional shift with respect to the overall risk balance of the organization.

We have moved the treasury and securities operations to be managed out of Toronto as opposed to an independent treasury group. We've moved a lot of the fee-based businesses such as advisory and investments into RBC Dain Rauscher. So while we are trying to provide as much disclosure as we can, and I think we do a very good job at it, there are a lot of outputs and inputs that go into those numbers.

Thanks for trying to answer the questions.

Heather Wolf, Merrill Lynch.

A couple of questions. First, again, a follow-up on the mortgage business. The contribution from the U.S. in the retail bank was down to 2 million from 42 million. Should I interpret from the answers to the previous questions that 42 million is probably a more sustainable run-rate than 2 million is?

Yes.

Okay. And I guess a follow-up is, as I understand it, your highly levered toward origination with very little offset in mortgage servicing rights. So how do you plan to sustain the earnings coming from that franchise going forward as mortgage originations continue to drop?

Mortgage origination for refinancings are dropping for sure. I remember another thing that is different about the Sterling model if they are more focused on the purchase market with relationships with builders and realtors. That contributes about 75 percent of their origination is in that type of activity. So we are going to focus more overall toward that so we can balance out the volatility and origination that comes and goes as a result of the interest rate cycles. In addition, we are working with RBC Insurance to get more insurance penetration there that we think over time that will help us as well.

But as interest rates go up, isn't that going to impact the primary market as well as the refinancing market?

I did not hear the first part, Heather.

As interest rates go up, isn't that going to affect all mortgage markets, not just the refinancing aspect of it?

I think interest rates are still at a pretty low level from the prospective of a homebuyer. It is still very affordable to buy a home because of where interest rates are, as opposed to jumping in when rates drop because you can get a lower payment.

It may have some impact, and obviously there will be offsets with respect to that in terms of things like spec compression, etc. as well.

One last question on the UnumProvident acquisition. I know it was relatively small, but I interest, I was under the impression that manufacturing insurance was typically a low double-digit return business in general. I am curious if you think that the returns at UnumProvident are going to be higher, and are you concerned that it might drag your ROE?

It is Jim Westlake speaking. We have certainly done better than low double digit on all aspects of insurance, including the manufacturing, and typically this business would carry higher returns than typical life insurance. So I think the numbers that we sent out last week would indicate we have expectations in at least the high double digits between 17 to 19 percent as a run-rate for this business.

Great. Thanks.

Quentin Broad, CIBC World Markets.

A couple of questions if I may. One for Suzanne. You mentioned your provisions looked like they did going back into 2000 and that you are well provided for against your current impaired. So I am just curious as to a) if we go back to 2000, obviously we're just heading into the storm. Today it looks like we are coming out of the storm or fully out of the storm. Your guidance appears to be 750 to 950, and I cannot exactly put the number on it because you used repos in that number. But why so high given what you just positioned in the quarter, what you're saying with respect to your balance sheet exposures, and what you are looking at in terms of the climate 2000 versus today?

There are a couple of things on that. One, if you take a look at the mix of our business, our retail book runs as I say between the 35 and 45 on a regular basis, and as our retail loan book becomes a more important part of our portfolio, you could expect a slight trend up -- and that's our growth rate -- you can expect a normal trend up in PCL.

Secondly, as both Jim and I had indicated, we have been extremely fortunate over the last two years in our commercial business in Canada, where we have actually had both years we have had recoveries greater than our gross amount of provisioning. That is not sustainable.

But you know the other thing is I mean predicting credit losses is a little hard to do, but what you are very much affected by is event risk. We have a number of clients that are always on the watchlist, and a number always go over one year. You cannot predict which quarter they will happen or when they will do, but we are very comfortable with the range that we put. Obviously we continue to hope that we will outperform it, but the environment is uncertain enough that we are very comfortable with the range that we put for our goal.

Okay. Secondly I guess, Jim, you have had a challenge with the mortgage banking, but I will ask one more. Just in terms of the number you said to Heather -- 42 is more like run-rate -- what is the 2 million ex- of the after-tax impact of what has gone on at RBC Mortgage?

2 million. No, it is the combination of -- (multiple speakers)

I think the question was related to the performance of the business and the mortgage business which we don't breakout.

We don't break that out. But I will just say that Centura had better performance in the fourth quarter than it did in the third.

So I guess that was my point because Gordan you had said that while RBC Mortgage has performed very well and this is a hiccup, obviously that very well contribution has been seen in the prior quarters.

That is right.

Finally, just in terms of revenue growth expectations that you would have, even when we backout the foreign exchange changes, the revenue was running below your '03 target. So as you go into '04, and that includes you don't backout any of the acquisitions you have made, etc., that is just new business and the organic -- so as you look into '04, what gets you more comfortable? What areas are you really focused on to help pull you threw on the revenue side that obviously did not come through in fiscal 2003?

In the RBC Banking?

Obviously that is a consolidated goal, but it is there, so it could touch any of the businesses I guess if you are hoping capital markets are the prime driver of that versus RBC Banking?

RBC Banking, first of all, I think we have got good momentum volume-wise in our business in Canada. The spreads will come back, and we will benefit from that. Secondly, commercial banking in Canada has been very low growth, nonexistent in fact. We expect loan demand to pick up at some point. We will benefit -- we are very well-prepared for that to occur.

In the U.S., as I said, we have been doing a lot of repositioning, but starting to get good volume growth in a lot of different areas. We expect that to continue. Our helock (ph) strategy is just really being rolled out now, so we will benefit from that. There again, spread interest rates will eventually go the other way, and we will benefit from that. We have had very good core deposit growth.

This is other thing about the Centura deposit portfolio, we have been repositioning that away from CDs which are less profitable and less relationship-oriented kind of products to core deposit accounts activities where we have had pretty good growth there, so we will benefit when rates move up.

The comment I would make is that as we build our plan for 2004 and our mid-term plans, there is a lot of input and work that goes from all of our businesses. I think if you look at the growth plans that we have in each of our businesses, there are pockets in all of them where we would expect to see continued improvement. Another example of that is clearly the investment side, where we had very strong performance in the second half of 2003. Less so in the first half because of the activity in the markets, and as we move into the first quarter of 2004 and beyond, we are certainly expecting to have continued performance more similar to what we come out of the year-end with as opposed to what we went into the year with.

Finally, if I can just -- I think Rob Wessel asked you a question with respect to capital, and you answered, it's not only acquisitions but buybacks and dividends. Could you give us a better sense -- how do you look at the 35 to 45 where you have increased that guidance to those levels? Obviously to get it to a 45 percent level in using even the short end of your EPS target is going to require a fairly substantial dividend hike.

So two things. First, it the top end of this range that everybody has put out there a realistic goal? It is a realistic on a retrospective view or on a prospective view? Are we looking into 2004 earnings with the notion that we want to have our dividend at 45 percent or 40 percent?

You know I get the question. I think that -- and I caveat my response that our dividend policy is a board policy, not a management policy, so very general in nature. I think what we have done is we have expanded that range by 5 percent, increased it by 5 percent. If you look at our performance historically, we have tended to be closer to the middle of the range as opposed to the upper end or bottom end of the range but clearly have the flexibility depending on what happens quarter to quarter.

We also have a history of continuous regular increases in our dividend, and I think from a management perspective that is a policy we would like to continue to maintain as we move forward and as we continue to improve the results of the organization. But as I say, ultimately dividend is something that is very much done at the discretion of the board. But I think you can look for us to continue to attempt to stay within the middle as opposed to the upper end of that range, but certainly we have the flexibility to do so in the event that we don't see opportunities for investment that we would hope.

Michael Goldberg, Desjardins.

I just wanted to make it clear, you describe the RBC Mortgage issue as a hiccup. Is there a hiccup element in the margin compression also? Are we seeing something that for at least a little while could be a little bit more persistent? I also have a question about the UnumProvident acquisition. Let me start with this one first, though.

When you're talking about the net interest margin, you are speaking of Centura, RBC, Royal Banking Canada, or Mortgage?

I am speaking of the RBC Banking margin compression, which maybe encompasses a few things.

It does. It encompasses the competitive environment, which I don't think is going to change anytime soon. We are vigilant about giving up pricing too much to preserve our margin share, but we have got to protect our business base, and I think we have been pretty good at that. The direction of interest rates is a weekly assumption that we make here, so whether that will come back in the direction that will be favorable to us, we are just going to have to see as time goes on.

Okay. I did have some questions about the UnumProvident Canada acquisition. How much did Royal Bank actually pay for this, and how much capital has to be allocated to this business?

As you know, we have done several of these deals, we are not purchasing a company. We are not buying shares. We are basically doing a reinsurance transaction on the block of business and purchasing some fixed assets. We always wrestle with how to let everybody know exactly what the economics of that are.

In this transaction, we are paying an amount of money to UnumProvident. We are adjusting some reserves. We are putting up for money for capital, buying fixed assets. What we thought was the best way we could portray that is at the end of all that, what has been our total investment in terms of the money paid, including the capital that we will put in there to support the business, and that number is just under $500 million and will be final when we do all of the actuarial adjustments on closing.

Just so that I understand this, I think I recall seeing that in RBC Life, the Canadian Life subsidiary, you show us having I think $160 million of capital, with roughly the same amount of assets that you are adding with the UnumProvident acquisition, which as you have indicated, requires a substantially greater amount of capital. Can you explain this apparent difference?

I think we are actually adding considerably more. I think the assets of this are a little over double the size of our current RBC Life operation. In both cases, we would be running -- the capital will be all one, and it will be done consistent with Canadian MCCSR, running at about 160 percent so if we are just strictly taking the liabilities off of both the life and the disability business and applying that formula.

So you will stay at roughly 160 percent MCCSR?

That is our normal run-rate on that business.

Okay. Finally, can you elaborate on your comment about better reinsurance results in the fourth quarter?

Yes. We were involved in a number of reinsurance businesses. We have a very strong position in the life retrocession business in the United States market. We are involved in some financial some financial reinsurance transaction finite deals, as well as property reinsurance. And all of the results on that business have done very well, very hard pricing market, meaning good for us in that market which has been sustained really since the end of 2001.

Was there anything specific that contributed in any kind of non-recurring way on the strength in that reinsurance?

No. They were just all very good. I would say that the returns would be ahead of what you would plan, but as long as the rates stay hard and we are not seeing a softening of the market. The global reinsurance business has been fairly hard-hit, and the rates are staying hard as the companies have experienced downgrades, so we see that continuing into 2004 at that rate structure.

Thanks very much.

Operator, we have time for one more question.

Jim Bantis, Credit Suisse First Boston.

I had a question about the U.S. Capital Markets business and RBC Capital Markets as a whole. The provisions looked like they saved the quarter a little bit in the context of higher expenses and lower revenues. Arguably the revenues were due to the trading revenues. But if Chuck can explain the tickup in expenses for consecutive quarters now and perhaps give us a little bit of color in terms of the U.S. platform, the large U.S. brokers and most mid-sized brokers are seeing a very good calendar right now in the equity business, and if you can elaborate how October was and what you are seeing for the rest of the year, Chuck, that would be great?

First of all, I would categorize the increase in expense in the fourth quarter as expenses which were largely what I would call year-end adjustments. The biggest one we had was, for example, a pension increase in London, which came into the picture. We had some very substantial legal bills as well. From a structural standpoint, we have not seen any significant change in expenses.

From the standpoint of the business, our calendar in the U.S. clearly is improving. The fourth quarter was a better quarter in the equity underwriting business. We are seeing better business and expect in the equity business and in the M&A side improvement.

That is great. Thanks, Chuck.

Thank you. This concludes our question-and-answer period. I would now like to turn the meeting back over to Ms. Merchant.

On behalf of everyone here, we thank you very much for your participation. If you have any follow-up questions, please don't hesitate to give me a call. My number is 416-955-7803. Thanks again. Goodbye.

The conference has now ended. Please disconnect your lines at this time. Thank you for your participation and have a nice day.