Management Report 2017

General Information
about the Volksbanken Raiffeisenbanken
Cooperative Financial Network

Structure, business model, and features of the IPS*

This management report supplements the annual consolidated financial statements of the Volksbanken Raiffeisenbanken Cooperative Financial Network.

The Volksbanken Raiffeisenbanken Cooperative Financial Network consists of 915 primary banks (2016: 972), the DZ BANK Group, Münchener Hypothekenbank eG (MHB), the BVR protection scheme, and BVR Institutssicherung GmbH as consolidated entities. The consolidated primary banks include Deutsche Apotheker- und Ärztebank eG, the Sparda banks, the PSD banks, and specialized institutions such as BAG Bankaktiengesellschaft.

The primary banks and MHB are the legally independent, equally ranked parent entities of the Cooperative Financial Network, whereas the other entities and corporate groups are consolidated as subsidiaries.

The Volksbanken Raiffeisenbanken Cooperative Financial Network’s institutional protection scheme (IPS) is set up as a dual cooperative scheme that comprises the BVR protection scheme and the BVR-ISG protection scheme. The two institutional protection schemes are mutually complementary.

The principles and methods of the institutional protection scheme are outlined in more detail in the combined opportunity and risk report.

Definition of the main operating segments

The definitions of the operating segments Bank, Retail, Real Estate Finance, and Insurance, which are covered by the section on business performance, can be found in the notes to the annual consolidated financial statements starting on page 67.

*Institutional Protection Scheme.

Business Performance

Economic conditions

The economic upturn in Germany, which began back in 2013, continued in 2017 and again resulted in above-average economic growth. The latest official figures show that gross domestic product (GDP) adjusted for inflation rose by 2.2 percent year on year, a slightly higher rate than in 2016 (1.9 percent).

During the upturn to date, economic growth has seen relatively little fluctuation from quarter to quarter, and this was again the case in 2017. Global uncertainties, such as the announcement of a hard exit from the EU by the UK, evidently hampered Germany’s economic growth only slightly. A key reason for this is likely to be that the domestic economy was a greater growth factor than foreign trade.

Once again, the main drivers of economic growth were government and consumer spending in 2017. Trends in the labor market were again favorable, wages continued to rise, and consumer price inflation remained moderate, which meant consumer spending increased at a similarly strong rate to the previous year.

Capital expenditure and foreign trade also contributed to the growth of GDP. Exports rose at a faster rate than in 2016. However, as imports also went up significantly, foreign trade did not provide much additional impetus for overall economic growth in absolute terms. Investing activities gained a little momentum. As a result of increasing capacity utilization in industry, there was a sharper rise in spending on capital equipment than before. The pace of growth in construction investment remained high.

Consumer prices increased at a faster rate in 2017, with the rate of inflation advancing from 0.5 percent in 2016 to 1.8 percent in 2017. The main driver was the sharp rise in energy prices, which had been on a steady downward trajectory in recent years. Consumers were also faced with much higher food prices than before.

The favorable trends in the labor market continued. The number of people employed in Germany rose by 633,000 year on year to around 44.3 million, while the number of people out of work fell from just under 2.7 million people in 2016 to roughly 2.5 million. Compared with 2016, the unemployment rate dropped by 0.4 percentage points to 5.7 percent.

Volksbanken Raiffeisenbanken Cooperative Financial Network

Business situation

In a difficult market environment that was predominantly characterized by extremely low interest rates, fierce competition, and demanding regulatory requirements, the Volksbanken Raiffeisenbanken Cooperative Financial Network had yet another successful year in 2017. Profit before taxes amounted to €8,916 million, exceeding the prior-year figure of €8,308 million by €608 million. With its focus on value creation and customers, the regionally oriented business model of the Cooperative Financial Network again proved robust and reliable in these difficult operating conditions.

In 2017, the cooperative banks generated strong and stable growth in their lending business with retail and corporate customers. Overall, lending to retail and corporate customers increased by 5.6 percent, which was 1.1 percentage points above the 2016 growth rate of 4.5 percent. Once again, the main driver of this sustained growth in the lending business was brisk customer demand for personal home loans. The cooperative banks slightly increased their share of the retail customer market once again compared with the previous year. Their share of the corporate customer market was also slightly higher. This was attributable to a buoyant level of lending to the service and construction industries. The cooperative banks are market leaders for lending to agriculture and forestry. The deposit-taking business of the Cooperative Financial Network also saw steady growth, allowing the sharp rise in lending to be funded in full by the increase in deposits from customers.

Equity advanced by 6.0 percent to €104.4 billion as at December 31, 2017 (December 31, 2016: €98.6 billion), thereby breaking through the €100 billion threshold for the first time. This substantial year-on-year increase was achieved despite the persistently difficult operating conditions, once more underlining the sustainability of the Cooperative Financial Network’s successful business model and strengthening its future viability. The sound level of capital adequacy provides the Cooperative Financial Network with a sufficient risk buffer while at the same time enabling it to expand its lending business with retail and corporate customers.

The vitality and financial stability of the Cooperative Financial Network’s business model, with its strong market position in retail and corporate banking, have been rewarded with capital market ratings of AA– from rating agencies Standard & Poor’s and Fitch Ratings. These ratings are encouraging when viewed in comparison with the rest of the sector.

The popularity of the Cooperative Financial Network in the market was once again clearly demonstrated in 2017 by the sustained growth in its membership. Since 2007, the membership base of the local cooperative banks has grown by more than 2.4 million members. As at December 31, 2017, the cooperative banks had a total of 18.5 million members. The average number of members per local cooperative bank increased to nearly 20,000.

Financial performance

Net interest income for 2017 again decreased slightly year on year to €18,638 million (2016: €18,826 million). This figure was primarily influenced by the low-interest-rate policy of the European Central Bank (ECB) and the resulting deterioration of margins. The local cooperative banks’ net interest income, the biggest source of income for the Cooperative Financial Network, also declined year on year, from €16,052 million in 2016 to €15,917 million in 2017.

Allowances for losses on loans and advances grew slightly, from €522 million in 2016 to €576 million in 2017.

Net fee and commission income improved significantly, by 8.9 percent, from €5,963 million in 2016 to €6,491 million in 2017. The increase mainly resulted from the rise in agency and brokerage income in the securities and fund business as a result of strong market conditions.

The Cooperative Financial Network’s gains and losses on trading activities fell by €390 million to a net gain of €709 million, having reached a high net gain of €1,099 million in 2016. Gains and losses on trading activities are largely influenced by the DZ BANK Group.

Gains and losses on investments declined to a net loss of €144 million in 2017 (2016: net gain of €33 million). The prior-year figure had received a particular boost from a positive non-recurring item resulting from the sale of shares in VISA Europe.

Other gains and losses on valuation of financial instruments improved from a net loss of €190 million in 2016 to a net gain of €289 million in the reporting year. The main cause of this increase was the narrowing of credit spreads on bonds from the peripheral countries of the eurozone. By contrast, the previous year had seen a widening of these credit spreads.

Net income from insurance business climbed by 14.7 percent to €1,283 million in 2017 (2016: €1,119 million). This year-on-year change in net income arose from the combination of an increase in premium income and a slight decline in insurance benefit payments, which more than offset a fall in the gains and losses on investments held by insurance companies and other insurance company gains and losses, and a rise in the insurance business operating expenses.

Administrative expenses decreased slightly, by 0.3 percent or €60 million, to €17,884 million (2016: €17,944 million). This was primarily due to the cooperative banks’ active management of costs in 2017. The bulk of the administrative expenses were attributable to staff expenses, which came to €10,138 million in 2017 (2016: €10,318 million).

Income taxes amounted to €2,843 million in 2017 (2016: €2,410 million), with most of this amount (€2,649 million) attributable to current income taxes. This underscores the particular importance of the Cooperative Financial Network for Germany’s regional authorities by virtue of it being one of the largest municipal tax payers.

The net profit after tax rose by 3.0 percent to €6,073 million in 2017, compared with €5,898 million in 2016.

The Cooperative Financial Network’s cost/income ratio came to 65.3 percent in 2017 (2016: 67.0 percent).

Financial position

The consolidated total assets of the Volksbanken Raiffeisenbanken Cooperative Financial Network had risen by €27.5 billion to €1,243.3 billion as at December 31, 2017 (December 31, 2016: €1,215.8 billion). The volume of business increased from €1,599.4 billion in 2016 to €1,662.8 billion in 2017.

Of the total assets before consolidation, 61.7 percent was attributable to the primary banks (December 31, 2016: 60.6 percent) and 35.3 percent to the DZ BANK Group (December 31, 2016: 36.4 percent). The remaining 3.0 percent was attributable to Münchener Hypothekenbank, the BVR protection scheme, and BVR Institutssicherung GmbH.

On the assets side of the balance sheet, loans and advances to customers grew by 3.9 percent to €761.9 billion (December 31, 2016: €733.2 billion). In 2017 again, this rise was predominantly attributable to the primary banks, whose loans and advances to customers climbed by 5.6 percent and thus outstripped the 2016 growth rate of 4.5 percent. As anticipated, personal home loans were the main growth driver in the retail customer business. The increase in lending to corporate customers (loans to non-financial companies and selfemployed people) by the local cooperative banks was mainly attributable to lending to the service and construction industries.

Financial assets held for trading contracted by €10.2 billion or 21.1 percent to €38.1 billion as at December 31, 2017 (December 31, 2016: €48.3 billion). This decline in financial assets held for trading resulted largely from a decrease in derivatives (positive fair values) of 27.5 percent to €17.1 billion as well as a decrease in bonds and other fixed-income securities of 3.3 percent or €0.3 billion to €9.0 billion.

On the equity and liabilities side of the balance sheet, deposits from customers grew again, from €774.3 billion as at December 31, 2016 to €801.0 billion as at December 31, 2017. Deposits from banks also increased significantly, climbing by 9.5 percent to €113.1 billion (December 31, 2016: €103.3 billion).

Corresponding to the change in financial assets held for trading, financial liabilities held for trading fell by €7.4 billion or 16.7 percent to €36.8 billion (December 31, 2016: €44.1 billion). This fall was due, in particular, to an €8.3 billion decline in derivatives (negative fair values) to €16.8 billion. Also within financial liabilities held for trading, however, the volume of bonds issued and other debt certificates issued rose by 1.0 percent to €13.0 billion (December 31, 2016: €12.9 billion).

There was a further strong increase in the Cooperative Financial Network’s equity, which advanced by 6.0 percent to €104.4 billion (December 31, 2016: €98.6 billion). The main reason for this rise was the appropriation of profits generated in 2017 to boost reserves.

Capital adequacy and regulatory ratios

The disclosures relating to own funds and capital requirements are based on the outcome of the extended aggregated calculation in accordance with article 49 (3) of the Capital Requirements Regulation (CRR) in conjunction with article 113 (7) CRR.

The consolidation carried out as part of the extended aggregated calculation demonstrates that by far the greatest proportion of the consolidated own funds consists of the own funds of the primary institutions. The growth in own funds therefore arises primarily from the profits generated by the primary banks and network institutions. Rights issues by the network institutions are for the most part subscribed internally and consolidated within the Cooperative Financial Network.

Due to the exclusion of internal exposures within the network in accordance with article 113 (7) CRR, risk-weighted exposure amounts are generally not consolidated. Consolidation measures primarily include directly and indirectly held own funds instruments within the institutional protection scheme and therefore particularly affect equity investments of primary institutions and subordinate receivables due to them from network institutions, especially from DZ BANK AG. Consolidation measures are based on the corresponding own funds categories (corresponding approach).

The impact of consolidation on the level of the risk-weighted exposure amounts is therefore negligible, whereas own funds decrease. The method by which the consolidation is carried out results in a total capital ratio for the institutional protection scheme that is lower than the corresponding ratio for the sum of all primary institutions.

As at December 31, 2017, the own funds of the Cooperative Financial Network amounted to €97.7 billion (December 31, 2016: €92.1 billion). The Tier 1 capital ratio including reserves in accordance with section 340f of the German Commercial Code (HGB) was 15.6 percent (December 31, 2016: 15.4 percent). Due to the high quality of the capital, the common equity Tier 1 (CET1) ratio calculated in accordance with full application of the new CRR provisions was only slightly lower at 15.5 percent (December 31, 2016: 15.2 percent). As had been the case a year earlier, the bulk (89.5 percent) of the total risk exposure of €611.5 billion (December 31, 2016: €572.5 billion) subject to capital charges (see the table on page 19) was attributable to counterparty risk.

The leverage ratio for the Cooperative Financial Network as at December 31, 2017 was reported for information purposes using the methodology specified in article 429 CRR. This was based on Tier 1 capital as determined in the extended aggregated calculation in accordance with article 49 (3) CRR, which is adjusted for all internal Tier 1 capital positions within the joint liability scheme of the Cooperative Financial Network. The risk exposures were determined by aggregating the individual leverage ratio submissions of all the member banks and adjusting them for material internal exposures within the joint liability scheme.

Using Tier 1 capital (including reserves in accordance with section 340f HGB and applying the new CRR provisions in full) as the capital basis, the leverage ratio was 7.7 percent (December 31, 2016: 7.3 percent). This ratio underlines the sound capital adequacy of the Cooperative Financial Network.

Financial performance

2017 € million2016 € millionChange (percent)
Net interest income18,63818,826–1.0
Allowances for losses on loans and advances–576–52210.3
Net fee and commission income6,4915,9638.9
Gains and losses on trading activities7091,099–35.5
Gains and losses on investments–14433>100.0
Other gains and losses on valuation of financial instruments289–190>100.0
Net income from insurance business1,2831,11914.7
Administrative expenses–17,884–17,944–0.3
Other net operating expense income110–76>100.0
Profit before taxes8,9168,3087.3
Income taxes–2,843–2,41018.0
Net profit6,0735,8983.0

Breakdown of change in profit before taxes by income statement items

€ million


A: Profit before taxes for 2016

B: Changes in net interest income

C: Change in allowances for losses on loans and advances

D: Change in net fee and comission income

E: Change in gains and losses on trading activities

F: Change in gains and losses on investments

G: Change in other gains and losses on valuation of financial instruments

H: Change in net income from insurance business

I: Change in administrative expenses

J: Change in other net operating expense income

K: Profit before taxes for 2017

Breakdown of the total as - sets held in the Volksbanken Raiffeisenbanken Cooperative Financial Network as at December 31, 2017


Primary banks




Münchener Hypothekenbank


Breakdown of the total risk exposure

€ million

Risk-weighted exposure amounts for credit, counterparty, and dilution risk, and for free deliveries547,241510,093
Risk exposure amount for settlement and delivery risk0
Total exposure amount for position, foreign-exchange, and commodities risk11,18410,193
Total amount of risk exposures arising from operational risk (OpR)49,85349,707
Additional risk exposure amount relating to overheads00
Total amount of risk exposures for credit valuation adjustment (CVA)2,1752,463
Total amount of risk exposures relating to large exposures in the trading book00
Other exposure amounts1,0370
Total risk exposure after adjustment611,490572,458

Operating segments of the Volksbanken Raiffeisenbanken Cooperative Financial Network

Bank operating segment

The net interest income of the Bank operating segment declined by €98 million to €1,525 million in 2017 (2016: €1,623 million).

The net interest margin contribution in the corporate banking business increased again in 2017. Germany’s large and medium-sized companies continued to show a high level of willingness to commit to capital investment in the year under review. By some distance, bank loans remained these companies’ preferred means of covering their financing requirements, which arose principally from the need for expansion investment and funding to cover a rising volume of business. Nevertheless, a sound capital and liquidity position enabled the vast majority of large and medium-sized companies to meet their capital investment requirements from their own cash flows or reserves.

The net interest margin contribution from the development lending business in the Investment Promotion division went up year on year even though the significant downward pressure on margins continued. The main areas of development activity within traditional investment finance were business startups and the implementation of energy efficiency measures in both the residential real estate and agriculture sectors. In spite of this fiercely competitive environment, the aforementioned development lending portfolios expanded.

The main year-on-year changes in the net interest margin contribution from each of the product fields in the Structured Finance division were as follows. In the syndicated business/renewable energies product field, another rise in the net interest margin contribution was achieved, in particular in connection with the funding of wind turbines, in an increasingly competitive environment. The product field also received a boost from spending brought forward in anticipation of consequences from the amendment of the German Renewable Energy Sources Act (EEG 2017). In acquisition finance, large numbers of customers once again made use of the high degree

of liquidity in bond markets to redeem their loans. However, a selective approach to the granting of new loans helped to generate a year-on-year rise in the net interest margin contribution. There was a slight decrease in the project finance product field’s net interest margin contribution in 2017. The net interest margin contribution from international trade and export finance business increased year on year.

In the transport finance business, the decrease in net interest income was largely attributable to higher special accelerated depreciation allowances on assets subject to operating leases and to substantially narrower margins as a result of fierce competition around the globe to provide financing, especially in the aviation and land transport markets, in 2017. A smaller volume of new business and contraction of the portfolio following further early repayments of loans also had an adverse impact on net interest income.

The international transport industry experienced overcapacity within some segments of the international maritime shipping market, resulting in sharply falling freight rates and considerable pressure on shipping prices. The crisis also affected offshore business, which suffered from the uncertainty about likely movements in the price of Brent crude. Although this oil price was considerably more stable in the year under review compared with 2016 (average for 2017: US$ 55; average for 2016: US$ 45), the price was still well below the level in the period 2011 to 2014 (average for 2011–2014: US$ 108).

The leasing business saw a slight contraction in net interest income in 2017. This year-on-year fall was attributable to a reduction in net income from equity investments and, in particular, a decline in net interest income in the real-estate leasing, automotive trade, and vehicle fleet businesses, which, together with international business, have been defined as non-core business and are being scaled back. However, the increase in net interest income in the core business largely offset the decrease in the non-core business.

Allowances for losses on loans and advances in the Bank operating segment increased from €523 million in 2016 to €693 million in 2017. This was mainly due to the spiraling of the crisis in some sections of the shipping industry, the resulting excess capacity, and the challenging situation in offshore finance created by the uncertainty about likely movements in the price of Brent crude going forward.

Net fee and commission income came to €519 million in 2017 and therefore fell short of the prior-year level (2016: €603 million). The service contribution from the corporate banking business declined owing to a reduction in new business. The Investment Promotion division failed to reach the prior-year figure. The main factor influencing the reduction in net fee and commission income in the acquisition finance, project finance, and international trade and export finance product fields was the much fiercer level of competition. By contrast, international documentary business improved markedly. In the asset securitization product field, however, the service contribution was down significantly. The service contribution generated by the Operations/ Services division in 2017 was higher than the equivalent figure reported for 2016 as a result of a rise in the income from securities custody business. Net fee and commission income from lending in the transport finance business was lower in 2017 than it had been in 2016.

The Bank operating segment’s gains and losses on trading activities in 2017 came to a net gain of €485 million, down by €366 million compared with the figure of €851 million for 2016. The markedly larger gain in 2016 was mainly attributable to a positive effect on earnings resulting from liabilities recognized at fair value. Moreover, interest-raterelated changes in the fair value of cross-currency basis swaps used to hedge other transactions amounted to a substantial loss in 2017, whereas they had amounted to a small gain in 2016. In 2016, there had also been income from the reversal of provisions to cover the cost of legal proceedings and attorneys.

Key influences on capital markets during the year under review were the continuation of the ECB’s program of quantitative easing and the three interest-rate hikes by the Fed described earlier.

The level of gains and losses on investments again declined, falling from a net gain of €77 million in 2016 to a net loss of €17 million in the reporting year. Gains and losses on investments mainly consisted of income from the disposal of liquidity-pool securities. The decline in gains and losses on investments was partly attributable to write-downs recognized in 2017 on the carrying amounts of entities accounted for under the equity method.

The positive contribution to earnings in 2016 had included income from the disposal of the equity investment in VISA Europe Ltd., London. The asset-backed securities (ABS) business had also generated a positive contribution to earnings, largely from disposals of ABSs that had been impaired in previous periods.

Other gains and losses on valuation of financial instruments improved to a net loss of €10 million in 2017 (2016: net loss of €106 million) as a result of market conditions.

Administrative expenses went down by €90 million to €1,969 million in the period under review (2016: €2,059 million). Increased project-related consultancy and IT expenses pushed up costs, but this was offset by a reduction resulting from the implementation of cost saving measures.

The Bank operating segment’s profit before taxes fell by €517 million year on year to a loss of €93 million (2016: profit of €424 million) due to the factors described above. The cost/income ratio rose from 68.5 percent in 2016 to 76.6 percent in the reporting year.

Retail operating segment

The net interest income generated by the Retail operating segment amounted to €16,489 million in 2017 and was therefore again slightly lower than the prior-year amount of €16,618 million. In the Retail operating segment, volume growth only partly offset the sustained negative effects of the ECB’s low-interest-rate policy. Moreover, lower contributions to income from LuxCredit foreign currency lending reduced the level of net interest income in 2017. Despite unrelentingly fierce competition and the challenging interest-rate environment, net interest income from consumer finance business increased thanks to buoyant consumer demand throughout the year.

Allowances for losses on loans and advances improved from a net addition of €51 million in 2016 to a net reversal of €95 million in 2017. The risk situation in the Retail operating segment remained stable because the macroeconomic environment was positive.

Net fee and commission income in the Retail operating segment rose significantly, advancing from €6,034 million in 2016 to €6,646 million in the year under review. Net fee and commission income in this segment in 2017 was once again primarily influenced by income from payments processing and strong customer demand in the securities and funds business. As a result of the sustained period of low interest rates, retail investors are increasingly turning to investment products with higher expected returns. The volume-related income contribution generated from the average assets under management rose again year on year and was one of the key drivers for net fee and commission income in the Retail operating segment. There was also an increase in income from performance-related management fees during the reporting period. The contribution to income from the fund services business also improved slightly year on year.

The Retail operating segment’s gains and losses on trading activities were virtually unchanged year on year, amounting to a net gain of €213 million (2016: €211 million). Gains and losses on trading activities are derived from trading in financial instruments, gains and losses on trading in foreign exchange, foreign notes and coins, and precious metals business, and gains and losses on commodities trading.

The level of gains and losses on investments deteriorated by a substantial €80 million to a net loss of €174 million in the reporting year (2016: net loss of €94 million) due to a reduced level of price gains and of reversals of write-downs on securities.

In terms of costs, the cooperative banks made further efforts to become even more efficient. Overall, administrative expenses in the Retail operating segment decreased slightly, by 0.2 percent, to reach €15,245 million in the year under review (2016: €15,276 million). The main influences on this segment’s administrative expenses were appointments to new and vacant positions and average pay rises. An increase in regulatory requirements and charges and, in particular, higher costs for public relations/ marketing, IT, and consulting had a negative impact on administrative expenses in the Retail operating segment.

As a result of the factors described above, the Retail operating segment’s profit before taxes improved from €7,197 million in 2016 to €8,088 million in 2017. Consequently, the cost/income ratio fell by 2.2 percent to 65.6 percent (2016: 67.8 percent).

Real Estate Finance operating segment

The net interest income of the Real Estate Finance operating segment amounted to €1,492 million in 2017 (2016: €1,322 million) and was again adversely affected by the sustained low level of interest rates in the capital markets. In the case of loans issued under advance or interim financing arrangements, the Cooperative Financial Network’s Real Estate Finance operating segment managed to strengthen its non-collective income base in terms of volume on the back of a marked expansion in business over the last few years and despite a fall in average returns. This growth largely offset the decline in income from home savings loans and other building loans. The increased customer demand for home savings reflects the extent to which customers value ownership of their own home as a secure investment. Furthermore, when customers sign a home savings contract at the moment, they are guaranteed that the future loan finance will also be at the low interest rates currently prevailing. The German investment market for commercial real estate also performed well in 2017. The increase in the level of competition in previous years, combined with higher demand caused by pressure from investors,

led to a further rise in the prices of commercial real estate in the year under review. Other factors contributing to the uptrend in prices included a greater level of activity in the market, especially by insurance companies and pension funds, and a further shortage of commercial real estate. The upshot was significant downward pressure on commercial real estate margins in 2017, particularly in relation to real estate in prime locations.

The net reversal posted under allowances for losses on loans and advances in the Real Estate Finance operating segment decreased from €45 million in 2016 to a net reversal of €12 million in the year under review.

The net expense traditionally reported for this operating segment under net fee and commission income dropped by €30 million to a net expense of €122 million (2016: net expense of €152 million).

The level of gains and losses on investments in the Real Estate Finance operating segment declined slightly, by €11 million, to reach a net gain of €25 million (2016: net gain of €36 million). The net gain in 2016 was predominantly attributable to the reversal of an impairment loss on a bond of HETA ASSET RESOLUTION AG, Klagenfurt.

Other gains and losses on valuation of financial instruments in the Real Estate Finance operating segment improved significantly year on year, amounting to a net gain of €292 million in 2017 (2016: net loss of €46 million). This increase was mainly caused by a narrowing of credit spreads on bonds from the peripheral countries of the eurozone, whereas credit spreads had widened in 2016.

Administrative expenses rose to €804 million in 2017 (2016: €754 million), mainly due to additional expenses relating to regulatory requirements and strategic projects. Staff expenses fell slightly.

Profit before taxes in the Real Estate Finance operating segment rose by a substantial €436 million to €928 million in the reporting year (2016: €492 million). The performance of the Real Estate Finance operating segment, as outlined above, meant that the cost/income ratio decreased to 46.7 percent (2016: 62.8 percent).

Insurance operating segment

Premiums earned went up by €523 million to €15,181 million (2016: €14,658 million), reflecting the integral position held by R+V within the Cooperative Financial Network. This exceeded the level of premiums earned in 2016 by 3.6 percent. Gross premiums written increased again to reach €15,338 million in 2017, up by 3.9 percent on the high level of premiums generated in 2016 of €14,767 million.

Premium income in the life insurance and health insurance business grew by a total of 0.6 percent to €7,626 million.

In the life insurance business, premium income remained virtually unchanged year on year with just a marginal decline of €1 million to €7,066 million, although there was an increase in premiums outside Germany, contrasting with a fall in premiums within Germany. Premium income went up in both the bAV and pV Fonds businesses, but premium income from pV Klassisch went down. Premium income from health insurance rose by 8.9 percent to €560 million, largely due to an encouraging uptrend, primarily in regular premiums.

In the non-life insurance business, premium income grew by 4.2 percent to €5,521 million, with most of this growth being generated from vehicle insurance business and corporate customers.

Premium income from the inward reinsurance business rose by 14.3 percent to €2,034 million. The reasons for this increase were mainly the upward trends in the vehicle insurance business, especially in the UK and Israel, and in the fire and non-life insurance sectors, primarily in South Africa and the United States.

Gains and losses on investments held by insurance companies and other insurance company gains and losses fell by 9.1 percent to a net gain of €3,531 million (2016: net gain of €3,885 million). Long-term interest rates went up from the beginning of the year under review, whereas they had fallen sharply in the prior year. Over the course of 2017, equity markets relevant to R+V performed better than in 2016. In the reporting year, movements in exchange rates between the euro and various currencies were more unfavorable overall than in the previous year. However, there was a positive impact on operating profit in the life/health insurance segment arising from the reform of the German Investment Tax Act (InvStG).

Overall, these developments led, in particular, to lower net foreign exchange gains and a deterioration in unrealized gains and losses. These negative effects were offset mainly by an improvement in realized gains and losses and a fall in impairment losses.

Owing to the inclusion of provisions for premium refunds (particularly in the life insurance and health insurance business) and claims by policyholders in the fund-linked life insurance business, the change in the level of gains on investments held by insurance companies also affected the ‘insurance benefit payments’ line item presented below.

Net insurance benefit payments decreased by 0.6 percent from €15,400 million in 2016 to €15,312 million in 2017.

In line with the change in premium income and in gains and losses on investments held by insurance companies and other insurance company gains and losses, additions were made to insurance liabilities at companies offering personal insurance. Furthermore, an amount of €827 million was added to the supplementary change-in-discount-rate reserve (2016: €626 million).

In inward reinsurance, the discount rate used by courts in the UK to determine the lump-sum payments for insured personal injury claims was lowered significantly during 2017. This led to a negative impact of €111 million. The inward reinsurance business also had to absorb additional expenses totaling €205 million arising from natural disasters (Hurricanes Harvey, Irma, and Maria) and the earthquake in Mexico.

On the other hand, the non-life insurance business experienced a modest increase in the claims rate in 2017.

Insurance business operating expenses went up by a total of 5.7 percent to €2,595 million (2016: €2,454 million) in the course of ordinary business activities in all three divisions.

The factors described above meant that profit before taxes for the reporting year increased by €114 million to €795 million (2016: €681 million).

Human Resources Report

Human resources report

The increasingly rapid pace of digitalization, which is pervading almost all areas of life, makes it necessary to continually adapt the Cooperative Financial Network’s successful business model. In the years ahead, dealing professionally with new media and IT tools will be included in the job profiles of all bank staff, which means managers and employees need to prepare for the new skill set required in an omnichannel banking environment. New tasks will come to the fore in banks, while others will become less important or even disappear completely. Banks therefore need to plan how many employees they will need, and with what skills, so that they can meet these changing requirements. In view of the evolving job profiles, and also the need to optimize the branch network, systematic personnel management will become a core element of HR work within the individual cooperative banks. This will mean taking account of the banks’ responsibilities as major local employers while also ensuring that they are fully focused on the future.

Anticipatory HR planning was begun in 2016 and continued in 2017. The number of employees fell by roughly 2.5 percent. This was achieved through natural wastage whereby retiring employees were deliberately not replaced. As at December 31, 2017, the number of people employed by the entities in the Cooperative Financial Network (DZ BANK: excluding trainees) totaled 177,248 (see the chart on page 28).

With regard to the digital transformation of the Cooperative Financial Network, an important factor in preparing for the future is the provision of robust inhouse training and continuing professional development (CPD) for trainees. Attracting tech-savvy school leavers to join the banks’ vocational training programs is also crucial. The cooperative banks maintained a good ratio of trainees to other employees of 6.7 percent in 2017 (see the chart on page 30). Launched in 2016, the ‘next’ network for trainees became well-established in 2017. As well as enabling trainees to swap ideas and experiences, the ‘next’ network also serves to recruit new trainees.

The proportion of trainees in the Cooperative Financial Network stood at the high level of 6.3 percent in 2017. The range of apprenticeships and other training offered by the Cooperative Financial Network enables it to compete well with other companies in what is becoming, from the perspective of employers, an increasingly small market of potential trainees. For many years, the Cooperative Financial Network has been one of the most sought-after employers in Germany for school leavers and has held the seal of approval awarded to companies included in ‘Germany’s top 100 employers’. Its appeal has been confirmed by the 2017/18 School Leavers Barometer, a representative survey carried out throughout Germany by the Berlin-based trendence Institute. Many young people see the possibility of obtaining a degree after or alongside their vocational training as an important factor in their choice of employer. For interested young employees, the bachelor degree programs offered through the training providers in the Cooperative Financial Network are a particularly attractive way of gaining further qualifications.

The local cooperative banks and the central institution also offer university graduates diverse and attractive roles and career opportunities. And the list of Germany’s top 100 employers in the trendence graduate barometer indicates that the local cooperative banks have a good reputation among students, too. The survey results again put the banks among the 100 top employers in 2018. This is also evidenced by the stable proportion of employees with a degree, which stood at 8.0 percent in 2017 (see the chart on page 31).

The Cooperative Financial Network is aware that the provision of targeted skills training for employees is very important to its future business success. This training puts in place the prerequisites that will enable the banks to make the most of opportunities presented by change. In light of this, suitable CPD activities have been developed that address the changes to employees’ tasks and areas of responsibility. New processes and technologies make it more pressing than ever to devise a concept for lifelong, self-organized learning. Employees are supported by a wide range of training and development activities offered by regional associations and cooperative academies. This collaboration has borne fruit, demonstrated not least by employees’ long periods of service. Almost a third of employees have worked for ‘their bank’ for more than 25 years (see the chart ‘Years of service’ on page 29). Going forward, the Cooperative Financial Network will continue to pursue the objective of increasing its appeal as a modern, forward-looking employer so that it can attract the committed and motivated employees needed for the digital transformation at all levels of the Cooperative Financial Network.


Number of employees*

* Volksbanken Raiffeisenbanken Cooperative Financial Network.

Years of service



25 or more years


10 to under 25 years


5 to under 10 years


under 5 years

Ratio of trainees to other employees*


* Local cooperative banks, central institutions, Sparda, PSD.

Proportion of employees with a degree*


* Local cooperative banks, central institutions, Sparda, PSD.

Sustainability report

Sustainability – what is it exactly?

Back in 1987, the World Commission on Environment and Development came up with the following definition: “Sustainable development is development that meets the needs of the present generation without compromising the ability of future generations to meet their own needs and to choose their lifestyle.” However, rather than having a onedimensional focus on the future, sustainability encompasses a number of dimensions, as expressed in the guidelines for the German Sustainability Code: “Sustainable business management means looking to the future while balancing social, environmental and economic goals.”

The cooperative principle and self-image

The cooperative banks were founded around 170 years ago on the basis of the cooperative principles of self-help, self-management, and self-responsibility, which were devised by Hermann Schulze- Delitzsch and Friedrich Wilhelm Raiffeisen. To the present day, the cooperative banks have continued to pursue their founding fathers’ principles as widely engaged sponsors and promoters of their regions with utmost commitment and a close connection to their local communities. In memory of their distinguished founder Friedrich Wilhelm Raiffeisen and to honor the values that he promoted, all cooperative banks are commemorating the 200th anniversary of his birth in 2018, which has been designated Raiffeisen Year. After all, Raiffeisen’s ideas are now more alive and relevant than ever before.

Acting in a sustainable manner is a defining characteristic of the cooperative culture. It includes the consideration not only of economic perspectives but also of the environment, community, and society as a whole. Cooperative banks are deeply rooted in society and in their local regions, acting as dependable partners in the establishment of stable economic success over the long term. They have set themselves the goal of combining financial success with a responsible approach to business, in other words assuming responsibility for the development of a positive social framework. Principles such as respect, solidarity, partnership, democracy, decentralization, regionalism, self-responsibility, and helping people to help themselves play a particularly important role in this context. In terms of helping people to help themselves, the cooperative movement has been focused since the outset on improving its members’ financial and thus social circumstances.

For many customers, a responsible approach to environmental, economic, and social topics has become an important factor when choosing service providers. Responsible practices, the integration of sustainability criteria into transparent and efficient business processes and IT systems, and optimum efficiency in the use of scarce resources are key success factors for the cooperative banks.

Economic perspective

As part of a regular review of sustainability criteria, product requirements are double-checked and added to as necessary. Unlocking the potential offered by digitalization, which is influencing members’ behavior, is helping to create more efficient business processes. The change processes that banks are or will be facing in the context of digitalization require adequate preparation and involvement of the workforce. Employees also have to be equipped with the new skills that they need. The launch of new high-quality and sustainable products and services is therefore accompanied by appropriate CPD programs.

Social integration

The cooperative banks have seen their membership base grow steadily for many years. At the end of 2017, they had approximately 18.5 million members in total, having gained more than two million new members in the past ten years. The concept of being not only a customer but also a shareholder of their bank is becoming increasingly popular with individuals and companies alike. As a result, the cooperative banks in Germany operate on a very broad membership base, maintaining strong links with the local communities in their region. The cooperative business model continues to be based primarily on a network of local bank branches and proximity to customers and members, combined with a comprehensive, high-performance internet presence. This commitment to accessibility is reflected in the extensive branch network: The 915 primary banks operate 11,108 branches across the country. Customers can visit their local primary bank when they need to, where they will be offered direct and personal support – not just where finances are concerned.

The large number of cooperative members in Germany shows that the model of cooperative selfhelp and personal responsibility brings people together, promotes individual commitment, and enables them to get involved in social, cultural, and economic issues and thereby contribute something themselves. The core of the cooperative idea is to generate value for members, provide comprehensive support for associations and foundations, and provide funding for small and medium-sized regional businesses. In addition to support for members and the regional economy, Germany’s local cooperative banks are also strongly committed to the things that matter to their respective regions. Every year, the cooperative banks voluntarily give financial aid of more than €140 million back to their local communities, e.g. by way of donations and sponsorship. The lion’s share of these funds goes toward projects for children and young people and to clubs and associations in the region.

The diverse range of clubs and associations, which have a broad membership base, fits well with the regional focus of the local cooperative banks. In many regions, clubs and associations are the focal point for social interaction and are at the heart of the local community. Nearly all the local cooperative banks also provide regular and extensive support to public-sector institutions such as schools and kindergartens as well as churches and other religious communities.

The total foundation assets of the cooperative banks amount to more than €300 million. Of these funds, €30 million is invested in community and citizens’ foundations. The establishment and promotion of foundations enable the local cooperative banks to create reliable and sustainable funding structures.

They are also a particularly durable way of supporting local projects. This commitment fits in seamlessly with the self-image of the local cooperative banks, which have tripled their engagement in this area since 2005. Moreover, nearly half of all local cooperative banks encourage and support projects that their employees engage in during their working hours. Well over a third of all employees of the Volksbanken Raiffeisenbanken Cooperative Financial Network are actively involved in community life on a voluntary basis in their free time. Many of them therefore personally identify with their region in a way that goes beyond their work in the regional financial institutions.

Responsibility for the environment

In the field of loans in the agricultural and forestry sectors, the Cooperative Financial Network is by far the market leader. Renewable energies were one of the main drivers of demand for credit. Cooperative banks are heavily involved in energy cooperatives, including by providing support to those getting started. A number of cooperative banks have launched their own crowdfunding platforms in order to finance regional projects with social relevance.

Cooperative banks thus contribute to local employment and social integration and provide support for the specific causes and concerns of their respective regions. They are local employers for local people and thereby create career opportunities for many people, including in rural areas.

Combined Opportunity and Risk Report

The Volksbanken Raiffeisenbanken Cooperative Financial Network again enjoyed a successful year in 2017, enabling it to remain a significant and stable part of the German financial sector. The positive course of business was attributable in large part to the business model with its unwavering focus on customers. The protection scheme run by the BVR (BVR-SE) and BVR Institutssicherung GmbH (BVRISG) ensure the stability of the entire Cooperative Financial Network and confidence in the creditworthiness of all its members. Both schemes together, and each in its respective functions and area of responsibility, guarantee institutional protection and form the backbone of risk management in the Cooperative Financial Network.


The following description of the risk management system is based on the structure and functional principles of the Cooperative Financial Network’s institutional protection scheme at a primary level, but also takes into account the risk management of the individual institutions as a secondary element. In this context, risk management at the level of the protection scheme is mainly focused on preventing individual institutions from getting into difficulties.

Risk reporting covers all entities in the scope of consolidation for the purposes of commercial law. The scope of consolidation for the consolidated financial statements therefore goes beyond the companies consolidated for regulatory purposes and is not limited to those required to be members of the protection scheme by law.

Risk management in a decentralized organization

Institutional protection scheme of the Cooperative Financial Network
BVR protection scheme

The BVR protection scheme is Germany’s oldest deposit guarantee fund for banks and is financed entirely without government support. Since its creation in the 1930s in the wake of the global economic and banking crisis, it has always ensured that all affiliated banks have been able to meet their financial obligations, particularly with regard to the deposits of retail customers. The protection scheme of the Cooperative Financial Network is therefore the world’s oldest exclusively privately funded and operated deposit guarantee fund for banks. It is regulated and monitored by the Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin) [German Federal Financial Supervisory Authority].

Since the German Deposit Insurance Act (EinSiG) came into effect on July 3, 2015, when it became necessary to establish a legally recognized deposit insurance scheme, the protection scheme has been continued as an additional voluntary institutional protection scheme in accordance with section 2 (2) and section 61 EinSiG.

The main and unchanged aims of the BVR protection scheme are to safeguard the stability of the member institutions by averting imminent financial difficulties or eliminating any such existing problems at the affiliated institutions and to prevent any negative impact on confidence in the cooperative institutions. The BVR manages a guarantee fund and a guarantee network to assist with any supporting measures needed in this connection.

In 2017, the protection scheme met, without qualification, all its responsibilities as a bank-protection scheme in accordance with the articles of association. A total of 926 institutions of the Cooperative Financial Network belonged to the BVR protection scheme as at December 31, 2017 (December 31, 2016: 983 members). The decrease stemmed solely from mergers within the Cooperative Financial Network.

BVR Institutssicherung GmbH

Since July 1, 2015, BVR Institutssicherung GmbH (BVR-ISG) has been operating an institutional protection scheme within the meaning of article 113 (7) of Regulation (EU) No. 575/2013 for CRR credit institutions that has been approved by the regulator. By operating the institutional protection scheme, BVRISG satisfies its responsibility under its articles of association to avert or eliminate imminent or existing financial difficulties in the institutional protection scheme’s member credit institutions as defined by article 4 (1) no. 1 of Regulation (EU) No. 575/2013. To this end, BVR-ISG will initiate any preventive or restructuring action, as required. Where, in accordance with section 10 EinSiG, BaFin identifies a compensation event in relation to a CRR credit institution that is a member of the BVR-ISG protection scheme, BVRISG will compensate the customers of the credit institution concerned in accordance with sections 5 to 16 EinSiG. BVR-ISG thus fulfills the statutory requirements regarding deposit protection for customers.

Together with the BVR protection scheme, BVRISG forms the Cooperative Financial Network’s dual protection scheme. The members of the BVRISG protection scheme are those CRR credit institutions that also belong to the BVR, are affiliated to the BVR protection scheme, and have joined the BVR-ISG scheme by giving an appropriate undertaking regarding participation and commitment. As at December 31, 2017, the membership comprised 924 CRR credit institutions (December 31, 2016: 981 institutions) and therefore all the cooperative banks authorized in Germany by BaFin.

Under section 50 (1) EinSiG, BVR-ISG is subject to supervision by BaFin and to monitoring by the Bundesrechnungshof [German Federal Court of Audit] with regard to its responsibilities to compensate depositors in accordance with sections 5 to 16 EinSiG and with regard to funding and target funding levels in accordance with sections 17 to 19 EinSiG.

To the extent possible under EinSiG, BVR-ISG’s organizational and decision-making structures match the proven organizational and decision-making structures of the BVR protection scheme. Dual employment contracts and a service agreement are in place so that BVR-ISG’s day-to-day business

operations can be carried out by the BVR employees who perform the corresponding functions for the BVR protection scheme. Given the long-established successful operation of the BVR protection scheme, this ensures that BVR-ISG can properly carry out its duties as an institutional protection scheme (including classification, collection of contributions, etc.). BVRISG has also engaged a third-party service provider to carry out the processing of potential compensation procedures, although such procedures have as yet never been required, nor are any currently identifiable.

In 2017, the focus of the activities of BVR-ISG was on fulfilling its responsibilities as defined by law, the articles of association, and regulatory requirements. The activities centered on the risk-based collection of contributions, which is compliant with the relevant guidance of the European Banking Authority (EBA), the management of funds, the first extensive operational stress tests, and preparations for the IPS recovery plan in accordance with the Minimum Requirements for the Design of Recovery Plans (MaSan). BVR-ISG can look back on a highly successful year, having not had to take any action to protect depositors or banks or pay any compensation in accordance with section 145 of the German Bank Recovery and Resolution Act (SAG) at any time in 2017.

Risk identification and analysis
Basic structures

The Cooperative Financial Network is a decentralized organization made up of legally independent institutions that are linked – through the protection scheme – by their liability. This decentralized element is in contrast with banking groups that have a parent company at the top of a hierarchical structure. Consequently, the power to make business decisions lies with each individual institution and its independent Board of Managing Directors and Supervisory Board. This decentralized structure determines the focus of risk management for the BVR protection scheme. The focus is above all on overall analysis of the financial risk carriers – i.e. the institutions – rather than on isolated analysis of individual risk types and their scope. This fundamental methodological approach ensures that, in establishing that each individual institution’s financial position and risk position are appropriate and its financial performance is adequate, the entire system – i.e. the entire Cooperative Financial Network – as a unit can be considered to be on a sound economic footing.

BVR Institutssicherung GmbH

The BVR protection scheme includes reliable systems for identifying and classifying risks and for monitoring the risks of all its members and of the institutional protection scheme as a whole. Risks are rated on the basis of the BVR protection scheme’s classification system, which was implemented in 2003. The aim of this rating process, which is based on the annual financial statements, is to obtain an all-round, transparent view of the financial position, financial performance, and risk position of all members. Rating a bank in accordance with the classification system provides the basis for determining the risk-adjusted guarantee fund contributions of the protection scheme and is also the starting point for preventive management.

The results of the classification are supplemented by further analysis and data, in particular evaluations of the data collected as part of an annual comparative analysis. This is a data pool that the BVR compiles from data collected from its member institutions and is predominantly based on information from the institutions’ accounting and reporting systems. The data from the annual comparative analysis forms the basis for analyses that use key risk indicators to identify and examine particular abnormalities. In addition, the BVR prepares special analyses on specific issues and specific risks, such as determining the impact of sustained low interest rates.

In accordance with its risk-oriented procedure, the protection scheme performs individual bank analyses on institutions of major financial significance to the protection scheme as a whole. This also includes the unclassified member banks. In doing so, the protection scheme is applying the concept used to analyze large banks, taking into account the risks resulting from the size category of the affiliated institutions.

To assess the protection scheme’s risk-bearing capacity, probabilities of default are determined on the basis of various stress scenarios and Monte Carlo simulations are used to calculate the possible restructuring amounts. This involves carrying out scenario- specific classifications on the basis of different assumptions (e.g. interest-rate changes, declining credit ratings in the customer lending business).

Classification process and contributions to the protection scheme

The classification system uses eight key figures relating to financial position, financial performance, and risk position to assign the banks to one of the nine credit rating categories, which range from A++ to D. The classification system is based on quantitative key figures, most of the data for which is taken from the banks’ audited annual financial statements and audit reports. The protection scheme receives this data electronically from the regional auditing association responsible for the individual bank.

All institutions covered by the protection scheme are included in the classification system. The only exceptions are the small number of institutions that are rated separately by an external rating company, e.g. the central institution and its subsidiaries as well as Münchener Hypothekenbank.

The classification process in 2017 was based on an analysis of data from the 2016 financial statements. There was a small year-on-year improvement in the class distribution based on the 2016 financial statements, primarily due to a slight rise in net assets and a virtually unchanged financial performance. Net interest income went down slightly, whereas net fee and commission income held steady. Fair value gains and losses on the measurement of loans and advances persisted at an exceptionally low level. Non-recurring items in 2016 included the increased reversal of impairment losses on the carrying amount of investments following the merger of the central institutions and the reduced expense for the unwinding of discounts on pension obligations. The net profit generated was used to strengthen the financial position, in particular Tier 1 capital.

For the institutions that are also members of BVR-ISG, the 2017 rate for contributions to the guarantee fund of the protection scheme was set at 0.036 percent of the assessment basis (2016: 0.04 percent), taking account of any individual discounts or surcharges resulting from the classification. For the other member institutions, the contribution rate was 0.0828 of the assessment basis.

Risk management and monitoring
Preventive management

The aim of preventive management is to identify and counteract adverse economic trends at an early stage, thereby helping to prevent the need for supporting measures. Data and other information from the banks that might be affected is analyzed and, following additional discussions with the management of these banks, appropriate measures are agreed that are aimed at stabilizing and improving their business performance.

The results of the classification process provide the basis for the BVR protection scheme’s systematic preventive management. Preventive management is used whenever a bank is classified as B– or lower on the basis of its annual financial statements. In addition, other key figures and data have increasingly been used over the past few years so that any anomalies at institutions can be identified at an early stage. In 2017, this data included information from the banks’ reporting systems and from the second survey conducted by Deutsche Bundesbank on the effect of low interest rates, all of which was made available to the BVR protection scheme.

Before the prevention phase, the monitoring of conspicuous institutions is playing an ever more significant role in the early analysis of institutions. In 2017, the monitoring once again also included institutions that were not showing any particular indications of risk but that could potentially represent a major risk simply because of the size of their balance sheet. This underpins the long-term trend of shifting the focus of the protection scheme’s work away from restructuring and toward end-to-end preventive management that also includes monitoring.

Restructuring management

As before, the work of the protection scheme in restructuring member institutions is firstly aimed at ensuring that these institutions’ annual financial statements are able to receive an unqualified auditors’ opinion, which it does by providing restructuring assistance. The next stage is to contractually agree appropriate measures in order to ensure that the bank’s business regains its future viability while accommodating the interests of all members of the Cooperative Financial Network.

The ‘Manual for future-proof bank management– guidelines for reorganizing and restructuring cooperative banks’ forms the basis for providing restructuring assistance and carrying out restructuring measures. The principles documented in the manual provide affected banks with guidance on re-establishing competitive structures, e.g. through recovery, and describe concepts for restoring their fundamental profitability. The aim is for the banks to complete this restructuring phase within no more than five years. The protection scheme’s manual is also specifically aimed at banks undergoing preventive measures and any institutions that have themselves identified the need for reorganization. BVRSE finished revising this manual in mid-2017 and all institutions have received the new version.

The BVR protection scheme continued to perform well in the year under review in terms of its restructuring activities. Once again, no new first-time support measures were required in 2017. Costs were therefore incurred solely in connection with legacy cases, where risks already covered had become acute or loss allowances were recognized in the protection scheme’s annual financial statements. As the BVR protection scheme also focused on dealing with and finalizing legacy cases in 2017, the level of restructuring activity fell to an almost immaterial level in the reporting year. The total restructuring amounts in need of protection were not only significantly lower than expected, they were also – on a net basis – again far smaller than the repayments under debtor warrant obligations and other guarantee release obligations. This once more meant that the capital base of the dual cooperative institutional protection scheme (comprising the BVR protection scheme and BVR-ISG) was further strengthened in 2017 and the statutory guarantee fund resources at its disposal could be expanded yet again.

Outlook for the BVR protection scheme and BVR Institutssicherung GmbH

In financial terms, the protection scheme expects to maintain its positive performance in 2018. At present, there is no sign of any scenarios resulting from the BVR protection scheme’s remit – as defined in its statutes – that might present a material threat to the stability of the scheme. Given the continued robust state of the German economy, the level of support and assistance provided by the protection scheme is not expected to increase in 2018. For this reason, the BVR protection scheme is also not planning to make any significant changes to its guarantee fund capital in 2018, especially as the accumulation of funds in the dual cooperative protection scheme will be primarily focused for the time being on the BVR-ISG protection scheme in order to achieve the required target funding level in accordance with section 17 (2) EinSiG.

At its meeting on November 21, 2017, the BVR Association Council approved a resolution to set the rate for contributions to the guarantee fund of the protection scheme in 2018 at 0.036 percent of the assessment basis for the institutions that are also members of the BVR-ISG protection scheme. For the other member institutions, the contribution rate was set at 0.0828 percent of the assessment basis or 2.07 times the basic contribution rate of 0.04 percent. The contribution rates have thus been left unchanged.

This year, BVR-ISG again faces the task of implementing new regulatory requirements, such as preparing recovery plans within the meaning of sections 12 to 20 SAG; we anticipate that the corresponding MaSan regulation will come into force in 2018. It is also likely that new disclosure requirements will arise as a result of indirect and sectoral supervision by the ECB, in particular broader and stricter requirements at the level of the Cooperative Financial Network. The BVR protection scheme expects yet more issues to emerge in this regard, involving national and international institutions such as the Bundesanstalt für Finanzmarktstabilisierung (FMSA) [German Federal Agency for Financial Market Stabilization], the European Single Resolution Board (SRB), the EBA, and the European Commission. Such issues could affect the BVR protection scheme and/or BVR-ISG.

Capital management

Regulatory capital management

The consolidated financial statements of the Cooperative Financial Network provide a comprehensive overview of the main capital ratios, particularly the consolidated regulatory capital ratios. These capital ratios are calculated in accordance with the provisions of the CRR using the extended aggregated calculation pursuant to article 49 (3) CRR in conjunction with article 113 (7) CRR. Information concerning the regulatory capital ratios relates to the reporting date of December 31, 2017 and does not include the retention of the profits reported in the 2017 annual financial statements. Profit is retained after the individual institution’s relevant committees have given their approval. This retention of profits will significantly strengthen the Network’s capital basis still further.

The Cooperative Financial Network’s regulatory total capital ratio was 16.0 percent as at December 31, 2017 (December 31, 2016: 16.1 percent). Overall, regulatory own funds increased by €5.5 billion to €97.7 billion. The increase in own funds was largely attributable to the retention of profits by the primary banks.

The Tier 1 capital ratio improved to 13.4 percent (December 31, 2016: 13.1 percent). If the reserves pursuant to section 340f HGB are classified as Tier 1 capital, the Tier 1 capital ratio is 15.6 percent (December 31, 2016: 15.4 percent). The Cooperative Financial Network’s capital is predominantly held by the primary institutions.

The total risk exposure as at December 31, 2017 amounted to €611.5 billion (December 31, 2016: €572.5 billion). This 6.8 percent increase was driven by growth in the customer lending business, in both the retail and the corporate banking segments.

The protection scheme analyzes the regulatory capital ratios of each member bank on an ongoing basis. The institutions themselves are responsible for fulfilling the regulatory requirements at all times, including in respect of bank-specific surcharges (e.g. based on interest-rate risk, other material risks, and/or stress test results).

As shown by the chart on page 44, the capital adequacy of the individual institutions in the Cooperative Financial Network as at the reporting date of December 31, 2017 was at a healthy level. This had also been the case as at December 31, 2016.

The Cooperative Financial Network has healthy capital adequacy thanks to equity of €104.4 billion (December 31, 2016: €98.6 billion). It has continually boosted its level of capital in recent years by retaining profit. This trend substantiates the Cooperative Financial Network’s sustainable business model with its broad diversification of sources of risk and income.

The leverage ratio, which is determined independently of risk and calculated at the level of the institutional protection scheme, came to 6.8 percent as at December 31, 2017 (December 31, 2016: 6.3 percent). This is further proof of the above-average capital adequacy within the Cooperative Financial Network. If the reserves pursuant to section 340f HGB are classified as Tier 1 capital and the pertinent CRR provisions are applied in full, the leverage ratio is 7.7 percent (December 31, 2016: 7.3 percent). The leverage ratio total exposure increased by 2.0 percent year on year, rising to €1,218.5 billion.

Economic capital management

Risk capital management is a core task at each individual institution. Pursuant to the Minimum Requirements for Risk Management (MaRisk), it must be structured according to the complexity, scope of business activities, and size of the bank. The banks receive procedural support through the VR Control concepts and VR Control software.

Risk capital management is influenced by two factors: firstly the business necessity of optimally allocating risk capital to various risk categories while taking account of risk/reward considerations and, secondly, the new requirements of the Internal Capital Adequacy Assessment Process (ICAAP). The BVR drew up the necessary integrated concept in the VR Control update project, and it will be made available to the banks in 2019.

At business level, the interest-rate and credit risk categories – usually the main risk categories for the local cooperative banks – are included in the optimization calculation. According to the basic concept of capital market theory, where there are given risk/ return figures in each class and each correlation, combinations can be found that ensure an optimum ratio in the overall portfolio at overall bank level.

Alongside these business considerations, the banking regulator has supplemented risk measurement in Pillar 1 with its own Supervisory Review and Evaluation Process (SREP) and worked out a system of bank-specific surcharges for interest-rate risk and other material risks as well as a stress scenario surcharge. The surcharges were again at a manageable level for the banks in 2017, and the surcharges for other material risks fell sharply compared with 2016.

The calculation of risk-bearing capacity, which has previously been mainly based on the going-concern approach in Pillar 2, is undergoing significant changes. Risk-bearing capacity will consist of two pillars in the future. In the normative perspective, the bank needs to identify all applicable statutory provisions on risk-bearing capacity and draw up multi-year capital planning with an adverse scenario. In Pillar 2, the bank’s capital will be measured from a purely economic perspective and compared with the relevant risk profile. The two pillars should communicate with each other. The aim is to secure the bank’s continued existence as a going concern.

Bank management and risk management in the institutions will change as a result of the German banking regulator’s new guidelines, which are based on the ECB’s approach for the Single Supervisory Mechanism (SSM). As well as carrying out additional calculations, the institutions will have to develop a new integrated view of their individual risks by reconciling the two pillars.

Only a small proportion of the institutions have used the economic, value-based perspective until now. The associations, computing center, and DZ BANK will support the banks’ migration process.

Credit ratings of the Cooperative Financial Network

The high credit ratings of the Cooperative Financial Network remained stable and unchanged in 2017. Credit rating agencies Standard & Poor’s and Fitch Ratings have each given the Cooperative Financial Network a rating of AA–. These sound credit ratings are based solely on the economic strength of the Cooperative Financial Network and do not assume any external support. The rating agencies point to the consistently successful business model focused on retail and corporate banking as the reason for their positive assessment. The funding of the business model is based on customer deposits, so it is structurally secured for the long term. Liquidity is ensured at all times by means of an extensive and highly diversified portfolio of marketable securities, combined with the cash pooling that takes place within the Cooperative Financial Network. Capital adequacy is also judged to be above average. The rating agencies emphasize the ability and propensity of the Cooperative Financial Network to build up capital from its own resources by retaining profits. The granular credit structure and proportion of mortgages in the retail business are the hallmarks of the overall high level of quality in the customer lending business. The BVR protection scheme is seen by the rating agencies as an important connecting link and a crucial element of the risk management system within the Cooperative Financial Network.

Distribution of total capital ratios in the Cooperative Financial Network*

Proportion of institutions (percent)

–––––  2016

–––––  2017

Total capital ratio up to … percent

* As at December 31, 2017

Credit risk, market risk, liquidity risk, and operational risks

Credit risk

Credit risk is the most important risk category in the cooperative banks due to the high volume of lending in the customer business. The cooperative banks manage their credit risk efficiently and sustainably using extensive, high-quality methods of risk measurement. To assess the creditworthiness of individual borrowers, the cooperative banks use the relevant segment-specific VR rating systems, which are validated centrally on an ongoing basis in accordance with high market standards. The vast majority of the banks, particularly when analyzing risk-bearing capacity, use portfolio models to measure risk at portfolio level. These models are also constantly reviewed at both overall model level and parameter level.

The Cooperative Financial Network’s strategy focuses on the profit-oriented assumption of risk, while taking its level of equity into consideration and pursuing a cautious lending policy. The cooperative banks are conservative in their lending decisions. Their knowledge of customers plays a central role, as does the capacity of customers to meet their obligations. Overall, the Cooperative Financial Network’s customer lending business has a granular credit structure and a high proportion of mortgages. The granularity and extensive regional diversification of the Cooperative Financial Network’s business activities limit the formation of risk clusters.

The Cooperative Financial Network registered significant growth in its lending business in 2017. Loans and advances to customers increased by 3.9 percent year on year. Once again, long-term home finance was a key growth driver. Home finance lending by the cooperative banks benefited from the favorable economic conditions. The combination of low interest rates, a healthy level of employment, and rising household incomes fueled strong demand for real-estate loans. However, residential real-estate prices in Germany continued to go up in 2017. On average across all 402 municipal and rural administrative districts, prices for residential properties rose by 5.4 percent (2016: 4.8 percent).

The strongest price surges were recorded in urban centers, whereas prices moved only moderately in rural areas, so the housing market can be described as stable overall.

To help the member institutions to monitor the regional markets, the BVR teamed up with vdpResearch GmbH to develop a concept for measuring market volatility in individual postal code areas: BVR realestate market monitoring. The measurements from BVR real-estate market monitoring provide additional regional information to complement the German Banking Industry Committee’s market volatility concept. This enables the cooperative banks to determine the geographical areas forming their relevant markets and better comply with regulatory requirements.

The growth in corporate banking was predominantly driven by lending to service sector companies, the construction sector, and companies from the energy and mining industries. Because of their regional roots, the local cooperative banks have established a strong foothold in the renewable energies market and provide financial support to companies in relation to projects for increased energy efficiency and for power generation from renewable sources.

Allowances for losses on loans and advances rose slightly to reach €576 million in 2017 (2016: €522 million). This increase was primarily due to the recognition of higher allowances for legacy exposures in ship and offshore financing in view of the continuing downturn in many shipping industry segments, and to strained economic conditions in offshore markets caused by the oil price. Despite these adverse effects, allowances for losses on loans and advances remained low at 0.07 percent of the volume of loans and advances to customers and banks (total volume: €812,922 million). In summary, the cooperative banks operate a healthy lending business overall.

Market risk

Interest-rate risk has a significant influence on the banks’ financial performance. Due to the persistently low interest rates, the Cooperative Financial Network’s net interest income reduced by 1.0 percent in 2017. According to analysis, the largest proportion of net interest income was generated from the net interest margin contributions in the customer business, as was the case in prior years. Given the persistently low level of interest rates and growing competition for deposits, the banks expect interest margins to be narrower in the future. There is also still the risk that funding costs will rise when interest rates in the financial markets start to climb again.

Along with credit risk, interest-rate risk plays an important role for most of the cooperative banks. The banks could face huge challenges if either the current low level of interest rates continues or there is a rapid and significant rise in interest rates. Supervisory authorities are factoring this problem into appropriate regulatory activities. For example, the Basel Committee on Banking Supervision published its new ‘Interest-rate risk in the banking book’ standard in 2016, which will come into force in 2018. The new EBA guidelines on managing interest-rate risk in the banking book have been in effect since the beginning of 2016. One aspect common to both the Basel standard and the EBA guidelines is that, although they continue to provide for the modeling of interest-rate risk in the banking book in Pillar 2, they place greater emphasis on the quality and consistency of the management of interest-rate risk in institutions. If the internal management does not satisfy the requirements of supervisors, they can require an institution to use a standard model as described in the new Basel standard.

The protection scheme monitors the appropriateness of the member institutions’ level of interest-rate risk, for example by using simulations to calculate net interest income. These simulations show that the local cooperative banks will continue to generate an adequate level of income going forward, not least as a result of the control mechanisms that they have in place.

Following the implementation of the new Basel ‘Interest-rate risk in the banking book’ standard, the regulatory test criterion is also determined on the basis of six interest-rate shock scenarios instead of the previous two scenarios. It will play a key role in determining the SREP supplement for interest-rate risk in the banking book.

Liquidity risk

For many years, the Cooperative Financial Network has had a reliable liquidity structure that is deemed crisis-resistant. The loan to deposit ratio of the Cooperative Financial Network is 95 percent. The basis for this lies in the diversifying, risk-mitigating effect created by the stable business structure of the banks, which tends to be divided into small units, and, in particular, in the institutions’ traditional method of obtaining funding through customer deposits. Customers therefore recognize and reward the effectiveness of the institutional protection provided by the BVR protection scheme and BVR Institutssicherung GmbH, which particularly aim to safeguard deposits.

The primary institutions transfer surplus liquidity from their customer deposits to the central institution, DZ BANK AG. On the one hand, this gives DZ BANK indirect access to a stable source of funding based on retail deposits. On the other, primary institutions requiring liquidity can obtain it from their central institution. DZ BANK thus pools the liquidity surpluses of the individual institutions and is able to balance out the structural differences in the individual primary institutions’ liquidity levels. In its role as the cooperative central institution, DZ BANK ensures cash pooling within the network of primary banks and specialized service providers.

The degree to which a bank is able to guarantee its ability to meet its payment obligations in the short term is measured using the liquidity coverage ratio (LCR). Banks are required to maintain a sufficiently high level of liquidity. As at December 31, 2017, the median LCR of all cooperative institutions was 161 percent (December 31, 2016: 156 percent).

Operational risk

The systems and internal processes implemented by the cooperative banks aim to reduce operational risks that can lead to losses resulting from the inadequacy or failure of internal processes, people, or systems or as a consequence of external events.

A variety of measures are taken to address operational risk, including clear procedural instructions, separation of functions, the use of standardized contract templates that have been reviewed by a legal expert, and the appointment of security, compliance, data protection, and anti-money-laundering officers. In addition, business continuity plans for failure of technical equipment and unexpected staff absences are in place.

Internal control processes ensure that material operational risks are identified, analyzed, and assessed on a regular basis. The institutions can use guidelines to conduct a systematic risk assessment in keeping with market standards. Any loss event is recorded in a database. Based on the outcome of the loss event analysis, internal procedures are adjusted and preventive safeguards implemented as necessary.

Operational risk is measured in consideration of the business model of the individual institution. The dominant methods are quantification by means of a plausible lump sum or based on historical loss event data, sometimes supplemented by value-at-risk approaches. Based on the analysis, the limits set by the institutions as part of their individual risk management are regularly met.

Opportunities and opportunity management

Customer membership is a distinctive feature of the cooperative banks’ business model and one that is ideally suited to conveying the values of the cooperative idea. It offers the cooperative banks the opportunity to distinguish themselves from rival banking groups. The cooperative banks’ distinctive characteristics are reflected in their continued ability to reach a wide range of customers. Strong customer retention results in measurable economic benefits, e.g. income growth for the cooperative banks and the protection of their market share.

Even in the digital age, the business model of the cooperative banks puts people and their wishes and objectives first. In the years ahead, the Cooperative Financial Network’s digitalization initiative in the retail and corporate banking businesses will enable it to proactively adapt to the changes in the competitive environment resulting from the digital revolution.

Measures derived from the KundenFokus 2020 (customer focus 2020) project have been implemented in order to take account of the changes in customer behavior and to adjust and strengthen the business model accordingly. Personal contact will remain a key component of the customer relationship, alongside high-quality advice and the possibility for customers to choose how they would like to communicate with their bank. The Cooperative Financial Network is therefore establishing efficient customer touchpoints and giving its members integrated access to all information and services through all the relevant channels – whether in branch or via digital media.

Digitalization and its increasing influence on members’ behavior also offer the banks potential to improve their cost situation. By marketing new digital payments processing services, such as contactless payments, paydirekt, and kwitt, and implementing an online inquiry process for financing, leasing, and investment plans, banks will be able to address customer needs and attract new customers. To this end, they are specifically targeting young, tech-savvy customers and members with their digital products and services.

Consumer spending is expected to be boosted further by the positive trends in employment and disposable income. This will stabilize demand for banking products and services. Given the current low level of interest rates, the cooperative banks will continue tapping into potential in the real estate business. Should there be a sustained rise in interest rates, opportunities will open up in connection with the sale of interest-bearing financial products.


Real economy and banking industry

Germany’s economic upturn is likely to continue in 2018. In this year’s spring report, experts at the leading economic research institutions predict that GDP adjusted for inflation will rise by 2.2 percent, the same rate as 2017.

The spring report’s forecast for the performance of the German economy as a whole is based on various assumptions. Firstly, it assumes that global trade will grow at a slightly faster pace in 2018 than in 2017, the oil price will increase a little, and the euro/ US dollar exchange rate will remain unchanged at around US$ 1.20. The second assumption is that the measures agreed in the new German government’s coalition agreement, for example the planned lowering of the contribution rate for unemployment insurance, will stimulate growth.

According to the spring report, the global economic environment will continue to boost German exports. Domestic demand is also likely to maintain its momentum. In the labor market, the economists anticipate that the increase in employment levels will slow down due to the growing shortage of workers. They predict that the number of people in employment will go up by 585,000 in 2018, while the unemployment rate will fall to 5.2 percent. Consumer prices are forecast to continue rising moderately, leading to a probable inflation rate of 1.7 percent.

The economists believe that the main risks to the economic conditions outlined above are at international level. A particularly significant risk is the concern about growing protectionism, which could have a marked adverse impact on the growth of the global and thus the German economy. In June 2018, for example, the US government began applying the tariffs on steel and aluminum from EU member states that it had announced at the start of the year. This led to considerable uncertainty about future trade policies and dampened economic sentiment. However, it is also conceivable that the trade conflict will not escalate or may even be quickly resolved. In this case, the uncertainty could dissipate rapidly and global economic growth could pick up.

With regard to the monetary policy of the ECB, the experts at the economic research institutions expect the central bank to incrementally scale back its highly expansionary approach. The ECB has announced that it will terminate its bond-buying program at the end of 2018. However, it does not anticipate raising the key interest rate, which has stood at 0.0 percent since March 2016, until the end of 2019. Consequently, yields on German government bonds with long maturities will probably remain very low by historical standards.

For many years now, the main influences on the banking industry have been the sustained low level of interest rates and the substantial increase in regulatory requirements. As a result, the forecast for this year is in essence similar to that for previous years. No significant changes to the low-interest-rate environment are anticipated in the eurozone in the short term. To some extent, the positive economic forecasts will offset the impact of this on business performance in the financial sector. Nevertheless, income from interest-earning business will still be affected by the level of interest rates in the eurozone, which is not appropriate to the economic conditions, and margins will continue to be squeezed. The ECB is not expected to alter this interest-rate environment in the short term, particularly in view of the high levels of government debt in some eurozone countries.

In 2018, banks are continuing to address the ever-increasing pressure on earnings and the strict regulatory requirements with intensive efforts to improve their cost efficiency and review their value chains, including optimizing processes and products. This will lead to further mergers and an ongoing review of the appropriateness of the branch networks. At present, there is still a downward trend in the number of people working in the financial sector, due in large part to the continued influence of digitalization and the change in customer behavior. As before, the banks will attempt to hold their position against competitors, including fintechs, by aiming for an even greater focus on customer requirements, for example by expanding digital products and services.

An interest-rate hike – particularly a very swift one – continues to pose a genuine threat for the banking industry, even though banks have generally improved their capital adequacy. The European sovereign debt crisis and uncertainties in foreign policy and foreign trade could again have a negative impact. The short-term effects on German exports and the financial sector’s corporate banking business resulting from US trade protectionism and from the UK’s imminent departure from the EU remain modest. From the current perspective, however, the longer-term risks of these two uncertainties should not be underestimated.

Volksbanken Raiffeisenbanken Cooperative Financial Network

Since the financial crisis, the financial sector has faced considerable pressure in terms of both adjustment and costs caused by the need to comply with regulatory reforms – involving higher capital requirements and changes to regulatory systems – and implement structural change to adapt to competitive conditions.

In addition to the new regulatory environment, new competitors with approaches based on the use of data and technology are presenting the financial sector with the challenge of scrutinizing its existing business models, adapting them as required, and substantially improving its efficiency by digitalizing business processes and IT processes. The resulting capital investment is initially likely to lead to substantial costs before the anticipated profitability gains can be realized.

Moreover, the outlook for the business performance of the Cooperative Financial Network shows that 2018 will also be influenced by the low level of interest rates.

The expected growth in large swathes of the global economy should provide a boost for the financial performance of the Cooperative Financial Network. In this context, however, it is important not to disregard the negative factors for global economic growth resulting not only from Brexit but also from current trade restrictions and possible new ones in the future. These factors could also depress the heavily export-oriented German economy, although small and medium-sized enterprises have less of a focus on exports.

These factors may thus limit the growth of the Cooperative Financial Network’s income and thus its latitude for accumulating capital in 2018. Nevertheless, the Cooperative Financial Network is expected to generate a satisfactory level of earnings this year by exploiting market opportunities in its core business areas and, at the same time, actively managing costs. This will enable it to further strengthen its reserves.

Among the significant changes for 2018 are the rules and regulations coming into force regarding the application of the financial reporting standard IFRS 9 on the accounting treatment of financial instruments, which will have implications for financial reporting and the calculation of regulatory ratios, and the implementation of the Markets in Financial Instruments Directive (MiFID II), together with the accompanying Markets in Financial Instruments Regulation (MiFIR), with stricter requirements regarding the provision of investment services in relation to a large number of financial instruments as well as comprehensive transparency and disclosure requirements for transactions involving these products. Net interest income will remain under pressure in 2018, above all as a consequence of the persistently low interest rates.

Following the recognition of some negative non-recurring items in 2017, allowances for losses on loans and advances will return to their normal level in 2018 and should be in line with the lending portfolio and the envisaged volume of new business. The possible implications of uncertain political and macroeconomic developments for credit markets could have a detrimental impact on allowances for losses on loans and advances.

The Cooperative Financial Network anticipates a further substantial rise in net fee and commission income in 2018 thanks to growth in the volume of assets under management and the associated volume- related income. Any lasting uncertainty in capital and financial markets could have a negative impact on confidence among retail and institutional investors, thereby depressing net fee and commission income.

In 2018, gains and losses on trading activities, which are particularly influenced by those of the Bank operating segment, will be at a similar level to 2017. Customer-driven capital markets business may again provide impetus in 2018. The main prerequisite for a steady level of net gains under gains and losses on trading activities continues to be a stable financial and capital markets environment.

Net gains under gains and losses on investments in 2018 are predicted to make a modest contribution to profit before taxes because the non-recurring items recognized in 2017 will not be repeated.

Other gains and losses on valuation of financial instruments are expected to follow a positive trend in 2018, mainly due to the potential that exists to reverse impairment losses in the portfolios of instruments from government issuers in the Real Estate Finance segment. Volatility in capital markets and the widening of credit spreads on securities from government issuers could have an adverse impact on the forecast improvement in these gains and losses.

Net income from insurance business is expected to contract in 2018. Given the expected growth in the gross premiums from the different divisions, the decline in net income is expected to be caused by a deterioration in gains and losses on investments held by insurance companies, reflecting the current environment of low interest rates. Exceptional events in financial and capital markets, changes in underwriting practices, or potential changes in the regulatory requirements faced by insurers may mean that net income from insurance business falls short of expectations.

Administrative expenses are projected to rise slightly in 2018. One of the main factors in this increase will be unit-linked asset management business, particularly in view of the associated capital spending requirements.

Although costs will continue to be tightly managed, the predicted income growth will not entirely make up for the increase in expenses that is expected, in particular due to the challenging conditions described above. Consequently, the cost/income ratio is likely to rise in 2018.

A compelling business model, supported by sound risk-bearing capacity, is one of the stand-out features of the Cooperative Financial Network. The strong support from members and customers, combined with strong capital ratios, enables the Cooperative Financial Network to seize any opportunities for growth that present themselves and thus to successfully maintain its outstanding market position in a challenging regulatory environment.