Annual Report 2023

Kommunalbanken AS (hereinafter KBN) is 100% owned by the Norwegian state, with the Ministry of Local Government and Regional Development acting as KBN’s owner, and its business address is in Oslo, Norway. KBN’s role is to provide stable, long-term and efficient debt financing for the local government sector. In 2023 KBN strengthened its role as the largest and most important provider of financing to the local government sector in Norway with growth in lending of NOK 26 billion. At the end of 2023, KBN’s market share was 51.1%, compared to 49.7% at the end of 2022. The loans KBN granted in 2023 financed investment in projects such as schools, health and care facilities, and water and wastewater systems.

KBN seeks to facilitate the transition to a sustainable economy and greater value creation. It provides green lending products to finance investment in projects with a climate ambition. KBN’s green lending grew by NOK 11 billion in 2023, as compared to an increase of NOK 8 billion in 2022. Green lending represented 15.4% of KBN’s total lending at the end of 2023. Good growth in lending for projects with a climate ambition, efficient operations and a high level of customer satisfaction demonstrate that KBN is fulfilling its role in society successfully.

KBN’s core earnings increased from NOK 1,081 million in 2022 to NOK 1,211 million in 2023. Net interest income increased from NOK 1,866 million in 2022 to NOK 2,105 million in 2023. The increase was principally due to rising money market interest rates, which increased in pace with increases in the key policy rate by Norges Bank. KBN’s result for the period for 2023 as a whole was a profit of NOK 1,432 million as compared to a loss of NOK 60 million in 2022.

KBN’s annualised return on equity in 2023 was 7.9%, compared to -0.8% in 2022. Based on its core earnings, KBN’s annualised return on equity in 2023 was 7.3%, compared to 6.6% in 2022. The return requirement set for KBN by its owner for 2023 was 5.5%.

In October 2022 the Norwegian government issued a white paper on state ownership, “The State’s direct ownership of companies - Greener and more active state ownership” (Report to Storting No. 6 (2022-2023)). The white paper places significant importance on sustainable value creation, and on the state being an active and responsible owner with a long-term perspective.

The white paper stipulates that “The state is the owner of Kommunalbanken in order to offer stable long-term and efficient financing of the local government sector” and that “The state’s aim as owner is to achieve the highest possible return over time subject to the limits of sustainability”. KBN’s owner’s return requirement and dividend expectations, as well as the need for KBN to be able to provide loans regardless of market conditions, guide KBN’s financial plans.

In 2023 the Board of Directors of KBN updated KBN’s current strategy. In order for KBN to achieve its objectives, the Board of Directors has set the following strategic pillars for the strategy period:

• THE CUSTOMER’S FIRST CHOICE: Our main aim is for our customers to want to use KBN for long-term financing of investment in welfare.
• STRONG MARKET PARTICIPANT: Through a strong position in the capital markets, nationally and internationally, KBN will ensure Norwegian municipalities and county authorities have access to attractive financing.
• A LEADER IN GREEN FINANCE: KBN will be among the leading financial institutions on green financing solutions and insight that contribute to the transition to a sustainable economy and value creation.
• EXPERTISE AND TECHNOLOGY DRIVEN: The way we work will promote learning, knowledge sharing and the efficient use of technology.

The Board of Directors, working on the basis of KBN’s strategy, approves prioritized strategic objectives for the strategy period, as well as ambitions and key results that are to be prioritized in the first year of the period. KBN uses OKR (Objectives and Key Results) as the goal management tool for its organisation.

Work on establishing new lending processes and a new lending system were again among the main activities carried out in 2023. This project is expected to be completed in 2024. Completion of this project is important in order to modernize and ensure greater efficiency in the lending process. Extensive work was carried out in 2023 to further develop a data warehouse as a source for KBN’s reports and analysis. Activities were carried out in respect of sustainability reporting, financing projects within the EU Taxonomy, and the development of a model to calculate indirect emissions generated as a result of KBN’s lending portfolio. Work also continued on the transition to new benchmark interest rates, and on an initiative to improve the operating framework for KBN.

The Board of Directors confirms, in accordance with Section 3-3a of the Norwegian Accounting Act, that KBN’s ability to continue as a going concern remains unchanged, and that the financial statements for 2023 have been prepared on a going concern basis. The Board of Directors considers that the financial statements and accompanying notes for the year ending 31 December 2023 provide an adequate description of KBN’s financial position at year-end. The annual accounts have been prepared in accordance with International Financial Reporting Standards (IFRS).

The Board of Directors confirms, in accordance with Section 5-5 of the Norwegian Securities Trading Act, that the annual accounts for the company for 2023 to the best of its knowledge have been prepared in accordance with IFRS, and that the information in the accounts provides a true and fair view of the company’s assets, liabilities, financial position and earnings for the company as a whole. The Board of Directors confirms that, to the best of its knowledge, the annual report provides a true and fair view of important events during the accounting period and their influence on the annual accounts, and of the most important risks and uncertainties facing the company in the next accounting period.

The result for the year was a profit of NOK 1,432 million as compared to a loss of NOK 60 million in 2022.

Table 1: Net Income Results

Net interest income totalled NOK 2,105 million in 2023 as compared to NOK 1,866 million in 2022. In 2023 KBN’s net interest income from its lending activities was positively affected by rising money market interest rates, lending growth and higher lending margins. The net interest income from KBN’s liquidity management portfolio generated a modest contribution to KBN’s earnings in 2023, in line with expectations. Fees and commission expenses totalled NOK 126 million in 2023 compared to NOK 133 million in 2022. KBN’s contribution to the Resolution Fund run by the Norwegian Banks’ Guarantee Fund was the largest single cost item in this category, amounting to NOK 82 million in 2023 as compared to NOK 87 million in 2022.

Table 2: Net gain/(loss) on financial instruments

KBN’s net gain on financial instruments amounted to NOK 212 million in 2023, compared to a net loss of NOK 1,615 million in 2022. There was a net gain on fixed rate lending recognised at fair value and associated hedging contracts amounting to NOK 101 million in 2023. Credit spreads for Norwegian municipalities and county authorities were at approximately the same level at the end of 2023 as at the end of 2022. KBN introduced hedge accounting for all new fixed rate loans with effect from 1 January 2022. The introduction of hedge accounting for fixed rate lending will, over time, reduce the portfolio of fixed rate loans measured at fair value and accordingly reduce the extent of unrealised gains or losses in the accounts.

There was a net gain on KBN’s borrowings, not taking into account any changes to its own credit risk, of NOK 193 million. In 2023 KBN recognised a realised gain of NOK 101 million from its repurchasing of subordinated loan capital. The remainder of the gain primarily relates to unrealised gains resulting from changes to basis spreads that affect the value of hedging contracts held at the end of 2023. A net loss of NOK 82 million was also recognised for KBN’s liquidity investments, NOK 72 million of which were unrealised losses.

Table 3: Total comprehensive income

Total comprehensive income amounted to NOK 1,789 million in 2023 as compared to NOK 541 million in 2022. A gain of NOK 484 million due to a change in KBN’s own credit risk was attributable to a widening of credit spreads in relation to bond debt issued by KBN. The equivalent figure for 2022 was a gain of NOK 800 million.

KBN’s financial instruments are normally held to maturity and the effects of gains and losses on KBN’s profits reverse either when fluctuations in the market reverse or as instruments approach maturity.

Table 4: Operating expenses

KBN’s operating expenses totalled NOK 325 million in 2023 as compared to NOK 271 million in 2022. As a result of the financial results reported by KBN for 2022, variable salary payments equivalent to 1.1 times employees’ monthly salaries were accrued in 2023, while no variable salary payments were accrued in 2022. This explains some of the increase in personnel expenses. Administrative expenses and other operating expenses increased by NOK 31 million from 2022. The increase was due to higher prices, the weakness of the Norwegian krone, a higher level of activity in relation to developing and improving KBN’s operations, and the hiring-in of workers pending appointments.

Table 5: Capital adequacy – key figures

KBN received the Financial Authority of Norway’s (Finanstilsynet’s) decision regarding its Pillar 2 requirement (SREP) on 22 December 2023. The Financial Supervisory Authority of Norway determined that KBN will have a Pillar 2 requirement consisting of 2.0% of the basis for calculation under Pillar 1. KBN’s Pillar 2 requirement has therefore been reduced by 0.1 percentage points. The Pillar 2 requirement is intended to address risks that the undertaking is exposed to and that are not, or are only partially, covered by the general capital requirements in Pillar 1. The requirement must be satisfied with at least 56.25% common equity Tier 1 capital and at least 75% Tier 1 capital. The decision came into force on 31 December 2023.

KBN’s leverage ratio at the end of 2023 was 3.9%, as compared to the requirement of 3.0%.

At 31 December 2023 KBN had total assets of NOK 522 billion as compared to NOK 492 billion at the end of 2022. The increase in total assets is principally due to the weakness of the Norwegian krone. KBN’s lending portfolio (outstanding principal) increased by NOK 26 billion in the course of 2023.

Capital adequacy figures are sensitive to large fluctuations in exchange rates, particularly the US dollar / Norwegian krone rate, because these impact the size of KBN’s balance sheet both through the conversion into NOK and because changes in the value of KBN’s outstanding currency hedging contracts cause fluctuations in cash collateral. When the krone weakens, KBN receives collateral, the size of KBN’s balance sheet increases and KBN’s capital adequacy decreases. When the krone strengthens, KBN’s capital adequacy increases. The figures for weighted capital adequacy are also temporarily affected by changes in the value of KBN’s hedging contracts until the collateral is received the following day and the additional effect is offset. KBN has internal buffers to ensure its capital adequacy does not fall below the regulatory requirements as a result of exchange rate fluctuations.

In 2023 the local government lending market was, as in previous years, dominated by KBN, KLP, and issuers borrowing directly from the capital market. KBN is the biggest provider of loans overall, and is specifically the biggest provider of long-term, instalment-based loans. 2023 again saw strong competition from time to time between the lenders active in the local government market, but in the second half of the year in particular the capital market was a less attractive source of financing for municipalities and county authorities. With sufficient and well-managed lending capacity throughout 2023, KBN ensured that its customers had access to financing throughout the year, even during periods including the end of the year when alternative sources of financing were very limited or expensive. Were it not for KBN's capacity, many customers would have experienced significantly higher borrowing costs on new loans in the fourth quarter.

KBN’s lending increased in total by NOK 25.7 billion in 2023, equivalent to 7.8%. The rate of growth in normal local government sector borrowing was 7.9% in 2023 compared to NOK 5.7% in 2022. Municipalities again increased their borrowing from the Norwegian State Housing Bank in 2023, and these loans are used to make loans to residents under the municipal start-up loans scheme. After correcting for growth in loans from the Norwegian State Housing Bank, the increase in borrowing in 2023 was 7.2% as compared to 4.8% in 2022. The total growth in borrowing in 2023 by municipalities and county authorities that are included in the calculation of KBN's market share was NOK 43.5 billion. This represents higher growth in borrowing than was expected for 2023, but should be seen in the context of significant increases in prices for goods and services related to the investments that were financed.

KBN saw a record level of demand in 2023 for long-term loans with instalment payments, and the volume of disbursements for this type of loan was higher than ever before. The strong demand is thought to reflect the instability in the capital market and less than attractive terms on offer for much of 2023, leading to many customers to instead decide on a standard rate loan from KBN that is a predictable and simple loan product. There was also good demand for fixed rate loans compared to previous years, and this is thought to reflect the favourable market conditions for this type of loan throughout 2023. As in previous years the main areas of investment for which loan financing was used were schools, health and care, and water and wastewater. Demand for borrowing varied between different types of municipality. The largest municipalities and county authorities accounted for the largest growth in KBN's lending in 2023.

KBN’s market share increased during 2023 as a result of good demand and sufficient lending capacity. At 31 December 2023 KBN’s market share was 51.1%, an increase from 49.7% at the close of 2022, and representing market share in line with the close of 2021. KBN’s objective is to maintain over time a stable share of the market for lending to municipalities and county authorities. At the end of 2023, KBN had loans outstanding to all of Norway’s county authorities, 355 of Norway’s 356 municipalities, and Longyearbyen Community Council. In addition, a range of municipal and intermunicipal companies and companies with a municipal or county-authority guarantee are loan customers of KBN.

KBN’s total portfolio of green lending for investment in climate and environmentally friendly projects increased by 25% in 2023, equivalent to NOK 11 billion for 114 projects. At the end of 2023, 141 municipalities, five county authorities and a total of 72 other customers had green loans from KBN, and outstanding green lending totalled NOK 55 billion. The environmental impact of these loans is reported annually in KBN’s separate Impact Report. KBN‘s Criteria Document for green lending is updated annually in pace with developments in environmental standards.

89% of KBN’s lending is directly to municipalities (including municipal companies) and county authorities, as shown by the breakdown provided in the chart below. A further 5.5% of KBN’s lending is to inter-municipal companies, and the remaining 6% of the lending portfolio is made up of loans to borrowers with a variety of organisational types, all of which are guaranteed by municipalities or county authorities, with toll-financed road projects accounting for just over half of this category.

Figure: Analysis of KBN’s outstanding lending in NOK by customer category

A total of 967 customers have outstanding loans from KBN. The chart below shows that 42% of KBN’s customers are municipalities, county authorities or municipal companies, 11% are intermunicipal companies, and 47% are customers with a municipal or county authority guarantee.

Figure: Analysis of the number of customers by customer category

KBN did not experience any default or payment problems with customers in 2023.

KBN’s AAA/Aaa credit ratings ensure it has stable access to funding on favourable terms, which benefits the local government sector. KBN pursues a diversified funding strategy that ensures it has a broad investor base and low refinancing risk. New long-term borrowings amounted to NOK 78 billion in 2023, as compared to NOK 87 billion in 2022. The reduction in the amount raised in NOK terms was primarily due to the weakness of the Norwegian krone in 2023, which resulted in a lower financing requirement for KBN. KBN enjoyed good access to funding from the capital markets throughout 2023.

Europe, the USA and Asia are KBN’s most important markets for funding. KBN issued bonds in 10 currencies in both 2023 and 2022. KBN achieved a good currency diversification for its funding over the course of 2023, and the proportion of new borrowing that was denominated in US dollars was maintained at around 50%. In 2023 KBN issued four USD benchmark bonds totalling USD 3.5 billion. KBN attracted a high level of interest from investors, and all its benchmark bonds were significantly oversubscribed. In addition, KBN experienced good interest from investors in British pounds, Australian dollars and Canadian dollars.

In 2020 the UK’s Financial Conduct Authority (FCA) decided that LIBOR would be discontinued and would cease to be quoted with effect from 1 July 2023. The reference rate therefore had to be replaced by a new, risk-free reference rate for current contracts and activities. For the USD, LIBOR was replaced by the Secured Overnight Financing Rate (SOFR) reference rate. KBN did not have any bonds with a floating LIBOR rate at the time of the transition, but it did have a significant portfolio of financial derivatives with USD LIBOR as their reference rate. The transition was regulated by a transition clause in the ISDA agreement for financial derivatives, which meant that the reference rate changed from three-month USD LIBOR to USD SOFR with a spread premium of 26.16 basis points. KBN converted all its ongoing derivative contracts to USD SOFR in 2023. The conversion did not have a material impact on KBN’s earnings.

KBN is one of the most active Norwegian issuers of green bonds and is one of the leading participants in the development of green finance in the Nordic region. KBN’s green bonds finance its loans to customers for their green projects. KBN’s Green Bond Framework was last updated in spring 2021, and develops further the earlier 2016 framework which it replaces. The updated framework has been subjected to an independent third-party assessment by CICERO, and received an overall rating of ’Medium Green’ and a rating of ’Excellent’ for governance. KBN issued four green bonds in 2023 with a total nominal value equivalent to USD 0.5 billion.

KBN’s total outstanding bonds and other borrowings increased in 2023 from NOK 429 billion to NOK 438 billion. The increase in total borrowing measured in Norwegian kroner, is largely due to the weakening of the krone through 2023.

KBN’s policy is to operate with cash and cash equivalents that match its capital requirements, including growth in lending to the local government sector, for the subsequent 12 months at all times. KBN’s liquidity portfolio is held primarily in securities issued by states, multinational institutions and regions. KBN also invests in covered bonds. KBN’s liquidity portfolio is managed according to an investment strategy that is low risk in terms of both credit risk and market risk. A large proportion of KBN’s liquidity portfolio investments are denominated in foreign currencies, meaning that fluctuations in the NOK exchange rate lead to fluctuations in KBN’s liquidity reserves when translated into NOK terms. The value of the liquidity portfolio at the end of 2023 was NOK 115 billion as compared to NOK 110 billion at the end of 2022. At the end of 2023 KBN’s overall Liquidity Coverage Ratio (LCR) and its LCR for NOK were 266% and 87% respectively. LCR is a measure of liquid assets relative to net payments in a situation of stress in the bond and capital markets for a period of 30 days ahead.

The corporate governance of KBN is based inter alia on the Norwegian Financial Institutions Act, the Limited Liability Companies Act, the Accounting Act, the Norwegian Government’s white paper on state ownership, and the Norwegian Code of Practice for Corporate Governance issued by the Norwegian Corporate Governance Board (NCGB). For more information, see KBN’s corporate governance report.

The Board of Directors produces guidelines on the remuneration of senior executives. These guidelines are approved by the Board, and are submitted to the Annual General Meeting for approval whenever there has been a change to the guidelines, and in any case at least every fourth year. The remuneration report that details the salaries and other remuneration received by executive personnel is submitted to the Annual General Meeting for an advisory vote. The report is published on the KBN website at the same time as the Annual Report.

KBN’s Board of Directors issues guidelines on risk management and internal control. The Board determines KBN’s risk appetite framework and ensures that this is within KBN’s risk capacity. The threshold levels for KBN’s risk appetite framework and the need for any adjustments are assessed annually. The Board considers the CEO’s assessment of internal control on a yearly basis.

The purpose of risk management is to ensure that KBN’s management of its assets and liabilities is in accordance with the Board’s guidelines for risk management and internal control and its defined risk appetite framework. Risk assessments are carried out in relation to material risks for all KBN’s business areas at least annually. Stress tests and scenario analysis are used to assess the vulnerability of KBN’s key risk areas. The results of these stress tests are evaluated and considered when determining KBN’s risk appetite and as part of the capital adequacy plan, recovery planning, and the commercial strategy design process.

The Board is regularly informed of KBN’s activities, financial position and earnings situation. The Board routinely considers management’s assessment of risk exposure, compliance and risk events.

Risk management at KBN is established in a structure based on three lines of defence that ensures systematic identification, assessment, monitoring and reporting of risk in all parts of KBN's activities. The first line of defence carries out operational tasks and is responsible for managing and checking that KBN’s activities are carried out within the approved limits and in accordance with internal and external regulations. The second line of defence carries out independent risk and compliance assessments, assesses and validates risk models and produces independent risk and compliance reports. KBN’s second line of defence comprises its risk management and compliance functions. KBN’s third line of defence is provided by the internal auditor (KPMG) and represents the Board’s independent supervisory and control function.

KBN has arranged directors’ and officers’ liability insurance for the members of the Board of Directors and for the CEO in respect of their potential liability to KBN and third parties. The insurance cover is subject to a limit of NOK 600 million. The lead insurer is Tryg Forsikring NUF.

Capital risk

KBN has a limited risk appetite with regard to capital risk. KBN’s regulatory capital risk is the result of KBN’s commercial direction and the composition of its balance sheet, as well as external matters that affect its capital adequacy requirements. KBN’s financial capital risk is made up of the aggregated risk to which its equity is exposed (risk of loss associated with market risk, credit risk, liquidity risk and operational risk).

KBN has in place a structured process to calculate its capital requirements including the necessary capital buffers to ensure that it maintains a sufficient level of capital in relation to its risk profile.

Credit risk

KBN has a limited risk appetite with regard to its overall exposure to credit risk. KBN lends exclusively to customers connected to the local government sector, and this means it has a very limited risk of incurring financial losses from its lending activities. This is in part because of the Norwegian Local Government Act, which stipulates that municipalities cannot be declared insolvent. In the event that any municipality runs into financial difficulties or comes under pressure financially, it will be monitored by the state by means of the Register for State Review and Approval of Financial Obligations (ROBEK) system. These factors in practice protect KBN from any losses in relation to accumulated debt and accrued interest.

KBN manages its liquidity through investments in securities with a low credit risk, and it has a limited appetite for credit risk in relation to its liquidity counterparties.

KBN uses financial derivatives to manage the interest rate risk and exchange rate risk associated with its lending and funding activities and its liquidity portfolio investments. The counterparty risk associated with entering into derivative contracts is reduced by the use of central counterparties or other counterparties with a high credit rating, and by exchanging cash collateral on a daily basis.

Liquidity risk

KBN has a very limited risk appetite with regard to liquidity risk. Liquidity risk is managed by means of KBN’s internal liquidity management framework. KBN’s policy is to ensure that it is in a position at all times to meet its liabilities when they fall due without incurring any significant extra costs.

Market risk, including interest rate risk and foreign exchange risk

KBN has a limited risk appetite with regard to market risk, and financial derivatives are used to hedge all significant exposure to interest rate risk and foreign exchange risk. The remaining source of market risk for KBN is principally basis risk, which is the risk of a change in basis spreads between two currencies that affects the value of hedging contracts. Credit spread risk is the risk of changes in the credit spreads on assets.

Operational risk

KBN has a limited risk appetite with regard to operational risk. A uniform and systematic approach to identifying risk is used for managing operational risk, and regular risk assessments are carried out for all material functions. This work forms the basis for decisions regarding how KBN’s resources for risk-reduction activities should be prioritised. Operational risk is subject to continual monitoring and reporting. Compliance risk, i.e. the risk of a breach of compliance with external or internal regulations or guidelines, cyber risk and the risk of money laundering and terror financing, represent three sub-types of operational risk that are subject to special reporting. KBN has a very limited risk appetite with regard to compliance risk and the risk of money laundering and terror financing and limited risk appetite for cyber risk.

Environmental, social and governance risk (ESG)

Social and governance risk

KBN acts to reduce its exposure to social and environmental risk in its own activities through sound governance and corporate management, sound risk management and internal control, good working conditions that facilitate diversity and equality, and ethical business conduct.

KBN strives through its follow-up of its customers to create good awareness of the importance of sound routines and procedures for internal control, including avoidance of conflicts of interest, ethical conduct, arrangements for whistle blowing and assessment of the risk of financial criminality, as well as asking questions about each customer's approach to setting requirements for its suppliers and following up their compliance in respect of procurement and the conduct of building and construction projects.

Climate-related risk

KBN is exposed to direct climate-related risk through its own activities to a limited extent, but is indirectly exposed through the local government sector’s exposure to climate-related risk. As mentioned above, the Norwegian Local Government Act states at Section 29-1 that municipalities and county authorities cannot be declared insolvent, and consequently the potential risk of lending losses as a consequence of KBN’s indirect exposure to climate-related risk is very limited. KBN’s direct and indirect exposure to climate-related risk is discussed in more detail in the Task Force on Climate-related Financial Disclosures (TCFD) report that is included in the Annual Report.

Nature-related risk

KBN has only a limited direct exposure to nature-related risk through its own activities, but is indirectly exposed through its lending to the local government sector. The local government sector takes up loans from KBN to finance its investment in buildings, water and wastewater facilities, roads and other infrastructure that can impact nature. Such investments also use raw materials that can have an impact on nature. Norwegian municipalities and county authorities cannot be declared insolvent, and consequently the potential risk of lending losses as a consequence of KBN’s indirect exposure to nature-related risk is very limited. KBN will work in 2024 on mapping its exposure to nature-related risk with a view to reporting in accordance with the Taskforce on Nature-related Financial Disclosures (TNFD) framework.

ESG-related risk in the liquidity portfolio

KBN has an established strategy for its liquidity portfolio that also takes into account ESG-related risk, and has guidelines and systems for regular screening of the liquidity portfolio.

The Board of Directors regards engagement by KBN in continuous dialogue with its major stakeholders as an important means of ensuring that there is a good understanding of its business model and the framework in which it operates. High-quality, open communication is important for maintaining the trust of KBN’s owner, customers, investors and employees, as well as the trust of rating agencies, regulatory authorities and wider society.

KBN’s external communication activities are intended inter alia to help highlight issues that affect its customers, for example changes to their own or to KBN’s framework conditions. Inflation and rising interest rates, green finance and the local government sector’s long-term sustainability in a broad sense were central topics in KBN’s external communication activities in 2023. KBN organized a range of webinars on these topics, among others. The importance of a sustainable approach to debt management by the local government sector was emphasised in the communication activities KBN conducted directly with its customers, including its finance seminars, its digital portfolio management tool (KBN Finans) and its newsletters.

KBN expects all its employees and managers to act in line with KBN’s Code of Conduct, which was most recently revised in 2023. All employees have confirmed that they have paid proper attention to KBN’s rules and guidelines on ethical conduct, including the Code of Conduct, for 2023.

KBN has based its priorities in the area of sustainability on its extensive dialogue with its most important stakeholders, and it carries out regular materiality analyses. KBN's reporting in response to the Norwegian Transparency Act is provided in the Report on due diligence.

KBN follows the Global Reporting Initiative (GRI) standard in its reporting of its sustainability work and the recommendations of the Task Force on Climate-Related Financial Disclosures (TCFD) in its reporting of climate risk. In addition, KBN reports on sustainability/ESG to CDP (the Carbon Disclosure Project). Read more about KBN's work on sustainability in the sustainability report.

As a knowledge business, KBN needs to recruit, develop and retain skilled employees across a range of specialist areas in order to fulfil its objectives. KBN needs to adapt continuously to the changes that are being driven by factors such as technology, regulatory requirements and changing customer behaviours, in addition to the requirements and expectations of our owner, other stakeholders and KBN’s employees themselves. This requires a corporate culture which encourages renewal and generates a continuous supply of new expertise throughout the organisation. In 2023 KBN have started renewal of the bank’s lending processes and systems, which has also led to some adjustments in the organisation of tasks associated with the lending process. The Kompetanseløftet program, which encourages all employees to learn something new, again saw a high completion rate in 2023. The employee survey carried out in 2023 showed that KBN have engaged employees who are very effective in their work, and who are proud to work at KBN.

The sickness rate was 2.1% in 2023 as compared to 3.6% in 2022. KBN’s target is for the sickness rate to be below 2.5% over time.

Read more about our work on diversity and equality in KBN's statement on equality.

The Board of Directors of KBN proposes the following allocation of the surplus for the 2023 accounting year: NOK 700 million to be paid in dividend to the owner, NOK 131 million to be paid in interest to Additional Tier 1 capital holders, and NOK 601 million to be transferred to other equity. The proposed dividend is equivalent to 48.9% of KBN's profit for the year and 57.8% of its core earnings. The state has a long-term expectation for KBN to pay around 55% of its core earnings after tax in dividend, subject to maintaining a satisfactory capital adequacy. Proposed dividends are included in KBN's equity until such time as the dividend is approved by the Annual General Meeting, but are deducted for the purpose of calculations of capital adequacy.

Norges Bank raised its key policy rate to 4.5% at its December 2023 monetary policy committee meeting, and it has implied that it will probably keep the key policy rate at this level for some time ahead. Norges Bank has stated that the reason for the increases is the need to reduce inflation. Norges Bank’s forecast for its key policy rate indicates that it will remain at the current level until autumn 2024 before gradually decreasing. The future path of the policy rate thereafter will depend on economic developments. The goal of monetary policy is for the annual rate of growth in the consumer price index to be as close as possible to 2% annual growth.

Labour market conditions in Norway are tight, although unemployment is expected to increase somewhat over the course of 2024. The rate of wage growth is expected to remain high throughout 2024. Volatile markets are again expected in 2024.

The wars in Ukraine and in the Middle-East and uncertainty about the economic outlook have caused long-lasting uncertainty in the fixed income market. For 2023 as a whole, credit spreads for local government sector issuers were at a high and stable level. The fact credit spreads have remained high as we moved into 2024 reveals the continuing nervousness in financial markets. It is still uncertain whether credit spreads will fall over the course of 2024 or whether they will stabilise at a higher level. This, in combination with the increases in money market rates, has made it more expensive for our customers to finance their investment spending. It is expected that this may affect the overall demand for new financing in the years ahead.

At a time of rapid growth in costs, higher interest rates will result in a more challenging financial situation for many of KBN’s customers. At the same time many municipalities will face a continuing need for sizeable investment spending. The overhang of overdue maintenance requirements and essential improvements in standards will continue to contribute to growth in investment spending, especially in the areas of health and care, water and wastewater, and public transport.

According to Statistics Norway’s population forecasts, the number of people over 80 will double within 15 years. Increased use of welfare technology will make it possible for more people to remain independent and live at home longer, and we note the Health Personnel Commission’s report published on 2 February 2023 in this respect. However, the growth in the older population will be so rapid that it will force a radical change in how essential care can be provided. Greater investment spending in the health and care area will contribute to keeping the aggregate level of investment that KBN’s customers will need to carry out at high levels for the years ahead. Statistics Norway's population forecasts anticipate a continuing low birth rate, which indicates a decline in the level of investment in schools and nurseries. The availability of skilled employees is already a significant problem for many municipalities. In the future this will become an increasingly important factor for investment decisions and for how welfare services can be delivered to residents.

Climate change, the transition to a low carbon society and the need to reduce the degradation of nature in relation to land use will place demands on investment decisions through their impact on the location of new buildings, the content and implementation of construction contracts, energy solutions, resource use and choice of materials. Climate changes will in themselves create a need for greater investment spending, particularly to address the impact of physical climate risk. Wastewater networks will need to be upgraded and adapted to cope with increases in precipitation. Dealing with the problem of surface runoff is one example of an area where there is uncertainty over questions of liability and financing. The need to protect against more extreme weather events will require sizeable investment in measures such as flood prevention and avalanche prevention in the future. A sustainable approach to nature and land use will become increasingly necessary over the years ahead, and will be an ever more important factor in investment decisions by municipalities and county authorities.

The regulatory requirements for the finance sector are expected to become more demanding over the years ahead. The EU Commission’s action plan for sustainable finance, including new reporting requirements, will have an increasing impact. In addition, the EU Commission's DORA regulation and Banking Package 2 will be implemented during the course of 2024 or 2025. An increasing range of new regulatory requirements and reporting to the authorities will require greater resources. KBN has a specialised business model with extremely low risk lending, an internationally oriented wholesale funding model and public sector ownership, all of which differentiate it from other Norwegian financial institutions. Regulatory requirements are often designed with normal commercial banks in mind and are not sufficiently adjusted to KBN’s business model. A predictable environment and framework conditions that are adapted to KBN’s function in society are important to KBN’s ability to provide municipalities with low-cost debt financing and to its role in the creation of a sustainable society.

The level of demand for KBN-issued bonds is good, and the increase in the credit spreads on KBN’s bonds has been relatively moderate. This means that KBN is in a good position to improve its profitability, which will help to further strengthen its long-term capitalisation and lending capacity.

The Board of Directors thanks KBN’s employees for a job well done.

Oslo

14 March 2024

The Board of Directors and Chief Executive Officer of Kommunalbanken AS