Ever since the 2008 crash there has been a big question mark hanging over the future of the foreign-owned banks in the Irish market. That question mark disappeared earlier this year. While NatWest’s announcement on February 19th that it was pulling down the shutters on its Irish subsidiary Ulster Bank hardly came as any surprise, KBC Bank’s statement on April 16th that it too was saying slán to the auld sod came completely out of the blue.

While the NatWest and KBC decisions may be bad news for most bank customers and the Irish banking market as a whole, it’s an ill wind that blows no good. Following the departure of its two foreign-owned competitors, Permanent TSB is, apart from the “big two” of AIB and Bank of Ireland, the last man standing.

With the Government desperate to ensure that banking competition doesn’t shrink even further, Permanent TSB’s continued existence now seems assured for the foreseeable future. The state has controlling shareholdings of 71pc and 75pc in AIB and Permanent TSB respectively and is the largest shareholder in Bank of Ireland with a 14pc stake. This leaves it well positioned to influence the divvy-up of the Ulster and KBC loans and deposits.

Having already signed a memorandum of understanding with Bank of Ireland to sell its performing loans and deposits, the destination of the KBC Bank assets and liabilities is pretty much sewn up. KBC Bank had a total loan book of €9.9bn and deposits of €5bn at the end of 2020.

Most of Ulster Bank looks set to be divided between AIB and the Permo. With a total loan book of €21 and deposits of a similar amount, it is about twice the size of KBC Bank. AIB has already signed a non-binding memorandum of understanding to purchase €4bn of Ulster Bank’s performing commercial loan book.

This leaves the Permo in pole position to pick up most of the rest. However, it is playing its cards very close to its chest.

“Negotiations are continuing with NatWest in relation to acquiring certain aspects of Ulster Bank's Retail and SME business. Until these negotiations have concluded there can be no certainty that an acquisition will occur or on what terms”, is all Permanent TSB chief executive Eamonn Crowley would say at the release of the bank’s interim management statement on Tuesday.

Even 13 years on from the crash the Ulster Bank loan book is not unblemished. At the end of 2020 it had €653m of loans more than six months in arrears and it assessed that there was a 100pc probability of default on €1.38bn of its loans, 6.5pc of the total, and between a 17pc and 100pc risk of default on a further €656m, 3pc of the total.

All of which means that the Permo is going to want to pick and choose when it comes to Ulster Bank. Having spent more than a decade sorting out its own problem loans, it has no desire to take on someone else’s now.

Davy analyst Diarmaid Sheridan reckons that about €9bn of Ulster Bank’s loans and €11bn of its deposits will eventually transfer to the Permo. However, he cautions that this is likely to be a protracted process that will drag on well into 2022.

Like all of the other banks operating in Ireland Permanent TSB was clobbered by the pandemic. A combination of an increase in its loan impairment charge from €10 to €155m and a near doubling in exceptional charges to €57m meant that it went from a pre-tax profit of €42m in 2019 to a pre-tax loss of €166m in 2020.

Any post-pandemic recovery was likely to have been slow and steady. Davy’s Sheridan had been predicting pre-tax profits of just €1.6m this year and €21.3m in 2022. While the time it will take to complete any deal means that there will be little if any impact this year and only a slight uplift in 2022 it could be a very different story in 2023 and beyond.

“It [an Ulster Bank deal] would change the situation quite dramatically. While some branches and staff would come across the level of costs versus income would improve significantly”, says Davy’s Sheridan.

It is the prospect of the impact of any Ulster deal from 2023 onwards, rather than its recent performance, that has been driving the Permanent TSB share price since the start of the year. At the current share price the Permo has a market value of €638m, more than 30 times forecast 2022 pre-tax profits.

“When looking at the bank previously investors saw an important player in the mortgage market but one that did not have scale. This meant that its returns on capital were lower. Ulster Bank changes that. The earnings upside from the acquisition makes it a very different proposition”, says Sheridan.

However, even if Permanent TSB succeeds in acquiring most of Ulster Bank it still won’t constitute a genuine banking “third force”, it won’t even come close.

A deal along the lines forecast by Sheridan would increase Permanent TSB’s loan book from about €14bn to €23bn. Unfortunately for the Permo, the game of financial musical chairs unleashed by the departures of Ulster Bank and KBC Bank will see AIB’s loan book increase from €60bn to €64bn and Bank of Ireland’s loan book from €76bn to €83bn-€84bn.

In other words, Permanent TSB would go from its present position of being a quarter the size of AIB and less than a fifth that of Bank of Ireland to being about two-fifths the size of AIB and just over a quarter the size of Bank of Ireland. Better than nothing perhaps, but still not a genuine contender.

But there is one step the Government could take which would go a long way towards increasing the number of top-tier banks from two to three.

Of all the decisions taken during the post-2008 banking crisis, folding the former EBS Building Society into AIB in 2011 must count as one of the daftest. Apart from an ill-advised foray into commercial property, which led to an €875m state recapitalisation and the shotgun marriage with AIB, it was generally reckoned to be in much better shape than most of the other financial institutions as most of its core residential mortgage book consisted of loans to public sector workers.

With the imminent departures of Ulster Bank and KBC Bank highlighting once again the lack of real competition in the Irish banking market, has the time come to reverse the mistake that was made a decade ago and extract EBS from AIB?

Combining EBS’ €11.2bn loan book, chunks of Ulster and Permanent TSB’s existing loan book would create a combined loan book of about €34bn while the AIB loan book would shrink to €53m. This would result in the Permo being about two-thirds the size of AIB and two-fifths the size of Bank of Ireland, much closer to the levels required to create genuine banking competition.

AIB would no doubt scweam and scweam but with majority shareholdings both banks, the state is very much in the driving seat and will never have a better opportunity to introduce greater banking competition.