Welcome to the Market Briefing for Bendigo and Adelaide Bank's Financial Year 2022 Full Year Results. Let me begin today by acknowledging the traditional owners of the lands on which we meet today. Here in Melbourne, it is the Wurundjeri people of the Kulin nation. I pay my respects to their elders, past and present, and extend my respects to the Aboriginal and Torres Strait Islander people who are present on the call today. I'm Marnie Baker, the Managing Director of Bendigo and Adelaide Bank, and I'm pleased to have presenting with me today our new Chief Financial Officer, Andrew Morgan. Also joining us on the call is our Chief Risk Officer, Taso Corolis, who will be available to take any questions alongside Andrew and I at the end of the presentation.
To ensure we leave time for everyone, I ask that at the end of the presentation today, you please limit your questions to a maximum of two each, and then we can look to cover off any additional questions later, should time permit. Today, we have delivered a solid result in line with the outlook we spoke about back in February this year. Our customer numbers, lending and deposits have continued to grow, as has our cash earnings and return on equity, despite continued margin pressures.
We have continued to reduce our absolute costs and achieved a fourth consecutive half of positive jaws, while maintaining a strong balance sheet and preserving credit quality. These results were assisted by our continuing transformation journey that remains on track, delivering sustainable changes across the business, including a material uplift to our operating model and strengthening of capability.
Our path to becoming a bigger, better and stronger bank is clear. We have reduced the number of core banking systems and technology applications, we have more applications in the cloud, more APIs being reused, and more digital customers. Our time to decision for home lending has improved, and we continue to consolidate the number of suppliers we use and uplift our risk management framework and capabilities. We are proud of the progress we have made and the discipline we have shown. However, we know we have more to do to further improve returns to shareholders, and our focus on operating efficiency remains elevated. While our strategy remains intact and our commitment to customers and communities steadfast, there is an increased emphasis on returns, execution, and sustainability of capital generation as we drive the business forward.
I'll spend some time walking you through the key elements of that in the coming slides. We continue to take steps forward in respect to financial returns. Our earnings have increased on both a cash and pre-provision basis, with ongoing cost containment being a key contributor to this outcome. Impairment expenses are also lower, reflecting the quality of the portfolio and where we are in the credit cycle. This has meant for the first time in our history, cash earnings has exceeded AUD 500 million. Key financial measures of cash return on equity and CTI have both shown improvement in FY 2022, and we are continuing to drive further and sustained improvements in both these metrics. We continue to perform across both financial and non-financial measures.
Our customer numbers and customer footings continue to grow, and our net promoter scores are demonstrably above those of our major bank peers, reflecting our proven and differentiated approach to meeting the needs of our customers. Our staff are a critical element in maintaining leading customer NPS and the improvement in employee engagement, despite the challenging operating environment and disruption that comes with a large transformation agenda, positions us well for continued performance.
Our cost to income ratio has come down for the fourth consecutive half, demonstrating our steadfast commitment to driving continued positive jaws. Notwithstanding the significant progress we have made, we recognize that execution and the returns from our business must continue to improve. We spoke about that at the half year, and we will build on that in more detail today. You'll all be familiar with our strategy at a holistic level.
Our vision to be Australia's bank of choice for those who bank with us, work for us, partner with us, and invest in us remains unchanged. Our focus in delivering on this strategy is much sharper. While the local and global economy is always changing, we are experiencing macroeconomic changes that are particularly significant in terms of the reversal of a decade-long trend in falling interest rates, subdued inflation, and a near 50-year low in unemployment.
Accordingly, we must be dynamic in our response to this, both within our business and in terms of meeting the needs of our customers, staff, and other stakeholders. A tighter focus on those factors that are clearly within our control is required. In particular, more meticulous management of our cost base and shareholder capital. The overarching strategy of Bendigo and Adelaide Bank has proven to be effective and remains relatively unchanged.
What has changed through, though, is the level of emphasis on returns, execution, and sustainability of capital generation in delivering on our strategy. Our proven success in many of the non-financial measures are easily identifiable, well established, and will remain critical to the way that we run the business because it is good business practice to do so. It's also a large reason why our customers come to and remain with us, communities partner with us, and people join and work for us. We also recognize that we need to balance this better with an increasingly sharper focus on overall group returns, which are improving, but we are seeking to accelerate this improvement. To that end, we are increasing the emphasis on return on equity and capital generation within the business.
This is being supported with a significant efficiency and productivity improvement drive as required to keep our overall expenses broadly flat. Some of the work we've been doing in respect to the execution of our strategy has been apparent already. In our portfolio of businesses, you saw that we had announced the consolidation of the business and agri banks at the end of the first half to remove duplication of function, inefficiencies, and provide a better customer experience. The Ferocia acquisition, also in the first half, provides the opportunity to further grow and enhance an already high growth and high NPS digital bank in Up and deliver enhanced capability to re-engineer our business for the digital age.
Conversely, we recently acquired a high ROE margin lending portfolio to add to our leveraged equity business, and we will continue to review opportunities for enhanced capital generation as and when available. Recent changes have also been made to our executive team in support of the execution and delivery of our strategy, most notably the addition of a new group CFO, Andrew Morgan, who, like I said before, is here with me today, who is supported by a new group Treasurer, Luke Davidson. We have also recently appointed a new Executive to head the combined business and agri portfolio, Adam Rowse, who brings considerable experience both domestically and internationally as we reshape and grow the combined business in our target markets.
Existing executive Bruce Speirs has been appointed Chief Operating Officer with a major focus on enhancing our operational efficiency and productivity and uplifting risk management capabilities within the business. More broadly, our workforce is being reshaped as part of our required productivity and efficiency drive. We continue to work towards the optimal size and shape of our distribution channels to meet the changing needs of our customers. Our physical representation and deeply human connections, especially when it matters to our customers, remain central to our relationship approach to banking. COVID-19 has made our customers and our staff more aware of and open to the adoption of digital changes, in many cases demanding the acceleration of these changes in their exhibited behaviors and preferences.
Our investment in digital offerings and ways of working is driving significant uplift in how we distribute products and services to our customers, providing a more accessible, convenient, and engaging experience for customers who choose a digital experience. The very recent launch of the Up Home Loan and the continued leveraging of the Tic:Toc platform through both Up and BEN Express are great examples of this and areas where we are punching above our weight. Fresh eyes into the business has brought forward reviews of current business practices with a clear objective to drive productivity improvement. Changes to our replicating portfolio strategy is an early example of where we have delivered improved business performance. Our performance hurdles and scorecards have been revised to better balance our focus on improving returns, along with strong outcomes for our customers and community.
Performance-based remuneration is being expanded beyond those that occupy our most senior positions, driving improved execution of strategy and performance across the group. Improving our operational performance and increasing the returns of our business is in line with our purpose of feeding into prosperity. We want our shareholders to benefit from earnings growth and our customers to benefit from greater investment in products and services.
These days, when people hear the word sustainability, they often associate it with our planet or ESG principles, which are, of course, very important in how we do business. In the context that you hear us using it today, emphasis on sustainability in our approach also relates to our need to get the balance better with respect to generating organic capital and the judicious use of our scarce balance sheet resources in supporting the needs of our stakeholders, customers, communities, staff, and shareholders alike.
It also refers to the need for sustainable improvement as opposed to short-term tactical measures which do not drive longer term value. I'll now pass over to Andrew to run through the financial details and to expand further on the theme I've just outlined.
Great. Thanks very much, Marnie, and good morning, everyone. This morning, I'm gonna cover off two things. Firstly, I'll take you through the results, and secondly, I'll share with you some initial observations from my first few months in the role and some priority focus areas. Starting with our overall result, we've summarized our profit a little differently this time, showing cash earnings after tax at the top, then non-cash items, and then statutory net profit after tax. For the year end of 30 June 2022, we recorded cash earnings after tax of AUD 500.4 million, which was up a solid 9.4% on the prior year. Total income was up 0.4%, and operating expenses reduced in absolute terms or down 1.1%.
Credit expenses were a net positive in the year, mainly reflecting the unwinding of some specific COVID-19 related overlays and a continued reduction in impaired assets and related specific provisions. We have our non-cash items or items excluded from cash earnings. HomeSafe net adjustments represent unrealized gains on open contracts, minus gains on completed contracts which are recognized through cash earnings.
In the second half of the year, we changed our assumptions on house price growth, and as a result, booked a AUD 67 million reduction, which translated to a net revaluation gain of AUD 39 million for the year. Other items include restructuring costs and the net impact of business sales, including our insurance broking and debtor finance businesses. Taking those items into account, statutory net profit after tax of AUD 488.1 million was down 6.9% on the prior year.
On this slide, you can see some of our key metrics, almost all of which show improvement year-on-year. In particular, you can see the 90 basis points reduction in cost to income ratio and an improvement in cash return on equity. Net interest margin is the outlier in respect of year-on-year performance, and this is not inconsistent with the rest of the industry. The reduction is driven by a combination of low rates, increased liquidity, customer demand for fixed rate mortgages, and intense competition. Pleasingly, our exit NIM is just below our average NIM for the year and is showing upwards momentum. This next slide shows our total income, which is up 0.4% year-on-year. Over the full year, we had strong growth, particularly in residential lending, which was up 11%, and deposits, which were up 11%.
Business lending was up 1.1%. The benefit of this growth was offset by a 21 basis points contraction in NIM. Other incoming, excluding HomeSafe, was slightly lower than the prior year. This was mainly due to the impact of the sale of our merchants business in the prior year, and that accounted for a reduction of around AUD 16.5 million year on year. There were also some one-off items which included benefits received in respect of new supplier contracts. Excluding these impacts, non-interest income would have increased AUD 4 million year on year. The benefit from HomeSafe completed contracts contributed strongly with a 21% increase in completed contracts year on year. Second half income performance was down 4.2%, and this was particularly impacted by an 11 basis points contraction in net interest margin.
Volumes through the half were again strong with residential lending up almost 7%, business lending up 5% and deposits up 5%. Turning now to net interest margin and starting with year-on-year. On year-on-year movements, there are a number of factors driving our NIM performance, which contracted 21 basis points. Asset pricing negatively impacted 19 basis points, reflecting a competitive environment in both variable and fixed rate lending. Deposit and funding pricing lightly offset that, contributing 17 basis points. This number also includes a modest benefit from our changed replicating portfolio strategy, and I'll take you through that shortly. Mix and other impacted 11 basis points. The mix between fixed and variable lending represents the majority of this impact.
To give you a sense of that, on average, fixed rate lending comprised 34% of the book in financial year 2021 and had increased to 43% through financial year 2022. Importantly, we've seen a slowdown in fixed rate lending in the last quarter of this year, and on a spot basis, the proportion was down to 41% at June. With growth in deposits outpacing lending, our liquidity increased substantially through the year, and this impacted 11 basis points. I should note that this puts us in a strong position to pay down the Committed Liquidity Facility by January 2023. There's also been a benefit in respect of the revenue sharing component of margin, reflecting a lower margin environment over the year. Turning to second half NIM performance, NIM declined 11 basis points, and there were three key factors.
First of all, asset pricing negatively impacted by around 15 basis points. This again reflected a competitive environment in both variable rate lending and fixed rate lending. Partly offsetting the asset pricing impacts, we saw favorable deposit and funding pricing contributing. Replicating portfolio in the second half contributed strongly. The final factor to call out here is the one basis point rise related to the revenue share paid to our community banks, reflecting the higher rate environment in second half versus first half. Also, on the top right-hand side, you can see the momentum in our exit NIM of 173 basis points, which is now just below our average NIM of 174 basis points for the year and above our half on half average NIM of 169 basis points.
I wanna now spend a few minutes talking about the sensitivity of our net interest margin to a rising rate environment. I want to stress there are many factors that impact our NIM, but there are two key factors in particular that I want to call out this morning. First is the impact of a changed strategy in respect of capital and deposit hedges or our replicating portfolio, which we implemented late in the second half. Previously, we had run a strategy which was shorter in duration, and in a low interest rate environment, it was not meaningful to our earnings. Following some analysis, which we conducted early in the second half, we changed our strategy in May 2022 to better reflect the behavioral term associated with rate insensitive deposits.
The portfolio is shown on the bottom left-hand side, and it comprises AUD 4 billion of capital invested at a rolling term of two and a half years and AUD 13 billion of deposits, some of which is unhedged, with an investment term of rolling five years for the hedged component. This change strategy in isolation will give us a benefit of around 27 basis points in financial year 2023 and around 46 basis points over three years. To be clear, this is based on market implied forward rates. The second factor that I wanted to call out this morning in respect of interest rate sensitivity is revenue share that we pay in relation to Community Banks and Alliance Bank.
As you know, we pay around 50% of product net interest margins on Community Bank footings to our partners, and there are two dynamics to think about in respect of revenue share. The first is a volume aspect. If Community Banks write footings at a faster rate than the group, then revenue share will increase. The proportion as it relates to deposits has increased steadily over the last nine years, and you can see that in the top right-hand side chart. There's also a rate aspect. If Community Banks write a higher proportion of call versus term deposits, then revenue share will increase. That's because the product net interest margin on low rate sensitive call deposits will be more responsive to changes in rates.
What you should take away from this is that if historical trends continue, both rising cash rates and a rising proportion of deposit funding sourced from Community Banks will have a meaningful upward influence on revenue share, and therefore a downward influence on net interest margin. Turning now to operating expenses. At a headline level, we reduced costs in absolute terms, down 1.1% for the year and down 3.7% on the prior half. We're very deliberately balancing between the need to invest in our business and support growth and to take costs out at the same time. Walking through some of the drivers, there are certainly inflation pressures in the system which we're managing. We're continuing to invest in our Ferocia business, Up and connect platforms, and we've called out Ferocia in particular separately.
Investment spend in P&L terms was lower over the year, and particularly in the second half. This was in response to what we saw as a challenging revenue environment, and so we deliberately slowed the pace of investment on some of our projects that we would ordinarily expense. Staff costs were lower. We incurred lower redundancy costs this year and also saw some efficiency reductions in the retail network. We have experienced a higher amount of non-lending losses this year, and our amortization charge is also higher year on year. Also, as part of our review of contract spend, we successfully negotiated a few large supplier contracts this year, and it has provided us with a benefit, particularly in the second half. Half on half costs are lower.
The most material driver behind this, as I called out in earlier comments, was the slowdown in investment spend in the second half. Turning now to credit quality and credit expenses. Credit quality has continued to strengthen, and for the year, a net credit reversal of AUD 27 million was booked. Most of this AUD 27 million reversal occurred in the first half, where we booked a reversal of AUD 18 million, and a further AUD 9 million reversal has been booked in the second half.
The reversal comprised net write back of overlays no longer required of AUD 23 million and a recovery of bad debts of AUD 4 million. In respect of the write back, there are a few moving parts. Twelve months ago, we were carrying some COVID specific provisions. We've now wound those back and have created some new event specific provisions.
The net result of this was a write back of AUD 23 million. Gross impaired loans continue to track downwards. Of note during the year, we've seen some customers cure and some refinance to other institutions. Impaired loans now represent just 17 basis points of gross loans. Arrears across the book are pleasingly low, and we continue to see rates reducing, particularly in the 90-plus days group in residential lending, down from 69 basis points in June 2021, to 53 basis points in December, to 49 basis points in June 2022.
While asset quality remains sound and arrears are at historic lows, we do expect bad debts to trend upwards and move back towards longer term averages. In terms of provision coverage, the chart on the left on this slide shows the breakdown of our credit provisions across collective, general, and specific.
You can see that there's very little change in collective provisions from December 2021. On the right-hand side chart, we spelled out some of the sector specific overlays which are in the June 2022 numbers. The first of these relates to currently elevated levels of farmland values, where we see a risk that prices could retreat. The second relates to a potential deterioration in business conditions and cash flows.
The third relates to some early signs of pressure in the construction industry. In respect of AASB 9 scenarios, we've changed our weightings to more of a downside case, with the weightings now reflecting a 5% shift out of a mild improvement into a severe downturn case. That means we have an equal weighting between our base case and downside cases. Overall, we feel comfortable with the level of provisions that we're carrying.
We will, of course, continue to keep a close eye on credit conditions across the economy and across our exposures. Our funding and liquidity metrics remain strong and well-diversified. With strong ongoing growth in customer deposits, which were up 11% over the year and 5% for the half, the proportion of customer deposits to overall funding increased to 73.3%. On the right-hand side, you can see the profile of our term funding maturities, and this is a consistent profile with the one that we showed you at the half. On capital, our CET1 ratio increased 11 basis points over the year and reduced over the half, noting that it's unquestionably strong and within our target range. Over the half, earnings added 72 basis points.
This was offset by the impact of dividend net of DRP of 27 basis points, capitalized expenses of 14 basis points, and risk-weighted assets reflecting asset growth of 41 basis points. In respect of dividends, directors have declared a fully franked dividend of AUD 0.265 per share, which represents a 62% payout ratio for the half year. Over the full year, this represents a payout ratio of 59%, which is just below the bottom end of the board's target range. In respect of capital considerations, our heightened focus on return on equity has a clear objective in mind, which is to generate sufficient levels of organic capital. In respect of the revised capital standards, our expectation is that it will be broadly net neutral to us.
While the changes give us a benefit, almost all of that is offset by the corresponding increase to the minimum CET1 requirements. Turning now to outlook. On outlook, we see a subdued credit growth environment and a competitive environment for deposits. We're already seeing a reasonable amount of price pressure emerging. As discussed earlier, we expect to benefit from the new settings in our replicating portfolio.
Largely offsetting that, we do expect to see revenue share lifting to exceed historical levels in response to rising rates and strong growth in Community Bank, particularly in deposits. In other income, we had some non-recurring items in financial year 2022, plus the impact of the cessation of some business lines. We expect other income to be lower. On costs, our aim is to manage to broadly flat, noting the various headwinds, including increased investment OpEx, amortization, and wage and price inflation.
We're looking to strike a balance between ongoing investment in our business, particularly digital and cost reductions. On total investment spend, at this stage, we expect cash spend on investments through financial year 2023 and financial year 2024 to be flat on financial year 2022, subject to affordability and to decrease thereafter. The mix of spend will likely be more towards P&L rather than capitalization. We also expect credit expenses to trend back towards longer-term averages. Finally, in respect of priorities, having now been in my role for around two months, I can tell you that I already see in our business the focus on cost management and a focus on lifting return on equity, and there are certainly early signs of that with that you can see in these results today. As Marnie said, we need to do more.
We're heightening our focus on organic capital generation, which will in turn lift our return on equity to levels closer to our peers. There are three key areas which we're focusing on in order to improve our return on equity. First, and given the cost headwinds, we're putting significant effort into cost efficiency and productivity. We've established teams who are focused on delivering our cost targets. Second, we're heightening our focus on volume versus margin management. This is particularly important in an environment of intense competition and rising rates. Third, with the scale of investment we're making, we're focused on ensuring our investment cases in productivity and growth projects are delivering the benefits that we would expect and that we then realize those benefits. With that, I'll now hand back to Marnie to wrap up.
Thanks, Andrew. In summary, while much remains unchanged at Bendigo and Adelaide Bank in terms of our strategy and our unique strength and genuine focus on positive and sustainable outcomes for our customers and community, the environment in which we are operating is changing, and we recognize that we must continue to dynamically respond. This requires us to have a heightened focus on returns, improved execution, and adoption of more sustainable settings in utilizing our most valuable resources, our brand and our human and shareholder capital. We remain focused on delivering on our ambition to be Australia's bank of choice for our customers, staff, partners, and shareholders, and executing on our strategy that has served us well.
This result proves that we are continuing to make good progress, and we will stay focused on costs, lifting productivity, and driving good customer outcomes and long-term sustainable returns for our shareholders.
Thank you. I'll now open up for questions. A quick reminder to please limit your questions to a maximum of two each, and then if we have time permitting, we can look to cover off on any additional questions later.
Thank you. As a reminder to ask a question, you need to press star one one on your telephone. Please stand by while we compile the Q&A roster. The first question comes from the line, Jarrod Martin of Credit Suisse. Please proceed.
Yeah, good morning. Can you hear me?
Yes.
Yeah. Yeah, good morning. Can you hear me?
Yes.
Yeah. Look, no surprise. I'm gonna ask a couple of questions around NIM, and let's just go to, I suppose, what the elephant in the room is on slide 27. Look, you said NIM benefit from the new replicating portfolio setting largely offset by the higher revenue share payments. You've disclosed what, 46 basis points of replicating portfolio benefits over three years. Are you effectively saying that the revenue sharing amount will actually increase by 46 basis points over the. You've said NIM benefit from the new replicating portfolio setting largely offset by the higher revenue share payments. You've disclosed what, 46 basis points of replicating portfolio benefits over three years.
Are you effectively saying that the revenue sharing amount will actually increase by 46 basis points over the equivalent period, effectively going from 30 basis points, which it was in the last half to 76, which we haven't seen at all, in recent history?
Well, Jarrod, we've been very clear to point out that we do have a benefit in respect of replicating portfolio. That's a benefit in isolation. We've also then said that there is an impact in respect of Community Bank. Now, because of the number of moving parts in respect of the Community Bank revenue share, it's difficult for us to give you specific numbers. The best way to think about it is this. If you look back to historical levels, particularly financial year 2019, the number that we were paying in respect of revenue share was 40 basis points. Now, in financial year 2019, the cash rate was somewhere between 125 basis points and 150 basis points. Back then, the share of deposits that the Community Bank contributed to the overall group was about 42%.
What we have today, of course, is higher cash rates up in the high ones, and the share of deposits of the community banks to total deposits is closer to 47%. Hence the reason why we said that we think that revenue share will rise. Now, exactly where it will rise to, you've got to take into account a range of different factors. We do think it's north of 40, though.
The simple math is that it's, you know, the offsetting amount would mean that it's 76 basis points.
What we've said is it will largely offset the 27 basis points. It won't fully offset. Those two factors in isolation, we expect to be a net positive.
Okay. Thank you. Second question, just on expenses, just your terms around broadly flat. You know, what does broadly mean?
It means broadly. It means it might be slightly higher than flat, but it won't be materially higher than flat, Jarrod. What we're trying to do here, just to be really clear, is we're looking to balance a range of things. As I've talked about, we have headwinds in our business, like many businesses. There's inflation headwinds in the form of wage and price inflation. There are headwinds for us in respect of the amount of investment that we wanna make, and there's also amortization headwinds. We wanna continue to invest in our business for the long term. The transformation strategy remains on foot, and it's as relevant today as it has been over the last few years. At the same time, we want to improve our cost to income ratio, and so we're gonna manage to broadly flat.
The key lever that we may well choose to pull, depending on how our cost management is going, is the extent to which we either accelerate or decelerate investment spend, particularly that goes through P&L. As we've demonstrated in this result, we're prepared to make changes through the year if the environment toughens up.
Okay. Thank you.
Thank you for the questions. Next question comes from the line, Ed Henning from CLSA. Please go ahead.
Thank you for taking my questions. Look, first question, going back to the margin. Can you just talk about your low rate sensitive deposits? You've called out the replicating portfolio's about AUD 15 billion, you've got AUD 45 billion at call. How should we think about the other low rate sensitive deposits? You know, what percentage is the replicating portfolio of that? And when you talk about your NIM guidance, are you excluding that benefit rolling through as you're looking at your NIM going forward?
Thanks, Ed. In respect of our replicating portfolio, we've outlined on slide 19 what the portfolio looks like. As I said in my comments, the vast majority of that deposits figure is hedged. Some of it is unhedged, so about 20% of that is unhedged. When we talk about call deposits, just to be clear, call deposits includes both what you would describe as savings accounts, so those that are more sensitive to interest rate movements and those that are more like transaction accounts, in other words, those that are insensitive. What's in this portfolio on the page is the rate insensitive deposits, 80% of which we've hedged, 20% of which we've left unhedged.
Just on those unhedged 20%, you talk about in your guidance outlook.
Yes.
Benefits from the replicating portfolio are largely offset by the revenue share payments. What about the benefits from the unhedged stuff roll, rolling through? Should that see another, you know, another uplift to NIM? Obviously, there will be some payments to revenue share, or are they both getting offset?
They're baked into the 27, Ed. As we think about those unhedged deposits, the 20% that's unhedged of those low rate sensitive deposits, that is in the 27 basis points, you can't add it on top.
Okay. No, that's clear. Then the second question, just again on NIM, the June exit rate, I'm assuming that's the average for the month, not the exit rate at June 30, 'cause I imagine they're very different because we only had, you know, one rate rise of 25, which will be in there for a month, and then the second rate rise of 50 would only be in there for probably a week.
Yeah.
Two very different numbers.
It's based on the average net interest earning assets or average interest-earning assets, I should say, average for the month of June.
Okay. No worries. That's good. I'll leave it there. Thank you.
Sure.
Thank you for the questions. Your next question comes from the line of Josh Freeman from Macquarie. Please proceed.
Hey, guys, can you hear me?
Hey, Josh. Yep.
Perfect. Okay, just two questions from me, and no surprise, the first one's just gonna be on that replicating portfolio. I just wanna ask quickly on that, new deposit hedge. With respect to the chart and the table on the left, should I be reading this as in you've invested across the term structure up to five years for the deposit hedge, and that will gradually roll into, five years over time across the whole deposit hedge portion that is hedged until June 2025? Or did you, implement the full hedge into five years in May?
It's a rolling tractor. The way it works is we go out 60 months, and every month that goes by the end of the tractor rolls off and the new part of the tractor rolls on.
Okay, perfect. And I guess second question from me, just on the margins with asset pricing. There is a, you know, a pretty material impact in the second half from variable and fixed loan competitive pressures, and I'm conscious that you guys saw a material shift of flow into third-party channels. Are you able to provide a bit more color on the breakup of that asset pricing box?
I won't give you exact numbers, but it's roughly two-thirds of that box that's variable and the balance fixed.
Fixed. Thank you.
Mr. Freeman, do you have any follow-up questions?
No, those were my two. Cheers then.
Thank you for the questions. Thank you. We'll now take the next questions from Andrew Triggs from J.P. Morgan. Please go ahead.
Thank you, and good morning. My question, Andrew, back on the replicating portfolio. If we were to look at this table, at the first half results, could you just clarify what portion of the deposit portfolio had been hedged? And as such, is most of the pickup in the yield on the right just purely the lengthening of the tenor? Or is there? In addition, has there been a significant increase in the proportion of low cost deposits that are actually hedged?
For simplicity, Andrew, we've described this in a constant volume sense. The big pickup is from the lengthening of the tenor. Having done the work, we extended the length from what was two years out to five. That's where we got the pickup.
When the comment last half that Bendigo did not run a replicating portfolio of any significance. Was the comment there really it did run a replicating portfolio but the yield was so low because it was such a short tenor on the portfolio? Is that how we should read it?
I think that's the best way to read it, Andrew.
Okay. Thank you. The second question on costs. I mean, I think in your commentary, you referred to the investment spend as being a change during the half to reflect the revenue environment. If I look at the overall investment spend dollars in the second half, it was broadly similar to the first half, but there was a much higher capitalization rate, which is well above the industry average now. Can you talk to that sort of movement? And also on the outlook slide, could you just clarify whether the continued total investment spend at current levels is a cash or accrual comment? Because I think your commentary seemed a little bit different to what it reads there on the page.
Okay, so just in respect of total investment spend, absolutely right. In our disclosures in the appendices, we disclose total investment spend, and you're correct that the total investment spend is consistent. There's a higher proportion of capitalized. What that really reflects, Andrew, is a choice around the projects that we are pursuing. When you look at projects, there are different accounting treatments and broadly, I don't mean to tell me if I'm telling you something you already know, but there are certain projects that you can capitalize. There are certain projects that you don't capitalize and take to expenses. What we were keen to do was to continue to invest in more foundational type investment projects.
That meant it led to a higher level of investments being capitalized than those that would otherwise be taken to P&L. Things that are typically taken to P&L are less likely to be able to be capitalized. That's the comment there. In respect of investment spend, what I've said is that in a way you think about investment spend, some of which is taken to P&L and some of which is capitalized. Total investment spend, in other words, cash spend, we expect to stay at the levels that we recorded in 2022 for the next couple of years, and then to tail off. In respect of the investment spend that we take to P&L, I think that proportion will lift.
It will be subject to affordability, and it will be subject to how we're managing the broader cost base. Hopefully that clarifies the comment.
Yeah. Okay. Thank you, Andrew.
Thank you for the questions. We have the next question. It comes over the line of Brendan Sproules from Citi. Please go ahead.
Good morning. I've got another question on your medium-term NIM outlook. I think in response to Jarrod's question, you kind of indicated that it was largely offset by the higher revenue share, you know, something around that 40 basis points over time. My understanding of these revenue-sharing arrangements is they're kind of a 50/50 share with the community and with the alliances. Is that kind of indicating to us that, you know, the overall portfolio is gonna see like 80 and of which you share 50/50 with the community and then with Bendigo Bank shareholders?
Just to clarify what I said in the outlook comments. There are, as we all know, many factors that can influence NIM. All I've talked about is two particular factors which I think are very noteworthy. There's the replicating portfolio impact and there's the community share impact. Just for those two factors in isolation, as I mentioned, in the answer to one of the other questions, I expect the sum of those two items or the net of those two items to be positive. I do expect that revenue share, though, will increase and it will increase above 40 basis points, and that's because of the settings that were in place in financial year 2019 versus the settings that are in now.
Settings, meaning that interest rates were lower back in 2019 than what they are now. The share of Community Bank deposits was lower then than it is now. Hopefully that gives you a clue as to how we're thinking about it. Again, though, there are a lot of moving parts here in respect of how that revenue share will work. The best indication I can give you is turn back to history, look at the environment at the time in history, and then come to a judgment on how that might respond in the current settings. Just to stress again, I do believe those two factors, so replicating portfolio net of community share will be net positive.
Just a follow-up on that. I do understand the point you're making around just pulling out two of the numerous factors that are gonna drive your NIM over the next little bit. Just to clarify that those revenue-sharing arrangements are typically 50/50 and that.
Yes.
You know, any, you know, for AUD 1 of benefit, there's gonna be 50% or AUD 0.50 to the community and AUD 0.50 to Bendigo shareholders. As you said, there are some other factors out there that you haven't specifically called out today that is also driving that contribution higher from the revenue share.
Yes. Sorry. Was there a question?
Yes. Sorry. No, I just want to clarify that. So I do have a second question just on slide 18. You've had quite considerable drag from variable and fixed residential loan competitive pressure. Could you maybe talk about how that evolved over the half? Obviously, there's quite a bit of repricing that's gone on in the mortgage market in response to higher rates. Has that headwind eased as the half went, or did it continue to grow larger?
Well, there's continued to be pressure in the half. It's certainly been a very competitive environment out there. What we have seen, and I talked about this in mix, and this is more of a mix issue. What we have seen is quite a slowdown in respect to fixed rate lending. If I was to show you our performance for every month over the year, it would be quite apparent that the fixed rate book really peaked end of March, and it started to slow down. Now that, as you play that through, all things equal, that would mean that the way that margins respond would be positive as we shift more towards variable and fixed.
No problems. Thanks.
Next question is from the line of Jonathan Mott of Barrenjoey. Please go ahead.
Thank you. Two quick questions, if I could. The first on slide 18 again, which is the monthly NIM movement. I know there's a lot of volatility month-to-month, but it looks like the NIM really collapsed in the month of April, then was up about 10 basis points, as the RBA started to raise rates. Why wasn't a lot of this leverage passed through to the Community Bank? Is there some timing there? It just looks unusual as that it rose so quickly, and it wasn't passed through to the Community Banks in those two months.
Well, if we're looking at the Community Banks, John, and we don't disclose the spot for Community Bank, but the Community Bank share did start to jump in spot terms, particularly in the month of June. There is a little bit of a lag. You're right.
It's a lagged impact. It's not that we should take that as
Yeah.
An indication of what's going on. Okay. The second one, you're targeting cost to income, and it's been 50% is the holy grail for some time. If you look at how this is going, a larger proportion of your cost base for distribution via the Community Bank and also via mortgage brokers, which are now 64% of flow, they're actually taken as contra revenue through the NIM rather than expenses. Given that you're accounting for distribution as negative revenue rather than costs, doesn't it make the cost to income target somewhat redundant?
Well, Jon, the way we're thinking about costs is different. Let me give you a broader answer around how we're thinking about costs and how we think about cost income ratio. We're thinking about costs and how we manage costs in three ways. One of which you will have already heard about, which is our transformation program, and that's long-term cost out. The second is something new, which we've put in place just in the last number of weeks, and that is a focus on shorter term cost management. That includes things like contractor costs, consulting costs, and those sorts of non-FTE costs. The second piece of work we're doing around costs or
Sorry, the third piece of work we're doing around costs is a heightened focus on productivity, as Marnie said. What we're doing here is we've created, if you like, a center of excellence of individuals that are focused on process improvement and process simplification. I have to tell you, in my experience in respect of how you get sustainable cost out of a business, the most sustainable way to take cost out is to remove work by re-engineering process, whether that's putting work into the hands of customer through self-service or whether that's actually stopping process. We've got the combination of these three efforts: short-term cost management, productivity process improvement, and transformation, which means that we've got confidence that we can manage over the medium term to a flat cost target.
With growing revenue, that means our guidance around returning to or moving towards a 50% cost to income ratio, we believe is achievable.
Given the revenue's very difficult to predict given the number of moving parts around NIM and the distribution cost now going through revenue rather than cost, we should be more focused on the flat cost target as more manageable and the revenue will be what it is. Is that a fair way of thinking about it?
That's a fair way of thinking about it, Jon. As you've seen in our results, we're prepared to make changes, particularly around the way we invest, should the environment, the revenue environment be more challenged than what we expected. We clearly enter every year with plans to invest, and we've got an investment program. As we've shown in the results, we are prepared to be flexible to make sure we manage that cost target.
Thank you.
Thank you for the questions. The next question comes on the line of Brian Johnson from Jefferies. Please proceed.
Thank you very much for the opportunity to ask two questions. Just first one is, if we have a look at slide 11, and I really wanna commend the introduction of it, but you've actually said the introduction of profit after capital measure and heightened ROA discipline. We can see the narrative on this everywhere. But for the life of me, I can't actually see the numbers disclosed. If it is disclosed, could we find out where, and could you explain to us exactly how you come up with this profit after capital measure? Specifically, what do you think your cost of capital is?
Brian, we haven't disclosed profit after capital yet. We're in the process of implementing it. The way it's gonna work is, we'll have a top of Bendigo target, and we'll also cascade that through our business units very clearly to make sure that there's a heightened focus on generating profit in excess of cost of capital. Probably no surprise to you and I suspect you're there as well. Our cost of capital is around 10%.
Okay. Thank you. Andrew, it's fair to say that this discipline, while it's being introduced, didn't actually flow through in this period. It wasn't kind of at the management.
That's right, Brian.
Okay.
No, it's being introduced in financial year 2023, as Marnie said.
Fantastic. Okay.
Sure.
The second one is that when we actually have a look at what's going on in the market, you can see that Macquarie has started this fairly significant price war in the deposit market. I do notice that you guys quite substantially increased your TD rates after July. When we go back and have a look at it, in the month of June, according to the APRA stats, which is always a little bit dodgy, it looked to me as though you lost AUD 440 million of household deposits, then you've grabbed about AUD 400 million. Can we just get a feel on what your thinking is on deposit margins going forward, which seemed to have really helped out during the period?
I just was wondering if we could get more of a direction on that over the upcoming period.
Very hard to predict, mate .
In the wake of those.
Yeah, sure. Brian, as we said in the comments, in our outlook comments, we do think there's gonna be heightened pressure on deposits. We're seeing moves by some of our competitors already. We're responding to that, but we're gonna be sensible at the same time. One of the things that I talked about earlier was a heightened focus around volume versus margin management. We wanna make sure that we're not focused just on volume, we're thinking about margin as well. It's something we're gonna have to manage very, very carefully, because, as I said, we know that it is pretty competitive out there.
Andrew, the AUD 440 million, which is a gigantic number, that you lost in the month of May, according to the APRA stats, the household deposits, and then clawing back a big chunk of that in June, was there any fundamental change in the pricing that you've done, or was that just the vagaries of just markets moving?
Brian, I'll need to take that one on notice. I think there was a specific factor which drove that inflow in June, but let me take that one away.
Thanks, mate. Appreciate it. Thank you.
Cheers.
Thank you for the questions. Our next question comes from the line of Andrew Lyons from Goldman Sachs. Please go ahead.
Thanks, good morning. Just two more questions just around the NIM. I guess first I'd really just wanna better understand the decision around the timing, on the replicating portfolio. As rates were falling, shareholders largely had an unhedged exposure to the impact of rates. Now that we've reached an inflection point, rates are moving higher, the decision to effectively amortize that benefit, sort of over a five-year period, really keen to understand the timing, in relation to that decision. Then a second question, just in relation to how the replicating portfolio, which means that the benefit to shareholders now comes through over a five-year period, how does that impact the revenue share?
Does the revenue share come through instantaneously, or does the replicating portfolio get reflected in the transfer price that you're using in calculating the revenue share?
Andrew, on the first part of the question, why the timing? We've had some changes in personnel, as you're probably aware. We did some further work, particularly on the behavioral term of our rate-insensitive deposits early in the half. We decided, based on the work we'd done on the behavioral terms, which frankly are longer than five years. We thought a five-year lengthening of tenor was appropriate. We put the hedges in place in May 2022. In respect of the revenue share and how that works for Community Banks and replicating portfolio, I won't go into a lot of detail on it other than to say that inside that NIM number of 27 basis points, we've taken into account the Community Bank impact.
Sorry. You're saying that the 27 basis point impact for this year largely gets offset by the revenue share, which suggests that, you know, that it's coming through quite quickly as far as the benefit, the revenue share benefit for your partners?
The revenue share, I haven't been specific about exactly what that revenue share number is gonna be. What I've said is it's north of 40 basis points. It will depend on how product NIMs respond through the year. It will depend on how product volumes respond through the year.
You won't make any comment on the timing. Just to the extent that shareholders are now benefiting from this over a five-year period, there's no comment on how that impacts the partners and their share of that?
Well, it's all wrapped up and reflected in the way that the transfer pricing system works and in respect of the way that we've described that 27 basis points.
Thank you.
Thanks.
Next question comes from the line of Richard Wiles from Morgan Stanley. Please go ahead.
Good morning. I've got a couple of questions. First one is, can you give us a bit more detail from slide 18, the breakdown of that 15 basis points of margin headwind from housing. How much was variable? How much was fixed? I know you've got the asset mix number as well, but wondering if you can give us a bit more detail on the variable versus fixed component of the pricing. The second question relates to your approach to housing loan growth. In the second half, I think your housing loan growth accelerated. It was up sort of 6.5%, in the second half, which was tracking well above system. I wonder how that aligns with your comment that you're more focused on volume versus margin trade-off.
You know, housing competition seems to be getting worse, and yet you seem to be going more for above system growth. Could you comment on how you're aligning your volume versus margin trade-off comments with your actual growth in the mortgage market?
Richard, I'll take your second question first, and then I'll come back to the first. There's a retrospective and a prospective here. The prospective comment I made is around volume versus margin management, and it's a reflection of the fact that, as you've seen in our results, we've written a lot of volume, and we've seen a contraction in NIM. That is evidence in our results of how the year has played out, and certainly the second half is the same dynamic. What we're saying is, as we look forward over the medium term, we're gonna heighten our focus on getting that balance right between volume and margin management. As you say, it's a very competitive market.
If that means that pricing is unsustainable and we need to step out for a period of time, then we're prepared to do that. On your first question, in respect to the split between variable and fixed, it's about two-thirds, one-third of the 15 basis points on slide 18.
Great. Thank you.
Other questions. The next question comes from Azib Khan from ANZ. Please go ahead. Mr. Khan, your line is open. Please unmute locally. Unfortunately, we are not able to hear from Mr. Khan, so I will now take the next questions. We have a follow-up questions from Ed Henning from CLSA. Please go ahead.
Thank you for taking follow-up question. To clarify on the outlook of the 27 basis points, and you're saying that's, you know, largely gonna be offset. In response to Richard's question, just then, you said there was two-thirds, the 15 basis points was variable rate headwinds. Can you just clarify for us, looking forward, given the benefits are being largely offset and there are still significant headwinds from competition that you think NIM is gonna be up or down in FY 2023?
I'm not gonna give comments, Ed, on the overall NIM. What I've talked about is two specific factors in relation to NIM. It's not for me to say our NIM in aggregate is up or down. That's not what I'm saying. What I'm saying is there are two particular factors that we've called out in this result, one of which is replicating portfolio, one of which is community share. For those two factors in isolation, we believe it's a net positive. Hopefully that clarifies.
Obviously you've still got the net negative of competition coming through on top of that.
There is still competition coming through it. That's right.
Just one more clarification on Andrew's question before. You know, we've talked about the share of the revenue share coming through in 2023. In the difference between the 2027 and 2046, is there more revenue share coming through in the 2046? Or is it just all lumped up front in the 2027?
Sorry, Ed. I'm not sure I understood the question. Can you just explain that again? 46 is how
Does the revenue share?
Sorry, you go.
The upfront, you talked a lot about the revenue share coming through in 2027. Is it accelerated upfront or does it match your replicating portfolio that comes in over time? The AUD 46 is like a smooth impact over the five years or next three years, essentially. Is it all up front?
Yeah. There's slightly different things. The 27, it relates to the financial year 2023 impact. The following year, it's about half that. The following year, it's about half again in respect of deltas year-over-year. That's how we get to the 46. In respect of this year coming up, we believe revenue share will be north of 40 basis points. Hopefully that clarifies. Revenue share is based on
Yeah. Okay.
It's dependent on.
That's all right. I'll clarify it afterwards. That's all. Okay, that's all.
Thank you for the questions.
Thank you.
Once again, Mr. Azib Khan, your line is now open. Can you ask your question, please? Unfortunately, we're still not able to hear from Mr. Azib Khan. I will proceed with the next questions. The next questions will come from the line of Brian Johnson of Jefferies. Please go ahead.
A question for Andrew, if I may. Andrew, if we have a look on slide 42, way at the back. In the second half of the year, we can see the flow has gone from 56% through the broker to being 64%. We can see this kind of trend up over the very long term in the percentage of the book. I was just wondering if you could talk to us about how and what is effectively a commodity business, which doesn't seem to make the cost of capital at the moment. Do you have any pricing power at all through that third party channel? That's on slide-
Sorry, Brian. It's a little hard to hear you. Could you just repeat? I think the last sentence. I think it was, do you have pricing power in the third party channel? Is that what your question was? You were just breaking up, my apologies.
Yeah, correct. If we have a look on slide 42, we can see the flow is skewing much more aggressively up through the third party channel. Just intuitively, I just can't see what pricing power any bank has through that particular channel.
Well, it is a, y ou're right. This is a customer choice as well. There's stats that we've seen out of the MFAA, for example, that say that something like 70% of borrowers are using brokers. It's an important channel. As I said earlier, though, Brian, we are very focused on prospectively volume versus margin management. If there's something we need to do differently in respect of staying in versus coming out of the market because pricing is getting too hot, then that's a consideration that we'll make.
Andrew, just the second one is you know, kind of just listening to what we're saying going forward, it's an increased focus on meeting the cost of capital going forward of meeting. We can also see that the Community Bank branches are increasingly flagged to basically become a drag. Could you just talk to us about whether you're actually reviewing the whole Community Bank model? Like, will it meet the cost of capital? Should we expect you to move to basically bring some of those Community Bank branches back in? For example, Bank of Queensland seems to be corporatizing some of their owner-managed branches. Could we just get a feeling on just that strategic thrust going forward, please?
BJ, it's Marnie. I might jump in on that. As you know, I'm not telling you anything you don't know, but our franchise model is very different to that of Bank of Queensland. We are reviewing all of our businesses. The Community Banks themselves are very important to our organization. They are a deposit-raising franchise for us, and they are a customer aggregator as well. It's been shown over a long period of time now, just the stickiness of those customers. However, I say that, but our community partners themselves and ourselves know that models need to evolve and to change as the environment changes and as customer preferences change.
Yes, we are reviewing that model, along with our community partners, to ensure that it actually is a sustainable model, well into the future. You can stay tuned as we'll be providing more color to that, you know, as we work through that.
Marnie, as deposit rates are clearly gapping up, is that equally shared, that pain pressure point, is that equally shared between Bendigo shareholders and the community branches?
Yes. Yes.
It's equally shared. Thank you.
For the questions. Oh, no. To take the next question is from Victor German from Macquarie. Please go ahead. Mr. Victor German, your line is now open. Please go ahead with the question.
Thank you. I was just hoping to follow up on a couple of previous questions as well. I mean, in the past, we've spoken quite a lot about Bendigo's leverage to higher rates. Now, even with increased proportion of hedging that you're doing, which at least in the short term should provide you some upside, it appears as though you're being quite cautious. If you can, maybe. I know we've spent a lot of time already on this, but just reconciling what has changed and why that is the case. Is it just the timing issue that you're giving more to community banks next year and ultimately the benefit comes through over time?
Maybe if you can provide a little bit more color because it sort of appears to be a big disconnect with the discussions we've had in the past on this subject.
Victor, what we've really sought to do here is to call out a couple of very key impacts. I've deliberately stayed away from talking about overall NIM because as we've talked about in other questions, there are so many moving parts in respect of our overall NIM. What we're instead talking about is these two impacts. Because they are meaningful impacts, I thought it was very important, we thought it was very important to be very transparent with you all about the dynamics there. The replicating portfolio is an easier factor to quantify because it's based on market implied rates. Given the disclosures we've seen in other places, we felt it was important with that change strategy to make sure that we were very clear with all of you about what we're doing.
In respect of Community Bank, because there are so many moving parts, it's harder to be more specific. We wanted to at least call out some of the historical data points and also some of the drivers behind how that community share will potentially be impacted in a higher rate environment. This, Victor, is really about somewhat timing in respect of change strategy, particularly in replicating portfolio, but also to make sure that we're really transparent with you about some of these big dynamics in our book.
No, I appreciate it. I guess what I was trying to allude to, you know, you talked about 27 basis point benefit in 2023, but ultimately a 40-60 basis point benefit over the time. Should we assume that delta between those extra 20 basis points, are they likely to be also shared, or is that predominantly likely to benefit Bendigo as opposed to Community?
Yeah. Again, in respect of the 27 basis points, that includes share already baked into there. To the extent that there is Community Bank share associated with those rate sensitive deposits, that is baked into the 27 basis points.
Right. Okay. Secondly, just following up on term deposit question. You obviously talked about the benefit that you got already. Presumably, there's still more upside in term deposits, at least in the first half. But then in the second half, you know, if competition persists, those benefits are likely to unwind. In your sort of, I know you haven't given specific guidance, but just in kind of the way you're pitching the margin story, what have you assumed with respect to term deposits? Are they gonna be a negative driver in 2023 or positive?
Oh, I'm not gonna get into specifics on that, Victor. That would be price signaling.
Okay. All right. Thank you.
For the questions. Our next question is from the line of Jeff Cai of Jarden. Please go ahead.
Morning, everyone. Can you hear me?
Yes, I can.
Yeah. Hi. Just a quick question on slide 20. I know that we've talked about a lot of them, but can you give us a bit more color on the pace and extent of that revenue share going into next year? Because I know there's lots of moving parts, but if assuming there's no change in product and deposit mix from Community Bank, and let's say cash rate is 3%, so how much of the revenue share actually does get paid away in next year?
Well, the best clue I can give you, if things just stayed still right now, is to look at the number for the half. That's a clue. We haven't disclosed the spot number for the month of June. It's slightly higher than that 30 basis points. But that assumes obviously that things stay as they are. Again, because there are so many moving parts here, I can't give you any better guidance than that at this point.
Okay. Thank you.
Thank you for the questions. At this time, there are no further questions. I would like to hand the call back to the management for closing. Now disconnect your lines.
I would just like to thank everyone on the call today. Thank you for your time and your continued interest in the bank, and we look forward to speaking with many of you over the remainder of the week. I'll now draw the call to a close. Thank you.
Thank you. Ladies and gentlemen, that does conclude the conference for today. Thank you for your participation. You may now disconnect your lines.