Ladies and gentlemen, thank you for standing by. Welcome to Leumi's second quarter, 2023 results conference call. All participants are present in listen-only mode. Following management's formal presentation, instructions will be given for the question and answer session. For participants dialing in, please press star 0. As a reminder, this conference is being recorded August 15, 2023. I would like to remind everyone that forward-looking statements for the respected company's business, financial condition and results of its operations are subject to risks and uncertainties that could cause actual results to differ materially from those contemplated.
Such forward-looking statements include, but are not limited to, product demand pricing, market acceptance, changing economic conditions, risks in product and technology development, and the effect of the company's accounting policies, as well as certain other risk factors, which are detailed from time to time in the company's filings with the various securities authorities. I would now like to turn over the call to Mr. Michael Klahr, Head of Investor Relations. Mr. Klahr, would you like to begin?
Thank you, Operator. Ladies and gentlemen, thank you for taking the time to join us on this results call of Bank Leumi's financial statements for Q2, 2023. On the call today are Ms. Hadas Agmon, CFO, and Mr. Omer Ziv, Deputy CEO and Head of the Capital Markets Division. We are joined today by our colleague, Dr. Gil Bufman, Chief Economist. The presentation can be found on the IR section of our website and on the tax website. I'd now like to turn the call over to Hadas.
Thank you, Michael, and good day, everyone. Thank you for joining us today for a review of Leumi's second quarter of 2023. Let us turn to Slide three in the presentation, where we present our strong, strong performance of the quarter. Q2 2023 net income of ILS 2.45 billion was up 23% year-on-year and reflects on an ROE of 19.4%. Net income for the first half of the year was ILS 3.4 billion and was impacted by ILS 1.1 billion impairment of the bank's day-to-day . The cost income ratio consistently continued to decline and was 29.5% in the second quarter, from 35% in the second quarter of 2022.
Credit expenses were 0.31% in the quarter, down 10 basis points on the previous quarter, and like in previous quarters, came almost completely from collective provisions. Credit grew by 6.4% in the first half of 2023, and 1.4% in the second quarter. Core deposits to private individuals, a key focus for the bank, are up 5.4% and grew 2.2% in the second quarter. Until the start of August, the bank had completed ILS 300 million of ILS 800 million buyback program, which is in addition to ILS 736 million, representing, representing effectively 40% payout for the second quarter. The next two slides show a snapshot of the key drivers of, of the pre-provision net revenue, the first half and second quarter.
Slide four shows almost 50% year-on-year increase in pre-provision net revenue in the first half of 2023, to ILS 7.4 billion. Financing income increased by 34% to ILS 8.7 billion, driven by net interest income. Fees and commission rose by 4.8%. Operating expenses were up 1.1% year-on-year. Slide five show a snapshot of the second quarter. Pre-provision net revenue grew 32% year-on-year, driven mainly by net interest income, up 37% year-on-year. Turn to slide six. We can see the quarterly development of net interest income, helped by higher volumes and higher fees and interest rate growth. The NIM in the second quarter increased to 2.79% from 2.59% in the previous quarter, and 2.15% in the second quarter of 2022.
Slide seven shows the year-on-year increase and breakdown of quarterly fee and commission income. The year-on-year increase in the first half was driven mainly by an increase in financing transactions and more other rate increase in account management, as you can see. Turning now to expenses on Slide eight. In the first half, operating expenses increased by 1.1% when compared with the first half of 2022, while quarterly expenses grew 2.6% year-on-year. On the right-hand side, we present the bank's cost-income ratio trend. Quarterly cost-income ratio declined to 29.5% from 35% in the second quarter of 2022. Slide nine shows the expenses versus the previous quarter. Like in previous quarters, almost all of the expense comes from collective provisions. Expenses in the first half were 0.36%.
Slide 10 shows a small uptick in NPL, although this remains low on a historical basis. Allowances for doubtful debt increased to 1.32%, while the ratio of the allowances for doubtful debt to NPL remained among the highest in the sector at close to 230%. By moving ahead now to slide 11. The slide shows our loan book increased to ILS 410 billion in the first half, a 6.4% increase since the end of 2022. While we continue to grow in each of our target segments, we saw the strongest growth in corporate credit, which includes real estate. We note that loan growth slowed in the second quarter of the year to 1.4%.
Slide 12 shows deposit trends. We highlight here the growth in core deposits from private individuals, which increased 5.4% in the first half, and they are almost 10% year-on-year. Important to note that our deposit base is well diversified, and our liquidity ratios remain strong. Slide 13 shows the bank's solid capital ratio. The Common Equity Tier 1 capital ratio was 11.23% at the end of the second quarter and is more than 1% above the regulatory requirement. The total capital ratio stood at 13.44%. Slide 14 shows the key investment highlights for Bank Leumi. Bank Leumi continues to present consistent and strong financial performance, supported by a best-in-class cost-income ratio and robust credit quality indicators.
The bank's strong profitability and excess capital buffer enable us to continue to grow market share in our target segments, while also allowing us to share higher returns with shareholders through dividends and our base buyback, as I mentioned earlier in the highlights. It's worth noting that the bank will record around ILS 800 million of pre- tax profits from selling to a quarter within either in Q4 or in the third quarter of 2024. With that, I will now open the floor for questions. Operator?
Thank you. Ladies and gentlemen, at this time, we will begin the question-and-answer session. If you have a question, please press star one. If you wish to cancel your request, please press star two. If you are using speaker equipment, kindly lift the handset before pressing the numbers. The questions will be polled in the order they are received. Please stand by while we poll for your questions. The first question is from [Chris Ryan]. Please go ahead.
Hi. Thank you for taking my questions. Congratulations on the strong results. I was wondering if you have any customers who are asking to renegotiate their loans for any particular segment or any uptick in that kind of activity?
Hi, Chris. Thank you for your question. I would say that we do see, we do see that partially in mainly in the articulate retail. It seems that currently, the most affected sector of the increase in interest rates are the articulate retail as well as the small businesses. We do see a slight increase in the payment in this segment, and, you know, as a result, a different arrangement around it as reflecting debt in such kind of. Mainly there.
Okay. Just looking at expenses going forward, can you give any color around the new employee agreement and maybe how, how the bonuses are triggered? You know, just if there's any real difference from the previous.
Okay. First of all, Bank Leumi, the employee agreement of the union, the e mployee agreement with union, has already signed a few months ago. It's not now. The results of this agreement are already reflected in the salary expenses of the first quarter as well as the second quarter. You can see from there that the salary expenses, they actually, they didn't increase, they even decreased a little bit. You can assume for there, for the results of the two quarters from the salary expenses in the last two quarters, which already reflect the new employee agreement, that it has no effect on our salary expenses, or no significant effect on our salary expenses.
The main reason is that, within the increase in the salary that, is including in this agreement, we decreased our employee number, last year, but within previous years by 100 employees, and this trend balance one another.
Chris?
The next question is from Borja Ramirez of Citi. Please go ahead.
Hello, good afternoon. Thank you for taking my questions. I have two questions. Firstly, I would like to ask regarding the profitability, to your drivers, for the peak cost to income, which is now I think at below 30%. Then my second question is on the quality, your loan growth, if I understand well, is around 12% year-over-year above the peer average. I would like to ask if you, if you are seeing any deterioration in the loan portfolio. I think your NPL ratio is below your peer average. Yeah, I would like to ask on that as well. Thank you.
Thank you, Borja. I will tell you that, first of all, the high profitability is only from core business. There are no one-time item in the second quarter. The total 90.4% is driving from the core businesses. The main drivers in this high profitability are, first of all, as you mentioned, the improvement in our cost income ratio, which as far as I remember, is the first time that we present from core business, cost income ratio below 30%, the best cost income ratio in the market for a long period with this group. Second, the second parameter, which affects this high profitability is the credit cost expenses, which as Hadas mentioned, decreased compared to the first quarter.
The sales cost expense ratio in the second quarter was 31 basis points, compared to 41 basis points in the first quarter. Moreover, unlike our peers, which present increase in the specific provision, which are really losses, because the collective provision has a lot of parameter in that. In Bank Leumi, the specific provision in the second quarter, as well as the previous quarter, is around 0. All the provision is composed of collective provision. As you mentioned, the NPL of Bank Leumi is even though it slightly increased to a level of 58 basis points, it's still significantly lower than our peer.
In the bottom line, even though we increased our credit portfolio significantly in the last two years, above the market base of growth, when we look at the main parameters that reflect the quality of the credit portfolio, the main parameter are very strong. Also in terms of the total credit cost expense ratio and the specific provision, which is around zero, and the NPL. They are even better from the result that we saw in the market.
So coming back to your question, even though we were able to increase our credit portfolio significantly, at least at this stage, and it's for a few quarters already, when we are having a high interest rate level, the performance of the risk performance there are even better than the industry. In the bottom line, this strong increase in our credit portfolio is one of the major drivers, alongside with the increase of interest rates, of course, in our high profitability.
Understood. Thank you very much.
Thank you, Borja.
The next question is from [Irit Bar] of The Phoenix. Please go ahead.
Hi, thank you for taking my questions, congratulations again for your excellent amazing results. I have two questions. One is related to the, well, the public pressure on the profitability of the banks lately. Do you think that maybe the regulator will intervene and require you, let's say, to enlarge the payment on cash with non-interest bearing the current account? Do you think that it is possible that you will be required by the Supervisor of Banks, let's say, to increase substantially your LLPs or other measures that will limit or could limit your ability to distribute dividend going forward now, so, in light of, you know, the difficult political and macroeconomic situation?
Hi, Irit. Thank you. I would say that, first of all, the bank is owned, completely by the public. All the profits that the bank generates are coming back to the public. Let me say that there is an environment that too much, it's not new. In the media, there are different politicians who, who have different proposal in the media, but nothing that currently that I'm aware of, that is on the table. If you talk about the Bank of Israel, first of all, that you mentioned the current account.
I will tell you that regarding current account, we were the first bank that started to pay interest and current account. After us, all the banks proposed different formula about how they pay interest on current account. We are already in a position that we are paying interest on current account for based on the conditions that entitle the customer to get this interest. Regarding provision, I would say that the Bank of Israel is aware, and I'm talking now the name of the industry, that the industry is very well conservative in its provision.
In our provision, I assume that, that is also the case in other banks, there are a significant amount of conservative provision in order to mitigate any scenario that might happen in the future. I think that at this stage, especially when we look at the NPL, when we look at the real, at the real damages, I mean, the specific provisions and stuff like that, we don't see any, any need to significant increase in our credit provision. Of course, we have to look at it on a monthly basis, and of course, things can change. As for dividend, I will say that we present Q1, 11.23%, which is 1 basis point above the requirement.
I don't see a reason for the Bank of Israel to intervene in dividend distribution, mainly when I look forward and I see that due to the interest rate level, I don't we don't expect that the trade portfolio will increase in a significant number. It means that if the credit portfolio will not increase significantly, at least when all the industry in the second quarter, and due to the high level of the interest rate, level of CPI, the bank will continue to generate a double-digit ROE. It means that in the bottom line, we can expect the within the different distribution ratio, which is high in the Bank of Israel, we should expect that the equity ratio might even increase.
Because of that, I don't see a reason why the Bank of Israel will intervene at this stage in dividend distribution.
I understand. You don't think also that the Bank of Israel could and might add additional or require additional capital reserves, to, I don't know, to prevent any failure of the bank, if, you know, things went today and worse?
I would say that, first of all, I'm not aware of any initiative in this area. Secondly, we should keep in mind that the equity requirements in Israel are already in a very conservative position comparing our peers outside of Israel. In Israel, we, we, we apply t he standard, the standard, Basel, in a very conservative way. We are already in equity requirement, much higher than our peers outside of Israel. This is the starting point. Also, because of the, the trend in the market, I mean, the, the decrease in the demand for loans and the high profitability, I don't see a reason for intervention in dividend distribution at this stage.
I understand. The second question is related to your, you know, growth drivers, let's say, in the coming months to the end of the year, or even a little bit beyond that, because if I look at, at segments now, the credit growth in the different segments, we see declining lending demand or credit demand from a particular peak, from individuals, consumer loans, we see very low growth rate, mortgages, very low or even shrinking rates in small businesses. You have your large businesses, and in the large businesses, you are already exposed to the real estate. What do you see, you know... What would be your main segment targets going forward now?
First of all, I would say that, you know, we are focusing in Israel. About 95% of our activity is in Israel, and this is our main source of growth. Now, you are right that, due to the interest rate level, the demand for low, for loan decreasing, and you see that in the market, in fact, of growth in the market, which is currently still okay, 1.5%, 1.6% for a quarter, in percent in a year, not that number. We just get used to double-digit numbers, but we are, it's not the situation currently. Moreover, moreover, I would say that there is a trade-off between interest rate and pace of growth, because this pace of growth is impacted by the high interest rate level.
In the high interest rate level, the banks earn from the high interest rate level. There is a trade-off between amount and price. In any scenario that you will assume, we know if the interest rate will go down or the pace of growth will increase, if the interest rate will remain high, or we continue to earn high profitability because of the price. In any case, I see that the banks will continue to perform strong performance. Of course, if the interest rate will remain strong for a long period, so we will see eventually increase in the credit loss expense ratio. Even if we will earn not 19%, you know, high, strong double digits, ROE, we'll still be satisfied with that.
Do you see, do you expect any, I don't know, margin, credit margin, pressure, from mix change in credit and new credit?
First of all, for a long period, our strategy is focused in the mortgages, middle market, and the corporate, including real estate, as you mentioned. Most of these credits are most are segments with relatively low margin, but strong collateral. This is one of the reason why even though we increase our credit portfolio significantly, we present a very good parameters in our credit portfolio analysis. Because we look at the bottom line, I don't care about the margin, I care about the ROE.
Of course, there is a trade-off between that. Also that, about that, keep in mind that our credit portfolio currently is around ILS 4.6 billion, something like that. ILS 4.10 billion, sorry. It means that the incremental increase is not significant to the total number. Y ou're right that the mix is affecting the, the, the mix. If we look for a growth period of time, because of our focus in the sectors I mentioned, that the effect of that on me will be over a long period.
Yeah, that's it. Thank you very much.
Thank you. Bye-bye.
Thanks.
The next question is from Micha Goldberg of Psagot. Please go ahead.
Hi, and good afternoon, and you two, congratulations on a very strong, quarter. A couple of questions. You mentioned that your common equity on one level are relatively strong, 11.23%. You mentioned 1% above the minimum requirement, and I think that's indeed the case. That's excess capital of close to ILS 5 billion. Would you consider increasing your dividend?
Hi, Michael. Good afternoon. First of all, it's a question that is on the table because of the buffer that you mentioned. When we look forward and see that due to the interest rate level, the demand for loan is not expected to be high. It's a question on the table. Currently, we are satisfied with the 40%, effectively, if I relate the bank to the cash dividend. It we are effectively around 40%. It's a question that we are looking at it, and we are looking it for quarter- to- quarter. We also take in mind, you know, the macroeconomic environment. We should be prepared. You are right that we have a very strong equity buffer, but currently, there is still uncertainty, so we prefer to be more cautious at this stage.
I understand. Thank you. Just a related question, I mean, there's still some concern about a potential credit downgrade for, you know, the sovereign in Israel. I'm just wondering, you are different than the other banks, right? I mean, you, you take the lower of S&P and Moody's, or how would it impact, the downgrade impact you, if at all?
There will be no impact on Bank Leumi, if S&P will, will decrease the rating of Israel, because as you mentioned, we are using, three rating companies, and we're taking the higher two, but the minimum of these higher two. We already are, like, a field, not using, we are not using S&P rating. Our risk-weighted, our risk-weighted assets are, are based, are measured based on the, on the, on A+ rating, not on the AA-. There will be a decrease in the, in the, in the rating of Israel, it will not impact our equity. The impact on our equity, it will be, there will be a decrease of four notch.
Right.
It's not using another indication.
It seems to me that compared to at least the other local banks, you actually have less potential risk to your capital ratios, which would, I think, should motivate you to increase your dividend more than the other banks. Am I seeing that incorrectly?
In this respect, you are completely right. As I mentioned, it's a question that is on the table.
Okay. I mean, do I remember correctly that in the past, you got paid out up to 60% between buyback and dividend, or am I confused?
This is correct. That was the rate, in when before COVID.
Is there any reason to assume that, that could not be reached, if you guys would decide to do that, or is that too far-fetched?
It depends on the macroeconomic environment and the pace of growth of our trade portfolio. Our first priority is to increase our trade portfolio, of course, based on our appetite, our risk appetite. But in this rate of growth, it seems to me that the equity will increase, the situation will increase, and we may allow if the macroeconomic environment will be a little bit cooled down to consider increasing our dividend payout.
Understood. Okay, another question. I mean, your margin widened very nicely this quarter. Actually, when compared to the other banks who all reported, you've outdone them quite nicely. I'm just wondering what the reason for that is, and what that could mean for the next couple quarters?
I will say that, first of all, the main parameter that impact the increase in NIM, in Bank Leumi, is the increase in the interest rate, of course, the CPI, which was 1.4% for a quarter, it's relatively high for one quarter. The increase in our aptitude with the deposit. As I mentioned, there was a increase in our core deposits, I mean the individual deposits of 10% year-over-year, 5.4%, in the first half of the year, and 2.2% in the second quarter. It's relatively high for a few, but of course, also impact the increase in the NIM.
Very interesting. Okay. I also saw your non-interest bearing liability went down than the other banks. Is that also anything that you guys are working on, or is that just happened to be the case in this quarter?
I don't understand the question, Micha, can you repeat?
I also noticed that your current and count deposits, or the ones that we call in Israel, non-interest bearing liability, went down in this quarter less than the rest of the banks, and I'm wondering if that's related?
We have to wait. We have to look at it in a few more quarters and take the, you know, understand that I will not take any conclusion based on one quarter. We'll just wait and see.
From the beginning of the year, you guys are down 5% less than your biggest competitor. Quite sizable, but okay.
I, I think that we will have to wait.
Another question. I, I've noticed for a couple of quarters already, that although your staff costs are now lower, absolutely, than one of your smaller competitor, who has a couple of thousand less employees. I, I'm just wondering, is there some major difference between you and, I don't know, some other banks that have higher actual costs, while having significantly lower amount of employees?
You're talking about salary expenses?
Yes, staff costs. I mean, you're absolutely lower than Israel Discount Bank and still quite size bigger than the employment, I think.
I can just refer to Leumi, Micha, and say that in Leumi, in the last six years, we did a lot of. We take a lot of measures in order to handle our costs, the salary expenses as well as the other costs. You can see due to the consistent decreasing in our workforce by hundreds of employees every year in the last few years. I think this is the major reason for our ability to keep our expenses, our salary expenses, at relatively similar level to last year and to the previous year, despite the increase in the salary. And also in other expenses, we took lot of measures in order to be more efficient, mainly, mainly IT procedures.
I think this is the main reason when I talk about Leumi.
Not impressive anyhow. Another question, I saw you recorded ILS 122 million in profits from included companies. I'm just wondering, I mean, Valley National, which is, I think the majority of that, had close to $140 million of profit this quarter, which should account for around 75 of that 122. I'm just wondering, what's the remaining ILS 50 million?
The most of the profit or significant part of the profit is related to Valley National Bank, as you mentioned, in which we applied the equity method. The other profits are related to equities, affiliate company that we hold in a Leumi Partners, which is a fully owned subsidiary, which manage our non-traded investment company. The other profit coming from their investments.
Understood. Okay. One of the competitive competitors, reported a significant deterioration in some real estate loans, which on the surface of them, were loans that were probably also at some of the other banks. I'm just wondering, are you seeing any problem in these large, development loans in Tel Aviv?
I we don't see nothing significant. Of course, in this level of interest rate, there are, let's say, specific companies that have more, more challenge. It's more difficult in this area, in this period, but nothing that nothing that is currently significant for the portfolio.