Earnings Call: Q4 2022

Mar 9, 2023

Summary

FY2022 profit reached ILS 6.5bn as ROE rose to 14.8% and positive jaws strengthened. Credit quality, capital and liquidity remained robust; management targets double-digit ROE and costs growing below inflation amid macro uncertainty.

Ladies and gentlemen, thank you for standing by. Welcome to the Bank Hapoalim fourth quarter and full year 2022 results conference call. For your convenience, this call will be accompanied by a PowerPoint presentation. May we suggest, if you have not yet done so, that you access the presentation on the bank's website, www.bankhapoalim.com, by clicking on the financial information on the homepage, and then click on the annual report presentation. All participants are at present in listen-only mode. Following management's formal presentation, instructions will be given for the question-and-answer session. For operator assistance during the conference, please press star zero. As a reminder, this conference is being recorded March 9, 2023. With us on the line today are Mr. Dov Kotler, CEO of Bank Hapoalim, Mr. Ron Ged, Chief Financial Officer, Mr. Victor Bahar, Chief Economist, and Ms. Tamar Koblenz, Head of Investor Relations. 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. Mr. Kotler, would you like to begin? Thank you, operator. Thank you, everyone on the call for joining us today. I am happy to begin today's call for summarizing our results for 2022. Despite the various global and local challenges, 2022 was a highly successful year for Bank Hapoalim. It was a year that demonstrate again our circumstances may surprise us and how crucial it is to be agile and focused on our customer needs. We ended the year with net profit of ILS 6.5 billion, 14.8% return on equity compared to 11.8% last year, while the efficiency rate decreased to 44.5%. A key driver of sustained future growth and maintaining strong positive jaws discipline. The year's result prove we succeed in this goal. Our total income grew by 24.5% in 2022, while adjusted costs grew only by 2.8%, creating substantial positive jaws. We are proud of these numbers, and over the next few minutes, I would like to share our story behind the figures with you. In the early days of 2022, as shift began in the global economy, the bank chose to lead a course of responsible growth. This approach enabled us to maintain a high-quality credit portfolio and focus on spreads and risk, which we believe will serve us well in the upcoming years. Our balance sheet proved to be competitive advantage this year. Our position as Israel's largest retail bank significantly boosted our revenues, as reflected soaring financing income and higher spreads, as well as strong growth in fees. Meanwhile, we continue to manage the bank's resources, resulting in improvement in the efficiency and productivity metrics. We are applying an agile work based on tribes, already with hundreds of our employees. This transformation positions Bank Hapoalim on par with leading organizations worldwide and has already started to make its mark in more efficient technological development processes and shorter time to market of products for our customers. Another important focus for us is credit quality. Bank Hapoalim has been working on optimization processes in this area for several years. This year again, we were able to maintain low rates of problematic debt and appropriate allowance and record recoveries of individual debt for which allowances were recorded in the past. At the same time, we demonstrated strong capital management capabilities even during a period of frequent changes in the market. We strengthened our capital base, which grew by about 9% solely on organic sources while optimizing our risk-adjusted assets, which also contributed to the capital ratio. Thereby, we distributed more than ILS 1.5 billion in dividends for our shareholders in respect of our profits in 2022. The bank has the largest retail deposit base in the industry, which contributed to our ability to maintain high liquidity with good quality. These accomplishments are the direct result of the excellent dedicated work of our employees. Our organization DNA and culture showed that the strength of working together as one is greater than the sum of its parts. To reflect that, our employees and managers will receive a decent and substantial bonus this year. Looking ahead, there are several significant achievements that we would like to maintain going forward. During 2022, we have designed a strategic plan for the coming years based on few key elements: strengthening of the leadership of Bank Hapoalim in core banking, resource optimization and enhanced productivity, differentiating influential innovation. The principle of the plan supports continuous responsibility growth and a leap forward in customer service. I will say more about it later on. Our competitive advantage will continue to serve us well in 2023 and beyond. The bank has quality core banking and well-defined strategy with the potential for further progress over the coming years. Now, let's turn to Ram, our beloved CFO, for a review of the financial results. Thank you, Dov, and good afternoon. I am happy to take you through our quarterly and annual results, starting with slide 8. Let me begin by stating again that Bank Hapoalim is reporting powerful results with 15.3% return on equity in the fourth quarter and 14.8% for the full year. In every parameter in our report, we show excellent performance. Our credit growth was responsible, having already been adjusted to the changing economic environment at the beginning of the year when the level of uncertainty began to rise. Looking back now on our decision then, one can realize how conservative and responsible it was. This growth, boosted by the rates hike and higher inflation, was translated into 24.5% total income growth. We continued to strongly deliver on costs and were able to maintain the increase below the rate inflation, bringing the cost-income ratio to less than 40% in the fourth quarter and 44.5% for the full year. Our loan book continued to demonstrate its strength with almost zero provision for the full year, only 0.87% NPL ratio, and a gradual increase in the collective provision to reflect further macro uncertainties. Lastly, on capital and liquidity, we maintained our robust position with CET1 ratio of 11.25%. We declared a 30% payout ratio in respect of the fourth quarter and a total of ILS 1.5 billion in dividends in respect of 2022. LCR was 122%, well above the regulatory minimum. All this led to consistent delivery of excellent bottom line in the fourth quarter and full year 2022, as you can see in slide 9. In the next few slides, we will go through main factors and other effects driving the results. As we can see in slide 10, our core revenues were boosted by activity growth and spreads. On the left side, we see the continued growth in income from regular financing activity and the jump in the financial margin, both affected by credit growth, the CPI, and the rising rates. On the right-hand side, we show another important element demonstrating our strong performance. Fees grew by more than 10%, where the Isracard agreement contributed ILS 145 million, as the agreement entered into force on April. Excluding the effect of the Isracard agreement, fees were up 6%, reflecting broad-based growth in fees such as credit cards, FX exchange, current accounts, and more. Income from regular financing activity and fees reflect, in our view, the core banking performance. On slide 11, we take a quarterly look at our revenues. Total income grew by 10.1% this quarter, mainly driven by income from regular financing activity. This line item is also presented without the effect of the CPI, which contributed ILS 1.3 billion this year. Even when excluding CPI, income from regular financing activity grew materially by 7.9% and by 16% year-on-year. Let's move now to slide 12. The important message here is the one we highlighted in previous quarters. We believe that we have taken a conservative and responsible approach to credit growth based on forward-looking capabilities and data-driven. This approach led us to align the growth pace to the changing environment while maintaining the diversification of our book. We therefore grew our credit by 10%, a slower pace than in 2021, but yet significant. The fourth quarter further illustrates our balanced approach with growth of 1.9%. As you can see in slide 13, growth was broad-based. The corporate and commercial group grew by more than 12% and by almost 10%, respectively. Mortgages grew 11.4%, and small business credit grew by 3.2% year-on-year. In consumer credit, the demand is affected by the tailwind of COVID-19 rebound, but at the same time by the increased rates. This environment led us to continue balancing between growth and risk, bringing the balance of consumer credit to stay somewhat flattish. Moving to slide 14, where we show another differentiator of Bank Hapoalim, our deposit base, of which 58% are retail deposits, the largest retail deposit base in the sector. In terms of liquidity, we are well above both LCR and NSFR regulatory targets. Moving to slide 15, costs increased slightly to support the growth across all business lines, but due to the substantial growth in revenues, the cost-to-income ratio dropped to 44.5% this year and 39.1% in the fourth quarter. The next slide gives a good perspective on where our focus is, increasing efficiency and productivity. Productivity ratios show a consistent improvement, and in our view, are sustainable drivers for future profitability. Income per employee as well as credit per employee both sharply increased, while headcount and number of branches gradually decreased. On slide 17, we touch upon a very important driver of cost efficiency going forward. As you probably know, in 2021, we decided to centralize all of our head office units in one building. We entered into an agreement for the construction of Poalim Center. The future building will not only provide us with benefits in the field of employee management and the employee experience, but will also bring operational efficiencies and save maintenance costs. In addition, the relocation will allow us to sell the existing building in the center of Tel Aviv, the main of which is the headquarters site in Rothschild and Yehuda Halevi. I can share with you that only recently, we submitted a betterment plan to the Tel Aviv municipality for higher construction rights. Continuing our discussion in slide 18. We ended 2022 with almost zero credit losses as a result of ILS 579 million collective provision that was offset by over ILS 600 million of income from individual credit losses. The quarterly breakdown of credit losses shows the trend of gradually building the collective provision, quarter by quarter. On the backdrop of potential macroeconomic effects and further uncertainties in the global economy, we gradually increased the collective provision this quarter, following the increase in the second and third quarters. It is important to understand that the gradual increase in the collective provision was recorded despite the fact that asset quality continued to improve this year. In slide 19, you can see that during 2022, problematic debt, and specifically the NPL balance and ratio, declined. The NPL coverage ratio strengthened, and the balance of the allowance, as well as the ratio of the allowance to credit risk-weighted assets, stayed relatively stable. Let's move to slide 20. On capital, we demonstrated tight management and were focused on risk-weighted asset optimization, allowing growth, dividend distribution, and maintaining a sufficient buffer. We ended the year with a CET1 ratio of 11.25%, and the board of directors declared a dividend of ILS 525 million in respect of the fourth quarter, constituting 30% of our quarterly net profit. Total dividend distribution in respect of 2022 was ILS 1.5 billion. Our continuous effort this year to work towards optimization in credit risk-weighted assets were also fruitful, as we can see on the bottom left of the slide. Our ability to mitigate risk-weighted assets is particularly impressive, taking into account that in 2022, we also implemented regulations that had an impact on our risk-weighted assets. Lastly, on Bit in slide 21. Bit, our unique asset, already serves 3 million customers, the majority of which are not originally Bank Hapoalim customers. Bit is developing and already implementing measures we have taken to reduce its cost, while continuing to develop new products and value offerings. We believe that Bit's existing and future capabilities are a strong foundation for future advanced banking value proposition. Before I hand over back to Dov, I would like to comment on the macro environment in slides 22 to 24. 2022 was a positive year for the local economy, with GDP actually closing the gap with the pre-COVID growth trend. The 6.5% annual growth was still partially affected by the reopening of the economy in 2021 and does not represent a long-term potential or the current growth pace. We expect softer growth this year as a result of global circumstances and tighter monetary conditions. However, we don't project a recession, but low growth of 2.5%. With respect to the planned changes in the judicial system, markets do not like any kind of uncertainties, and this alone can cause adverse effect on the economy. Israel has a legacy of strong governance and fiscal discipline, and we hope that any change will be made with broad consent. Like in most advanced countries, inflation was far above expectations and reached 5.3% in 2022. It takes time for monetary policy to reduce inflation, particularly as the labor market is tight, and some 140,000 job vacancies still exist. The Bank of Israel is determined to combat inflation, and markets now expect that rates will reach 5.25% this year. Inflation expectations have increased recently, but even with respect to these estimates, real ex-post interest rates are high compared to the past years. Although I mentioned some uncertainties, we should always take into account that the Israeli economy has a sound and stable external and domestic position, a surplus in the balance of payments, current accounts, large reserves of foreign currency, and low public debt. The housing market, just like in most countries nowadays, the market is cooling down with a drop in new home sales. The stock of unsold homes has increased, but the level itself isn't considered high. The countrywide average in the CBS survey does not reflect price decline yet, but we aren't ruling out the possibility that prices might start to fall in the near future. We don't project a prolonged period of decline, as stocks of homes are low. In any case, we believe the bank is well-positioned in its exposure to this sector. Before I hand back to Dov, I will only summarize that the fourth quarter and 2022 as a whole demonstrates our ability to look forward and act responsibly, to leverage our competitive advantage into impressive profitability while maintaining high quality of the book and creating value for our shareholders. I now hand back to Dov. Thank you, Ram. I would like to take a few minutes and elaborate on the strategic plan we adopted. I will refer to slides 27 up to 30. The bank's results in 2022 clearly demonstrate our strong business momentum. In every parameter you may choose, we show a clear positive trajectory. We understand that in order for us to maintain the positive trend, lead further a responsible growth, improve customer service, and enhancing our leadership in the various segments, we need to be focused on where we put our resources and efforts going forward. Therefore, we worked with a global firm, McKinsey, to formulate a strategic planning for the next several years. In slide 30, we describe our strategy. The first two elements deal with core banking. The first is aimed to corporate banking customers, where Bank Hapoalim will strengthen its leadership in the area of infrastructure, syndication, real estate, and capital market activity. To support this ambition, we will implement advanced data-based pricing tools and develop advanced digital means to improve service and customer portfolio management. On retail banking, we aim to improve our customer service substantially by transitioning to a digital-first service concept and allowing full digital availability and seamless experience across service channels. In addition, we will focus on the sub-segments of private banking and small business, where we will introduce new value propositions. Later in the period of the plan, we will change the operational model in retail banking by refocusing the branches on advisory and sales mainly. The second element in our strategy deals with optimization and resource of enhancement of productivity. We will implement global best practice process to improve asset and liability management efficiency and achieve further optimization and mitigation of RWA. In the area of technological resources, Bank Hapoalim will continue to invest in core IT infrastructure, modernization, transformation to shorten time to market. We will also allocate almost all of the technological development budget to implement strategic initiative of Bank Hapoalim. On productivity of our workforce, we will shift to an agile working method end-to-end management of banking products. In simple terms, it means that we are reorganizing most of our workforce into tribes. These are teams of engineers and business product managers who work together as a group to speed up product development. I assume that we will be the only bank in Israel implying such a change. We established a CTO. Chief Transformation Officer under my supervision, headed by Chief Transformation Officer, Rivki Goggi, who will drive the desired change across the entire organization. I believe that our competitive advantage in core banking, supported by a well-defined strategy, will ensure that we stay on the right trajectory to create substantial value for the stakeholders. With that, I would like to open the call for your questions. Gentlemen, ladies. Thank you. Ladies and gentlemen, at this time, we will begin the question-and-answer session. If you have a question, please press star 1. If you wish to cancel your request, please press star 2. If you are using speaker equipment, kindly lift the handset before pressing the numbers. Your questions will be pulled in the order they are received. Please stand by while we poll for your questions. The first question is from Tavy Rosner of Barclays. Please go ahead. Hi, good afternoon. Thank you for the presentation. I wanted to follow up on the strategic plan that you talked about in details. You mentioned the different measures and the growth drivers and the opportunities for streamlining. I was wondering, what would it take for you guys to share, to quantify potential targets down the road? I'm thinking of ROE targets or cost-income targets. I'm assuming that the numbers must be very clear on your end, so why not share some of them with the streets would be great. Can I answer? Yes, please. Thank you very much, everyone, for joining our call. Now it's live and not recorded. Funny, what? Just mentioning, Tavi, going back to your question. Certainly, we have internal KPI for each segment and project under the strategic planning, starting the implementation at the beginning of this year. However, we did not share it in our report, but I would like to remind everyone that in our Hebrew call at the beginning of the day, I emphasized the fact that Bank Hapoalim changed its position from internal equity of one digit, six, seven, eight, nine, to double digit, which in the last couple of years is in the range of 12% to 14%. We published the annual report with 14.8% and the last quarter 15.3%. I also want to emphasize that my goal and the strategic planning goal is to maintain the double digit in the next coming year, despite the uncertainty that we are facing. This is in general a direction trajectory, but not specific numbers yet. Tavi, any follow-up on this? The next question is from Micha Goldberg of Psagot. Please go ahead. Hi, good afternoon. Congratulations on a strong quarter and excellent year. A couple of questions, if I may. First of all, I noticed that your number of employees have come down this year by around 150. I am just wondering, would this imply cost savings? I mean, the average cost for wages you record is around half a million ILS. Is there any chance we are going to see any cost savings on the back of the reduction in employees in 2022? Micha, with your permission, could you repeat the question a little bit slower? For some reason, the machine here was not clear enough. Could you repeat it, please? I am sorry. Of course. I was just wondering if due to the decline in employees during 2022, which I saw on your presentations around 150, should this imply that in 2023, Poalim will be saving some costs? I see. I hear you. I would say that I do not expect a substantial reduction in workforce going forward, at least in 2023, because we have increased our balance sheet by 25%, 26% in the last two years. On the other hand, do not forget that there is an automatic pilot with the unions, which, if we are not releasing employees, is influencing our cost, wages cost. Going back to your question, I do not expect a reduction in 2023 at this stage. No, I understand that. I am just wondering that you reduced already employees in 2022 based on your numbers. Is that going to allow cost to go down? Yeah, I understand the question. Direct result is yes, but the pilot is stronger than 150. The bottom line, to conclude, combining the numbers is not a decrease, it is an increase. I got it. Micha, if I can add to what was mentioned, and you described correctly. The number is going 170 employees this year, and it enabled us to offset some of the effects of, let us say, the autopilot that Dov mentioned, and increase in IT personnel. That is very important. Looking forward, we will be focusing in increased productivity of employees, due to the basic elements in our strategic plan that are supposed to support the continued responsible growth. Right. Okay. Now, I also noticed that you are still losing money in your Swiss subsidiary. Is there any chance that that is going to be finished and closed off in 2023, and will that, if it goes down, save money? This is the plan. But in God's speed, it's in the hands of the Swiss guys. This is the plan to do it, but again, it's in the regulatory hands. We have the assistance of certain CPFM that ended the situation. It takes too long, but our intention is to finalize it during 2023. Okay, thank you. And one more question on cost. I mean, I noticed that you have reduced your branch network by around 50 branches since 2019. That's like around, I don't know, a quarter of your entire branches. Yet, when you look at the expenses for maintenance and buildings, the number actually increased by like 8%. Is that because there's a lag in the cost savings? Is there something else going on? Why are the costs for buildings and maintenance not going down? Micha, the cost difference is mainly as a result of IT depreciation. Yeah. We are combining under the same number a few items. It's technology depreciation that influence and contradict your assumption. I understand. It's not from real estate. Like Dov mentioned, it's a one-time effect of depreciation of software and capitalized costs, IT capitalized costs. Okay, I understand. Another question. A little while back, Dov, you were quoted saying that there is money flowing out of Israel. Again, that's what after the balance sheet closed, I think, in the end of the year. So it's not in the actual financials. Are we continuing to see that? If that's true, is that any concern, and what kind of concern should that be for the bank? You know, you're talking about the elephant in the room, but first of all, if you quote me from newspaper, do not trust it. Never, Micha, never. It's not an accurate definition. My accurate quotation was that I see the first sign, but it does not influence our liquidity or stability of any banks that I know of. But the second part was not quote ever, and I assume it will be never. So this is going back to quotation and newspapermen. But going back to the elephant in the room, I would answer as follow. First of all, Bank of Israel is monitoring the situation, and based on what he announced, he don't see a direct or substantial influence, A. B, we are reviewing mainly our LCR indicator. If you see in the report, the average of the fourth quarter last year was 122. I can reveal to you that the numbers of year-end was higher because we raised certain bonds, and the numbers that we see by year-end remain intact as of today or as of last week. The numbers are the same. This is the answer. Okay, very clear. One more question. I saw margins have increased nicely over the last couple quarters, including the last quarter. I mean, it seems like margins are now, credit margins are now pretty close to levels in 2011 and 2012. I am just wondering, looking forward to 2023, do you see more upside for more widening of the margins, or are we at the end of that process? My inner feeling is that we are closer to the end. Maybe there will be some slight changes, but such an increase from 1.7, 1.8 to 2.35 is very substantial. As you said, it was the peak few weeks ago. I believe this were also the margins at the beginning of 2000, 20 years ago, when interest rates were higher. We are back to that scope or margin that we used to see at that time. Going back to your question, I do not see increase, and I would be satisfied if this number will remain intact. Okay, thank you very much. My last question is to do with the regulatory environment. I mean, we saw some issues that are mentioned by some of the people in the Knesset regarding regulations on margins and interest rates and mortgages. Are there any substantial or significant specific worries that we should be worried about, and can they be quantified? This time, with your permission, I will quote Mr. Smotrich, the treasury minister, that says that he is against any populist private bills to the Knesset, and he is going to fight against it. So let's see that he's keeping his word. Okay. Thank you very much. The next question is from Eitan Etzioni of Etzioni Portfolio Management. Please go ahead. Yes. Two follow-up questions. First, with regard to the money going out of Israel, what you told the prime minister, can you give us some figures what that number is? My second question, please, looking at the provision for doubtful debts, I see a sequential increase on quarters, quarter by quarter within 2022. Should we expect that to continue, or is the fourth quarter pretty much the peak of it? Eitan, thank you very much for your question. The first question, I already answered Micha. It is insignificant, and there is no point to waste time about it because the numbers are insignificant, excuse me, and there are parameters to check it. Going back to your second question, you should realize that you should inspect our reports via the allowance quarter by quarter, but the first two quarters, we have a huge recovery of about half a billion or whatever is the number, ILS 600 million. So if you are eliminating that, you can see that allowance in the third and fourth quarter went up from about ILS 200 million, ILS 196 million, this was the group allowance, to ILS 350 million or ILS 334 million, something like this. In my view, change from ILS 200 million to ILS 300 and something million is not substantial. It is something that we are used to. Let us not forget that in the past, Bank Hapoalim has allowance for bad debt on the average of, let us say, 10 or 20 years of 0.2% or 0.3%. And if you will calculate the numbers, it is in the range of ILS 1 billion to ILS 1.2 billion a year. So we are in that range. But again, comparison to the beginning of the year, we enjoy a huge recovery. Right. So we should look at the second half as being representative, or given the less good macro environment currently, should we- More of the answer- expect some deterioration from that? Eitan, I would like to make it clear. When we are using the collective provision, it is based on uncertainty. It does not reflect specific change because you have three layers of provision. One is the C-side, the other one is the collective, and the last one is individual. So we are using the collective based on the uncertainty. We don't have numbers to support. Otherwise, it would have shown in the system. So it is more being more precautious, building a cushion going forward than we have specific indicators of bad debt. Okay. Thank you, and best of luck. Thank you. Thank you. If there are any additional questions, please press star one. If you wish to cancel your request, please press star two. Please stand by while we poll for more questions. The next question is a follow-up question from Micha Goldberg of Psagot. Please go ahead. Hi, thank you. I'm sorry, I didn't want to release you too early. Another question on cost. I think Rami said that some of the cost savings in the past should offset, or Dov, I think you said about the automatic pilot going forward, and the same on branches going towards IT depreciation. I'm just wondering, when one looks forward, should we be assuming a flattish kind of OPEX, or we still should be seeing increased cost level? I hope it will be flattish. We are going to start the negotiation with the unions shortly after we finish this interesting project, which is called the annual report. We'll have time to start the negotiation with the unions. I have a certain level of comfort because the public agreement was pretty reasonable. Our Chief Economist defined it as a reasonable agreement. I have a certain level of comfort, but we'll see it in the near future when we'll start and finalize the negotiation. Thank you. I noticed that relocation moved to 2026. Wasn't it originally supposed to be 2024? If so, why has that changed? If it was originally, Micha, 2026, the project is for 3 or 4 years going forward, of course, and I don't think it was changed. I can check the report, our annual report, when we signed the project, which is 2 years ago, but as far as I remember, it's a project for 2026. Just to be accurate, we'll check what we have announced in our annual report a year or 2 ago. I don't want to mislead you. Micha, if to add to what Dov described about cost, you have to take into account, obviously, there is some vectors that are global vectors, but here in Israel as well, the inflation that it is a negative vector on cost, and the agreement with the union that may affect the cost, and we are expanding our activity. But overall, we are aiming to relatively be flattish on cost, and if there will be any increase, then it will be lower. We are aiming it to be lower than inflation. And what is more important to support increasing productivity and create or maintain the positive jaws mechanism that we were able to create in the last couple of years. Great. One more question and I will let you guys go. On density, on the optimization of RWA, I mean, it is clear you guys did a great job there with credit growing significantly fast and the RWA. Now the density is 62% or 63%. Do you see more space to optimize that, or are we there pretty much towards the end of the process? Part of the strategic planning that is being implemented is additional improvement of the RWA. So answering your question, there is positive expectation to additional improvement going forward in 2023. Thank you very much. There are no further questions at this time. This concludes the Bank Hapoalim fourth quarter and full year results conference call. Thank you for your participation. You may go ahead and disconnect.