Bank Leumi le-Israel B.M. (LUMI) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by. Welcome to Leumi's First Quarter 2021 Results Conference Call. [Operator Instructions] As a reminder, this conference is being recorded May 27, 2021. With us online today is Mr. Omer Ziv, First EVP and CFO. 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. A PowerPoint presentation, which is available on the bank's website, www.bankleumi.co.il will be used during this conference call. I would now like to turn over the call to Ms. Adi Molcho Weinstein, VP, Investor Relations. Mr. Molcho Weinstein, please go ahead.

Thank you, operator. Ladies and gentlemen, we thank you for taking the time to join us on this results call for Bank Leumi's financial statements for the first quarter of '21 ended March 31, 2021. Omer Ziv, first EVP and CFO, will be presenting the development strategy and major takeaways from the financial statements. We are joined today by our colleague, Hadar Zamir Head of Accounting; and Dr. Gil Bufman, Chief Economist. The presentation can be found on the IR section of our website and on the Tel Aviv Stock Exchange website. I'd now like to turn the call over to Omer.

Thank you, Adi, and good day, all. I would like to thank you for joining us to review the Leumi results. I will begin from Slide 3. As seen on the graph on top, Israel continues to lead the global vaccination issue. This has resulted in the expedited reopening of the Israeli economy. At this stage, the number of active cases has dropped sharply following the rapid and successful deployment of the vaccine for the population of 8, 16 and over. The number of asset cases is lower than 1,000, down from a peak of 85,000 in early February of this year. Currently, 5.5 million people, nearly 60% of the entire population, has received the full dose of vaccinations. Moreover, the ratio of the vaccinated population, within the eligible age group is much higher, well above 80%. This country-wide application of the vaccine has accelerated the reopening of activities and the economic recovery positively impacting Israel's GDP. Moving on Slide 4. During the first quarter of 2021, there was a lockdown that started in late December 2020 and started to loosen gradually during February 2021. The loosening of restrictions led to a substantial reopening of the economy during March 2021. Among the many economic sectors that had reopened are hotels, sports events, stores and restaurants. The Bank of Israel focus from April caused for a 6% increase in GDP in 2021 based on the rapid containment of COVID-19. The removal of pandemic-related restrictions and the opening of the economy to growth activity led to an increase in the composite state of the economy index in March 2021 compared to March 2020, reflecting the highest year-on-year growth of the past 12 months ending in March 2021. The Bank of Israel emphasized in this announcement of this indicator that the removal of most of the pandemic related prescriptions has led to a rapid recovery of economy activity, especially private consumption activities. The positive developments are also reflected in the strengthening of consumer confidence, which increased in the first half of April and also the highest level since the start of the pandemic. This positive trend has also been reflected in credit card usage. In April 2021, the broad unemployment rate was down to 10.6% from a peak of 37.1% in April 2020. As a reminder, it includes employees temporarily absent from work due to the coronavirus crisis and those dismissed since the beginning of the pandemic in March 2020. According to the Bank of Israel, unemployment is also expected to improve by the end of the year to 7.5% with a further substantial decline to [ head ] to a level of 6% by Q4 2020 -- '22. Now I will turn to the financial results. As you can see on Slide 5, improvement is evident across the board. We have meant to increase the net finance income despite the growth in the Bank of Israel and deferred interest rate. This increase was achieved by a substantial growth in our credit portfolio. In the first quarter of 2021, we increased our credit portfolio by over 4% on the back of a 4.6% increase in 2020, focusing on growth again on middle market, mortgages and corporates. This positive effect was partially offset by the reduction in the interest rates. The increase in the finance income was also affected positively by the CPI, which was a negative 0.5% in Q1 2020 and a positive 0.1% in Q1 2021. Regarding the noninterest income in Q1 2020, we recorded a loss of ILS 660 million due to the losses in the capital market derivatives and exchange rate differential. In Q1 2020, we recorded an income of ILS 441 million, mainly from the capital market. The efficiency ratio has continued to improve, reaching 49.4% in Q1 2021. This improvement was achieved as a result of a substantial increase in income and a moderate increase in costs. Looking at loan loss expenses. In the first quarter of 2020, we recorded significant credit loss expenses of 1.2% due to the outbreak of COVID-19. 88% of these expenses was composed of an increase in the collective provision due to the vast uncertainty in those days. In Q1 2021, we recorded an income of 0.28%, most of which was due to collection. The income derived from the release in the collective provision was relatively low, only 0.06%. I will elaborate on it shortly. The growth in the finance income, coupled with the moderate growth in expenses, alongside income from collections resulted in a great improvement in the ROE, which reached 15% in Q1 2021. Slide 6 presents the figures I just discussed, but for a longer period. As for the NIM, we have been able to stabilize it at a level of 1.9% over the past 3 quarters, indicating that the main effect of the interest rate decline is behind us. As for the cost-to-income ratio, in the last 3 quarters, we succeed in dropping our cost income ratio consistently to a level of around 50%. With reference to the credit loss expenses, there has been a consistent decrease in the credit loss expenses over the last few quarters. I will elaborate on it on the next slide. All of these improvements has led to a consistent growth in our ROE. Moving on to Slide 7. As I mentioned earlier, our credit loss expenses show an income of 0.28% for the first quarter of 2021, mainly due to collections. The income derived from the release in the collective provision was relatively low, only 0.06%. Despite the significant optimism in the market, and although the entire Israel economy has reopened, there is still quite a bit of uncertainty. There are various stimulus plans still in place, an unemployment benefit plan that we started to end in July, an extensive state-backed loan on which they effectively paid the interest during the first year. It is only now that we are starting to get clarity on our customers' ability to repay these debts. This is the main reason that the release in the collective provision was relatively low. Regarding the coverage ratio, which reflects the ratio between our provision and our debt it increased -- it decreased slightly to a level of 1.66%, much higher than the 1.16% level in Q4 2019, pre COVID. Looking at the problematic debt, for the first time since the outbreak of the pandemic, we see in Q1 2021, a decline in the problematic debt of nearly ILS 300 million mainly due to substantial collections. The major impact is reflected in a decline in the [ interest ] of nearly ILS 240 million. As a result, the NPL declined to 1.02%. The decline in special mention debt, which is the lowest risk level of problematic debt is mainly due to reclassification of debt into subordinated debt. As for deferral, we do see the deferred payments are down significantly compared to December for ILS 1.1 billion at the end of December 2020 to only ILS 0.5 billion at the end of March 2021. As seen on Slide 8, fees and commissions growth in Q1 2021 by 2.8% compared to Q1 2020 and reached ILS 868 million. The decrease was mainly driven by exchange rate differentials due to higher activity in Q1 2020 following the outbreak of the pandemic and also due to the decline in account management fees. This decrease was partially offset by financing and securities transaction fees. While these numbers are lower than those of Q1 2020, they are higher than those of Q4 2020 by 5.3%, showing a positive trend. Moving on to Slide 9. The interest in expenses was moderate, only 2%. The major part of the increase in salaries is due to the provision for bonuses on the back of the ROE. The increase in salary expenses was mostly offset by the 12.3% year-to-year reduction in operating expenses. As I pointed out earlier, the tight expenses management, along with the increase in income, brought us to a cost income ratio of 49.4%. Let's move to Slide 10. The credit portfolio increased substantially by 4.1% since the beginning of the year on the back of a 4.6% increase in 2020. This impressive growth was focused again in line with our strategy in middle market, mortgages and corporate, was really playing a significant factor in corporate. Slide 11 shows that the loan-to-deposit ratio remains highly conservative, reaching 67% in Q1 2021. During this period, deposits continue to grow by approximately ILS 13 billion on the back of a 20% growth in 2020. Slide 12 illustrates our solid capital ratio CET1 and TCR and our leverage and liquidity ratio. In all of this, we present ratio much above the minimum requirement. There are also much above the minimum requirement when we take into account the end of the easing in the regulatory requirements due to COVID, which is expected to take place at the end of September 2021. At this stage, the Bank of Israel expect banks not to distribute dividends until the end of September 2021. The figures demonstrate that we have a strong capability to distribute dividend or to adapt another better plan when it is allowed. Leumi has had a very strong quarter with a 15% ROE improvement across all fundamentals, remarkable credit growth, consistent improvement in the efficiency ratio and in the loan loss income on the back of collections. While it is obvious that these results were affected positively by the capital market and by the collection of this, it is important to note that they were achieved based on high equity ratio, a CPI level of close to 0 in the first quarter and in a very low interest level environment. A few days ago, we announced another successful transaction of Leumi partners which manage our non-traded financial investment, where we will record a pretax profit of ILS 90 million in the second quarter of 2021 for an investment that we made only a year ago. This, alongside the increase in the CPI since the end of Q1 of nearly 1%, puts Leumi in a strong position as we look forward to the second quarter. I would like to thank you again for joining us today and to open the line for questions. Operator?

[Operator Instructions] The first question is from Tavy Rosner of Barclays.

This is Chris on for Tavy. I'd like to start with loan growth, considering the acceleration over the past 2 quarters. Can you describe some of the drivers behind that? And do you see that trend as sustainable?

Mr. Ziv, would you like to answer the question, please?

Sorry. Chris, good afternoon. I was on mute, I'm sorry. So with regards to the credit portfolio, first, you are right in the fourth quarter of 2020. We increased our credit portfolio by 3%, and in this quarter, by 4%. So in the last half year, we've been able to increase our credit portfolio by 7%. As I pointed out in the presentation, it was exactly as we wanted it to be. I mean, we focus our growth, again, in media market, mortgages and corporate and mainly real estate. As we did in previous years. The main driver for that is, first, the demand. The demand is much higher than it was in 2020. The recovery in the economy leads to increasing demand almost across the board. In mortgages, the market is very hot. There are -- there is more demand than we can support every day, also in other areas. This is one. But if you look at the -- at our financials, you will find that the pace of growth in Leumi is much higher than the market. So it's not only market trend, there are also internal driver. And the main internal driver, I think, is the substantial change that we made in our process in order to be more efficient in our response to credit demand. We learned from the past that from the total of the loans that we made, only small portion was at the end granted because since we ended the process, the customer already took the loan in -- somewhere else. So we cut our process sharply, make them more efficient. We cut bureaucratic process, not qualified processes, that's first. And secondly and more important, we implemented significantly digital processes. I mean all the mechanism of what's enrolled for -- in different areas, now it's -- the computer offer the interest. A lot of processes that there is no intervention of at all. So it's helped us -- digitalization helped us to be much faster and much more efficient and much more accurate in the price that we quoted to our customers.

Interesting. You've discussed previously the selling of real estate and potentially reducing the footprint branches real estate. Can you give us an idea of the scope of that opportunity? And then more broadly, can you give us some color on how you expect expenses to trend over the near term?

Yes, sure. First, it's already in the numbers. You can see that the year by year, we are able to cut our other expenses. Some of it is coming from the fact that we are more digital we sell -- we're using a smaller office space. And significant change is expected to be around 2023. Because in the first half of 2023, we are planning to sponsor all of our headquarters from Tel Aviv to Lod, near the airport. So you will see gradually over this period, you already see that on the number. So that's first. Secondly, the COVID did also positive -- the COVID had also a positive effect. I mean not only progressing the digital much faster, but also by learning us that we can do a lot of work from remote. We don't need to be in the office in order to do the work. So there are different procedure now and different processes that we are ending in order to do while we can do it more efficiently. Because before -- pre-COVID, this idea was very remote. Now we saw during 2020 that we are capable to do it in a material number. So this is also not in the short term, but in the long-term positive effect on our cost income ratio.

The next question is from Micha Goldberg of Excellence.

First of all, congratulations on a very strong quarter. A couple of questions. You mentioned in your presentation that your loan-to-deposit ratio is now close to 67%. That seems awfully low. Is there anything that you plan or can do in order to try to improve that margin and grow margins?

Micha, good afternoon. Thank you for your question. First, I agree this ratio is quite conservative. But when you take it into account, please keep in mind that there was significant increase in deposits in 2020. And in the first quarter, we still see an increase in deposits. There will be a point in which this deposit will go to other users. So I don't think that the 67% is reflecting the long term, even not the medium term. That's first. Secondly, the other part is our investment portfolio. Most of it is our investment portfolio. I mentioned at the end of the presentation Leumi Partners, which manage our non-investment trading investments, which, every year, we increase its portfolio. But in the numbers of Leumi, its portfolio is still low. It's about ILS 4 billion currently. We plan to increase it more. But this is also -- we called this ratio to decrease a little bit. And thirdly, if we will continue to grow faster than our competitors, it will also contribute to a decline in this vessel. So this is the 3 main factors that I see following -- in the following quarters, which might decrease this -- which might increase as business discretion.

Okay. I assume the same applies to the fact that a very significant portion of your balance sheet is currently in cash and deposits at Central Bank. I mean, it seems very, very high, the numbers over there. Is that something that can also be put to work and higher-yielding investments or it's a similar kind of short-term trend?

So it's both of it. First, as we mentioned, it's in short-term trade because people put money deposits, and we keep cash against it because there will be a point in which not these 5 quarters of increasing deposit, there will be a point in which we will see a decrease. So part of it is against that. And part of it will be used for increasing credit portfolio in the following quarter. It's a combination of this fact.

Okay. You discussed at length why you took relatively small release of your reserves that made last year. And I'm just wondering, how does that compare to the other banks? I mean, definitely, some of the other banks have significantly more been less conservative or I don't know really how to concern it, but they've taken much bigger releases out there. Are they seeing a different trend? Are they being less conservative? Or is there something different in your loan book that keeps you from releasing more of that serve as you made last year? I mean, it just seems very significant. You had narrowly made any release compared to around 23% of I mean is there a significant difference in your loan portfolio?

I think if there is a significant difference between our portfolio and our competitor portfolio is that we are much more conservative in underwriting our loans. So if there is a difference from our perspective, it will be a positive difference not a negative difference, because when I think about Leumi, I don't speak about our competitors, but I know that we've been very conservative in our underwriting. If you look backwards, you can see that in the last 2 years, we didn't increase -- much more before COVID, we didn't increase our credit portfolio in unsecured retail, we didn't increase -- we even dcreased decrease our trade portfolio and small businesses. So the chance that we have something worse than our customer in a quite seems to me, unreasonable. Now when you look about the economic factor, anybody can have his own judgment. But I do think that there is still lots of uncertainty and I prefer to be more -- we prefer to be more conservative and not to release at this stage, a significant amount of the provision that we built. Because of the reasons that I mentioned in the presentation, there are still stimulus plans that is still in place. And no one can -- I think it's too early to forecast, to be sure that when they ended, everything will be good. And also, the COVID seems to be behind us, it can change in a minute. So we prefer to take 1 or 2 quarters to see exactly what's going on and not to release the provision and then to increase them again, it's something not our perspective about the credit provision. And thirdly, also take into account the fact that we increased our trade portfolio by 4% in 1 quarter. It's also affect the credit rate assets and also affect the fact that the release is relatively low. This is another factor.

I understand clearly. Okay. And then another question, if I may, is regarding your common equity and your regulatory capital. You said it's very high, around 11.7%. Currently, you are not allowed to pay out dividend and I'm just wondering, is there a target number once the Bank of Israel allows you to return to payout dividend, where would you want to be? What's the minimum that you want to be from a common equity Tier 1 ratio?

Well, this discussion hasn't been discussed yet in the Board of Directors. But what I can say is that when we adopted our beta plan pre-COVID, so there was a tranche of 10.9%, in which we decided -- we said that if we got to 10.5% common equity ratio, we will stop the plan. So this was the view of the Board of Directors pre-COVID. I assume that it will be similar.

I understand. Okay. And another question regarding CECL. I mean I understand it's too early to provide any real information. I'm just wondering on an ongoing basis, once CECL has been implemented in January '22. What will be the impact be on how you define NPLs or in nonaccrual, will it inflate your NPLs and will it allow you to have less NCOs and less provisions? Or what's the projected impact on the ongoing -- the onetime impact?

Well, fortunately, as you pointed out, it's too early to give something -- to give any view about it. What I can say is that the CECL, the mechanism of CECL is that instead of having a provision, when it happens, we tried to be -- the CECL mechanism try to smooth it and try to implement the provision when the economy is in a good situation. That's what this is trying to do. When you have a good result, increase your provision. When you have a bad result, you don't have to increase them because you increased them before. You have not -- you have to look on the first day of the debt and try to forecast what will happen in all over the period of the debt, not only when it's become problematic. So it's -- in nature, it's bringing provision to a much closer point than it was before. And as to your earlier point, it was before. But the first -- the one-time effect will be recorded to equity. So we obviously after that, it's too early to assume. But if we make it in the right way, so if we already for the onetime effect in the equity in the implementation CECL, it seems to me that the chosen -- changed the day-to-day P&L significantly. But it's too early to say truly at this stage.

The next question is from Borja Ramirez of Citi.

I have 2 quick questions. The firstly is regarding the potential conversion of the projects. So we have seen a strong growth in deposits. I would like to ask if you are aiming to convert these deposits into assets under management, but potentially as an opportunity for fee income in the future? And my second question is, if you could kindly provide some details on the evolution of the digital banking, now that the economy has reopened, would be interesting to see the answer.

Thanks, Borja, good afternoon. Regarding your first question, so as you mentioned, there is -- we saw a substantial growth in deposit by about 20%, and we see also a growth in this quarter. There will be a point in which I believe that those deposits will be taken against other usages. Maybe to the capital market, maybe to real estate, I don't know. It's very hard to forecast how it will affect our P&L because on the one hand, when we -- cheap sort of deposits and the bank work on the ALM. So it impacts our P&L positively because of the management. On the other side, if the usage will be to take the money invested in the capital market, we will by -- through commission. So at this stage, it's very hard to forecast what will be the effect of this change on our P&L. I don't think it will be significant. I don't think it will be significant. Because as you can see in our financial, most of those deposits we put in the Bank of Israel deposits, in which we earn only 10 basis points on those deposits. So even if they will be taken to the capital market or to the other channels, in which we will not earn commission, I don't think that the impact would be significant. That's for the first question. Regarding the second question. So you're completely right in the trend of -- in Leumi, I assume also in other banks, to be more and more digital. The banks change and serve their market led in the last few years. And I assume that this range will continue in the following year. In all areas, we became more and more digital, not only in the interface. But also in very, very other material process that are throughout the bank I mean underwriting process, I mean models that calculate the accurate price that we shall get and in many other areas. So I'm sure that if it will be 5 years ago -- 5 years ahead, sorry, the picture would be completely different than it is today. And if you look back our 5-year backward, and you will look at no impact of 5-year backward. And you will compare to bank Leumi today, completely different bank and show sure that 5-year ahead, it will be completely different bank.

There are no further questions at this time. This concludes Leumi's First Quarter 2021 Results Conference Call. Thank you for your participation. You may go ahead and disconnect.