Commonwealth Bank of Australia (CBA) Earnings Call Transcript & Summary

Hello, and welcome to the Commonwealth Bank of Australia's results briefing for the full year ended 30 June 2022. I'm Melanie Kirk, and I'm Head of Investor Relations. Thank you for joining us for this briefing. We will be having a presentation from our CEO, Matt Comyn, with an overview of the results and an update on the business performance. Our CFO, Alan Docherty, will provide details of the results, and Matt will then provide an outlook and summary. The presentations will be followed by the opportunity for analysts and investors to ask questions. I'll now hand over to Matt. Thank you, Matt.

Thanks very much, Mel, and good morning, everyone. Throughout the year, we've been focused on supporting our customers through natural disasters and the continuing disruption of COVID. We're very conscious that a number of our personal and business customers are feeling very concerned about rising inflation and rising interest rates, and we remain committed to supporting our customers during this period of economic uncertainty. Turning now to our performance. This year, we have delivered a strong financial result. High levels of customer engagement and a consistent, disciplined execution has delivered volume growth in all core lines of business. We've also continued to strengthen our balance sheet. Overall, we've returned $13 billion to our shareholders over the past 12 months through buybacks and dividends. Now looking at our results in more detail. Our statutory net profit was $9.7 billion. Cash net profit was $9.6 billion, up 11%, driven by volume growth, lower collective provisions and lower remediation costs. Operating performance was $13.2 billion, up 3%. This operating performance, combined with our strong capital position, has allowed the Board to declare a dividend of $2.10 for the half, bringing the total to $3.85 for the year, fully franked, up $0.35 on the prior year. Focusing on the results in more detail. Our operating income, as you can see, was up 1% for the year, excluding the $516 million cash gain on the partial sale of our Bank of Hangzhou shareholding. This was supported by strong volume growth, offset by continued margin pressure. Operating expenses reduced 1.5% excluding one-offs, with lower remediation costs, partly offset by higher staff costs. Pre-provision profit was up 3.1%, excluding one-offs, and the combination of 3% growth in operating performance and lower loan impairment expenses resulted in our cash profit up 11% on the same period last year. We've seen strong growth in deposits, home lending and business lending. This year, we opened more than 1.1 million new retail transaction accounts with new-to-bank migrant transaction accounts returning to 90% of pre-COVID levels. Household deposit growth was up 13% in the year. Home Lending was up 7.4% in the past 12 months, going just below system and reflecting our disciplined approach to volume margin trade-offs. Consumer lending continues to gain momentum, approximately 230,000 of our customers now use StepPay, and personal lending increased 25% over the period. In business banking, we've added 33,000 new merchant facilities over the year. We also now have over 1 million business transaction accounts with more than 200,000 of those accounts opened in FY '22. The new accounts opened this year alone brought in an additional $6 billion in deposit balances. Overall, business deposit balance growth has been very strong, up $24 billion at 1.4x system. This more than funded business lending growth of $15 billion at 1.3x system over the year, with margins stable in the half and up over the past 12 months. In the last 3 years, business banking has shifted from having a funding gap of $38 billion to being a net funding contributor, with deposit balances now exceeding lending balances by $3 billion. We remain focused on serving customers well, growing our transactional and deposits franchise and subsequently lending to those customers. Our retail Net Promoter Score has increased by 7.4 points over the last 2 years. Now with more than 1 in 3 Australians considering the Commonwealth Bank their main financial institution, which is more than double our nearest peer. Households have trusted us with an additional $41 billion in deposits over the past year, which represents 27.5% market share. Through these relationships, we've been able to deliver strong home lending growth, processing $170 billion in new fundings with 60% through proprietary channels in our second half. We're now originating more than 1 in 3 proprietary loans in Australia. We're executing the same strategy in our business bank. In business, we've seen NPS or Net Promoter Score increased 11 points in the last 2 years and almost 1 in 4 businesses consider the Commonwealth Bank their main financial institution. This customer engagement has delivered deposit growth of 15% over the year. Business lending growth was up 13.6%, driven by our priority sectors like health care, up 29%; agriculture, up 17%; and business services, up 17%, with commercial property growing slower than the overall portfolio, up 12%. More than 90% of our business lending customers have a transaction banking account with us. Given the uncertainty regarding the interest rate environment and outlook for the housing market, I thought I might spend a few moments sharing some perspectives. The operational performance of our home buying business remains strong. We decisioned 85% of our home loan applications within a day and 62% of proprietary applications are auto decisioned in less than 10 minutes. We hold a transaction account for 98% of our home lending customers and use proprietary decisioning tools and behavioral scoring to understand and manage the risk. Compositionally, we've seen a marked shift from owner-occupier and first home buyers towards refinances and investors, some of which has been driven by recent increases in the cash rate. We've also seen intense competition and an escalation in price-based offers. We've taken a disciplined approach to managing volume, margin and risk and are conscious of the underlying funding market and heightened risk environment. We remain extremely focused on proactively engaging with our customers as they approach fixed rate maturities. We're doing this by bringing together our data capabilities and customer engagement engine across both physical and digital channels. We see particularly high engagement through our mobile banking app, which averages more than 8 million daily log-ins and through messaging, which now accounts for 35% of all direct customer inquiries. To navigate the current economic and competitive environment, we will continue our focus on strong, disciplined operational execution. Our balance sheet remains strong, particularly when compared with the settings we had going into periods of uncertainty like COVID. The balance sheet is 74% deposit funded, weighted average maturity of our long-term funding at 6.3 years and liquid assets are $191 billion. Our common equity Tier 1 capital ratio is 11.5%. Continued organic capital generation in our retail business, combined with the focus on returns and capital discipline in our institutional bank, allows us to continue to organically fund growth in our business banking franchise. We're well positioned for APRA's changes to the Prudential capital framework that are effective from the 1st of January 2023. The credit environment was benign in FY '22, but is clearly an area we are watching very closely. We've seen troublesome and impaired assets decrease to $6.4 billion from $7.5 billion over the year. Home loan arrears are near record lows at 49 basis points, with 78% of our customers ahead on their repayments by an average of 36 months. We hold total provisions of $5.3 billion, which is $1.8 billion above our central economic scenario. Switching now to our strategy, which is to build tomorrow's bank today for our customers. I'll spend a few moments sharing our progress on each of our 4 strategic priorities. Throughout the year, we've continued to support our customers and communities not just in the good times, but also through some of the more challenging times. Our customer engagement engine has again been critical in helping us reach our customers. We've offered natural disaster assistance to more than 2.7 million of our customers. We've contacted 5 million customers about government benefits and rebates. And we've helped initiate more than 2.1 million claims in Benefits finder since its inception in 2019 with 26,000 initiated for small business in the last financial year. We're also committed to helping Australia transition to a more modern, resilient and sustainable economy. Earlier today, we released our first climate report, outlining how we will play a leadership role in Australia's transition to a net 0 emissions economy by 2050, including setting interim and long-term targets and publishing glide paths to 1.5 degrees for our key sectors. We're also helping our customers navigate the transition and have provided $31 billion of sustainable funding since June 2020. We've reduced our Scope 1 and Scope 2 emissions by 90% since 2014, and we've increased finance power generation by 16%. Business banking, as I said, is an important part of our strategy. We see businesses as a critical enabler of economic growth in jobs, and we have a role to play in supporting Australian businesses. We're continuing to differentiate our transaction and merchant banking propositions and digitizing our business banking experience for our customers. In October last year, we launched Smart, our new point-of-sale terminal, and we've now deployed more than 15,000 terminals with 30% of those to new merchant customers. Our app marketplace on the terminal allows merchants to personalize their payments experience in sectors such as health and hospitality. Building on the acquisition of Whitecoat, in March, we launched CommBank Smart Health which enables real-time health care payments and claiming and has been a differentiator for us in market. We now have more than 600 providers processing claims on our platform. Leveraging the acquisition of Doshii, we've been creating a new payment offering for hospitality venues. Through these and other initiatives, our market share of business deposits has increased 84 basis points in the past year and is now 239 basis points above our nearest peer, having increased 246 basis points since September 2019. In May this year, we gave an update on how we're creating a more differentiated proposition for both our retail and business customers through new products and partnerships. We announced that we'll progressively bring CommSec functionality into the CommBank app. More than 670,000 of our customers have used this feature in the app, giving them the ability to move seamlessly between their everyday banking and investing. We launched Kit, a money app and digital information tool for kids that's aimed at helping them learn about money, how to save, how to budget, how to manage their spending. Kit is currently in pilot, and we see it being opened up to the broader public this year. We also launched Unloan, a fully digital direct-to-customer proposition with a loyalty discount which increases over time. We're currently at a run rate of $100 million of fundings per month on Unloan and anticipate this will double over the remainder of the year. StepPay, our interest-free buy now, pay later card, continues to grow and perform well. We have more than 230,000 customers since launching about 12 months ago. We received 2 StepPay applications for every 1 credit card application. And this quarter, we expect StepPay will become the second most used pay in-for service by CBA customers, while our arrears performance is substantially lower than the rest of the market, mainly as a function of our robust serviceability and external credit checks. Building global best digital experiences in technology remains key to our strategy, and we continue to add features, improve the customer experience and drive engagement in our digital app. We've been extending a number of retail features to business customers, including cash flow view, Benefits finder and the alerting capability from our customer engagement engine. Feedback from customers has been positive, and we've continued to demonstrate strong customer engagement in digital with leading digital NPS scores for both consumers and businesses. Our mobile banking app still leads the market and continues to enable us to move beyond customer service to redefine and extend the relationship we have with our customers. We continue to make good progress on simpler, better foundations. This year, we completed our remedial action plan to improve governance, culture and accountability. And while the program of work is complete, we know there is still more work for us to do, and we are focused on continuously improving and strengthening these foundations. Employee engagement has remained very high with pride in the Commonwealth Bank sitting at 90%. We also remain focused on maintaining capital discipline to optimize growth, reinvestment and long-term sustainable returns. In summary, our strategy aims to protect and extend our core competitive advantages. This starts with building strong relationships with our customers. We are very fortunate to have a trusted brand with a leading share of customers who consider us as their main financial institution. We have the leading proprietary distribution channels, both physical and digital, which underpin a market-leading deposit gathering franchise. This provides a liability-led funding advantage, which is leveraged to the rising rate environment and more stable in times of crisis. Deep relationships help us better understand and serve our customers' needs. Using transactional data representing approximately 40% of payment flows across the country, we've built a number of proprietary assets over time to better manage and assess risk. We continue to invest in our customer engagement engine to orchestrate the best overall experiences for our customers. It's now making 50 million decisions in real time each day. These assets allow us to deliver superior customer experiences at scale, which is increasingly important in a digital era. Our branch network, the largest in Australia, continues to be an incredibly important part of our business. But over the course of a year, a few million customers will visit us in -- at one of our branches. That compares to our digital experience, where we see, on average, nearly 9 million log-ins per day. And so the digital distribution advantage as a complement to physical drives that increasing returns to scale. When combined with a better overall digital proposition, this creates even more points of difference that customers can experience every day. And so through our strategy, we remain focused on building the best overall customer experience in a digital era and making sure we deliver a superior and distinctive proposition, one that is more convenient, more integrated and brings more value for our customers. And with that, I'll hand to Alan to walk through the results in more detail.

Thank you, Matt, and good morning to everyone who has dialed in. As usual, I'll provide some more detail on the financial results. I'll also spend some time on the topic of capital management, which has rightly been an area of particular focus from analysts and investors this year. In summary, this is a good set of financial results, and we're well positioned to support our customers and the broader economy as financial conditions continue to evolve. The drivers of our performance can be viewed across 3 dimensions. Firstly, the impact of changes in our macroeconomic context. Secondly, the results of the actions that we are taking as a management team. And thirdly, how our franchise is evolving. Firstly, on the macro context. The Australian economy has been recovering strongly. And in response to inflationary pressures, rates have been lifted well above pre-COVID levels and are forecast to increase further in the months ahead. Australia is in a relatively good economic position. However, we are carefully monitoring how the combination of higher rates and other forms of policy tightening are impacting upon the finances of Australian consumers and businesses. Turning to the results of management actions. We are seeing improving trends in customer advocacy, strong operational execution and good pricing disciplines. This has delivered another year of growth in pre-provision profits and built strong momentum in our operating leverage to normalizing interest rates. Finally, turning to our franchise. It has been further strengthened through another year of double-digit growth in customer deposits as well as continued strategic growth in our business bank. We have invested behind our strategy and built further capital-generating capacity into our business mix, which has underpinned another year of reducing share count and increasing dividends. Now on to the detail. Statutory profits from continuing operations were $9.7 billion for the year. Noncash items within continuing operations were relatively small with continuing cash profits totaling $9.6 billion. And as Matt has mentioned, that cash profit is up 11% on last year. There were a few one-off items this year that had a broadly neutral effect on the bottom line. The disposal of a 10% stake in Bank of Hangzhou generated a pretax gain of $516 million which was offset by accelerated software amortization. Excluding those one-off items, operating income grew 1%. Operating expenses reduced 1.5%. Pre-provision profits increased 3%, and loan impairments provided a benefit during the period. Looking firstly at operating income. Both net interest income and other banking income increased over the year due to strong volume-driven growth in home loans, business lending and deposit revenues in both Australia and New Zealand. Insurance income fell this period due to the impact of a number of storm- and flood-related weather events over the past 12 months. Our revenue growth was moderated by a decline in net interest margins. Over the most recent 6-month period, margins decreased by 5 basis points. This decline in margin was in line with the expectations that we set out in our February results briefing with the flow-through of fixed rate home loan margin compression and continued competitive pressure on variable rate margins. Offsetting that, we have seen higher deposit margins in the last 6 months that was mostly a function of higher swap rates. As we look ahead, our medium-term outlook is unchanged and a rising rate environment, investors should expect higher margins. Given CBA's balance sheet mix and longer-term replicating portfolio, we will have more leverage to rising rates, and our management team have remained disciplined and rational in our approach to pricing. Turning now to operating expenses. They were down 1.5% on the prior year. Remediation costs decreased $324 million. Excluding that, underlying costs were up only 1.4% due to volume-related growth in our frontline and operational support teams. Growth in other costs were offset by our ongoing business simplification initiatives with cumulative annualized savings achieved over the past 4 years, now totaling over $1 billion. Looking ahead to the next financial year. We are likely to see continued inflationary pressure on wages and other costs, and we'll see the full year impact of higher staff numbers. Software amortization expenses are likely to be broadly flat, and we will continue to focus on productivity through simplification and digitization initiatives. Turning to our balance sheet settings and looking firstly at credit risk. Loan impairments represented a benefit to P&L in the current year, and it was another benign period for consumer arrears. Over the last 6 months, impaired loan balances reduced significantly and corporate troublesome exposures remain stable. Looking at the key drivers of our loan loss provisioning. There were 2 opposing factors that resulted in a moderate overall reduction in provision levels over the last 6 months. We updated our assessment of the multiple economic scenarios and forward-looking adjustments that could affect our lending portfolios. In particular, we adopted a new downside scenario that reflects the risk of higher inflation, interest rates and unemployment. This stagflationary scenario models an unemployment peak of just under 10%, and it is less severe than our previous deflationary scenario. This resulted in a 9% reduction in loan loss provisions. Our $5.3 billion of provisions represents 90% coverage of the potential $6.1 billion loss modeled under our downside stagflation scenario. Our balance sheet settings remain very strong with our deposit funding ratio increasing again, now at 74%. Long-term funding maturities also remain conservative. Given we are forecasting much tighter financial conditions over the next couple of years, we decided to leave short-term wholesale funding, a historically low proportion of total funding of 8%. This conservatism costs money. We could easily increase our net interest margins by shortening our funding mix. But we feel keeping extra capacity in this part of the liability stack is the prudent course, particularly as the term funding facility begins to mature in the next financial year. On capital, we've delivered a common equity Tier 1 ratio of 11.5%. This is 30 basis points lower over the half after absorbing a significant capital headwind from interest rate risk in the banking book. Excluding that item, organic capital generation was strong over the last 6 months, and we also completed the Hangzhou Bank divestment. Now the capital impact to Australian banks arising from interest rate risk in the banking book has understandably attracted a lot of attention from market participants, particularly offshore equity and debt investors who are unfamiliar with this capital requirement. It's a complicated topic, but it's also an important one. So I hope this explanation is helpful. Starting at the bottom of this chart and working up. The biggest driver of higher IRRBB capital has been the valuation difference that arises between investing our equity over a 3-year period and the 1-year term that is deemed the capital-free level within the prudential regulations. The easiest way to think about that is that every month, we invest about 3% of our equity in a rolling 3-year term deposit. So as interest rates move higher, you have to wait 3 years for your investments to fully benefit from higher rates. And in a period of sharply rising rates, that valuation difference drove up IRRBB risk-weighted assets by $22 billion. Assuming no change in swap rates, this valuation difference would unwind by approximately $5 billion per year over the next 3 years. Higher rates slow this unwind and lower rates accelerated and have provided the rate sensitivity at the bottom of the slide. Now moving up the chart, you also have to hold capital buffers on an assumption that rates keep going up. The recent volatility in rates has increased the level of the swap rate risk buffers by $10 billion. An obvious question to ask is, why don't we simply run an investment term of 1 year and avoid this capital drag. The reason we don't is that shorter investment terms expose you to higher levels of capital deterioration during stress events. This is because when stress events occur and economic conditions worsen, rates tend to fall sharply. And that's the moment when you want to have the protection of a 3-year term deposit. A longer investment term provides stability of both earnings and capital during a downturn. Now moving up the chart for credit spread risk. This relates to the liquid assets that we hold in the form of state and federal government bonds. We revalue our bonds every day for changes in credit spreads. We need to hold this buffer against the risk that our bonds lose value from future increases in credit spreads. As you can see, credit spread buffers have increased slightly. As we look ahead, even if credit spreads remain stable, it is likely that this buffer will continue to increase by around $3 billion per annum. This is a function of expected growth in the volume of bonds that we own. We could reduce this buffer if we reduced our liquid assets closer to regulatory minimums. However, we prefer to hold excess levels of liquidity to ensure stability in times of stress. The other main drivers of IRRBB are expected to remain broadly neutral. So in summary, we can achieve lower levels of IRRBB capital through taking bigger [ wrong way ] risks with our balance sheet settings, either by shortening our investment term or by holding lower levels of liquid assets. While changing these settings, we deliver a short-term capital benefit on IRRBB. We strongly believe that a long-term conservative approach to balance sheet risk management is the correct posture. Turning to the new Prudential Capital Framework, which is effective from 1 January 2023. We remain well placed to accommodate the changes and expect an increase in the presentation of our capital ratios as a result of lower risk-weighted assets under the new standards. The new capital models remain subject to final APRA approval and industry calibration, which we expect to receive before the end of the calendar year. We will continue to hold strong levels of capital above APRA's new minimum requirements in order to remain resilient to potential future stress events. We, therefore, expect to operate with a post-dividend CET1 ratio of greater than 11%, except in circumstances where we experience unexpected capital volatility. The final dividend of $2.10 brings our total dividend for the year to $3.85. This represents a 10% increase on the prior year dividend and a normalized full year payout ratio in the middle of our range. Given our very strong capital position, the Board have also decided to again neutralize the DRP in respect of the final dividend. I'll now hand back to Matt, who will take you through the outlook and a closing summary. Thank you .

Thanks very much, Alan. The Australian economy is experiencing a period of rapid change. There are a number of metrics that are extremely strong. Unemployment is near 50-year lows. Underemployment is very low, and the terms of trade are strong as is nonmining investment. However, inflation is high and continues to rise. And as a result, we've seen a rapid increase in the cash rate leading to heightened uncertainty. We're conscious that a number of our personal and business customers are feeling anxious about the economic outlook and what it means for them. Consumer confidence has fallen below levels seen in the GFC. We're starting to see a reduction in spend across our debit and credit cards on a seasonally adjusted basis, with spend falling more acutely for interest rate-sensitive cohorts such as home buyers. The cash rate has already increased to 185 basis points. But given the lag in transmission, the effects of this have not yet fully been felt. By December, the impact of already announced rate rises on monthly cash flows for mortgage holders will be more than 4x higher than what customers experienced in July. This is given because 40% of our mortgages are fixed, and the majority will mature in the next 2 years. The impact of rising rates will continue to grow to a level approximately equivalent to 1.5% of GDP. In addition, there are further impacts from rising energy and food prices, which will flow through over the course of the year. We continue to see a wide range of economic forecast, which are reflective of the volatility and a high degree of uncertainty. The market forecast terminal cash rate has fallen by almost 1/3 since mid-June. Our economists view is that the tightening cycle will peak with the cash rate of 260 basis points by the end of the year. However, if aggregate demand across the economy does not fall, inflation will increase further, and rates will likely need to rise higher. A cash rate above 300 basis points or 3% is not out of the question, which would take us back to levels that we have not seen since 2013. Regardless, the effects of this will be unevenly felt and we will be ready to support customers feeling the strain as this cycle flows through. It is a challenging situation for policymakers, but we remain optimistic that a path can be found to navigate through. And we remain of the firm view that the medium-term outlook remains positive. So in summary, we've delivered a strong result with customer engagement translating through to volume growth. This has been underpinned by consistent multiyear disciplined execution. Our balance sheet and capital positions remain strong. And looking ahead, we will continue to invest in the bank's core retail business and institutional banking franchises to differentiate our proposition and extend our digital leadership. We have a solid pipeline of new products and services, delivering tangible benefits. And while we're facing a period of economic uncertainty, we are optimistic about the medium- to long-term opportunities for Australia that lie ahead. The strength of our balance sheet means we remain well positioned to continue supporting our customers and the broader Australian economy while delivering consistent and sustainable returns to our shareholders. I'll now hand back to Mel for your questions.

Great. Thank you, Matt. For this briefing, we will be taking questions from analysts and investors. [Operator Instructions] The first question comes from John Storey.

It's John Storey from UBS. Just thinking about the drivers of the P&L and market expectations. You've got $1.8 billion of provisions above your central scenario. And as you mentioned in the presentation, your probability weightings in economic scenarios have become more conservative, yet you had a $506 million collective provision release. And your downside scenario implies about $700 million increase in provisions. I'm just thinking if you could help us trying to understand some of the sensitivities of the credit charge and what would actually ultimately end up driving this? That's the first part. And then just secondly, be pretty interested to understand how your clients have been responding to rate increases post the FY '22 results?

Yes, sure. Thanks, John. Maybe why don't I start. It's fair to say this is an area that Alan and I have probably spent the most time in preparation for the result is going through all of the different scenarios and then modeling them accordingly. And as you'll see, they're set out in later disclosures around some of the key economic drivers and indicators. I mean, clearly, what's a bit different in this cycle versus others is just the full employment. Clearly, low levels of unemployment has a material reduction in overall projected impairment costs. There is sensitivity to where we [ think ] the cash rate and it's one of the key differences across the scenarios. And clearly, we've modeled differences in terms of the changes of asset prices. I think we start from a position of very benign credit conditions throughout the full year. You see that now TIA is reducing our arrears being at near-record lows as we sit here today. I guess, having the benefit of what we've seen in July, there's no change to that position. But clearly, one of the things that we're watching really closely is how that contraction flows through into the broader economy and some of the early signs and indicators of that. I think from our perspective, both at the business non-retail exposure, sector by sector and then on the consumer side, we've been through, and it's a very hard thing for sell side to try and model facility by facility, looking at individual customer positions, their equity position, income, what the LVR is but also with things like lenders mortgage insurance is there. And then secondly, I guess, what's the reaction in terms of the month, and then I'll let Alan maybe add some more detail on the first part of your question. We're definitely, as I think I covered in some of the presentation, we're definitely seeing a big increase in concern across the customer base, obviously, that we're directly interacting with. We've only seen a slight uptick in terms of customers that are coming through in terms of financial assistance requests, but definitely heightened levels of uncertainty and anxiety around the rate outlook. And I think what's critical from our perspective, as I mentioned, is there's a lag between a cash rate decision that is made, financial institution making an announcement about what change will occur typically a couple of weeks, then that has to flow through into repayment amounts, which can take weeks beyond that. Then we're not allowing -- 40% of our home loans are on fixed rates. Obviously, in New Zealand, it's closer to 85%, but it's higher relative to Australia. And so even for the interest rate decisions that have already been announced, we see a quadrupling of the impact on households between now and December. And then clearly, there's a cumulative effect going into 2023 and a lot of sensitivity about where that terminal cash rate is through that time.

Yes. And John, just on the provisioning change. I mean we thought it was an appropriate time to revisit, in particular, that downside scenario. And as you'll recall, the previous downside scenario related to a deflationary scenario related to COVID-related uncertainties. They were very conservative assumptions that were underpinning that. We had provisions for particular sectors of the economy that were impacted under that scenario. So the aviation industry was 1 example. Those that were receiving JobKeeper was another. It was an appropriate time to revisit and refresh and update that scenario. And obviously, as we -- the world is very different today in terms of the macroeconomic outlook. I think it's appropriate that we adopted the more stagflationary scenario of higher rates, higher unemployment and falling house prices. And we look at the individual customer sectors, the parts of the non-retail portfolio that are impacted in that environment. And as Matt says, a customer level on the retail portfolio will look at individual impacts at facility level in order to assess the losses in that regard and in the non-retail portfolio. Obviously, the impacts fall differently in terms of those sectors that are exposed to belt tightening by the consumer, so a reduction in discretionary spend as well as supply chain constraints and labor input costs increasing across a number of other nonretail sectors. So we feel that was the appropriate scenario change. And the net effect of those 2 scenario changes was that modest overall reduction in the collective provision. But as you say, we've got strong coverage relative to industry, relative to the central scenario and relative to this new downside scenario.

The next question comes from Andrew Triggs.

First question, just on the performance of the NIM in the fourth quarter. So if you go back to the third quarter, it looks like it implies that the NIM ex liquidity was down around 4 basis points in the quarter. And in the materials released today, ex the reverse repo impact, the NIM also looked to be down 4 bps in the half. So I take that to be a fairly stable underlying NIM performance in Q4. But that looks a little bit softer than peer results so far this reporting season. Could you talk to perhaps some of the offsets you saw to this small rate ever you had during Q4? And particularly, was there any call out on short-term funding costs? Or is it just purely mortgage competition?

Yes. Thanks, Andrew. Q4 was pretty much in line with our expectations. Yes, as you say, and I think the work that you've done, a stable margin in Q4 relative to Q3. One of the factors that was in the Q4 margin was obviously that big elevation in the swap rates. And you've seen, again, another leg up in terms of the dynamic that we've seen all through the last 12 months, which is that swap rates were rising on average, much faster than the repricing of the fixed rate home loan portfolio. And so you've seen compression. That compression in the fixed rate home loan portfolio, in particular, was part of the reason that the Q4 margin performance was maybe -- was more stable than maybe the positive change that you may, otherwise, have expected. There wasn't any changes in terms of our short-term funding mix. I mean as I mentioned in the presentation, we took a very deliberate approach to retaining historically very low levels of short-term funding in the liability stack. We think that having some capacity there makes a lot of sense as we roll forward over the next 12, 18 months and see the term funding facility mature. And so, yes, we took a conservative approach on net interest margin as regards to the short-term mix. But yes, we were pleased with the Q4 margins in the context of that -- those broader movements in rates.

And look, a question -- my second question on costs, and there's a few parts to this one. Could you just talk a little bit more about the headwinds that you called out for FY '23 around wage inflation building FTEs, et cetera? And just maybe a more specific one on FTEs. They're up 1,700 in the second half. Could you talk about the extent of in-sourcing that happened in that number? And just broadly, I guess the quite strong FTE growth in the midst of a relatively subdued revenue environment ex the tailwind from rate hikes. And as part of that, productivity looks to be another $50 million incremental savings in the second half. Is that strong enough just given the narrative around the technology advantage and the increase in digital nature of banking?

Yes. Thanks, Andrew. So yes, on the cost outlook, we've provided a number of the moving parts as we see them. Obviously, there's that broader inflationary impact that we are not immune to, whether it's in our wage costs or other costs. As you say, there is an in-sourcing impact that you see is basically a swing factor between staff costs and technology expenses as we classify those costs. So we've had cumulatively something like 2,000 FTE in-sourced into the organization from third-party technology providers historically. So that results in a sort of $80 million, $90 million swing in this year's result between IT expenses and staff costs, so lower IT costs, higher staff costs and as part of that overall increase that you're seeing in the full-time equivalent employees. And what we've called out, there is obviously a delta between the spot number of FTE and the average number for the year. So that's the reference to the flow-through impact of higher staff numbers into next financial year, it's not a forecast around future spot FTE. It's just a flow-through impact of where our exit FTE was relative to the average.

Perhaps anything I'd add, Andrew, is just as we thought about and we've talked about previously, there's a number of elements I think Alan very well captured, particularly the sort of technology and in-sourcing. Some of the FTE growth in recent times has been to incorporate a larger investment envelope, which clearly sort of stabilized. We've substantially expanded our capabilities in our operational area, specifically in financial crime over the course of the financial year. Obviously, we've continued to invest in retail home lenders, additional business bankers. But I think there's a number of areas there that we've stabilized. We've been prepared to invest in that. And I think certainly in some aspects of our business, we would anticipate sort of a lower volume environment. But for a combination of both investment as well as I think we always wanted to have a tighter handle around our technology ourselves. And therefore, we've made the choice to deliberately in-source some of those capabilities that were previously been provided by external parties.

Are you happy with that productivity trajectory? It's been around $50 million a half for the last 3 halves and it was higher before that. I mean is that enough in the context of happening in the digitization across the industry?

Yes. Look, I mean, happy wouldn't be the first description that would jump to mind for me, and I'm sure, Alan. I'd say our expense performance has been adequate. We've been very conscious of wanting to invest in the business and drive a longer-term outlook. And I think that sort of served us well over the last few years. It's a finely balanced trade-off for us any period you'll see when we set out the distribution and the mix of our investment dollars, one of the things that was going to assist that number going forward is while we've expanded our investment envelope, we have been able to reduce the spend proportionately that's going into risk and regulation. There's more going into productivity, growth and innovation. And so across a number of different dimensions on a regular basis, we revisit investment prioritization. And for us, there's a lot of foundational things. There's also near-term customer experience, and then there's just investments, as you said, digitization to deliver productivity. But I think we all see the necessity of making sure that productivity number is at least adequate to be able to enable us to invest through the cycle at a greater rate and set up a stronger overall position.

Thank you, Andrew. The next question comes from Jon Mott.

A question on the home loans business. In the second half, you saw new fundings, which fell from -- fell to $76 billion from $94 billion in the first half, that a 20% fall in the flow of new mortgages being written. Totally understand there's some seasonality in that around Christmas, in particular. But also it indicates that you pulled back on price to some extent, given the environment to stabilize in NIM and have led to a bit of market share loss going through in that second half. Now that your NIM is rebuilding with higher rates, are you more comfortable to compete a bit more aggressively on price to retain and then grow that mortgage share, especially as you've got about 21% of your entire book, which are fixed rates rolling off over the next 18 months by December [ 2023 ]. So you've got a huge amount of your book rolling off. Are you going to be prepared to compete more aggressively on price given the benefit you're getting from higher rates?

Yes. Thanks, Jon. It's a great question. Look, maybe a couple of things in the context of that period. As you said, we saw -- from our perspective, some deliberate choices we made around fixed rate pricing. We expected to lose some momentum in that period. We did -- we've seen a compositional shift, particularly away from sort of first home buyer, owner occupier, which, as you know, is more of our strength versus a greater mix of investor as well as refinance. I mean if you think over the course of the 2 calendar years in '20 and '21, we originated all net balance growth about $62 billion at margins, I'd say, well above long-term averages. We've sort of been conscious of -- as you know, the most recent origination cohorts are also the higher risk given the cycle that we're in. Those aspects we've seen elevated levels of price intensity. Fair to say in some aspects of that at a level that surprised us during the period, a significant escalation in both pricing and cash back incentives. Recently, we've seen 1 institution offering up to $6,000 per facility. So we've been very conscious of that and been prepared to, as we have in the past, make decisions around trade-offs on volume, pricing and risk. As you -- as we go forward, maybe staying away from sort of our pricing response, particularly, but you're absolutely right. We'll be very focused on fixed rate maturities. We set those out on a quarterly basis. I think the peak month is in June. It's ballpark $11 billion. We're tracking closely the refinance rate on those customers for Angus. It's a very significant operational focus as well. And so we're going to balance all of those different factors. We have been able to, on a favorable basis of competition, grow strongly above system over the last few years. We didn't think that was present in the last 6 months. But we're clear operationally on what we want to do, and we certainly intend to execute with the same level of discipline that we've applied previously.

Just a follow-up question on the fixed rate maturities. I think you give it so to Slide 89. So huge numbers coming up over the next 18 months as you highlighted. There's also a lot of customers who have split loans, part -- fixed part variable often 50-50 so they can use advantage of the -- of our fit accounts and other benefits you can get with the variable rate loan. Do you know the balance of variable rate loans, which were associated with the fixed loan via split facility that will also effectively mature over that 18-month frame?

I don't know off the top of my head. I'd be happy to pick that up in the one-on-one later. But you're right. We've seen activity, and it's become more frequent for customers to split parts of their loans at a times also have different fixed rate maturities even within that.

By customer numbers, it would be something like 1 in 3 loans would be split.

So that would be all of the fixed rate loans? Or for example, you've got 40% of your book which is fixed and 33% split. So the vast majority of the fixed rates are split?

Yes, correct. Yes. Yes, but half the number of split loans would be fixed only by proportion.

Okay. There's a large proportion of split loans coming up maturity as well.

Yes.

It'd be great to follow with that number.

Thank you, Jon. The next question comes from Richard Wiles.

Alan, I've got a couple of questions for you. The first is on margins and the second is on mortgages. So I'll start with margins, please. On Slide 25, in the first half result presentation, you said that you would get a 4 basis point margin benefit from every 25 basis point rise in the cash rate on your low-rate deposits. You also said you'd get a benefit from the equity hedge because of rising 3-year swap rates. So when we think about that sensitivity and then consider that the average cash rate is probably going to be 150 to 200 basis points higher in the December half, can you give us any reason why we shouldn't conclude that the interest rate environment alone provides something like a 25 to 30 basis point margin tailwind over the next 6 months?

Well, you'll recall when we provided that guidance at February, Richard, that the sensitivity we provided on low rate deposits was sensitivity over time. So it was a combination of what's the immediate benefit that you receive on unhedged deposits together with the benefit that you receive over the course of the tractor on the replicating portfolio. So that's a mixture of 2, and that affects the timing of that 4 basis point sensitivity. So we've provided a lot of detail, as you know, around the exit tractor rate, what the swap rates are. And so you can model out based on where you think swap rates are going to head, what happens on the replication portfolio. And on the equity track, similarly, we've provided those sensitivities. And so yes, given the elevated level of swap rate, we would expect there's a tailwind associated with our deposit and equity hedges and obviously, the benefit from the unhedged deposits. But yes, the sensitivities and outlook that we set out in February, we remain comfortable with that guidance. Then we sort of reconfirm that outlook and guidance here.

Okay. And then on mortgages, I mean, maybe this is a question for Matt. You've got Slide 10 that referenced to the rapidly changing market context. In particular, you flagged high refinance activity, intense competition and the upcoming fixed rate maturities, all of those factors seem like they're going to encourage more aggressive pricing. Certainly, brokers will be looking for the best deal for their customers. Customers will be very sensitive to higher rates. Should we interpret this slide to mean that you think the mortgage margin headwinds will actually get even worse in the next year as they've been in the 2022 fiscal year?

Well, Richard, I mean, I guess, perhaps I'll let you draw the conclusion. Certainly, what we would have seen over the last 6 months and reflective of the answer I gave to John. I mean you would anticipate in rising rate environment, absolutely. People are understandably very price sensitive. I'd say some of the offers that are in market are well below cost of capital. So it probably depends a little bit on things that are outside of our control. It doesn't tend to remain the case for a persistent period of time, but we'll have to see. As I said, it was more heightened. Certainly, as we thought about the period we were going into, we expect that the market will continue to remain very competitive. But it was pushing perhaps beyond that over that last 6 months period. And I think we'll see what happens, and we'll make our sort of decisions accordingly. And we certainly, as I said, operationally, are very focused in a few key areas, but we intend to continue to apply discipline. But certainly, relative to where we were in February, we've seen an escalation based on what we would have anticipated given the funding environment and also, I think, the part of the cycle being late stage from a risk perspective.

Thank you, Richard. The next question comes from Andrew Lyons.

Andrew Lyons from Goldman Sachs. Just firstly, another question on NIM and the reiteration of your NIM guidance today that you provided at the first half '22 result. That was clearly somewhat premised around assumptions in relation to the extent to which deposits that were very low cost are moving to become rate sensitive as rates increase. We're looking at pricing data to date, particularly shorter duration term deposits, it does appear that the price increase in these products has been much slower or the increase higher has been much slower than the rise in the cash rate. I'm just wondering has that outperformed your expectations to date, but is something that you'd expect to have to give up over time? Or is it broadly as expected? I've then got a second question.

The thing we're seeing very intense competition for deposits in a higher rate environment. We've got a number of very attractive term deposit offers and changes to savings account rates that we've announced over recent months and weeks. So no, I wouldn't change the outlook in terms of the amount of switching or the assumed level of switching that we'd see to higher-yielding savings and term deposit products across the portfolio. So that underpinned the low rate deposit assumption that we set out in February and remain of the same view.

Yes. And look, I think this -- there's so many moving parts and Alan touched on both tractor rate to cost replicating portfolio. And our equity balances is also just compositional shifts in terms of mix between products, pricing delays. So that's why I think we try to emphasize the 4 basis points over time. And clearly, it's uneven. And so -- but based on all of the assumptions that we made when we were sort of preparing that slide and having revisited, we still think it looks on track.

Appreciate it. And then just a second question around the strong growth in new business banking where business lines were up 14% in the year. Can you maybe just talk about the extent to which you may have seen this slowdown just in recent weeks as rates started to move higher and how you're thinking about the sustainability of growth in this segment in '23, both from the perspective of the system, but more importantly, how you think your franchise can perform in that system environment?

Yes. No, look, I mean what we've seen, we've certainly seen a more pronounced impact on demand at the institutional end of the market. Clearly, there it's really more dependent on the overall market and M&A and a number of other sort of activity drivers. So we've certainly seen a softening of demand there, a slight slowing as we covered in housing, and we certainly expect that to moderate over the course of the financial year. I think not unlike what we've seen in sort of past rate hiking cycles, you would tend to see demand stay quite strong in business banking, certainly earlier on in the rate hiking cycle. And we see that at the moment as the sort of dichotomy between rapidly falling consumer confidence, but actually business conditions and confidence remaining quite strong, which I guess on a number of levels, does make sense. Look, one of the big focus areas for us for several years, and I think it's really pronounced in this result, and Mark and the team have done a great job of really trying to build out the liability deposit franchise and customer numbers record levels of customers consider us their main financial institution, a record levels of transaction accounts, deposit balance growth. And as I mentioned, net funding or liability position versus sort of $38 billion of assets 3 years ago. And so that's been really critical, and that means we've got the same sort of advantages that we have in retail around sort of 90% of customers without trading account where we're extending credit. That volume growth's strong in the period over the last sort of month, not a deterioration that we can see from that. But we would expect to see that moderate over time. Clearly, we will be very conscious. Alan sort of touched on in terms of our modeling, obviously, closely on the consumer book. Sectors are under a lot of pressure, like construction. We expect sort of discretionary retail, some aspects of sort of office, commercials. We've got a bias in some areas to tightening where pricing and modeling our forward curves. We're obviously looking at a number of different buffers. And so again, we'd probably start the year thinking we'd like to grow there or thereabouts on system. We're not committed to be growing above that. But if we see opportunities as we have where we think it is good, we're confident on risk identification and pricing, then we're certainly prepared to continue to grow. But we're probably most pleased about the overall growth in customer relationships and deposit balances, which obviously gives us additional leverage to a rising rate cycle.