Investec Group (INL) Earnings Call Transcript & Summary

Good day, ladies and gentlemen, and welcome to the Investec Trading Update. [Operator Instructions] Please also note that this call is being recorded. I would now like to hand the conference over to Fani Titi. Please go ahead.

Good morning. This is Fani Titi, Group Chief Executive of Investec. I'm joined this morning by Nishlan Samujh, Group Financial Director. A number of executives are also on the call and will be happy to answer any questions on the area of the business. We would all like to welcome you and thank you for taking the time to join us this morning on this conference call to discuss our pre-close trading update for the 6 months ending 30 September 2020. The comparability of the first half of 2021 to the prior period has been impacted by the economic effects of COVID-19. This will be our second set of results that have been impacted by COVID-19 and this time for the full period under review. The business proved resilient in a period characterized by stringent lockdowns in the first quarter followed by the gradual reopening of the economies. Severe GDP contractions and volatile financial markets negatively impacted revenues. Investec's capital and liquidity ratios remained robust and are expected to be stable. Provisions for expected credit losses are expected to remain elevated in the period under review. Net asset value per share is expected to increase. Costs were well-managed. The business is well positioned to support its clients through this challenging environment. We will continue to ensure the safety and well-being of our people and the integrity of our balance sheet. I would now like to give you a brief overview of the key points of our announcement before opening the call for questions. The operating environment is offset in both the U.K. and South Africa, have been characterized by reduced economic activity and increased market volatility as a result of the ongoing COVID-19 pandemic and associated lockdowns. The first half of the year has seen slower -- sorry, has seen lower average interest rate, reduced client activity and a 22% depreciation of the average rand against the pound sterling compared to the prior period. The Wealth & Investment business has reported net inflows and growth in funds under management. The Specialist Banking businesses have seen good client acquisitions in both geographies. The corporate lending business has experienced reduced lending activity. The Private Banking franchise remained resilient, reporting loan book growth since year-end. Operating income remained under pressure given the operating environment and unfavorable market conditions for investment income and hedging of structured products. Operating costs were reduced year-on-year as a result of the group's increased focus on controllable expenditure. The prior period contained a full 6-month contribution from Ninety One, previously Investec Asset Management, which was demerged in March this year. Additionally, as I have indicated, the prior period was not impacted by the effect of COVID-19, which emerged in the last quarter of the 2020 financial year. The group's continuing operations, adjusted operating profit is expected to be 50% to 60% behind the prior period where the adjusted operating profit was reported at GBP 276.3 million, and adjusted earnings pressure is expected to be 53% to 63% behind first half 2020, where the adjusted EPS was reported at 22.4p. As far as the balance sheet is concerned, capital and leverage ratios remained sound ahead of internal targets and regulatory requirements. The group's cash and near cash at 31 August 2020 was GBP 12.9 billion, representing about 40% of customer deposits. The group expects elevated levels of credit losses, as indicated in the full year results announced in May, mainly driven by forward-looking macroeconomic scenarios. Following increased impairments, including a COVID-19 overlay raised in the last quarter of the 2020 financial year, the annualized credit loss ratio is expected to be between 47 basis points and 54 basis points. The comparable numbers for first half 2020 was 23 basis points; and for the full year -- full financial year 2020, 52 basis points. Strategically, we have continued to simplify and focus the business as we had announced at the CMD presentation in February 2018 and as a number of the presentations that followed thereafter, results presentation that is. In the U.K., we have further enhanced efficiencies by more closely integrating business-enabling functions. This means we are proposing a reduction in the U.K. Bank's London-based headcount of approximately 210 roles or 13% of headcount. The strategy was set prior to COVID-19, but the crisis has also increased the focus on containing and reducing costs. We expect this to have a neutral financial impact in the current financial year with associated savings in the U.K. Bank taking effect in the next financial year. The changes to the U.K. Bank are in line with our overarching goal of achieving sustainable growth for the long term. I would like to conclude by saying that despite the volatile and uncertain times, our franchises remain resilient, and we are confident about the long-term potential of the group. I wish to thank my colleagues for their dedication to our clients and to the communities around us. I will now hand back to the moderator and take any questions you might have. Thank you.

[Operator Instructions] Our first question is from Christopher Steward of Ninety One.

Just a quick one from my side. Apologies if this is included in the text, I haven't actually managed to get through it just yet. Can you give us a quick sense of what is driving the difference between adjusted and basic EPS over the period? Because it looks like it's somewhere around 2p a share.

Yes, Chris. I think it's the standard differences. So it's really -- earnings per share includes the amortization and impairment of any goodwill. That's not a material difference. It's really the amortization of intangibles. In fact, you have a strange accounting treatment. So our Ninety One investment, which is treated as an associate, we're required to amortize the intangible component of that investment. So if anything, we're reducing the carrying value of Ninety One due to accounting. It's really a strange accounting treatment.

The next question is from [ Dana Mandija ] of [ Risco ].

Fani, just one question from me. In the U.K., the percentage of clients on payment holidays is pretty much at the same level as your peak. So I'd just like to confirm the first thing when you're talking about peak period, what was your peak? And then on the composition of the clients, is it still the same clients who took a payment holiday at the peak and then they're extending their payment holidays? Or it's just a percentage and then you've got turnover of clients who are asking for your payment holidays? And then on the same, in South Africa, the percentage has pretty much -- you're now at 1/4 of the people who -- of the clients who initially took payment relief. Could you add some color on what's driven the fast recovery in South Africa? And then the second question is on credit loss ratios. You've given us an annualized rate. So I'd just like to understand, is most of this coming from H1? Or you add more impairments at the end of the year when you're reporting next year? Yes.

Okay. Let me just deal with the question of relief granted to our clients. Clearly, in the first quarter that we are reporting on being from April to June, we had very strict lockdowns. In South Africa, for instance, we were at level 5, and there was very little economic activity. In fact, we saw at that time activity has made it, for instance, by point of sale being as low as 40% compared to last year. And from around May, June, we began to see some relaxation of those lockdowns, and activity improved at the moment. We are probably seeing activity again as measured by point-of-sale activity at 80% to 90% of last year. So the peak occurred in the first quarter of the year. And in both economies, we are seeing a reduction -- sorry, an increase in activity leading to the reduction. I'm going to ask Ruth to give you some specifics on her book in the U.K., and then we can address the South African side of it as well. Ruth? Ruth is the executive of the bank in the U.K. I forgot to introduce her. I assume that everybody knows Ruth Leas.

Hi. Good morning, everybody. Hello, [ Dana ]. Exactly as Fani mentioned, that is what we have seen, which was the peak really in the first quarter of our financial year when lockdown was most severe. We certainly have seen some positive outcomes as we come to the end of the payment holiday period actually moving towards back to normal servicing. And we have seen that across different areas of our book, particularly in our small-ticket Asset Finance business, where a number of the companies -- many, actually, the large majority of them coming off payment holidays are actually back to normal servicing. So we are seeing encouraging signs through that. But as you point out, we are still running at relatively similar overall levels of payment holidays as we sit today. Thank you.

Yes. Thank you, Ruth. In South Africa, we obviously are seeing our clients going back into a level of activity, allowing them to get going with their businesses. We need to try and separate 2 types of relief. There are obviously government schemes that are in place, and there are relief programs that banks would offer in the normal cost. So one, we have seen a low pickup of government schemes. We have seen both for Investec and for other banks in the country a level of support for clients that has enabled clients to continue to operate. Nishlan, do you want to take the question on impairment?

Yes. So experience, I think, firstly, to note is that impairments are raised on a forward-looking basis. And we have factored in our anticipated economic environment that we face, and we had gone through a very similar exercise at the end of March last year. Our impairment loss ratio for the first half of last year was about 23 basis points, which was obviously a COVID-free environment. But still a weak economic environment, I think, was tantamount to the quality of the book. We peaked in this period at about 74 basis points in the second half of last year with a full year average of 52 basis points, and we are currently guiding to a credit loss ratio of 47 to 54 basis points. I think one thing that is very important to note is that our book has been significantly reshaped. So our experience in the financial crisis or where we picked up a much higher level of impairments and losses on areas such as vacant land, leisure developments and developmental type property has significant -- those exposures have significantly reduced from a balance sheet perspective. And the other differential in terms of market is the type and client that we deal with. So we, obviously, given the nature of Investec's business, do not have a significant exposure to unsecured retail credit. So as we've guided, the credit loss ratio of between 47 and 54 basis points is elevated to our normal levels, and that is our experience and provisioning on a full basis based on our half year outlook.

And as I said in my script, we had our best take of COVID in our March full year results. This is the second take that we have had to make, and this time around, we were impacted for the full period. Thanks, Nishlan, for taking the call. Any other questions?

Yes, sir. Our next question is from [ Nick Kleher ] of Signal Asset Management.

My question is about hidden assets. I mean we have a share price. It's barely above ZAR 28 today. I think Ninety One must make up about [ 11% ] of that. I've also got your investment in the Investec Property Fund lying around there which is quite difficult to kind of value given all the accounting that goes around that. And the other assets that I'm not sure about are preference share funds and possibly private equity funds and things like that. Let's start at Ninety One. I mean it's -- I don't think the market is recognizing that value as it lies at Investec at the moment. Can you talk about what your strategy is with regard to Ninety One? I think it also creates an overhang on the Ninety One share price all the time that no one seems to know what your position is. And then when you come to disclosing your financials, can you give us some type of intrinsic value calculation so guys who don't [ consume ] a lot of time on your company can just get a feel for where the different assets are and how much they are worth?

Okay. Let me take the question on Ninety One. We demerged Ninety One in March. We hold a 25% position. I'm aggregating both limited and PLC. We are very happy with that investment, a quality investment run by a great management team. And at the moment, we have no plans to realize that investment. Obviously, the lock-up period that we have around Ninety One, I think, is -- has come and gone, so we don't have a restriction around the investment in the holding. But we are very happy with the investment, and we have no plan at the moment to sell it, and we are hopeful that the investment will continue to perform. Just addressing your overall question, which is a question around how the market values the business, I mean, firstly, we do agree with you that if you look at the sum of the parts that the value is much higher than the market is recognizing. Banks are in a challenging environment. And I think there is generally an understanding that until we see a better trajectory for the economies of the world, and that trajectory will be dependent on what happens with the virus, there will be an expectation of higher impairments in banks, and therefore, bank valuations are likely to remain muted in the South African and U.K. environment where we operate. I think you do have banks trading at significant discount to their net asset value and their tangible net asset value. So the environment and the neighborhood in which we are implies that there will be a level of discount. I think as far as Investec is concerned, we obviously have a strategy of simplifying and focusing the business. We have indicated in 2018 CMD that we are committed as a management team to improve fundamentally the performance of the business in the long term. Obviously, COVID-19 and the dislocations that arise as a consequence of that means that in the short term, you have to deal with the fallout of COVID-19. But our efforts to improve performance to make sure that in the long term, we can earn returns, and excess of the cost of capital remain. We have indicated in this result that our efforts at managing the cost base have been quite successful. This is following a number of changes we have made to our strategy. So I think we will put [ rand ] on the Board and leave the valuation to you as our shareholders in the market.

And [ Nick ], final point, I think if you take up the challenge around probably enhancing some of the disclosures, so we will continue to implement.

Just to push back a little bit. I mean Ninety One, I agree with you, is a good operation, but I can buy that on the stock market. I don't need you guys to invest in that for me. And also, the market doesn't seem to give you any value for it, and it's not getting any value for your Ninety One investment. What is your strategy with regard to your 25% holding in the Investec Property Fund? I mean it becomes -- it makes your accounts very complicated because now that gets consolidated, and [ you need ] an accounting genius to unwind the whole thing and to figure out what the valuation of your business is. So again, that investment is just -- makes life very difficult for me and I don't think the market gives you any value for it. And I'm [indiscernible] in assets in there with the same problem, the same issues.

Yes. [ Nick ], just to go back to Ninety One, that's a challenge. We were quite clear when Hendrik and myself took over the running of the business that we will look to simplify the business to focus it and to run it as best we can. And on the banking side, we committed to trying and we are on cost to achieving returns that are in excess of the cost of capital, obviously, not in this environment, but as we normalize back to an environment that is reasonable. And we said at that time that we will retain a stake in Ninety One that would enable us first to support the new listing. And second, we said that as we distributed a substantial majority of our holdings, we wanted to retain a stake that would give us a cushion, a capital cushion. You will know that when we released our circular at that time, we had indicated that we wanted to place 10% of the stake of the 25% that we hold. But market conditions were particularly unfavorable because we were not under pressure to sell. We decided we would not be selling. I think if we had been under pressure to sell, we probably would have had to sell at circa 145p, 150p and we didn't do that because we are not destroyers of value. So we held on to our stake. So a piece of the 25% was always meant to bolster our capital given that we distributed a portion of the value that we have and cash flows that we would have had as a banking group. So capital, one; second, supporting the business. And as I say, over time, we will make appropriate decisions around that investment, but we're happy at the moment with the investment and its performance. Secondly, we are in the process of significantly enhancing our disclosure. We absolutely agree with you that there's a level of complexity in the disclosure. We have a team inside of the business that is looking at how we can simplify our disclosure. And one of the things we are doing is separating the investment piece, for instance, Ninety One, IEP and one or others, into an investment piece that you can look at separately and value separately, in addition to the underlying franchises in the business. So that work is underway, hopefully, this year [indiscernible]

The next question is from Bankole Ubogu of Bank of America Securities.

Two questions from my side is, I guess, how long do you see the credit lock gently being elevated? Do you think you've reached the peak of, what, 74 basis points in the second half, 54 is a full year annualized for the first half? Do you think you're going to stay at those levels for the full year and then potentially gradually reduce to your normalized levels, probably, what, between 20 to 30 basis points by 2022 financial year? I think that's the first question. And the second question is could you elaborate on the negative -- I think it was a negative equity adjustment that the banks recognized. I guess my understanding is that, obviously, you've had a dislocation in the market, but a lot of that was by the end of March or the -- a lot of the troughs were at the end of March. I would have expected that to be booked in to [ April ] of last year. And just clarify in terms of what's driving that to continue to be negative in first half this year which started from April.

So clearly, the outlook on levels of impairment is dependent on an economic outlook. We run IFRS 9 models with a number of scenarios that we have to consider. So depending on what economic scenarios you come up with, you could give a sense of what impairments could do. We gave a guidance that we expect that we will be at levels similar to the second half of last year. We remain with that guidance now given the economic outlook that we have. If there's an improved economic outlook or a deteriorating economic outlook, that guidance will change. So I'm not able to give you a sense of where we think impairments may peak or improve to in the next year or 2, simply given the uncertainty in the environment. But our business model, as Nishlan indicated, is quite a resilient one given the clients that we serve both on the corporate banking side, the private banking side. We have very strong wealth businesses in South Africa and the U.K. And as we indicated, we've seen net flows in this period. So we have strong businesses that are very resilient in markets that are like this, just given the nature of the clients that we serve. So -- and given the changes we've made to the business mix, as Nishlan said, 10 years ago, we had big exposure to property and to certain types of property that are higher risk. And our book is much more diversified now and we think the risk in it is well-appreciated by the management team. Nishlan, do you want to talk to that?

Yes. And then from an investment perspective, I think a couple of key points. Number one is our associate income, particularly from our IEP portfolio, which does have exposure to the industrial services that experienced an extreme slowdown in activity between April, May and June, and therefore, we've seen lower equity accounted income in this period. Secondly, through the property exposures. We are seeing a reduction in valuations, particularly on the South African asset portfolio, and that's really what's been factored in, in this current period.

The next question is from Shane Watkins of All Weather.

So if you don't mind, I'd like to join the discussion on the group structure because I do want to applaud you, I think, on a good operating result in difficult conditions. And it's very evident that you guys are doing a lot of very difficult work. I feel like you guys are doing the hard stuff and [indiscernible], for example, rightsizing businesses, cutting costs, retrenching staff. Those are very hard things to do. And yet the real problem with Investec is a suboptimal group structure, which -- the fact is the market doesn't like it and doesn't give you -- and it doesn't reflect your value property. So I guess the main issue is Ninety One because that would be the biggest number in the valuation. And I think that -- you say that you -- you're there to support Ninety One, but I've been quite frankly, they don't need your help at all. You need their help by placing that stake and unlocking the value for yourself. So I guess what I'm really saying is that it feels like a [ reader ]...

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