Lloyds Banking Group plc (LLOY) Earnings Call Transcript & Summary

Good afternoon, everybody. As indicated, I'm Douglas Radcliffe, and I'm the Group Investor Relations Director for Lloyds. Sarah has been in my team for a little while now. So welcome on Board, Sarah.

Thank you.

We're really happy to be running another one of these briefings with ShareSoc. We view these events as an important way of actually keeping in touch with our retail shareholders. So thank you for joining us. During the presentation today, I will talk to our strategy, in particular, our outlook to 2026, and Sarah will talk to the latest financials, including our half year results, which we released in July. We are intentionally using some of the slides from our half year results, so you can see what we presented to institutional investors at the time. The presentation should take about 20 minutes, and we will then leave plenty of time for Q&A at the end. With that, let's move on to the first slide. As many of you will know, Lloyds is a U.K.-focused retail and commercial bank. We have a simple operating model with the business split across 3 reporting divisions as outlined on the slide here: Retail Banking, Commercial Banking and Insurance, Pensions and Investments. Within these divisions, our customers are supported by a comprehensive product suite. This scale is underpinned by a portfolio of familiar and trusted brands such as Lloyds Bank, Halifax and Scottish Widows, alongside a few newer brands you may be less familiar with, including Tusker, our car salary sacrifice proposition for corporates and Lloyds Livings, our private rental arm. The breadth of our franchise provides us with a key advantage in servicing more of our customers' needs as well as understanding them better to provide more targeted offerings that deliver value for both customers and the group. As ever, we are guided by our purpose of helping Britain Prosper. I'll now go on to our competitive strengths, which differentiate our proposition on Slide 4. As many of you will be aware, we are the biggest U.K. bank with GBP 900 billion of assets and 28 million customers. This gives us extensive reach across the U.K. We are also the #1 provider in several of our core product areas, including mortgages, cards, loans and transport. Our capabilities across both banking and insurance are unique within the U.K. and offer a clear competitive advantage. We also have a strategic vision of being a U.K. customer-focused digital leader. We now have around 21 million mobile app customers, and we are continually leveraging these digital strengths to innovate and improve our customer products and services. We see leadership in this digital area as being critical to long-term success, linked to our track record of investments in digital, AI and data. This enables us to innovate to anticipate and meet customers' ever-evolving financial needs. I'll now provide an overview of our strategic focus areas on the next slide. In February of 2022, you may recollect that our CEO, Charlie Nunn, set out a 5-year strategy for Lloyds Banking Group. This strategy focused on driving revenue growth and diversification, strengthening our cost and capital efficiency and maximizing the potential of people, technology and data. Our revenue growth initiatives are focused on 4 key areas: deepening and innovating within the consumer space, creating a new mass affluent offering, building our corporate and institutional offering and digitizing and diversifying our SME business. If you want any more detail on these initiatives, please do look at our website as we have done a separate strategic seminars for each of these areas over the past couple of years. We are now close to the end of the fourth year of our 5-year strategy and are on track to deliver our 2026 targets, including over GBP 1.5 billion of additional revenues from strategic initiatives by 2026 with over GBP 1 billion delivered to date on an annualized basis. We also continue to focus on increasing productivity and have delivered around GBP 1.5 billion of gross cost savings since 2021. Our strategic delivery reinforces our confidence in meeting our 2026 financial targets, which I shall now turn to. As said, we are confident in meeting our 2026 financial commitments with significant operating leverage supporting our guidance of a cost/income ratio below 50%, a return on tangible equity of greater than 15% and capital generation of greater than 200 basis points. On the final slide of the strategy section of the presentation, I'll provide a few examples of how we are successfully delivering our strategy in the first half of 2025. We continue to build a highly differentiated franchise. For example, we have continued to take a leading role in supporting the critically important housing sector, lending more than GBP 8 billion to first-time buyers and supporting over GBP 1 billion of funding to the social housing sector in the first half. At the same time, we are delivering growth through our strategic initiatives in a number of areas. This includes significantly increasing our penetration of protection products for mortgage customers and gaining share in sterling interest rate swaps in the commercial side. This business momentum is underpinning our sustained strength in financial performance in the first half of the year, which Sarah will now provide an overview of.

Thanks, Douglas. As said, Lloyds Banking Group demonstrated sustained strength in financial performance during the first 6 months of the year. Statutory profit after tax in the first half was GBP 2.5 billion with a return on tangible equity of 14.1%. Net income of GBP 8.9 billion was 6% higher than the prior year. This was driven by continued momentum in net interest income alongside 9% year-on-year growth in other operating income. H1 operating costs of GBP 4.9 billion were up 4% year-on-year, in line with our expectations. Asset quality remains robust. The H1 impairment charge of GBP 442 million equates to an asset quality ratio of 19 basis points. Our performance resulted in strong capital generation of 86 basis points in the first half. This supports our 15% increase in the interim dividend. I'll now turn to Slide 9 to look at developments in our customer franchise. Our customer balances showed good growth in the first 6 months across both lending and deposits. Group lending balances of GBP 471 billion were up 3% or GBP 11.9 billion since the start of 2025. This growth was largely driven by mortgages, up GBP 5.6 billion in H1 and GBP 0.8 billion in Q2. This is as a result of a healthy underlying market demand as well as our strategic initiatives in this area. Elsewhere in retail, we have also seen growth in unsecured loans, credit cards and motor finance. Then in Commercial Banking, lending balances also grew by GBP 1.2 billion in H1, including GBP 0.9 billion in Q2. In particular, we saw growth in infrastructure lending within our corporate and institutional business. We have also grown deposits by 2% or GBP 11.2 billion this year so far. This comprised GBP 3.7 billion in retail, driven by inflows to savings accounts and as a result of a very strong performance throughout the ISA season in Q2 with over 375,000 cash ISA accounts opened. Commercial deposits increased by GBP 7.6 billion in H1, including GBP 5.3 billion in Q2. This is driven by growth in targeted sectors. So now turning to net interest income on the next slide. Net interest income was GBP 6.7 billion in H1, so up 5% year-on-year. NII continues to be supported by positive momentum in the net interest margin with the Q2 margin of 304 basis points, up slightly on Q1. NII was further supported by average interest-earning assets of GBP 460 billion in Q2, which was up GBP 4.5 billion versus Q1. So looking ahead, we continue to expect net interest income for 2025 to be circa GBP 13.5 billion, and that's up around GBP 700 million from last year. This is built on further lending and deposit growth as well as a significant pickup in the income from the structural hedge. Indeed, actually, hedge income is expected to grow by GBP 1.2 billion in 2025 and then a further GBP 1.5 billion on top of that in 2026. I'll now talk to our continued momentum in other income across the franchise on the next slide. So other income of GBP 3 billion in the first half was up 9% on H1 last year. This included GBP 1.5 billion in Q2, also up 9% year-on-year. This growth is driven by broad-based momentum across the business linked to our strategic initiatives. Within retail, 13% growth versus the prior year was supported by higher income from personal current accounts and also continued strength in our motor leasing business. In Commercial, year-on-year strength in transaction banking income was offset by lower loan markets activity. And then insurance, pensions and investments delivered a strong performance, up 6% year-on-year. General Insurance did particularly well within this with income net of claims up 35%. Then finally, in equity investments, Lloyds Living is developing well with income up 19% year-on-year, alongside growth in LDC, which is our private equity arm. Looking forward, we continue to expect ongoing growth in other income linked to both BAU growth and also strategic initiatives. Then turning briefly to operating lease depreciation, which is the depreciation charge for our operating lease business, that was GBP 710 million in H1. And we continue to expect this operating lease depreciation charge to grow in line with profitable fleet growth and higher-value vehicles going forward, with volatility in the charge mitigated by a number of strategic actions that we've implemented this year. I'll now turn to costs on the next slide. So we remain very committed to cost discipline. H1 operating costs were GBP 4.9 billion, up 4% year-on-year or actually up 2%, excluding some front-loaded severance charges that we took in Q1, and those were taken to accelerate efficiencies. So overall, operating costs are tracking in line with full year expectations with business growth and inflationary impacts, including national insurance, partially mitigated by savings driven from our strategic investment. Looking ahead, we continue to expect operating costs of circa GBP 9.7 billion for the full year. Remediation remains low at GBP 37 million, and there was no further charge for Motor Finance in the first half. And I'll actually cover Motor Finance specifically in more detail on the next slide. So our provision for potential remediation costs relating to motor commissions stands at GBP 1.15 billion. The provision is based on a range of probability weighted scenarios to address uncertainties around the number of assumptions. So I'm sure many of you will have followed the Supreme Court judgment on the 1st of August in respect of Wrench, Johnson, and Hopcraft. That judgment overturned the Court of Appeals decision in relation to fiduciary duties and bribery and upheld an unfair relationship claim in the case of Mr. Johnson. So whilst this judgment clearly provides additional clarity, there remain a number of uncertainties. So the FCA will publish a consultation on an industry-wide redress scheme by early October. This means the ultimate impact on the group will be determined by a number of factors still to be resolved, particularly the outcome of the FCA consultation. However, after initial assessment of the judgment, the group currently believes that if there is any change to the provision, it is unlikely to be material in the context of the group. Clearly, we will continue to review any further information and update as and when necessary. I'll now turn to asset quality on the next slide. Asset quality remains robust. The H1 impairment charge of GBP 442 million equates to an asset quality ratio of 19 basis points. This reflects stable credit quality during the period with either stable or improving trends seen across our portfolios. Similarly, early warning indicators remain low and stable. We're very confident in the balance sheet given our prime customer base and a prudent approach to risk, and we continue to expect the asset quality ratio to be circa 25 basis points for the full year. I'll now hand back to Douglas to cover capital distributions and wrap up the presentation.

Thank you, Sarah. So on the next slide, as you can see, capital generation of 86 basis points was strong in the first half of the year. This supported sustained growth in shareholder distributions. Indeed, at the half year, we announced an interim dividend of 1.22p per share, up 15% on last year. As usual, we will consider further capital distributions at the year-end. Dividends per share have grown consistently over our strategic plan, now up more than 80% versus 2021. Alongside this, we have undertaken consecutive and significant share buyback programs. These have reduced the group share count by circa 16% since the end of 2021, supporting growth and value for our shareholders. I'll now wrap up on the final slide. In summary, the group is showing sustained strength and delivering in line with expectations. In the first 6 months of the year, we saw continued growth in net income, cost discipline and robust asset quality, driving strong capital generation and an increased interim dividend. Looking forward and based on this sustained strength, we feel very comfortable with our 2025 guidance and remain confident in our 2026 commitments. Both are set out in full on the slide. I hope you found this to be a useful and interesting update. To summarize, we're very pleased with the progress so far and are excited about the opportunity to accelerate as we deliver a highly compelling investment case. So it looks as though that's now taken up about 20 minutes as expected. So we'll now open up the call to Q&A.

There is the ability on the actual drive to submit your questions. We will then subsequently just go through each of the slides, each of the questions as they come through and add further detail. I think it probably makes sense for us to kick right into the questions. So the first question that came through has actually come through about recent press articles about the unhappiness within the workforce by some of the measures taken as part of maximizing potential of people. The question would really be, what actions are being taken to ensure you obtain and retain the best talent to ensure success in the future? So obviously, this is an interesting question. There's obviously been an element of speculation in the press with regard to performance management within Lloyds and how we look at structured support as a whole. In essence, this is actually very similar to the way many good organizations around the world actually manage performance. And actually, it's not something particularly new to the organization. Essentially, we want Lloyds to be a high-performing organization. You as shareholders, I suspect, also want us to be a high-performing organization. And our customers, clients and stakeholders all expect that of us. So basically, what we want -- what we're trying to do at all times is actually ensure colleagues can achieve what they're capable of in our business. And to do that, we just have to be honest with those that need to contribute more, and we have to make space for those with potential to progress and grow. So really, what I would say is the press speculation that you've read about is really about having an effective performance management approach within an organization. And actually, that's the right thing for any successful organization. I think that probably covered that question. Another question was, how should we think about the future mix of dividends and buybacks in your distributions, please? That's a really important question and one that we're frequently asked, not just by retail shareholders, but also by institutional shareholders. Our approach has actually been relatively very consistent, in fact, over recent years. We have a progressive and sustainable ordinary dividend policy. That progressive and sustainable ordinary dividend, you'll see that, that's been reflected in the increase in ordinary dividend by 15% at the half year. In essence, from our perspective, our belief is that we can continue to deliver that progressive and sustainable ordinary dividend over a number of years. In addition to that, what we look towards doing is actually having -- paying out excess capital to shareholders at the end of each year. In recent years, that's been undertaken through a buyback. Last year, it was GBP 1.7 billion. The year before that, it was GBP 2 billion. So you should fully expect the Board to continue to consider excess capital repayments at the end of each year. What's really important, I suppose, is what it really means for -- or how you then contextualize what the level of that ordinary dividend is and what the level of the buyback is. And that's why we give the guidance around the capital generation. We talked about delivering 175 basis points of capital generation this year. We talked about delivering more than 200 basis points of capital next year. The other aspect that indicates almost like how much capital will actually pay out at the end of the year is the capital ratio that we pay down to. You'll see that we paid -- well, we've indicated that we will pay down to a 13% CET1 ratio by the end of 2026. We paid down to 13.5% by the end of last year, and we've indicated that there will be a journey to move towards the 13%. So you should fully expect us to pay down somewhere between the 13% and the 13.5% at the end of this year. So actually, when you look at our approach to mix of dividends and buybacks, that's the way to look at it. What I would say is on the excess capital repatriation is that we're constantly looking and the Board looks at what the most effective way to return excess capital is. In recent years, we very much believe that buybacks is the best way to do that. Clearly, that's something we'll consider as the share price has recovered as our valuation versus our tangible net asset value has recovered. But certainly, when we speak to retail shareholders, when we talk to institutional investors, the current view is given the significant value that both the market and we believe is still available, the view is still that I think that buybacks are the favored approach. But we continue to listen to all investors to see exactly what the right approach should be going forward.

I can do the pref share one.

Sure.

Yes. So there's a question, you bought back some of your preference shares in 2024. At the end of last year, you still had 5 class in issue, some with very high coupons. Over time, should we expect that you'll retire more of the preference share, please? So we've actually got -- we've got 4 preference shares outstanding at the moment. So to a GDP to a U.S. dollar, we don't actually disclose whether we intend to redeem outstanding instruments in the future. It's very much considered on a case-by-case basis at the time. As you can imagine, we'll take into account a variety of economic, regulatory, legal and practical considerations. But we do continually monitor the market for any opportunities to repurchase or exchange those remaining preference shares outstanding. So we will see.

Okay. Another question has come in, which is unsurprisingly about the economic environment and how we see almost like earnings progressing given a lower rate environment. It's really quite interesting at the moment because people talk about the U.K. economy and the environment as it stands at the moment. And actually, the environment as it stands, although it may not be necessarily exciting, isn't actually unsupportive to Lloyds Banking Group and how we operate. Certainly, if you get to the stage where rates are where they are at the moment, there's certainly much more of an ability to manage both the asset and the liability perspective. If you actually look at our economic expectations, and we're one of the few banks to actually update our economic expectations every quarter. You can see them in the slides. You can see them in the news release when we actually produce our results. And actually, what you see is our current projections are probably GDP growth of about 1%, both this year and next year. You're probably looking at unemployment peaking at about 5% next year, and you're looking at slight growth in house prices. The other area that was specifically referenced in the slides was actually the base rate. At the half year, we were actually expecting a couple of reductions in the base rate over the second half of the year. Clearly, if you look at the market and the market environment, I think the general expectation would be that, that would be less than that now, but we will look towards updating those expectations as we move forward and when we issue our Q3 results at the end of October. The question though, I suppose, was really there is irrespective of the resilience of the U.K. economy, what does it mean from our net interest margin going forward even though the rates are reducing. Now in essence, I think when you look at our net interest margin and our net interest income, there are 3 primary factors that are probably influencing net interest income going forward over the short to medium term. One of them which is very much a tailwind is structural hedge earnings. When you look at it from a structural hedge perspective, we have about GBP 244 billion under investment. Effectively, those are interest rate insensitive balances. They've got a weighted average life of about 3.5 years. So in theory, they would roll off over a 7-year period being a weighted average life of 3.5 years. But essentially, what you'll see at the moment is that, that structural hedge is actually earning probably about 2.2%. But actually, as you reinvest that -- those funds each year, they're actually reinvested into a market that's earning more like about 3.5% to 4%. So you can see that at the moment, you're actually getting a benefit as you reinvest that GBP 30 billion to GBP 40 billion of maturities each year in the structural hedge. So that's very much a tailwind. That's slightly offset by a couple of headwinds, one of which is mortgage repricing. Effectively, if you look at it from a mortgage side, the current completion rate for mortgages is probably around 75 basis points. If you look at mortgages and the rate that they were written probably about during COVID and the like, it was significantly higher than that. So effectively, we've got business that is coming off quite high rates going on to lower rates, and that's been occurring over the last 3, 4, 5 years. In essence, that is a slight headwind when it comes to both net interest margin and net interest income. At the same time, what you've got is effectively deposit migration, which is effectively current account balances moving to savings accounts where essentially the rate that's achieved is actually -- or the margin that's achieved is less because obviously, the rate payable to customers is higher on savings balances. So that actually becomes effectively a headwind as well. But the -- basically, the tailwind of the structural hedge more than offsets the benefit that's coming from those two headwinds. Hence, why we expect the net interest margin to increase this year. We haven't actually given effectively guidance beyond that for net interest income or indeed net interest margin. But you can see that the positive trends in those areas are very much driving the increased return on tangible equity. From a return on tangible equity perspective, we're expecting greater than 15% next year. And indeed, the capital generation, which we're expecting to increase from around 175 basis points to more than 200 basis points. So we're still very much of the belief that actually we can still see positive momentum in the net interest margin despite the fact that the base rate is falling.

So did the M&A one?

Yes, that makes sense.

Yes. So the question is, are there any gaps in your product set that you'd like to close through M&A? And you've made some interesting acquisitions in recent years that have added capabilities. Yes. So in terms of M&A, first and foremost, our strategy is an organic one. So when we set out our strategy in February 2022, if you think about the scale of Lloyds Banking Group and the fact that we are already kind of #1 market share in a lot of our key product areas, for us, any M&A is really kind of small and around the edges where we see opportunities to improve the customer journey or a customer offering that is easy to acquire versus us doing it kind of organically and building it in-house. So when you think about the examples of acquisitions that we've made over the past couple of years, Tusker, our car salary sacrifice proposition brings to mind, as does Embark, which is a share investment platform. So the 2 of those are very much kind of small and in terms of capital, it didn't make a lot of impact. But we do look at all of these things in the round. So when you read on the news about bank buying ex portfolio, et cetera, there are always things that we will have looked at, but we will have decided for one reason or another that it didn't make sense for us from a kind of a proposition perspective. So we'll look at all these things in the round. I'd say from our kind of product set, there's nothing kind of in particular that we'd kind of call out at the moment, but we will obviously look at all of these things very actively as and when they come up for sale or acquisition.