Grupo Cibest S.A. Q2 FY2023 Earnings Call

Good morning, ladies and gentlemen, and welcome to Bancolombia's Second Quarter 2023 Earnings Conference Call. My name is Alan, and I will be your operator for today's call. Please note that this conference call will include forward-looking statements, including statements related to our future performance, capital position, credit-related expenses, and credit losses. All forward-looking statements, whether made in this conference call and future filings, in press releases or verbally, address matters that involve risks and uncertainty. Consequently, there are factors that could cause actual results to differ materially from those indicated in such statements, including changes in general economic and business conditions, changes in currency exchange rates and interest rates, the introduction of competing products by other companies, lack of acceptance of new products or services by our targeted clients, changes in business strategy and various other factors that we describe in our reports filed with the SEC. With us today is Mr. Juan Carlos Mora, Chief Executive Officer; Mr. Mauricio Rosillo, Chief Corporate Officer; Mr. Jose Humberto Acosta, Chief Financial Officer; Mr. Rodrigo Prieto, Chief Risk Officer; Mrs. Catalina Tobon, Investor Relations and Capital Markets Director; and Mrs. Laura Clavijo, Chief Economist. I will now turn the call over to Mr. Juan Carlos Mora, Chief Executive Officer. Mr. Juan Carlos, you may begin.

Good morning, and welcome to Bancolombia's Second Quarter Results Conference Call. To begin, please go to Slide 2. The results for the quarter reflect the less favorable macro conditions under which the bank is currently operating. In Colombia, in particular, the circumstances have become more challenging due to the economic slowdown driven by lower internal consumption, lower trade flows, and less dynamic foreign direct investment with underlying high inflation that has kept interest rates high, as we will further elaborate. These circumstances have discouraged credit, harmed asset quality, and elevated operational costs, driving a moderation on the loan book and income growth, resulting in a net income for the quarter of COP 1.5 trillion. It is worth highlighting the stronger contribution that the Central American operation is delivering, as all three banks in the region continue making progress on income generation, cost control, and profitability, partially compensating for the current slower growth of the Colombian operation and providing the merits of our diversification strategy. Due to the Colombian peso appreciation this quarter that reduced the contribution of the U.S. dollar-denominated loans, the consolidated loan book contracted quarter-over-quarter, albeit still growing at a much moderated rate year-over-year on the back of lower credit demand. Similarly, deposits also fell during the quarter due to FX appreciation and slowed their pace of growth on a yearly basis. Furthermore, as interest rates remained high, the shift from savings to time deposits continues exerting more pressure on the funding cost. NIM remained high, posting at 6.7% for the quarter, driven by the lending margin as per our asset-sensitive condition. We recorded COP 2.1 trillion in net provisions, equivalent to a cost of risk of 3.1% for the period. However, it is showing a descending pace of growth, suggesting a better forecast in terms of deterioration, as we will further elaborate. The coverage ratio of 90 days NPLs is 207%. Basel III core equity Tier 1 ratio increased to 10.4%, well above the minimum regulatory levels reflecting the capacity to generate organic capital. OpEx increased mainly due to inflation and higher taxes, and the efficiency ratio reached 44%. All things considered, strong NIM and other operating income performance offset higher costs and expenses, which, coupled with the smaller loan book, resulted in an ROE of 15.7% for the quarter. Going forward, even as the government's ability to pass through its ambitious reform agenda has lost some ground, it is still too soon to assess the potential economic and social impacts that these or other set of initiatives may have, particularly due to fiscal imbalances, labor cost, and deterioration in country risk sentiment. We continue committed to our long-term strategy, confident in the robustness of Colombian institutions and the regulatory framework.

Thank you, Juan Carlos. Indeed, our updated economic forecast for Colombia poses a more promising scenario for 2023 than previously expected, nonetheless modest growth for 2024. Despite the resilient performance of the Colombian economy with 3% GDP growth in the first quarter, we anticipate a further slowdown in economic activity during the second half of the year. For 2023, we have doubled our growth forecast to 1.2% from the April scenario of 0.6%, driven mainly by the statistical carryover effect from solid first-quarter growth, and we expect moderate GDP growth of 0.9% for 2024. In fact, weakening economic activity is already evident in monthly leading indicators that reflect a meager 0.5% growth as of May. Private consumption and investment have been pressured by high inflation, rising interest rates, and declining consumer confidence, impacting the performance of key productive sectors such as retail, transportation, construction, mining, and manufacturing. On the positive side, inflation has consistently fallen over the past few months. After peaking at 13.3% in March, CPI has decreased to 12.1% year-over-year as of June, driven by declining food prices. However, inflationary pressures on core inflation persist, with fuel price adjustments, indexation of service fees, particularly in housing, as well as increases in electricity and gas tariffs remaining stubbornly high. Consequently, we maintain our 2023 inflation forecast of 9% at the end of the year but foresee potential pressures on regulated goods and food prices in 2024, resulting from indexation and climate-led effects from the phenomenon of El Niño. Only in early 2026 should inflation return to the Central Bank's target. Receding inflation, labor market resilience, and overall stability in the financial sector have enabled the Central Bank to halt interest rate hikes and keep rates stable at 13.25% during the past few months. Given the conditions, we expect the Central Bank to begin cutting rates as early as October and up to 75 basis points before year-end. Expectations of an ending tightening cycle, both globally and locally, have contributed to easing market conditions and improving terms of trade. Finally, compared to a year ago, there are notable corrections in Colombia's macroeconomic imbalances, which have improved our country risk position, reflecting better financing conditions and reduced vulnerability to external shocks.

Thank you, Laura. Now we move to Slide 4. At this opportunity, I want to introduce these five value-driven pillars that are framed within our purpose and therefore, are the foundation for our current and future results, for which we will continuously comment going forward. First, a client-centric approach to design and deliver integrated solutions; second, an evolving interoperable and multichannel platform; third, our corporate structure and governance model, our financial management, and our risk and capital controls as fruits of our performance; and lastly, our culture of efficiency and productivity as a catalyst for profitability. Moving to Slide 5, I want to share a snapshot of the main initiatives we are working on in Pillar 1, seeking integrated solutions leveraged on information, analytics, and technology. First, our ecosystem model under which we are orchestrating experiences in our own channels and allowing third parties to develop financial services under their own brand. Second, we are transforming our value proposition for agribusiness, productive supply chains, and social and environmental projects. A good example is the origination of loans for small farmers through our digital wallet, Bancolombia A la Mano. And third, we are continuously evolving our analytics-based models to enhance our preapproved loans' accuracy, our ratings models, and the collection process to estimate clients' payment capacity and anticipate credit deterioration. Moving to Slide 6, now I will refer to the main initiatives we are working on in Pillar 2 that are essential to further enhance our transactional capabilities. Over time, we have built a robust multichannel platform as we deem each channel has an essential vocation. Going forward, we will pursue further capillarity and interoperability, hand in hand with our digital evolution. As of June, we had more than 8 million digital active clients in our app Bancolombia, and Nequi has reached more than 17 million customers. Furthermore, we are developing our Super App and Super Web models, providing several financial and nonfinancial services that connect demand and supply in one place, such as banking services, transportation, and home services, amongst others, thus accelerating digitalization and enhancing the customer experience. After this general strategic overview, I want to turn the presentation to Jose Humberto Acosta, who will further elaborate on our second quarter 2023 results.

Thank you, Juan Carlos. Please go to Slide 7, in which I will elaborate on our regional operations and its contribution. The Colombian loan book represents almost 70% of the total portfolio, whereas the Central American operation accounts for roughly 27%, providing a good source of diversification in growing economies with different market dynamics. Banagricola stands out given its higher net income generation, coupled with a very low cost of risk that drives profitability, posting an above-average return on equity of 20.6% for the quarter. Going forward, we expect the bank to continue delivering very positive results as a more promising economy and political environment seem to be underway. Also, it's worth highlighting BAM and Banitsmo's positive yearly evolution as reflected in the higher NIMs and return on equities, well-suited to pursue growth opportunities on the back of the better-performing economies. Nonetheless, we remain cautious of the inherent political and economic uncertainties in these geographies; therefore, we are working with a risk-adjusted return approach and enhancing contract initiatives to boost profitability. Please go to Slide 8, where I will elaborate on our strong and well-diversified loan portfolio, which has commercial loans representing almost 64%, consumer loans 22%, and mortgages 14%. The overall loan growth during the quarter was affected by a 3.4% average peso appreciation. The consolidated loan book decreased by 2.4% quarter-over-quarter due to the sharper deceleration of the consumer segment, as high interest rates have harmed credit demand and risk appetite has been adjusted. Commercial loans decreased the least during the period, explained by a couple of large corporate loans disbursed in June. On a yearly basis, the pace of growth has significantly decelerated to a 7.4% rate as of the second quarter, consistent with the credit cycle described previously. Net of FX, the loan book would have grown 1.3% quarter-over-quarter, albeit still reflecting significant moderation in terms of growth. Breaking it down into segments, as shown in the bottom graph, we want to comment not only on the positive evolution in terms of clients and loan growth in each but also to highlight the growth and value potential that the SME segment represents, provided that the growth in clients has outpaced that of loans, leaving enough room to further grow leverage on client-centric integrated solutions. Please go to Slide 9. Consistent with the loan book performance, total deposits fell by 3% quarter-over-quarter, with a higher-than-average contraction in savings and current accounts and a modest 1% growth in time deposits. Year-over-year, deposits grew by 9.5%, slightly above loan growth, mainly explained by time deposits which increased by 48%, whereas savings accounts recorded a drop of almost 5%. As expected, time deposits increased their share of the total deposit reaching 35%, albeit growing at a slower pace on a quarterly and yearly basis. On the other hand, savings accounts kept their share at 38% of the total funding mix, while shaking and other funding sources led to time deposits. This larger portion of time deposits and the rise in interest rate expenses paid on loans and bonds due to higher interest rates have increased the cost of funding during the period to 5.5%. It is also worth highlighting that 62% of our outstanding fixed-rate time deposits mature in less than a year, providing some margin protection upon interest rate cuts. Due to the loss, the lending dynamic in the market, we do not foresee funding pressures affecting our cost of funds for the remainder of the year nor our ability to maintain comfortable liquidity coverage and net stable funding ratios. Please go to Slide 10. Interest income decreased by 3.3% quarter-over-quarter, attributed to a fall in interest income and valuations on the investment portfolio in the period. However, this drop in the investment portfolio income is compensated by income on derivatives recorded under other operating income. On a yearly basis, interest income grew by 52% due to the repricing dynamic as per our asset-sensitive condition and because new loans are disbursed at higher interest rates. On the flip side, interest expenses grew by 2.9% during the quarter despite the drop in deposits, mainly explained by the change in funding mix. Year-over-year, it grew by 153%, as it continues to capture the rise in interest rates. Consequently, NII fell almost 8% quarter-over-quarter, but increased by 14% on a yearly basis. On the other hand, when analyzing the NIM by companies, the lending NIM was 7.9%. That is 3 basis points higher compared to the last quarter and 86 basis points year-over-year, whereas the investment NIM fell by 458 basis points quarter-over-quarter, dragging the overall NIM to 6.7%. Please go to Slide 11. Net income slightly decreased by 0.36% quarter-over-quarter, yet increased by 13.5% year-over-year despite fee expenses growth outpacing that of fee income on the back of higher costs related to third-party providers and processing charges. The income ratio was 19.6% for the quarter. It's worth mentioning that the fee income generation is well diversified in terms of sources. Also, I want to highlight the good result and positive evolution of income related to the fleet leasing operation, which was a driver to other income performance that reached 13% growth quarter-over-quarter and 127% year-over-year. Please go to Slide 12, where we present our provision expenses as support to a strong coverage. Net provision expenses for credit losses for the quarter were COP 2.1 trillion, equivalent to a cost of risk of 3.1% for the period. This represents an increase of 1.8% quarter-over-quarter driven by new nonperforming loans and rollovers, mainly in the consumer segment in Colombia, as high inflation and high interest rates kept harming individual payment capacity during the period. As a matter of fact, there was a COP 158 billion increase quarter-over-quarter in provision expenses in the consumer segment in Colombia, to which we will refer further on. On the other hand, even as the economic backdrop has become more challenging, commercial loans are performing well despite some accelerated cases in the corporate segment that do not represent systemic risk. Also, except for Colombia, where provisioning expenses grew by 7% quarter-over-quarter, the rest of the countries in which we operate showed decreased provision expenses, denoting better-than-expected asset performance driven by more favorable macro perspectives and credit payment behavior. The 90-day past-due loan ratio for the quarter increased to 3%, up from 2.7% in the first quarter, reflecting higher past-due rollovers in consumer and a couple of specific commercial loans. Nevertheless, our allowances as a percentage of past-due loans remain strong and represent 207% coverage of 90-day past-due loans. From an expected loss perspective, 87% of our total loan book remains currently in Stage 1. The 12.9% remaining balance is composed of Stage 2 and 3 loans, which represent the current and potential NPLs, all of which have a coverage of 41.7%. Although Stage 3 increases due to the rollovers, Stage 2 balance remains controlled due to several actions taken to cut back deterioration. Moving to Slide 13, I will elaborate on further insights on credit quality for Colombia, where the loan deterioration focus has been. Same as in the previous quarter, deterioration occurred mainly in the consumer segment, which holds a 16.4% balance in Stage 2 and 3 and a 90-day past-due loans ratio at around 4.8%, and consequently, a cost of risk of 13.3% remaining as an outlier. Personal loans, which represent 54% of consumer loans, accounted for most of the deterioration with a 6% 90-day past-due loan ratio and a 16% cost of risk, whereas credit card performance is well-contained, running with a 90-day past-due ratio of 3.9% below the overall segment's metric. As discussed in our previous call, this deterioration phase is consistent with our consumer segment penetration strategy based on pre-approval loans, which, in our view, has been successful from a risk-adjusted return perspective. However, aware of the potential risk to asset quality, the strategy came to a halt for lower-income segments, and thus, we have reduced our pre-approved loans to individuals by almost 28% year-over-year and 17.6% quarter-over-quarter. Consequently, the pace of deterioration for the consumer segment in Colombia has started to subside, as observed in the lower left chart as of May. Also in the bottom right chart, you can see the 90-day past-due loans for the Colombian financial system as of April 2023. Although far from ideal, the explanation for our better-than-average system performance is twofold. First, it is due to our well-articulated sectorial risk assessment that provides us tools from an in-depth understanding of each industry, allowing us to properly diversify, anticipate, and support our customers with solutions, and to adjust quickly to credit cycles. Second, it is also the result of our enhanced collection process based on analytics, which has increased client contact effectiveness, allowing us to move ahead earlier, preventing further deterioration. Please go to Slide 14, where I will discuss efficiency and our productivity initiatives. The cost-to-income ratio for the quarter reached 44%, as operating expenses grew 3.2% quarter-over-quarter and 25.8% year-over-year, mainly driven by: first, higher taxes related to transactions and deposits as per last year's fiscal reform; second, higher personnel expenses due to the annual wage increase and higher actuarial valuations on certain employees' benefits resulting in higher NPVs; and third, higher IT expenses related to our business transformation and journey to the cloud. Net of FX, the annual growth would have been 21.3%. We continue executing ambitious transformational projects and cost control initiatives that cover a wide range of areas, confident that it will boost productivity going forward. Please go to Slide 15 to further elaborate on our profitability metrics. As we had anticipated in our previous call, lower loan growth and net income generation, coupled with the higher provision expenses and overall costs, have impacted our profitability. Net income for the quarter was COP 1.5 trillion, a 15% contraction quarter-over-quarter and 18% year-over-year. Consequently, return on equity decreased, though it remains high at a level of 15.7%, which, if adjusted for good results in a return of tangible equity, will be 20.9%. Finally, on Slide 16, we present the evolution of capital generation. Shareholders' equity grew almost 10% year-over-year. Meanwhile, assets grew 8%, respectively, reflecting the bank's capacity to generate capital to foster growth while preserving a sound balance sheet. On the other hand, Basel III total capacity adequacy ratio increased to 12.5% on a consolidated basis for the quarter, with a CET1 of 10.4% as net income generation in the quarter helped offset the dividend payout declared in the previous quarter, and the FX appreciation reduced some risk-weighted assets and capital consumption. Consequently, quarter-over-quarter, there was a CET1 generation of 70 basis points.

Thank you, Jose Humberto. Please go to Slide 17, in which I will comment on the progress made on our sustainability strategy. As part of our business with purpose strategy, we have disbursed almost COP 20 trillion during the year, reaching an aggregate of COP 123 trillion since 2020. Also, last week we closed a $100 million sustainability-linked credit with Wells Fargo Bank, our third of this type to secure financing for our sustainability loan growth. Regarding the sustainability framework, we have made progress on the following three initiatives: First, we published our TCFD 2022 report containing our climate change strategy, risk management, and metrics as well as our sustainability governance model, by which we declare that our commitment is embedded in our corporate decision-making process, fostering its execution. Second, we are moving ahead with the pilot program for Colombia under the Climate Finance Leadership Initiative which aims to engage the private financial sector in supported climate action, mainly focused on energy, transportation, and infrastructure sectors. Lastly, we declare our diversity, equity, and inclusion strategy, a set of initiatives that pave the way so that by the year 2025, at least 50% of the leadership positions in the bank are held by women. Please go to Slide 18, in which I will provide our guidance for year-end 2023, given the current macro environment. We expect a loan growth of around 2% in peso-denominated loans and 3.5% on dollar-denominated loans so that the consolidated results will depend on FX. A NIM of around 7%, as the average rate of the central bank that determines the reference rate will remain high during the year compared to last year. In the long term, NIM should be around the 5.5% area. In terms of cost of risk, we forecast an annual cost of risk between 2.4% and 2.6%, as we expect further moderation in economic activity coupled with still high rates and slowed downward inflation. We expect an efficiency ratio of 46% and an ROE of around 16% as we expect our asset sensitivity condition to keep above-average margins. For the long term, we expect an ROE of around 15%. Lastly, provided our net income expected performance and FX forecast, our core equity Tier 1 target remains in the 11% area for year-end. Finally, on Slide 19, I would like to share our investment thesis, a summary of our most distinctive drivers of future growth. We deliver integrated solutions with a direct-client-centric approach that nourishes preferences and loyalty on a rapidly growing client base. Second, our interoperable multichannel platform and digital evolution create a competitive advantage, positioning us first in the market and fostering customer experience, efficiency, and growth. Third, our continuous investment in leading-edge technology and innovative operational capabilities supports our business evolution and unlocks profitability. Fourth, we are a leading regional banking platform with access to broad funding sources, sound earnings generation, and best-in-class risk and corporate governance. With this, we conclude our second quarter results conference call. We now invite you to our Q&A session.

Our first question comes from Tito Labarta of Goldman Sachs.

I want to talk a little bit about the outlook for profitability from here. I know you gave a long-term guidance of ROE of 15% and the revised guidance for this year. Maybe thinking a little bit into next year, you lowered your loan growth guidance for this year. You increased the cost of risk a bit. You have decelerating GDP growth into next year, unemployment picking up a little bit. Could there be just additional downward pressures on profitability, thinking about 2024? Will loan growth decelerate a bit more? When do you think asset quality would peak? I mean your revised guidance sort of implies that maybe the provisions might be behind us, but just to think a little bit about that and your margin should fall as you mentioned, as interest rates come down, particularly more in next year. So is that 15%, do you think doable in 2024? Could there be some downside risk to that just given some of the headwinds from the economic outlook that you're seeing?

Regarding the outlook for 2024, we anticipate that the economic conditions will improve compared to 2023, resulting in GDP growth of about 2% to 2.5%. The global environment is likely to improve as well, with the fight against inflation nearing its end and interest rates starting to decline worldwide. In Colombia, we expect interest rates to stay elevated, with reductions beginning at the end of the year. However, throughout 2024, interest rates will still not reflect long-term levels, which means our loan book margin will remain high in comparison to the long-term net interest margin. In terms of risk, we believe we are nearing the peak this year, likely within this quarter. Loan growth is expected to be modest. To address your question, we are confident we can reach a 15% return on equity in 2024. We will face challenges related to risk, and our current focus is on the quality of new loans, as these will impact our performance next year. Therefore, we are being very cautious about originating loans, prioritizing quality over quantity. In summary, while margins will decline, they will not fall as quickly as we previously anticipated, providing us with some breathing room on the income side. As a result, margins are expected to remain high relative to the long-term average. We anticipate that the cost of risk will decrease, aligning with long-term guidance, even though it may be slightly elevated in 2024. Loan book growth is not expected to be particularly dynamic, but we remain optimistic about achieving that 15% return on equity for 2024.

Okay, that's helpful, Juan Carlos. Regarding loan growth, I understand you mentioned it won't be dynamic, but it seems like it could pick up a bit more than the guidance you've provided for this year. Lower inflation and interest rates, along with improved new origination, might contribute to this acceleration. Additionally, with the cost of risk decreasing, those factors should drive the growth, correct?

You are completely correct. Tito, that's a good read of the situation. We are expecting the loan book to accelerate its growth, and I mean, not to be very dynamic, meaning that it will be better than the loan growth that we have in this year, 2023.

Our next question comes from Yuri Fernandes of JPMorgan.

I have a follow-up regarding the top line and 2024. I want to begin with your margin sensitivity to rates because I completely agree that rates are still high. You experienced lower security gains this quarter. For 2023, I expect to see a strong top line, but I am concerned about the net interest margin. Although rates are projected to be higher than historical levels in 2024, you are forecasting a reduction of about 400 to 500 basis points, from 13.25% today to possibly 8.5%. My question is about your rate sensitivity for every 100 basis points decrease in rates. How quickly does this impact your margins? If average rates decrease by 200 or 250 basis points, based on previous quarters, we could expect a decline in rates of around 60 to 70 basis points, averaging 30 to 35 basis points per 100 basis points. I am checking on the sensitivity of the net interest margin and how quickly this could affect your margins in 2024.

Thank you, Yuri. I want to provide some general comments, and then I'll ask Laura to elaborate on the development of the reference rates. We are consistently gathering information every week and month as new data comes in. Laura will share her insights on the trajectory of the reference rates. I'll also ask Humberto about sensitivity. Regarding margins, we need to analyze them. For this quarter, the loan book margin remains strong at 7.9%. However, there was a negative impact on the investment margin primarily due to certain issues related to foreign exchange. As you may know, the peso appreciated significantly during this quarter. Taking that into account, we adjusted our positions in U.S. dollars and will reorganize them. This had an effect during the quarter. However, looking at the long-term average for the investment margin, we still anticipate it will be between 1% and 1.5%. The loan book margin may face some pressure, particularly from costs, especially as rates are expected to decline toward the end of the year, as Laura will explain later. We anticipate the loan margin will be about 7.7%. For 2024, while some pressure is expected, the margin should still remain high, averaging around 6.7%, which is a healthy margin that allows for flexibility. Key factors for 2024 will be the cost of risk and the performance of the loan book, as I mentioned earlier in response to Tito's question. With that, I will hand it over to Laura to discuss the outlook for reference rates in Colombia.

Thank you, Juan Carlos. Indeed, the outlook for interest rates – Central Bank interest rates will be very dependent on what we've been seeing for inflation in the past few months. We've had four consecutive months of declining inflation. The latest figure was not so positive on the core inflation; nevertheless, it is coming down as well. So we've been – inflation has been driven mainly by receding food prices, and we do see some potential pressures for core inflation coming from fuel prices, some regulated goods such as housing tariffs, and other types of public service tariffs. So we do have a 9% inflation forecast for 2023, perhaps with an upside risk given the potential pressure that I'm mentioning, also climate risk coming from phenomena. But in all, inflation is, in fact, receding. From the point of view of the Central Bank, this is being well received and closely monitored. In that sense, we foresee the possibility of having Central Bank rate cuts before year-end; we're anticipating a first 25 basis point reduction somewhere in the last quarter of this year. Again, this is very dependent on what happens with inflation and how economic activity continues in our market, but we are seeing that possibility toward the end of the year. In line with what I'm mentioning regarding inflation pressures, we still see that interest rate cuts will be gradual and very driven by what happens with inflation and how it continues to come down. We're still very far away from the Central Bank target, so in that sense, for at least 2024 as well, we see gradual rate cuts in that sense from the Central Bank.

Thank you, Laura. And now, Jose, regarding the sensitivity that Yuri asked.

Okay, Yuri, regarding your question on how quickly the margins will compress, we will be able to manage the reduction of interest rates next year because of three factors. The first one is we have, today, more than 60% of our time deposits maturing in less than a year, which means that the repricing of those time deposits will be faster. The second element is we still have a very good composition of funding in terms of savings accounts that are today 38%, and roughly, we are going to maintain the same mix and the checking accounts. Due to these three factors, the compression of the NIM next year will be less than or at around 50 basis points, and our sensitivities for every 100 basis points, our NIM will change 30 basis points.

Our next question comes from Carlos Gomez of HSBC.

I have two questions. The first one is on capital. If you can reiterate, I believe your target to be at 11% by the end of the year. And I have to – I guess two further questions around there. First, is that 11% enough? You mentioned a much more uncertain scenario and a slower economy. Would you feel more comfortable operating with a higher level of capital? Second, when I look at the chart of your capital adequacy, you have a comfortable position in Tier 1, almost 600 basis points above the minimum, but you're only less than 1% above total capital. So it would seem like you need more Tier 2. Is that true? And how do you intend to address it?

Thank you, Carlos. For your question regarding capital, we feel comfortable around 11% core equity Tier 1. The answer is yes, with 11%, we feel that we can manage the risks that we are facing. So at 11% – and I think it's very, very achievable for this year, that 11%, where we feel comfortable. Regarding your second question about the adequacy of total capital, around 12.5%, just being 1.5% above the core equity Tier 1, we feel comfortable. We are always looking for opportunities to manage capital, but with that 12.5% and 11% core equity Tier 1 and with the perspective that we have regarding loan book growth and the risk, we feel comfortable at those levels. I don't know how Jose Humberto, you have additional comments on this regard.

Yes, I want to compliment that the fact, Carlos, that we are having 11% Tier 1, but also we are having a very strong coverage ratio of 90-day past due loans that give us some protection. If you double-check the numbers, we are above the line of 200 basis points of coverage of 90-day past due loans, which help us maintain a very solid Tier 1 ratio as well.

Okay. No, but I guess the Tier 1, I mean, in your chart, you only have 200 basis points and it is total adequacy, which is – I mean, again, if I read correctly, the minimum is 11.5%, we are at 12.45%. I mean, it doesn't look like a lot more. Again, one would think that perhaps you want to have more Tier 2 in the future or perhaps it is too expensive to have it now.

Yes, Carlos. Obviously, all depends on loan growth, and we are expecting single-digit loan growth next year, 2024. But again, we have an opportunity to touch the market with a Tier 2 structure for sure next year or in the coming years. We have availability to do that.

Okay. And one final comment, if I can abuse you a little bit more. Again, given the situation on capital, this year you paid 50% of earnings of the previous year. It seems like things are a bit tighter going into next year? Where do you think your dividend may come out on the 2023 earnings?

Carlos, you know that dividend is dependent on the amount of capital that we want to grab next year, assuming loan growth and assuming macro conditions. So we will have today a clear picture about what is going to be the dividend policy, but we are going to do the calculations to maintain the 11%, but based on the conditions that we presented for 2024.

Our next question comes from Juan Recalde of Scotiabank.

My questions are related to the digital initiatives Nequi and Bancolombia a la Mano. We've seen increasing engagement in terms of number of transactions by clients and deposit growth. However, the loans are shrinking in both Nequi and Bancolombia a la Mano. So I was wondering first, if this is a result of competition, lower demand, or a decision from yourselves? And two, if you can provide us any color in terms of the asset quality trends of the loans originated at Nequi and Bancolombia a la Mano?

Thank you, Juan. As you mentioned, the dynamic of Nequi and Bancolombia a la Mano, it's very positive. I mean we keep growing in the number of clients, in the number of transactions, and usage from our customers; it's growing. In Nequi, close to 70% of our users are active users, and the number of transactions is growing. It's the same thing in Bancolombia and Bancolombia a la Mano. Regarding your point about the loan book on those digital banks, to your question, it was our decision to slow down the new originations. Those two initiatives are focused mainly on middle to low-income individuals, and we are providing them a banking solution according to their needs. But what we are doing is learning more from them in the sense that we need to originate loans that are in the range of our risk appetite. That's why we are not growing as fast as we were growing before. Asset quality in those two platforms was a little above what we were expecting. That's why we decided to take a break and originate differently. Those groups are mainly new to the banking system. Therefore, we need to be careful in how we originate; our digital processes are sometimes new for them, and how to manage those interactions with these platforms takes time. This to say that we will continue advancing in new ways, and with the information that we are gathering from the transactions that they are doing on the platforms, we will continue growing. Our path to monetization and profitability definitely passes through the loan book, and we are expecting for the second quarter to start originating in a different way with different models. We now have a new calibrated scoring model that we are going to use to originate during the second quarter. But also we need to take into consideration the economic situation that is tougher now compared to the beginning of the year or last year when we started originating on this platform. To summarize, we slowed down the origination, we calibrated the models, we gathered new information and we will start – restart with a new strategy, originating loans. We will monitor how they behave and then depending on that behavior and the economic condition, we will be able to further accelerate next year.

Our next question comes from Andres Soto of Santander.

Juan Carlos, I would like you to help us understand a little bit about your Pillars number 3 and number 4 regarding your new strategy, what exactly you think you can do in terms of corporate structure or efficiency and how investors can expect that being reflected in the long-term results for Bancolombia?

Thank you, Andres. As I mentioned, we have four Pillars, and we have the purpose to promote sustainable development to achieve everyone's well-being. You mentioned the third and fourth Pillars. We have a very strong corporate structure and governance; we have been working on that corporate governance for a long time. As you know, and we have mentioned this during this call but also in the past, we are very focused on profitability. So that corporate structure, meaning our presence in the different countries in which we operate and how we are organized. But the corporate governance that we have, our focus on getting that profitability that we are talking about in an environment of risk control. Regarding the fourth Pillar, we are very clear that efficiency and productivity are key at the beginning. Tito and Yuri were asking about 2024, and we have made it clear that one of the key aspects, on top of the others that I mentioned, is how we manage the efficiency and productivity of the bank. We have experienced some pressures from inflation and competition issues that we need to tackle. But we are clear that this focus on efficiency is key during 2024, and we will be a part of how we achieve the results that we were talking about before, Andres.

If I may follow up, when I look at your efficiency evolution, I see the Central American operations that appear significantly above what you have at the consolidated level. What exactly can you do in those operations? Is it just a matter of operating leverage and its growth? What is going to drive improved efficiency? Or are there any specific measures that you can implement to accelerate the efficiency improvement?

As you said, our ratios in our Central American operations are higher than the one we have in Colombia. Volume is very important to dilute some fixed cost in those operations. So that's key, and you mentioned it. But also, we are investing in new technologies that are allowing us to work on that efficiency. For example, in Banitsmo in Panama, we are investing in a new core banking system that is driving expenses high now but will produce results in the future, making us more productive and more efficient. Like that, we are also investing in El Salvador and Guatemala. So it's mainly through volume, but also digitalization and new platforms that we are implementing in the different countries that will achieve that improvement on efficiency in the different countries. But saying this, it's important to take into account that what drives mainly the group efficiency is Colombia. You know that around 70% of our operations are in Colombia, 70% to 75%. So the main driver, at the end, on the consolidated basis for the efficiency of Bancolombia, is Colombia. Of course, the efficiency of the other operations impacts the overall ratio, but Colombia is key to that ratio, Andres.

Our next question comes from Julian Ausique of Davivienda.

I would like to ask you, and it's a little bit of a follow-up on the cost of funds because, as we saw in the presentation, we saw an increase in the funding cost in Colombia. And I think it's due to the restriction of liquidity that we are having in the financial sector. I would like to ask you how you are seeing these pressures in the liquidity in Colombia? And what are your expectations for the next quarters in the cost of funding and also in the NIM of Colombia?

Thank you, Julian. Bancolombia is well positioned in the Colombian market with a well-known franchise. Our branch network and digital channels enable us to reach a large number of retail customers, and we also have access to corporate funding. As you pointed out, there have been liquidity pressures in Colombia. In our case, some funds have shifted from savings accounts to one-year certificates of deposit, which require us to offer higher interest rates for those fixed deposits. Nonetheless, I believe Bancolombia is in a strong position as we seize many opportunities related to the liquidity in the market. However, these pressures, along with current interest rates, are contributing to increased funding costs. Now, I'd like to turn it over to Jose Humberto for any additional comments regarding liquidity. Humberto?

Julian, let me put it in two different ways. The first one is in terms of the bank, as we mentioned previously, we have a strength. If you check the numbers, 50% of our funding comes from checking and savings accounts, which give us a certain level of comfort in terms of liquidity. We only have 35% in time deposits. So we are expecting a kind of plateau in terms of cost of funding for time deposits, at least over the next 2-3 months while waiting for the strong signal from the Central Bank reducing interest rates. Meanwhile, we are not seeing any particular change either going up or down those cost of risk, which means time deposits. From a general perspective in the industry, obviously, because of the net stable funding ratio, all of us, all the banking industry is colliding with time deposits. In our case, we have the strength that we have a different source of funding and not only time deposits. So again, as we mentioned previously, we are expecting to sustain the NIM at least for these next two quarters. And next year, we are obviously expecting a compression of the NIM because of changes in interest rates from the Central Bank.

This concludes the question-and-answer session. I would like now to hand the conference back over to Mr. Juan Carlos Mora, for any closing remarks.

Thank you, everybody, for participating in this second quarter results conference call. As we discussed during the call, the environment has some challenges, but we are confident that in Bancolombia, we are very well prepared to tackle or to manage those challenges that we are facing. For the second semester of the year, we will see a dynamic that will continue in the trend that we are seeing. But we think that in terms of how we will manage them will lead us to achieve those targets that we mentioned during this call. So with this, I conclude this conference call, and I hope to see you on our third-quarter results. Have a good day, and thank you very much.

This concludes today's conference. Thank you for participating. You may now disconnect.