Bank of Queensland Limited

Thank you for standing by and welcome to the Bank of Queensland 1H24 results. All participants are in a listen only mode. There will be a presentation followed by a question and answer session. If you wish to ask a question, you will need to press the star key followed by the number one on your telephone keypad. I would now like to hand the conference over to Ms. Jessica Smith, General Manager of Investor Relations and Corporate Affairs. Please go ahead.

Good morning, everyone, and welcome to BOQ's results presentation for the half-year ended 29 February 2024. Thank you for taking the time to join us today. My name is Jessica Smith and I am the General Manager of Investor Relations and Corporate Affairs at BOQ. I would like to acknowledge the traditional custodians of the land on which we meet today, the Gadigal people of the Eora Nation. I pay my respects to Elders past and present. With me today is Patrick Alloway, our Managing Director and Chief Executive Officer, and Rachel Kelleway, Chief Financial Officer, who will present the results. We are also joined in the room by BOQ's Executive Team and Senior Management. Following the briefing, there will be an opportunity for questions and answers. I will now hand over to Patrick.

Thank you, Jess. Just before starting, I'd like to convey our condolences to those impacted by the tragic events in Sydney over the past week. Our thoughts and support are with everyone who may have been impacted, including BOQ group team members. I'd like to take the opportunity to welcome everyone on the call. I'd also like to welcome our chairman and the executive team who are in the room with me today. This is a very special year for BOQ as we celebrate our 150 year anniversary, a significant achievement. This milestone has given us a moment to reflect on the evolution of the group over that time and what makes BOQ unique. We provide an important banking alternative to the major banks that is centred on our deep customer and community relationships, our strong Queensland heritage and our niche specialty businesses operating nationally. We have recognised that our future success, we need to address our legacy complexity, structural challenges and change the way we do business in the midst of accelerating industry headwinds and an increasingly commoditised market. This requires differentiation through consistently exceeding our customer expectations, lowering our cost to serve, deepening our position in niche specialist segments, diversifying our revenue mix into higher returning sectors and turning our size into an advantage, making simplicity and agility our strength. Turning now to slide 8 for the key messages I'd like to leave you with today. We said at the full year that earnings would be lower in FY24, with the impacts of heightened competition on both sides of the balance sheet more exacerbated for BOQ due to our higher relative cost of funding. We also said that our simplification program would partially offset cost inflation and increasingly regulatory impost, with low single-digit growth in our underlying cost base. Amortisation combined with investment in our transformation would be incremental to this underlying position. The results we're announcing today reflect this outlook. I want to emphasise that we're delivering against what we said we would, maintaining transparency regarding our challenges and the outlook, and that we have a clear strategy in place to respond to market shifts. This half we delivered $172 million in after-tax cash earnings and $151 million of statutory profit after-tax. We're delivering on our commitments and what we can control. We've agreed our remedial action plans, addressing our court-enforceable undertakings with our regulators, and we've received the first phase independent assurance sign-off for the programs. We've commenced steps to simplify the business, centralising our operations and contact centres, exiting our non-core New Zealand asset portfolio, and reducing our property footprint, making a good start to locking in our $200 million productivity target for FY26. Our digital transformation is progressing on plan, with continued growth and uplift in the performance of our retail banking apps. We're pleased to have reached a milestone of four-star ratings on both MyBOQ and MeGo apps. We're in the last testing stages for digital mortgages and MeLegacy migration, with Phase 1 launch for both of these programs commencing in the second half. I'd like to acknowledge that this is a difficult period for many Australians, adjusting to high cost of living, higher interest rates and difficulty with the rental market. We're continuing to support our customers and communities, with a particular focus on those converting from lower fixed rates to higher variable rates, customers in hardship and more vulnerable Australians. We've held firm on our discipline on how we grow and allocate our capital, while home lending is not providing an adequate return. BAQ's financial resilience remains strong, with a CET1 above our target range, prudent liquidity management through the repayment of the TFF, and a well-secured, high-quality lending portfolio. We continue to have high conviction that our transformation plan will address legacy challenges and deliver a stronger and simpler bank. That said, we do recognise the market dynamics have materially shifted since we set our FY26, ROE and CTI targets, and margin expansion in the prevailing environment is challenged. Should the current margin shifts become structural rather than cyclical, we recognise we will need to think differently to elevate additional ways to achieve these targets. I will talk to this in more detail shortly. Moving to slide nine for our financial overview. Our statutory net profit after tax for the half was $151 million, with cash earnings after tax for the half of $172 million. As I said, this result reflects not only the highly competitive landscape, but decisions we've made supporting the delivery of long-term benefits to our shareholders. Recognising the importance of dividends for our shareholders and balancing the need to continue to invest in the business, the Board has determined to pay a 17 cent dividend, a payout ratio for the half of 65.2%. Rachel will provide more detail on the financial results shortly. Moving to slide 10 for a review of the Retail Bank. Income was down 19% on the same period last year, reflecting continued margin pressure in the home lending portfolio and customers switching to high-yielding deposits. The home lending portfolio contracted $400 million in the half as we continued to hold our position on the careful deployment of capital. We deliberately grew me-brand mortgages broadly in line with system, where we have a lower relative cost of acquisition. we will deliver me as our first major scalable, low-cost-to-serve, end-to-end digital brand in FY25. We again saw growth in deposits in the retail bank of $663 million against the prior comparative period, driven by both term deposits and through our digital assets. Pleasingly, we saw an increase of 17% in active deposit customers on the digital platforms. Our improved app ratings and NPS scores, as compared to legacy, speaks to the enhanced customer experience of the new banking platform. We continue to grow the number of retail customers that choose to bank with us, up 7% in the past 12 months to 1.2 million retail customers. Finally, in the retail bank, we've been able to service a broader range of customers, needs with strong growth in insurance, superannuation and card payments, growing capital-light earnings and further strengthening our relationship offering. We are focused on uplifting our ROE. One avenue is through growing these third-party revenues, while also addressing commoditised mortgages and deposit markets through our low-cost-to-serve digital offering. Moving now to slide 11, a review of the business bank. Competition intensified in the business banking sector in the half, combined with an easing of credit settings across the industry. We've retained a disciplined approach to both credit settings and margin management, with lending growth in healthcare and agriculture offset by a cautious approach to larger commercial real estate and slowing specialist home lending. This resulted in stable lending assets and a 4% decline in total income. we're increasingly focused on growing our high-returning niche SME segments, where we have an existing competitive advantage, particularly in our specialist sectors of equipment finance, insurance premium funding and novated leasing. Initiatives completed in the first half to enable quality growth in the second half include investment in business enabling technology, structural changes to streamline and simplify our business bank operations and recalibration of some credit settings given increased confidence in the economic outlook. Moving now to slide 12 for an overview of our customer centric focus. Our customer experience and voice is at the heart of everything we do. We have fabulous examples every day of great customer experiences. We recognise there's always more to be done and we don't get it right all the time. And the experience of our legacy platforms is not meeting expectations. we're committed to a continuous improvement journey to better service our customers the way they wish to be served through both relationship and simple self-help digital experiences to realise our vision to be the bank customers choose. Through the half, we consolidated our contact centre and cross-trained our bankers to support a more seamless customer experience. We've reduced customer friction points and commenced a program of work to improve customer dispute resolution and remediation. We've improved the experience on our new digital banking apps, measured by improved ratings. We've collaborated with our peers on a whole of industry approach to reducing instances of scams and fraud. And we've supported over 220,000 Australians with their home ownership and helped over 170,000 businesses to grow. We know that our customers have a choice in who they bank with and that we need to earn that choice by delivering a trusted, consistent and differentiated experience, supporting their day-to-day banking needs. Moving to slide 13, our purpose guides everything that we do. Building social capital through banking is about being a safe and inclusive place for our people to come to work. It's about facilitating the important services our community partners provide to vulnerable Australians and empowering First Nations people. It's how we provide support to our customers in their time of need. and build our customers' financial resilience through targeted scam awareness sessions and financial literacy programs. We're fostering curiosity, developing future-fit capabilities and enriching our people. We recognise the need to think deeply about how we can build on the culture of the organisation to be a more agile and outcome-oriented group. Pleasingly, in our most recent employee engagement survey, our people have told us they are increasingly proud to work at BOQ and we have again seen an increase in our people feeling safe to speak up, a reflection of the focus on improving risk culture. We've welcomed Rachel Stock as our new Chief Risk Officer and Alexandra Taylor as our new Chief People Officer. We have a highly capable and right-sized executive team, passionate about transforming this business and leading our people through this next phase of our transformation. Moving now to slide 14, transforming the business. We are confident in the decisions we have made, addressing not only the decade-long legacy complexity and underinvestment, but to build a stronger, simpler and digitally enabled bank. I will now talk to our strategic pillars in more detail. Turning to slide 15, strengthening BOQ. We said we would embrace the court enforceable undertakings as a platform to build stronger foundations, and we have done that. We are committed to working openly and transparently with all of our regulators while we continue to strengthen BOQ. Our immediate action plans have been agreed with our regulators. We have mobilised teams, established project governance and progressed the design phase for both programs. Our independent reviewers have been appointed and successfully completed their first review of the initial phases of the program. These are multi-year programs of work. Across both programs there are 17 workstreams and 84 deliverables. For program RQ, in addition to the mobilisation in this half, we've enhanced management and board governance practices and commenced the design phase for all nine workstreams. Progressing the design phase is the primary focus as we go into the second half. For AML First, which is a program that's been running for over 12 months now, we've completed and closed five deliverables. Nine deliverables are in the implementation phase and 15 are in the design phase. Importantly, the uplift of the group's anti-money laundering and counter-terrorism financing policies and framework has been completed. This is the cornerstone of the program, setting the guardrails for the way we manage AML and CTF risk. In the second half, AML First is focused primarily on progressing the design and implementation of activities, particularly our AML and CTF capability and customer risk assessment. Alongside this important work, we retain focus on the financial resilience of the bank. Prudent provisioning and, as I mentioned earlier, have joined industry-wide approaches to protecting customers from an ever-sophisticated scams and fraud landscape and continue to invest in the uplift of our cyber security. Turning now to slide 16, simplifying BAQ. We said we'd implement a simplification program against four key work streams to progress against our $200 million productivity target, and we are doing that. Key highlights in the half, we progressed our operating model optimisation, which has allowed us to reinvest in our in-house projects, risk and technology capabilities. We consolidated our operations team and contact centres, We completed divestment of the New Zealand asset portfolio and we've automated further 43 key processes in the half, encompassing customer onboarding, cards management and regulatory reporting. We've reduced over 6,000 square metres of floor space with a strong pathway for the remaining 10,000 square metre reduction. Over the life of the leases, this will provide $40 million in savings. Turning to slide 17, digitising BOQ. We said the significant milestones in 2024 will be the delivery of digital mortgages and commencing the migration of customers from the MeLegacy platform. We are well progressed against this plan. We are proud of what we've achieved since we announced our 2020 strategy to deliver a cloud-based digital end-to-end bank. Our well-proven team is delivering against what we committed to, on plan, with our seasoned digital transformation capability now a competitive advantage. The transaction and savings accounts for all three brands on the cloud-based bank that were delivered are performing well. We have 23% of our retail customers now on the digital bank. 56% of our IT assets are in the cloud. And 100% of our people are on one Microsoft 365 platform. We're in the last testing phases of the digital mortgage. In the second half, we're commencing phase one of product launch with a Virgin Money digital mortgage. This will then be extended to Me Brand and our broker channel, followed by further capability releases to the market over FY25. The delivery of digital mortgages will enable BOQ to compete at a lower cost, a faster time to yes, with a materially improved customer experience. Customer migration of legacy platforms will be the most challenging and beneficial period of our transformation. As we said at the full year, this migration will take 12 to 18 months, at which point we will decommission MeLegacy. We're at an exciting juncture on our digital journey. However, we recognise migrations are not without risk of potential interim disruption for our customers, and careful execution against the plan will reduce this risk. We have a well-planned and sequenced process which incorporates learnings from other industry migrations. We will provide extra support to our customers through this period. Migration off the Mi Legacy platform will reduce complexity and risk with end-of-life systems. and is an important step in our productivity program. Cybersecurity remains a key focus for the group. In an environment where the threat landscape continues to evolve, we recognise the need to continually monitor and enhance our cybersecurity posture. We engage leading cybersecurity consultants to undertake regular independent reviews of our capability and maturity. Finally in Digitize, our partnership with Microsoft is helping BOQ accelerate our transformation in cloud, customer experience, data and AI. Turning now to slide 18, optimising BOQ. We are evolving our strategy as the market shifts and elevating our focus on improving shareholder returns, considering initiatives less dependent on home lending margin recovery and growth to achieve our FY26, ROE and CTI targets. We said at the full year that achieving these targets required the competitive mortgage and funding market to be cyclical rather than structural. There could well be elements of the dynamic market shifts that the industry is experiencing that are both cyclical and structural, requiring further action to address this. Our core strategic pillars of strengthen, simplify and digitise support a lower cost to serve, higher returning bank and will not change. We are evaluating the potential to make bolder strategic decisions with respect to our optimised strategic pillar to address potential structural headwinds. These considerations include a shift in our revenue mix, a further simplification of our operating structure and capital optimisation initiatives. Before I hand over to Rachel to provide a more detail of the financial results, I wanted to reconfirm the confidence I have in our management team, the discipline we've shown in executing against our strategy and the considered way we've deployed our capital. Over to you, Rachel.

Thank you, Patrick, and good morning, everyone. In the first half of the year, BOQ Group has delivered cash earnings of $172 million. Against the prior comparative period, total income reduced 12%, with net interest income falling 13% and stable non-interest income. Total expenses increased 6%, reflecting the impact of inflation and continued investment. We saw loan impairment expense reduce 56%, driven by a reduction in collective provisions and continued low specific provisions, which resulted in cash earnings down 33%. Statutory profit after tax of $151 million was up on both prior periods. As announced to the market on 2 April, the sale of the New Zealand asset portfolio has now completed. We saw small gains on the amortisation of acquisition fair value adjustments and a small loss in hedging ineffectiveness. Turning now to the key elements of the result on slide 22. $795 million of total income was down 12% on the prior comparative period and 5% half on half. NIM contracted 24 basis points against the first half 23, with a three basis point decline half on half. This reflects intense competition across both lending and deposits. Whilst lending impacts moderated in the half, funding costs continued to increase across both wholesale funding and retail deposits. The housing portfolio contracted 2% against the prior comparative period. Within this, we targeted our growth. As Patrick mentioned, the Mii brand grew broadly in line with system, while our other brand portfolios contracted. We saw a number of property developments complete in the business bank, with this runoff being replaced by growth in novated leasing and our prioritised niche segments in healthcare and agriculture. Customer deposit balances grew against the first half 23, however reduced on the prior half as our funding position was strong. The rapidly changing operating environment has required us to make disciplined and at times difficult management decisions in order to find the right balance in optimising revenue, returns and ensuring prudent capital, funding and liquidity settings. We have for three halves now spoken to you about tempering and slowing growth in housing where economic returns have been competed away. This pressure on margin has been further impacted by the rising rate environment causing customers to rightly seek yield after a lengthy period of low rates and the repayment of the term funding facility causing a distortion in deposit competition. This dynamic, combined with not growing our assets at sub-optimal returns, meant we did not have to fund material growth in this environment. It also meant we safely transitioned through this period with careful management in respect of financial resilience, and it allowed us to continue to invest in the long-term benefits the transformation will deliver. Unpacking NIM in more detail on slide 24. Asset pricing and mix had a three basis point negative impact. Within this, retention pricing continued, but at a lesser pace, with a four basis point impact in the half. The shift from fixed to variable provided a tailwind to margin of four basis points. Front to back book compression was three basis points, with two in housing and one in business. Funding costs continued to increase, driven by competition in deposits, particularly term deposits, which impacted NIM by six basis points. This was partially offset by a benefit of three basis points from at-call savings. Wholesale funding has seen a drag of three basis points as the TFF was replaced with higher-cost funding. Our overall funding requirement was less than the prior half. We saw a tailwind from liquidity as we normalised our LCR through the period, providing a benefit of three basis points. We saw a further four basis points benefit from the replicating portfolio. On the outlook for NIM, we are expecting very similar themes to what I described at the full year, though pressures are moderating. Competition will continue, mostly impacting mortgages and also deposits as the industry normalises post-TFF. The higher cost of funding will continue to flow through. A tailwind will continue as the remainder of our fixed-rate mortgage towers convert to variable, and our replicating portfolio will continue to provide a benefit. Turning now to operating expenses on slide 25. In an environment characterised by declining revenues, we have been disciplined in our cost management. BAU expense growth of 1.2% included the ongoing impacts of inflation and increases in risk, technology and compliance. This was partially offset by simplification program benefits, lower volumes and a decrease in marketing spend. As previously flagged, we saw an increase to investment in the OPEX line. We also saw a small reduction in amortisation, which I'll cover in more detail shortly. Looking to the second half, we are still on track to deliver low single-digit BAU cost growth, though it will be higher than the 1.2% seen in this half. We will see the full half impact of higher risk, technology and compliance spend. marketing spend will likely increase as we launch the digital mortgage. Simplification will continue to provide benefits. I do want to reiterate that we have had the run and maintenance costs of our legacy platforms concurrently with the maintenance and build of the new digital bank. Alongside high inflation, this has been a difficult period to manage costs and we're pleased with the outcome in the half. Total investment spend has reduced, and we have seen the nature of investments slightly more weighted towards OPEX. Our amortisation for this half has reduced, predominantly due to post-integration ME assets that we no longer have on the balance sheet. With the digital mortgage product nearing market launch and infrastructure for customer migration near complete, we have an increase in our assets under construction. This trend will not continue as these assets are expected to commence amortising in FY25 and we now expect amortisation to peak in FY26. Impairment expense for the half was $15 million, down 56% on the prior comparative period after a period of building collective provision coverage. This half we have seen strong underlying asset values and low specific provision activity. Provisions were stable for the half with a small increase in collective provision offsetting a reduction in specific provision. We maintain prudent settings given the current economic cycle and have 41 basis points of provision to GLA coverage. While the economic outlook is becoming more certain, we have maintained a 45% weighting in our forward-looking models to downside or severe downside economic outcomes. Arrears have increased across all portfolios, driven by sustained cost of living pressures and a higher interest rate environment. These have not translated to increased losses. We recognise that some customers are feeling the impacts of these dynamics more acutely, which is translating to elevated hardship activity, and we are seeing pockets of business customers needing closer support as they manage difficult trading conditions. What we can see is that most customers are adjusting and while there are customers who are needing closer contact and assistance, on aggregate we have seen household buffers slightly increase rather than decrease in the half and more customers building a buffer than drawing down. Turning now to funding and liquidity on slide 28. Our financial resilience remains strong and we have continued to take a disciplined approach to liquidity. Following a significant TFF maturity in the first half, we have reduced our LCR in an orderly manner. We have ended the period with a spot LCR of 132% ahead of settling a $1 billion securitisation transaction in early March. Repaying the TFF is well progressed with the final $1.1 billion of repayment due in the second half from an initial $3 billion drawdown. Growing customer deposits remains a key focus for the group. In a period of intense competition, deposit funding as a percentage of total funding is the highest it's ever been at 71%. Turning to capital on slide 29, and we have ended the half with CET1 at 10.76% as we continue to support investment in the business. Earnings contributed 42 basis points to capital in the half and we saw a five basis point increase from lower RWAs. The second half dividend net of the dividend reinvestment plan returned 31 basis points of capital back to our shareholders and we utilised 10 basis points of capital for investments. There was a one-off impact of five basis points to capital from the sale of the New Zealand Asset Portfolio. As completion of the deal occurred post the end of the period, RWA benefit will come through in the second half. We have declared a first half dividend of $0.17 with no discount applied to the DRP. We maintain our target capital range at 10.25% to 10.75% with a dividend payout ratio of 60% to 75% of cash earnings. In summary, this half again featured heightened competition. We saw that particularly in deposits as TFF replacement continued across the industry. Arrears increased as sustained higher costs of living and increased interest rates impacted on household budgets and customers sought relief as they adjusted to these changes. We have been disciplined in our decisions on where to grow and delivered on our cost management commitment. Investment in transforming the business increased with two key components of the digital transformation moving to delivery in the second half. With that, I will now hand over to Patrick to provide an outlook and summary.

Thank you, Rachel. Turning to slide 31 for the second half outlook. Despite the continuing impacts of high inflation, higher interest rates for longer and geopolitical uncertainty, the Australian economy remains resilient, supported by low unemployment and strong investment. We anticipate that we are at the peak of the cash rate tightening and the economy is at the bottom of the cycle, though the easing of monetary policy may not occur until late calendar 24 or early 25. We acknowledge there will be lagged impacts of this cycle on many Australians, and we will continue to support our customers in need through this period. With respect to BOQ performance in the second half, we anticipate low single-digit BAU cost growth, though higher than the first half, as Rachel mentioned. We anticipate revenue and margin pressures to moderate. We anticipate deposit competition is likely to remain heightened while the industry replaces the term funding facility. Home lending margin compression is stabilising and system housing credit is likely to grow over the next 12 months. In this environment, we anticipate our home lending decline to moderate and that our business bank growth will increase. To summarise on slide 32, we are delivering on our commitments and what we can control. We have a clear strategy in place to address our legacy challenges and deliver BOQ as a stronger and simpler bank, focused on specialised segments. We remain in a strong financial position to support our customers and to continue to invest in our transformation through the cycle. We're on the verge of delivering a market-leading digital mortgage experience and commencing migration of customers from our MeLegacy banking platform both material proof points in improving our customer proposition and lowering our cost to serve, enabling us to better compete in a more commoditised home lending market. We're responding to potential structural market shifts impacting returns and considering additional initiatives to uplift our return on equity and shareholder returns. Transformations of this scale are difficult and take time. and are particularly challenging with a backdrop of industry headwinds. We recognise that an investment in BOQ requires patient trust in the management team to deliver. We take this responsibility very seriously and we will continue to be transparent about our challenges and what we are doing to address them. I'd like to take this opportunity to recognise the importance of our shareholders, customers and our people and thank all of you for your continued support. I'll now pass to Jess for questions. Thank you.

To ensure we have sufficient time to answer questions from all participants, we ask that you limit your questions to two each, please. Operator, can we please have the first question?

Thank you. If you wish to ask a question, please press star 1 on your telephone and wait for your name to be announced. If you wish to cancel your request, please press star 2. If you're on a speakerphone, please pick up the handset to ask your question. Your first question comes from Ed Henning with CLSA. Please go ahead.

Hi, thanks for taking my questions. I've got two. Firstly, on costs, can you just run us through in a little bit more detail about the increasing OPEX investment? Previously, you know, at FY23, you called it out being, you know, materially higher. You've taken out the word materially. Maybe it's stepped up a little bit in the first half, and you've only... If you look on slide 26, you've only capitalised around 26% or so of the investment spend. Can you just run us through how we should think about that firstly in the second half and then kind of going forward into 25 and 26 and how much for headwind that amortization is coming through as a first question. And then if you go to slide 18 where you're talking about the targets, I'd be just interested in a little bit more detail what you're talking about potentially thinking about around the cost-based optimisation where you talk about there and also the capital optimisation. And within that, you know, if there is structural changes to what's happening around the margin, what would you see your targets currently at for 26 for cost of income or the ROE, if possible, please?

Thanks for your questions, Ed. I'm going to ask Rachel to respond to your first question, and then I'll come back to you on the second question.

Sure. Hi, Ed. So there's a couple of things within just unpacking your question. So the first thing I'll say is we did talk about investment spend. If you exclude me integration and the provisions we took for the wraps, we did talk about investment spend increasing into FY24, and you're seeing that on page 26. That will continue to increase slightly at a total investment spend level into the second half, but it does peak in this year, in FY24, and will come off in FY25 and 26. We are working towards what we think is probably a more standard PropEx to CapEx mix of that investment, so something looking more like 50% uh in each but that will happen later um towards the end of our strategic horizon given what we're building at the moment are sort of really uh asset intensive capex um platform assets and then we move more to sort of digital assets at the at the back end of the program um so what that does is it means that amortization um will move out to sort of the peak of amortization out to fy26 we will continue to see prop x increase uh this year and again next year

Thanks, Rachel. And just to your second question, we recognise that in this depressed margin environment, we have more to do and we're looking at additional pathways to increase our returns. You raised questions in relation to our cost optimisation program. So we put in place the $200 million productivity program at the end of last year. That was to give us a bigger buffer in the event that we didn't get the margin recovery or the growth that our models were anticipating based on the declines that we've seen. We are very well progressed in that program, but we continue to look at opportunities to attack our fixed cost structure. and look at ways to take cost out. And they're really across four key areas. One is the operating model. So we are centralising many activities and moving to a shared service model. We called out that we have already consolidated our contact centre activities and we've consolidated our back office operations team. We are reducing our footprint, so we have called out that what we've done to date has locked in about $40 million in savings to the end of the life of leases. We've got more to do with another 10,000 square metres that we're targeting. Our digitise program in particular, our digital mortgages and our... MeMigration will provide significant cost savings to the organisation and they are key programs of work to lower our cost to serve in a more commoditised marketplace. We're also looking at improved ways of using AI. We're looking at improving and automating our processes. So there are multiple streams of work. we have not identified further pathways as yet, but we're very focused on identifying our cost base and reducing our cost to serve as a major contributor to uplifting margins. On optimising the balance sheet, this is nothing new. We said at the end of last year we are more focused on return on equity than we are on growth, and so you are seeing us being more prudent about how we allocate our capital, ensuring that we get an appropriate return on our capital, We will continue to look at our portfolio of assets to ensure we get appropriate returns. We also said that we were looking to shift our business mix at the end of last year to grow in higher returning sectors. And obviously our business bank niche sectors that we operate in are absolutely key to that. we also have also suggested that we're going to look to grow capital light third party non-interest income and you would have seen in the retail bank you know we are progressing that initiative as well so there are a number of initiatives underway it's nothing new to to what we've said previously but we are very focused on uplifting that roe okay no that's that's great thank you and if you did

while some of those are still coming in and if the structural headwinds on margins continue kind of where they are, is there any guide on what 26 targets would be with what we know now or you're kind of waiting to hopefully get a few more things in place before coming back on that?

Look, margins are not something that we can forecast. What we are trying to do is control what we can control and the initiatives that I've spoken to support those targets. What we've said to you, and we said this at the end of last year, if this is structural... We will not achieve those targets with current initiatives, so we are addressing new pathways and additional initiatives to ensure that we meet those targets, and we certainly recognise that we need to lift our ROE, and it's not sustainable at current levels.

Okay. Thank you very much.

Your next question comes from John Story with UBS. Please go ahead.

Great. Thanks so much, and thanks, Patrick, for giving the chance to ask a few questions. I think kind of just following on from some of the stuff that Ed was talking about, maybe just particularly around the cost base. I mean, one of the things that I would call out there is page 13 of your actual results booklet. You can see that the composition of your costs have moved quite a lot. Your staff costs up 14% year-on-year, 7% half-on-half, and appreciate the nature of where that cost or the staff cost build is coming through. It's ultimately more risk compliance than kind of IT costs. But just in terms of some of the discussions that we had last year around kind of a billion-dollar cost number that was getting thrown around, the increase in the staff cost number and what you're embedding in this business, is this a run rate that we should kind of think about going forward in terms of the growth of the staff costs line item and in terms of how this mix change would impact some of your targets going forward? So that's the first one. And then just the second one, obviously in a pretty difficult position, I think, as you've outlined, and I think rightfully so, in a position where you're trying to defend ROE and obviously not writing as much business in a very competitive market to reflect that, but you're ultimately also faced with NIM compression that's coming through at the same time. So there's clearly quite a lot of revenue pressure just around your business. Related to that, I wanted to just find out how quickly can you basically re-intermediate yourself into the market and start growing again? That's the first part of it. And then how reliant actually is BOQ in terms of the margin expansion or stability story from a falling or declining interest rate environment?

Thanks for those questions, John. There's quite a lot to answer there. I'll make some comments on IROE, but I might get Rachel just to comment on the cost questions that you had.

Yeah, sure. So you're right in pointing out, John, that we've seen a 14% increase in employee expenses. There's a couple of things here, and one of them is the mix of our business. So we embarked on an operating model review and restructure at the end of last year that has reduced our FTE by 220%. FTE however there's been reinvestment in risk and we've called out risk regulation and compliance particularly so there's a mix issue in terms of the cost of resourcing but it is where you would expect us to be as we deliver the strengthening programs for the organisation and also the digital transformation I mean it goes without saying that also included in that number is the impact of inflation and particularly wage price inflation as well.

So I think just to re-emphasise what we said at the end of last year as well, John, that the target is to hold our BAU cost base flat by 2026. And the growth in costs really will come from OPEX and investment spend and amortisation. So that's certainly what the productivity targets are achieving. In terms of ROE and when we return to growth and just how we're addressing the margin position in the market, we are not comfortable with a declining book. But we have said that we don't want to allocate capital where we get an inadequate return. We've actually gone back and done an exercise where we did look at what our returns would have looked like if we had grown in this marketplace at current margins and our profitability would be lower, our ROE would be lower and we would have used more capital. So we do think it's the right decision. In terms of when we return to growth, our strategy is addressing this in a couple of ways. So the first is we've been on this journey to build a digital end-to-end retail bank. That's really all about cost to serve. And that's a key part of our return on equity. We are delivering digital mortgages in the second half. And we'll, in FY25, have digital mortgages on an end-to-end basis for our customers. That will halve our cost to serve. So we do see the opportunity to grow our home lending book. on the new digital platform with a much lower cost base and improved return. You would have also seen that whilst we have seen declines in home lending, we're growing me at about just above system. Our cost to acquisition on me is much lower than in our BOQ book. We are growing low LVR, so lower capital uses, usage higher returning mortgages through me. Me will be the first brand that we actually put on the digital platform and decommissioned legacy. What we did say is that we are seeing margin compression moderating. We do anticipate with that new digital bank that we will deliver a much enhanced customer experience and we will grow the book through that. But at the same time, we're not going to rely on that. We do see business mix is really, really important. So we have taken positions in the first and prepared in the first half to grow our business banking book in the specialist sectors where we do have a competitive advantage and where we get a higher return. So you will see a shift in the mix of our portfolio. We're also very focused on growing non-interest income. And you're starting to see, and as a small bank, it's more beneficial to us. In the first half, we generated $24 million of third-party insurance, superannuation and credit card income. That's a growth of about $5 million half on half. which is quite material given the cost base that produces those. So there are a number of initiatives that we're looking for. We do recognise that we have to grow, but at the same time we want to ensure that we focus on quality growth where we get an adequate return.

Your next question comes from Brian Johnson with MST. Please go ahead.

Good morning. Can you hear me? Yes, we can.

Thank you, Brian.

Fantastic. Thank you. Patrick, thank you very much for the opportunity to ask a question. Patrick, the first one I had, at the last result, the FY26 ROE, when we asked had it been mapped out, we were told it had been. Can I just check? I'm sensing that it's a target, but now you can't specifically map out how you get there. You've got some levers that you think you can pull. but you haven't been able to specifically map it out. And then as a subset of that question, can I ask if it means that basically you can't see how you get there, how you get to basically on your cost of capital, what strategically do you do? And then I have a second question, if I may.

Thank you, Brian. So first of all, we have a very detailed financial model. It's a five-year model, but obviously the targets are FY26, which relies on certain assumptions around margin recovery and growth to get those FY26 targets. We recognise that those targets were set over two years ago and that the market has materially shifted since that time. And that's why we initiated the productivity initiative that we did last year to give ourselves a buffer. But those targets do rely on margin recovery. And if this margin compression is structural... then we do need to find additional pathways to get there. So what we're saying to you today is that we still have financial models and detailed financial models that support those returns, but we are looking at additional pathways to get there, recognising that we've had a material decline in margin. Margins are down across the industry, 60 to 70 basis points from pre-COVID levels. And we're very focused on how we address that. So we will certainly come back to you if we don't believe we can meet those targets. But we have a plan. We've got a clear strategy in delivering our digital bank, which will improve that proposition. And we're looking at additional initiatives to drive different business mix where we have higher returns. additional productivity initiatives and we're also looking at optimising our balance sheet so they're important initiatives that we will continue to work on. In terms of if we can't see how we get there what's our strategy you know we have a board strategy day every May these are the sorts of discussions that we have but we have a clear strategy today that we have high conviction in and we're very committed to that strategy.

Patrick, the second question, which is kind of related to it, and I really want to stress that often stock markets aren't fair, but they are what they are. Last year, we saw the dividend was 41 cents, and you got a first strike on the REM report. It was down from 46 cents the year before. This was all flagged up front, but today we can see the dividend has been cut to 17 cents. and it feels as though year on year the dividend will still be down. Can I just ask, having got a first strike at the REM report last year, does this have any consequences for the near-term strategic performance of BOQ? What does the risk of a second strike mean for the near-term performance of BOQ? And please, I'd really stress that if I was advising, I would suggest that these things happen and you shouldn't kind of short-term anything, but I'd be interested in your perspective on this.

Yeah, so Brian, just in relation to the dividend, we have consistently said that we have a target payout ratio. So if earnings are down, the dividend is going to be down. We've also said that while we're investing heavily in the business, we will continue to pay at the lower end of the payout ratio. So there should be no surprises in relation to the dividend. We also said at the end of last year that earnings would be down. So I think the market would have implied from that that the dividend would be down as well. What I can say to you is we're controlling what we can control. I can't forecast to you how shareholders might respond to where the dividend is or what impact that might have on a strike. We've got a very clear strategy. The board and the management team have very high conviction in that strategy and we will continue to execute against the plans and to call it as it is.

Thank you.

Your next question comes from Jonathan Mott with Baron Joey. Please go ahead.

Thank you, Patrick. Just a couple of questions on similar topics. You've talked a lot about the digital mortgage offering being tested in the second half and rolled out again and rolled out after that in FY25. You've also talked about industry margin. Is it structural or is it cyclical? And some hope there'll be some recoveries. If we assume that current industry pricing is permanently lower on mortgages, will you be able to cover your cost of capital with the new digital offering? It is lower cost. You talked about a much lower cost base. But with current margins, will the digital mortgage still cover its cost of capital?

Thanks for that question, Jonathan. Look, what we look at when we look at our returns is our business mix in our portfolio. There will always be aspects of the book where we don't get a return above our capital. We have taken the view that given the size of our portfolio and mortgages, that adding to that at this time at where margins are today is not prudent. We will get a decent uplift from halving our cost to serve in FY25 in relation to home lending. But you've got to look at it on a portfolio basis. So we will grow parts of the book that don't provide an adequate return. It really comes down to our business mix.

Okay. And then one of the other... points that you talked about on slide 18, where you talked about the additional considerations to appropriate targets, is talk about simplifying the distribution channels. Can you elaborate on what that means, especially in the context of the owner-managed branch channels?

So, Jonathan, we are looking at the cost, like all banks do, of the distribution channels that we currently distribute to. We are looking at ways to optimise that. I've got nothing more to say about that today. And we will continue to focus on how we can reduce our acquisition costs and how we can reduce our cost to serve.

Thank you.

Your next question comes from Andrew Lyons with Goldman Sachs. Please go ahead.

Yeah, thanks and good morning. Just two questions, if I may, just starting with the margin. Looking at your divisional performance, your retail NII to GLAs was down 10 basis points in the half and commercial was down 11 bps, and yet obviously your group margin was down just 3 bps in the half. Now, clearly some of this relates to liquids, but it would appear that there are some other moving parts effectively impacting the retail commercial versus the overall group NIM. So can you maybe just explain... exactly what they are and then I have a quick second question as well.

Yeah, sure. So if I just take a step back for a second and talk about the group margin for a second and then I can piece together the divisional differences as well. If you take the three basis point impact relating to lending, that is primarily impacting the retail bank. So you've got negative four in terms of retention discounting. That is largely offset by fixed to variable mixed benefits and but the housing front-to-back book reduction, whilst moderating and particularly moderating sort of over the last few years, it's still an impact more so. Business front-to-back book is also a negative one, but is obviously less than mortgages. Now, don't forget that the business bank does actually still have a mortgage portfolio, so there are impacts in that divisional NII to GLA number there. relating to mortgages in the business bank. Funding costs relatively even, although what we've seen in the business bank is that the deposits are lower. We've seen highly competitive corporate deposit action. We think that is probably largely driven by the fact that the major banks are looking for big chunks of money as they replace the TFF, and they've been pricing quite highly so we have taken sort of a margin optimization view there and so um we've we've found it more beneficial to to raise funds through retail deposits um in this time so there's that impact there in the business bank as well and then as you called out liquidity is a benefit um along with the capital and low cost deposit replicating portfolio benefit that comes through and benefits both sides

Can I just, I guess looking at the divisional disclosures just on page 32 of the 4D, it does seem as if there has been a pretty, well, a reasonably material swing, call it a $10, $11 million swing in NII and the other business unit, which appears to be put down to timing of break costs and benefits increase. and other ongoing interest rate management. Can you just give us a feel, will they be sustained going forward or will we see those reverse within the other business units?

We typically don't, and we're talking reasonably small numbers, but I take your point on there being a $10 million swing, but we don't see material other segment revenues come through. The one piece, as you've called out, is the break costs, and that really depends on where interest rates go in the next couple of periods in terms of what customer behaviour is around that.

Okay, no, thanks. Appreciate that. And then just a very quick one. Can you just provide a bit of detail just around the 27 basis point rise in your commercial pastures? I think you've sort of mentioned a few sort of small teething issues for a small number of your companies, but can you just go into a little bit more detail around that and just your comfort around collateralisation and what that might mean for losses down the track?

Yeah, so we're obviously very closely monitoring arrears given the tick up. What I would say is that about half of the commercial arrears increase relates to expired facilities. So these are customers we're working with largely to just confirm documentation. The vast majority of those customers are still paying their loan on time. When we look at the remainder of that arrears portfolio, we're not seeing any real trends in terms of particularly in one industry. And so there's obviously impacts in consumer-facing industries. We've also seen some pressure in dentists and GPs as they're dealing with post-COVID impacts. But it is a really strongly secured portfolio, well above 90% secured lending. And so whilst arrears are ticking up, that combined with the fact that we're really strongly provisioned and very few actual losses gives us some comfort.

Thank you.

Your next question comes from Richard Wiles with Morgan Stanley. Please go ahead.

Good morning. I've got two questions, please. Firstly, can you give us more of a breakdown of the $200 million of productivity savings you're targeting? And secondly, you've mentioned deposit competition a few times. Do you think rate cuts would be Good for deposit competition or bad? Would they make deposit competition better or worse in this environment?

So I'll start with deposits. I mean, it's a really interesting dynamic at the moment, given how close we are to repaying the TFF. I'm going to start with retail deposits. We've actually seen competition start to moderate, I would say, in the retail space. But as I just talked to, competition in the corporate space is still a very highly competitive market. We think that the impact of lower interest rates, if I take the fact that we hedge our portfolio against interest rate movements, that's obviously the replicating portfolio. We do that to smooth earnings. So that would be the first thing. In terms of how the market responds, I mean, we've seen some pretty interesting market dynamics over the past few periods. So I think it would be a dangerous place to talk about where we think market dynamics will go as interest rates reduce. However, we've got a really, really strong product team who, particularly when interest rates move, whether that be up or down, they are looking to optimise at every opportunity.

Great advice. Richard, I'll comment just on the breakdown of the 200. So I think what we'd say to you is we're on track in delivering against those targets. As I said, there's four aspects to that. One is that at the end of last year, we restructured our operating model to consolidate like activities into a shared service model. and that has produced material savings. We won't give you detail of the breakdown, but these are contributing. The second is our property footprint, which I've spoken to. The third piece is the digital rollout, and the big impacts are going to be in FY25 and FY26 from digitalising mortgages and decommissioning our MeLegacy platform. And the final one is that we're working, uh, actively through procurement with our third party service providers and, um, looking to significantly reduce our cost base and third party service providers as well. Um, it wouldn't be appropriate to give you a breakdown across those, uh, but we've made really good progress in the first half and, we'll continue to execute against that.

Could I, thanks Patrick. Could I just follow up Rachel on your comments around deposit pricing? Um, You know, I think in retail markets there hasn't been much competition recently. You know, the deposit rates, the savings accounts rates haven't gone up since December. But I'm more interested in what would happen when rates fall. There are some very, very low rates on standard online saver accounts. The major banks are all offering rates that are well below the cash rate. Yes, there are some good introductory rates but they only last for three to five months. So I'm sort of wondering whether you think when rates start falling, what happens to those standard online saver accounts? Can they go down as much as the cash rate? Because they certainly haven't gone up as much.

Yeah, I mean, you can see we've actually outlined some analysis in terms of where the bandings are for where we have customers sitting on different rates. So there's absolutely a flaw to, you know, as cash rates come down, how much banks can also bring customer rates down. As you pointed out, deposit rates in the retail space have stabilised and we've seen much less switching, as you would expect, as interest rates have stabilised. So much less switching into higher yielding accounts for customers. And so, I mean, ultimately, this is exactly why we have a replicating portfolio to protect against the downside. And so we've got, you know, five-year duration on our replicating portfolio. At the moment, that's still providing benefits to margin and that will be a hedge against interest rates reducing as well.

Thank you.

Your next question comes from Andrew Treggs with JP Morgan. Please go ahead.

Thank you. Good morning. First question just on slide 29 on capital. So you saw negative organic capital generation in the period despite RWA actually being a tailwind to capital. Just interested in the settings for growth, Patrick and Rachel, and what, I guess, limitations that puts on your ambitions for growth. And is there anything that would meaningfully change that will move the dial on organic capital generation in the near term, please?

So I might make some opening comments, Andrew, and see if just Rachel wants to add to that. So I think what we've said to you is we are very focused on ensuring that we get an adequate return on capital and that we do generate capital through our asset portfolio. As you look at our capital base today, we have a number of levers that we can pull, but we've talked about growing... the business bank in the second half. We think that will generate growth in capital through the returns that we get from that. And we are right at the top end of our capital range where we're currently trading and feel comfortable with the investment profile that we have, the asset growth profile we're looking at the second half, that we will still operate in our target band that we've currently set.

I'll open it, Patrick. So most banks describe they have similar style ranges around their capital ratios, but most banks would want to be at the top end of the range when they pay a dividend, given the impacts it has on capital in the following weeks and months. Is that not the way that you think about it too? And as a result, are you comfortable moving more into the middle of the range?

So we currently are at the top end of our range today. In fact, we're slightly above the top end of the range. We are very comfortable sitting in the middle of the range as well. We have strong buffers on rotary buffers, and so the management target range is a range that we would be comfortable to operate in through the cycle.

Thank you.

Your next question comes from Matthew Wilson with Jefferies. Please go ahead.

Yeah, good morning, Matthew Wilson-Jeffries. Hopefully you can hear me OK.

We can. Thanks, Matthew.

There's been lots of talk today about assets, et cetera, but really one of your key challenges, if not the biggest challenge, is your deposit profile. Transaction deposits are only 8% of your book and they're shrinking. That's less than half Bendigo. It's a third of the size of the major banks. And indeed, now your mortgage offset accounts exceed your transaction balances, which is obviously very damaging to NIM. Can you talk about your strategy to sort of grow your transaction accounts, change your deposit profile? Because that's the thing that's really driving your margin pressure. And then secondly, if you think the economy is anticipated to improve over 2024, why will interest rates be cut?

So thanks for your questions, Matthew. First of all, on deposits, we have recognised for a long time that we have a lower transaction account base than our peers, and that's due to the poor customer experience on our legacy banking platform. The digital strategy... and the digital banking apps that we've launched are a key part of the strategy to shift customers onto a better banking experience and to have their main financial institution banking accounts with BOQ. We've got 23% of our customers now on that platform. It's a deposit base of about $6 billion. We recognise that that will take time to grow. But in the space of 18 months, we've seen significant growth on the new banking platform. And we see it as our strategy to address this ongoing legacy issue. In relation to your question about the economy, the real question is really where inflation is going. And obviously, inflation has come down quite significantly over the past period. We think... The Reserve Bank activity really is focused on the inflation band that they are targeting. And if inflation does continue to come off, we do expect an interest rate cut. And I think the market is, if you look at the yield curve, either late this year or early next year. Whilst the economy is resilient, there are still parts of the economy that are really suffering. disposable income is at the lowest level we've seen probably in 50 years. That's impacting consumer sentiment. It's impacting a number of sectors in the economy. And so whilst we do think the economy has bottomed, we are not suggesting significant growth from the current levels. We do see small growth into next year. We do see the unemployment rate going higher. So our view is when you balance all of those things, we think the interest rate cycle has peaked and we would expect interest rates to come off next year.

Just as a follow-up on the deposits, because really digitisation is a defence strategy, not an attacking strategy. So can you sort of add more colour as to how you're going to acquire new customers? Customers aren't captivated by apps. They just keep you at that bank. How do you win customers?

We win customers by an exceptional customer experience with BOQ. We go above and beyond for our customers. It's all of their interactions across a seamless experience, whether it be through the digital banking app, whether it be through our contact centre, whether it be through our owner-manager branches. or interaction with our bankers. We recognise as a smaller bank that that's where we can differentiate, and it's a very, very important part of what we do. It will take time to grow those accounts. We do not see it as a defensive strategy. There is no question also that customers are focused on yield and that you are seeing customers shifting out of low-cost transaction accounts across the industry into... high-yielding term deposits and savings accounts. We don't think that trend is going to change. With the spread and the increase that we've seen in interest rates, we think that will continue. We are really focused on what we can control in this market, and we think our digital banking offering is an exceptional offering. It's been rated really well. That will grow our customer base and grow our transaction accounts.

Thank you.

Your next question comes from Matt Dunger with Bank of America. Please go ahead.

Thank you very much Patrick and Rachel. I was just wondering if you could help me understand why your mortgage margin pressures are stabilising in the context of some above system growth in February and assumedly some more retention pricing needed after that peak of fixed to variable rate rolls. So why are you assuming that, what are you assuming on the retention pricing versus those outflows?

Look, the pressure on retention pricing has eased. That's across the industry. We have seen, obviously, the back-to-front book spread come in, and we are seeing front book pricing moderating. So the pressures and the steep decline that we had previously seen and the pressures that we had previously seen are moderating. We're not saying that it's stopped, but certainly that's what's been experienced across the industry.

Thanks, Patrick. And just relatedly, are you able to talk to where the exit NIM landed or how the NIM trended throughout the period, given we don't see quarterly updates?

Yeah, so we don't provide an exit NIM, but NIM is down three basis points, half on half. So you have seen a significant moderation in the impact of our NIM from the previous prior year period comparison. but we don't give an exit NIM outlook. But I think what we've told you in the outlook statement is that we are seeing NIM pressure moderating, particularly on the asset side. We do anticipate there will be continued pressure on the deposit side until the TFF runs off.

Thank you.

Your next question comes from Azeeb Khan with E&P. Please go ahead.

Thank you very much. Patrick, one of the objectives of the digital transformation is to become a simpler, lower-cost bank. With that in mind, as you work through the digital transformation and as you progress through the Austrac Enforceable Undertaking, is there thought being given to whether you want to continue to bank the more complex customers?

Yeah, thanks for that. So clearly we are looking through our digital bank to provide a very simple, exceptional customer experience, fast time to yes, low cost to serve. There will be customers, and they are largely PAYG customers. There will be customers that own their own businesses that are more complex within our relationship bank that we will continue to bank. that is a higher cost to serve and that will be reflected in differential pricing between relationship banking and digital banking.

Can we expect the customer mix to change in that regard in terms of more kind of straightforward customers, less complex customers, and does that mean there's more pressure on your margin outlook and making it more difficult to hit those FY26 targets?

Azib, I think you would expect that simple customers are certainly more scalable. You know, where there's very little human touch involved and where we have automated processes, you would expect that that will be a faster growing scalable platform than our relationship banking platform.

And just a second question specifically on the Austrac EU. How far are you through the remediation of customer files on that front? And what sort of issues are you uncovering as you go through the remediation process?

So, look, this is a multi-year program. It's a three- to four-year program. As I've said, we've made really, really good progress in terms of the deliverables where we are. I'm not going to comment on customer files or where we are. What we are telling you today is that we're on track. We have signed off on the first phase of the program from the independent assurance providers, and we are meeting the expectations of our regulators in terms of the work streams and the time frames of the deliverables.

Thank you. Your next question comes from Brendan Sprouse with Citi. Please go ahead.

Good morning. Thanks for taking my questions. The first question I have on the business banking division, you talked about trying to grow in more niche sectors. And in slide 11, you called out the strong growth in the novated leasing business. But you've also got a number of portfolios that are either being run down or slowed, like large commercial real estate, targeted slowing of household growth. And then within asset finance, you've got a number of non-core portfolios. When you combine that with obviously the deposit competition, how quickly can the revenue in this division turn around and how quickly will it be before these new niche sectors really start to drive the growth of this division?

Thanks for that question, Brendan. We did say at the end of last year that we would be cautious at this stage of the economic cycle and that we would retain credit settings, preferring to wait till we saw a more certain economic outlook. In addition to that, we did call out that our A finance business that had a significant growth post-COVID into last year, and it would be difficult to replicate that growth this year. We are also calling out that we're rebalancing the book to focus on the specialist sectors where we have a competitive advantage. And so with all of that, we've seen flat growth in the first half. With the restructure and where we are, and we have recalibrated some of our credit settings with a more confident outlook for the economy, we have a strong pipeline into the second half. And so we are feeling more confident about returning aspects of that book to growth. But the business mix will take time. So it's not going to happen quickly. But what we're saying to you is we are operating in a number of sectors where we do have a competitive advantage, where we have a dominant market position, or we are not competing against the majors on our cost of capital, but rather competing with the non-bank sector. And you should anticipate that we will grow those higher returning sectors where we do have that competitive advantage.

Terrific, thank you. And then my second question is just around these FY26 targets, which obviously you've outlined on slide 18, some additional considerations. But given where you're kind of sitting today with an ROE below six, a cost-to-income ratio on a cash basis of mid-60s, it seems quite a long way from the targets, but the time to 2026 is slowly closing. When is it prudent to make a decision either way on these? It does feel like that we're sort of meandering along in the wrong direction and the gap's just getting bigger and bigger. And I'm just wondering when the time will come to make a decision with sort of more bold decisions and initiatives to get there or an acceptance that the market has just unfortunately moved the wrong way for you.

Yeah, so, look, I've said quite a lot of that already on the call. You know, we do recognise that the challenge is large and that if this is structural, we won't get there with the current pathway. So we are very, very focused on... The additional pathways that I've spoken to, we are going to be bold. So we recognise that we need to do something bold to address this. We will call it if we're not going to get there. But we do see, as we said, margins moderating. So if this is a combination of cyclical and structural... We do see pathways where we can change our business mix. We do see pathways where we can optimise our balance sheet, where we can get to those targets. But clearly, if we felt there was no way we could get there under any pathway, we will let you know.

And just quickly on a follow-up to that, is portfolio optimisation, the bold plan here, is selling off parts or portfolios of the business the type of bold strategy that you may be considering.

I'm not going to speculate on that. We are looking at multiple opportunities to pursue additional pathways to get to where we need to get to. If we have anything to tell you, we'd certainly tell you at the appropriate time.

No worries. Thank you.

Your next question comes from Nathan Leed with Morgans. Please go ahead.

Thanks for your presentations Patrick and Rachel. Just two questions for me. So first up obviously the four basis points benefit from the fixed to variable housing mix shift but the spike I suppose in the maturities is quite high in the first half. Is the NIM contribution likely significant going into the second half and beyond that? I suppose I'm sort of thinking about the averaging impact coming through the balance sheet.

Yeah, it is actually close to being about the same impact in the second half. And that's two factors. One, we'll see the full second half benefit of those customers that rolled in the first half. And then the second is we still actually do have, and the profile is outlined in the slides, but we still actually do have some towers, some reasonably material towers coming off in the second half again.

Okay, great. And then the second question for me is just your replicating portfolio. The earnings rate's still mid 2%. Five-year swap rates are over 5%. Can you give us a bit of a steer about how quickly the earnings rate can converge on the swap rate if swap rates remain relatively stable? Is it a smooth path upwards or is there a bit of a step change to it?

I would say at this point it's a smoother path compared to a step change, I would say.

Okay, thank you.

Your next question comes from Victor German with Macquarie. Please go ahead. Victor German, your line is now live. Please proceed with your question.

Hi, sorry. This is Jason in place of Victor. Victor's away at the moment. You mentioned digital bank as a way to win more transaction deposits, but your digital bank currently offers some of the highest savings rates in the market at the moment. What are the behaviours of customers you're seeing coming across the digital bank offering? Are they bringing in many transaction deposits from other banks or are they mostly using it as a savings account feature?

So we're seeing increased activity on our digital bank in savings accounts and transaction accounts. We are not the highest rate in the marketplace. We're not feeling like we've got to be the pointiest price to attract customers to that channel. We continue to see growth on the channel and we continue to see that as a really great opportunity for us to both fund our liquidity but also provide our customers with a solution across both transaction banking, savings accounts and deposits.

So if I ask that question another way, what's the approximate deposit mix of your digital bank offering at the moment between transaction and other types of accounts?

Come back with the detail. Can we get back to you with that detail? Thanks, Jason.

Okay, thanks. And second question, you also raised your bank interest rates on your digital bank recently as well. Given credit growth isn't actually that strong at the moment, what was the rationale behind raising some of the savings rates on those accounts? I appreciate it's probably not much, but I just want to hear your thoughts on it.

We manage that channel appropriately. So wholesale markets are more expensive than funding through retail at the moment. And you might see times when we have maturities coming up with term funding facilities or other funding maturities coming through. that we would use that channel to raise liquidity, and you would see movement in rates to reflect that. I think that's just a normal part of managing our liquidity and managing our maturity profile. But it is a cheaper part of our funding base compared to wholesale funding, and as Rachel said in her presentation, we have significantly lifted the deposit-to-loan ratio.

Okay, thanks.

The final question today comes from Brian Johnson with MST. Please go ahead.

Thank you. And thank you very much for the opportunity to ask the second question. Patrick, in the wake of Silicon Valley Bank collapsing, we've got regulators around the world kind of flagging what they should do. And one of the things that APRA has said, perhaps they should raise or lower the bar on what's deemed to be systemically important and certainly have a look at the way liquidity works for smaller players. At the moment, the liquidity reforms seem to... The LCR is still based on a 5% stable deposit outflow, which is exactly the same as Commonwealth Bank. I was just wondering, could we get your read on what APRA are thinking about and how potentially lowering the bar on systemically important and perhaps even calibrating the liquidity coverage ratio slightly differently? Could we get a feeling on what you think these reforms might mean for BOQ?

So, Brian, I can't give you a read on what APRA are thinking, but I can certainly talk to how we manage our liquidity. And we do think for a resilient banking sector that liquidity thresholds for smaller banks are really important. And I think what they experienced in the US regional banking crisis was really a function of not having risk regulatory requirements, and particularly on liquidity for those banks. So, yeah, we are very focused on liquidity levels that are appropriate for us. We are holding liquidity and stable funding ratios well above the prudential requirements. So irrespective of those changes, we think that's appropriate and we will shift our liquidity levels based on the environment that we're trading in and operating in. You would have seen that last year... we held much higher liquidity levels during wholesale markets being closed for a period because of the Ukraine war and the regional banking crisis in the US. We've also held high liquidity levels through repayment of the term funding facility. So I think what's probably most important for us is that the appropriate liquidity level for the risk environment that we're trading in. And we feel that... the regulatory limits and prudential limits that we have are appropriate and we'll continue to manage our liquidity prudently.

And on lowering the bar for what's deemed to be a systemically important bank, Patrick, what potentially would that do if you in fact had to hold more capital?

Look, we currently hold between 20% and 30% more capital than the majors. We do think that's an unfair playing field for a portfolio that we have that is probably less risky given the percentage of home lending we have on the portfolio and the high level of security we have across the portfolio. So certainly we will continue to push for a fair playing field in relation to capital. Basel III has helped bring that playing field a little bit closer together. But we still are of the view that there is a significant advantage for advanced model compared to standardised models. It is very, very difficult for us to get to an advanced model accreditation. So that certainly is... Something that prevents competition and prevents us from providing a viable alternative to the majors for Australians.

Patrick, just a final one to pre-empt the question you're going to get from everyone. Is the mid-cycle loan loss charge still 12 basis points?

I might jump in there. It's interesting. So we've actually been saying that our portfolio long-term LIE rate is about 14 basis points. Obviously, it depends on business mix. You're right, given we're at the sort of low point or close to from an economic perspective and our current level of actual losses in the portfolio, we are hopeful that over time we would see that long-term average reduce.

I think the only other thing, Brian, which we just should add to Rachel's comment is, you know, sometimes there is a lagged impact of interest rate rises where, you know, customers hold out and hold out and it's difficult. So, you know, I think if this cycle continues with rates high for longer, then that might well change. But based on our views about where the economy is and our expectations on interest rates, you know, we don't expect any material change.

And Patrick, so the greater than 9.25% 2026 ROE target, that's premised on a 14 basis point loan loss chart?

Yeah, it's premised on a normalised credit market. That's correct.

Thank you very much. Thank you. Thanks, Brian.

Thank you. That concludes the question and answer session. I'll now hand back to Ms Jessica Smith.

Thank you again, everyone, for joining us today. If you have any further questions, please reach out to the Investor Relations team and we look forward to connecting with many of you over the coming days. Thank you.