Banco Santander (Brasil) - Q3 2024

Transcript

Camila Toledo (Head of Investor Relations)

Good morning, everyone, and thank you so much for joining us for our third quarter 2024 results conference call. We are here live from our headquarters in São Paulo, and we will be dividing this event into three parts. First, our CEO, Mario Leão, will talk about the main highlights of the period and also the directions for our growth in the coming quarters. Next, our CFO, Gustavo Alejo, will give us a very detailed analysis of our performance. And finally, we will have the Q&A session. I will now give you some instructions. We have three audio options on the screen: all the content in Portuguese, all the content in English, or the original audio. To choose your option, just click on the button at the bottom center of your screen. To ask a question, click on the hand icon also at the bottom of your screen.

The presentation that we are about to give is now available for download on our IR website. And now I hand over the floor to Mario to start the presentation.

Mario Leão ) (CEO)

Good morning, good morning, everyone. It's always a pleasure to be here with you. It's almost 10:05 A.M. now. We'll start with a summary of the quarter, you know, the numbers, the main highlights, and then we'll quickly go over some of the aspects that brought us this far today and all of the strategic progress of the bank. Starting with the numbers on the left-hand side, we have our quarterly net profit of 3.7 billion BRL, which again is a two-digit growth quarter on quarter. It was 10% quarter on quarter of 3 billion BRL from the first to the second quarter. And now we are posting another two-digit growth. And this is a very important growth also when we look at the annual basis. So more important than the number itself, I would say that we are happy to say that we are advancing towards profitability.

Gustavo and I have been talking a lot about profitability, so we are managing to have an operation that grows fast in terms of profitability. And we are going back to our historical numbers with a much more sustainable and diversified mix. Our ROAE is 17% with an impressive growth quarter and quarter and an annual growth, which is even higher than that. We have here some major highlights. In a comparison base, comparing, you know, year on year, quarter on quarter, we are growing NII by 16%. And this is consistent performance and consistent growth in almost all lines. We are growing in funding NII, client NII, market NII, 16% against a portfolio growth of only 6%, meaning that we are producing more, originating more on a credit base that grows, and we are able therefore to grow our NII.

This is aligned with our strategy to extract more value from our capital margin, and this will continue to grow, but more and more, we want to extract increasingly more volume. In terms of fees, year on year, we grew 13%, and possibly this is one of the best growth percentages year on year, and we will soon see through Gustavo's presentation that month over month we grew almost 3% with productive growth in every single line, and this reinstates what I've been saying to you for quite some time, that we are focusing on the diversification of our business macro portfolios and business lines. We also had a very positive performance in funding, 5% year on year. That may sound like a very modest number, but the quality with which we are building this number is something that we'll elaborate more further on.

We could have been growing two digits in fundings, you know, in a very comfortable position, but we are trying to mix the funding mix of the bank. So we are now focusing on individuals and retail, and what we pay for funding, deposits, et cetera, is something that is. We are lowering our funding costs so that, you know, NII has to do with the way we reallocate our funding balance and our asset mix. So in terms of credit cost or LLP, our LLP is growing 5% year on year. And this is again below the growth of the portfolio, which shows that we are focusing on an annual and quarterly growth, and this is paying off. Now, looking now to the right-hand side, our main strategic pillars are items that we often talk about.

The first is part of the agenda that is part of our run-of-the-mill operation. And we call this agenda an obsession for principality because, you know, we tell our clients that we want to be a bank that is more present in their everyday lives. Transactionality has become key to the diversification of our business. We do not want to demonize credit, of course, because this is a very important element of our result, but we want to have diversified credit. We had a very concentrated loan portfolio among the lower brackets of the population, but now we want to have more, you know, funding and more results. We also want to grow credit, focus on return on capital.

So this is a very obsessive agenda in terms of how I allocate my capital, you know, so where can we allocate our capital so as to generate more returns, not only in terms of loans, but we will also soon talk about investments. Investment, that is another important pillar for the bank. It will continue to be so. And I'll show you some figures that indicate that we are really moving in the right direction. And then there is a new element, and that's our new positioning with SMEs. It's a new campaign, a new signature, the launch of a new branch that we'll refer to in a moment. Now, this next slide, I mean, I would just go over it very briefly. This is just a wrap-up of what was our agenda in the past four and three years. In the past three years, we redefined our strategy.

Now it's more earmarked towards diversification. We are also focusing on some major pillars, and based on these pillars, we know where we have to invest more, so we're investing more on the investment pillar, so we introduced a AAA, you know, advisory line. We have a AAA with Select. We invest in technology, and we have a new investment portal, something we didn't have in the past. In terms of fees, we are focusing on several initiatives. Some of them are bearing fruits, so you can see how much we are evolving. We are evolving in consortia. We are also making advances in the wholesale. We are also building an investment bank, something we didn't have before, so now we are focusing on major pillars, and we are now investing in these pillars. All of these portfolio redesign is based on recovering profitability.

You will hear us talk about, you know, capital discipline, focusing on return. We want to grow, but even before we grow, we want to be more profit, more profitable rather than being larger. We will end up being both, you know, more profitable and bigger. But at the same time, we will also be a more robust bank. And we have to invest in technology. Technology and bank are things that walk hand in hand. And I would rather do it that way rather than just having technology as a separate topic because technology is part of everything we do. And in the past three years, we really reduced risk and we renewed our portfolio. From now on, we will certainly continue to extract value from these four blocks, but we will focus on three key points. And we'll elaborate on these three key points going forward.

The first point, if I could summarize, the main thing we want is value creation. We want every client to be valued, but not the same way. We want clients to perceive that they have a very unique relationship with the bank, both in terms of mass retail, private, you know, corporate, or an SME. And all of that will happen based on technology. Otherwise, it will be very difficult to have a hyper-personalized experience if it were not with the assistance of technology. We have more than 65 million clients, so we can only reach them and have a different.[audio distortion]

[Foreign language]

In terms of the competition that has not changed materially, this is the best level of investment.

On the right, we see some examples. We evolved in the digital journey year on year, and we improved in the assisted channels. NPS of the stores is on the bottom on the right. We have an NPS of 80 at the stores, and it measures how our new model of stores will serve our clients. Without the store owning the clients, the clients belong to the legal entity segment or individual segment, and we are serving them as best as we can and in the best way possible. In terms of transactionality, there are a lot of messages on the slide. I'll focus on some. We are present in what the client consumes in their transactions day to day. It's the main definition of principality. We have three main blocks of principality, what we call transactionality, which applies to all.

We have the pillar of credit for those taking more structured mid to long-term credit, such as payroll, deductible loans, mortgages, auto loans, and we have a third block, which is valid for some, which is the investments block. But transactionality is what measures the close relationship we have with them, being the most present bank in the lives of our clients. Cards represent this better than any other product. We have positive data. We have spending growing 10%, average spending growing 10% year on year. And here we're just beginning. We have a lot to capture because we are growing our base of active cardholders, as we call them. We continue with a good pace of sales. We have 87% of the clients being account holders. It's a three-point growth year on year. We have an increase in the activation ratio.

So not only are we selling more cards, but we're activating them more in the M3, three months after the sale, five percentage points. And this is not small. And an NPS of 86 in the cards, which is very positive.

[Foreign language]

Very clear evolution. We have a Pix. I just want to mention that even the things that were working well, we continue to invest in. We want to be the best experience in the market. Speaking about loans and credit, very quickly, I have a couple of messages here. I'll start with the bottom right, with the consumer finance. As you know, we are the biggest consumer finance in Brazil. We continue to grow 20% in the portfolio year on year, with the over 90 being reduced. We have net revenues growing 33% year on year. It is not easy to grow 20% the portfolio year over year because there are a lot of variable costs, and this shows our efficiency journey of always in this quest to do more with less, so consumer finance continues to perform well, NPS of 91, which makes us really proud.

We have a partnership with almost all the car makers, six out of ten in Brazil, and we are growing a lot year on year. To give you a number, the consumer finance this year alone will bring more than 500,000 clients that would be single product clients that will become active clients of the bank, so the activation of clients involves consumer finance. At the top right, I speak about mass retail. In mass retail, from a year ago to now, gross revenue minus the cost of risk increases 113%, increasing from a base of 100 to 213 without just de-risking with a healthier portfolio, so this is a crocodile jaw that is expanding, and quickly talk about Select. Select continues to grow its share in individuals, and of course, the profitability of Select clients is a lot higher.

[Foreign language]

This is Toro, our digital brokerage house. We have the rebranding of Toro this quarter and we are bringing more and more Toro as part of an offering that we call a complete integrated offering between Toro and Santander. Santander brings the human channel represented by AAA, our own office of advisors, but also high-income, private, and for individuals. And Toro brings us the best digital experience in a brokerage house. The two offerings are closer and closer. We're going to start selling Toro through the Santander channels. And we see an even greater increase in volume that we had at Toro, but in a more independent way. We hit BRL 23 billion, almost 30% year-on-year growth. And I'm sure that we still have a lot to do.

We will be doing a 10% increase year-on-year in the individuals' portfolio, tripling the quarter 6.3 billion BRL, which is a number compatible with the second quarter. Of course, year-on-year growth higher than 100%. The net inflow per advisor of almost 4 million BRL in Q3, which is a really powerful net inflow. All of that with a high NPS and get to this big pillar, which is the investments of the bank. Here about our positioning in SMEs. You will remember that in the beginning of the year, we launched a new service model where we start having the experts in small companies, what we call Companies 1. These experts are not in the stores anymore. They are out of the stores. They are now where they matter the most, in the clients' homes. Our experts, they own micro regions.

There are thousands of those around Brazil. We continue to increase the team, and these experts not only cover the clients in their own homes, so they make home calls much more than we could do before, and now they have a new value proposition, which is something that we made tangible a few weeks ago when we tried to engage small SMEs with a complete solution, with rewards, and with this close face-to-face interaction. And with a project that we've had for more than 10 years, what we call Advance Program, which means to provide content online or face-to-face content on entrepreneurship, business, market, for legal entities, so we want to, again, double our size in SMEs and retail legal entities, and we are progressing well. It's not linear, like I normally say, but in a couple of years, we want this business to be twice as big.

This new value proposition is a fundamental step. Now I'd like to invite Gustavo to go over the numbers.

[Foreign language]

Camila Toledo (Head of Investor Relations)

Thank you, Mário. Good morning. Let's talk about our results. NII continues to expand quarter on quarter and year on year.

[Foreign language]

Mario Leão ) (CEO)

In the quarter, NII posted a good performance as we prioritized more profitable lines and segments, which in turn led to a higher spread in the period. In market, NII saw better performance due to higher results from treasury operations. We are committed to sustainable long-term expansion, adopting an active risk management, price discipline, and technical rigor in the allocation of resources. On the next slide, we focus on our loan portfolio. In the quarter, we posted a slight reduction stemming from our discipline in the search for greater profitability. We saw a growth of almost 11% in retail. While in corporates, we continue to focus on profitability and approach that has been maintained since the second quarter of 2023. The individuals' portfolio grew by 0.8%, with a highlight going to products with highest transactionality, such as cards, which grew by 2.5% in the quarter.

Also, in cards, we have seen quality growth with a greater concentration in middle and high-income clients. Spending has increased due to the expansion and penetration of the base. As for payroll loans, we have adjusted origination due to pressure on profitability caused by increasing spreads in the interest rate curve and rate caps. On the other hand, the auto loan market is still showing good dynamics. We grew by 4.7% in the quarter. And as mentioned earlier, our portfolios are well positioned in terms of credit quality. In SMEs, we saw an important increase in the portfolio up 2% in the quarter, with special focus on medium-sized companies. Here, it is worth noting that we prepared to move forward in this segment with quality and at an appropriate pace. Moving on to the next slide, we present our funding performance.

We recorded stability in the third quarter, as expected, with dynamic liquidity management and price discipline in our liabilities. We continue to make progress in improving the mix of segments with individuals growing by 2 percentage points over the last 12 months. We also optimized the mix of funding instruments and costs with the issuance of subordinated financial bills at the same time as we announced the call of the Tier 1 bond with settlement scheduled for November. To conclude this slide, the loan-to-deposits ratio remains at one of the lowest historical levels, reaching 93%. I will now comment on the performance of our fees and commissions. Once again, we reached all-time high this quarter. As a result of our revenue diversification strategy, which has been progressing really well, we posted quarterly growth of 3% and annual growth of 13% with good performance in practically all line items.

I'd like to highlight the growth in cards up 3.2% in the quarter and 14.4% year to date. Insurance, current account, and assets all grew in the quarter, not to mention significant year-on-year growth. A relevant point is that these securities, brokerage, and placement line item, despite a reduction, post a year-to-date growth of 5%, actually an on-year growth of 5% in 2024. The line item others, as you can see, the biggest quarterly increase came from the good performance of the savings bonds product. On this slide, we have the quality of our assets. In Q324, we maintained a stable overall allowance for loan losses, resulting in a cost of risk of 3.7% with a reduction of 60 basis points in 12 months. NPL formation showed a positive performance, reflecting the better quality of our origination standing at 1.1%.

Due to the better quality of the vintages, the renegotiated portfolio already posts a reduction of almost BRL 5 billion compared with Q323, and we posted a reduction of 130 basis points in relation to the total portfolio last year. On the next slide, we provide details on the performance of our default or delinquency indicators. Our NPL remains well-balanced, and the portfolios are fully adjusted, as I mentioned. Both the short-term and long-term indicators remain practically stable. The higher delinquency of SMEs is partly due to the renegotiated portfolio, as I mentioned in the prior quarter, mainly in E1, E1 segment, which includes companies with an annual turnover of up to BRL 3 million. And due to additional pressure in the corporate segment, due to some cases of court-supervised reorganizations, controlled provisions, and default rates, it makes it possible to absorb these events without major impacts.

I'd like to highlight that the short-term indicators are adjusted, suggesting a more positive trend ahead. On the next slide, I will give you more detail on our expenses. We continue to make progress in our quest for efficiency, focusing on cost control. During the quarter, we posted the partial effect of the collective bargaining agreement, with salaries being adjusted by 4.6%, which had an impact on personal expenses. The increase in administrative expenses is related to the expansion of our business, which is good, and expenses for less than revenues thus helping to improve our operating leverage. We saw a sequential improvement in the efficiency ratio, which fell by 3.6 percentage points year-on-year. To conclude the earnings results section, we present our income statement. Year-on-year, we saw a 15% increase in total revenues, driven by both NII and the good performance of our fees and commissions.

Provisions remained flat quarter on quarter and increased slightly in the annual comparison, and we maintained our strict control over expenses, resulting in a profit of BRL 3.7 billion. This result represents an increase of 10% in the quarter. We ended Q3 of 2024 with growth in profitability, with ROE of 17% and Common Equity Tier 1 of 11%. Finally, I'd like to highlight that we remain focused on the gradual recovery of our results, which have evolved in line with our expectations. Our goal is long-term sustainability with solid and consistent results. That concludes my part of the presentation, and I give the floor to Mario for his closing remarks. Thank you, Gustavo. I'd just like to stress, and then we'll have the Q&A, I'd like to stress five main takeaways that we kind of covered in the presentation.

Again, principality, meaning being the most present bank in the lives of our clients. So when I travel around Brazil or try to talk to clients and non-clients, and this is the message, I need to be the bank the most present in your life. It all starts with a client, and we design our strategy backwards. This principality agenda only happens if we are totally embraced with technology. Earlier today, I was talking with the employees of the bank in our internal meeting. Technology doesn't deserve one or two slides. Technology is absolutely key. It is business. It is client. And if a big bank, multi-channel bank like Santander, does not understand that, we are not going to post the expected growth. Third, through technology and through the human experience, we want to create value and deliver value to clients and the client's perception.

This applies to investments, cards, how we support them in non-financial themes, which are more and more relevant in our offering, and with a hyper-personalized experience, which is more and more powerful when clients will feel unique in their conversation with us. They'll say what they need just once. Sometimes I have the data to anticipate the demand from that client, and I can bring them a solution before they even run into a problem. We want to grow, privileging the relationship as a whole. We want to migrate more and more through simplification with the offering, with technology. We want to have complete relationships with the client, and that's how we'll allocate our capital more and more selectively, more surgically aiming to grow, but also to grow our profitability as the main focus, as we have shown.

And we are working to continue to deliver this in the coming quarters until we get to a level which is much higher than the current one. And we'll continue to work to get more. So to move before the Q&A, these are good results to communicate. We have quarterly growth, annual growth, a very quote-unquote clean quarter. We are very happy with the progress we have and with what's coming ahead. So I'd like to invite Gustavo for the Q&A. Camila, over to you.

Camila Toledo (Head of Investor Relations)

Thank you, Mario and Gustavo, for the presentation. And we will now start the question and answer session. From now on, you'll have an opportunity to ask questions. Again, you only need to click on the raise hand icon at the bottom of the screen. We will answer questions in the language in which they are asked.

We kindly urge that each analyst ask only one question so that everyone has a chance to participate. We'll start now with XP Investimentos with Matheus Guimarães. Good morning, Matheus. Welcome. Matheus, a gente não está te escutando. Matheus, we cannot hear you. Ainda não. Still no sound from you, Matheus. Ainda não. Sorry, cannot hear you.

Matheus Guimarães' (Equity Research Analyst)

Can you hear me now? Can you hear me better?

Camila Toledo (Head of Investor Relations)

Yes, now the sound is perfect.

Matheus Guimarães' (Equity Research Analyst)

Okay, I apologize. Thank you, congrats on the results, and thank you for the opportunity to ask questions. I think the Q3 is the materialization of a lot of the things you have been talking about in past quarters. When we look to the future and considering a more uncertain macro scenario, what can we expect in terms of growth, particularly in the loan book? I think we'd like to have some color regarding that. Thank you.

Mario Leão ) (CEO)

Thank you for the question. Aqui eu começo, Gustavo pode complementar. I'll start, and Gustavo can complement. What we did this quarter was kind of have the portfolio just getting sideways with a slight decrease, but we can see the dynamics portfolio by portfolio where we accelerate, where we think there's a marginal profitability and where we have marginal cross-selling to be obtained. In some portfolios, there are one-time off effects in some companies. It's okay, so one specific name in the wholesale segment, an old case, but still the corporate portfolio would have dropped. So I think what's very clear in Q3 is that there was a balancing of our capital, which continues to grow, removing the direction of the portfolios where we can have marginal profitability in the credit operation itself or in cross-selling.

Looking forward, we'll do exactly that, but in a more surgical way, in a more thorough way. I'm going to give you some examples just to make things more tangible. We grew a lot in recent years. We gained bank share in payroll loans. We still love payroll loans, but they have different portfolios. We are very big in private payroll loans. Perhaps we are the largest in the market. We have everything to grow well in the private, and it's profitable, but in the public setting, in INSS, the payroll loan is not as profitable as we want, not compatible with what we aim. So in a nutshell, to answer your question, which is good, we'll continue to grow as a whole, but some portfolios will tend to be flat or even drop slightly. Perhaps the INSS payroll loan is the state.

The cost of origination through external channels and the cap rate, now that the SELIC rate increased, the rate did not increase. So the INSS payroll loans, particularly through external channels, it doesn't pay off. And cross-selling in the INSS payroll loan is not the best cross-selling of all. So I can reinvest that capital in a much more effective way in an auto loan book, which is growing at just 20% year on year, and have no advantage in decelerating auto loans. SMEs, there are many sub-portfolios, but I continue to want to grow in SMEs. I talked about our ambition of doubling in two years. It's not doubling the portfolio per se. It's growing the business itself. And it's a cross-sellable business where I can get a lot of fees and a lot of investments. And corporates, corporates is a good question. We'll be selective.

The good news is, as we were very strict in marginal profitability in the last year and a half in the corporate segment, our portfolio has been constantly dropping the margin in corporates. So we have a loss revenue. So we're able to cross-sell for corporates more and more. I'm producing more with the same RWA in corporates. I'm producing more with less RWA, and when I have an opportunity, when the capital markets change, when the competition in corporates becomes healthier in terms of price, I'll be much lighter to expand again, so it's not a credit appetite theme or capital allocation. It's about a disciplined approach. I hope I have answered your question.

Matheus Guimarães' (Equity Research Analyst)

It is super clear. Thank you very much, Mario. Nós vamos agora para a próxima pergunta.

Camila Toledo (Head of Investor Relations)

Next question. With Yuri Fernandes, with JP Morgan. Hello, Camila, Mario, Gustavo.

Yuri Fernandes (Analyst)

Congratulations on this journey of improvement.

I'd like to focus on equity and the balance sheet. In this quarter, we saw that there was an impact of BRL 1.3 billion net of taxes of some very old cases. I'm talking about Banespa. This is a fight for the retirees, BRL. Is this what brings you to Tier 1 capital to post this slight drop of 20 basis points? And if you could give us the context, should we expect other old cases impacting shareholders' equity? I can only remember PIS and COFINS, which was more recent. I just want to get a sense whether we should have more of these surprises in profit loss because the rest of the P&L, everything is nice and good. But this is the only point that drew my attention.

Mario Leão ) (CEO)

Thank you, Yuri. Thank you for always looking at capital, making comments on capital. It's the level of diligence that we like.

Thank you very much for challenging us. It's an excellent question. Well, this case, to give names, this is a case of Santander and Banesprev, which is our pension vehicle at the time of Banespa with an association called Afabesp. This is a case of 1996, Yuri. That's when I joined the market. Many of you weren't active at that time. It's a 28-year-old case. And here, Yuri, well, of course, justice takes its time. We were coping with that as things went by. But in recent years, these cases were being solved. We could have simply followed with a provision to these decisions. But again, we made a decision, which is allowed in a bank with an organic result and organic capital that allows us to. And we preferred in second quarter to third quarter.

We designed the agreement in the second quarter and executed it in Q3, an agreement with this association where we offer a financial supplement, a material one, or it's one of them in a total gross of 2.7 billion BRL. We worked a lot on the agreement. Once the agreement was signed, they worked with the association of lawyers to bring people on board because people have to join the agreement. We got 90% of the people joining, which is quite high because we're talking about older people who are not always accessible. The fact that they joined led to 2.7 billion BRL coming down to about 2.4 billion BRL, which in that terms gives us the capital allocation that you mentioned. In a nutshell, it's a very old case.

And we kind of wanted to get it done, get it solved rather than leave it in court for the coming years. And Yuri, we also eliminate a risk that cases to be settled in the future could have higher amounts. In a way, we kind of contain and we kind of limit the loss to an acceptable level. We were following this up close, and then we decided to make this decision of coming to an agreement. And in Q3, that's when the people joined, and payment happened in October. And we are funding that in Select. So the money is coming back to us in investments. Gustavo can give you the more technical terms. We can do an offline follow-up, but this has to do with a post-employment benefit.

So this has a specific accounting line item, and it allows us to be recognized in the OCI equivalent, the Brazilian equivalent OCI. And this was debated at length with the internal auditor, external auditor globally. We're very comfortable and we discussed it with the regulators. I think that this means a comprehensive resolution. We had 100% of people joining. What about the 10%? 10% will continue in accrual, but it is a much lower materiality. We have a provision for that. So we don't expect in this case anything material. And we haven't got any other material cases, which was the second part of your question that could pop up and that would entail decisions in the coming quarters. No, this was an old case. It could be higher than those billions.

We are coming to a solution to it, posting it in the balance sheet because we could, and we prefer to do it now.

Yuri Fernandes (Analyst)

Super clear. Thank you, Mario.

Camila Toledo (Head of Investor Relations)

Now we have a question from Safra with Daniel Vaz.

Daniel Vaz (Analyst)

Good morning, Camila, Mario, Gustavo. Thank you for the opportunity to ask questions and congrats on the results. Looking at your portfolio, looking at the trajectory, you have a consumer finance gaining more and more relevance as a whole. So customer finance is improving. Coupled with that, we have 4966, a regulation that you're starting to take into effect in January, and it should lead to greater origination of auto loan. So how are you working with this impact of Law 4966? I'd like to understand the impact on your recurring level of provision. And your Tier 1 capital is a little bit below your peers, 11%.

Anything we should think about next year?

Gustavo Alejo (CFO)

I'll start. And thank you for the question, Gustavo. Another excellent theme for us to cover. We are now communicating to the market the magnitude. Of course, we've been working for a long time, for many, many months now on this. This is not just technical work of our accounting team and provisions modeling, but Gustavo, myself, and many other officers are involved in saying that there is no impact would be to underestimate the evolution of the regulation. There will obviously be some impact. We don't expect the impact to be material, though. If we get the full year 2025, we don't expect this to be a CET1 material impact to affect our payout ability. Is that simplicity in your question?

There is an impact, yes, but we don't expect this adjustment in CET1 to be material to the point of impacting our ability to have a payout next year. I'd like to ask Gustavo to speak about consumer finance, but this is undoubtedly an important theme in the whole industry. We are looking at this up close. At a macro level, we'll do what needs to be done. We'll evolve our modeling. We imagine that along 2025, this will be absorbed. Gustavo, from the standpoint of the portfolio, it applies to consumer finance and to all portfolios. For many years, we've been operating with IFRS 9, and I will apply 4966, and our decision process of making decisions in terms of loan pricing is based on all aspects of the rules that we operate by. We don't have any surprises, and perhaps that's the angle of your question.

We wouldn't have surprises in terms of what we are originating in consumer finance applying 4966. Since we use IFRS, we're going to practically lead the impact of 4966 today. So in our decision-making for portfolios, for all our portfolios, and we'll do this for all portfolios. We have a portfolio client and product view. So we have what we expect in terms of performance based on the rules that we know, the standards we know, and we use a lot of our IFRS 9 experience. I think that that's kind of the angle of your question. But we're applying this already in our decision-making regarding technical rigor and better capital allocation. That's a variable that we have been already using for a couple of quarters. It doesn't change our modus operandi. We don't have to adapt. We already adapted. Overall, for all portfolios, this is it.

It is what Mario mentioned. This is a new standard. 4966 is different than the previous one. Naturally, this difference brings more provisioning. 4966 entails more provisioning than 2682. We are going to have an adjustment in shareholders' equity.

Daniel Vaz (Analyst)

Okay, thank you for the answer.

Camila Toledo (Head of Investor Relations)

Next question, Mario Pierry with Bank of America. Mario? Bom dia, pessoal.

Mario Pierry (Managing Director and Head of Banks Research)

Good morning, everyone. Thank you for the opportunity to ask questions. Mario, I'd like to understand. The macro scenario in Brazil in recent months got worse. We see the future curve that continues to increase, more uncertainties. I'd like to understand. How do you see two specific segments? Small, medium-sized companies and low-income clients. You spoke very little about low income. In the past, it was a topic that you discussed as a potential opportunity. But I didn't hear you talk a lot about the low-income segment.

Is the strategy changing? And for SMEs, how do you see competition and your credit appetite in that segment? Thank you.

Mario Leão ) (CEO)

Thank you, Mario. Excellent question. We spoke less about the retail market and low-income because we just had to choose the topics in the presentation. But of course, it remains a big focus for us. We're not leaving that segment at all. Neither are we materially reducing the work with low-income, but we're doing continuous work for de-risking in all portfolios, in particular that one, Mario. And splitting the old vintages where we have de-risking and the newer vintages in the last two years, mainly. I would say that we have a low-income client base. That is what we want. Of course, we continue to expand the franchise. We continue to attract new clients with more and more data, using technology more and more.

So we are adding new clients in a more assertive way. And undoubtedly, our growth includes the low-income segment. I want to speak about being thorough in capital allocation and careful capital allocation. INSS, payroll loan, I have a lot of low income. And if I see that my marginal profitability in the INSS loans, low income is not adequate, and that my cross-selling capability is not that big because they have very little income to spend, I'll do less of that in the foreseeable future. It's less related to credit appetite and more related to capital allocation. So our focus in mass retail and our focus on SMEs will be calibrated by our appetite. For about two years, we have implemented all the main adjustments we meant to do in terms of credit appetite.

After that is the regular calibration, fine-tuning as we normally do in a bank, but no material adjustments. We have appetite in a level compatible with recent years. We tend to be more conservative than ambitious or aggressive. We don't intend to change that appetite. The next question is, where do I have more profitability with the capital that I have? I continue to grow mass retail, yes. Less with products that are less profitable and less cross-sellable. With my credit appetite, I want to grow with products that bring me more transactions, more principality, more fees and commissions, and cheap deposits. It's this duet of checks and cards. This has a potential higher cost of risk than SMEs. Yes, it is true.

But adjusted to how much I can produce of spread in these portfolios and the transactionality, the broader spread, considering my credit appetite, we have peace of mind that this is the right way to go, including in mass income offerings. The same applies to SMEs and particularly medium-sized companies. This year, we probably had a record of court-supervised reorganizations. We're having more of those than in the past. This brings a delta element in the over 90 that has an impact. Nothing to worry about, but we are going to look at this. We have to manage portfolios of small companies that's doing well. And then we'll have to approve name by name. We'll look at the sector, the leverage of the companies, more leveraged companies concern us more, with interest rates going to 11, 12, perhaps 13.

We have to think about that because they're very leveraged and for a long time. So that's a point of attention for companies in general. Less with individuals because individuals pay high interest rates anyway. Even if the SELIC rate increases, this will not increase the all-in cost of individuals. I hope I have covered all of the points.

Mario Pierry (Managing Director and Head of Banks Research)

Thank you.

Camila Toledo (Head of Investor Relations)

Next question from Pedro Leduc with Itaú BBA. Pedro?

Pedro Leduc (Analyst)

Good morning. Bom dia a todos. Good morning, everyone. Congratulations on the results. Two quick questions. First, services. I asked about this in the prior calls. And this continues at two-digit level. Perhaps you can give us more color on that and what we can expect next year. And then going back to the rationale of growing efficiently in optimal capital allocation and RWA. That became very clear for corporates. And I'd like to extend that to consumer finance. 4%-5% portfolio growth is quite strong. And do you see more opportunities to continue to grow at the same pace in the coming quarters? Thank you.

Mario Leão ) (CEO)

Thank you, Pedro. Excellent questions. Very briefly on fees and commissions and service as a whole. For a while now, for some years, I have spoken about a focus on diversification of the macro diversification of the business. This means credit diversification, but also business, a much more powerful business based on RWA comparing with some of our great peers. As the one you represent, Pedro, historically, we have an array of commissions for RWA, which is lower. It's a diagnosis that is easy to make. It's consistent work of focus, direction, and incentives. It's not just sprint incentives in our network of agencies when you run a campaign and then it's over. No, it needs to be structural. There are many answers.

More than growth itself, I like to see that growth is diversified among many line items. Some, of course, stand out. This quarter, capital markets was negative, but we have a powerful franchise. I have fewer transactions in capital markets, but it's fewer capital discipline. We didn't want to get into those tight situations. So to me, in terms of fees and commissions, Pedro, it's about having many lines of fees and commissions. We have more than seven in cards and insurance or lines they need to increase. We had good sale of a consortium the quarter. Two digits. Am I happy? No, because we have to think about consortiums that will double in a couple of years. Doubling in numbers and material results. We have a business of BRL 1 billion in consortium. In a couple of years, we should get to BRL 2 billion.

Not as a final level, but as the next step. I will not be happy, so you can put pressure on me for consortiums, so we have to get these big line items of commissions and fees and make them grow, but the agenda behind it is a disciplined focus on measurement, measuring fees by RWA. We systematize that during this year, and after that, we'll continue to be even more surgical, focusing on this KPI, trying to converge with the best practices of the market in Brazil and abroad. Oh, consumer finance. I'll start and Gustavo will complement because this business is under his management. We look at consumer finance. Although consumer finance is a classical mono product, it's actually a separate company, and this is run in an integrated way, but also independently. We have impeccable leadership there.

But what we did well in recent years is to look at the consumer finance beyond what the business itself brings us. The business itself, as Gustavo will say, stands on its own. I could have no cross-selling with the bank. I could not bring almost 600,000 clients as active checking account holders of the bank. But the business is very profitable, considering the risk appetite that we defined in the past and given our penetration. We are in thousands of dealers. We originate 80%-90% of everything that the market sees in auto loan. And we choose to perform according to our appetite. Gustavo or Pedro, exactly. We choose to do 21-22. We measure contract by contract. We make decisions by contract, and we follow up contract by contract all the performances with the best metrics.

And going back to the previous question and using the provisions metrics, so performance continues to do well. What we are projecting is confirming we'll expand to the point that we maintain performance. We would not like to reduce performance in terms of profitability. So we believe that we have room for growth, but we'll grow according to demand for this risk profile and with the characteristic that we are working with. Is there a possibility to expand even more? Yes. But then we have credit performance, and it makes less sense to us. But there's a lot of demand in the other loan market, and we are operating at a comfortable level, and we are aiming a profitability, which is quite interesting.

And the marginal profitability, the number we are looking at for that we are already having consumer finance, but no cross-selling is already compatible with the big ROA that we want to have for the whole ROE that we want to have with the whole bank. So consumer finance is pushing us forward and not backward. So we have discipline, contract by contract, as Gustavo mentioned. And this is the benchmark of what we are doing for all of the other portfolios of the bank.

Pedro Leduc (Analyst)

Clear. Thank you very much. A gente vai agora com o Thiago Batista.

Camila Toledo (Head of Investor Relations)

Thiago Batista, now with UBS.

Thiago Batista (Analyst)

Good morning, Thiago. [Foreign language]

Can you hear me? [Foreign language] Mário, you and Gustavo mentioned during the call the importance of profitability for the bank.

I think that in the past quarter, there's news that ROE could go back to the level of 20% in the mid-run. My question is, what are the most important leverages for this return to leave 17-16 and reach the ambition of around 20? And SELIC rate in this new level, 12-13, I don't know which one it will be. Will this get in the way of this process of increasing the ROE of the bank to around 20?

Mario Leão ) (CEO)

Excellent question, Thiago. I'll start with the second part of the question because it will help me answer the first part. Higher SELIC. Does it help or get in the way? It gets in the way, to be practical. Okay, it hurts. Historically, and you've been following the bank for a long time, we are sensitive to interest increase, interest rates increasing because we have a high portfolio.

And historically, our whole origination for individuals, which is prefixed, was in a base that is not hedged. This is how we have worked for decades. So we have a carryover cost, which is higher if the interest rates increase. And if they increase really fast, as in 2021, 2022, we saw what happened. So in the margin, there is a delta in the backbook practice, historical origination, and the current portfolio. Looking forward, we'll continue to have this movement more and more. We want to have more predictability, less volatility in the results. Perhaps one of the uncertainties or unpredictabilities historically is associated with this long position in interest rates, which is very structural. So in NII, we'll try to manage this balance between assets and liabilities, trying to neutralize over time so that the interest rate increasing or reducing will have a smaller impact.

I hope that this will make it easier for analysts and investors to understand where Santander is going in the coming years. Now, speaking about profitability, we have a detractor of my profitability recovery because of the SELIC rate, which I will try to neutralize as much as possible, as I just mentioned. But what are the main drivers? It's a wrap-up of what we said during the presentation and during the questions. We'll continue to be disciplined, focusing on the simple ratio fees over RWA, which I mentioned in Pedro's question. And another fundamental driver is the floating funding, what we call ContaMax, the money that is invested at low rates. And this floating, this transactional deposits, the ratio of that over RWA reinforces my argument. The credit is important. It has to be well priced. It has to be worth our while.

But it is worthwhile even when I can have more fees and commissions and cheap liabilities for the bank. The main levers are commissions, funding, and pricing, which is more and more clinical. Credit has its rule. We have an expanded portfolio of BRL 60 billion. This portfolio, of course, needs to continue to grow. But when we run this portfolio, we have to price it better. Every 0.10 is worth a lot. Every 0.15 is worth even more. We put all of that together, we capitalize on it, and we will get to a higher level of ROE, coupled with very strict spending control, cost control. We've been doing this, but we can be even more efficient. Given the franchise as it is, the technology on board, and the technology we're embedding in the next two years, we'll try to be even more efficient in terms of expenses.

We have to control our loan rating with better vintages, which we are doing. We're showing it. We need to continue to do it. And the crocodile jaw will increase in terms of what I gain at the top with quality and what I pay as expenses, as provisions and others. And this crocodile jaw expanding will take us in the coming years to a level of profitability. As I mentioned in that interview that you mentioned, you mentioned the press.

Thiago Batista (Analyst)

Thank you.

Camila Toledo (Head of Investor Relations)

Next question. Brian Flores, analyst with Citi. Brian, hello.

Brian Flores (Analyst)

Hello, Camila. Mario, Gustavo, thank you for the opportunity to ask questions. A follow-up question, which I thought was very interesting. Perhaps at some point of the narrative, it seemed that the ROE improvement would come perhaps with more risk-taking in the variables, some risky lines.

But I guess that the message now is more conservative, very much focused on discipline, as you mentioned, capital allocation discipline. So I just like to confirm that perhaps we should see smaller, expanded portfolio growth, those drivers becoming more relevant looking forward, the pricing, fees, and commissions.

Mario Leão ) (CEO)

Excellent, Brian. Although we are not providing a formal guidance, you know, we don't provide the guidance in Brazil. The group does that for everyone. But I guess that in terms of direction, you and all analysts and investors on this call could expect that given this surgical management of capital allocation, because we have a capital base, which is quite large, an expanded portfolio of almost BRL 700 billion. So we have a lot to work with to extract more fees and commissions, deposits, and better prices in the credit NII. We want to continue to grow the portfolio, yes.

But how am I going to grow it? In two digits. And some of the portfolios are potentially reduced. I mentioned the INSS payroll loan. In the next quarter, most likely I will reduce that. And it's all right. But in practice, we'll have the loan book growing at a level similar to mid-single digit. But again, this is deriving from a very fine tuning of a capital allocation discipline, looking at the clients, looking at credit as a way to capture this principality with my clients. And with no appetite expansion. So your point is important, Brian. No expansion in credit appetite, because we're reading the same news as you are. The market is not exactly easy. It deteriorated. The economy is doing quite well, but the market isn't anticipating deterioration with inflation, interest rates increasing, and everything that comes with that.

So we are not making this big statement of saying, let's continue to recover ROE. I could increase my ROE faster if I did that, but I don't believe in sprint growth. I prefer to grow in a marathon mode and get there. Not that we are going to take 40 years to do it, okay? But I prefer to grow consistently in a recurring fashion. It will take a couple more quarters, but not much more than that.

Brian Flores (Analyst)

Thank you. Agora nós temos uma pergunta.

Camila Toledo (Head of Investor Relations)

Now, I have a question from Eduardo Rosman with BTG Pactual. Rosman?

Eduardo Rosman (Analyst)

Good morning, everyone. Congratulations on the results. I have a follow-up question regarding primacy or principality. Mario spoke a lot about this, about this obsession, and he said that credit is not the end itself. He spoke a lot about fees and commissions, funding, and the right prices.

But we, as analysts, how can we follow which bank is doing the best principality work? Because all banks are talking about that. That's very hard to follow. What would you suggest we look and that we ask about in the future? Thank you.

Mario Leão ) (CEO)

Excellent, Rosman. I like this question. Well, in a way, I kind of tried to mention how we are internally putting pressure on us. And of course, you should put pressure on us as well so we can speak the same language. But I mean, when I speak about these indices, these ratios, fees per RWA, or cheap floating deposits per RWA, when I speak about reducing the structural funding cost of the bank, that's also a metric of principality, Rosman.

Because a part of the cost of funding is related to wholesale, where I am consistently paying less for my CDBs and the issuances of bills in the recent past at historical low levels. So this has also to do with principality. But the reduction in the cost of funding means I'll bring floating in a much more material way of the clients that have transactions with me. Corporates that have money sitting in the checking accounts and SMEs, individuals, and private clients. They all have balances in their checking accounts. So if we look at fees and commissions and floating, and together with floating, how my funding mix is changing. My funding hasn't changed a lot quarter on quarter, but the quality has changed.

And when we look at the details of this evolution, we expect to show this in the coming quarters. You will see a better and better quality. So how to measure us in terms of principality? By the evolution of the jaws, in terms of how I can grow capital versus RWA and versus the other lines at a cost of risk, which is adequate. We have to measure the evolution of the credit NII and the evolution of loan loss provisions. We have to look at fees in my P&L and also the indicators that we'll share with you of how we are evolving, my number of principal clients, the way I measure it. Every bank will measure differently, but we can give you the whole methodology that we use for measurement. If this is a general interest, we can speak about this in the next call.

But this is something we started developing a year ago. I always spoke about loyal clients. But loyal clients regarding products. The main point is how clients feel the principality with a bank. So we measure principality and we also the jaws that we see spreading in our results, you will help us evaluate whether we've been successful or not. On our end, we'll be very disciplined in following these data, some of which I have mentioned here today.

Eduardo Rosman (Analyst)

Thank you for the question. Thank you very much.

Camila Toledo (Head of Investor Relations)

Welcome to English with Tito Labarta from Goldman Sachs. Good morning, Tito.

Tito Labarta (Analyst)

Thank you, Camila. Good morning, Mario, Gustavo. Thank you for the call and taking my question.

I want to ask you about the net interest income growth, I guess, particularly maybe on the client NII, because thinking, you know, to your prior response on improving profitability, if you look at the client NII, it's growing around high single digits on a year-over-year basis. You know, the market NII benefited a little bit as rates came down, but maybe there's a bit of a headwind there with rates going up or staying higher for longer. So how do you think about your ability to potentially accelerate the growth in client NII, particularly in maybe a more challenging macro scenario and a slightly more cautious tone that you have? Can you accelerate from here or how do you think about the client NII growth in the current environment? Thank you.

Gustavo Alejo (CFO)

Sure, Tito. Thanks for the question. So focusing on client NII, two variables, right? Volume and spread.

So on the volume side, I already mentioned we are going to be focused on my marginal allocation of RWAs, focused on the marginal returns on that credit and the capacity to cross-sell overall on my overall broader credit relationship. So that's already set. But I'm also going to focus on looking at the RWA density so that I can produce more portfolio with the same RWA. I didn't mention this before. So I'm going to be focused on all the angles: the marginal return, the cross-sellable return, and the RWA density. So that's on the volume side. But the most important part of the answer is really spread and pricing discipline. Not that we haven't done it in the past.

Obviously, we've been disciplined like the whole market, but we've been much more clinical over the past few quarters, particularly this one, as we look into the fifth derivative of every portfolio we have. I mentioned the INSS portfolio, the payroll loan portfolio. But that's the same as we've done in many other portfolios. We've looked at the credit cards portfolio, which is part of our growing agenda. And we found out that some cuts of our even higher income credit cards, they were more costly on the benefits I was giving to the client than the potential interchange and financing, which for these high-income clients is a very limited sum.

So, my clinical analysis that I mentioned before has to do with all my marginal production, even in credit cards, where I want to grow at the financeira, at the auto finance business, which Gustavo covered, and obviously on all other credit portfolios within individuals and SMEs. So, the answer has to be on a very strict pricing discipline, which we believe we're having more and more. There's more to do, by the way. I don't think we're at the optimum stage, but we are gradually and rapidly, actually, growing into that direction. The combination of a volume that will keep growing, but not as steadily as in some businesses we have, but with a very strict pricing discipline, I believe we can continue to expand our clients' NII. I won't give you the percentage guidance type, but we should keep progressing on the credit side for sure.

On the liability side, well, with rates going up on the client margin, we will make more money, obviously, on deposits by definition. But when we look particularly at the credit side, the combination of better spreads, which we hope to continue on and on for the next quarters and hopefully years, and with some volume increase, the combination of those should be a positive jaws coming from client NII as well, credit client NII particularly.

Tito Labarta (Analyst)

Great. Perfect. Thank you, Mario. Thank you, Mario.

Thanks. [Foreign language]

Camila Toledo (Head of Investor Relations)

And with this, we end our Q&A session. I would like to thank all of you for joining us this morning. Immediately after this video conference call, myself and the entire Investor Relations team will be available to answer any remaining questions you have. Thank you very much.

Have a great day, and I see you next time. Thank you all. I'll see you next time.