KBC Group NV (OTCPK:KBCSF) Q4 2022 Results Conference Call February 9, 2023 3:30 AM ET
Company Participants
Kurt De Baenst – General Manager, IR
Johan Thijs – Group CEO
Roger Popelier – Group CFO
Conference Call Participants
Benoit Petrarque – Kepler Cheuvreux
Tarik El Mejjad – Bank of America
Flora Bocahut – Jefferies
Raul Sinha – JPMorgan
Guillaume Tiberghien – Exane BNP Paribas
Marta Sánchez Romero – Citigroup
Operator
Good day, and welcome everyone to the KBC Group Earnings Release 4Q 2022 Conference Call hosted by Kurt De Baenst, General Manager, Investor Relations. My name is Judith, and I’m your event manager today. [Operator Instructions] I would also like to advise all parties this conference is being recorded.
And now let me hand it over to Kurt. You may now proceed.
Kurt De Baenst
Thank you. A very good morning to you from the headquarters of KBC in a sunny Brussels and welcome to the KBC conference call. Today is Thursday the 9th of February 2023, and we are hosting the conference call on the fourth quarter and full year ‘22 results of KBC.
As usual, we have Johan Thijs, our Group CEO, with us; as well as our Group CFO, Roger Popelier, and they will both elaborate on the results and add some additional insights. As such, it’s my pleasure to give the floor to our CEO, Johan Thijs, who will quickly run you through the presentation.
Johan Thijs
Thank you very much, Kurt. And also from my side, a warm welcome to the announcement of the quarter 4 results of 2022, which is, as a consequence, also the announcement of the full year results of the very same year.
Let me start with, as always, the overall view of the quarter 4 and we are posting today an excellent result of €818 million on the quarter, which is indeed, given circumstances, a very strong performance. Return on equity stands at 14%, and that also clearly indicates that once again, the machine has been firing on all its cylinders, and this time, it is really true. We have been performing extremely well in all our franchises, bank and insurance, across the group.
What does it mean? It means, for instance, that we have been growing significantly our lending book, more than 8.5%. Over the year, we have been growing our deposit book more than 9.5% over the year. We have been performing our insurance sale on the non-life side more than 8% a year. The life insurance business was significantly up in the fourth quarter. It was more than doubled on the unit-linked side. We have been growing our investment products book significantly, 21% more net inflows compared to last year, which was a record year. So it was really excellent.
The quality of our books remain super solid with a combined ratio on the insurance side of 89%, but also with a credit cost ratio of 0% in essence. But if you take into account the prudency, which we put into our buffer for emerging and geographical risk, it stands now at €429 million, which is a credit cost ratio of 0.8%. So in that perspective, it is really solid. We have been, as a consequence, also posting a very strong solvency ratio of 15.4% and more than 200% on the insurance side. And that goes hand in hand with very strong liquidity numbers, as usual. We also have, as a consequence, an update of our outlook for the future [that we] will come back into the detail later on.
Let me first switch to the consequence of all of this that is on Page 3, the capital deployment. We will propose a total gross dividend of €4 per share to our AGM for the accounting year 2022. That is then a sum of an interim dividend of €1 per share, which we already paid out in November of last year, complemented by a final dividend of €3 per share. That brings the payout ratio of the total dividend, including the AT1 coupon to 60% roughly. But in consequence and in execution of our announced capital deployment plan for the year 2022, we also envisage to distribute the surplus capital above the fully-loaded capital target of 15%. That means that is roughly €0.4 billion. We will also distribute that to our shareholders. So in that perspective, that decision is final.
How we are going to distribute that is subject to an ECB approval for a share buyback. So we are proposing today that €0.4 billion is going to be distributed anyway, but it can be distributed in the form of a share buyback and/or an extraordinary interim dividend. The share buyback, as I said, is subject to approval of the ECB. And then when we have that approval, the Board will take a final decision in the course of the next coming months. For the accounting year 2022, if you add the surplus capital, the €0.4 billion to that, we will end up with a payout ratio of 75%.
As we have communicated last week, we also concluded in this first quarter of ‘23, the closing of the sale of our activities in KBC Bank Ireland. You know that we are having an agreement with Bank of Ireland Group for practically all the assets and liabilities on our books. And that means that we will generate accordingly a capital relief of approximately €1 billion. Also, for that €1 billion, we do envisage to distribute this €1 billion, so that decision is also final. And the question is, in which form and because we are proposing a share buyback as well, which is subject to approval, we are waiting for the final decision to be taken accordingly in the course of the next coming months. So in that perspective, the €1 billion will be distributed either in the form of a share buyback, either in the form of an extraordinary interim dividend, either in the combination of both.
Let me then go a little bit further into the business of 2022. So first of all, as I said, the bank-insurance model has been contributing [at its max], so we have a traditional split up between the bank and the insurance company where the bank now stands for 83%, 17% for the insurance company. We also have a very strong performance of all the innovation which we have put forward in the last years, and that is now really paying off in several ways. The first and most obvious way, and that’s something which our customers see on a daily basis, that is the usage of KATE. To be very open and transparent, the usage of KATE by our customers, we have in the meanwhile, roughly 3 million customers. At the end of last year, it stood at 2.9 million. We have much more customers using KATE than we originally planned. And also, the number of transactions which we have with our customers, more than 11 million transactions with our customers in Belgium. That is much more than what we originally anticipated for.
The great news in that perspective is that the implementation of KATE goes with 2 other triggers, and one of those triggers is the KATE autonomy, which means that KATE can take the decision to answer the question of the customer to provide a solution without any human being interfering and that is now at 56% of all the questions which we received from our customers in Belgium and 51% in Czech Republic, which has a significant impact on our efficiency. The second thing is the implementation of KATE goes hand-in-hand with the implementation of straight-through processing. Because as I said, KATE takes a decision, provides the solution to our customer, and that is without the interference of human being, so it means also that in terms of straight-through processing, any question is answered in a straight-through processed way and that is boosting our efficiency and our productivity.
Last but not least, KBC has been always very active on the front of sustainability, and that also clearly plays off in several things. We were already ranked high by agencies in terms of our sustainability score, but also in 2022, we now put it to the next level, so for the first time ever, we have what we call a green budgeting for the year 2023, but also the full implementation of the green strategy is now governance-wise fully implemented in the group in an operational manner. Consequently, we were one of the 19 companies worldwide who received the Terra Carta Seal, and we’re very proud on this one. But also, we published a report on the climate targets, which we foresee for the nearby future to reduce the CO2 emissions of our book — of our lending book and our insurance book, and we are now shifting that capital target book and the capital report into the Scientific-Based Target initiative approach, which is another step up. Last but not least, also, the Carbon Disclosure Project gave us the topnotch score of A, which is also an assessment of our sustainability activities.
On the next page, you get an overview. I’ll skip that and I’ll go to the exceptional items. As a matter of fact, this quarter is pretty unexceptional in that perspective. We had a couple of exceptionals, mainly driven by, for instance, the modification losses because of the cap, which we have to face on the interest rate in Hungary. That is €25 million negative, but that is offset by a couple of positive one-offs, which are related to, for instance, our transactions in Ireland, but also to the fact that in the U.K., the corporate tax has risen [6 points percent] from 19% to 25%, and that increases our DTA to the tune of €15 million. So offsetting all of this brings us to an exceptional of zero after tax or plus €4 million, so it’s completely negligible.
Let me now go into the more important stuff, which is driving our P&L. And let’s start with the obvious one that is net interest income. So the net interest income is up significantly, 20% on a year basis, 9% on a quarter basis. We already indicated on the announcement of the quarter 3 results that the impact on what we call the transformation result is very significant, and that is indeed now starting to have further impact, as we promised in the third quarter, is now taking place in the fourth quarter, and that will continue to do in the quarters to come. Why? Because our replicating book has shifted gradually into the higher rate environment. Be aware that a vast majority of our replicating book is still subject to the low interest rates, given the maturity profile of that book is nicely spread over time. As a matter of fact, we generated €140 million more transformation results on the quarter. On the year, it’s a whopping €280 million.
As a matter of fact, if I look into the pure lending activity, then the lending activity was pretty stable. There’s one fundamental remark here. The lending activity was down because of the decline of the Irish book, where we have, of course, given the process, which is ongoing — which was ongoing and which has now concluded, we built down the book significantly in the meanwhile. In Ireland, we did not pursue any commercial activity anymore in that book for obvious reasons. And therefore, the lending income has dropped in Ireland. [It’s now at] roughly €25 million. The other lending activity kept up quite well. We have seen, indeed, volume-wise, a slowdown in the fourth quarter, given the consequences of the war and the energy crisis, but we still had quarter-on-quarter stable growth of the lending book, both on the side of mortgages. As a matter of fact, mortgage was up 1% on the quarter as on the fact of — and on the side of SMEs and corporates, where it was indeed stable.
If I look at the total growth of the year, then it’s 7% including Ireland, 8.65% excluding Ireland. If you look at the deposit side, we had a very strong quarter again with a positive inflow of 2%, and we had a year-on-year result of 8%. If I exclude Ireland because there as well, we started to shift the portfolios to other banks. In the fourth quarter, we have a growth of 9.6% on the non-Irish book, which is very significant and also shows that KBC is considered to be a safe haven, which means that in difficult circumstances, i.e., a war environment, a lot of customers trust KBC or entrust KBC with their deposits, which in the current rate environment, clearly is paying off on the P&L side.
In terms of the net interest margin, no big surprise to say that the net interest margin was up 20 basis points on the quarter, 25 basis points on the year, and that is fully translated by the interest rates because there is still commercial pressure on the rates, most of the time on the mortgage books in all the countries. Fee and commission business, first glance it’s down 3%, 6% on the year, but it is definitely triggered by the — of course, the year-on-year comparison definitely triggered by the impact of the war on the assets under management. They declined significantly compared with 1 year ago. If you look on quarter-on-quarter, they went up with €1 billion. And here we have the first indication that in terms of the fee and commission business, which is linked to the sale of investment products that that is triggered by actually a good performance on the investment products side.
Entry fees were up. Asset management fees were slightly down, so the sum of 2 parts was roughly stable. The reason why the fee and commission income total of €451 million was €12 million lower has to do with one single element and that has to do with distribution fees, which are paid, mainly in this perspective to: first, the insurance business. Insurance business was doing extremely well and commissions which are paid out in that perspective are deducted here. And then the second thing, also in the fourth quarter, you have the seasonal impact of commissions, which are paid out in Czech Republic amongst others to Czech Post, and that is deducted also from the fee and commissions business there. So business-wise, investment products doing fine despite the difficult circumstances, despite the big volatility on the financial market. The second thing on the banking services, the interest — sorry, the fee business was up mainly because of payment business; and secondly, on the security side, KBC Securities side had extremely strong quarter given their ECM activities.
Assets under management already mentioned, €1 billion up. This is due to a pricing effect of the markets, but also because of net inflows. I was not expecting, to be very open, a positive inflow in the fourth quarter given the volatility. But in reality, we saw a further inflow of asset management sales to the tune of €0.3 billion, totaling for the full year 2022 an inflow — net inflow of €2.9 billion, which is 21% more than 2021, which was in itself a record year. So over the full year, KBC was able group-wide to boost its investment sales and its life insurance sales and generate, as a consequence then, the higher return on the fee business.
For a good understanding, out of the €2.9 billion net inflows, we had a very strong performance of the regular investment plans, which — this is a gross number — we’re inflowing €2.3 billion over the year. And that is indeed the main reason why the numbers are so good because regular investment plans are smaller amounts. They are absolutely not impacted by a lot of volatility in the market, and therefore, remain stable also going forward. And that’s a very important one, given the uncertainty which is still part of our daily life, I refer especially to the war in Ukraine.
Let me go to the insurance sales. Non-life is keeping up the pace of the previous 3 quarters with a growth of 7% on the written premium, 8% on the earned premium. I think the latter number is more important than the former. And it is also once again posting a very, very good quality and underwriting, 89% combined ratio despite the impact of the natural catastrophes, which we had in the course of the year. That 89% is due to all business units, so Belgium, Czech Republic, Slovakia, K&H, and DZI are hovering around at 89% and is actually a translation that the entire book of KBC, which is, by the way, underwritten in the same way, according to the same underwriting schemes that it is indeed performing in all countries extremely well.
In terms of the life sales, I said in the previous call that I was disappointed on the results of our performance on the unit-linked side. Well, my colleagues in the group picked that message up and performed extremely well. To give you an idea, we more than doubled the unit-linked business over the quarter, but also over the year, we actually doubled it, as you can see on the graph. In terms of the interest-guaranteed products, also there we had a very strong increase on the quarter and it is slightly below what it was in [position] last year. To sum it up, we have a growth on the quarter of 85%, and we have a growth of 35% roughly on the year. So it’s an excellent result also on the life insurance side.
Going to financial instruments at fair value, let’s keep this short. We had a strong increase of roughly €60 million on that P&L line, which is mainly driven by the higher dealing room income, €95 million extra, which is, of course, driven by the higher rates and the volatility in the market. We had a €26 million increase on the equity instruments because we actually had a very low result in the third quarter. And we have the usual volatility on the ALM derivatives and on the XVAs, which are mainly triggered by the increasing interest rates and therefore, the performance — the better performance of KBC on the funding side, which has a negative impact on those ratios.
On net other income side, it’s actually perfectly in line with the normal run rate, which is in principle between €45 million and €50 million. The difference between €50 million and €44 million is €6 million. Well, that is the explanation can be given because we had one provision of €7 million for an old legacy file, which is the legal file in Slovakia which is coming to materialization and that deducted from the €50 million brings you to €43 million, which is perfectly in line with the result, which we are posting here.
Far more important is the operating side, the operating cost side. That is on Page 11. We have posted today a cost of €1.16 billion. If you deduct the taxes from that, it’s roughly €1.145 billion. That’s 10% up on the quarter. And if you exclude, of course, Raiffeisenbank Bulgaria to make a comparison with the same quarter last year, if you exclude Bulgaria, you exclude the one-off, then we do see a growth of 7%. As a matter of fact, if you exclude those elements, we have a cost/income ratio of 54%, which is better than the cost/income ratio of last year. If you exclude the bank taxes, because they went up significantly, we have a cost/income ratio of 48%, which is substantially better than the 51% of last year. [How come] cost increase? There will be no big surprise when I say inflation pressure is there. We had a much higher inflation than we originally anticipated at the beginning of the year in all countries. But also, let’s say it as follows: we anticipated cost evolutions of the year 2023 and 2022. And for that reason, we just exceeded the guidance which we gave to the market. And as a matter of fact, if we would not have done so, we would have been perfectly within the guidance of the market.
Let me say [indiscernible] what is the impact on this matter going forward. Traditionally, on the quarter, you have seasonal effects, IT, marketing expenses, [indiscernible], we continue to invest on the IT side for innovation purposes because of several reasons. We have continued to build a tech company within the bank and as a consequence, a bank and technology. We are clearly building also marketing platforms for brands and for consumers to close the gap between demand and offer. And that will give all of them, including customers, including companies, the reduction possibilities on cost and on time spent. And the trigger of all of that is KATE and the further implementation of the KATE Coin. And in that way also, we want to be entrusted with customer data, so to give them the power of their own privacy within all legal boundaries. And this is the core of our investments on the IT side. And as I said, because of this, we will trigger productivity gains, and that will benefit to KBC Group in the nearby future, as it did in the last 2 years.
In terms of the bank taxes, while there are [certainties of life], bank taxes have gone up to a whopping €646 million which is 13.4% of our total OpEx. And you can see the split up over the countries. But in essence, this is driven by 2 things. First of all, interventions by government. Hungary in that perspective was an outlier again. And then the other thing is, of course, the impact of the growth of our deposit book because, for instance, in Belgium, the taxes are calculated on amongst others, the deposits, and that growth triggers automatically higher bank taxes.
So going to the assets impairment side, another set of good news. First of all, the impact of the war, we don’t see it yet reflected into our book. And that means that over the quarter, we actually only had to book €40 million of impairments. As a matter of fact, if I look into the detail of those — of that lending book, then the €40 million is actually translated into 1 single file, which costed us 300 — sorry, not 300, costed us €35 million, and that explains almost in full the €40 million. Otherwise, we see no deterioration of the quality of our book nor in the PD shifts, nor in the staging processes. But to be also on the more cautious side, we further increased the buffer for geographical and emerging risk with another €42 million, which brings us now up to €429 million. When we take into account the guidance which we give for next year on the credit cost side, then this buffer, €429 million, actually is the same as a full-year provisioning for 2023.
Last but not least, we also had an impairment of €51 million on what we call other. That is the earlier mentioned modification losses in Hungary related to the cap on the interest rate side, and then a €21 million impairment on intangibles that is traditionally on projects but also on buildings which we have, for instance, in Slovakia and then a goodwill impairment on — a small goodwill impairment in Czech Republic of €5 million on a fintech activity. Credit costs, I already mentioned, and in impaired loans, not surprised, that is very low, 2.1%. This is [according to] KBC definition. If we would use the EBA definition, which is not as stringent as ours, then we would have a credit — nonperforming loan ratio of 1.5%, which is clearly below the European average of 1.8%.
On Pages 14 and following, you have the detail of the geographical buffer, but I suggest that I’ll skip the essence of that. The only thing I want to say on Page 14 is the buffer which is put in there, we have to adjust that each and every time according to the evolution of the portfolio. And therefore, you can see that on certain of those buffers, which we put forward because there was no negative evolution, we are releasing already certain of those buffer parts because indeed the evolution is much better than what we have put forward at the beginning.
On the business profile, Page 16, you see the overview of our book. Clients continue to grow in numbers and then also the loans and the provisions — the loans and the deposit, as already mentioned, we are growing the book, respectively, 8.6% and 9.6% when we do not include Ireland. What does it then translate into capital? Well, on Page 17, you see the evolution of capital. The capital position CET1 fully loaded now stands at 15.4%, clearly above the surplus target, which we have set at 15%. It is due to the fact that in essence volumes went up. We had a couple of positives as well, for instance, on our market’s risk-weighted activities. And all in all, the risk-weighted assets remained pretty stable at €110 billion. Now if you translate that into buffers, then we have a — you can see that on Page 18, we do have a buffer of roughly €4 billion compared to our MDA restriction for a good understanding because of the changes in the — in certain of those underlying elements. Our OCR buffer now stands at 11.31, and our MDA level stands at 11.83%. To be very complete, as you know, we did an issue of a Tier 2 instrument in the course of this first quarter in ‘23. If I would take that into account, the MDA buffer goes up from 3.6% to 4%, bringing it in total to €4.4 billion.
In terms of the leverage ratio, increased as well to 5.3%, clearly above the regulatory target. 203 basis — 203 basis points would be extreme low, 203% on the Solvency ratio II of the insurance company, the drop is mainly driven by the impact of the interest rates. It’s a bit counterintuitive, but because of the interest rate curve, the impact is negative on the Solvency II ratio for the most significant part, equity markets have performed extremely well, and that is then mitigated by the volatility adjustment, which brings it down as well. So it is rock solid and because of a couple of intrinsic model-driven moves, it is now at 203%. LCR stands at 152%, whereas the NSFR at midterm stands at 136%, which is also clearly above the targets, which we have imposed upon us and which are also triggered by the supervisor.
Let me go to the forward look at guidance. We give guidance today on 2 elements: first, the year which we are dealing with, 2023. We have brought our guidance to €9.4 billion ballpark figure, which is including the positive one-off of €0.4 billion for the conclusion on the deal in Ireland. For a good understanding, this is better than what we originally posted for in the guidance — in your guidance, mostly at the time, it was included €0.2 billion. It now comes to €0.4 billion, and that brings the total ballpark figure to €9.4 billion. In that €9.4 billion, we give an update of the net interest income, which stands at €5.7 billion, and that is a significant increase compared to the numbers of ‘22. Consequently, also of inflation, the OpEx is now guided at €4.4 billion ballpark number, which brings indeed the Jaw of KBC for this year. And in principle, we don’t speak about Jaws, but the Jaw for this year is substantially higher than what was originally assumed in the market.
The credit cost ratio is currently estimated for the year ‘23 at the level of — at the range of 20-25 bps, which is slightly below the through-the-cycle target. And the reason why it is [adapted] is because we do see clearly also in the first part of this year, let’s say, the first month of this year, no further deterioration of our portfolio and also given the further improved economic circumstances, we do put the guidance at what it is 2025. We also update the Basel IV guidance. There is a lot of uncertainty on Basel IV and the decision process is currently ongoing at the level of the European authorities. And taking into account what we know and what is still under debate, on our balance sheet end of year last year, we will have an impact of approximately €3 billion. So the previous approach, which was on the static balance sheet, is now updated to the balance sheet of today, and be aware, what you see here is the impact of the dropout of Ireland.
The further guidance which we give is on the NII sensitivity. That is on Page 21. First of all, we gave you a full insight where we are with our net interest income in ‘22. How that goes down to the net interest income like-for-like and what the impact is of the positioning of — the increasing interest rates. We give you an insight taking into account a pass-through of 40% on the saving accounts and a pass-through of 80% on the term deposits at KBC Group level. In order to give you an idea what it means in terms of sensitivity, if the pass-through would change, so if we would go up or down, the interest sensitivity brought a 30% pass-through on the euro-denominated saving accounts, brings us a €0.15 billion positive impact. If you would increase it with 10%, then of course, you have to reverse the same.
This is for the year 2023. Consequently, with all the evolutions, we give a guidance on the longer term. As always, we do this on the basis of 3 years. And therefore, the guidance on total income stands at 6%. The guidance on OpEx comes to 1.8%, which creates a Jaw of 4.2%, which is an increase of our previous guided Jaw, which was 4% at least. The cost/income ratio goes to 43%, which is also an improvement. And then we keep the ratios or combined ratio below 92% or max 92%, and the surplus capital definition remains the same. The long-term financial guidance through the cycle remains for the credit cost ratio of 25 to 30 bps. And then all the others I’m not going to repeat them. And you can read them in this update because they did not change, just the regulatory requirements.
Let me come back to the long-term guidance. We have used for the long-term guidance the forward rates to make that calculation. The reason why we did so is because there is a lot of uncertainty in the market in this respect. And when we saw the decision of the ECB last week, Thursday, since then also the forward rates have been moving up and down both directions coming to an end, which is higher than what it was on the — what is it — the 3rd of February last week. We have taken into account that guidance of the forwards of the 3rd of February of last week. In the meanwhile, indeed, the forwards have come up with 25 bps. So this guidance, which we just have given, is in that perspective on the more conservative side.
All the rest of the package give you 2 details. First of all, it gives you the detail on the countries or the business unit, as you wish, for quarter 4 and gives you an overview of the full-year result. Let me skip both, but let me say that the full year result stands at roughly rounded number €2.9 billion, which is roughly 10% more than what it was. The driver is the sum of what I said on the quarter 4, kind of. So I prefer not to repeat it again, but I will make the floor available for you for asking questions.
So please, Kurt, guide us through the questions.
Kurt De Baenst
Thank you, Johan. The floor is now open for questions. Please restrict the number of questions to 2 to allow for a maximum number of people to raise questions. Thank you.
Question-and-Answer Session
Operator
[Operator Instructions] And the first one is coming from Benoit Petrarque.
Benoit Petrarque
Benoit Petrarque from Kepler Cheuvreux. Well, thank you for this very good presentation. I just wanted to try [to get] on the [indiscernible] guidance. So, first of all, on the NII 2023, you seem to assume a pass-through rate of 40%, which sounds like very conservative. So I just wanted to check if this is a 40% average over 2023, or is that a gradual increase to 40% during the year. So just wanted to check that because it sounds like the €5.7 billion is, again, well, very conservative.
And then on the guidance on total income. So ex-one-off, you go for €9 billion in 2023. I think your 6% CAGR assumes €10.2 billion in 2025. So could you maybe talk about the gap, I think it’s €1.2 billion extra income in 2 years, so that’s quite significant. Could you talk about, yes, the exact interest rate assumed in 2025? Also, the customer behavior embedded in that guidance?
And then just the final question is on the cost side. Where is your regulatory costs, say, trending in 2023 and 2025. I think some banks are removing the contribution to ESRF. So I just wanted to check where you are on this.
Roger Popelier
I’ll take the first question everyone and then Johan will follow up. So on the pass-through rates, indeed, we think we’ve been conservative because we’ve applied the 40% pass-through immediately. Currently, we are not at that stage at the group level. It depends, of course, country by country, but if you look at group level, we’re not at that level at the moment, but we’ve applied it immediately in this analysis.
Do you take the other one on the €9 billion? Yes. So on the non-NII increase between ‘23 and ‘25, you’ve got, yes, of course, the insurance, which is particularly on non-life, continue to grow at a good rate, and you see what’s happened in the last 2 years, growing at 7% to 8% premiums. We see that continuing in the next few years. And obviously, with a combined ratio, which is well below 100%. You know our target is maximum by ‘25 of 92%. That contributes quite a lot at that growth. So that’s quite an important driver.
The second one is fee and commission income. That will also grow, particularly in the later years ‘24-’25. ‘23 we’ll be growing, but not as strong as the later years, and that is because, obviously, we start with a much lower assets under management with a low base. So we have to increase quite a lot this year compared to last year to have the same average assets under management and then do better. But we think we are going to increase our fee and commission income there, both asset management and other services as well. And these are the 2 biggest drivers that explain the further delta between ‘23 and ‘25. Do you want to take the…
Johan Thijs
Benoit, if I add to that, because I was not sure if you were asking about [non-II] side. Like I explained it also, the total income side. Of course, on the evolution between now and 2025, the NII side will have a very positive impact. And that very positive impact, I mean there’s no big surprise here. It’s going to be driven by the evolution of the interest rates. And as I said, the guidance which we have given is the forward rates. In the meanwhile, the forward rates have increased, so on that side, it’s even a little bit conservative.
By the way, we in KBC think that the evolution of interest rate will be a little bit different than what is put — what you can read today in the forward rates. We fully agree with what is, for instance, on the short term. the next, let’s say, 9 to 12 months. But if you think on the longer end, there we believe that there will be more upside pressure on inflation, amongst others, triggered by the economy, which is not going to go down that deep as we originally — as the market originally anticipated. I’m referring to a recession period, which is not, knock on wood, going to materialize. That’s one element.
Second element, China is clearly into the market again, and therefore, will be also present on the energy market again more than it was in the recent past. Thirdly, obviously, you have the Inflation Reduction Act in the United States, which is clearly driven as a subsidy towards more economic development. Europe is currently debating the alternative or the answer to that. And let’s — I think the common understanding is that Europe has to act to protect also its economic output. And as a consequence, if this economic output will be delivered, you will have on both sides of the ocean, also upward pressure on commodities and/or on energy prices. So there will be an upward pressure. And because of that upward pressure, inflation will be higher than we think what is assumed. Consequently, given the context, which is given by the central banks also recently, we think also that even in the longer term, there is more upwards pressure on the interest rates going forward. And for that reason, we think that the forward rates are on the conservative side.
Coming back to your second question, you referred to the cost and what about the regulatory costs going forward. Well, in total cost for 2022, we had a purely regulatory cost, which is what we have to pay to our regulators to make them function. That is €40 million. We put forward in our budgets a constant evolution in that perspective upward. The regulatory cost, on the other hand, can be translated as an indirect cost, which is, for instance, the cost on the AML side. And that went up significantly in 2022. Like in every other financial institution, we see cost increasing there. There is a [bot] at the KBC side because KBC has, as you probably will know, developed an AI application 3, 4 years ago, and that is run across the group. And also in the meanwhile has been externalized into a separate company, which is dealing with other peers of ours to see if they are interested. Currently, we are running 2 pilot process — pilot tracks with other banks where they’re using our software for AML.
The impact in KBC going forward is that that software, which is far more efficient than the existing software, depends a bit on the country, we were talking about 3% to 15% more efficient. That will bring down the indirect regulatory cost, for instance, on the AML side. So we have taken that into account into our cost calculations. And if I would extend my story, everything what we do in terms of investments in innovation will have a positive impact, not only on the regulatory costs or the indirect regulatory costs, but also on the direct nonregulatory costs, will have a positive impact on the productivity in that domain.
Benoit Petrarque
On the bank tax, you expect a relatively flat level in the coming 2 years, or are you assuming a drop at some point?
Johan Thijs
This is a very difficult question. There are a couple of elements, which — the first one is, of course, we don’t have under control what the governments are going to decide. It was — at the beginning of the year, it was not foreseen that, for instance, the Hungarian government stepped in and increased the costs. All the other elements, which are on the table and which are known, for instance, Czech Republic, where the decision has been taken, has been put forward, that has been taken into the books. You know that for Czech Republic that the impact on KBC will be very limited. As a matter of fact, for 2023 it will be hardly — it will be be nonexisting.
What is going to be the decision going forward, we really don’t know because what we cannot exclude is that governments step in and because of their budgetary constraints, they are pushing up the bank taxes on the financial industry. For that reason, we also obviously guide our OpEx without bank taxes because we have no grip on bank taxes. And I already said a couple of years ago that it would be unfair to [save] the increase of bank taxes by cutting FTE and cutting into the muscle of your organization. So the answer straightforward is we don’t know. There is a kind of an inflationary aspect, for instance, on the bank taxes in Belgium because they are calculated on the number of deposits which we hold and the number of deposits KBC, as you know, is very attractive for customers. So we will have there anyway an upward pressure. All the rest depends on the change of opinion of supervisors — not supervisors, sorry, politicians in essence.
Operator
The next one is coming from Tarik El Mejjad.
Tarik El Mejjad
2 questions, please. I’ll just come back first on the bank taxes. You sound cautious about your ability to actually have this bank taxes stop or precisely the ESRF contributions. Is that because you are a Belgian bank and historically in Belgium, the things tend to be a bit harsher than the other European country? Why you think that will not stop? And do you think that’s [indiscernible] this could be renamed or recycled in Belgium specifically to another tax? And if you go into Slide 12, within the €646 million, how much is the ESRF actually, namely? Is it €154 million or there is other parts that falls into that?
And then the second question is on the capital return. Can you explain why you didn’t distribute the €400 million excess above €15 million with full year results as you did last year? This is part of the ordinary policy. And I presume you could have done it. And why pursuing the share buyback route while you trade at a hefty premium to book and incentive for that is lower and you can just do with cash given your excess capital?
Johan Thijs
Let me answer the first one. So on bank taxes, you’re right, we have a split of the bank taxes between straightforward bank tax — and I’m talking about what is on the Slide 12 — the straightforward bank tax which, as I said, is calculated amongst others in Belgium on what they call eligible deposits. That’s one thing. And then you have 2 other contributions, which are part of that. That is the contribution for the European Resolution Fund, and then the second one is the Deposit Guarantee Fund contribution.
So if I look, and you specifically refer to Belgium, let me give the answer for Belgium. You look at the numbers on Page 12, then we have, in total, €349 million of contributions for Belgium. That is split up €177 million of taxes, €74 million of Deposit Guarantee Fund, and €98 million of contribution to the Resolution Fund. What I was referring to the previous question, then we are not indexing the €349 million because of the evolution of the bank tax and then we are talking about the €177 million.
In Belgium, there was a rumor last year that the government was reconsidering the distribution — the DGF and so the contributions for the digital — not Deposit Guarantee Fund. That conversation is not decided yet, and we’ll see how that evolves going forward. Everything else, I cannot answer because I have no clue what the government is going to do. In terms of the second question you asked, so the capital distribution. The capital distribution, which is now put forward is indeed split up in 2 parts. You have one part which is linked to the surplus capital, the 15%, and that’s indeed €0.4 billion. And the second part is, of course, the [free flow] of capital, which is linked to the sale of the assets in Ireland.
We took both together indeed because, indeed, we are considering a share buyback, and we are discussing that — we have discussed that with the European Central Bank, but we keep the optionality open. That means that, first of all, we awaite the decision of the European Central Bank, which will happen in the next coming period. The authorities have in principle 3 months to decide that. Given the constructive dialog which we have had with the authorities, we have good hopes that it needs not to take the full 3 months, but we’ll see. And then on the basis of that, we will take — that is the new information we will get, we take immediately a decision when the decision of the ECB comes in on what we’re going to do and how we’re going to distribute the capital. And then you have all the optionalities on the table. The final decision is taken to distribute the capital. The Board [indiscernible] forms of cash, and they will see on the optionality, if it is approved by the ECB, of that optionality of a share buyback is taken yes or no. But a decision is going to be taken, both combination of the [free fall], and we did not wait for the full year — for the first quarter results on the €0.4 billion of surplus capital of the year 2022.
Tarik El Mejjad
Okay. But just to understand, so you will have — you asked for the share buyback approval. And then if you get the — you’re confident to get it, then you’ll decide, if you will do a buyback or cash or combination? Is that right?
Johan Thijs
Correct. And that’s what is mentioned on the slide, that is the final decision by the Board. It’s precisely that what you just described.
Operator
The next one is coming from Flora Bocahut.
Flora Bocahut
Yes. Flora Bocahut from Jefferies. I’d like to come back, please, first of all, on the distribution, just to make sure you know we understand your point correctly there. So basically the distribution delay regarding the €1.4 billion here is entirely due to you waiting for the ECB approval but nothing else. So when you say in the slide pack that you envisage this distribution, we should actually understand that you intend to do that distribution barring only the ECB approval that you expect in the coming months. So if you could just clarify that this is how we should understand this.
And then a question on capital, just to check 2 elements. The first is the IFRS 17 impact because you mentioned in the slide pack that you will provide us with more explanation in mid-April, but at least the capital ratio impact, can you maybe give us a number already? And then just to check that you still intend to update the capital target in Q1 like you do every year?
Johan Thijs
Flora, just to answer your first question, Luke will take the second one. The answer is, yes, indeed, you’re right. Your analysis is correct. So on the surplus capital and on the €1 billion, the decision to distribute it to shareholders is positive. Only the format we have a little bit of a different process because we need to get the optionality of the share buyback approval by the ECB. But the decision on the distribution is taken. There is no doubt about that.
Roger Popelier
And then on the IFRS 17 capital impact, there will be no impact as we work with the Danish Compromise, and we use the historical book value of the insurance company. That means that for capital calculations, KBC Insurance is deconsolidated and then taken as a financial participation as book value. So any IFRS 17 changes in the net asset value of the company do not affect as a result the core Tier 1 of the group.
Flora Bocahut
Very clear. And just the update on the capital target, we can expect in Q1.
Johan Thijs
Sorry, Flora. Yes, indeed, we are going to update, because we’re in a bit of confusion. Capital target, you mean the definition of the surplus capital?
Flora Bocahut
Yes.
Johan Thijs
So, yes, indeed, we are going to update that as well.
Operator
The next one is from Raul Sinha.
Raul Sinha
Just the first one following up on capital threshold, the 15% for distributions. Obviously, you’ve historically said that this is linked to the average capitalization of your peer group. But when we look at your own capital stack and perhaps look at the Basel IV impact within that, it looks obviously to be quite small. It was already small, but obviously, now it’s even more smaller. So is there scope for — should we be anticipating that there is now more scope for a reduction in the 15% threshold going forward? That’s the first question.
And then the second question I have is just a clarification point around the pass-through. When you say 40% is your assumption, can I ask what has been experience so far, for example, in Q4 of last year, what was the actual pass-through at the group level and perhaps in Czech Republic, which seems to be at the higher end within your geographies?
Johan Thijs
Coming back to the definition of the surplus capital, the 15%. As I said on the answer to the Flora on the previous question, we will give you an update on that matter on the back of the first quarter results. And for good understanding, we take into account several measures. You referred to the average of peers. It’s not the average. It’s the median. So in that perspective, we will give you the full update. It’s very early days to do it today, and we’re not going to do so.
And then just to clarify on the Basel IV impact, which we mentioned in our document. So the Basel IV impact is the first-time application impact. It’s €3 billion. And the impact of that is, of course, to be balanced given the fact that we take into account our peers because we want to be amongst the better capitalized financial institution in Europe. So all [is relative] given the impact of our peers going forward. But as I said, we will give you an update on the surplus capital definition of 15% in the months to come.
Roger Popelier
On your second question on the pass-through rates, we do not give any specific percentages. But as I’ve mentioned before, at the moment, and that also accounts for the fourth quarter, obviously, the group-wide pass-through on the savings accounts and 80% on term deposit, taken together, we are well below that at the group level. Of course, the difference — there’s a difference country-by-country. You can imagine that where interest rates are very high, the pass-through rates are higher; where interest rates are lower, pass-through rates are lower. But overall, we’re below the level that we here show in the sensitivity analysis in the pack.
Operator
The next one is from [indiscernible].
Unidentified Analyst
Two questions, please. So firstly, on costs. If you apply the 1.8% CAGR out to FY ‘25, you come to around €4.4 billion, which is dead in line with your FY ‘23 guidance for €4.4 billion as well. So could you perhaps talk us through how you plan on keeping costs flat from 2023 to ‘25, especially given earlier in the call, you stated the inflation could be more persistent and certain elements of your cost base are immediately linked to that?
And then secondly, on NII in Belgium. So is the Q4 amount reasonable run rate for FY ‘23 in the context of you flagged higher reinvestment yields, which contextually should grow, but also the current pass-throughs below your full year expectations for next year? So just some clarity on those dynamics would be helpful.
Roger Popelier
We had a bit of difficulty to understand because the line quality was very poor, but we think we understood it. Anyway so, first of all, the first question on cost. So if you apply the CAGR, you end up indeed at €4.4 billion. And we understood that the question was how will you manage to keep it flat given the guidance of €4.4 billion in 2023. Well, indeed, there are several reasons why we are achieving that €4.4 billion flattish level. First of all, be aware that the composition of the book has changed — will change, sorry, between 2022 and 2025. First of all, we have the exclusion of Ireland, which is still part of 2022, and that makes, of course, a significant difference.
The second one is that we will, regardless of Ireland, further reduce — or further increase, better, the productivity of our book. So we will have on the back of the innovation, which we have been investing in over the last years. We will have a fundamental improvement of our productivity per FTE. In the recent past, it was roughly 1% a year. So we can use that as a guidance. We don’t disclose the detail for the period to come. That’s one thing.
And then second thing is we do have a second effect, and that second effect is the integration of OTP in Slovakia, which still has to materialize, so that will materialize in ‘23, mostly in ‘23 and ‘24. And then we have, of course, the integration of Raiffeisenbank Bulgaria in — UBB Bulgaria, sorry, and that will materialize in ‘23 and ‘24. So those 2 evolutions are also to be taken into account as well.
And then last, but not least, we have also — and there was an earlier question, and I don’t remember precisely who asked it, but it’s an important one. It was Mr. Petrarque who asked it, that is the effects of the implementation of AI solutions amongst others on the regulatory side, and that is AML, which was a fundamental cost driver in 2022. So regulatory cost on the AML side, which were significantly up in 2022. If you do just extrapolate that going forward, you overestimate that because the impact of the AI solutions, which we have and which we, by the way, commercially used in our subsidiary [DZI], that is going to have a positive impact as well. Small detail, but it’s a significant number. Be aware that we had a one-off bonus of €41 million in the year 2022 because of the payout of COVID-related bonuses to our staff in ‘22, which we do not foresee in the years ‘23, ‘24, ‘25.
Johan Thijs
On your second question, we were debating, I don’t think we understand fully because there’s discrepancy in our interpretation here what your question was. Did you ask whether we could extrapolate the fourth quarter growth? Was that the question?
Unidentified Analyst
I can reclassify. Hopefully, the line’s a bit better. So it’s just about NII in Belgium and whether the Q4 amount could be extrapolated into FY ‘23?
Johan Thijs
Okay. I’ll give the complete picture. So first of all, you cannot extrapolate the quarter-on-quarter growth in — obviously, in the fourth quarter. Because in the fourth quarter, we already — we still had the benefit of €27 million of TLTRO in that number. So if you would [indiscernible] again in the next few quarters, that would be overestimating the NII. So that’s one element that we need to take out.
On the other hand, we still see ECB rates that have increased further compared to what we have on average in the fourth quarter. ECB rates, you have to look at what the average ECB rate was in the fourth quarter and then look at what the average ECB rates will be in the next quarters. Now there will still be quite an increase in the average ECB rate between the fourth quarter of last year and the first quarter of this year. And that has, of course, quite an immediate effect on our NII since a portion of our corporates and — our current account and saving accounts are reinvested in cash at the ECB. So that will have an immediate effect, but not everything.
And afterwards, we have, of course, the reinvestment of our replication book. But that will mean that the growth we will see in the first quarter will still be very strong, but then reducing a little bit quarter-by-quarter because then the other effects of reinvestments of your portfolio of your replication book will take over. But please do not just say you have 16% growth each quarter. That’s impossible.
Operator
The next one is from Guillaume Tiberghien.
Guillaume Tiberghien
The first one relates to your comments you made about using forward rates on the 3rd of February. What would be the impact if you take the forward rate now because you said it’s a little bit more favorable?
The second 1 is a clarification on the dividend ‘23 paid in ‘24. Is it fair to assume that because you take into account that €400 million gain on Ireland in the €1 billion distribution, when you consider the ‘23 earnings to pay the dividend ‘23 in ‘24, you will remove this €400 million?
And then a clarification on Basel IV, you said €3 billion saved in ‘25. Do you still stick to the €8 billion fully loaded? I’m not sure if I’ve seen anything on that.
Johan Thijs
So on the forwards, yes, indeed, there is a difference. I said it’s roughly, I think, 23 basis points average, so roughly 25 basis points. But unfortunately, we do not give that sensitivity. That work we leave up to you. Okay?
Roger Popelier
And then your question on the capital gain, the €400 million. Technically, you’re right that this is profit for 2023 and 50% of that is our policy will be paid out next year. So there’s a bit of double counting, but we’ll take that into account when we decide on the capital distribution next year. Having said that, and that is always our basis given the good profitability, we always want to have an ordinary dividend, which is stable, which is doesn’t — is not very volatile. But we have the sufficient profitability to ensure that there’s stability there, even if we have to make a technical correction of the €200 million, so the half of the €400 million capital gain, even if we have to take that into account as a correction, we will have more to be distributed normally next year, if you see what the guidance is than just 50% of our dividend — of our profits.
Then the question about Basel IV, yes, you’re right. We have not given any updates on the long-term effect of Basel IV. So the fully loaded effect, the €8 billion is now outdated and can no longer be used. Why? Well, we thought about doing the same again on the balance sheet for this year, a static balance sheet. But the problem is that there are so many effects that are currently under discussion and smaller — what may seem small decisions by the European Parliament and the Council and the Commission can have quite big effects on the results on Basel IV. So we now abstain from this because it can be volatile both plus and in minus, both ways.
Guillaume Tiberghien
So you’re saying it could be better than 8% but could be worse than 8%, so you don’t know, so you stick to…
Johan Thijs
There are so many amendments. I think 1,900 amendments that have been submitted. It is really difficult now to see what the endgame will be. And if we now give a number, then it could be really outdated by a big margin in 6 months’ time.
Operator
The next one is coming from Marta Sánchez Romero.
Marta Sánchez Romero
I’ve got a follow-up on costs. Could you please share what is the weighted average inflation per year that you’ve got in your targets? Because the 1.8%, again, it is low versus [indiscernible] particularly when we compare what you were saying on inflation going forward? The second question is regarding the debate between buybacks and special dividends, could you please remind us what is the preference of your core shareholders? And just a third one very quick on the Czech Republic. Are you saying that NII will grow in 2023?
Johan Thijs
Okay. We don’t give a weighted average inflation. But to give you an idea what our estimates were for the guidance is that in 2023, the average inflation for Belgium will be around slightly more than 5 percent points — sorry, 5% compared to now in ‘22, 10%. This is the harmonized inflation. We should be careful about that because local inflation sometimes is different from this because it’s harmonized and that is the average between 2022 and 2023. So it is not the inflation between the beginning of ‘23 until the end of ‘23, but the average compared to last year, 5.2%.
Czech Republic for ‘23 — sorry, maybe I should say, 5% for Belgium going down to 3% in ‘24 and then 2% in ‘25. Czech Republic,7.5%, slightly more than 7.5% for ‘23, coming down to 3% and then 2%. Slovakia, 10%, then coming down less fast, 9% afterwards and then lower. Hungary we keep at 8%. We think it’s going to go up at 18%, and then fast coming down to about 5% and then 3%, 3.5% by ‘25. And Bulgaria is 10% and going down also to 3% and 2%. So that gives you an idea of what our estimates were for the basis of our guidance.
Roger Popelier
On the question is what is the preference of our core shareholders. Well, we still have to discuss with them. I don’t know what their preference is. Clearly, the optionality is created. It was already decided by our AGM last year that we could do potentially a share buyback and also the reason why we reached out to our — sorry, supervisor, ECB, is clearly to have that optionality on the plate. What the preference is we will let you know as soon as decision of the ECB is in because we will take immediately a decision in that perspective.
Operator
At the moment, we’ve got no further questions. [Operator Instructions]
Johan Thijs
Sorry, there was one last question that was posed on the NII evolution in Czech Republic. And I think it’s a very interesting one and a very difficult one to answer as well because there are different opposing effects. First of all, of course, on transformation results that game is over. We will now probably have reducing interest rates rather than increasing interest rates. And there we’ll have to see how the pass-through rates can be reduced as a function of reduced reduction in interest rates. That’s very difficult to model.
And secondly, on the other hand, that is a positive effect, we still see some decent growth in the loan portfolio, as I mentioned before, and probably also improving margins. If rates come down, then margins go up again. What will be the end effect? There will be certainly not a huge increase, but we don’t see any huge decrease either. And it’s very difficult to predict at the moment. So we don’t give any precise numbers. But that’s indeed something where you should not expect a huge growth from. But again, we don’t think there’s going to be a huge downside either.
Operator
We have no further questions on the line.
Kurt De Baenst
All right. So this sums it up for this call then. Thank you very much for your attendance and hope you remain healthy. Take care and enjoy the rest of the day. Cheers.
Operator
Thank you. Everyone, that concludes your call for today. You may now disconnect. Thank you for joining and enjoy the rest of your day.
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