Banco Santander-Chile
Q2 2017 Earnings Call Transcript

Published: 29 Jul 2017

[Operator:]

Good day, ladies and gentlemen, and welcome to the Banco Santander-Chile Second Quarter 2017 Earnings Conference Call. At this time, all participants are in a listen-only mode. [Operator Instructions] Later, we will conduct a question-and-answer session and instructions will follow at that time. I'd now like to introduce your host for today's conference, Mr. Emiliano Muratore, Chief Financial Officer. Sir, please go ahead.

[Emiliano Muratore:]

Good morning, everyone. Welcome to Banco Santander-Chile's second quarter 2017 results webcast and conference call. This is Emiliano Muratore, CFO; and I'm joined today by Robert Moreno, Manager of Investor Relations; and our new Chief Economist, Claudio Soto. Thank you for attending today's conference call. The majority of you probably already know Robert so let me briefly introduce Claudio. Before joining Santander-Chile, Claudio previously worked as coordinator for macroeconomic policy in the Ministry of Finance and in different roles of the Central Bank of Chile, such as the Manager of Microeconomic Analysis, Manager of the Models and Projection departments and Senior Economist for the Research division. Claudio, will being leading the research team in matters related to macroeconomic and financial markets in the Finance division. We are excited to have him and we hope the investors and analyst community will have a chance to interact with him. Thank you for attending today's conference call. We are quite excited with the performance of the bank so far this year. I will pass it on now to Claudio for a brief overview of the finance of the Chilean economy during the quarter and our expectations for the rest of the year.

[Claudio Soto:]

Good morning. Chile economic activity remained sluggish in the quarter, mainly as a result of the decline of the mining sector. Excluding the mining sector, the rest of the economy continued to gain some momentum during the quarter compared to the first quarter of the year. The economy grew only 1% in the first quarter and should grow at around 1% in the second quarter. This trend should continue trending during the second half of the year to reach a growth year of about 1.5% as a whole in the year. I think we should further gain momentum next year, growing in a range between 2.5% and 3.5%, amid tailwinds coming from the global economy. Global growth in advanced and emerging economies has continued improving and commodity prices have risen, in particular, copper. Domestically, unemployment continues to be resilient, although job creation has slowed down and consumer confidence has improved. After recent developments, expectations have again been revised downwards for the year, and we're now expecting UF inflation rate at about 2% in 2017. Nevertheless, we expect inflation to pick up in 2018, reaching 2.7%. Given the lower inflation pressure, the Central Bank continued cutting rates during the quarter, adding a 25 basis point cut in May to the one done in April, thus giving driving the monetary policy rate to 2.5. Given the illusion of inflation expectations during year, we're expecting another 25 basis point reduction during the second part of the year. I will now pass it on to Robert Moreno for a review of the banking system and the bank performance during the quarter.

[Robert Moreno:]

Good morning, everyone. Loan growth in the banking system decelerated slightly in the quarter. As of May, loans were growing at a year-on-year rate of 4.5%, somewhat below our expectations for the year. The growth rate of Retail segments continues to be the main driver of loan growth, while commercial loans continue to reflect the general low growth environment we saw in the quarter. On the other hand, asset quality in the industry remains relatively stable and loan growth outlook as the economy recovers should rebound in the second half of the year. Now we will go into further detail in the implementation of our strategy and how this is generating high levels of profitability and efficiency. This was a positive quarter for Banco Santander-Chile. Net income in 2Q totaled 150.4 billion pesos, an increase 29.4% year-on-year and 5.7% quarter-on-quarter. This result was driven by a strong growth of client revenues, positive management of margins, leverage and a lower cost of credit and improved efficiency. With these results, the bank ROE reached 20.8% in the quarter, 370 basis points higher than our ROE in 2Q 2016 and above our initial guidance. This was notable not only due to the clean execution of our strategy, but also since our ROE was achieved in a low-inflation environment and with a higher corporate tax rate. With this strong quarterly result, net income in the first half of the year reached 292.8 billion pesos, increasing 21.1% year-over-year, led by a 31.6% increase in the net contribution from our business segments. This in turn was led by a 47.2% year-on-year rise in net contribution from our Retail banking segment. ROE for the first half of the year reached 20.3%, expanding from last year's 17.1%. As we will explain in the rest of this presentation, our strategy has been a key factor behind this. In terms of strategy, we made important advances this quarter in all of our four strategic objectives. As seen in this slide, our strategy has circled around, one, focusing our growth in those segments with the highest risk-adjusted return; increasing client loyalty through an improved client experience and quality of service; deepening our ongoing commercial transformation by expanding the bank's digital banking capabilities; and finally, optimizing our profitability and capital use to increase shareholder value in time. Regarding funding, the bank in the quarter focused on lowering its funding costs and optimizing liquidity levels. Lower demand for loans resulted in a spike in the bank's liquidity levels. In order to optimize this and to improve funding costs, the bank lowered its deposits rates in tandem with the lower Central Bank rate. At the same time, the bank stimulated a greater flow of customer funds to mutual funds, which in a lower rate environment, is a more attractive option for clients and which generates higher fee income. As a result, total deposits decreased 4.2% quarter-over-quarter, but on the other hand, mutual funds brokered by the bank increased 1.3% quarter-on-quarter and 14.0% year-over-year. At the same time, the bank has been proactively driving an asset and liability management strategy to optimize our net interest margin by fully benefiting from a falling interest rate environment. As a reminder, the bank's liabilities, mainly time deposits, repriced at a quicker pace than assets. So in a 12-month period, cutting interest rates by the Central Bank is generally good news for our margins. As can be observed on Slide 11, the average cost of our time deposits has been descending and this is helping to generate strong client margins, while maintaining healthy and more efficient liquidity levels. During the quarter, slower economic growth, coupled with the bank's strategy of focusing on profitability and risk, temporarily lowered loan growth. Total loans decreased 1.1% quarter-on-quarter and increased 2.9% year-on-year in the quarter. As previously mentioned, results from the majority of our business segments grew by double-digits as the subdued loan growth was more than compensated with strong client margins, fee income, a lower cost of credit and cost control. We expect loan growth to gain momentum by year-end as the speed of economic growth should also begin to recover. Loans and high-yielding retail banking continues to lead growth and increased 0.3% quarter-on-quarter and 5.1% year-on-year. Loan growth among middle and high-income earners increased 0.7% quarter-on-quarter and 6.3% year-over-year. Meanwhile, in the low end of the consumer market, loans decreased 7.2% quarter-on-quarter and 18.4% year-on-year. The bank continued to prioritize growth in less risky segments in order to maintain healthy asset quality levels and to increase margins net of risk. Loans to SMEs decreased 0.1% quarter-on-quarter but grew 5.1% year-over-year. In this segment, the bank is focused on growing the loan book among larger and less risky SMEs due to risk and considerations and also due to the fact that larger SMEs also generate higher non-lending revenues. Finally, especially in GCB, the bank continues to – on large corporate banking, the bank continues to focus on profitability and an efficient allocation of our capital over market share concerns. In GCB, results continued to be positive, as more than 90% of the revenue's non-lending based; therefore, the decrease in loans we saw in the quarter has not had a major impact on results. The success of this loan growth strategy is clearly reflected in evolution of our cost of credit and asset quality in the quarter. In general, asset quality indicators remain stable. On the one hand, the NPL ratio remained at 2.2% in 2Q, in line with the bank's loan growth strategy of steering away from the low end of the consumer market. Similarly, the bank's expected loan loss ratio or risk index, measured as loan loss allowances over total loans, also remained stable at 2.9% of loans as of June. As economic growth remains sluggish in the quarter, there was some minor deterioration of the impaired loan ratio from 6.1% as of March to 6.3% as of June, 2017. In any case, the coverage ratio of non-performing loans also remained at a healthy level of 136%. Provisions for loan losses increased 3.6% Q-on-Q and decreased 8.3% year-over-year. The cost of credit in the quarter was 1.1% compared to 1.1% in 1Q 2017 and 1.3% in 2Q 2016 and in line with guidance. On a quarter-on-quarter basis, the slight increase in impaired loans drove the rise in provision for loan losses. On a year-on-year basis, the change in the loan mix continues to be the main force driving down our cost of credit, which we believe should stay at levels between 1.1% and 1.2% for the full-year 2017. Total NIM, or net interest margin, was 4.6% in 2Q, up 40 basis points quarter-on-quarter and up 1 basis point year-on-year despite a lower year-on-year inflation. The positive dilution of net interest margin in the quarter was mainly driven by our Business segment. Net interest income from our Business segments, or client NII, increased 3.0% quarter-on-quarter and 11.4% year-on-year, with all Business segments showing strong NII growth, both on a quarter-on-quarter based and a year-on-year one, despite the loan growth. Client NIM, defined as client NII divided by average loans, which excludes the impact of inflation and the outflows liquidity portfolio, rose to 5% in 2Q compared to 4.8% in 1Q 2017 and 4.7% in 2Q 2016. It is important to note that despite a lower inflation in 2Q '17 compared to the same period of last year, the bank managed to sustain total NIM as a result of

[Operator:]

[Operator Instructions] Our first question comes from the line of Guilherme Costa with Itaú BBA.

[Guilherme Costa:]

Hi, good morning guys. Congratulations on the results and thank you for the opportunity. My first question is about the loan expansion. How much the ability of the industry will expand their portfolio this year? And how does Santander Chile compared with this growth? And then my second question is about the asset quality evolution. Do you expect to see an increase in the cost of risk going forward? And how do you see any deals by the end of the year?

[Emiliano Muratore:]

Regarding loan growth, for the system and for us, I mean we are expecting to keep market share. I mean we are not expecting either to grow faster or slower than the system. And basically, we are expecting the year to finish with a loan growth around 5%. And then that will be a little bit faster than what we have seen so far in the year, but that's consistent with our view of a recovery or certain pickup in activity towards the end of the year.

[Robert Moreno:]

And regarding asset quality, so the economy has been a little slow and obviously, I think our strategy of changing the loan mix still is a big factor. And so I think those are both kind of two forces that are kind of sort of offsetting each other. We believe the NPL ratio could rise slightly, especially maybe in the third, beginning of fourth quarter. But we also see the economy beginning to recover. So maybe by the end of this year or – and next year, we should see NPLs either stable or actually improving towards the end maybe of 2018. But overall, first of all, remember we have a high coverage ratio, especially in Consumer lending. So there's a big portion of loans there that we know are in more riskier segments, which have a very high coverage. So that is also a good protection in the sense that the loans that are most likely to fall in default have a high coverage. So what we're basically saying is, even though there might be some slight deterioration in the margin of NPLs, the cost of credit should stay in the range of 1.1% to 1.2% for the rest of the year, probably similar to what you saw in the second quarter and well, that's basically it.

[Guilherme Costa:]

Okay, thank you very much.

[Operator:]

Our next question comes from Jason Mollin with Scotiabank.

[Jason Mollin:]

Hello. Hi, everyone. My question is related to the outlook that you're talking about for the rest of this year and even 2018. You give some really good disclosure on some color for the trends and you're talking about ROE for the full-year in the neighborhood of 19% and 19.5%, and you also talk about a tax rate in the 20% to 21% effective tax rate, for 2017. But looking forward with this positive view on recovery and economic growth and potentially loan growth, should we think about this base level of pre-tax income as kind of like a starting point and things can get better going forward? And then therefore, we do have an expected increase or the effective tax rate because of the increase in the statutory rate. But if we look at it pre-tax, should this be kind of a new base level going forward and things will get better from here?

[Emiliano Muratore:]

I think that that's a good reading on our view and then for the future. Basically, tax rate and – going out, it's a headwind for the future and I would say that we are facing a relatively low inflation scenario. We have seen that already this year. So we are, let's say forecasting from where we are now. It's unlikely to be or we hope, I mean it's unlikely to be below where we are now, but basically I think your read is correct in terms of pre-tax that we are in sort of a new base level looking forward.

[Jason Mollin:]

Great. Looks great and it's impressive the branch optimization and the physical distribution network, you've really tightened that up. It is impressive and I think you just see it with the cost control. But thank you, that's helpful. That's all for me.

[Operator:]

Our next question comes from Nicolas Riva with Citi.

[Nicolas Riva:]

Yes. Thanks. So my first question is going to be on the net interest margin. So as you mentioned in the earnings release, you continued to grow faster in the mid and high income individuals, which we note is good and has been good for credit quality, but it shouldn't be that good for the net interest margin. Now when I look at your margin with clients in the second quarter, it was up 20 basis points quarter-on-quarter and was up 30 basis points year-on-year. So my question is, what's explaining the fact that the net interest margin with clients is holding up so well despite the continued change in the loan mix? And maybe if you can discuss also the outlook for the net interest margin with clients for the rest of this year and also for next year? And then I have a second question.

[Robert Moreno:]

Okay. So basically, the client and NII really benefited from the bank's general focus on profitability, okay. So obviously, we've been increasing retail loans much more than low yielding corporate loans. Corporate loans fell rather significantly in the quarter. So we've been really tight on our pricing policy, taking care of spreads, okay. I think has been a general case with us. The other thing, remember, is that since deposits are client generated, the fall in the deposit rate is benefiting the client margin. The inflation tends to go non-client margin because we manage that gap apart from there. The inflation gap isn't included in the client NII. But as the Central Bank has been reducing rates, funding has been cheaper, and you mix that with our loan mix and focus on spreads, you end up with those figures for client NIMs. So for the rest of the year, we believe this should be remain relatively stable, in the sense that rates are still falling and we should still see better – in fact, we should see better loan growth in the second half in Consumer lending, still some growth in mortgage, a little more in SMEs. So the outlook for client NII and NIMs is good. The only caveat we'd like to make is the third quarter inflation will be a little lower, so non-client NIMs might suffer a bit, but the overall outlook for client NII and NIMs is still quite positive.

[Nicolas Riva:]

Thanks, Robert. One question about this change in loan mix. Next year, assuming that we do get a higher GDP growth next year in Chile, would you maybe consider reversing this strategy of focusing so much on the mid and high income individuals? Or would you consider, at some point, going back to that low income segment?

[Emiliano Muratore:]

I would say that yes, I mean, if our base case economic scenario proves to be true, we think that definitely move, we should do – I mean, definitely, not go in maybe as low as we were with Banefe in the past. I mean, maybe not reaching that very bottom part of the segment. But yes, I mean, we are working in that kind of strategy of finding a way to serve a lower part of the segments that we are serving now in terms of lending. And I would say that definitely, economics situation and the scenario is critical because if the pickup in activity doesn't show up, definitely something that we shouldn't move forward with that. Basically, the main restriction there is to find a cost-light, cost-efficient distribution model, because as you saw, basically we are closing out all the Banefe networks. So considering the cap rate, which is lower than in the past, and it's not going to be increased, the risk of those segments is to medium to high risk. So basically, the part of the equation we need to figure out is the fusion model as cheap as possible and as light as possible in order to do a profitable business model. But I think that's something that we'll see in the future, especially considering the economic scenario being the one we foresee.

[Nicolas Riva:]

Thanks, Emiliano. And one last question for me. I remember in the last conference call, you mentioned that you are probably going to be doing a round of restructuring in some levels of management, which was going to be second quarter or third quarter this year, and it was going to be, I think, quite similar to what you did last year. Looking at your numbers in the second quarter, it looks like that didn't happen in the second quarter, is that still going to happen in the third quarter and what could be the impact in terms of earnings or charges in the third quarter?

[Robert Moreno:]

No, Nicolas, it's actually in the second quarter. In other operating expenses, there's a 12 billion charge related to that. Exactly what we did last year, okay.

[Nicolas Riva:]

Okay. Thanks, Robert.

[Robert Moreno:]

Thank you.

[Operator:]

[Operator Instructions] Our next question comes from the line of Sebastián Gallego with CrediCorp Capital.

[Sebastián Gallego:]

Hi. Good morning, everyone. Thanks for the call. I have two questions. First one on fees. If you could provide an outlook on the growth that is expected on fees for the remainder of the year and 2018. And my second question is a follow-up on OpEx and the cost-to-income ratio going forward. You mentioned that the new branches have a cost-to-income close to 15% compared to 25% of the traditional store or branch. Can you provide an outlook on what would you expect to be the cost-to-income ratio in the long-term? And how would that affect the long-term profitability in terms of ROE for the bank? Thank you.

[Emiliano Muratore:]

Regarding fees, we don't expect this kind of growth to stay. I mean, this 50% or so growth. We have done pretty well especially in the first quarter, in the investment banking business and advisory and that, so basically what we expect in terms of fee growth is something between 10% to 12%. I mean, that's what we are targeting. I mean, low double-digits growth, a little bit slower than what we have seen so far this year, but definitely a good level of growth, especially considering where we are coming from, from the last years where we're now finally have found ways to have fees growing in the double-digits. But as I said, most towards the low double-digit than the mid-to-high that we have seen so far this year. Robert, if you want to comment on the efficiency?

[Robert Moreno:]

Okay. So going forward, in terms of branches and OpEx, there's still some branches that have to be closed, others that need to be modernized. We have like several work cafés. We paused a little bit in the second quarter, but the second half, we should reach the goal of opening up to 20. So therefore, there are – and headcount has been coming down a bit. So there have been some savings, even though we still have to do some innovations. So therefore, the efficiency, we think, this year – the efficiency, obviously, as a ratio, depends on earnings and income and costs. But costs, definitely, should be one of the drivers of our profitability still going forward, despite the innovations. I think, in the end, the cost-cutting part will be – or the cost efficiency in productivity will be more important than what we need to invest. So cost growth below CPI is what we're targeting for the whole of this year and next year. Remember, the UF will be varying like 2% this year, so we're looking at below that. And next year, probably below – around 3%. And therefore, the efficiency ratio will probably be in the ranges between 40% and 41%.

[Sebastián Gallego:]

Okay. Just a follow up on that. But thinking on a long-term basis, could you say that ROEs could lead to 19% to 20% on a sustainable basis?

[Emiliano Muratore:]

Yes, especially it would depend on the economic conditions, but according to our base view on the economy, yes, we think that maybe this guidance between 19%, 19.5% is something that is sustainable. Definitely, there will be risks. The capital, I mean, the general banking loan reform in terms of capital, it's still a question mark. I mean, we are seeing it as neutral to positive, but is still unknown. We still have some corporate tax increase to come next year. So with headwinds and tailwinds and that, we do see in this picking up economic activity scenario, we see the current guidance on ROE for this year to be relatively sustainable for the future here.

[Sebastián Gallego:]

Thank you so much.

[Operator:]

[Operator Instructions] Our next question comes from the line of Alonso Garcia with Credit Suisse.

[Alonso Garcia:]

Hi. Good morning, everyone. Thanks for taking my question. Just want to touch Basel regards to capital. Thinking under Basel III capital rules, what would be your target CET 1 ratio or the level you see as optimal for the bank? And based on that, do you think you can maintain the current payout ratio, which is higher than other years in the past, do you think you can maintain this payout ratio for longer? Or in other words, could Basel III open the door for, let's say, some capital optimization from your side? Thank you.

[Emiliano Muratore:]

Okay. In that sense, what we did in Chile is similar, close to what we see in the European version of Basel III, which is the one that we know because we do the numbers every month for our parent company. We do see some room for optimization. Going to your target CET 1 ratio, we are expecting our regulatory minimum ratio to be not higher than 10%. I mean, basically, what we are expecting in terms of systemic and [indiscernible] charge, we don't expect a charge that some of those higher than 3%. So basically, we expect our minimum regulatory CET 1 ratio to be 10% and we always target to have 100 basis points above that as a way of managing the bank. I mean, not being so tied to the minimum. So basically, we would be targeting 11%. As Robert mentioned before, in Basel III, we expect to be above 12%. And so we do have some room of capital optimization in the near future after the adoption of Basel III. And in terms of long-term payout ratio, I mean, if the economic activity rebounds as we are expecting and in that scenario, loans should be growing high single-digits, I mean, close to 10%. So sustaining this 70% payout for the long run should be tough. I mean, especially with ROEs in the 19%, 19.5%. So in that positive scenario, because I see it as a nice problem to have, because that would imply commercial activity going well, but in that scenario, the 70% payout ratio is going to be difficult to sustain, although that should be starting 2019, maybe, because we go for 2017 and 2018, we still are below the long-term growth we expect the economy to have for the future.

[Alonso Garcia:]

That’s very clear. Thank you very much. End of Q&A

[Operator:]

And I'm not showing any further questions at this time. I'd like to turn the call back to Mr. Muratore for any closing remarks.

[Emiliano Muratore:]

Thank you all very much for taking the time to participating in today's call. We look forward to speaking with you again soon. Have a good day.

[Operator:]

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program and you may now disconnect. Everyone, have a great day.