Banco Santander México, S.A., Institución de Banca Múltiple, Grupo Financiero Santander México
Q3 2015 Earnings Call Transcript

Published:

  • Operator:
    Good day everyone, and welcome to the Grupo Financiero Santander Mexico’s Third Quarter 2015 Earnings Conference Call. Today's call is being recorded. After the speakers’ remarks there will be a question-and-answer session. For opening remarks and introduction, I would like to turn the call over to Mr. Hector Chavez, Managing Director, Head of Investor Relations. Please go ahead, Sir.
  • Hector Chavez:
    Thank you. Good morning and welcome to our third quarter 2015 earnings conference call. We very much appreciate everyone’s participation. By now, everyone should have access to our earnings press release and company’s presentation which were released before the market opened. During today’s call, will be speaking Marcos Martinez Gavica, Executive President and CEO. Also joining us are Pedro Moreno, Deputy President of Administration and Finance; and Rodrigo Brand, Deputy General Director of Public Affairs and Communications, all of whom will be able for Q&A. Before we begin our formal remarks, allow me to remind you that certain statements made during the course of the discussion may constitute forward-looking statements which are based on management’s current expectations and beliefs, and are subject to a number of risk and uncertainties that could cause actual results to differ materially that including factors that may be well beyond the Company’s control. For an explanation of these risks, please refer to our filings at the SEC and the Mexican Stock Exchange. On today's call, Marcos will provide an overview of our performance, quarterly results and a review of Mexico’s market and financial system trends. Marcos, please go ahead.
  • Marcos Martinez Gavica:
    Thank you Hector. Good morning and good afternoon for all of you. And thank you for joining us on this presentation of the results for the Bank in the third quarter. As you see in the first slide, Santander Mexico reported a solid business performance, achieving a consistent improvement across the operating and financial metrics. Total loans posted a strong growth across all segments and well above overall system rates. Let me highlight the outstanding growth in consumer loans, up 20% year on year, despite the good credit card market. Deposits were up 30% year-on-year and very good behavior in difficult demand deposit growing by 22%. Most importantly, the strong growth of our loan portfolio book was achieved while improving asset quality by 28 basis points sequentially. Our focus on driving efficiencies across the organization resulted in a 60 basis points sequential improvement in the efficiency ratio, bringing down to 42.9% this quarter. Excluding the deposit insurance fee or IPAB, this ratio improved to 40.7%. And finally, [indiscernible] at our parent company investor day, over the past couple of years we have been implementing a serious of strategic initiatives across the organization to further consolidate the leadership position in the Mexican financial sector and continue to drive efficiency and profitability. In line with the group’s renewal strategy, this measure has constituted a transformation of our operating model with an objective of further strengthening our position in the retail banking by consolidation our leadership position in key products and markets. I will discuss in more detail in a few minutes. Now talking about the macro environment, in light of the continued weak performance of the Mexican and the U.S. economy, we have further reduced the GDP growth expectation for the year to 2.4%. For 2015, GDP growth were revised to 2.7% from 3% given the tighter fiscal policy and weaker global environment expected for the next year. The domestic economy, however, continued to show positive signs in the third quarter supported by a high employment, a strong domestic car sales and healthy retail hikes. Talking about the inflation levels for 2015, having reduced to 2.9% from 3.1% and remain unchanged at 3.4% for the next year. And finally, we have reduced our interim rate expectation for year-end by 25 basis points and now anticipate what we’ve will close the year with an interest rate reaching 3.25% as Banco de Mexico follows the expected movement by the Fed as it normalizes momentary policy. We have also reducing rate expectation for 2015 to 3.8% from the prior forecast from 4%. And the next one, we have the system behavior and in this environment and as anticipated, overall system loans and deposit continue the positive year-over-year trend this quarter. Actually, total system loans rose 15% year-on-year in August, the most recent public data driven by growth across all segments. Consumer loans accelerated to 8.5% year-on-year with credit card growing 2.5% and other consumer loans up to 13.3%. System deposits as of August show an usual rebound, up 15.4% year-over-year due to easier comparison to three-quarter 2014 as we expect to see normalized levels in September. In summary, the financial system is steadily recovering supported by healthy consumer dynamics despite the low GDP growth as I just mentioned. In this context, Santander Mexico achieved significant long growth, up 19% year-on-year and 6% sequentially, well above system rates. All segments contributed to this solid performance as you see in the slide. And let me highlight the 19% increase in retail loans with strong growth also in corporate and government loans. Also note that we’re achieving a more profitable mix in loan book. Individual loans performed quite well this quarter, up 16% year-on-year and far above system growth rates across all segments. A renewed focus on payroll and personal loans continue to drive strong growth in these two segments, which combined were 33% year-on-year. Even excluding the acquisition of the Scotia Bank portfolio, the organic growth was 30%. Credit card loan growth pick up to 4% sequentially as expected promotions and reward programs allowed to double system growth, bringing year-on-year growth of 9%. This strong performance has resulted in market share gains, 70 basis points in credit card and 150 basis points in consumer loans over the past 12 months. Mortgages also contributed our loan growth of 14% and again above market trends as we continue to improve customer absorbing process. Commercial loans were also very strong, up 21% year-on-year with solid growth in all segments. We continue to strengthen our leadership position in this attractive SME segment with loans increasing 23% year-on-year, beating system rate and gaining 200 basis points in market share over the last 12 months. This reflect the success of our strategy to increase our focus on SMEs with annual revenues up to MXN100 million to further develop this market. In the middle market and total loans showed good growth also beating the market. And finally as anticipated we saw a hike this quarter in loans to government on financial entities as we had some significant drawdowns from two state owned energy companies following some large payment last quarter. In terms of funding, deposits are main source of funding expanded 12% year-on-year and 2% sequentially reflecting our strategy to drive deposit growth to all retail SMEs, mid-market [indiscernible] and payroll clients as well as a positive contribution from the new branch. An improved mix in deposit driven by higher contribution of 22% in individual and 24% in SMEs has also allowed us to support cost of funding. Our strong financial position is further supported by some liquidity with a loan to deposit ratio of 102.8% and solid capitalization of 15.4%. This together with a healthy debt maturity profile provides Santander with a strong base to further the loan portfolio in an expected environment of increasing interest rate. Finally, our regulatory liquidity ratio stood at well above the required range. Looking out the income statement, net interest income increased 13.5% over the last 12 months making this the fourth consecutive quarter with an accelerating year-on-year growth trend. Sequentially, net interest income was up 3.3%. The loan portfolio excluding credit card posted NII up 20.2% year-over-year while investment in securities contributed with an [indiscernible] increase. This more than offset the almost flat NII generation by credit cards. Net interest margin for the quarter increased to 4.91%, up from 4.84% last year, reflecting a strong growth in higher margin consumer loans in a low interest rate environment. We are confident that the overall recovery of consumer activity will continue to drive NII growth. Looking ahead, we should also benefit from the strategic initiatives we are implementing to further strengthen our solid position in the retail market. Moving on down to the P&L. commissions and fees rose 10.4% mainly explained by higher investment banking fees as we continue to rapidly execute our deal pipeline. Looking ahead, we remain cautious in activities essentially subject to overall market condition and project execution. Insurance, the main contributor to net commissions and fees, also performed well. Result benefited from the launch of three new life and damages insurance product this quarter and a stronger focus on the sale process and service quality. As expected, however, credit card fee remained weak declining 3% year-on-year, although relatively stable sequentially. This result is mainly explained by our reward programs and placement fees as we continue actively place cards in the open market. Sequentially, fees declined 8.1%, this reflected more difficult comparison with [indiscernible] a very unusual record high financial advisory. But if you compare not with the second quarter but with the other quarters last year and the third one of this year, you see that is the highest number that you have seen in the bank excluding these exceptional two quarter and this 8.1% doesn’t reflect any decrease in our activity. And a top performance in NII up to 14% year-over-year was the main driver behind the 11.6% year-on-year increase in gross operating income. Net commissions and fees also contributed to this performance of 10%. Market related revenues have been quite volatile reflecting the prevailing market uncertainty. Year-on-year trading income fell 10% but was up 8% sequentially. During this quarter, market related revenues represented only 12% of gross operating income, below historical levels ranging from 5% to 10%. In summary, the strength in core earnings has been mitigated by these weaker trading gains. Moving onto the asset quality, keep in mind that the 19% year-on-year loan growth was achieved while maintaining a strong focus on risk management. While loan loss reserves increased 20.5% year-on-year and 1.1% sequentially, as anticipated, note that this includes MXN540 million in the specific items in connection with Pemex suppliers, homebuilders and the Scotia Bank portfolio. Excluding these three items, loan loss reserves would have been MXN12 billion, growing below and well below the loan book. This is reflected in the stable cost of risk and improvement in the NPLs. Our solid cost of risk remained relatively stable at 3.45% and at the bottom range of our expectations for the year. NPLs were down 28 basis points sequentially to 3.49% with contributions from our segment. Commercial NPLs improved 42 basis points, SMEs 17 basis points and consumer loans down by 11. Moving onto the operating efficiency, the implementation of tight cost controls across the organization combined with a strong core earnings allows to improve the efficiency ratio by 50 basis points sequentially. Year-on-year, the efficiency ratio fell by 10 basis points. As expected, administrative and promotional expenses remained relatively flat sequentially. Overall expenses however increased 8.2% year-on-year. Excluding the 16% increase in the deposit insurance fee, expenses would have been grown by 7.5% year-on-year in line with our guidance. This increase in expenses reflect higher personnel expenses and amortization to support growth. For the fourth quarter, we expect cost to maintain a similar trend as we remain focused on driving operating efficiency. In summary, our strong performance in core revenues more than offset lower market related revenue and higher loan loss reserves. This has allowed us to deliver a 4.5% sequential increase in pretax profit and a 9.3 year-on-year gain. We have also actively managed our tax strategy, it is quite lower in the impact of the normalization of our effective tax rate, which fell to 21.3% for the quarter and 22.6% for the nine months, very close to the low end of our guidance range. As a result, net income rose 7% sequentially and 6.8% year-on-year, while ROE stood at 12.1%. Moving on to the guidance of the year. We continue to expect loan growth to range between 13% and 15% for the 2015 with consumer loans expanding between 12% and 15%, mortgages between 10% and 12% and SMEs by 22% to 25%. Deposit growth, that should remain at 10% to 12% with cost of risk also changed ranking between 3.4% and 3.6% here. We expect pre-tax earnings to grow between 5% to 10% as core earnings should accelerate in the last quarter. Net interest income is expected to continue growing and further improve due to the higher growing consumer loans. Net commissions and fees should benefit from seasonality and from the materialization of our investment banking pipeline. In turn, provisions should decline as we have finished provisioning the specific item discussed earlier. That means the Pemex supplier, the home builder and the portfolio Scotiabank. Operating expenses are also expected to increase at our original guidance of 6% to 8%. Remember, expense growth wasn’t included in deposit insurance fee and the reversal of employee profit sharing program and the cost of operation. Finally, effective tax rate for the year still remains at 23% to 25% and it compare to normalization. In the next pages, we have some review of some of the slides that we presented in the parent’s company yesterday. I only speak a little bit for the first one. We already do take some of the questions about this strategy for the next three years in the Q&A session. At the Investor Day, we had the opportunity to respond where first the strategic initiative that we have been implementing over the past years and second, the new actions that we are taking to meet our long terms goals and three, how our strategy fits within the group’s overall strategy. As our presentation has already been made available to analysts and investors, I will summarize the key points as you can also find the presentation. To begin, we have strategic priorities. First, we will strengthen our position in the retail banking segment and second, we will consolidate our leadership position in our key markets. With these objectives, we are transforming our operating model and we’re doing this by implementing new technology and investment in quality, talent and marketing. And before starting with the call for the questions, I would like to remind that you last August, we announced that Mr. Carlos Gomez will be retired at the end of this year as Chairman of the Board. And I will become the next Chairman of the board in January the 1st, while next month, Mr. Hector Grisi will become the Executive President and COO of the Bank. And we’d like to tell you that it’s been a pleasure and an honor to get back to the history of Santander Mexico during the last 18 years. I have led from the start and to become one of the leading franchises in the country and I look forward supporting Hector and the very, very good management that is in place in this bank to consolidate leadership position in the Mexican financial sector. And I would like to thank you analysts and investors for your interest and support throughout this year. Thank you very much. Operator, we can open the line for questions please.
  • Operator:
    Thank you. [Operator Instructions] And we’ll take our first question from Philip Finch with UBS.
  • Philip Finch:
    Thank you, Marcos for the presentation and good luck with your new role in the future.
  • Marcos Martinez Gavica:
    We can’t hear you, Philip. Could you speak up a bit?
  • Philip Finch:
    Can you hear me now?
  • Marcos Martinez Gavica:
    Yes. Thank you.
  • Philip Finch:
    Okay. Thank you for the presentation, Marcos. A couple of questions from me please. First of all, it's very encouraging to hear about your asset quality trends. Things look very positive there and the end of the so-called non-recurring provisioning for those three issues paving the way for lower provisions going forward. Can you just tell us if you can - your exposure to ICA, whether this exposure is still performing and if you have any intentions to make any provisions for it going forward? And secondly, in terms of your loan growth guidance, which you've maintained at 13% to 15% this year, given that you delivered very impressive loan growth in the third quarter at around 19%, does this imply that we are going to see a slowdown in loan growth in the fourth quarter? Thank you.
  • Marcos Martinez Gavica:
    Well, I will start with the ICA issue. I think I published in the two quarter of this year, basically, we have a MXN7 billion in credit to them. At this moment, it is 5 billion, but let me tell you how - what kind of loans we have done to them. Approximately 2.2 billion that is 45% of this position is an equity guarantee [indiscernible]. Another MXN800 million, 17% of this position have the guarantee of two of them and besides credit cards, very good guarantees in both the cases. And 1.9 billion that is 38% of this position is related to fall concessions. There are in operation and the other one almost finishing and with very attractive expectation. And you have seen all of those position is related to different ICA - to the ICA risk, sales and that’s why we feel very comfortable and supporting the company for a difficult time that they are passing at this moment. And we are not expecting any impact because of this. And on the other hand, we are growing almost 20% the loan portfolio and we think we can maintain a similar number for the rest of the year. It will be better the guidance that we gave.
  • Philip Finch:
    Thank you very much, Marcos.
  • Operator:
    And we’ll take our next question from Jorge Kuri with Morgan Stanley.
  • Jorge Kuri:
    Hi. Good morning, everyone and Marcos best of luck in your new role. I have two questions. First, on your credit card performance. Credit card loans had a nice sequential improvement. The fees didn't do as well. Do you think that the sequential progression has to do with people feeling more comfortable about using their cards and putting behind sort of like the panic of the fiscal reform? Have we turned the corner on that? Should we expect credit cards to not grow well above the overall loan book? And my second question is on - is specifically on the provisions. You mentioned that you think you've put behind some of the issues that were hurting your provisioning. Do you have a sense of what would be the recurring provisions for the next couple of quarters? How much downside should we see versus the MXN4.5 billion and MXN4.6 billion that you reported in the third and the fourth quarter - sorry, in the second and the third quarter? Thank you.
  • Marcos Martinez Gavica:
    You’re welcome Jorge. Well in the second question, people is not really changing about the use of their credit card in our case. We are growing because we were very effective in new credit card strategy that we have carried 18 months ago. And this besides the promotion that we have done has been successful, but we’re not expecting a big change, people are starting to come back to using the credit card. But you see on the other hand, they are also doing this kind of launch for their consumer loans and that’s why we are growing more than 30% that portfolio and even then the system is growing, I don’t remember, what I think more than 15% in the consumer loans. And on the other hand, this quarter, we had more than 500 million, 540 million to be specifically correct, in the provision related to the two issues that we have told that, it’s not going to happen again in the next quarters. That’s why you can expect around 500 million left in the next quarter and you will see that they will be growing, but only because well expected, a very good behavior in the loan portfolio and you see, as you know, we have to make some provisions in that and it will be around MXN200 million more in the third quarter and this year around that.
  • Jorge Kuri:
    All right. Thank you.
  • Marcos Martinez Gavica:
    You’re welcome, Jorge.
  • Operator:
    And our next question comes from Tito Labarta with Deutsche Bank.
  • Tito Labarta:
    Hi. Good morning and thanks for the call and good luck, Marcos on your new role. I guess a couple of follow-up questions. In terms of your loan growth, good performance on your loan growth. But what gives you the comfort that you are growing so much faster than the market? I know you had some good asset quality trends and that can be part of that. But just given the pace that you are growing in most segments faster than the market, just some - what's giving you that comfort, particularly with the economy still kind of growing below expectations and growing below 3%. So what makes you so comfortable that this loan growth won't become an issue down the road if the economy doesn't pick up significantly? And then just another follow-up on the provisioning levels. I know you said provisioning levels can come down given that you've done a lot of the provisions for the homebuilders and -
  • Marcos Martinez Gavica:
    Sorry, we’re not hearing you. Tito.
  • Tito Labarta:
    Sorry. I will try to speak louder. And just a follow-up on the provisioning levels. I know you said they should come down a little bit more as you've booked a lot of the additional provisions you had for this year. But just thinking of the cost of risk maybe beyond this year, do you think it can go below the 3.4% to 3.6% guidance for this year or does the change in mix mean that the cost of risk is going to remain around those levels after this year and when all the additional provisions are gone?
  • Marcos Martinez Gavica:
    Well, we feel very comfortable with the credit quality, even though that we are growing more than our competitors, because we’ve seen, for example in the consumer that the new vintages are behaving better than the older one, they’re behaving better, each new. And then on the consumer side, we see that it will be a very good behavior, only that we will have the next provisions that you know. In the commercial portfolio, we don’t have any problem and we don’t see that nothing especially happening from that segment of the market. And then we are growing very well our share of wallet with most healthy clients on that sector. And we are expecting to growing more in the government, but you know that, it’s only focused on PEMEX and CFE. And the mortgages are behaving very well too. Then if you see portfolio by portfolio, the quality is the best one that we had during the last months and years and we are expecting that to follow. And in the cost of risk, at the same mix, it will be reducing from the 3.4%. But we are not sure if that - we are expecting and we hope that we can change the mix with most important participation of the consumer loans that as you know have to make more provisions than on the other part of the business, on the government for example. And that’s the only reason, why the 3.4% will be maintained if we are able to change the mix.
  • Tito Labarta:
    Great. That's helpful. So just to clarify, you think you could reduce it a bit less than the 3.4%, but it will depend a bit on the mix, correct?
  • Marcos Martinez Gavica:
    Yes.
  • Tito Labarta:
    Excellent, thank you very much.
  • Operator:
    We will take our next question from Carlos Macedo with Goldman Sachs.
  • Carlos Macedo:
    Hi, good morning, gentlemen and thanks for taking questions. First question, a little bit follow-up with Tito's question. Just looking at how the market is growing and how you are growing vis-à-vis your competitors, we are seeing a little bit of growth, different strategies, growth stronger in certain lines for yourself and weaker for in other lines. Basically, I think everybody is growing in a different direction. I just wanted to get an idea of what you think the competitive environment is like? I mean obviously you see a significant path to the growth and you've expressed that. Is that something that you feel the entire market sees as well or are your competitors more constrained for different reasons then and you’re taking advantage of that? Second question, you talked a little bit the tax rate is coming at the low end of your range of your guidance. Does that change anything regarding next year and the year after and the expectation that you have that the effective tax rate will migrate to 25%, 26% over time? Thanks.
  • Marcos Martinez Gavica:
    Well, in your first question, the competitive environment, not all the banks are in the same line of competition and not all the banks in the same segments and products. We see good competitors in each of the segments, but we can’t be able to grow more. And nobody is until this moment, and we hope not will happen in the future too that the tool to be more competitive is reduce spreads or to reduce prices. As a matter of fact, in the last three months, we have moved 4%, or 100 [ph] basis points, our interest rate in the consumer loans and nothing has happened. We are still gaining market share, increasing the interest rate. Then we feel very comfortable and that’s why we are saying that the NII and NIM will grow in the next quarters. And then the second one, I will ask Pedro to explain you about your question.
  • Pedro Moreno:
    Yes, we are wrapping [ph] taxes, as Macro said, we are managing efficiently this quarter, we have got some advantages, but we are still in line with our expectations to finish this year probably in the low-range of our guidance around 23%. We are doing in the first nine months in 22.6% and we are seeing 23% as a reasonable point for the year-end. Talking about next year, we unfortunately think, continuing think that we will make the normalization to around 25%, 26% and finally in 2017, we will achieve the 28% target.
  • Carlos Macedo:
    Okay, thanks. Just going back to the first question, you mentioned that you feel comfortable, you raised the yield that you charge on your loans and you are still retaining or being able to grow at the same pace. I know you can't speak on behalf of your competitors, but is there something that you feel you are doing much better than they are? Is it something - is it the new branches that are giving you the advantage? What has been driving the stronger growth?
  • Marcos Martinez Gavica:
    You’re talking about loans, the loan operations?
  • Carlos Macedo:
    Yes.
  • Marcos Martinez Gavica:
    Well, what we have done for example in SMEs is that we are year-to-date deciding and giving the loans to the clients. We tried in this segment, we have developed new packages for a different kind of SMEs that are specialized for the needs and it’s been very effective. I am going to give you two examples. One of them is that, we have developed package special for the gas stations in the country. But as you know, have very specialized to buy and be supplied by PEMEX. Then we enter into the process of PEMEX on the gas stations and we have the mandate of PEMEX to be the only back who now give the service to 11,000 gas stations of the country. Another example is that in the health sector, that means hospitals, medical doctors, nurses and the people around the hospital. We have made a special package for them, but as you know, they have a very special way of paying taxes and to use the loans. And these packages are being served inside of the hospitals where we have put some special office. And it’s in a very, very effective way that the new marginal medical sector has a lot of income and a lot of needs. On the corporate sector, what we are doing is taking advantage of the problems that some of our competitors are facing and bringing some of them to us, and on the other hand to increase the share of wallet with them. And in the mortgages, we have been very, very effective given a very fast answer. And for example, we are the only bank at this moment that have again a variable interest rate mortgage that give them the best monthly payment to the clients, and they don’t have the risk that they had in the past quarters because they have a ceiling in the interest rate. The clients are feeling very comfortable that the top of the interest rate can be 12%, but at the same time they are paying less than the mortgages of our competitors. And for example, in the credit card, we review the whole process and we are doing the revision of the processing 15 more products. But in this case, we will reduce the time from them after the credit to be operative for 40 days to half an hour. Now when a client enter into the branch and asks for a credit card, he leaves the branch with a plastic and operational. That’s the kind of the thing that we are doing. And in the payrolls, for example, we have changed the whole process and we have been able to be in contact with them one by one. That is very difficult to do and it’s helping us not to - to have the opportunity to be in touch personally with each of the clients in the payroll, where they can - at that moment, they sign the papers that we need to be active talking about loans. And at the same time, we are supporting the whole documentation in terms of knowing your client that is very important for this bank.
  • Carlos Macedo:
    All right, great. Thank you for the very thorough answer, Macros. Thank you, Pedro.
  • Operator:
    And our next question comes from Saul Martinez with JP Morgan.
  • Saul Martinez:
    Hello everybody. Good morning. I have a sort of a bigger, like more generalized question about how you’re thinking about profitability because I think the bull case for your stock is that after about three years of earnings and profitability that have been lackluster really since 2012, you’re seemingly turning the corner. And it seems that fourth quarter, as you mentioned, seems like it's going to be a much better quarter in terms of earnings power, even your guidance, to get to the low-end of your guidance kind of implies a high MXN3 billion, low MXN4 billion types of earnings once adjusted for tax rate, which if we carry to 2016 given fairly good operating momentum, it’s very easy to see earnings power really expand MXN16 billion, MXN17 billion, even more than that billion in types in earnings. And I know you are not giving guidance, but just carrying through what you are expecting for 4Q does imply a very big pick up in terms of earnings and profitability. So my question is really how confident are you that that's the right way to look at it? How confident are you that you are really, not necessary, just generally on the right path, but that you are in line to really expand ROEs to hit earnings that are in the MXN16 billion to MXN18 billion range for next year and really generate the type of earnings growth that I think investors have?
  • Marcos Martinez Gavica:
    Well, we still feel comfortable as we told you before in the guidance for the next three years that in the year 2018, we will - it’s possible to achieve the 18% of ROE if we can do the same thing that we have told you in the last sessions. But I am going to ask Pedro to remind you where the PUs that lead us to the 18% ROE.
  • Pedro Moreno:
    Great. Well, mainly the trend in the net interest margin should be [indiscernible] growth for the coming three years. Leverage on a higher interest rate base and the actual rhythm of growth of our loan book. Fees should behave better than it was in the past couple of years. We are confident on the expansion of the economy in Mexico and that infrastructure projects and energy projects will come to the light. You do leverage of these in a low-cost base. This is the key point. Remember that our efficiency ratio will be below 40%. It’s a mathematic issue. Even though we will normalize taxes, this is the trend - this is how we see the next three years. But the key point is efficiency, efficiency and stable cost of risk.
  • Saul Martinez:
    Okay. But, Pedro, your ROE is - an 18% ROE, I assume that's on the same base as the 12% ROE you've generated over the first nine months, which implies a pretty - I haven't done the math, but implies a pretty substantial increase in earnings even with a fairly high dividend given your book is growing whatever, X percent. To get to 18%, that's a pretty rapid compound annual growth. How I would be happy if you got halfway there. But are we talking about the same thing, 12% ROE going to 18%, 6 percentage point increase, basically 2 percentage points a year in terms of ROE expansion?
  • Pedro Moreno:
    Yeah, that’s what we are expecting and it is maintaining the same payout practice that we have right now. Well, assuming that the actual rhythm of business growth, we don’t have any better approach than continue the actual trend or either improve it leads you to that final end. I mean, as I said, this is a mathematic issue based on actual growth, improving efficiency ratio and actual - stable cost of risk.
  • Saul Martinez:
    Okay. Okay and that's - and you are assuming, just to clarify, sorry, I think you answered this. I think I - I'm sorry, I think I missed it. But the tax rate next year, you guys see more in the 25%, 26% and then going to 27% in 2018, am I right about that?
  • Marcos Martinez Gavica:
    You’re right.
  • Saul Martinez:
    Okay. Got it. All right. Great, thanks so much.
  • Marcos Martinez Gavica:
    You’re welcome.
  • Operator:
    We’ll take our next question from Alonso Garcia with Credit Suisse.
  • Alonso Garcia:
    Hi, good morning, everyone, and congratulations on the results. My question is just regarding the outlook for next year, probably you can provide some color mainly on the outlook for growth. Thank you.
  • Marcos Martinez Gavica:
    Alonso, we can't hear you.
  • Alonso Garcia:
    Can you hear me now?
  • Marcos Martinez Gavica:
    Hello?
  • Alonso Garcia:
    Can you hear me now?
  • Marcos Martinez Gavica:
    Operator, could we take the next question, please?
  • Operator:
    Yes, our next question comes from Carlos Gomez with HSBC.
  • Carlos Gomez:
    Hello, good morning and also congratulations to Marcos and good luck in your new role.
  • Marcos Martinez Gavica:
    Thank you, Carlos.
  • Carlos Gomez:
    My question is about capital. We see that your Tier 1 has now reached 12.1% and you mentioned that you want to maintain the same payout that you have been maintaining, which, correct me if I'm wrong, has been roughly around 50% of earnings - of all the earnings that you make. Now, going forward, even if you go from the 12% to the 16%, 17% ROE given that your expectations are for high growth in Mexico, how much lower can you see that Tier 1 ratio going? I mean what is the minimum that you are willing to accept and at which point would you consider not maintaining the same type of distribution because you need to retain the capital for earnings?
  • Marcos Martinez Gavica:
    I am going to ask Pedro again to answer you this question.
  • Pedro Moreno:
    Well, the actual capital ratios at Santander are really high where as you can see 15.43% and as you know, it’s well above the regulatory and statutory. We expect it’s quite standard in the Mexican market as you know. Nevertheless, at the end of this month of October new methodology coming out from the local regulator will affect the capital ratios of all the financial institutions in Mexico. In our case it will be relatively low impact, around 50 basis points, so we will be slightly below 15 and the high 14s. And this will mean around 12% CET1 and we have room enough to grow with this capital ratio, we are very healthy in that point and we will sort of be surprised if all the system in Mexico will reduce the actual levels. But we are confident that we can be consistently above 12%, 11.5% should be our floor.
  • Carlos Gomez:
    Just to clarify, when you say 11.5%, are you referring to CET1 or --?
  • Pedro Moreno:
    CET1, yes. CET1.
  • Carlos Gomez:
    And again, if I get this correct, right now your published number, as I see in your presentation, is 12.1%. You say there is a change in regulation that could deduct 50 basis points. Maybe it doesn't affect CET1, but if it does affect CET1, then it will go to 11.6%?
  • Pedro Moreno:
    11.5%, yes, this will be the floor where we should be moving. This is the initial impact of the application of the rule. It doesn't mean that in the future this will continue decreasing, right. And our origination of profits even with a 50% payout will allow us to keep this range of capital.
  • Carlos Gomez:
    Again, sorry for insisting, but if you have, let's say, your 18%, your target ROE and you are distributing half of it, that means that your risk weighted assets, everything has been equal, cannot grow more than 9% per year. Am I getting something wrong?
  • Pedro Moreno:
    Well, risk weighted assets will grow less than the loan book. Have in mind that we have also treasury positions, we have in securities and we have some assets like mortgages, for instance, that that consumes less than 70%. So, yes, we made the calculation and we feel comfortable. With respect to ROE CET1 we will not need any capital increase or things like that.
  • Carlos Gomez:
    Okay. All right, thank you very much.
  • Operator:
    We will take our next question from Cristina Marzea with Barclays.
  • Cristina Marzea:
    Good afternoon or good morning to you in Mexico. Just wanted to follow-up on the strategy. I think your parent is probably a bit more cautious and the guidance was for 16% ROE or 16 and above of a minimum 10% Tier 1. And if I summarize correctly, you are now talking about a 12% Tier 1 sort of levels and then 18% ROE. So it sounds like you are a little bit more bullish. Can I ask you what's your assumption on the economic growth that would go into these numbers? Are we looking at a similar 2.5% to 3% GDP environment or do you need much faster growth? And I'm following - sorry, on your investment, again I think after a period of heavy investment in increasing the distribution, you've now stepped back and let those efficiencies come through. However, you are making comments about needing to invest in infrastructure, in technology, IT, et cetera. Could you give us some comfort that there won't be a period where you will again need to grow costs faster, or if you are thinking about some IT investments, could you quantify them?
  • Marcos Martinez Gavica:
    Sure. Well, in the Investor Day we make a focus of the GDP growth and we said that the GDP is going to grow next year 2.7% and in 2017, 3.1% and in 2018, 3.3%. And we are expecting that the real conception was a little bit more than that, 3.3% this year, 3.6% in 2017 and 3.7%, 2018. Then we see that it will be improving the behavior of the consumer and growth of the country in the next years. And we are very confident too that the processes of the - results of the reforms especially the energy reform. We have an impact in the growth of the economy too. And as we have told you before as you know very well we are the bank best positioned to take the best part of that new growth. As you have seen in the last months, the only bank who have been in all the operation has been us. And we are expecting to be in the next sort of new businesses that represents these reforms. And that’s why we see very optimism, the growth of the bank in the next years. I mean, the infrastructure, internal infrastructure we are now in a special investment of 150 million, we are in the second year to modernize our IT infrastructure. I think we have spent at the moment around 70 million.
  • Pedro Moreno:
    Yes, dollars.
  • Marcos Martinez Gavica:
    And these are included in the cost that you are seeing there and it’s included in the projection of efficiency that Pedro told you as in the last question. And we are modernizing too our ATMs infrastructure because we have 1,500 ATMs that are not in the best and we are going to modernize the while infrastructure in the ATMs. As we have at the end of the three years more 6,000 ATMs with 500 of them with multifunction, the full function ATMs. We’ve prepared you some kind of color on what we are doing in infrastructure.
  • Cristina Marzea:
    Okay. No, that's great. And then on your provisioning what you are saying is stable, i.e., around 3.4%, 3.5% level went in your assumptions. And then I have a follow-up question on your corporate lending, what you are seeing here. We've seen a big jump in the quarter and I wanted to check if - do you think your corporates are finding it harder to borrow in international markets given the volatility and then they are turning to local banks, i.e., could we actually have another positive surprise in the next few quarters or do you think this was just a blip?
  • Marcos Martinez Gavica:
    Are you referring to corporates or to government?
  • Cristina Marzea:
    Well, it's two. I think you mentioned the government drawdowns by some of the large corporates in the energy sector?
  • Marcos Martinez Gavica:
    This is completely related to PEMEX and CFE and it is like bridge loans while they are preparing to different kind of operations. It is normal that what happened is that we were lucky to be in the all the business they have done in the quarter. They are - as you know, they are not stable. They can access to the market directly in the next months and repay these loans that we give them. At this moment what we are expecting is that when they do something different we are going to be involved in the operation, because we have given the loans at this moment.
  • Cristina Marzea:
    Okay, so that's in this core government segment. And in the large corporate segment?
  • Marcos Martinez Gavica:
    In the large corporate, it is very stable. We are going very well at around 21% - 20%, 21% and it’s because we are taking advantage of the situation of some of our competitors that have some internal problems and they have been successful too taking better opportunities.
  • Cristina Marzea:
    Okay, thank you. That's great. Thank you.
  • Marcos Martinez Gavica:
    You are welcome.
  • Operator:
    And our next question comes from Victor Galliano with Barclays.
  • Victor Galliano:
    Hi, sorry, just a quick follow-up here on the ICA actually, if you could just remind me, Marcos, in terms of the provisioning you've done so far, have you actually done any provisioning against ICA or is this something that you feel you've got sufficient guarantees against across the board in all the alliance? Thank you.
  • Marcos Martinez Gavica:
    Yes, we don’t have any provision because we don’t need to because we don’t need to do it, because as we told you, all the result we have in ICA is not ICA risk, we have some guarantees, very, very solid guarantees that give away very comfortable result, that kind of launch. As you know the concessions that ICA has, has a very good concession that has very good cash flows and we have in guarantee. And if you see the OMA, the airports, the concession OMA, that is behaving very well. That is growing 15% annual generally and we have a very good coverage of share of OMA and the other in the equity Santander and the other loans. We feel very well and we feel that we are doing a great job supporting ICA in this transition that they have some cash flow more than other things.
  • Victor Galliano:
    Okay, so you are not - are you actually lending against some projects under construction right now or is it all against completed projects?
  • Marcos Martinez Gavica:
    Three of the four projects are already in operation and they are very good in performance. And the other one is going to be finished in some more months, and that one they have guarantee of two other banks to be sure that they will have enough equity to finish them and to put in operation.
  • Victor Galliano:
    Okay, thank you, and all the best in your new role.
  • Marcos Martinez Gavica:
    Thank you.
  • Operator:
    And we will take our next question from Chelsea Konsko with TIAA CREF.
  • Chelsea Konsko:
    Hi, just one more follow-up on the ICA exposure. I believe you had mentioned that it has come down by about MXN2 billion this quarter from MXN7 billion to MXN5 billion. So I'm just wondering if that reduction is because they actually repaid the loan -
  • Marcos Martinez Gavica:
    Will you go to the next question please, operator?
  • Operator:
    We will take our next question from Arturo Langa from Itau BBA.
  • Arturo Langa:
    Hi, good morning and thank you, Marcos. Good luck in the future. A question on trading gains please. Just wanted to -
  • Marcos Martinez Gavica:
    We lost you, Arturo.
  • Operator:
    And it looks like Arturo was disconnected. We have no further questions in the queue, I would like to turn it back over to Mr. Hector Chavez for any additional or closing remarks.
  • Marcos Martinez Gavica:
    Thank you. Thank you very much for joining Santander Mexico on this call. I look forward to maintaining an open dialog with all of you and you are welcome to visit us in Mexico. If you have any further question, please don’t’ hesitate to call us or email us and have a very good day. Thank you very much again.
  • Operator:
    And that does conclude today’s conference. Thank you for your participation.