Grupo Aval Acciones y Valores SA (AVAL) 2018 Q3 法說會逐字稿

Welcome to Grupo Aval's Third Quarter 2018 Consolidated Results under IFRS Conference Call. My name is Jackie, and I will be your operator for today's call. (Operator Instructions) Please note that this conference is being recorded.

Grupo Aval is an issuer of securities in Colombia and in the United States registered with Colombia's National Registry of Shares and Issuers, Registro Nacional de Valores y Emisores, and the United States Securities and Exchange Commission, SEC.

As such, it is subject to the control of the Superintendency of Finance and Compliance with applicable U.S. securities regulation as a foreign private issuer under Rule 405 of the U.S. Securities Act of 1933.

All of our banking subsidiaries are subject to inspection and surveillance as financial institutions by the Superintendency of Finance. Although we are not a financial institution as a result of the enactment of Law 1870 of 2017, also known as Law of Financial Conglomerates, starting on February 6, 2019, Grupo Aval will be subject to the supervision and regulation of the Superintendency of Finance.

Grupo Aval, as the holding company of its financial conglomerate, will become responsible for the compliance with capital adequacy requirements, corporate governance standards, financial risk management and internal control framework and criteria for identifying, managing and revealing conflicts of interest applicable to its financial conglomerate.

The unaudited consolidated financial information included in this document is presented in accordance with IFRS as currently issued by the IASB. Details of the calculations of non-GAAP measures, such as ROAA and ROAE, among others, are explained when required in this report.

The results for first quarter 2018, second quarter 2018 and third quarter 2018 are not comparable to previous quarters due to the prospective adoption in Colombia of IFRS 9 and IFRS 15 starting in January 1, 2018. The previously reported figures for second quarter 2018 had been adjusted to reflect the treatment of provision, charges to Stage 3 loans as described under IFRS 9 and detailed in KPMG's practical guide in IFRS standards whose content we learned post the second quarter 2018 conference call. And that clarifies the methodology that needs to be used to fully adopt this new standard.

This report may include forward-looking statements, which actual results may vary from those stated herein as a consequence of changes in general economic and business conditions. Changes in the interest and currency rates and other risk factors are evidenced in our Form 20-F available at the SEC web page. Recipients of this document are responsible for any assessment and the use of information provided herein.

Grupo Aval will not have any obligation to update the information herein and shall not be responsible for any decision taken by investors in connection with this document. The content of this document and the unaudited figures included herein are not intended to provide full disclosure on Grupo Aval or its affiliates. When applicable, in this document, we refer to billions as thousands of millions.

I'll now like to turn the call over to Mr. Luis Carlos Sarmiento, President and CEO of Grupo Aval. You may begin.

Thank you very much, Jackie. Good morning, everyone, and thanks for joining our 2018 third quarter results conference call.

This quarter's very strong net income is a demonstration of how Grupo Aval's strategy of business diversification, especially in infrastructure can often mitigate a very low growth environment of our core banking business.

As you know, our business strategy combines a market-leading presence in the banking sector in Colombia and the 6 countries in Central America as well as a leading role in the Colombian assets under management business through a pension fund manager and several trust companies and, just as important, significant investments in nonfinancial sectors such as energy, hotels, agro industry and infrastructure through Corficolombiana, our chosen vehicle to make such investments.

These nonfinancial sectors were chosen because they represent diversified sources of sustained and high growth revenues, which in Colombia and for us will be key in the next 3 to 5 years. We strongly believe that our strategy is a strong differentiating factor between us and our local banking peers.

I also believe that we're making decisive progress in our digitalization efforts. I will refer to the positive impact on our results of Corficolombiana's infrastructure business and to our digitalization efforts in a few minutes. I will also address the issue of charges brought against us by the superintendents of industry and commerce, which is the antitrust supervisor in the country, in relation to our minority noncontrolling participation in the Ruta del Sol toll concession project.

But first, allow me to address certain important aspects of the Colombian and Central American macro environment and to outline the main changes to the country's fiscal landscape presented to Congress by the central government in the form of a financing law, which is similar to a tax reform. This new law is currently being debated in Congress.

On the Colombian macro environment, we expect that the third quarter GDP growth to be reported later today will be similar to the previous quarter growth at 2.5%. From what we have seen already in the fourth quarter, we now expect that GDP growth for fiscal year 2018 will come in between 2.6% and 2.7%. If the trend continues, we expect very real GDP growth for 2019 at 3.25%.

Inflation on a last 12-month basis for September registered 3.23% and October 3.33%. However, we now expect inflation for 2018 up 3.3% with an upward bias given the recent foreign exchange volatility.

For 2019, we're budgeting an inflation of 3.5% in absence of the impact of the fiscal reform. If the fiscal reform is passed in its current version, we expect that inflation will bump up by 100 to 150 basis points during 2019, returning to a 3.5% level in 2020. We expect the Central Bank to keep its intervention rate at 4.25% for the remainder of this year, but in our base case scenario for 2019, we also expect a more contractionary monetary policy approach in the form of 3 rate hikes ending the year at 5%. Therefore, on average, rates will increase by 50 basis points next year.

However, if the fiscal reform is passed as presented, the value-added tax increase will probably demand an additional hike in rates in order to keep inflation expectations within the Central Bank's band.

With regard to foreign exchange, we expect to see further volatility associated to the fluctuation of oil prices. If the price of oil continues to fall, the peso depreciates. The current level does not still pose a threat to inflation. But if the trend continues, then the Central Bank will have yet another reason to hike rates faster than expected.

The much touted fiscal rule imposes a maximum fiscal deficit of 3.1% for 2018, which we believe will be met without a problem and likewise, for the 2019 goal of 2.4%, taking into account Ecopetrol's results for this year and the expected dividend distribution from this company to its shareholders next year.

Staying on the fiscal front, we have prepared and inserted a slide in our presentation outlining the most important aspects of the financing law currently under discussion in Congress. In essence, the government is trying to change the balance of the tax burden so that the weight of taxes shifts more towards individuals and away from corporations.

In summary, individuals will contribute more via equity taxes, higher personal taxes, less tax deductions and payment of value-added taxes charged on more goods and services. Corporations will be taxed less via reduced corporate income taxes and new tax deductions such as the costs of financial transactions and industry and commerce taxes, partially offset by the elimination of our tax deductions in a new tax on dividends received by Colombian-based corporations. We welcome the efforts of government to do so, though we expect tough discussions in the next few weeks as the proposed expansion of VAT will be very unpopular.

In Central America, we are especially watching the political and economic performances of 2 countries, Nicaragua and Costa Rica. The good news is that Nicaragua despite being in the midst of a well-known complex political situation that started back in April of this year has recently seen its economic environment achieving a certain level of stability. Although economic activity is still lower than that of last year's, several sectors, including agriculture and consumer goods have begun to show signs of moderate growth.

It must be noted that Nicaragua's assets account for less than 2% of our total consolidated assets. Bank deposits, which suffered significant outflows in the early stages of the crisis, are showing positive signs of stabilization, whereas in BAC, our bank, we have begun to see increases in our customers' balances.

Costa Rica's economy has slowed down in recent months given the uncertainty generated by the fiscal imbalance. In addition, local currency recently experienced a 7.7% devaluation, which has added pressure on the economy. The fiscal issue in Costa Rica remains the main factor pressuring the economy. To address it, government is in the process of implementing a fiscal reform, which includes new taxes or changes to existing ones and some government expenditure control. If fully implemented, the Central Bank estimates that this plan will reduce the fiscal deficit to 3.7% of GDP by 2022 and will enable the country to reverse its debt growth trend.

As of today, the fiscal adjustment underwent and passed a first debate in Congress and is under study in the constitutional court, which is evaluating substantive and procedural issues. In case some problems are found with these issues, government will be afforded a chance to amend the reform and pass it again for final debate.

Meanwhile, the Ministry of Finance has been executing actions such as short-term debt swaps, new debt issuances in local market and refinancing debt maturities.

Next, and although Diego will run through the numbers once I'm done, allow me to highlight certain strategic aspects of our third quarter results. In an already very slow growth scenario, we continue to favor minimal growth of our commercial loan portfolios, while we deal with the quality of specific loans. In the meantime, we're focused on implementing pricing and loan structure and strategies oriented towards the optimization of the profitability of our lending practices. In other words, profitable growth and not just growth.

We view as positive the stability of our net interest margin, the strength of our banking fees, our fee income from credit cards and the fee income from our pension business. Our cost control initiatives and our digitalization efforts continue to show results as can be seen in both our fee expenses, which declined by 3% in the quarter and by more than 5% year-to-date and in our operating expenses, including noncash items, which decreased by 0.9% in the quarter and have grown only 1.8% year-to-date versus the same period in 2017.

Although cost of risk increased during the quarter, this was mostly due to the application of new macro parameters as required by IFRS 9 to our loan portfolios in Nicaragua and Costa Rica. However, the largest new contributor to our bottom line this quarter is by far Corficolombiana and the income it generated in the 2 4G concessions that it has started to build, Pacifico 1 and Chirajara-Fundadores.

Completion of the construction phase of these 2 projects is estimated by the end of the year 2023. The National Infrastructure Agency signed 2 days ago the go-ahead to initiate construction of a third 4G project, Villavicencio-Yopal, and therefore, we will commence construction of that road in 1 week or 2. We expect to complete it by the year 2024. The construction of a fourth project, Mulalo-Loboguerrero, should commence in the third quarter of 2019 and be completed by the year 2025.

Corficolombiana is the sole shareholder in 3 of these projects and a 90% shareholder of the fourth. The strong revenues generated by these concessions and those to come, especially during the time that it takes to build the roads, it's largely explained in the full adoption of IFRS 15. This accounting rule requires Corficolombiana to differentiate the phases of our concession project, namely, in the construction phase and the operating phase. Each phase represents a different service provided to the contracting party, in this case, the Colombian government. In fact, in the construction phase, the service provided is the building of the road, while in the operating phase, the service consists of operating collecting tolls and maintaining the road. Returns to the contractor during each phase must be proportionate to the risks incurred by such contractor. In essence, one could argue that the operating years relate to a quasi risk-free business, while most of the risk is incurred during the construction phase.

Before adopting IFRS 15, Corficolombiana treated each 35-year concession project as only 1 business without distinguishing the risk assumed in the first 5 years of construction from those incurred during the other 30 years of operating the road. In terms of net income, before adopting IFRS 15, the bulk of it came during the last operating years of each concession, reflecting something similar to a cash accounting treatment.

After IFRS 15, despite the fact the total returns of each concession project stayed the same, the recognition of returns accelerate during construction in line with the level of risk assumed. It is important to clarify that the timing of the cash received by the concessions does not change.

Upon the adoption of IFRS 15, COP 330 billion in retroactive net income going back to the beginning of 2018 was recognized in Corficolombiana during the third quarter. This amount positively impacted Grupo Aval's net income by COP 125 billion. This was a onetime adjustment to our net income for the year. Additionally though, during the third quarter, recurrent net income of COP 220 billion was generated at the Corficolombiana level as a result of construction progress in the mentioned 4G projects, which represented recurrent net income of approximately COP 88 billion at the Grupo Aval net income level.

In summary, 4G projects added COP 550 billion to Corficolombiana's bottom line, which represented COP 213 billion of net income to Aval. Of the COP 213 billion, COP 88 billion is recurrent net income.

As the construction of the other 2 4G projects get underway and as the current ones pick up steam, another boost will be given to Corficolombiana's and Aval's bottom lines. In fact, in our estimation, 4G will add approximately COP 115 billion per month to Corficolombiana's net income during 2019 or approximately COP 45 billion at Grupo Aval's attributable net income per month or COP 24 per share in the year for Grupo Aval.

On another note, it is important to note that our second quarter results show slight changes in our net interest margin, cost of risk and quality of the loan portfolio for the quarter, but no change in our bottom line. These changes are a consequence of KPMG's issuance after our second quarter results call of its practical guide to account and implement IFRS 9 and to our resulting better understanding of how we should treat the provision expenses of Stage 3 clients. We are confident that our current interpretation of IFRS 9, which is generating headaches to banks worldwide is now accurate.

With regards to our digitalization efforts, I would like to point out that our digital transformation continues to advance. In Central America, which is where the digitalization efforts of our group began, results are clear. 1 of every 3 clients of BAC is digital. Our goal is to surpass the 1 million digital clients before year-end and hope to grow this figure by 25% in 2019.

By the end of this year, we're going to be able to place more than 150,000 products through digital channels, which is 60% more than in 2017 with a combination of new functionalities and intelligent targeted marketing spending. We have launched a service chat bot and only 5 months after its launch, it has processed more than 120,000 sessions without human interaction. The combination of applied analytics and digital collections has helped us achieve greater productivity in our contact centers. We have been able to process 22% more accounts with 14% less personnel. These data points are just some of the examples we have to show for our advances in digital, but true efficiency improvements have also come from an 800 headcount reduction in the last 3 years and by being able to grow our balance sheet without increasing our physical footprint.

Our focus is and will continue to be to serve our customers in the least costly manner and the most effective way. In Colombia, we started the digitalization effort over a year ago through the creation of 2 digital labs soon to merge into the Aval digital lab. Some results of these efforts are as follows. More than 25% of Banco de Bogotá savings accounts openings are now done digitally. Of these openings, 94% of the clients are new to the bank. More than 25% of the new credit cards of Banco de Bogotá are acquired digitally at a fraction of the cost of other channels. More than 30% of new vehicle loans at Banco de Occidente are now produced through the digital platform launched last June. We expect that in 2019, 40% of total credit cards placed in Banco de Occidente and Popular divisions will be done digitally.

As in Central America, in Colombia, we have combined our digitalization efforts with the migration of transactions and the reformatting of the branches. During the last 18 months, we have closed about 50 Banco de Bogotá branches, close to 8% of its footprint. We are in the process of closing 16 Banco Popular branches, 7% of its footprint. We have closed 13 Banco de Occidente branches, 6% of its footprint, and we have closed 9 Banco AV Villas branches, 30 - 3% of its footprint.

We will continue these optimization efforts in 2019.

As I offered, now let me briefly address the antitrust charges. On January 20, 2017, the Superintendency of Industry and Commerce initiated a nonpublic, administrative proceeding to investigate whether any anticompetitive behavior had been conducted in the public bidding process for the awarding of concession contract #1 of 2010 for the construction of the Ruta del Sol sector 2 toll road concession awarded to Concesionaria Ruta del Sol, CRDS for short, a company controlled by Odebrecht with a 62% stake in which Episol, a subsidiary of Corficolombiana, held a minority interest of 33%.

This administrative proceeding commenced primarily based on the admissions made by Odebrecht and Gabriel Garcia Morales, a recipient of Odebrecht's bribes, former Vice Minister of Transportation and the then acting manager of the National Institute of Concessions, INCO, a government agency later replaced by the National Infrastructure Agency.

On September 14, 2018, the SIC held a press conference in which it reported its decision to present charges for 3 alleged violations of the Colombian legal regime of free economic competition associated to Ruta del Sol sector 2 against Odebrecht, members of the management, CRDS, Corficolombiana, Episol and members of their management. Corficolombiana and Episol were charged with 2 of these 3 violations and Grupo Aval and members of our management were charged with 1 violation. An employee of the World Bank through the IFC and Jose Elias Melo, former President of Corficolombiana, were also charged. The alleged violations naming Grupo Aval and its affiliates and their management are as follows.

First, collusive practices for which Odebrecht, members of their management, Corficolombiana, Episol and Jose Elias Melo were charged. Secondly, taking advantage of a conflict of interest for which Grupo Aval; Corficolombiana; Episol; myself; Diego Solano; Gustavo Ramírez; Alejandro Sanchez, both VPs of Corficolombiana; Jose Elias Melo and an employee of the IFC were charged. Grupo Aval, Corficolombiana, Episol as well as the members of our management charged by the SIC have already contested these accusations laying out the initial legal basis for their defense as well as submitting and requesting documental and testimonial evidence in support of their defense. We cannot predict how long this proceeding will last. Even though we believe that the legal basis and evidence supporting our defense should achieve the dismissal of these charges, if we're not successful, our companies may face the payment of fines for up to the equivalent of approximately $24.5 million per charge and our employees may be responsible for fines of up to the equivalent of approximately $490,000.

Moving on, allow me to share with you our general guidance for 2018.

GDP -- real GDP growth between 2.6% and 2.7%, inflation 3.3%, loan portfolio growth between 3% and 5%, net interest margin approximately 5.7%, cost of risk 2.1%, which could go up to 2.3% as we will most probably book additional provisions to bring Electricaribe to a provision coverage of 100%, CRDS to a coverage of 25% and SITP to a combined coverage of 35%.

OpEx growth 3.5% due to cost-reduction initiatives such as personnel cuts, branch reductions and other. Income from nonfinancial associated with 4G, at the Corficolombiana level, we expect COP 1.2 billion of income from 4G in 2018 and COP 1.3 billion in net income during 2019. Of these numbers, Grupo Aval consolidates 38%.

Return on average equity 16%. And lastly, our expectations about 2019. During 2019, I see a year in which Colombia's growth will speed up to 3.25% and Central America's somewhat decelerate to between 2% and 3%. Our expectation is for our core assets to grow between 8% and 10%. In our net interest margin, we see offsetting forces. On the one hand, an increase in interest rate scenario that should favor our corporate portfolio and on the other hand, a stronger competitive scenario, which could force the yields to lower. In all, we believe that the competitive forces should weigh more and thus that the net interest margin will decline by 10 basis points.

We expect the quality of our loans to improve throughout 2019. And in terms of cost of risk, we expect this ratio to move within a 1.9% to 2% range. This number includes an estimated additional provision of 15% for Ruta del Sol to bring coverage up to 40%, not because we believe that there is a lesser chance to recover the money, but because it is required as time passes and no new payments are received. If this situation changes, so will our estimation for additional provisions. Also, included in this cost of risk estimate is our intention to increase the coverage of SITP-related loans as follows. Transit to 100%, Consorcio Express to 60% and ETIB to 40%. We expect our OpEx to grow at close to 8%, mainly as a consequence of our expected faster growth and also due to the implementation of IFRS 16. The return on equity for the year is expected at approximately 16.5%.

With that, I'll pass this call to Diego, and I thank you for your time.

Thank you, Luis Carlos. I will now move to the consolidated results of Grupo Aval under IFRS. As mentioned by Mr. Sarmiento, figures for the second Q of 2018 have been adjusted with no impact on net income to better reflect the effect of IFRS 9 provisions and Stage 3 loans. As a result, higher net interest margin, cost of risk and PDLs are recorded for the second quarter of 2018 than previously reported.

Moving into our results for this quarter, 5 elements drove our performance: still low momentum of the corporate loan portfolio in Colombia; second, stability in the quality of our loan portfolio in Colombia and some deterioration in Central America; third, stable NIM; fourth, continuing cost control efforts; and fifth, strong contribution of our nonfinancial activities reflecting the impact of IFRS 15 and our increasingly important toll road concession construction activity in Corficolombiana.

Starting on Page 9. Assets grew 3% during the quarter driven by an increase in cash and cash equivalents, fixed income investments and the value of our concession arrangement rights. Central America, which weighs close to 29% of our book saw 0.5% contraction in dollar terms driven by the political cycle in Nicaragua. Nicaragua accounts for less than 2% of our total assets.

Moving to Page 10. Loans excluding repos grew at a modest 0.9% during the quarter. Commercial loans continue to drive the soft growth dynamics in Colombia. This has been particularly -- partially compensated by a stronger performance of our consumer portfolio supported in a positive trend in its quality. We will continue to focus on profitable growth and expect momentum to pick up during 2019.

Our Colombian consumer and mortgage business continued to be dynamic, expanding 2.4% and 4.3% during the quarter and 8.3% and 20%, respectively, over 12 months. In contrast, our Colombian corporate loan portfolio contracted by 0.7% during the quarter and by 0.8% over the year. Central America grew 0.5% in dollar terms during the quarter accumulating 5.5% over the last 12 months. This 12-month performance has driven -- was driven by a 7.2% contraction in Nicaragua and a 6.8% expansion in the rest of the region. We expect 2018 loan growth to be in the 3% to 5% area and to pick up to 8% to 10% during 2019.

On pages 11 and 12, we present several loan portfolio quality ratios. We experienced a slight increase in our PDL ratios. Deterioration in Central America and contraction of our Colombian corporate book drove this behavior. Deterioration in Central America came mainly from Nicaragua and Costa Rica, described by Luis Carlos, due to the political volatility and some corporate clients in the region. In contrast, the improvement in the quality of our consumer portfolio in Colombia continues to consolidate with past due loan ratios improving 27 basis points to 5.5% on a 30-day basis and 16 basis points to 3.4% on a 90-day basis. Our PDL coverage remains stable, while our cost of risk deteriorated 37 basis points due to a 72 basis points deterioration in Central America.

In spite of this slight deterioration in cost of risk, we continue to see an improvement in new PDL formation, especially in our Colombian operation. Relative to the previous quarter, our new PDL formation in Colombia improved 12% to COP 656 billion on a 30-day basis and 28% to COP 664 billion on a 90-day basis. Our overall new PDL formation improved by 6% on a 30-day basis and 23% on a 90-day basis.

With regards to coverage ratios of the 3 corporate cases that we have been following over the last calls, Electricaribe and Ruta del Sol were stable at 80% and 13%, respectively, while our coverage for SITP companies reached 29%, up from 21% a quarter earlier. The coverages for SITP companies were 67%, 35% and 13% for transit, Consorcio Express and ETIB, respectively. As described by Luis Carlos, we expect to increase our coverage ratios for Ruta del Sol, Electricaribe and some SITP companies by year-end. These additional provisions could imply approximately 20 basis points of additional cost of risk this year. We expect 2018 cost of risk net of recoveries to be in the 2.3% area, including [digitalization at] 20 basis points. For next year, we expect our cost of risk to be in the 2% area.

On Page 13, we present funding and deposit evolution. Funding dynamics were consistent with loan growth. Funding structure remained materially stable with deposits representing 76% of total funding. Our liquidity position slightly improved with our deposit-to-net loan ratio reaching 97% and our cash-to-deposit ratio 16%. Deposits grew by 0.8% in the quarter accumulating 4.3% over the last 12 months.

Colombia and Central America grew at similar paces during the quarter. In the 12-month period, Central America was more dynamic than Colombia, growing at 7.9% in dollar terms, while Colombia grew at 2.4%. We expect deposits to continue growing at a similar pace for our loan portfolio during the remainder of 2018 and 2019.

On Page 14, we present the evolution of our total capitalization, our total shareholders' equity and the capital adequacy ratio of our banks. Our total equity grew 10.4%, while our shareholder equity grew 6.7% over the quarter, mainly driven by our earnings during the period. In addition, the equity issuance in Corficolombiana contributed close to COP 1 trillion through capitalization and COP 138 billion through our total shareholders' equity. All of our banks show appropriate Tier 1 and total solvency ratios.

On pages 15 and 16, we present our yield on loans, cost of funds, spreads and net interest margins. Interest rates and margins were stable relative to the previous quarter in line with stability of the Central Bank intervention rate experienced throughout the recent months. The average yield on loans, cost of funds, spread and NIMs were substantially stable.

Moving forward, during 2019, we expect an expansion on NIM and corporate loans as the Central Bank starts to raise its rates. With regard to the consumer portfolio, we see increased pricing competition as the improvement in quality of the consumer loans consolidates and a more dynamic growth increases the share of newly priced loans in our mix. We expect full year 2018 net interest margin to be in the 5.7% area, slightly higher than previously guided and in the 5.6% area for 2019.

On Page 17, we present net fees and other income. A substantially better performance of the infrastructure sector boosted income from the nonfinancial sector during the quarter. This positive performance reflects the application of IFRS 15 to the progress made in our new fourth-generation concessions and public-private initiative for road concessions. Relative to the previous methodologies, IFRS 15 results in a higher recognition of profits during the construction phase, offset by lower profits during the operation and maintenance phase. Corficolombiana expects to benefit over the following 5 to 6 years from the recognition of its construction activity of its currently contracted concessions.

IFRS 15 requires the concessioner to recognize separately profits and losses from different obligations under the contract. As a result, profits from construction are fully recognized throughout the construction phase. In contrast, the previous methodology required that construction activity profits were distributed throughout the life of the concession.

During this quarter, Corficolombiana booked an after-tax net income of COP 550 billion or COP 0.8 trillion pretax for its new toll road concessions, of which approximately COP 213 billion or 38% are attributable to Grupo Aval's shareholders. Income from this source was particularly high during the quarter given that it incorporates 9 months of income from 2 of our concessions. In absence of the income from previous quarters, after-tax net income from this concessions would have been COP 220 billion, of which approximately COP 88 billion were attributable to Aval shareholders.

We expect the contribution of our toll road concessions to increase as Villavicencio-Yopal concession, which reached its construction phase initiation this week starts to contribute during this quarter.

Finally, in other sectors of the nonfinancial activity, a better performance of our operation in energy and gas and hotels also contributed to better results of our nonfinancial sector in the quarter. Also on this page, gross fee income dynamics were consistent with the balance sheet performance, decreasing COP 10 billion or 0.7% during the quarter, mainly driven by the contraction in our banking fees in Colombia. This was offset by other operating income that increased COP 23 billion driven by stronger contribution of the FX and hedging activities and the mix performance of other line items.

On Page 18, we present some efficiency ratios. We continue to emphasize our operational efficiency initiatives, both in Colombia and in Central America with positive results throughout most of our banking subsidiaries. The progress of our digital efforts and cost control initiatives throughout our subsidiaries have been key drivers of this progress. Personnel and administrative expenses decreased by 1.6% during the quarter and increased 1.7% when compared to a year earlier. Initiatives behind these results include headcount reduction in certain areas, reformatting and closure of branches, migration of transactions to ATM and digital channels. As a result, our efficiency measured as operating expense to average assets of 3.5% for third quarter 2018 improved 12 basis points from a quarter earlier. Colombia and Central America reported ratios of 3.1% and 4.4%, respectively for this period.

Efficiency ratio measured as operating expense to total income showed an improvement of 700 basis points to 39% compared to the previous quarter and 770 basis points to the same quarter a year earlier. Our efficiency ratio was positively impacted by the increasing income from our nonfinancial sector described earlier.

Colombia and Central America reported ratios of 35% and 49%, respectively for this period. Despite of the low asset growth that we have experienced so far, we expect to maintain our cost to assets at 3.5% for the full year 2018 and a slight improvement in 2019.

Finally, on Page 19, we present our net income and profitability ratios. Attributable net income for the third quarter of 2018 was COP 783 billion or COP 35 per share. Our return on average assets was 2.4% and our return on average equity was 19.1%. In absence of the income from the nonfinancial sector from previous quarters, attributable net income for the third quarter 2018 would have been COP 658 billion or COP 29 per share, our return on average assets would have been 1.9% and our return on average equity would have been 16.1%.

Before we move into the questions and answers, I will now summarize our general guidance for 2018 and 2019. We expect loan growth to be in the 3% to 5% area in 2018 and 8% to 10% area in 2019. We expect our cost of risk net of recoveries to be in the 2.3% area in 2018, including 20 basis points from the large corporate cases mentioned before and close to 2% area in 2019. We expect full year net interest margin to be in the 5.7% area in 2018 and in the 5.6% area in 2019. Regarding efficiency ratios, we expect cost to assets to be in the 3.5% area in 2018 and slightly improved during next year. Finally, we expect our return on equity to be in the 16% area this year and 16.5% area next year. We are now available to address your questions.

(Operator Instructions) Our first question comes from Andres Soto with Santander.

My question is regarding your loan growth guidance in 2019. Can you please break down this to 8% to 10% among your different loan segments? I'm curious to hear your views about how sensitive is this outlook to the implementation of tax reform next year?

Andres, regarding growth, as you might have seen in our numbers, we expect the growth for the corporate segment to continue to be very low. This means low single digits, while our corporate and mortgage performance has been closer to 10% in an area where we believe numbers will continue to perform and eventually accelerate at some point, either later this year or throughout next year. So in summary, basically, we are expecting to see a continuation of what we have seen over the past few quarters. Regarding the eventual tax reform, it is tough to say at this point given that there is a number of issues still to be discussed. Obviously, if you take money away from the consumers' pockets, there could be some expectation and pressure on consumer growth, but I would prefer to wait to see the discussion on the tax reform to evolve before we give any further guidance there.

Our next question comes from Yuri Fernandes with JPMorgan.

I have questions on this IFRS 15 change and specifically, the impact for Banco de Bogotá. My question is, if this accounting change helps in the capitalization of the Banco de Bogotá, how this can impact the capital risk? Because looking here, I saw some decline on the capitalization risk for Banco de Bogotá and it was not clear for me if that may help on the potential Basel implementation for your subsidiary?

Yuri, this is Tatiana. The impact in Banco de Bogotá's current capitalization level is actually negative because under current capital regulation or standards, the full value of Corficolombiana investments is adopted from core equity Tier 1. So actually that is one of the points that we want to see changed going into Basel III because the full deduction is not even Basel VIII. So to answer shortly your question, it currently affects Banco de Bogotá's capital position.

It does obviously have a positive impact coming from Bogotá's participation in Corficolombiana through (foreign language) meaning, obviously, as long as Corficolombiana yields more net income, Banco de Bogotá will book more net income itself by 38% of -- no, now it's less, about 32% of what Corficolombiana yields in net income. So it's got positive effect in net income. And then, as Tatiana was saying, the bigger the investment in Corficolombiana becomes in Banco de Bogotá's balance sheet, the less the Tier 1 ratio it will produce because it's got to deduct it all. We are, as Tatiana saying, in conversations with superintendents of finance to try to change that point specifically.

Our next question comes from Rodrigo Sanchez with Davivienda Corredores.

Considering your presence in the U.S. through the ADR, I would like to know if, at some point, any situation such as the SEC or the Department of Justice have requested any information regarding the investigation in Colombia regarding Ruta del Sol?

Great. Thanks for your question. The answer is no.

Next question comes from Carlos Gomez with HSBC.

I would like to clarify a little bit further the changes that you have made regarding IFRS. So I understand that you have restated the second quarter figures. Has there been any impact on equity compared to what you have reported before?

No, no, not at all. Actually, what we have done is a change that does not affect equity nor affects earnings. It's a presentation difference basically. Where the difference lies is, even though net numbers are exactly the same, the gross numbers as presented change. So you end up exactly in the same earnings and you end up exactly in the same equity, but when you present your P&L numbers are open up in a different manner.

Our next question comes from Sebastián Gallego with CrediCorp Capital.

I have two questions. The first one regarding your guidance on ROE for next year. Should we expect that to be recurring ROE? Or do we -- should we expect that to be also influenced by the accounting treatment of Corficolombiana that you mentioned. And the second question is regarding Ruta del Sol 2. I'll like to have a sense of it -- of your base case scenario in terms of timing in potential additional investigations and what could be the outcome, particularly regarding the payment that the banks are still awaiting?

Okay. Let me address both questions. In terms of the ROE for next year, no. On the contrary, we expect especially given the 2 issues, 1, that the provisions that we are booking in addition to normal provisions or 3 issues. Secondly, we are expecting the quality of our loan portfolios to become better. And thirdly, the positive impact it will have based on this fiscal reform if it passes. The answer is no. On the contrary, we will expect ROE to get better in the following years. It's hard to say up to what it would come, but it wouldn't be too hard to predict a pickup of about 100 to 200 basis points.

But for now, we are confident with next year's -- or fairly confident with next year's guidance. And as we know more of the tax reform, we'll be more confident on following year's ROE expectations.

With regarding Ruta del Sol, I think the most important thing that is happening is that the arbitration tribunal is back with 3 judges. I don't know how public it is. This is public information, but I don't know how much you're aware of it, but the third judge in the arbitration tribunal passed, he passed away. So there is a new judge that just accepted the post. He has requested that he needs another 6 months and it's one of the reasons that this thing gets delayed and delayed. And so, we expect that we'll have a pronouncement by, say, May of next year.

In the meantime, because that pronouncement coming out of the arbitration tribunal will be final with respect to what the liquidation value of the contract is. That's very important because then we'll know with certainty exactly how much money will be paid to the bank. But in the meantime, there is a -- we are fairly confident that a second payment in addition to the payment made back in December of 2017 to the banking system, fairly confident that a second payment will be made. It is tough to know the amount of that payment, but the reason that we're fairly confident that a second payment will be made is because there is some money sitting in bank accounts relating to monies that have already been transferred from the government to a trust account in relation to the completed construction of Ruta del Sol, which just hasn't been disbursed. And I think that we have enough push from the government to get it disbursed.

So to answer your question, the arbitration tribunal is very important with regards to the monies that are going to be paid to the banks. Secondly, we expect a second payment to be made between now and May or June of next year. And thirdly, we expect that at the latest May or June of last -- of next year, we'll have the final payment to be made.

Our next question comes from Jason Mollin with Scotiabank.

My question is related to accounting changes for IFRS. We've now seen IFRS 9 and 15. What should we expect going forward? Are there additional -

(technical difficulty)

IFRS that you're discussing, implementing or how should we think about it? Clearly, it seems that just in this quarter, if you stripped out the retroactive numbers that the numbers are pretty comparable, but how should we think about earnings and equity going forward from further changes?

Jason, actually something that has happened when we migrated to IFRS that we were not accustomed to see when we're looking at reconciliation to U.S. GAAP, that IFRS constantly comes around with new rules that do affect numbers. At this point, we are aware that not only for us, but around the world, there is new IFRS rules coming around. For example, IFRS 16 changes the way that some contracts and leases are taken care of. That might have some impact. We are not foreseeing any substantial impact in our figures at this point, but it's coming around.

IFRS 9 is also coming around, not only for us, but for the rest of the world. And I would say, in this case, IFRS 15 has been relevant for us because it came at a time where we were starting a bunch of new roads where construction was being deployed and it had a particularly high impact for us. That's why, in this case, we really went into detail into trying to understand how should we be dealing with these rules and try to be as transparent as possible, therefore, showing what part of our revenue from this quarter came from previous quarters, what part we believed was something that should be recurrent moving into the future and actually gave you a time frame for the construction period of these toll roads that we have contracted at this point will be that we mentioned 5 to 6 years. It depends very much on our ability to generate new businesses in the future to understand if beyond those 5 years, we will continue to have this kind of benefit.

Regarding Basel III, these changes do not have -- or these accounting changes do not have a substantial impact on technical capitalization beyond what we have disclosed in the past. With Basel III coming into Colombia, as we have mentioned in our past calls, we do expect to see some impact, positive on most of our banks, close to neutral in Banco de Bogotá and that's about what we can say at this point.

And obviously, as we have estimations of specifically IFRS 16, the way that we have to book, especially leasing contracts for our real estate, for our branches going forward, we will pass them on to the market.

Thank you. We have no further questions at this time. I would like to turn the call back over to Mr. Sarmiento for closing remarks.

Great, Jackie. Thank you very much. I'd like to thank everybody who is on the call. And obviously, we are always open to additional questions that didn't come up and we'll be happy to answer those. And if not, until next call and if anything happens in the meantime, we'll let you know, and thank you very, very much.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for your participation. You may now disconnect.