Popular Inc (BPOP) 2016 Q4 法說會逐字稿

Good morning and welcome to the Popular fourth-quarter 2016 earnings call. (Operator Instructions). Please note that this event is being recorded. I would now like to turn the conference over to Investor Relations Officer, Brett Scheiner. Please go ahead.

Good morning and thank you for joining us on today's call. Today, I am joined by our Chairman and CEO, Richard Carrion; our CFO, Carlos Vazquez; and our COO, Lidio Soriano, who will review our full-year and fourth-quarter results and then answer your questions. They will be joined in the Q&A session by other members of our management team.

Before we start, I would like to remind you that, on today's call, we may make forward-looking statements that are based on management's current expectations and are subject to risks and uncertainty. Factors that could cause actual results to differ materially from these forward-looking statements are set forth within today's earnings press release and are detailed in our SEC filings, our financial quarterly release and supplement. You may find today's press release in our SEC filings on our webpage at Popular.com. I will now turn the call over to Mr. Richard Carrion.

Good morning. Thank you for joining the call. I would like to address the highlights and key events of 2016 and the fourth quarter. Then I will present an update on our business and our thoughts regarding the fiscal and economic situation in Puerto Rico. Carlos will comment on the quarter's financial results and Lidio will provide an update of credit trends and metrics. Please turn to slide number 2.

This year included a number of key events in improving the performance and risk profile of our bank. We grew loans in our US business by 17%, completed a large full trail of NPAs related to our Westernbank transaction and sold our exposure to PREPA at a gain. These accomplishments come in concert with stable financial results for the Company. For the full-year 2016, we reported net income of $217 million, which includes the effects of two adverse FDIC arbitration awards. Adjusted net income from continuing operations was $358 million, down from the prior year's $375 million as our US business did not benefit from the low income tax rate and credit recoveries experienced in 2015. Our credit quality improved as total NPAs, including covered loans of $734 million, were down from $843 million at year-end 2015.

Noncovered NPLs decreased $44 million to $558 million. NPLs were 2.5% of noncovered loans compared to 2.7% last year. Our stable credit metrics are the result of aggressive loss mitigation efforts, resolutions, restructurings, NPL sales and an improved risk profile. Our tier 1 capital and tier 1 common ratios at year-end were 16.5%.

Turning to slide 3, as you can see, we continue to improve our leading market position in Puerto Rico. Our Puerto Rico franchise is unique and has consistently grown its retail and commercial clients. We currently serve close to 1.7 million customers generating annual total transaction growth of 5%. Given our competitive position, we continue to focus on strengthening the relationship and satisfaction of our clients while providing innovative solutions as part of our digital transformation efforts. Approximately 700,000 of our retail clients are active online and 74% of these use mobile devices. In December 2016, close to 40% of our deposit transactions in Puerto Rico were processed through ATMs and mobile devices, a figure that has been increasing consistently, up from 30% last year.

In our US business, we expanded our branch network to 51 locations, including two de novos and six relocations yielding branch deposit growth of 12%. Our business profile positions us well for an eventual economic recovery on the island and continues to provide meaningful earnings power in the area.

Please turn to slide 4. In the fourth quarter, Popular reported a net loss of $4 million, which includes the impact of the $94 million after-tax in FDIC-related expenses in the quarter. Adjusted net income totaled $89 million, down $6 million from last quarter's adjusted results. We continue to generate strong revenues with capital levels well above peer averages. Tangible book value was $43.12, down from $44.86 last quarter, mostly related to the impact of rising rates on valuation of the investment portfolio.

Our net interest income was up $10 million from the prior quarter. Our net interest margin of 4.02% declined from last quarter's 4.12% on increasing deposit costs in the US in addition to changes in our asset mix driven by investment securities replacing the runoff of higher-yielding loans. Our spreads remain strong relative to peers with our Puerto Rico net interest margin of 4.39%.

We are also encouraged by the trends in our US business, particularly the continued strong commercial loan production. The market value of our stake in EVERTEC is approximately $207 million and significantly exceeds our position's current book value of $39 million. As investors, we will continue to participate in a proportionate share of the Company's income while our investment also represents an additional source of capital flexibility and potential holding company liquidity.

As evidence of the progress we have made in the past few years, we are pleased to report that our Board has approved an increase in our quarterly common dividend from $0.15 currently to $0.25 next quarter. The Board also approved a $75 million common stock repurchase plan.

Before I turn it over to Carlos, let me comment on our Puerto Rico government exposures and the Puerto Rico fiscal situation. Our direct outstanding exposure to the Puerto Rico government is $529 million, up $5 million from the previous quarter. Nearly all of our direct Puerto Rico government exposure is in loans to municipalities, not publicly traded securities of the central government or its [hold] corporations. We derive comfort from our underwriting process, the structure and the size of this exposure relative to our capital base. We will continue to monitor developments in this portfolio closely and make future adjustments as needed while selectively participating in funding the Puerto Rico government's capital needs where we feel the risk/reward is appropriate.

Regarding the Puerto Rico government's fiscal challenges, this past June, federal legislation created a fiscal oversight board and established a legal framework and (inaudible) towards an orderly debt restructuring. The Board has been constituted and is working with the new administration to develop a five-year fiscal plan for Puerto Rico. Over time, we believe the Board and restructuring framework will result in increased fiscal discipline and facilitate a transition towards a manageable debt load.

However, given current imbalances, this will likely include a reduction of government spending, which, in the short term, could negatively impact economic activity on the island. We see some near-term opportunities to offset potential government cuts stemming from improved business and consumer confidence, energy infrastructure development and hopefully a paydown of balances owed to suppliers by the Puerto Rico government. The Board's most pressing charge remains naming an Executive Director to manage the fiscal rebalancing and restructuring process. Beyond that selection, the Board's focus will likely shift to working with the local administration to develop the fiscal 2018 Puerto Rico government budget, as well as more substantive discussions with bondholders.

The ultimate success of the oversight Board depends on the cooperation of groups that frequently have conflicting interests. Progress on these fronts will require patience, particularly with a new Puerto Rico Governor and administration inaugurated earlier this month and a (inaudible) Executive Director yet to be named.

In sum, we believe this legislation and the actions that will follow, albeit painful, are a step in the right direction to restore the fiscal health of the Puerto Rico government and ultimately the Puerto Rico economy. Though we do not plan for meaningful economic growth from the island in the near term, we are hopeful over time for the prospect of a manageable debt load, balanced government budgets and renewed economic growth. As the largest financial institution on the island, we will continue to seek to be a source of information, support and advice, particularly on the economic growth front. This is the most critical element in the long run.

Please turn to slide 6 as our CFO, Carlos Vazquez, discusses our financial results in further detail.

Thank you, Richard and good morning. Slide 6 presents our GAAP financial results for the fourth quarter. Our calculation of adjusted net income can be found on slide 7 and additional information is provided in the appendix. Today's earnings press release details variances in the third quarter with higher net interest income and lower operating expenses offset by lower noninterest income. FDIC loss share expense increased meaningfully due to the previously announced charge resulting from the FDIC arbitration. Net interest income for the fourth quarter was $355 million, up $2 million from the third quarter, mostly due to higher revenues resulting from a higher volume of investment securities, partially offset by higher deposit balances and costs.

Our margin was 4.02%, down from 4.12% last quarter due mostly to investment securities replacing higher-yielding loans. The variances that have driven Popular's margin down over the last three quarters, namely increased level of government deposits, volatile yields in the Westernbank book and lastly shifts in our asset mix to larger cash and investment balances, should not be as impactful in coming quarters. These reduced effects together with the potential for higher rates should lead to stability in our margins.

The average yield of our 1.8 billion Westernbank portfolio decreased to 8.56% from 8.65% last quarter. Over time, we expect this yield to decline as a result of repayments and loan resolutions. Somewhat lower expected quarterly runoff in this portfolio will also contribute to margin stability moving forward. Excluding the yield reduction of Westernbank, we benefit from relatively stable loan yields in the rest of our portfolio.

The cost of our interest-bearing deposits was up 1 basis point to 58 basis points. We continue to deliver organic commercial loan growth in the US operation with growth of 9% in the fourth quarter. As previously mentioned, for 2017, we anticipate slight growth in overall loan balances with the US growth more than compensating for Westernbank's runoff and limited growth in Puerto Rico. On the island, we have offset limited organic growth with selective loan portfolio purchases for the last few years. We will continue to pursue this acquisition strategy if attractive transactions become available.

Non-interest income, excluding FDIC loss share activity, decreased by $8 million compared to last quarter, as (inaudible) [contingent] insurance commissions were offset by last quarter's gain for the sale of our PREPA loans. Our Puerto Rico mortgage business originated $243 million of loans in the fourth quarter, up slightly from $237 million last quarter.

(inaudible) operating expenses for the quarter were $321 million, down $4 million on lower operational (inaudible) losses partly offset by higher professional fees, business promotion and OREO expenses. Excluding last quarter's goodwill impairment charge, operating expenses were down by $1 million. In the coming quarters, we expect average operating expenses of approximately $220 million, similar to this quarter.

Our effective tax rate for the fourth quarter was 25%. Through the end of 2017, we expect our quarterly tax rate to average between 25% and 27%. As disclosed last month, we were disappointed with the unfavorable result of the arbitration with the FDIC. In addition to the unreimbursed losses considered in the arbitration, this quarter's $127 million charge includes a related adjustment and a true-up obligation owed to the FDIC and recoveries that have been part of the net damages claimed in the arbitration.

As of this quarter, we have a $69 million FDIC receivable; $6 million of that amount represents reimbursable losses that are still in dispute, while the remaining balance of $63 million is related to the single-family mortgage loss share agreement, which expires in June of 2020. As we have stated before, any amount of the loss share assets ultimately not collected from the FDIC will be charged off.

Please turn to slide number 8. We continue to enjoy strong capital levels relative to Mainland and Puerto Rico peers, as well as with respect to well-capitalized regulatory requirements. Our tier 1 common equity ratio was 16.5%, slightly lower than last quarter's 16.6%. As Richard mentioned, we have increased our quarterly common stock dividend to $0.25 per share and will implement a $75 million common stock repurchase program. We are pleased to have been able to increase our capital return and payout ratio given our strong operations and capital base.

While being cognizant of the challenging environment in our local market, we will pursue additional opportunities to actively manage our capital, including additional dividends, share repurchases, M&A and asset acquisitions. It continues to be our goal to maintain a strong capital level that is appropriate for Popular's risk profile as we work towards our target of a double-digit return on tangible equity. With that, I turn the call over to Lidio.

Thank you, Carlos and good morning. Despite challenging economic and fiscal conditions in our main market, overall asset quality remained stable during the fourth quarter. In Puerto Rico, credit quality metrics reflect lower nonperforming loans, lower nonperforming assets, lower NPL inflows and an increase in net charge-offs. In the US, credit metrics reflect strong portfolio growth, lower NPLs, lower NPL inflows and stable net charge-offs.

As Richard covered on slide number 5, our current outstanding direct exposure to the Puerto Rico government, municipalities and other instrumentalities is $529 million, increasing by $5 million from last quarter. Our total exposure to the central government and public operation is minimal representing only 40 basis points of total tier 1 capital. Most of our direct Puerto Rico government exposure is in the form of municipal loans and not securities. Our municipality exposure consists of senior priority loans to a select group of municipalities whose revenues are independent of the central government.

This exposure is a carefully underwritten book of business with senior interest in the municipalities' identifiable revenues and cash flows. Our top four exposures are to Carolina where the airport and several major tourist hotels are located; San Juan, the capital of Puerto Rico; Guaynado, the municipality with the highest per capital income; and Bayamon, the second most populous municipality. These four municipalities comprise approximately 77% of our total municipality exposure and combined have an operating surplus of $30 million and debt service capacity in excess of 2 times.

We also have indirect lending facilities in which the government acts as a guarantor. The largest of the exposure is in the form of residential mortgage loans to individual borrowers in which the government provides a guarantee similar to FHA programs in the US.

Turn to slide number 9 to discuss credit metrics for the quarter. Nonperforming assets, including covered loans, decreased by $31 million from $805 million the previous quarter to $774 million this quarter. The decrease in nonperforming assets was driven by a decrease of $21 million in nonperforming loans and a decrease of $10 million in OREOs. At the end of the quarter, the ratio of nonperforming assets to total assets stood at 2%, a slight improvement from the previous quarter.

Nonperforming loans in Puerto Rico decreased by $19 million mainly due to a decrease of $30 million in the residential mortgage portfolio and a decrease of $7 million in the commercial loan portfolio. In the US, nonperforming loans increased by $3 million mainly due to improvements in the residential mortgage portfolio. At December 31, 2016, the ratio of NPLs to total loans held in portfolio was 2.5% compared to 2.6% in the third quarter of 2016.

Please turn to slide number 10 for a summary of the trends in NPL inflows. On a linked-quarter basis, NPL inflows, excluding consumer loans, decreased by $10 million with improvements in both Puerto Rico and the US. In Puerto Rico, NPL inflows decreased by $7 million mainly due to a decrease of $11 million in the mortgage portfolio offset in part by an increase of $5 million in the commercial portfolio. In the US, NPL inflows decreased slightly by $2 million mainly due to lower mortgage inflows.

Turning to slide 11, net charge-offs for the quarter amounted to $56 million or annualized 100 basis points of average loans held in portfolio compared to $35 million or 63 basis points in the prior quarter. The results for the third quarter included a $7 million recovery from the sale of previously charged-off consumer loans. Excluding this impact, net charge-offs increased by $14 million quarter-over-quarter, mainly due to an increase of $6 million in both the commercial and mortgage portfolios in Puerto Rico. The increase in the commercial net charge-off in Puerto Rico was mainly due to a single borrower specifically reserved for in prior quarters. The US net charge-off remained stable at $2.8 million compared to $2.2 million in the prior quarter.

The allowance for loan losses decreased by $50 million from the previous quarter to $510 million. The decrease was due in part to the charge-off associated with a single commercial borrower previously reserved in Puerto Rico. The ratio of allowance for loan losses to loans held in portfolio stood at 2.2% in the first quarter of 2016 compared to 2.3% in the prior quarter. The ratio of the allowance for loan losses to NPLs held in portfolio, or coverage ratio, increased slightly to 91.5% compared to 94.7% in the prior quarter. The provision for loan losses remained flat at $41 million on a linked-quarter basis, while the provision to net charge-offs decreased to 73% from 121% in the prior quarter.

To summarize, despite challenging economic conditions in our main market, our credit metrics for the last quarter of the year remained stable. Our Puerto Rico (inaudible) reflect lower NPLs, lower NPAs, lower NPL inflows and an increase in net charge-offs, while the US region reflected lower NPLs, lower NPL inflows and stable net charge-offs. The continued improvement in our credit risk profile is the result of the steps that we have taken to derisk our loan portfolio by reducing exposure to high risk asset classes and improvements in our credit underwriting criteria. This markedly improved risk profile combined with our strong stress test results give us comfort that we will continue to be a source of strength as Puerto Rico emerges from the current challenges.

With that, I would like to turn the call over to Richard for his concluding remarks. Thank you.

Thank you, Lidio and please turn to slide 12. Before we open the line for questions, let me conclude today's remarks by reviewing the actions we've been taking to drive shareholder value. Our healthy revenue generation and our leading market position in Puerto Rico allow us to earn above average margins. We are encouraged by the progress in our US operations and by the strength of our Puerto Rico franchise. In spite of the difficult macro environment, we continue to see stability in our main credit quality indicators while remaining attentive to fiscal and economic trends. This improved credit profile, together with our strong capital levels, creates a solid foundation for our strategy. We also benefit from our EVERTEC ownership and our stake in Banco BHD Leon, the second-largest bank in the Dominican Republic.

Given the fiscal and economic challenges we face on the island, we are focused on the current situation while continuing to make long-term investments in new business initiatives. We have managed the bank within this environment for the last 10 years, completing several troubled loan sales, refocusing our loan books on lower loss [comp] and business lines, raising approximately $2 billion of common equity and completing two in-market FDIC-assisted acquisitions, all while earning positive profits in our Puerto Rico business during the island's prolonged recession.

In the past three years, we have repaid close to $1 billion in TARP, have two credit MOUs listed, restructured our US balance sheet and back office and purchased $2 billion of assets in the Doral transaction. In addition, we have reinstated and increased our common stock dividend and announced a common stock buyback. We will continue to seek additional growth opportunities in the current environment. The actions taken by the oversight Board and the new administration in the coming months will be a defining moment for Puerto Rico's future. We remain confident that Puerto Rico will emerge from the current challenges with a more vibrant and diversified economy and we will do everything in our power to ensure this outcome.

Throughout its 123-year history, Popular has persevered through a number of challenges on the island. Although our Company is intrinsically linked to Puerto Rico, Popular is also a story of a solid organization that has navigated through a complex environment and has emerged as a stronger, better capitalized and more diversified institution. We look forward to reporting on our progress in the next few months and with that, I would like to open the call for questions.

We will now begin the question-and-answer session. (Operator Instructions). Brett Rabatin, Piper Jaffray.

Good morning. Wanted to first just go back to the comments around the macro backdrop and the discussion around potential I guess you would call it austerity potentially having somewhat of an impact. Can you talk a little bit more about what you are seeing in that regard and what actions, as you see it, are potentially going to happen in the next few quarters?

So far, there has been some correspondence exchanged between the Board and the Governor outlining some targets regarding the budget and the five-year plan that needs to be approved. They are aggressive targets and there has been push back from the administration. I think the Board is meeting as we speak. We suspect over the next few weeks they will push the stay and give them additional time to prepare the plan and the Board will name an executive director. But the short answer is we do expect a reduction in government expenditures over the next few months.

Okay. And then wanted to make sure I had it here, the growth in the US, were there any loan purchases this quarter and then the realized rates were up, but the AOCI change, any thoughts on that?

There were no material purchases in the US this quarter, so all the growth that you saw was organic.

Okay.

And the change in (inaudible), do you want to take that?

Mainly in our mortgage-backed securities portfolio as driven by market rate changes.

Exactly. Our investment portfolio, as you know, is pretty conservative, basically mortgage-backed treasuries and agencies and just a reflection on the change in market [risk].

Okay. Fair enough. And then just last, you deployed some liquidity. You mentioned stability in the margin. Can you give us a little more color maybe on what you did in the securities portfolio and what you might be doing with excess liquidity?

If you recall, last quarter, we mentioned that we were sitting on a significant amount of excess cash that we had yet to deploy. Waiting to get a better read on exactly how someone who governs the process would behave moving forward. I'm not sure we have an answer to that question, but, in the meantime, we did put some of that cash to work and the investment criteria is the same as we have normally had. There has been no significant changes in the content of our investment portfolio. It continues to gravitate to treasuries, agencies and mortgage-backs.

Okay. Great. Thanks for the color.

Alexander Twerdahl, Sandler O'Neill.

Good morning, guys. First off, I was wondering if you can just give us a little bit more color on what you are thinking for the timing and execution of the actual buyback program; $75 million is great to see, but is that something that you expect to use all of over the course of 2017, or is it a rainy day fund, or what are your thoughts, or is it still too early to have made that determination?

I think it is fairly still too early, but I would assume that we will seek to implement -- to use the authorization over the next few months.

Okay. There is no, in your mind, no magic number, we will buy it back up to X% of book value, or anything like that, or the intention is really to return it to shareholders?

No magic number.

Okay. And then I wanted to ask a little bit more color about this retail network transformation. We've seen a couple press releases come across over the last few months. Where are you in that process? Is that something that you are going to try to implement at every single one of your branches? How many have been done so far and is the expense associated with those transformations, is that fully incorporated in that $320 million per-quarter run rate number?

The answer to the last question is yes. This is something that we are doing. Obviously what we call the retail transformation is taking place in the states and as you saw, we did a couple of de novos and some relocations, as well as a couple of transformations as well. We are doing something similar in Puerto Rico, pushing a shift towards more digital transactions and that's going very well as well. And yes, it is incorporated in the $320 million number.

Is that something that is expected to reach a plateau at some point in time in terms of the investment and then potentially you'd be able to recognize some reduction in expenses elsewhere due to some efficiencies, etc.?

Yes, but our experience is that, as you make these channels, these digital channels more available, you get some increase in the number of transactions. So you don't immediately see a reduction in costs because people, they have more availability of the digital channels; they just do more transactions. We are seeing things like we can reduce the size of branches and we will be trimming the network as we go along, but there is some significant transaction creation, if you will. It is not a one-to-one substitution.

In the US, the goal is actually more to strengthen our deposit business in the US and having that lead eventually to lower deposit costs than actual savings and operating expenses.

Okay, great. And then just one final question for me. I was wondering if you can just remind us on the criteria for M&A in the US. I think in the past you said up to around $2 billion in assets, Metro New York and Florida. Is that still the criteria, or has that changed at all?

I think the pecking order of the things we would like to do is unchanged. We would like -- as far as retail operations, we would like to concentrate and add density to the two markets where we operate, which is Metro New York and Metro Miami. The size of an acquisition will be something that makes sense with our US bank. Our US bank is roughly a $9 billion to $10 billion bank, so something that fits in that context. We will also consider specialized lending businesses that fit our credit criteria. As you know, we have two very successful ones in our condo association and our nursing home and managed care business. If we can add more of those, that would be great.

We have looked at opportunities to strengthen our fee business in the US, so if anything along those lines comes up, we will be interested to look at as well. But, obviously, we don't have a currency to compete with in some of our peer banks in the US, so the kind of deals we look at, the list of deals is not as large as maybe the list of other people. We will have to be cautious to make sure that an acquisition actually makes sense.

Thanks for taking the questions.

Dimitre Genov, Magnetar.

Good morning. I was wondering if you can comment a little bit on the path forward for additional capital returns. You said you were considering additional buybacks, dividend, M&A. Can you provide some timing around that and what are the next steps toward additional returns of capital?

The intent of that line is to list for you all the things that we constantly look at and will continue to look at to either deploy or share more of our capital with our shareholders. We are not a CCAR bank, so we are not attached to a schedule like a CCAR bank, the yearly schedule when they have to file things and one day get regulatory approval. So we don't necessarily follow that same path.

Having said that, as you probably have seen through this process we've been through in the last few months and our ultimate increase of the dividend nonaccrual for a buyback. It is reasonable to assume that the most useful time in which for us to have a regulatory discussion with our regulators with the best capital return is when our regulators have the most recent information and that will normally happen after we file our stress test in the summer of every year. Again, that doesn't mean we are limited to that, but that would be the most useful time to have those discussions.

With regard to M&A and asset purchases, those come up when they come up. We are constantly looking at opportunities and if the opportunities become a real transaction then we will pursue it.

Is your list getting larger in terms of M&A opportunities or given the rally in regional bankshares is that smaller given you don't have the currency?

Given our currency, in all probability, any transaction we would have done before the rally or will do now is going to be a cash transaction, so I'm not sure that changes our position significantly. It may change the price view of the seller and we will find out when the time comes.

Gerard Cassidy, RBC Capital Markets.

Good morning, Richard; good morning, Carlos. Is there any expiration date on the buyback or is it indefinite when you can actually execute it?

There is no expiration date, but, as Carlos mentioned earlier, we will probably move in the next few weeks or more.

Okay. The second question regarding the capital return. As you mentioned, you are not a CCAR bank. The CCAR banks, some of them use the so-called Mulligan where they ask for too much in the return of capital and they have to dial it back and that is disclosed by them. This amount that you announced today, was this what you asked for, or is this less or more -- not more, but is it less than what you asked for, or it was right on the money?

Obviously, we keep those discussions in private. Let's say it's what we asked for, but it evolved over time. How is that?

Okay. I understand. Another question for you is can you guys give us some more color going forward now -- we saw what you reported in the fourth quarter on the FDIC loss share expense. What should we -- because it's a volatile number, of course. What should we expect do you think in 2017? I am assuming there is no more litigation with the FDIC, so there shouldn't be any one-time charges I'm guessing.

There is one $6 million litigation outstanding, but we will let --.

The FDIC expense will vary depending on recoveries that we have to share with the FDIC, like we generate expenses that are announced, but I think normally somewhere in the $2 million a quarter expense (multiple speakers).

Less volatility. Going forward, there should be a lot less volatility in that number, Gerard.

Great. Okay. Super. Appreciate it, guys. Thank you.

Scott Valentin, Compass Point.

Thank you. This is Jesus Bueno for Scott Valentin. Sorry to beat a dead horse here, but on the capital return, I guess, as you think about balancing dividends and buybacks, obviously you are here near tangible book. I guess how do we think about that going forward? Obviously, you are closer on peer return on the dividend. Would you look for more of a balanced approach going forward?

Again, we wish we had this amount when the stock was in the $20s; we could buy it back below tangible, but you balance these things out. Again, this is what we got and we will be looking -- as we move forward, we will be looking to do more things, but right now there's just nothing pending.

Fair enough. Thank you. And just as it relates to tax reform, we've heard of -- and I know it's a bit early to speculate -- but as it relates to your run rate effective tax rate going forward, if we look out to say 2018, you've guided to 25% to 27% for 2017, but I guess would you see any benefit if there was a reduction in the effective tax rate just given the fact that Puerto Rico has a lower tax rate already?

Well, it would probably impact our US operations in the sense that we have to do something with the deferred tax asset in the US, but we also still have a meaningful reserve. I don't know, [Carlos], if you want to comment?

Yes, I guess the incremental tax rate in Puerto Rico is 39%, so we are able to generate some benefits in Puerto Rico that would be less evident if that higher tax rate comes down. There's only so many other opportunities in the US and remember that we had the high tax rate even though we are not actually paying a lot of on really a cash transaction and a lot of that is driven by [stating] some taxes that lose their deduction status for Federal taxes because we are not actually paying them. So I think it will be a while before we see a meaningful decrease in the effective tax rate in the US.

Thank you. If I could just slip one more in on the mortgage banking income line. Obviously, in North America, there are headwinds on mortgage banking, but if you could just provide some color, I guess, around your expectations as we move into next year. You, obviously, showed some stability in that line quarter-over-quarter.

The mortgage banking income line is almost all Puerto Rico business, so you are not seeing there very many dynamics of what's happening in the mortgage market in the US. And most of the changes are just a reflection on slightly lower volume than before.

Excellent. Thank you for taking my questions.

(Operator Instructions) Ken Zerbe, Morgan Stanley.

Thanks. I guess the first question, just in terms of the capital return, I get what you said that you are going to start this in the next couple months, give or take, weeks or months. I guess first question is are you going to do the entire $75 million all at once?

We have not discussed that. We are preparing a list of all of our best friends that are calling us now to offer their services.

I will let you take care of that. No problem. Anyway, the second question is, once you get the $75 million done, when is the next logical time that you might announce the next buyback? Do you need to wait for the next stress test period?

Again, the answer is what I mentioned earlier, Ken. Technically, we don't. We don't have a schedule like the CCAR banks do, but, in practice, the best time to have a substantive discussion with the Fed will be when they have -- especially if that discussion happens as we get closer to the [financial] stress test is when they have [it].

Understood. And that's what I thought I understood, which is why, I guess, I phrased it as the next logical time for an announcement. Next question, in terms of the margin, I heard NIM stability from here, but that's at the 4.02%-ish plus or minus level, right? So going into 2017, NIM should probably be around 4%?

I didn't say that. What we intended to say is that -- what we tried to do was to explain the reasons why the margin came down a little in the last three quarters and explain why we hoped those reasons will not continue applying moving forward, but the stability could be at this level. It could be at an additional level. As you know, we don't give margin guidance.

Okay. So it could be flat or it could be down. Okay, all right. Thank you very much.

Brian Klock, KBW.

Good morning, gentlemen. I apologize; I got on late, but if this was asked already, I apologize. I did hear a lot about capital returns, so I won't ask you anything about capital return, but there was an earlier question on the potential for tax reform in the US Mainland. And I'm not sure if you guys answered this question or not, but it would seem that, from the US perspective, if you went to say a 35% to a 25% corporate tax rate, there would only be maybe $1.50 or so of a hit to your tangible book because of that, but you really wouldn't have the impact on the regulatory ratios, right, because of the disallowed DTA?

You are correct on both things.

Okay, okay. And then there would be -- as you said, there would be a net positive to your tax expense though in that situation because of your US tax rate is pretty high from that GAAP perspective?

You continue to be right.

Okay. All right, good. Again, I apologize if I missed it, but it looks like some pretty solid growth continues in the US franchise. I'm not sure if you talked about it, but I guess if you could highlight the key areas there and what you think maybe the loan growth momentum you still have in the Mainland franchise?

We are still seeing pretty decent demand from our clients in both markets, both New York and South Florida. The categories are the useful categories you have seen from us in the states, so CRE, some multifamily, the managed care and the condo association business. So no significant change in the story or the categories in which we are seeing client demand and again, we have seen -- we continue to see good opportunities to continue to grow the book without significant sacrifice in underwriting criteria so far.

Great. So you've got capital, you are growing the balance sheet and now you are returning some of that capital, so congratulations and thanks for taking my questions.

Joe Gladue, Merion Capital Group.

Good morning. I know it's a much smaller amount, but the remaining amount in dispute with the FDIC on the loss share, did you mention when you expect that to be resolved?

I don't think they have set a date for the arbitration yet, so we are a long ways off.

Yes, there is no penalty yet, no date yet, so no date yet.

Okay. Related to that, just wondering if we will see any noticeable reduction in professional fees or anything either now with the majority gone or will that not -- if it occurs, will it not occur until the last little bit is resolved?

It's a much smaller case, so hopefully that will translate into smaller fees, but you never know with lawyers, but yes.

Hopefully.

All right. And I guess, lastly, I just wanted to follow up a little bit on the questions you've had on the US loan growth. Can you just give us a little more -- you clearly had some very strong percentage growth in the US portfolio. How are you accomplishing that and can you, I guess, maintain that same level of growth going forward?

So far, if we look at the last few quarters, it varies high single digit. I think we had a quarter or two of double-digit growth, but it's varies single digits. We are not under the pressure of some other banks that have announced a target growth that they have to meet and then they go out every quarter to fill that bucket. We actually just do our work with clients and look at loan opportunities and ones that fit our portfolio, we do that and at the end of the quarter, we add up the growth and we figure out where it was.

So again, we don't set out to grow a particular number. What we do set out is to try to do deals that make sense for our book and for our clients and the result has been pretty positive so far. We see no indication that should change moving forward.

All right. Okay, that's it for me. Thank you.

Alex Karlan, Lake Trail Capital.

Hi, Carlos. Congratulations on the capital return. That's great to see. Sorry to go back, but can you just clarify exactly what you meant on NIM guidance? I was confused listening to the earlier question.

Yes, what we attempted to do was explain the conditions that led the NIM to slip over the last few quarters and mentioned that we don't expect those conditions to continue and that the result of that would lead to more stability moving forward in the NIM. It was not our intent to provide guidance at 4.02%, which is where this quarter ended, but more than anything just to comment that the conditions that led for it coming down in the last few quarters we believe are not there anymore. So the stability -- the NIM could go up. It doesn't necessarily mean it will stay where it is. More than anything, the message is that if our guesses are right, it shouldn't continue to come down.

Perfect. Thanks very much.

(Operator Instructions). Dimitre Genov, Magnitar.

Just a follow-up question on the austerity comment in the first question. I guess you expect some reduction in government spending, but can you comment on what is the expected impact on your operations, whether it's loan growth, charge-offs in Puerto Rico, just overall activity if you can just give us some color on that?

I don't really get the thrust of the question.

It's hard to answer your question because the effect, if any, on the operation will depend on the magnitude of what ends up happening and it's very hard to read right now exactly the magnitude of the cutbacks the government may end up doing, and it also depends on where the cutbacks occur because some cutbacks in some government activities could actually be business opportunities for us if the activities they used to do they have to have somebody else do on their behalf moving forward.

So it is hard right now -- I appreciate your question; it is a valid question, but until we have a better reading on where the cutbacks will occur, when they occur and what they will look like, it is very hard to predict how they will affect our operation. What we can say is that, on the credit side, we have, over the last few years, continued to strengthen our portfolio. Any cutbacks in the -- the affect of government cutbacks is one of the things that we consider in our stress tests, so we think we continue to be in a strong position even if some reasonable cutbacks come.

Do you track your exposure to government employees or just (multiple speakers)?

We believe we actually are slightly underindexed, government employees and our total client base, if you look at government employees versus the total employment base in Puerto Rico because a lot of government employees tend to do some of the banking with the co-ops and the credit unions, so we do track it and again, we believe we underindex slightly (inaudible).

We will now conclude today's Q&A session and the conference call. Thank you for attending today's presentation. You may now disconnect.