Popular Inc (BPOP) 2014 Q3 法說會逐字稿

Good morning and welcome to the Popular, Inc. third-quarter 2014 financial results conference call. (Operator Instructions). Please note this event is being recorded. I would now like to turn the conference over to the Investor Relations officer at Popular, Inc., 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 President and COO, Ignacio Alvarez; our CFO, Carlos Vazquez; and our CRO, Lidio Soriano, who will review our third-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 uncertainties. 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 and our SEC filings on our webpage at Popular.com. I will now turn the call over to Mr. Richard Carrion.

Good morning and thank you all for joining the call. I'd like to first address the highlights and key events of the third quarter, give an update of our US reorganization plans and provide 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.

Before we start, I'd like to acknowledge our recently appointed President, Ignacio Alvarez. Ignacio joined Popular as General Counsel in 2010 and has made important contributions to our strategic initiatives these past few years. As President and COO, he will continue to provide strategic and operational guidance to our senior management team. Ignacio passes the baton to Javier Ferrer, who we welcome as our General Counsel. Javier joins us with 30 years of experience as a corporate law and banking attorney in addition to being the former President of the Government Development Bank of Puerto Rico. We're confident his contributions will be meaningful as a member of our team. So with that, please turn to the second slide.

This quarter, we reached a number of key milestones in improving the performance of our bank. In July, we repaid our outstanding TARP funds without raising additional equity. In August and September, we closed the sales of our Illinois and Central Florida regions. Since then, we have refinanced a meaningful amount of high-cost funding in our US region and sold the majority of the remaining US legacy and classified assets. We have also reached an agreement with the FDIC over our previously disclosed arbitration regarding our Western Bank loss-sharing agreement resolving our dispute with no meaningful financial impact to Popular.

In addition, as evidence of the progress we have made on the credit front, we are pleased to announce that, as of today, the credit-related MOU, which we had agreed to with our regulators in 2011, has been lifted. These accomplishments come in concert with another stable quarter for the Company. In the third quarter, Popular earned adjusted net income of $91 million, up $4 million from last quarter and well ahead of last year's third quarter.

We continue to generate strong revenues with capital levels above peer averages. Tangible book value was $36.24, up from $35.84 last quarter, driven by our operating earnings for the quarter.

Our adjusted net interest margin of 4.64% declined slightly from last quarter's adjusted 4.68% on lower spread income from our covered portfolio. Our spreads remain strong relative to peers with our Puerto Rico net interest margin at 5.25%. Total NPAs this quarter of $943 million, including covered loans, were down from last quarter's $956 million. Non-covered NPLs were $622 million or 3.2% of non-covered loans, down from $640 million or 3.3% last quarter. NPL inflows declined $24 million when compared to the previous quarter with improvements in both Puerto Rico and the US. Puerto Rico mortgage inflows of $95 million were down $10 million from last quarter.

Our adjusted net charge-offs were $40 million, or 83 basis points down from last quarter's $46 million, or 94 basis points, mostly from higher recoveries. As previously announced, we have decided to focus Popular's US mainland strategy on our New York Metro and South Florida regions. In addition to the sales of our operations in Illinois and Central Florida, we made progress on our previously announced plans to consolidate our Rosemont, Illinois and Orlando Florida operations center and to transfer most of these support functions to Puerto Rico and New York. These efforts will be concluded in the first half of 2015.

In looking to actively manage our US balance sheet, we also refinanced a large balance of high-cost wholesale funding and contracted to sell the majority of the remaining US legacy and classified assets. These actions have simplified our operations, providing an opportunity for capital release and improving the return on capital of our US region. As previously announced, we repaid our $935 million in outstanding TARP funds on July 2 without raising additional equity. The transaction was funded with existing holding company liquidity and the proceeds from a $450 million senior note offering.

At quarter-end, holding company liquidity stood at approximately $225 million. Our liquidity position provides in excess of two years debt service coverage with no maturities until 2019. Our Tier 1 capital and Tier 1 common ratios are 16.9% and 14.8% respectively, both up 100 basis points over last quarter's comparable ratio, leaving us with a robust capital position under Basel I, which we expect to continue under the Basel III framework.

In addition, the market value of our remaining stake in EVERTEC is approximately $250 million and significantly exceeds our position's current book value of $24 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. The repayment of TARP better positions us for more active capital management and we expect discussions around capital returns to be part of our next capital plan, which we will submit at the end of the first quarter of 2015, along with our annual stress test.

Before I turn it over to Carlos, let me comment on the Puerto Rico economy, which continues to be challenging. Over the next few months, comprehensive tax reform and the ongoing restructuring of the Puerto Rico Electric Power Authority will be critical events impacting the fiscal and economic outlook. We have operated in a weak economy for most of the past eight years, though the strong revenues generated by our Puerto Rico bank have produced positive earnings in each of those years. We're confident that our strong market position, significant liquidity, excess capital levels and internal capital generation will continue to be key to our future performance.

Lidio will expand on our Puerto Rico government exposure later in the call, but I would highlight that our selective underwriting process has provided us a senior interest in many of the borrowing entities' identifiable revenues and cash flows as evidenced by the volume of repayments we've seen so far this year. It is this underwriting process and the size of our exposure relative to our capital base that gives us comfort in times of increased volatility. Our reported exposure is up $18 million from the previous quarter, but down $217 million from the first quarter.

Additionally, at the quarter-end, we participated in the recently announced tax revenue anticipation loan financing by the Puerto Rico government, extending $100 million of principle in the transaction. We continue to believe the risk reward of our Puerto Rico government exposure is in our favor and as such, we will continue to selectively participate in funding the Puerto Rico government's capital needs and may increase our exposure opportunistically. We're monitoring developments in this portfolio closely. Keep in mind that the vast majority of our direct Puerto Rico government exposure is in loans, not publicly traded securities. We believe our Puerto Rico public sector exposures are manageable as a percent of capital and in proportion to the rest of our loan book. Please turn to slide 3 as our CFO, Carlos Vazquez, discusses our financial results in further detail.

Thank you, Richard and good morning. On slide 3, we present our financial summary for the third quarter. This quarterly data is reconciled to GAAP figures in the appendix to the slide deck. As detailed in today's earnings press release, variances from the second quarter affected many lines on our income statement. The larger contributors to these variances were in [six] (inaudible) -- slightly lower net interest income, a smaller reserve release in the US, a significantly lower FDIC loss share expense, better mortgage banking results, higher OREO expenses and lower taxes. Please note that the results of the sales of the US regions are reported in the discontinued operations line item.

On an adjusted basis, net interest income for the third quarter was $347 million, down $8 million as lower covered loan spreads offset the benefit from our TARP redemption. Our loan portfolio was down slightly from the prior quarter on covered loan runoff and the sale of legacy and classified assets in the US. We remain hopeful that we can maintain flat non-covered loan balances through the end of 2014. While still preliminary, our estimates for 2015 are consistent with our 2014 experience of stable loan balances for the year, excluding covered loans.

In Puerto Rico, limited organic growth has been offset by selective loan portfolio purchases over the last few quarters. We will continue to pursue that strategy if attractive asset purchase opportunities materialize. The average yield on our $2.7 billion covered loan portfolio declined to 9.95% from 11.83% last quarter. This decline is due mostly to the extension of the average expected life of some commercial loan pools. This means that, for the affected loans, we expect to collect more income over a longer period of time. These changes in cash flows partly explain the increase in accretable yield for future periods shown on Table O of our press release.

Our funding costs were stable. Total deposit costs in the period were up 1 basis point to 55 basis points. Non-interest income increased by $46 million compared to last quarter on lower FDIC loss share expense and increased income from mortgage banking. Our Puerto Rico mortgage banking business originated $314 million in loans in Q3, down from $327 million last quarter. We continue to expect the average quarterly pace of originations similar to Q3 through 2014. This quarter's mortgage banking line benefited from lower loss on hedging activities and a lower valuation adjustment to our MSRs.

The third quarter's large decrease in FDIC loss share expense stems mainly from the elevated amortization expense present in the second quarter, which resulted from lower loss estimates in that period. Please keep in mind that with three quarters of potential amortization remaining in the commercial portion of our loss share agreement, the effect of any future changes on expected cash flows or expected losses will be magnified prior to the LSA's expiration in the second quarter of 2015.

Total operating expenses for the quarter were up $31 million to $302 million. This increase was mainly due to higher OREO expenses stemming from our ongoing workout activities. In addition, unfunded commitment reserves increased by $6 million and [personnel-related] expenses reverted to the levels experienced in the first quarter. While subject to a degree of variability and seasonality, we continue to expect quarterly operating expenses to average between $285 million and $290 million. We plan to update this range once the consolidation of our US operation is completed in the second quarter of 2015. Our adjusted tax rate for the quarter was approximately 4%, due mostly to a larger contribution to our earnings from BPNA, additional exempt income in Puerto Rico and the release of prior year's tax reserves.

Please turn to slide number 4. As previously announced, we have decided to focus Popular's US mainland strategy on our New York Metro and South Florida regions. The sales of our operations in Illinois and Central Florida generated a gain of $26 million reflected in the discontinued operations line and in line with previously disclosed estimates. We continue to expect the sale of our California operations before year-end.

As Richard mentioned, we have also announced plans to consolidate our Rosemont, Illinois and Orlando, Florida operations centers transferring most of these support functions to Puerto Rico and New York in early 2015. We expensed $8 million of restructuring costs this quarter and expect the remaining $41 million of estimated restructuring expenses to be spread over the next three quarters.

As part of this restructuring effort, we have completed additional transactions this quarter. First, we have contracted to sell nearly all the remaining legacy and classified assets at BPNA, representing $225 million in book value, for a loss of $12 million. This leaves our US region with total NPLs of $30 million or less than 1% of loans at quarter-end.

Second, this quarter, we refinanced $638 million of high cost repo funding. While incurring a total refinancing penalty of $40 million, we expect meaningful savings starting this quarter given that the average cost of this refinance funding exceeded 4%. $21 million of the refinancing penalty was expensed this quarter with the remainder coming in the fourth quarter. When completed, the BPNA strategic realignment will rightsize our operation and will adjust the back office to appropriately reflect the bank's new size and regional presence. These transactions clean out remaining legacy credits and high-cost liabilities and are intended to simplify our operations, provide capital relief and improve the return of our US operations. Please turn to the next slide.

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 stands at 14.8%. We expect our capital levels to continue to exceed well-capitalized requirements under the Basel III guidelines. We seek to maintain strong capital levels appropriate for Popular's risk profile and eventually pursue, with the approval of our regulators, other capital management and distribution strategies through the process and the timetable previously mentioned by Richard. Improvements in our operating efficiency and these potential capital actions will help us move to our target of a double-digit return on tangible equity. With that, I turn the call over to Lidio.

Thank you, Carlos. Before we take a closer look at some of the specifics of Popular's credit indicators for the quarter, let me make a few general comments related to the trends in our loan portfolio. Our asset quality continued to improve during the third quarter as evidenced by declines in non-performing loans, net charge-offs and inflows into NPLs. In the US, we continue to reflect strong credit quality with lower NPLs, lower net charge-offs and lower inflows. At the end of the quarter, US NPLs stood at $30 million or 84 basis points. The improvement was led by federal economic conditions aided by the divestiture during the quarter of certain legacy and classified assets. In Puerto Rico, stable trends continued during the quarter with lower net charge-offs and inflows to NPLs. Total NPLs increased slightly driven by the mortgage portfolio. Let us turn to slide numbers 6 to review the details.

Non-performing assets decreased slightly to $943 million on a linked-quarter basis, primarily driven by $18 million decreasing NPLs coupled with a $9 million decrease in other real estate owned, offset in part by increasing NPLs held for sale related to a divestiture of US legacy and classified assets. In the US, NPLs decreased by $36 million, or 55% from the second quarter of 2014. The decrease was primarily driven by a $70 million reduction in commercial NPLs, mostly due to loan resolutions coupled with a reduction in both mortgage and consumer NPLs mainly as a result of the previously mentioned loan sales.

In Puerto Rico, non-covered NPLs increased by $18 million during the quarter driven by higher mortgage and consumer NPLs of $21 million and $8 million respectively. The consumer NPL increase was mostly due to the reclassification from the mortgage portfolio of approximately $8 million in home equity loans. These increases were offset in part by lower commercial and construction NPLs of $11 million. Please turn to slide 7 for a summary of the trends in NPL inflows.

NPL inflows, excluding consumer loans, decreased by $24 million or 16% from the previous quarter, principally driven by a decrease of $18 million Puerto Rico and a decrease of $6 million in the US. In Puerto Rico, the decrease was mainly driven by improvement in mortgage of $10 million, coupled with improvements in commercial and construction loans of $8 million. In the US, the improvement was mainly driven by commercial loans. Please turn to the next slide to discuss net charge-off provision and allowance for loan losses.

Excluding the $32 million of write-downs associated with the US legacy and classified asset sale, net charge-offs for the third quarter amounted to $40 million or an annualized 83 basis points of average loans held in the portfolio compared to $46 million or 94 basis points in the second quarter. The decrease was primarily driven by higher Puerto Rico commercial recoveries. The reported net charge-offs amounted to $73 million, an increase of $27 million over the previous quarter, mainly driven by the previously mentioned write-downs.

In Puerto Rico, net charge-offs were $39 million, a decrease of $5 million from the previous quarter. The decrease is principally driven by lower losses of $8 million in the commercial portfolio, offset in part by an increase of $3 million in the mortgage portfolio. The net charge-off ratio decreased 11 basis points to 98 basis points.

In the US, net charge-offs, excluding the effect of the sale, were $1.8 million, or 19 basis points, down slightly from the previous quarter net charge-offs of $2.9 million or 30 basis points. The provision to net charge-off ratio, excluding the impact of the sale, increased to 139% from 108% in the previous quarter. The results for the quarter are mainly driven by lower reserve releases in the US, coupled with lower provisions in Puerto Rico.

In the US, continued improvements in economic conditions and credit metrics led to a credit provision of $6 million during the quarter compared to a $25 million credit in the previous quarter. In Puerto Rico, the provision to net charge-off ratio was 160% compared to 173% in the previous quarter. The ratio for the quarter continues to reflect the effects of challenging macroeconomic conditions. The Corporation allowance for loan losses decreased by $5 million from the second quarter driven by reserve releases in the US, offset in part by a reserve increase in Puerto Rico. The $28 million reserve decline in the US is principally driven by the write-downs from the legacy and classified asset sales and continued improvements in the loan portfolio risk profile. In Puerto Rico, the allowance for loan losses increased by $23 million due to economic conditions. The overall ratio of allowance for loan losses to non-performing loans remained essentially flat from the previous quarter at 84%.

To summarize, the Corporation asset quality continued to improve during the third quarter of 2014 as evidenced by declines in non-performing loans, net charge-offs and inflows into NPLs. Please turn to slide 9 to discuss our exposure to public corporations and the Puerto Rico government.

Our current direct exposure to the Puerto Rico government, municipalities and other instrumentalities, is $823 million of which approximately $727 million is outstanding, an increase of $18 million compared to the previous quarter. The increase is mainly driven by credit extended to municipalities. As discussed in the previous earnings webcast, we will continue to selectively participate in funding the Puerto Rico government capital needs as evidenced by our $100 million loan participation in the recently announced short-term tax revenue anticipation financing by the government.

Our direct exposure can be divided in two main categories -- loans to the central government and public corporations and loans to municipalities. Our largest direct exposures are loans to the Aqueduct (inaudible) Authority of $100 million and to the [Elected Public] Authority of $75 million. Both are short-term facilities used to fund working capital needs.

During the quarter, as part of the bank syndicate, we extended until March 31, 2015 (inaudible) revolving line of credit used to pay for the purchase of power, fuel and other expenses. We believe our total exposure to the central government and public corporations is manageable, representing only 6.8% of total Tier 1 capital. Our municipality exposure is mostly a diversified portfolio of senior priority loans to a select group of municipalities whose revenues are independent of the central government.

In addition to this direct exposure to the government, we also have indirect lending facilities in which the government acts as guarantor. The largest such exposure is in the form of residential mortgage loans to individual borrowers in which the government provides a guarantee similar to (inaudible) programs in the US. With that, I would like to turn the call over to Richard for his concluding remarks. Thank you.

Thank you, Lidio. Please turn to the last slide. Before we open the lines to questions, let me conclude today's remarks by reviewing the actions we're taking to drive shareholder value. Our healthy revenue generation uniquely positions us to benefit from an eventual economic recovery and yields reasonable returns while the leading market position of our Puerto Rico franchise continues to allow us to sustain above-average margins. Notwithstanding ongoing stability in our main credit quality indicators in Puerto Rico, we remain attentive to fiscal and macroeconomic trends.

Popular's credit risk profile is meaningfully different from the one with which we entered this credit cycle, which, together with our strong capital position, improves our outlook. We continue to benefit from our EVERTEC ownership, our stake in BHD, the second-largest bank in the Dominican Republic and the improved performance of our US operations. This quarter, we achieved significant milestones in our continuing efforts to strengthen our operations and our outlook for future profitability as evidenced by our TARP repayment, the listing of the credit MOU, the resolution of the FDIC arbitration and substantial progress towards the completion of our US restructuring.

In summary, we are driving shareholder value as we remain focused on creating revenue opportunities while effectively managing credit, our capital and our overhead costs. We look forward to reporting to you on our continuing progress. And with that, let's open the call to questions.

(Operator Instructions). Brian Klock, Keith, Bruyette & Woods.

Good morning, gentlemen. My first question is around capital and thinking about just overall. This year, you guys have been pretty busy, but I think when you talk about from the crisis, I think you've done a great job in derisking the balance sheet, building core capital, look at the profitability, the returns you guys have improved in both Puerto Rico and the streamlined US operations, the 2% pre-tax pre-provision. I guess thinking about that core earnings power, the generation of internal capital that you have and the almost 15% Tier 1 common ratio, I guess how should we think about maybe magnitude or what kind of level of Tier 1 common do you think you could operate with this stronger and more profitable franchise going forward?

Brian, first of all, thank you for your kind remarks. We will be submitting, as I mentioned, our plan toward the end of the first quarter together with our stress test. We think our operating targets are well below what we have now, but I'll wait until we submit it and get some feedback from the regulators before we get into specifics. But we certainly think we have a much better balance sheet, a very, very strong capital position than we did a few years ago and hopefully that will put us in a good position to start returning some capital.

And then really so the plan then would be to talk about capital return as part of that DFAST stress test?

Absolutely. Absolutely.

Great, great. And then just a follow-up question. The actions in the US franchise, again, the streamline to make that more profitable. My question is for Carlos. Can you give us an idea on the funding, the structured repos that were refinanced, what's the replacement funding cost approximately?

Most of them were refinanced short term, but we're in the middle of adjusting our balance sheet as we shrink it in the US. So the fact that those specific liabilities were refinanced short term does not mean that's where they're going to end up. But the specific answer to your question, they were refinanced short term, but we will continue to tinker with the balance sheet as the bank shrinks and we end up closer to what we think is going to be steady-state late this year, early next year.

Bear in mind, Brian, we still have to close on the California sale. We're hoping to do that in the fourth quarter, so we're keeping our options open there.

Okay. So I guess, Carlos, just on that borrowing, we should probably see something that's whatever the replacement cost. In the near term, it's definitely a lot cheaper than the [441] cost of debt was costing you before.

Absolutely.

And then debt may go up maybe into later in the fourth and the first quarter as you replace it with something that's a more permanent financing?

Correct, but it is very short term right now.

Okay. And then long term, the reality is it's still going to be something that's going to be a benefit to the margin in the bottom line even with the long-term permanent financing?

Yes.

Okay. All right, I'll get back into queue. Thanks, guys. Thanks for your time.

Brett Rabatin, Sterne Agee.

Hi, good morning. I wanted to I guess first just talk about the economy and a lot is being made in the US about energy prices and what effect that might have on energy lenders. But I'm curious, you guys didn't really talk about -- you mentioned (inaudible), but didn't really talk much about if you kind of foresee any benefit from lower oil prices potentially easing that situation any. And then you gave some economic color, but was just kind of hoping for any incremental data that you guys might provide that would give us some insight into potential positives over the next six months or so.

You mentioned the oil price and that clearly -- those decreases will have a positive impact. We will temper that. We think a very important event over the next six months will be that restructure of (inaudible) and how that plays out. They still have a very high reliance on oil, so we do expect it to have a positive impact on the price of energy, but the (inaudible) restructure is one of the big events.

The only additional color I guess we can give you, we see some areas of improvement, nothing dramatic yet, but you've seen our credit trends. We just need to get more investment here. All these measures that the government takes to balance the budget has a dampening effect in the short term. Although we think longer term they will prove to be significant. What we hear on tax reform is more of a shift towards consumption taxes and away from the income side. Hopefully that will be positive from a business point of view, but we just have the outlines of that, nothing definitive yet. But their plan is to make it effective January 1 of 2015.

Okay. And then I wanted to ask about the loan purchases, just what you did in the quarter and then just discuss a little bit about your appetite for that going forward and kind of how you think about what you might be looking at from that perspective.

We didn't have any loan purchases this quarter. We did in the first quarter acquire a couple of loans, but I guess our view is we have this platform and if we find the right credit metrics, we can add them to our platform with very little additional cost and it makes a lot of sense to us if we're comfortable with the credit. We've done that primarily in the mortgage area and quite a few in the consumer loan area where we're very happy with the credits and again, we have the scale economies to make that work.

Okay. I must have heard your commentary earlier in the -- in your discussions wrong. And then I guess just going back to the capital question, with the lifting of the MOU, do you -- can you maybe discuss your appetite for M&A, whether US or Puerto Rico-based and maybe your optimism on that as well?

Well, we are always on the lookout for opportunities. Naturally there's nothing right now and if there was, I've got two lawyers now staring down at me. But, as we said, we would focus on the New York and South Florida regions and if anything shows up in Puerto Rico, we will deal with that too.

Okay, great. Thanks for all the color.

Jordan Hymowitz, Philadelphia Financial.

Thanks, guys, for taking my call. Two questions. One, my understanding is there is no state or Commonwealth more reliant on imported energy than Puerto Rico. So the falling oil price would have a dramatic positive impact in the economy down there, wouldn't it?

It should have a positive impact. So a lot of the energy is still oil-based, so it should absolutely have a positive impact both on the cost of energy and the price of gas for driving around. So yes, it should be positive.

I would think so because, for most of the past year, I've been getting calls, short Puerto Rico because oil is going through the moon, but now that it's going the opposite, I haven't gotten a single call on what the benefit is to Puerto Rico. And you guys did a great job even when oil was going up. My second question --.

I haven't looked at these numbers recently so don't hold me to them, but it is in the range of 60 million to 70 million barrels a year in oil consumption, so you can do the math.

60 million to 70 million?

Yes.

Super. My second question is do you think there's any limit on concentration within Puerto Rico of the banks?

Yes, they have something called the HHI, Herfindahl-Hirschman Indices, and there is that, but we're still in two digits, so I think we're okay.

No, no, no, I understand -- my question is is there anything preventing you should you be the successful winner do you think of acquiring the Scotiabank franchise in terms of limits on concentration?

Well, Scotia has vehemently denied that they are selling the Puerto Rico operations. So I don't think that one's in the cards.

But if they decided to, because sometimes people do things they say they're not going to do, would there be any reason concentrationwise you couldn't acquire them?

It would be difficult for us by ourselves on the deposit side, without a doubt. Unless somebody else were an acquirer, it would be difficult for us on the depositor side.

Okay, thank you.

Gerard Cassidy, RBC.

Thank you and good morning. Regarding the capital return process, clearly, the top 30 banks in the United States go through a very formal process with CCAR. They submit their plans first week of January, we hear the third week of March if they're approved or not. Do you know what your process is? Is it that formal and when should we hear?

That's a good question and so I'll let Carlos answer the hard part, but the short answer is there really is no very clear process, so we do it in conjunction with the stress test, but let me ask Carlos --.

We are required to file the stress test in the first quarter. For a bank our size, there is no official requirement that we simultaneously file a capital plan, but it is our belief that any intelligent discussion with the regulators regarding capital will need to be anchored on the stress test and that is why we're planning to pursue it in conjunction with that.

Very good. And do you have a sense that whatever amount you ask for that you would prefer more of the return of capital to shareholders to come in a share repurchase plan due to the fact your stock is trading where it is relative to the tangible book and the stated book versus a giant dividend increase?

We don't have a view on that right now. That view will come in conjunction with our discussions with the regulators. But we talk about it quite a bit internally though.

Okay, that's good. Now I just wanted to go back to the financing, the long-term financing going to short-term financing that you guys discussed. It wasn't clear to me. Is that a temporary until the California franchise is sold that you will then, after it's finished, it closes, you'll go back to a long-term financing solution at a lower rate or will you keep the short-term financing repo on your books?

Gerard, the repos we -- they were long-term repos when they were contracted. That does not mean that the term left on the repos that we refinanced was very long. It was a couple of years. It was not -- but when they were contracted, they were long-term repos. So we did not significantly change the liability profile of the bank. We just adjusted the liability profile a little bit. In part -- together with their whole restructuring of the bank, not only will we sell liabilities and assets, we'll also be rightsizing the rest of the balance sheet, including things like the investment portfolio. So what we are doing is taking steps to have the right (inaudible) position for the bank in the US given what it is going to look like when it ends. As you know, historically, we have not taken a very significant view on our balance sheet on interest rates and that continues to be the way we manage our business.

Thank you. My final question is on EVERTEC. Clearly, in [monitorizing] that position during the restructuring, it helped you get through the restructuring, paying back TARP, having the MOU listed. What would prompt you to decide to sell the remaining portion of that?

Well, that's -- again, strategically, we think it's a good asset for us to own. We like their prospects. If we think there's a need for additional capital, there's something there that we have that we can monetize in one day. So we're comfortable with that. We still are their largest client, as well as their largest shareholder. So it is -- it does have a strategic element to it, but we do have that -- it also gives us the flexibility. Do you guys want to add something? I want Ignacio to have a speaking part here.

I have nothing to add.

All right. Good enough.

Actually, one final one. On your credit ratings, clearly, you've had -- you executed your turnaround plan very successfully and Fitch and S&P have you on stable outlook. Moody's is still negative. Do you know when Moody's will come back to you for another review to maybe reassess their outlook?

Yes, probably the beginning of next year and I suspect that Puerto Rico is weighing on their minds. Hopefully, this lifting of the credit MOU will give them some comfort, but I still think that it's the sovereign that's weighing on their mind.

Great, thank you.

Ken Zerbe, Morgan Stanley.

Thank you. Just two questions for you. First, in terms of OREO expense, it looks like it was just under $20 million this quarter. I think $6 million of that was related to the covered portfolio, if I'm not mistaken or $6 million of the increase. Could you give a little color on what drove the rest of the increase and what that was related to and do you expect that to actually decline to get back to your sub $300 million expense guidance?

This is Lidio. I think the increase was a combination of having an unusually low number in the second quarter that was driven by gains on some of the properties that we sold during the quarter, combined with a higher number this quarter downtrend that were driven by losses on some of the sales that we completed during the quarter. The change in gains during the quarter from the third to the second was -- related to gains were $10 million. A lot of that is driven by we sold certain of our properties through the auction process during the third quarter. We think as we continue to move forward, they should move back to trend.

Got you. So to get back down to the $285 million to $290 million, it's a reduction in OREO or sorry something else in expenses?

No, that guideline is not directed to any one line under the expense -- on the expense lines, Ken. It is a summation of the effect on different lines. Obviously, if this number goes down, it will help get closer to that range, but it's not this number specifically.

Yes, there will be noise in it and as Carlos mentioned earlier in the call, once we do the restructuring, we'll recalibrate that and knock it down some more.

Got it. Understood, okay. And then the other question I had, just in terms of loan growth, I thought I heard you guys saying that you expect stable loan balances for the year, but I'm just looking at the numbers and maybe I'm missing some of it, so it looks like loans were down over a percent, ex-covered of course, just quarter-over-quarter and down 9% year-over-year. What part of this is going to be stable and am I comparing it -- what are you comparing that to?

I think we're talking stability from here on in that we expect the non-covered portfolio to remain at this level and although preliminarily, I think Carlos stuck his neck out a bit and said we expected to remain stable for 2015.

But keep in mind that some of the recent -- it's a bit dangerous to annualize this quarter some of the reason loans came down is because of the sales we discussed in the US and then there's also flips I think that are happening, as both Richard and Lidio mentioned. We participated for $100 million the transaction for the (inaudible). So some loan balances will be up as well. So just be a touch careful just annualizing minus 200 and something because that might not be the right way to do it.

Got you. And then the outlook for stable in 2015 also, I assume that includes purchases?

Yes.

Okay, all right, perfect. Thank you.

Daniel Hung, Knighthead Capital.

Hi, guys, thanks for taking the question. I just had a quick one on the tax rate. It looks like effective tax rate has been fairly low over the last couple quarters. Do you expect that to continue or normalize over the ensuing few quarters?

We were betting when this one would come up. I will let Carlos take it.

Yes, I mean the tax rate is -- as we look forward and we estimate what's going to happen in the quarters moving forward, our best estimate continues to come up with the tax rate that is something in the ballpark around 30%. The reality is that that is what we estimate forward and that's the way it looks and in any given quarter, a lot of things happened. In this quarter for example, we had a change in tax rate relations that affected the rate. We had to close out for prior periods. Sometimes that affects the expense up; this time it happened to affect it down. We had the creation and release of tax reserves. This quarter, it happened to be a release. The mix of our income changes when we have more income in the US versus Puerto Rico. Obviously, the US doesn't pay taxes. So to answer your question, when we look forward and we will do our best estimate, we still come up with something that looks around 30%, but the actual outcome actually changes because all the other things occur on the path there.

I guess the short answer is we budget for 30 and then spend the rest of our time figuring out how to knock it down. But that's the number we use.

Okay, great. Thanks.

Alex Twerdahl, Sandler O'Neill.

Good morning. Just going back, Lidio, to some of the big picture credit outlook on the island, can you talk some more about the qualitative factors that go into the reserve? And given that the credit metrics seem to be moving in the right direction, NPLs down, inflows down, net charge-offs down, is it really necessary to provide well in excess of net charge-offs still?

The allowance is a function of credit quality. It's a function of losses. It's a function of the loan portfolio and it's a function of the environment in which we operate. So when we do our analysis and we make determinations, we take all that into account. We're hopeful, as we continue to have stability in some of our credit indicators, that there wouldn't be a need in the future to be providing so much in excess of net charge-offs.

Okay, thanks. And then just can you talk anecdotally, when you have OREO loans that you send to auction, can you talk about the pricing today versus maybe a year ago and also how many more buyers there might be today for some of these properties and who some of those buyers might be?

I would say generally in Puerto Rico prices have trended down slightly over the last two or three years and that has continued to be the process. I think in terms of what we're obtaining in the auctions, that would be maybe information that we can follow up and provide you with additional detail through Brett.

Okay, thank you.

Dan Oxman, Jacobs Asset Management.

Good morning. So I have a follow-up question, maybe ask it a little different on credit. So I noticed that the reserve ratio over the last year has increased despite lower overall NPAs and classified. So could we possibly see perhaps a BPPR NPA liftout in the near term?

Could you repeat the question again; I'm sorry?

What do you mean liftout?

NPA sale in the Puerto Rico segment.

We evaluate every alternative available for us as an organization and we have not come up with a decision to embark in such actions. When we have a transaction to comment, we will, but so far, we haven't.

Okay. And then a follow-up on the tax question. What was the income contribution before taxes, excluding the restructuring costs for both BPNA and BP Puerto Rico segment? It looks like your adjusted result was $85 million, so how do we split that given that the US portion is not taxed, but the Puerto Rico is I believe at 35%?

Hold on. We have our controller shuffling papers here.

From the continuing operations, the benefit for the US operation was about $41 million and that would be the adjustment that you would make. I think the GAAP loss from continuing operations was a $12 million loss for the US segment, so you would add $40 million to that and then for -- and obviously that's going to have a tax impact given the DTA. And as far as Puerto Rico, you actually have a reduction in the contribution of $12 million on a pretax basis.

So what was the contribution from Puerto Rico on a pretax basis?

Pretax, it was 93 pretax.

93. Okay. And then -- so the lower expenses, the $285 million to $290 million, will that increase Puerto Rico's portion?

Yes, it may -- it will increase Puerto Rico's portion in the sense that we'll have around -- two-thirds of the centralized FTEs will be located in Puerto Rico for the US operations. But overall it should come down.

They will be charged.

Yes, they will be charged to the US.

Okay, great. Thank you.

Brian Klock, Keefe, Bruyette & Woods.

Hey, good morning again. My follow-up question is for Carlos. I mean I guess probably trying not to get into the nitty-gritty of this, but can you talk about the adjustments made on the covered loan net interest income? It did sound like that the estimated cash flows were increasing, but you made some adjustments, one-time (multiple speakers).

We're going to have to charge you extra for multiple questions, Brian, but I will let Jorge comment on that.

Essentially we look at the estimated cash flows of particularly commercial loans in this case and extended the life of those cash flows by about six months. So obviously there's a lot of current and paying loans, so we're just essentially collecting more interest income over a longer period of time.

So conceptually, you've moved some of the expected income from this quarter to the next two or three quarters, Brian.

Okay. And I think -- (multiple speakers).

For the life of the loan. Whatever it is, (multiple speakers), future quarters.

Right, okay, okay. And I guess when I look at Table O and the roll-forward of the accretable yield, there was another $97.8 million that was actually reclassed looks like out of the non-accretable difference into the accretable yield. So should I be thinking about the accretion that went through the net interest income this quarter of $66 million, should that number go higher because you've got more accretable yield to accrete over the next couple of years?

As you know, this number will be different after we go through the reclass.

It will depend on this quarter's reclass, Brian, is the answer.

But the nominal dollars you would expect -- again, the yield gets applied to a balance that is decreasing, so while you are seeing a change in expected cash flow, that cash flow is over a longer period of time, so it wouldn't necessarily mean that you see an increase dollar wise in the fourth quarter or going forward. (multiple speakers).

What's the sort of average life that we've got left or the duration in that --?

For the entire portfolio including the mortgage, it's about 6.5 years.

6.5 years. All right, thanks for your time.

And that includes consumer mortgages.

Okay, thank you for your time. I appreciate it.

Absolutely.

Jordan Hymowitz, Philadelphia Financial.

Thank you. Just going on Brian's excellent question before me, I mean if credit continues to improve, your reserve is substantially higher than the average reserve and the average reserve is somewhere around 1.5% today or slightly below that. Is there any reason if we were two or three years hence that you guys couldn't have the same reserve level if the economy improved or stabilized somewhat?

You're asking a lot of us. You're asking us to look into the future (multiple speakers) picture, which given the environment which we are operating in, it's difficult. But I think if we forecast stability and improvement in some of the macroeconomic conditions which we operate, that number should come down.

So I mean just thinking about it, you have a tangible book value today of a little under $36 and if your reserve went to the average reserve --.

A little over $36.

Well, you've got to add EVERTEC on top of that of $2, plus -- I'm sorry; you're correct. I'm sorry. EVERTEC on top of that, plus $2 for your average reserves and if consensus is right, you're going to make a little over $4 in the next five quarters. You could be sitting here with like a $43 tangible book in a year and a half from now or two years from now. You had a bigger discount to tangible book than almost any bank I know of in the States.

Keep repeating that please. We agree.

Okay, thank you.

(Operator Instructions). And in showing no additional questions at this time, this will conclude the question-and-answer session. Ladies and gentlemen, the Popular conference call has now concluded. We thank you for attending today's presentation. You may now disconnect.