Banco Santander Chile (BSAC) 2006 Q2 法說會逐字稿

Welcome to the Banco Santander Santiago second quarter 2006 earning release conference call. As a reminder, today's call is being recorded. If you have not received a copy of today's release, please call Robert Moreno at 011 562 320 8284. At this time, for opening remarks and introductions, I would now like to turn the call over to Mr. Raimundo Monge. Please go ahead, sir.

Thank you very much. Good morning, ladies and gentlemen. Welcome to Banco Santander Santiago's second quarter 2006 results conference call. I am Raimundo Monge, Director of Strategic Planning. I am joined today by Robert Moreno, Investor Relations Manager. Thank you for joining us to discuss the bank's second quarter results and recent operating trends. Afterwards, we will be happy to answer your questions.

Next slide. In this call, we will focus on basic - in four basic ideas. We should be in Page 3 of the webcast. So, we will be focusing in basically four basic ideas. A quick review of our strategy, which has been yielding strong results. Our commercial activity, where retail growth has been fueling top line growth, our first half and second quarter results positively affected by client activity and stronger efficiency. And, finally, the outlook for the next 18 months.

Next slide. The first half of 2006 was characterized by a furthering the strengthening of our leadership in retail banking as we continue to successfully accomplish our main strategic objectives for the 2006-2008 period. First of all, we expect to grow at a higher rate than our main competitors in retail banking. As the largest bank in Chile, with the largest distribution network and client base, the bank has a strong competitive advantage in retail banking. In addition, given the good outlook of the Chilean economy and especially the high potential for bank penetration of its emerging segments, including individuals, SMEs and micro-entrepreneurs, we are increasingly optimistic about the growth of the financial industry.

Secondly, with over 2.3 million clients, we envision strong cross-selling potential by improving client services and expanding the distribution network. We are also leading the process of increasing bank penetration in Chile so that our client base can continue to grow at a rapid pace. Cross-selling ratios should also improve as greater amounts of people develop profounder relationships with the bank.

Thirdly, we're the most efficient bank in Chile. We expect to continue growing at a strong pace, investing and expanding our distribution capabilities. Part of this growth has been financed with productivity gains which will allow us to maintain our world-class efficiency levels.

Finally, we have continued to be strongly focused on practically managing asset quality in order to balance growth in retail banking with normalization of provisioning levels. As you will see in the rest of this presentation, the bank has made important growth in achieving these goals during the first six months of this year.

Next slide. In the second part of this presentation, we will review the evolution of business volumes.

Next slide. You should be in Page 6. The second quarter was very robust in terms of loan growth, especially in retail banking. In the second quarter 2006, total loans increased 3.9%, quarter-on-quarter, and 18.3%, year-on-year, with strong growth in high-yielding products. Total retail lending increased 6%, quarter-on-quarter, and 25.2%, year-on-year, led by good growth in lending to individuals SMEs. Loans to individuals increased 5.5%, quarter-on-quarter, and 23.3%, year-on-year. Consumer loans expanded 7.4%, quarter-on-quarter, and 30.3%, year-on-year. Residential mortgage lending increased 5.7%, quarter-on-quarter, and 25.5%, year-on-year, while loans to SMEs increased 7.4%, quarter-on-quarter, and 31.3%, year-on-year.

Next slide, please. Banco Santander Santiago was the fastest growing bank in lending to individuals in the first half of 2006, capturing more than 30% of the industry's loan growth in retail banking. Market share in lending to individuals increased 50 basis points during the quarter and 80 basis points, year-on-year, to 25.8% of the market. Market share in consumer lending also grew, increasing 60 basis points, quarter-on-quarter. Market share in residential mortgage grew, as well, reaching 25.4% as of June and increased 30 basis points since March 2006 and 80 basis points in 12 months.

Next slide. Now, we will review first half and two quarter 2006 results. As of June 2006 and following the guidelines of the Superintendence of Banks, new accounting standards had been adapted in line with international accounting standards. As you know, the Superintendence is in the process of moving the accounting guidelines of the Chilean banks towards international standards and this is part of that process.

A recategorization of certain line items in the balance sheet and income statement was also introduced. First half 2005, second quarter 2005, and 1st Q 2006 figures have been re-categorized under the new format adapted for first half and second quarter 2006 in order to make them more comparable. These, involved re-categorized and line items but not adapting the new accounting criteria. The new format provides a better comparison of 2006 and 2005, especially net interest income, now clearer following exchange effect and the results of derivatives, foreign exchange transactions and the mark-to-market of securities.

These accounting changes resulted in a mark-to-market gain of 7,089 million Chilean pesos in the first six months of 2006, which were recognized in the second quarter 2006. This is the only significant effect of the income statement resulting from the adoption of the new accounting standards - a one-time impact of 7,089 million Chilean pesos reflected in the second quarter 2006. At the end of our earnings report sent to investors, last night, we included a summary of the change.

Next slide. Net income increased 24.7% in the first half of 2006 compared to the first half of 2005, and totaled Chilean pesos 144,779 million Chilean pesos - that is 0.77 Chilean peso per share - and US $1.46 per ADR. Growth was less by a 20.4% increase in core revenues. That is, net interest income plus fees. The bank's ROE in the period reached 26.6% compared to 23.2% in the first half of 2005.

The efficiency ratio, cost over income, improved to 37% compared to 40.4% in the same period, last year. The ROE for the Chilean banking system in the same period was 17.7% and efficiency ratio reached 51% in the period. The bank's net income growth rate was 2 times that of the Chilean Financial System in the aggregate in the first half 2006.

Next slide. Net income increased 29.4% in the second quarter of 2006 compared to the second quarter 2005 and totaled 80,345 million Chilean pesos - that is 0.43 Chilean peso per share and US $0.81 per ADR. ROE in the quarter reached 28.7% compared to 25.7% in the second quarter 2005. Core revenues increased 20.2%, year-on-year, as the bank continued to gain market share in key products and services.

Next page. You should be now on Page 11. Growth of net interest income has been one of the main drivers of growth. In the second quarter 2006, net interest income increased 19.3% compared to the second quarter 2005. This rise was mainly driven by the 17.6% increase in average interest earning in assets and a 10 basis point year-on-year rise in net interest margins that reached 5% in the second quarter 2006.

The rise in margins was driven by client and non-client activities. Client net interest income increased 18.4%, year-on-year, and 8.3%, quarter-on-quarter, led by a 17.6% year-on-year increase in average loans. The average balance of consumer loans was the highest yielding asset of our loan book, increased 33.2%, year-on-year. The bank has also experienced a rise in spread in lending to SMEs, corporate, and lost interest bearing demand deposit due to a rise in interest rate environment. As a result, line margins increased also 10 basis points, year-on-year, to 5.4%.

As the graph in Slide 11 shows, client net interest income has been continuously on the rise as retail banking activities expand. Non-client net interest income increased 21.6%, year-on-year, despite rising short-term interest rates, higher funding costs, and lower year-on-year inflation rates, reflecting the proactive management of our balance sheet in order to protect client-generated margins and income.

Next slide, please. Apart from rising volumes and stronger margins, the quarter also stood out for the continued rise in our client base and cross-selling ratios, especially in retail banking. The total number of clients increased 11.7%, year-on-year, to 2.36 million. The amount of middle upper individual clients that are cross-sold was up 26.5%, year-on-year. The amount of SME's clients that are cross-sold increased 17.5% while in Santander Banefe, our unit aimed at the middle to low end of the consumer segment, cross-sold clients grew 22.6% in 12 months. More clients and greater product usage have boosted fee income as it can be observed in the next slide.

In effect, net fee income increased 24.6% in the second quarter of 2006. Fees from checking accounts increased 43.9% and fees from line of credit rose 72.7%, year-on-year. Market share in checking accounts reached 25.6% as of February 2006 compared to 23.6% as of February 2005, the latest figure available. In the last 12 months, Santander Santiago has increased the number of checking accounts by 17.4%, twice the rate of growth of the bank system which grew 8.3% in the same period.

Credit card fees increased, also, 33%, year-on-year. The bank is also consolidating its leading position in the credit card market. According to the latest information published by [Translink] credit cards were growing 19.5% year-on-year, totals [for Chase] with Santander Santiago Card increased 16.6, 16.2% year-on-year in real terms.

Mutual funds under management increase 18.5% year-on-year, driving the 8.1% year-on year growth in fees from our mutual fund subsidiary.

Next slide, costs remained under control and the bank continues to bring -- to be a reference in terms of the efficiency levels. Operating expenses increased 14.1% year-on-year in the second quarter 2006. Despite an increase in commercial activity, the bank continues to improve productivity, which has helped to fund the increase in investments in the branch network. In the second quarter, the efficiency ratio reached a level of 35.9%. With this figure, the bank has the lowest efficiency ratio among the leading banks in Chile and Latin America.

Personnel expenses increased 14.3% year-on-year. This rise can be explained by the 5.4% increase in total headcount. In the quarter, 250 additional account executives were hired to further boost growth in retail banking and maintain client services standard in existing branches. The 15.1% year-on-year increasing in administrative expense was directly linked to higher commercial activities and the larger distribution network, as it can be observed in the following slide.

In the second quarter of 2006, the bank continued expanding its distribution network. Six branches were opened in this period, bringing the total to 367 branches representing a year-on-year increase of 12.2%. Santander Santiago has the largest branch and ATM network in Chile.

Next slide. As mentioned in the previous conference call, the bank's asset quality is expected to remain sound. But, as the retail banking portfolio continues to increase at a rapid pace, provision expense should rise in line with this performance. Such was the case in second Q '06. [Faulty] loans in second Q 2006 decreased 11.8%, Q-on-Q and 27.3% year-on-year. The ratio of faulty loans to total loans reached 0.79% in second quarter 2006, compared to 0.93% in the first quarter 2006 and 1.29 in the second quarter 2005.

Total provisions and charge-offs excluding recoveries increased 47% and to 41% in line with the growth of consumer lending and SMEs which was 30.3% and 31% respectively. As a result the ratio of net provision expense over total loans reached 0.78% in the second quarter 2006, compared 0.51% in the second quarter 2005.

Next slide. With this good results we show the strongest growth of both net income and profitability among the major players in the Chile finance system. ROE in the first half of 2006 reached 26.6% and increased 238 basis points compared to the first half of 2005.

Next slide. These solid operating trends, we think are a clear reflection of the thorough execution of our business strategy. This has driven a strong growth of retail lending and client generated revenues coupled with record efficiency levels, even though we continue to invest heavily in future growth. Asset quality remains sound and our profitability has not come at the expense of lower provisioning that could hurt future earning prospects.

Finally, our proactive management of balance sheet risks have shielded shareholder value from the volatility of international markets in the quarter.

In summary, with this positive results in the quarter, we reach various milestones in terms of growth and financial performance and we outperformed the highly competitive Chilean market.

Next slide. Going forward we have a positive outlook for the bank.

Next slide. We believe this growth momentum should continue in the second half of 2006 and GDP growth of greater than 5% in both 2006 and 2007 with a higher rate of expansion of internal demand This should lead to a 10 to 15% real increase in total loans for the whole financial system, led by stronger growth in the retail segment. This should boost our net interest income and fees. Margins should remain stable. We will continue to invest in our distribution capabilities throughout 2006, but cost should remain under control.

Finally, we expect asset quality to remain healthy, but as mentioned, risk premium and loan provision should increase in line with the rise of retail banking activity.

At this time we will gladly answer any questions you might have.

[OPERATOR INSTRUCTIONS]

And our first question will come from [Paolo Rovero] with Bernstein.

Good morning. I just would like to understand a little better the impact of the accounting changes, about 7 billion pesos and where booked in this quarter referring to the first half of the year. Was all that booked, it seems to be in gains and financial transactions? That's my first question.

And going forward, do you expect this to add more volatility to your trade gain or loss from trading mark-to-market and how do you expect to manage that? Would that change the way you manage your treasury going forward? Thank you.

Okay. The bottom result of what you mentioned, there was a net impact of 7 billion Chilean pesos approximately, maybe. That is basically because the derivatives were not mark-to-market, previously and from now on they should be. All the rest is basically changing the lines in which income was reported. So now, net interest income basically reflect the interest accrued in loans, deposit and financial investment, whereas mark-to-market reflects a number of things. Most of them client-driven activities. All the results of your hedges, all the results of the adjustment or exchange -- gains on exchange rate losses, et cetera. So we're basically moving and we think the superintendency is in the right trend to move our accounting more in line with U.S. GAAP and international standards.

From now on, the fact is that nothing has changed in terms of volatility and in terms of how we will be managing the bank. It simply that now our net interest margin is cleaned of non-interest or non -- some effects that were blurring. And that's why for a number of years we had been to some extent adjusting our net interest income to reflect which now will be done by the requirement of the new guidelines.

So, I would say that volatility will be proprietary activities will be as usual and in terms of client activity we shouldn't expect any further increase because we are basically hedging most of the time any uncertainties regarding risks and exchange rate volatility. So, this is simply a change in the way we are reporting our client activity, separating the results in one line and in the other. But nothing should be changing, because if you had open risk you will have them regardless of where you account that difference.

To make things clear, in that line that we call -- where we add both exchange rate results and mark-to-market, the majority of the activities is client driven. It's hedges that you take in order to close client gaps et cetera. So, that is not proprietary trading. So the most its client driven. We expect in the future to try to open more that line, but the fact is that nothing different from what has happened up to now has been changed. And given the proven stance of the bank in terms of risk and having relatively open positions in both exchange rate and interest rate, we should expect increasing volatility in the future.

The only thing that is completely new is the mark-to-market of derivatives, which up to now was not the case. But in general sense, we usually have a very small open position in derivatives. The most is for hedging purposes, so the amount that you report in the different lines is slightly changed, not the volatility of neither the net interest income nor that market. Those lines will be moving of course, when you have movement in both exchange rate or interest rate, but that happen also before.

Perfect. And it would be great if you can and if should disclose more information on hedge and everything so we can try to figure out. Thank you.

Our next question will come from Jason Mollin with Bear Stearns.

My question is a general question on the competitive environment particularly in the retail or individual segment. You showed nice market share gains in that segment and those you indicated are the higher yielding, hopefully greater profitability after considering risk. But can you tell us a little bit about the competitive environment there and particularly talking about, I don't know if you have a sense of the non-bank lenders in that segment are they as competitive as they have been? Are they gaining share of what we might call total retailer consumer lending if you tried to aggregate what you're -- what the banking sector is doing as well as non-bank lenders.

Okay, well as you know, especially in retail, the competitive forces are fairly strong. This is a country that still has a lot of scope to improve in terms of bank penetration. Just to give you an idea, there are about 10 million cell phones and only 1.5 million checking accounts. So, for a number of reasons the retail expansion has been very much subdued compared to other services that are available to the broader population.

In terms of competition, it has been quite intense in some cases, relying, we think, too much in terms of prices. Something up to now we have tried not to follow, because we think that prices have to be slashed only when you run out of ideas. But the point is what we talk last call, that when you go into retail there is kind of an inertia in order to start growing. The moment you decide to go fully into retail it will take a lot of time because you have to do investments in terms of technology, in terms of expertise, in terms of having the right people the right attention model., segmenting your -- the way you approach your clients.

So that takes time and that's why although we decided when the cycle start recovering to go into this segment, we have been to some extent increasing our momentum simply because we were learning about the market. And that's we are in this moment reaping the benefits of that investment. And that's why probably some other competitors should take some time to get the full benefit of investment that they are trying to do as well.

Regarding non-bank competition, that to some extent has been decelerating in the last six months or so. For example, we don't have -- we have figures up to March and the amount of lending for example of retails to some extent has slowed down. As you know, the central bank enacted some new regulations that will make kind of a more level playing field with retails. And that's why it seems like they have been moving their -- their credit card business more into the banks. Many of these retailers have bank and those banks are having very good growth, but if you add what they do through the stores or through their private label card class, the banking we are growing faster than them, on average.

So, I would think summarizing, it's a strong competitive environment, many traders are trying to do what we probably start a little before doing, we have developed a fairly strong expertise and that's why as long as the market outlooks is stable and strong as we foresee, at least for the next 18 months, we should be able to sustain our advantage. At some moment of time the rest will be catching up, but probably and hopefully we will have new ideas to keep leading the process.

Thank you very much, Raimundo.

Our next question will come from [Juan Gartia] with JP Morgan

Yes, my -- I have two questions. The first is regarding fee income growth on a quarter-on-quarter basis. You had good growth particularly in lines of credit, checking accounts, other products and services. But was a bit surprised to see that automatic teller card fees are down even when you're increasing the ATMs in operation and also the fees of administration and collection of insurance policies, if you could comment on that.

Okay, regarding ATMs you're right, we have been expanding our ATM network, but here we have seen quite intense price competition. What you do basically is order to grow your ATM is to go into alliances with drug store chains, et cetera to put your ATMs in their stores. Yes. And these are bidding processes, where you basically bid for the privilege to have your ATMs inside and we have lost some price, because the terms we thought were not profitable enough.

The other thing is that when you start installing new ATMs your breakeven point takes some time to fully reflect that. But more in the medium term stance we think that that should be a growth area, reflecting the changing pattern of the Chilean consumer clients, the number of debit cards and credit card have been increasing, the number of checks have been going down. So we think, it is true that it has been relatively flat because we have been losing some bidding process because of what we thought were too low profitability. We think that should be a growth area. The Chileans are starting to forget about checks, which is good for banks, because you win not only in terms of more fees, but also in terms of less processing cost which are very, very high. So, being true what you mentioned we think on a medium term perspective ATMs should be a growth area and that's why we installing ATMs for the last two or three years, very actively.

In terms of insurance, it's more or less the same. Here for example in life, life insurance business we are doing fine. In property and casualty, we have seen some price pressure because here we basically sell third party insurance and that's why Grupo Santander took the position to establish our own life ins -- I mean, property and casualty insurance company, which we think, although it can not be owned by the bank, we will be doing the distribution and getting all the fees associated. And having more flexibility in terms of product development and in terms of service, which is some moment can have an impact.

So, again, we are optimistic we think that insurance penetration especially fraud insurance, property and casualty car insurance is very low in Chile by any standard. And having a sister company that that we can just pass all the knowledge that we have developed in the insurance market. And that's why again; we think this is technically a growth area and we're very confident that we will be able to improve the dynamic increase in insurance associated to -- I mean fees associated to insurance relatively soon.

Thank you. I have also a follow-up question to the one that was asked before regarding the volatility under the new accounting rules. Because typically the experience in other countries when you start marking to market the derivatives is for more volatility, either because some of the hedges don't qualify as such under accounting rules or because the hedge inefficiency, even when it should be small could be significant compared to not [valuing] the positions at all

You're right, but just to give you a point. We have been doing this for a number of years, because as you know we have to report for the consolidation of the group of Santander in Spain by the standards that now are applicable to Chilean banks and that's why we have been running in parallel the 2 things and that's why, to be fair, we could even expect less volatility in the local books because we were doing the matching. Taking into consideration that aspect which was not fully reflecting the local books and that's why, although its true, the moment that you have volatility in the bulk exchange rate market or the interest rate market you will have volatility in this level.

Our volatility should be more linked to changes in rate and exchange rate than it is simply because the accounting rules have changed. This is like - we should expect the volatility of these links to changes in rates and exchange rates, not in terms of then we guidance and we have a lot of experience and that's why these micro hedges, or the hedges that you are doing with the derivative, we have a long track record and I think that in average we should have a much more stable situation, but of course if rates jumps as they have been jumping unfortunately, we will be impacted.

The true thing is that if you take the last say 4 quarters, despite the brisk movements in rate, we have been effected but by having less profit coming from mark-to-market. But in any case, big losses.

Thank you very much.

But is something that have to take care and is a different way to manage the bank, but we have had experience by doing that for a number of years, given that we have to do it for Spain before.

Our next question will come from Morgan Stanley's [Jorge Curry].

Hi, good morning Raimundo

Hola.

We've seen your BIA's ratio decline as growth has picked off over the last couple of years. I have 2 questions. First, what is the minimum BIS level that you're willing to operating with? And second, what combination of asset growth and dividend payout ration can you afford for the next 2 years and still operate with a BIS ratio within your comfort level?

Okay, very important point. As we mentioned in the report. We have been increasingly sophisticated in managing our capital, we have about a ratio for 12.2% nowadays.

Our minimum legal battle ratio is 11%. It was served by the superintendency of banks so we still have room. The other thing is that our growth - and we have talked this other times. When you have the proper scale, growth shouldn't be your obsession. Except for growth in the more profitable chunks of your loan portfolio. In our caseretail growth.

And that's why - if you see our figures on the last 2 years or more, we have been growing very rapidly in retail but almost flat in corporate lending or larger corporations, or larger enterprises, we have been a little flat. With that we have kept more or less stable our total market share but we have been increasing our retail market share. That is a way to allocate your scarce capital to the more profitable use. Yes?

Going forward, we would like to keep of course about a ratio about 11%, hopefully slightly higher than that in order not to be forced to put the brakes at the moment of time.

We think that the - going forward with a dividend policy similar as the one that we announced this year retailing 5% and given 35% and with the space that we have by means of using - issuing sub debt. We will be able to keep on growing, especially - I mean for retail activities we don't have any limit. The more you grow with controlled rev and controlled cost, the better you are. But in terms of corporate lending, for a number of years we have been switching the focus away from plain vanilla lending and more into value added type of services, fee based income, cash flow management and the like. And that's why we're very conscious about using our capital in the most productive way.

So answering directly your question. We think that with the current dividend policy, something around a payout of something around 35% we have the capital to sustain that growth and any supplement will be accomplished by means of issuing sub debt.

We did - we did, this was a sub debt?

No senior, but we have - sorry we have around $250 million room for subordinated debt. And as Raimundo said, the payout is around 60, 65%.

Sorry, the payout is 35? Or the other way around?

The other way around.

Okay. So would a 65, 65 projected dividend payout, you can continue to expand your earning assets at around 15%, which is kind of like the level you did over the last year.

That's right and you retain 35% more or less of your previous year profit to increase your capital pay.

And issuing new subordinated bond.

And issuing bond.

Okay. That's fantastic. Thanks a lot.

[OPERATOR INSTRUCTIONS] And from Santander Investments, we'll hear from Jose Marino. Mr. Marino, your line is open. Moving on we will -

I will call him back.

I will check that line for you Mr. Monge. Next we'll hear from [Kitty Wong] with [inaudible] Global Advisors.

Hi, could you talk about in the second half of the year how many more branches you expected to open and for the full year of 2006, what kind of expense increase we should be expecting. Thank you.

Okay. In terms of branch, we don't have a strong figure. As we have told before, what we have is a model for opening branches that implies that you sense a forces, you get businesses, you move that business to the closest branch and once you have around 40, 50% of the break even revenue for the branch, then you open a branch. And once you have like 80% of the revenue you - you open a new branch with half of the staff more or less. And then when you have around 80% of the breakeven revenue, you put the full amount of people or the branch. So it's kind of a gradual approach.

We think that we could be open around 35, 50 branches, 40 branches this year. But again we're not simply opening branches and praying that customers show up, but we open branches only when we have enough revenue to justify the investment. And that's why without having a firm number. Something similar to what we did last year. Last year we open 37 branches. More than half in Banefe and half in - for the rest of the bank. This year we should expect something, something similar.

Okay, thanks you. And on the expenses?

And the expenses, there are some seasonalities and that's why we have a relatively high growth on the first quarter, on the second quarter compared to the first quarter. But the expenses should be moving in line of what we have seen in the first half on a year and year basis with some flattening on the end of the year because we are changing a number of things in our back office, yes?

So we will have higher growth of expenses in the commercial area and some savings coming from back office integration where we're in the process of integrating the computer platform of Banefe with the bank. We're in the process of getting extra advantages of our new computer system and that's why we don't expect a big - but - a big increase in cost. But this is the time to spend as long as you have a well-known and well-tested procedure to invest in. yes? And we think we have.

Okay, great. Thank you.

[OPERATOR INSTRUCTIONS]. Up next we'll check Jose Marino's line again. Mr. Marino, your line is open.

He's definitely be hiding, yes?

[OPERATOR INSTRUCTIONS]. And at this time there appears to be no further questions in the queue.

Okay, well thank you all very much for taking the time to participate in today's call. We look forward to speaking to you again soon. Have a good day.

That does conclude our teleconference for today. We'd like to thank everyone for your participation and have a wonderful day.