Banco Santander Chile (BSAC) 2007 Q2 法說會逐字稿

Please stand by. Welcome to the Banco Santander second quarter 2007 earnings release conference call. As a reminder, this call is being recorded. If you have not received a copy of today's release, please call Robert Moreno at 011-562-320-8284. And now for opening remarks and introductions, I would 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 Chile's second quarter 2007 results conference call. I am Raimundo Monge, Director of Strategic Planning and I'm joined today by Robert Moreno, Investor Relations Manager. Thank you for joining us to discuss briefly the stronger macro outlook and the Bank's results and recent operating trends. Afterwards, we will be happy to answer your questions.

Please next two slides, you should be on page three of the webcast. Before we begin analyzing the second quarter results, a brief commentary on our vision of the Chilean economy. 2007 has been an increasing dynamic year of the Chilean economy after a slight slowdown in the second half of 2006. This strength of the economy is been driving mainly by the expansion of internal demand along with export sector.

In 2007, internal demand is expected to grow around 6.5% compared to 6.0% in 2006 with increased strength in the second half of the year. The main drivers of the internal demand have been private consumption and investment, both of which are growing at annualized rate close to 8%. These in turn have reduced significantly unemployment levels, which are currently at 6.4% of the workforce, the lowest for about 9 years at this time of the year. This growth in internal demand and employment also should have helped to sustain loan growth in the second half for the year, and in 2008.

Next slide, second quarter 2007 figures show Santander Chile's continuous focus on profitability and it's determination to have sustainable ROEs going forward. And we have -- as we have discussed in previous calls, our strategy is centered in four basic drivers. First, we're taking actions to grow at a solid rate in retail banking with a strong focus on profitability. As the largest bank in Chile with the largest distribution network and client base, we believe the bank has strong competitive advantages in the retail segment. In addition, given the good outlook of the Chilean economy and especially the high potential for bank penetration of its emerging segments, we are optimistic about the growth of the financial industry.

Secondly, we have been developing a number of actions to help more clients to increase cross-selling and increase product usage. With over 2.6 million clients, we envision strong cross-selling potential by improving client services and more segmented commercial approaches. We are also leading the process of increasing banking penetration in Chile so our client base should continue to grow at a rapid pace.

Simultaneously, we have continued to be focused on proactively managing asset quality in order to balance growth in Retail Banking with a normalization of provision levels. We believe that in order to maintain a successful long-term presence in retail banking, it is necessary to have solid asset quality, advanced model for correctly determining risk levels and an effective collection processes.

Finally, we maintain our leadership in cost control and efficiency. We expect to continue growing at a solid pace, investing and expanding our distribution capabilities. Part of this growth has been, and it's going to be financed with productivity gains, which should allow us to sustain our world-class efficiency levels. As we will see in the rest of the presentation, our results in this second quarter have been in line with this long-term strategic focus.

Next slide, in the second quarter 2007, net income totaled CLP80,487 million that is CLP0.43 per share and $0.84 per ADR, increasing 11.5% quarter-on-quarter and flat year-on-year. This growth was fueled by record high core revenue, that is net interest income and fees which increased 19.0% quarter-on-quarter and 12.3% year-on-year, as the bank continued to show solid results in its retail banking business.

Next slide, in to -- in the second quarter 2007, total loans increased 2.7% quarter-on-quarter and 12.4% year-on-year. In the quarter, the bank focused on increasing its margin and profitability by raising its profitability target taking into consideration additional risks levels of the segments attended.

As a consequence, net interest income increased 23.3% quarter-on-quarter and 10.9% year-on-year, driven mainly by solid margin expansion and higher retail lending activity. Consumer loans expanded 1.1% quarter-on-quarter and 18.8% year-on-year, market share in consumer loans reached 26.4% as of June 2007, and increased 8 basis points year-on-year.

Residential mortgage lending increased 4.5% quarter-on-quarter and 20.2% year-on-year. Market share in residential mortgage lending increased to 25.6% as of -- as of June 2007 rising 18 basis points year-on-year. Despite long-term interest rates demand -- despite rising long-term interest rates, demand for residential mortgage remains strong. In addition to providing good cross-selling opportunities, the risk index of residential mortgage loan was 0.25% as of June 30, 2007, down from 0.28% the year before. Next slide. You should be on page 7 of the webcast.

In the second Q2 '07, the net interest margin reached a record level of 5.5%, increasing a 110 basis points quarter-on-quarter and 50 basis points year-on-year. Client net interest margin referring to revenues derived from our Commercial Lending and deposit taking activities, divided by average loans, increased 10 basis points both Q-on-Q and year-on-year, also to a record high of 5.2%, reflecting the growth of Retail Lending activities, the positive evolution of non-interest bearing liabilities and the constant focus of adequately allocating capital to the most productive uses. Next slide.

As mentioned, our focus on profitability in the quarter is reflected in the evolution of our net interest margin compared to our main competitors. After declining markets in the second half of 2006, which was mainly due to low inflation, but also a consequence of an intense price competition in the market, we implemented a plan to increase the spreads. As a result of this action, we increased the margin gap vis-à-vis our main competitors from 101 basis points at year-end 2006, to 133 basis points during the first quarter, and to 169 basis point lead in this quarter. Next slide.

Net interest income increased 23.3% quarter-on-quarter and 10.9% year-on-year during the second quarter of this year. The main factors explained in this performance were the growth of retail lending activities, the positive evolution of non-interest bearing liabilities and the effort to increase the bank's margin, by raising its profitability targets taking into consideration the different risk levels of the segments attended.

Client net-interest income increased 4.5% quarter-on-quarter, and 14.2% year-on-year. This growth was led by this 3.1 Q-on-Q on 12.9 year-on-year increase in average loans and a 10 basis points increase in client net-interest margin. The ratio of average non-interest bearing liabilities to interest earning assets, which are refunds for the bank, reached 24.5% in the second quarter compared to 23.7% in the first quarter of this year and 20.5 in the second quarter of last year.

Non-client interest income, which is the net interest income generated by centralized activities, non-segmented portions of the balance sheet on financial management, was down 1.8% year-on-year, but showed a hefty 506% increase quarter-on-quarter due to higher inflation rate in the second quarter 2007. This had a positive effect over margins due to the positive gap between assets and liabilities denominated in Unidades de Fomento, US, and inflation rate in currency. Next slide.

The results of driver number two, client activity, were also encouraging. Total clients increased 14.5% year-on-year to 2.6 million. The amount of [retail] planning account increased 17.9% year-on-year. A greater amount of client with checking account, coupled with continuous improvement in client services, has led to better cross-selling ratios. The amount of middle-upper income individual clients that are cross-sold, increased 23.7% year-on-year during the second quarter, while in Santander Banefe, the amount of cross-sold clients rose 25.2% year-on-year. Next slide.

The larger and more profitable client base was an important driver for the income growth in the quarter. Net fee income increased 4.4% quarter-on-quarter, and 18.5% year-on-year in the second quarter of 2007. Next slide.

You should be on page 12 of the web cast. In summary, the solid growth in retail banking that focused on profitability and the rise in fee income has been a key factor in driving net income growth as reflected in the increase of 4.5% Q-on-Q and 15.2% year-on-year of client revenue and the 19.1 Q-on-Q and 12.3% year-on-year growth of core revenue. Next slide.

In the second quarter 2007, the Bank's net provision expense increased 24.5% Q-on-Q, and 108% year-on-year. The Q-on-Q rise in provision expense was mainly due to the one time net pre-tax gain of CLP7754 million recognized in the first quarter 2007. In an adjusted basis, provision basis increased 2.6% quarter-on-quarter, mainly due to higher provision in the middle market. This settlement after an extended period of very low provision levels due to a strong operational environment is returning to a more normalized provision schedule.

The 108% year-on-year increase in provision expense in the second quarter 2007 was mainly due to higher provisions in Retail Banking. As mentioned in the previous releases, provisions were expected to increase due to growth of lending to higher yielding and risky retail segments and the upgrading of provision models and credit scoring in order to maintain provisioning and coverage standards up to date with the expansion of this profitable business. However, net provisions in Retail Banking, on an adjusted basis, decreased 3.3% quarter-on-quarter.

As a consequence of the strengthening of the Bank's credit policies and processes, the Banks continue to display asset quality indicators. Coverage of past due loans reached 200% at June 2007. The past due loan ratio as of June 2007 reached 0.84% compared to 0.8% as of March 2007 and 0.79% in the second quarter 2007. The expected loan loss ratio reserved over loan losses over total loans remains steady at 1.68% compared to 1.64% in the first quarter 2007. The risk premium, defined as the quarterly provision expense over total loan, has been stable in the last four quarters in the range of 1.3% to 1.4%. Next slide.

As it can be observed in slide 14, the Bank's risk premium is close to historical levels, especially taking into consideration, the higher rate of consumer lending in our loan books, which although have more risks than other line of businesses, have been also pushing our core revenues and margins to new highs.

Going forward, the bank expects the asset quality indicators to remain sound but as the retail banking portfolio increases and provision levels in the middle market return to historical level, provisional expense and the risk index could continue to rise.

Next slide, costs remain under control in the second quarter 2007 and the banks continue to be a [reference] in terms of efficiency level. In the second quarter 2007, operating expenses increased 9.4% year-on-year, the efficiency ratio reached 36% in the second quarter and 36.9 in the first half of 2007.

Next slide, the expansion of our distribution network is the key part of our strategy to continue to increase declined base and cross-selling by having more points of sale. We have the largest distribution network in Chile, in the second quarter 2007, the bank opened 7 new branches totaling 407 in points.

The Bank continues to expand its ATM network in order to increase the bank penetration level and to ensure that greater product penetration is accompanied by with greater product usage, especially in emerging sectors of the population. As of June 2007, the bank has a network of 1700 ATMs and installed 109 in the second quarter alone.

Next slide, going forward we have a positive outlook for the bank. We believe this growth momentum should continue in 2007 and as well as into 2008. We are optimistic on the Chilean economy and expecting delivery growth of around 6% in 2007, with a higher rate of expansion of internal demand. And this should lead to our 13% to 15% real increase in total loans for the whole financial system, led by a slightly stronger growth in retail sector.

We are placing a stronger focus on profitability by maintaining a strict control over spreads. We also expect cross-selling to grow at current levels. This should boost our net interest increase and fees. We expect asset quality to remain sound, but, as mentioned, loan loss provisions could increase in line with a rise of retail banking activity.

Finally, we will continue to invest in our distribution capabilities throughout 2007, but costs should remain under control.

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

Thank you. The question and answer session will be conducted electronically. [OPERATOR INSTRUCTIONS] We will take our first question from Mario Pierry of Deutsche Bank.

Hi, good morning. Just a quick question on the loan growth, a lot of loans in the quarter came from these contingent loans and inter bank loans, so just wanted to get a sense of those, like are one-time things and what are your expectations for the total loan-growth for the year? Thank you.

Okay, well, inter bank lending is really a one day event, so it's usually we deduct it from the total growth. So, it is simply a kind of short-term financial transaction that moves a lot from -- on a day-to-day basis. A contingency, contrary to that, has been growing and are usually linked to real estate and infrastructure projects, because you use contingent loans as a guarantee for public contracts and the like. So, those are more permanent operations and are usually made on the corporate segment.

Regarding the total lending, we usually mention, we don't have a firm loan growth target because at the end of the day it's a matter of how we can achieve the target that we are -- the profitability target that we have set. But, we think that growth, especially retail growth, should resume with stronger speed in the 3Q and the 4Q. Now that we have already increased our spread to a level that we think is adequate so, what we saw in the second quarter and to a lesser extent in the 1Q, there was some proactive deceleration because we were increasing our profitability target, with things should start reversing in the second quarter -- sorry, in the third and in the first quarters. Now that we have record high net interest margin and record high client margin. So, we think that in retail lending we should outpace the market as that has been the case here for the last three or four years. And in terms of corporate lending at the end, this is difficult to know, exactly how the rest of the competitors will be pricing. We think that eventually they will follow our pricing guidelines and therefore we should increase the profitability both at retail and a corporate as well but it's difficult to predict at this time.

Okay thanks, and just as a follow up to that, what is your profitability target, you have quantified that?

Not really, the idea is to have a high ROE, which is a combination of a solid top line growth, a stable or slight increase in provision levels and then -- what we're trying to maximize is the gap between the net interest margin, the spreads that you are collecting from on a client by client, and the provision that you have to set aside. That is the target and it's different from segment to segment. If you combine that with higher fees, they've been increasing at around 18% per year, we think we have -- that should be fueling in the second half our bottom-line growth. In addition, we had a much weaker second half -- last year than the first half and that's why we think that we can have a relatively interesting bottom-line growth because the top-line growth and a more sluggish second half to compare with.

Thank you.

Thank you we'll take our next question from Juan Partida with J.P. Morgan.

Hi good morning; my question is regarding your branch infrastructure expansion, we saw that you opened 55 branches in the year to second quarter of '07. What is your expectation for December '07 and for 2008 and if you could give us an estimate of what that implies in terms of opening a branch how much it cost etcetera on average. Thank you.

Okay well, two things there, one is that we have been changing the way that we open branches, and it's a result of getting enough revenue to justify openings. It's a slightly different approach, but the one that we have been using previously, it will [reduce your] -- you send same force to some location where you think that you have enough a business volume to justify it. We [will say], yes, this is representing around 40% of the breakeven revenue that you need to open the branch, then just -- you open a branch with more or less half of the headcount, yes. Once don't you get around 75%, 80% of the breakeven revenue, then you fully stop that branch. Therefore we have been bringing down the breakeven point quite dramatically.

Today our branch breakeven is between 24, 25 months, which was much higher before this model was set. In terms of break costs, it actually depends. It can cost -- well, depending if you buy the property or lease it. It's different, because for example, they are in the large -- it's difficult to have a rough guide, because in the larger branches which are located in the top commercial states, it can cost around $1 million a piece. But at the smaller branches that you put in smaller towns can cost one-third of that. So the average headcount is around 10 people in the bank branch, and in Banefe, it's half of that. About 5-6 people at the most. So we have actually 12 different branch formats for different segments, and again the investment is very different in -- depending whether you are in the top positions within the city, or in more emerging areas, in the smaller town's etcetera. So all in, we think that we can expand in the second quarter by around to 20, 25 further branches. In the first quarter, we were opening, what we would call Supercaja; this is basically a service contact point for non-clients. So there were not full branches, but they were like a small servicing point that allow people to pay bills, etcetera. Which is basically done in order to give the non-clients our advantages. We're trying to leave our branches just for clients and these SuperCajas are used for non-clients and as a way to raise new clients mostly for Banefe, yeah. So the number of branches that is smaller than 65 is a -- smaller than that? And next year something around 35 to up to 40 branches again depending on the how much revenue we can get in the process.

Okay. Thank you. If I could -- that was very informative. If I could follow-up with another question, and this is regarding competition, particularly regarding two things. One was the -- the regulators recently announced that they would allow insurance companies to lend more, I think it was 5% of assets, and what that does, in your view, to competition and the other one is just a merger between Banco de Chile and Citi, particularly in the consumer finance area with -- at less than Credit Chile.

Okay. In terms of the insurance company being more active in the consumer lending market, we think it's good news in the sense that it will provide more opportunities for clients. Insurance has been allowed to lend the consumer lending and another kind of mortgage lending to some extent for a number of years and have not been really a very active player, because they lack -- they lack some of the competitive advantage that banks have. So they are increasing their activity, but still it represents a very small amount, less than 1% of the market at all. So it's good news that growth -- it brings more competition. But within the banks, they have a dominant position in the consumer lending markets because you need kind of long term relationships; you need distribution to get over those clients etcetera, etcetera.

Something similar regarding the eventual merger between Banco Chile and Citibank; they are two good banks that are joining forces. We already compete with them. Citibank being very good in some niches, especially in treasury and large corporations. Banco Chile being very quite a universal bank. So, we think again, it's good for the market and it's good for -- to have good competitors. We are the dominant player and we need the market to expand and we need to have a sound market, so having stronger players should be good news for the market and in our case as a lending entity within the market as well.

In terms of competition, we think that the competitive environment is already quite intense, as we were mentioning in the call, margins have been under pressure. And in other locations, we are trying to follow what we think is good for shareholders and that is basically profitability and shareholder value. And if that can be done by expanding loan activity and other businesses, it's fine, but we think that at the end, our duty is to create a profitable franchise, which we think we have been doing in recent years. So again, a good competitor is starting to have -- to show up. But remember that both are players that we were competing with. So, we kind of know what to expect about them.

And again, mergers usually provide opportunities in the short-term and therefore there can be growth in the short-term for some specific niches. Specifically, in terms of the lower end of the consumer market, as long as you have a good provision [inaudible], the one that we have been implementing, you can grow much faster than the rest. But it's a riskier business, so size is not the critical factor in that segment. So, we think that the end is the delivery of the products and the way to recover the money that you have lent, which is critical in the segment and that is something that Santander Banefe has for a number of years.

Thank you very much.

Thank you. [OPERATOR INSTRUCTIONS]. We will take our next question from Rusty Johnson of Harding Loevner Management.

Hi, good morning. I was wondering if you could expand a little bit more on your focus on the checking account size, and particularly how that strategy will relate to say float and low cost funds or and particularly also on the cost side in terms of actually moving more paper around, rather than electronic banking and how that might really fit towards your new target market segments that has to meet consumer?

Okay. Well, checking account is a very important product, because it's the one that produce most of the link with client. Whoever has checking account or the main checking account of our customers, because many of them have two or three accounts. They have kind of a leading position in the whole financial wallet of the client and that's why we have been for the last two or three years, increasing the number of checking accounts. Once you have the clients operating with the bank, you start moving or trying to move the transactions away from writing checks and into other, specifically internet banking, telephone banking and electronic payment against the account etcetera. So, for a company in our case, we are now reaching a point with more than 55% or even 60% of the total transactions are done not in -- not at the cashier and not in paper, but electronically, mostly ATM and Inter-bank -- Internet bank, yeah.

So it fits very well in our efficiency process to have a number of clients which are the more loyal and more profitable, because our client with checking account usually have two or three times the profitability of a normal client, the one that have one or two products. And secondly, it is a challenge to make that client not to use paper and to go through electronic means and that's why having the largest ATM network and the largest Internet banking activity in Chile, has been a plus for our company.

Okay. If I remember correctly, roughly, a quarter of your stated clients have checking accounts, does that mean there is a large opportunity out there or where do you think you could move with somewhere of this now like, 500,000.

Yes that has been a challenge for the banking industry. We think that the number of people actually having a checking account, which is less than one third of the workforce, is something that has to be -- move forward and is a growth opportunity that we have been trying to have. We have been outpacing the market for the last two or three years in terms of checking accounts, we used to be number two, now we are number one. But still, even that less than one third of the working population has a checking account, it is definitely a growth opportunity that we are trying to tap.

Great. Thanks very much.

Thank you. [OPERATOR INSTRUCTIONS]. At this time there are no further questions, I would like to turn the call back to Mr. Raimundo Monge, for any additional or closing remarks.

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

This concludes today's conference. We thank you for your participation and have a wonderful day.