Apr 28, 2017
Executives
Raimundo Monge - Director of Strategic Planning Emiliano Muratore - CFO Robert Moreno - Manager, IR
Analysts
Guilherme Costa - Itaú Sebastian Gallego - Credicorp Capital
Operator
Good day, ladies and gentlemen, and welcome to the Banco Santander-Chile First Quarter 2017 Earnings Conference Call. At this time, all phone participants are in a listen-only mode.
[Operator Instructions] Later, we'll conduct a question-and-answer session and instructions will follow at that time. I would now like to introduce your host for today's conference to Mr.
Raimundo Monge, Director of Strategic Planning. Please go ahead.
Raimundo Monge
Thank you, very much and good morning, everybody. Welcome to Banco Santander-Chile’s first quarter 2017 results, webcast and conference call.
My name is Raimundo Monge, Director of Strategic Planning, and I’m joined today by Emiliano Muratore, our CFO; and Robert Moreno, our Manager of Investor Relations. Thank you for attending today’s conference call in which we will discuss our performance in the first quarter, which is starting to reflect the thorough execution of our strategy as we see throughout the call.
First of all, let us start our call with a brief update of the outlook for Chilean economy. In the quarter, we had seen mix signals on the macro front.
The year started a little lower than expected even though towards the end of the quarter economic activity began to gain momentum especially driven by the external sector. For this reason we have not significantly modified our economic outlook for 2017.
We're expecting GDP growth of around 1.8% to 2% this year, a little bit head of 2016. We have also included our forecast for GDP growth in 2018 at 2.7% and 3% in 2019.
Unemployment continues to be resilient even though job creation has not been of the highest quality. After a slow start, inflation expectations rebounded and we are expecting a U.S.
inflation rate of 2.7% in 2017 similar to the level reached in 2016. Therefore inflation should not longer be a negative factor on the bank margins going forward.
The central bank has been easing its monetary policy, rates cut have been 50 basis point in the quarter and an additional 25 basis points in April, these also brightens the outlook for margins as liability repriced quicker than loans. Consumer expectations are improving which is also another positive sign to the economy - should that the economic should begin to perform slightly better going forward.
The strength of the external sector driven by solid economic growth in China and the U.S. is also bolstering export demand.
The recent strength in copper price may also recite in upside potential to our GDP growth and forecast. Loan growth in the banking system remained relatively stable.
As of February, loans were growing at 5% year-on-year quite in line with our expectations for the year. The growth rate of mortgage loans has been decelerating as anticipated but the positive growth of the export sectors and instability of employment figures forced the growth in the middle market and retail segment.
Now we will give further detail into the implementation for our strategy and how this is generating increasingly higher level of profitability and efficiency. Net income in the first quarter of 2017 totaled Ch$142.4 billion increasing 13.5% year-on-year and 31.1% Q-on-Q.
This result was driven by a strong growth of client revenues leverage on the lower cost of credit and improve efficiency. These sound operational trends are reflected in the 31.9% year-on-year rise in the net contribution from our business segments and metric that resumes all clients pretax revenues and costs including provisions.
This was led by a 54% increase in net contribution from our retail banking segment. With these results, the banks ROE reached 19.5% in the quarter, a 140 basis points higher than the ROE we seen in the first Q of 2016 and ahead of our previous guidance.
This was notable not only as it is starting to reflect the clean situation of our strategy but also because this performance was achieved despite a relatively low inflation environment and a high corporate tax rate. This was possible since the bank has been able to record double-digit revenue growth both on the lending and loan lending revenues.
On Slide 9 of the webcast we provide a breakdown of our client revenues. 61% of our client revenues come from non-lending sources mainly the spread earnings over deposits especially checking accounts plus fee income and client tertiary services.
These revenues are spending 10.1% year-on-year driven by increasing demand deposits, growth of fee income and solid client tertiary income. The remaining 39% of revenue comes directly from lending spreads net of deposit - net of provisions.
These revenues are growing 23% on a year-on-year basis during to the stable clients spreads and lower cost of credit. We believe this healthy revenue mix reflects a fundamental strength of our franchise and explain to a large extent, how we have been able to achieve an expansion in ROE in a relatively low growth environment -- in a relatively low growth, low inflation environment.
As we will see in the rest of this presentation, our strategy has been a key element behind this result. In terms of strategy, we have important advances this quarter in all of our four strategic objectives.
As seen in the slide, our strategic has circled around number one, focusing our growth on those segments with a higher risk adjusted return. Two, increasing client loyalty to improve client experience and quality of service.
Three, deepening our ongoing commercial transformation by expanding the bank's digital banking capabilities and number four, optimizing our profitability and capital use to increase shareholder value in time. Total loans increased 0.9% Q-on-Q and 6.7% year-on-year in the first quarter of ’17.
Economic growth remains subdued in this period but consumer confidence has been improving and employment figures have remained relatively stable. For this reason, lending could accelerate as the year progresses, especially in retail banking.
We will also be expanding our new distribution and client model for different retail segments, which should also lead to a more efficient growth model. During the first quarter of ’17, retail banking loans increased 1.3% Q-on-Q and 7.6% year-on-year.
Loans to individuals increased 1.3% Q-on-Q and 7.6% year-on-year. As the bank was given to prioritize growth along middle and high income individuals, loans in this segment rose 1.5% Q-on-Q and 8.8% year-on-year.
Loans towards the NIMs expands also at relatively high rate in the quarter growing 1.6% Q-on-Q and 7.8% year-on-year. Loans in the middle market and our corporate union GCB grew at a slower pace in the quarter.
As we have stated before, this segment contributed to the bank's profit and loss segment, mainly through non-lending activities as loans are generally low yielding. For this reason, the net contribution for the middle margins especially GCB were solid due to an increase loan lending revenues and greater customer loyalty.
In any case we expect our reactivation of loan demand in this segment for the rest of the year affect more oriented activities should be expanding well. Total customer funds which are deposits plus mutual funds managed by the bank decreased 0.5% Q-on-Q and increased 4.5% year-on-year.
In the quarter, the Chilean Central Bank cut interest rates 50 basis points. This lower client demand for time deposits and increased the flow of money to mutual funds, which is visible in the 9.2% Q-on-Q growth of funds, brokered by the bank.
This in turn had a positive impact on fee income in the quarter. Non-interest-bearing demand deposits were flat Q-on-Q and increased 4.7% year-on-year, outstripping time deposit growth which also has improved our funding mix.
In the first quarter of ‘17 net interest margin compared to 4.2% in the fourth quarter of ‘16 and 4.5% in the first quarter of ’16. On a year-on-year basis, net interest income growth was lower than loan growth, due to a low inflation rate in the first quarter of this year compared to the first quarter of last year.
The bank has more assets than liability linked to inflation and as a result, margins go down when inflation decelerates an vice versa. On the other hand, client NIMs which exclude the impact of inflation and the ALCO's liquidity position assets and liability committee's liquidity position remains stable at 4.8 compared to the last quarter of last year.
Given the evolution of high yielding retail loans and lower funding cost due to interest rate cut, we expect client needs to remain stable or rise slightly for the rest of the year. Going forward, quarterly NIMs should improve and the average net interest margin for 2017 should finish at a similar level to the one achieved in 2016.
This will be a combination of improve client means and more support coming from higher inflation and lower rates. Total U.S.
inflation in 2016 was 2.7 and we expect a similar level of U.S. inflation this year which compares to annualize rate of 2% in the first quarter.
At the same time the bank liabilities have a shorter duration and assets so our 100 basis points average yearly fall in the short-term interest rate should result in a 12 basis points rise in NIM. Therefore deposit cost should continue to fall at the lower rate environment as absorbed.
Asset quality remain relatively stable in the quarter on a year-over-year basis the nonperforming loans ratio decreased from 2.5% in the first quarter of 2016 to 2.2% in the first quarter of 2017 in line with the bank’s loan growth strategy of focusing on those segments with the highest return net of risk. These also has a similar effect on the cost of credit which is sense to 1.1% in the quarter compared to 1.2% in the 1Q of 2016 and 1.3% in the last quarter of last year.
Compared to the first quarter of 2016 the nonperforming loan ratio increased 10 basis points mainly due to seasonal factors and higher growth in retail banking segments compared to a reduction in wholesale lending. In addition as mentioned in previous earnings reports the banks has been enforcing a strategy of lowering the exposure to the low end of the consumer loan market.
These has entailed and active policy of charging of loans in the lower income segment and restricting loan restructuring. We expect lower provision for consumer lending for the rest of 2017 given the aforementioned rise in coverage plus the change in the consumer loan mix improving in admission policy a more efficient recovery efforts.
Let me be said that the coverage of nonperforming consumer loans was 280% in March 2017. For the rest of the year we expect nonperforming loans to rise moderately due to sluggish economies growth and a weakening job market but the loans entering nonperforming loan status already have a high coverage ratio.
Therefore the bank expected loss ratio measure and loss loan allowances over total loans will remain relatively stable and the cost of credit should not be deviate from our initial guidance of 1.1%, 1.2% for loans for the full year. Therefore with a stable or lower cost of credit on year-on-year basis and a stable or rising client mean, client contribution should continue to rise bolstering overall profitability.
Regarding our second strategic objective the bank continue to increase customer loyalty and improve customer satisfaction, which are key strategic goals as they create sustainable and long-term value to our shareholders. Loyalty these customers define as client with more than four product plus meaningful usage and profitability levels have been rising at a high pace especially in our target segments.
Santander-Chile also has been continuously innovating the market which is also generating greater customer awareness and loyalty fueling client and revenue growth. We continue to expand our Work/Café branch improvement which is attracting 50% more new clients than regular branches.
We also launched a new version of our Santander LatAm credit card which has the best benefit of any credit card in the market. Finally innovative digital products such as our 1-2-3 Click consumer loan is benefiting loan growth and fee income.
This product allows clients to obtain via our website or at our consumer loans in three clicks and the money directly deposited in an account. For the rest of the year, we anticipate further launches and innovations to continue generating positive goodwill with our clients.
As a result of this initiatives fee income increased 15.6% year-on-year in the first quarter ’17. Retail banking fees increased 14.2% mainly driven by rising client loyalty and cross selling as mentioned before.
Fees in GCB, our wholesale unit grew 50.2% year-on-year. The strength of the banking providing value added non-lending services such as cash management and financial advisory services continues to boost fees in this segment.
In the quarter, the bank also continued to transform the distribution network in line with our third strategic objective. As we have stated in previous calls, Santader-Chile has been in gross in an ambitious project of redesign and testing new distribution models and formats.
The bank is transforming its branch network by adapting a multi-segment approach with a smaller branch that are multi-segment with dedicated spaces for the different businesses segment. ECU branches are more productive and client friendly and therefore we do not expect this to impact our business volumes.
To date, we have remodeled more than 60 branches to our new multi-segment format. In 2017, we expect this trend to continue while closing on consolidating less efficient branches.
In addition, in the first quarter of ’17, we continue to open our most digital advanced branches called Work/Café. These branches are high-tech, high-touch branches with no human pillar or back offices.
These branches have three front office persons for every back office collaborator compared to one to one ratio in a standard branch. 17% of the spaces in these branches are dedicated to sales compared to just between 30% and 40% in a traditional branch.
The direct cost income level of the Work/Café is 14% compared to 24% cost-income ratio for a normal office. These branches also lead all client satisfaction indicators.
In 2017, we expect to open a total of 20 Work/Cafés. In internet banking, our market share excluding the state-owned bank surpassed 42%.
This implies that more and more customers are performing transactional operations through our web or mobile, and these reduces the need not only for branches but for ATMs as well. The strength of our payment service, via web or app, has allowed us to eliminate 36% of our ATMs in the last four years.
In 2017, our priority will be to further develop our mobile banking capabilities and usage by our clients. The bank did vigilant transformation in new branch formats allows it to accelerate its branch closure plan in the quarter.
In the last 12 months, we have closed 12% of our branches. This transformation is boosting productivity.
In the same period, total volumes per branch has grown 16.5% and volumes per employee has increased 7.2%. At our Central Bank operating expenses increased 1.7% year on year in the first Q of ‘17, and efficiency ratio reached 40% in the period below our initial guidance.
Going forward, we expect the growth rate of cost to remain at relatively low level as a result of this productivity and enhancement cost cutting measures. It is important to point out as we state in our financial report that in the second quarter of ‘17 another wave of management changes will be executed and as a result, the bank will recognize a one-time charge of up to Chilean Pesos 11 billion either in April or May in the line item other operating expenses.
With these and other measures, the bank expect to maintain a low single digit cost growth throughout this year and the next. Finally, our client-driven strategy is optimizing profitability and capital and increasing shareholder value.
The bank concluded the quarter with a strong capital ratios as we have been implemented a series of initiatives to control the growth of non-productive risk weighted assets. The growth of total risk weighted assets was 3.3% year-on-year in the first quarter compared to 6.5% growth for loans.
This has allowed the bank to continue paying out attractive dividends. Shareholder just approved the distribution of 70% of 2016 profit, which was at the high end of our estimates.
Even a good dealer in the bank has been paying plus the share price appreciation, since the end of 2014, the ADR price of Santander-Chile has outperformed several of our main and peers reflecting the positive result our strategies bring into shareholder especially in the long-term despite being operating in a relatively challenged in economic environment. In summary, rescues and team performance is reflecting that our strategy is delivering on the promises we have been hinting to the market.
In a relatively an exciting microenvironment with low inflation and rising taxes we have been able to reduce double-digit earnings growth and sustain ROEs that are close to double our cost of equity. The banks has been steady improving its competitive position in the market, increasing its loyal customer base and transforming its business model and distribution capabilities to face both a more demand in business environment and a digital challenge most companies are facing.
As recently reported by the banking regulator Santander-Chile was the most profit, bank in Chile this first quarter. For the rest of the year we should see similarly trends and we have slightly adjusted our works our ROE target to levels between 18 to 18.5% ROE.
At this time, we will gladly answer any questions you might have.
Operator
[Operator Instructions] Our first question comes from the line of Guilherme Costa with Itaú.
Guilherme Costa
Hi, good morning guys. This is Guilherme Costa from Itaú BBA.
First of all congratulations on the results and thank you for the opportunity. My first question is about your coverage ratio, I’d like to ask you how comfortable you are with your current coverage ratio, I remember from the last conference call you mentioned that we were probably going to see contractions in the coverage ratio throughout 2017 but given this contraction we have already seen in the first Q, due to expect to see further contractions on the coverage ratio going forward and then I have my second question?
Raimundo Monge
Okay. In terms of coverage ratio as we’ve been saying, the rise we saw in the last two years or so was a combination of more demanding a provision and guideline set by the superintendence of banks our regulator.
And secondly that we we're trying to get rid of our exposure to the very low end by provisioning and trying to get rid of that exposure from our profit and losses point of view where we have seen to some extent this quarter in part is because to seasonality given that the first quarter in the thousand hemisphere is holiday period, people tend to be a little bit less update in terms the pain. But also that according to our predictions, clients that were expected to have problems effectively have faced a problem and as a consequence the non-performing loans have risen but that was already taking care by the excess provision or the anticipated provisioning that we have done last year especially and the year before to some extent as well.
So we foresee that our coverage ratio should be moving between 130% and 140% basically because we already anticipate a part of that - the duration in the low end. But it shouldn't be coming much lower than that given that some of the provisions that we have, have nothing to do with the non-performing levels are more concerned about future provisioning or future regulations that is moving in line or bottle free which allows internal models to predict the falls and provisioning level.
So the level should be higher than historically but probably has already peaked.
Guilherme Costa
Okay, perfect. Thank you.
And regarding the cost of risk, I just remember do you said that you expect the cost of risk between 1.1 and 1.2 for 2017, I’m asking this because when we see your provisions we can say that provisions declined a lot quarter-over-quarter both the provisions for the consumer segment has increased somewhat. Do you expect that possible the duration in the consumer loans could lead to port revision in your cost of risk guidance or are you comfortable with the provisions you have right now?
Emiliano Muratore
When we talk about provisions, we are actually combining three lines. One is provisions, the other is charge off, and the other is recoveries.
So the favor is a net favor. That rise in provision is a combination of the three elements and each linked to elements such as the fact that this sale especially low end consumers will start facing difficulties, but you have already taken care of that.
So you finance to some extent the charge off release in provision previously said and then the other element is seasonality, which is the lower you go, the more the chances of not being paying on time. That usually happens in the first quarter, happens to the rest of the market as well.
So we foresee that in the second quarter, the situation should normalize. All in, as long as the job market, especially the people that work and their salary and their contract that a theory going further we don’t foresee a greater deterioration in asset quality conditions because remember that we have been moving to the upper third of the working population, which shouldn’t have big difficulties especially because the macro-conditions should be similar to 2016 or slightly better this year.
So of course, it’s a concern and we’ve been a retail bank. Of course, you have a more risk when the macro-conditions deteriorate, but to date the kind of the central scenario that most economies give us is that the macro conditions will be similar or a little bit better than what we saw last year.
Guilherme Costa
Okay, perfect. Thank you.
Operator
[Operator Instructions] Our next question comes from the line of Sebastian Gallego with Credicorp Capital.
Sebastian Gallego
Good morning everyone. Thanks for the opportunity.
I have two questions. Could you comment on the management changes that you’re expecting and as a result you’ll be recording some severance expenses?
And the second question is regarding fees. We’re seeing a very good performance on fees and I was just wondering if that is sustainable and is that kind of growth should be seen during the rest of 2017?
Thank you.
Emiliano Muratore
In terms of the management changes, they are very much in the line of what we did last year. There’ve been some very profound changes both in the regulation and in the consumer behavior and in just the way the bank are run and people expect the banks to be behaving.
That means that you have to do every once in a while, restructuration to take into account that situation. Last year we did it and very rapidly our year-on-year growth rate slowed down very quickly as you get rid of random positions etcetera.
This year we foresee something in the same line and that’s why as we claim in our report, the idea is to do it once and then sustain cost growth, that could be lower than our previous forecast that we were talking about cost growth within 4% to 5% could be lower than that. 3%, 4% or even lower.
So in line of inflation -- a little bit ahead of inflation. So it’s simply a way to reflect that the change in business conditions, we need to act and that’s it.
In terms of fees, this first quarterly probably overstayed our year-on-year growth rate in part because we had very good results in our wholesale unit, which not necessarily you can repeat it every single quarter. In retail, it’s more recurring because they’re ready to use.
Going forward, as we’ve stated in previous calls, the best kind of correlation is between loyal customers and fee growth, besides that we are growing between 8% and 9% more or less in the most relevant segment, make us believe that fees in a kind of moving average basis should be growing around deadline.
Sebastian Gallego
All right. And if you allow me just one additional question on branches and the Work/Cafés.
Could you provide us a guidance on what you expect to close the regular or standard branches? And how you expect to increase the Work/Café?
Raimundo Monge
The Work/Café are expected to close in around 20 by the end of this year. In terms of absolute number of branches to be closed, it’s a little bit tricky because what you try to do is on a case by case basis try to see whether you have enough surface to merge two branches that are close by under light.
So it’s a little bit more difficult. There’s no specific target to close.
But of course, the process of changing format and the process of kind of alienating of what our clients are expecting is what drives that. So the more transactions that are done outside the branches, the more clients prefer to do things, as to obligations in the website or mobile, there’s no room to close branches.
So it’s a little bit the other way around where the clients are requesting what we providing branches is what leads the process. So it’s difficult to give a hard favor.
But the thing that is easier to evaluate is the average surface. And therefore, the average cost of running the branch network definitely will come down given that more and more of a space in the branch is dedicated to commercial activities.
And as a consequence, where you're getting REIT is basically by coffees, tellers, and sales and all the supporting areas that operate in a branch. So the extreme case is the Work/Café branches where they simply have no bulk office, no physical human tellers.
And as a consequence, 70% of the surface is dedicated to sales and other sales activity. So we think that we will be streamlining our branch network especially in terms of cost going forward.
But I don’t feel that we have an accurate number of how many points we’ll be closing.
Sebastian Gallego
Thank you so much. Very strong result.
Operator
I’m not showing any further questions at this time.
Raimundo Monge
Okay. Thank you all very much for taking the time to participate in today's call.
We look forward to speaking with you again soon. Have a good day.
Operator
Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program and you may now disconnect.
Everyone have a great day.