Unifin Financiera SAB de CV
BMV:UNIFINA

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Unifin Financiera SAB de CV
BMV:UNIFINA
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Market Cap: 540.5m MXN
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Earnings Call Transcript

Earnings Call Transcript
2017-Q4

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Operator

Good morning, and welcome to UNIFIN's Fourth Quarter 2017 Conference Call. [Operator Instructions] It is now my pleasure to turn the call over to Rafael Borja of i-advize Corporate Communications. Please go ahead.

R
Rafael Borja
executive

Thank you, and good morning, everyone. I'm very pleased to welcome you to UNIFIN's financiera earnings call. This morning, UNIFIN's senior management team will discuss the company's fourth quarter 2017 consolidated results per the press release issued yesterday.

If you have not yet received a copy of the earnings release, please contact the Investor Relations team of UNIFIN or i-advize, New York at (212) 406-3691 to obtain a copy immediately.

Prior to introducing our management, I would like to remind you that forward-looking statements may be made during this conference call. These will not account for economic circumstances, industrial conditions, the company's performance or financial results. As such, the forward-looking statements are based on internal assumptions and factors that could change causing actual results to materially differ from the current expectations. Thus, we ask that you refer to disclaimer located in the earnings release prior to making any investment decisions.

We are very pleased to have with us today from UNIFIN, Mr. Sergio Camacho, Chief Financial Officer and Mr. David Pernas, Investor Relations Officer. Thank you for your attention.

At this time, I would like to turn the call over to Mr. Sergio Camacho for his presentation. Sir, please go ahead.

S
Sergio Camacho Carmona
executive

Thank you, Rafael. Good morning, everyone, and thank you all for joining us today. Let me start by highlighting that 2017 was once again a great year for UNIFIN, in spite of having macroeconomic uncertainty in the Mexican and international market as a consequence. Change in that in part by the ongoing NAFTA negotiation and the threat from the U.S. government to opt out.

Notwithstanding with this volatile environment, UNIFIN once again posted record results. We are certain that the Mexican market is strong and the SME sector will remain resilient in such macroeconomic environment. However, UNIFIN will continue to be prudent, as we said, on being reliable and successful company in the long term.

Before we proceed to discuss the fourth quarter 2017 annual results, I would like to comment on the recent relevant transactions in international market that took place in the past few weeks. On January 25, the company issued $250 million dollars in subordinated perpetual notes. These notes were oversubscribed more than 7x. These type of bonds have significantly enhanced the capital structure of the company as accounting treatment is 100% equity. This results in a pro forma capitalization of around 20%.

Following the -- and in line with our very prudent risk management approach, on February 9, the company carried out its fourth offering of senior notes in an amount of $300 million. Particularly with this later transaction, UNIFIN managed to fulfill in advance its funding requirements for 2018, considering the volatility in the market will be a concern throughout the year. Thus allowing the company to continue its growth plan. We would like to highlight that both divisions are hedged.

Furthermore, as of December 31, 2017, we improved the maturity of our funding mix to 53 months compared to a weighted average maturity of approximately 38 months in our total portfolio. To summarize, the company continues to be extremely focused on protecting its balance sheet and results from any market volatility and international instability. It has also focused on increasing its debt maturity profile to avoid any financing risk, always taking into consideration our pillars of prudent and sound financial health.

Now let's proceed to the discussion of our 4Q 2017 financial results.

Total revenue increased 57.8% in the fourth quarter to MXN 4.2 billion compared to MXN 2.7 billion in the fourth quarter of 2016. These were comprised of operating lease income growth of 41.5% and 76.4% higher interest income compared to the fourth quarter of 2016. Other lease benefits have significant year-over-year increases. In 2017, total revenues reached MXN 14.3 billion, increasing 50.9% when compared to those obtained in 2016.

Interest expense rose 76.7% during the fourth quarter to MXN 1.2 billion. And for 2017, interest expense grew 93.3% to MXN 3.8 billion. This growth is explained by higher financial liabilities that support our growth in addition to the increase in reference rate of 150 bps throughout the year. At the end of December 31, we managed to have close to 90% of our outstanding debt remained denominated in fixed rates. While 10% was floating, this is another very good example of the company's prudent risk management.

UNIFIN's nominal financial margin rose 37.8% in the quarter and 33.9% for 2017, a healthy 22% margin is what negatively impacted by the increase in the reference rates.

The company's expectation is to continue its strength of our pricing asset yields to increase profitability in the upcoming quarters.

Administrative and promotional expenses increased to 54.2% to MXN 323 million in the fourth quarter, representing 7.7% of total revenue. For 2017, administrative and promotional expenses reached MXN 892 million, an 11.7% increase compared to 2016. This represents a 6.2% of total revenue a significant improvement when compared to 8.4% in 2016. So [indiscernible] an operating income of MXN 710 million, which represents an 88.9% increase compared to the fourth quarter of 2016.

Operating income for 2017 increased 57.3%. UNIFIN reached a consolidated net income of MXN 491 million during the quarter, which represented a 66.5% increase year-over-year. For 2017, UNIFIN net income reached a record of MXN 1.8 billion. This was achieved with increased operations and higher operating efficiency, which resulted in improved profitability.

Now let's move on to our operations. Leasing origination rose 20.1% during 2017, while the operating lease portfolio balance grew 51.6% reaching MXN 33.4 billion in 2017. Factoring operating volume grew 21.3% at the end of 2017, the factoring portfolio stood at MXN 2.5 billion.

Lastly, auto loans experienced a 40.7% rise in operating volume year-over-year. As of December 31, 2017, auto loan and other loan portfolio balance increased by 10.4%, reaching MXN 5.8 billion.

In terms of the balance sheet, the total loan portfolio experienced a 38.3% year-over-year increase. Total loan portfolio consists of: the current net loan portfolio of MXN 5.5 billion, plus; leasing accounts receivable recorded in other account receivable of MXN 4.4 billion. In addition, off balance sheet account for MXN 31.8 billion, which are comprised of future rentals of the company's operating lease portfolio. As a result, total loan portfolio was MXN 41.6 billion in 2017.

The company's past due loan portfolio was MXN 308 million, which considered MXN 39 million from factoring and auto loans, plus MXN 269 million from leasing accounts receivables, which are registered in the other account receivable line. At the end of 2017, our NPL ratio was 0.7%. And the allowance for loan losses coverage was 100%.

Total assets for the company increased 31.3%, mainly as a result of the growth in the net portfolio, net fixed assets and cash and cash equivalents. On the other hand, financial liabilities rose 44.3% due to the growth of year-over-year operations. As aforementioned, UNIFIN greatly enhanced its debt profile by extending the maturity of the debt to 53 months but also by fixing the rates of a large part of the debt.

Proceeding onwards to financial ratios. Return on average assets at the close of the fourth quarter was 3.7%, while return on average equity improved to 29.7%. Our record net income figure and the operating asset growth resulted in a solid capitalization ratio of 13.9% at the end of the period. As commented before, the pro forma capitalization after the inclusion of the hybrid bond is close to 20%.

UNIFIN's financial leverage ratio was 3.3x at the close of the fourth quarter. Whereas the company's total leverage ratio at the end of the fourth quarter increased to 3.8% (sic) [ 3.8x ] compared to 4.4% (sic) [ 4.4x ] of the fourth quarter of 2016. This improved leverage of the company is explained by higher profitability as well as the variation in the equity tranche of the hedging derivatives registered in the shareholders' equity.

This quarter, UNIFIN's [indiscernible] results were driven by our strategies implemented at the beginning of the year. As mentioned in previous conference calls, we continue the process of catching up on our higher origination rate vis-Ă -vis increased rates in our funding costs. We remain confident in our strategy. It is important to highlight that UNIFIN approves on average 40% of its client obligations. As expected, our portfolio grew as a result of our excellent track record in delivering high-quality service for our clients, our strong backlog, the opportunities identified by our business intelligence teams and the networking abilities of our more than 200 sales office representatives.

We expect these trends to continue in the future, particularly given the SME sector continues to be greatly on the research. By the end of the fourth quarter, UNIFIN continued to have a healthy and diversified portfolio. The company has more than 7,000 clients, none of which represents over 1.6% of the total portfolio. And around 80% of our clients have approved credit lines for up to MXN 7.5 million.

The client breakdown is spread across various economic zones and geographic sectors. And it is vital for UNIFIN to continue having an ample diversification in terms of clients, economic sectors and geographic zones.

As a wrap-up, this quarter was successful despite a volatile domestic and global environment caused by political troubles and turmoil in the market. UNIFIN managed to have a great accomplishment during 2017 and grew across all of its business lines. Our aim is to take advantage of the opportunities in the financial market to ensure that we make the standard of strategic decisions possible for the long-term sales and benefits of our company and its shareholders. Notwithstanding the trials, 2018 [ will bring the ] ongoing NAFTA negotiations, domestic political agenda and international volatility, at UNIFIN, we remain optimistic about the company's future. We will keep working towards greater results supported by the knowledge in our markets and our desire and strategy to maximize our platforms through constant evolution. Thank you, again, for your attention.

And at this point, we are ready for your questions. Operator, please proceed with the Q&A session.

Operator

[Operator Instructions] We will take our first question from Jason Mollin with Scotiabank.

J
Jason Mollin
analyst

My first question is on the perpetual bonds issuance. If you can talk about how this will be accounted for in your financial statements. We know that this will count as equity. If you can talk about if this will be accounted for in the equity line, and how the interest costs will be booked? It's my understanding they'll be booked against equity kind of treated like a dividend payment. And if it will be the interest cost or the full hedging cost booked against book value. And my understanding is only the coupons were hedged from dollar to pesos. So if you can talk about the risk of the principal would represent depending if you want to include the perpetual and equity, about 40% of equity. And if you don't, it would be about 60% of equity would be exposed to U.S. dollar movements. So if you can talk about how UNIFIN views that risk. That's my first question.

S
Sergio Camacho Carmona
executive

Sure. Given the accounting criteria, the proceeds of these hybrid bonds are treated 100% of equity, and that's the accounting rule. The payments of the coupons is accounted as a dividend payment for equity purposes. Therefore, it does not go in the line with the P&L. The hedge that we did was only for the coupon since we do not have a liability within the balance sheet to hedge. And if we decide to do that, I mean, first of all, we will be having hedge, let's say, our derivatives for trading purposes, and we will have all the impact within the P&L and that's something that we do not want to have. So we decided to hedge the coupons up to the first noncall date, it will be for 7 years and that's what we consider to be a very prudent risk management approach.

J
Jason Mollin
analyst

But then -- and what about the hedging cost for the coupons? Will that be booked similarly in dividends? Or will that go through the interest expense line in the P&L?

S
Sergio Camacho Carmona
executive

It's similar to dividends. At the end, all of the accounting effects that the coupon [indiscernible] are recorded within the shareholders' equity.

J
Jason Mollin
analyst

So this is going to have -- This bond -- I mean, this means that you're going to be running down rather than have the volatility in your P&L. This cost is going to go through equity. So it's a large portion. Just the interest expense is something like 4% of equity. So you're going to be growing, obviously, with earnings and then you're going to have the negative impact run through book value. Okay, that makes sense. And my second question would be on the latest bonds, $300 million. That -- what -- so what is the all-in costs. For that, you're still -- you're hedging the principal, correct? What is the total cost?

S
Sergio Camacho Carmona
executive

Yes. That's the USD 100 million bond we are fully hedged, in this case, principal and interest. And it has a peso-denominated cost of 11.7% fixed.

J
Jason Mollin
analyst

11 -- and wow -- so -- my understanding is that the cost to hedge are very high today, just because of the high differential in interest rates. But that -- so the 11.7% is the full all-in cost. It goes from 7.73% -- 7.375% to 11.7% with the hedging costs. Okay. And so therefore, I mean, what will -- post these offerings, what will your U.S. dollar gap is going to be over 50% approximately. I'm guessing of your debt profile of your finding?

S
Sergio Camacho Carmona
executive

Yes. I mean, what is going to happen, I mean, as we speak, of course, the dollar-denominated debt, it's higher, it will be in the liability portfolio. However, as long as we go through the year, that is going to be getting back to the normal levels of $0.42 since we are going to be in the market for market securitization. The rationale for accessing and approaching the market would be from -- plus, the increased perception that had on volatility in the market. And actually, I would like to highlight that [indiscernible] respond that the company had and the capabilities that UNIFIN has developed for accessing the market in such a record way. We believe that this is the best way to fulfill our funding requirements for the year and be very prudent in risk management. As you know, there's going to be elections in Mexico in July, in addition to NAFTA negotiations. So once if you take that volatility in the best interest of our shareholders and our bondholders actually.

J
Jason Mollin
analyst

I Understand that. I mean, what I'm just trying to understand better is. I guess, that as a manager you might not want to have the volatility in the P&L marking to market some kind of hedging instruments. And that you wouldn't want to -- I guess, you want it to count as equity, so you're not going to able to put that through -- you're not going to able to put it through the equity account. But the risk is still there, I mean, even though you're not recognizing it in the P&L, I mean, you have $250 million in exposure, very large portion of UNIFIN's equity now open to dollar exposure. We may not be seeing it mark-to-market in the P&L, but that risk exists. So I mean, wouldn't it be more prudent -- I mean, to me that seems risky that you're taking on risk by not -- I get it if you had to go through a trade -- through a trading account kind of hedge that. But that would -- at least we know that you're hedged, and if the currency does get very weak in the current context that you have limited losses.

S
Sergio Camacho Carmona
executive

Yes. But also we are going to be going through high volatility levels. We consider that not hedging the perpetual bond it's likely reducing -- we do not have the liability. In the hybrid bond we have the option to pay it from whatever we want. Therefore, we may -- once that we start approaching to the noncall date, if we decide that we are going to pay that bond, we may go and start looking for whatever hedging alternatives we may find. We'll say that if we see from now to 7 years the proportion of the hybrid bond within the portfolio of UNIFIN is going to be minimal.

J
Jason Mollin
analyst

And maybe just -- what about the outlook for 2018 in terms of the pipeline? And any other indications of expectations or guidance you can share would be helpful.

S
Sergio Camacho Carmona
executive

I mean, we are confident on the perspective for 2018. Our backlog continues to be very robust and on a very healthy number. And we expect that to deliver. Of course, we need to take into consideration, whatever, in a volatility or what -- may cause the relation in NAFTA that I have already explained, but [indiscernible] this will continue to grow. I'm very confident on the economic sector. That's why actually we represent all of our needs for the year because we want to be prepared and to have a -- whatever, we need to have ready to fulfill the demand that we may have.

Operator

We'll take our next question from Carlos Rivera with Citigroup.

C
Carlos Rivera Zermeno
analyst

My first question is related to the other income line. We saw a pretty large number this quarter MXN 159 million. So just if you could give us a little more color there. What is driving this? Is there any element that could be considered nonoccurring? Or just more color on what could we expect going forward for this line? And my second question is related to the change in book value is pretty significant. We saw this quarter almost MXN 1.4 billion positive mark-to-market valuation. I understand it's coming from the hedges for the FX exposure and also a portion from interest rates. So if you could just give us a little bit more color and a little bit of sense of the sensitivity of this portion to, let's say, 5%, 1%, whatever. How you can calculate it in terms of the variations either on the FX and rates because it's going to be a pretty significant change for us to predicting book value and following up on the prior question also now that the $250 million perpetual sales exposed. So that also has a little bit of variation to your equity there. So any color on how to project that or think about the equity would help us a lot?

S
Sergio Camacho Carmona
executive

Yes. Let me start with the second question. The hybrid bonds, despite whatever the exchange rate is, is not going to represent any variation within the stockholders’ equity. The only variation that we're going to have here is all the mark-to-market that we have developed our hedging related to the 144A bond. A very good question is, what can be the sensitivity for whatever $0.10 or so on the depreciation of the currency. So it is very, very, very difficult. We have been working very closely with our financials advisers. First of all, we're trying an alternative to reduce volatility within the mark-to-market. But more importantly, we try to understand how to model the mark-to-market variations. But believe me, it is very, very difficult since you have the variable of the exchange rate, you have the variable on the rate. And also on the corresponding rate and on the corresponding exchange rate, not despite of the [ both ]. So for us also -- has been also very, very difficult to model the mark-to-market behavior going forward. Of course, once -- as long as we go through the year, that value is going to be 0 as long as we work with a maturity. So going forward, if we do not issue any further, let's say, no Mexico debt, that number is going to be reduced for our quarter.

D
David Sánchez
executive

Carlos, just one additional [ configuration ] regarding the mark-to-market. For rating agency purposes, they [indiscernible] to the mark-to-market dimension of the derivates for the capitalization. Event that -- so what happens is that, if the mark-to-market [indiscernible], but also as the mark-to-market is negative they also will be still [indiscernible] meaning that this will not affect the outlook on the company or rating of the company. Yes, there is volatility across the equity portion, no?

C
Carlos Rivera Zermeno
analyst

Okay. So it's just couple of questions before we move to the other question. Can you share with us the book value then as of December that the rating agencies will consider? And on the perpetual, what would be the effect? I mean, it was $250 million, to which I would say, currency rate is going to be translated into pesos using that as a service. What happens if in 3 months from now, the peso appreciates or depreciates. Just trying to understand the equity part a little bit better?

S
Sergio Camacho Carmona
executive

Yes. The equity -- the thing on that, for example, [indiscernible] we'll consider 50% -- talking about the hybrid bond. We'll consider 50% of the total issuance of [indiscernible] equity and [indiscernible] we'll consider [ 73% ] of the adjusted common equity of the company, which is basically 50% of the issuance. And actually, the rationale for only issuing $250 million, despite the tremendous amount that we have on the hybrid bond was that we carried out analysis and found out that $250 million the loan efficient number on these instruments for equity criteria.

Operator

We will go next to Diego Ciconi with Scotia Bank.

D
Diego Ciconi
analyst

I want to understand a little bit, what's going on with the accounting of leases in the balance sheet. I remember that we used to have leases in the performing loans. And now for some reason it's being moved to other accounts receivable. It's my understanding that you usually book only the accrual for the next 12 months, if I'm not mistaken. Has it changed anyhow? And how can we see exactly what is the lease portion in the balance sheet?

S
Sergio Camacho Carmona
executive

Yes. I mean, this is only a presentation issue within our balance sheet. We had -- we received a recommendation from those -- well, first of all, we think despite [ WC ], which is our audit firm, there was a change within the partners. The matters are being audited by a different partner. And [ this girl ], and along with the Mexican Banking Commission, suggested us that we need to classify different -- the portfolios to be even more close to the norms of accounting issued by the Mexican Banking Commission for the nonregulated operating leasing [indiscernible] mortgage reseller in our case. So once again, it's only a presentation issue and does not affect any of the results of the company at all.

D
Diego Ciconi
analyst

Okay. So in terms of the NPLs. If I look at the balance sheet right now, I only see the portion of NPLs of the factoring and -- in auto loans. You mentioned that you have 100% coverage of NPLs. Where can I see this extra reserve?

S
Sergio Camacho Carmona
executive

I mean, you are going to see that, I mean, because everything it's included within the other accounts receivables. You have to [ mention ] in that. But that value remains at the disclosure within our press release. And actually, I already did it in the call on how much loss of the NPL or the dimension for NPL under the leasing business. And once again, we have a full progress with 100% on that number.

D
Diego Ciconi
analyst

Okay. And if I could just follow-up on the hedging question quickly. I don't know if I understood. What would you say a 5% changing FX would do to the mark-to-market of your current debt?

S
Sergio Camacho Carmona
executive

What we said is that, that we -- there is no a direct -- there is no a full, let's say, a perfect correlation on the depreciation of the currency since we've seen the mark-to-market valuation, you have the sourcing on the FX, the [ source ] on the reference rate, but also records up to 7 years or over 8 years depending on the tenure of the hedge and depending on how those -- these curves move, you have the impact on the mark-to-market. In addition, that number is so affected depending on the quarter that we're talking about, [indiscernible] already paid coupon or not. Now every time that we pay a coupon the mark-to-market suffers significantly because of the net present value of the close on the mark-to-market.

D
Diego Ciconi
analyst

Yes. Understood. [indiscernible]. Sorry, go ahead.

S
Sergio Camacho Carmona
executive

Can you repeat the question?

D
Diego Ciconi
analyst

Sure. I'm just trying to isolate the actual impact of the FX only. Let's say, that we consider everything else equal, if FX goes up or down 5%, what would be the impact on your equity?

S
Sergio Camacho Carmona
executive

Yes, I mean, we want to get you back to you, when you have that analysis. We [ informed ] our financial advisers, and they are the experts on this matter, and they will return to you.

Operator

And our next question comes from Alonso Garcia with Crédit Suisse.

A
Alonso Garcia
analyst

My first question is regarding OpEx. We observed a very significant spike from the third quarter level. So if you could give some color and the reason for that. And my second question is actually a follow-up on the previous question regarding the MXN 176 million gain in the other income line. What was the nature of that gain? And if you consider that as something that will be recurring going forward or was it more of an extraordinary item?

S
Sergio Camacho Carmona
executive

The increase is due to -- if you see the OpEx third quarter versus fourth quarter, you need to remember that in the third quarter we had an extraordinary positive effect on that line. If we compare the fourth quarter vis-Ă -vis the third quarter, the growth is pretty much in line with the growth of the business. And as a matter of fact, if we see the full year, we improved the OpEx as a percentage of the revenue. So we believe that we're on the right track to make the company more efficient. Regarding the operating income, what is in there? We will see that -- we had an income on our -- previously for our low income rates on our insured assets. If you do remember, we have an insured facility. And depending -- at the end of the year, we have low incident rates, we'll receive like a dividend or a fee for having that. And that's basically, the most important part of that operating income in addition to some claims related to property loans from previous year.

A
Alonso Garcia
analyst

Okay. I mean, I guess, the main driver was the issuance part of this line, correct?

S
Sergio Camacho Carmona
executive

Yes.

A
Alonso Garcia
analyst

Do you think that that's something that could be -- I mean, of course, will depend on the [indiscernible] every year, but do you think it's something that you can count on every fourth quarter or...

S
Sergio Camacho Carmona
executive

I think, I mean yes -- I mean, no. If you speak about some of [indiscernible] that we're having in our portfolio and as long as we are continuing the trend of increasing our insurance facility and allocating more issuance there, I will say that you will -- that you can consider that to be a current number going forward.

Operator

And our next question is from Claudia Benavente with Santander.

C
Claudia Benavente
analyst

I have 2 questions. First one would be regarding your liability position. I understand there is a portion that has been hedged with derivatives. Or in other words, how much that it can be changed to variable should rates start decreasing at faster-than-expected pace. And my second question is, does it sound a reasonable capital ratio of 15% using Standard and Poor's criteria? And how long do you feel with current growth you can sustain this level of capital?

S
Sergio Camacho Carmona
executive

Yes. I mean, on the liabilities side, we consider -- so we have very prudent rate of managing risk. We have currently close to 90% on fixed rates. We will not anticipate in the short term any reduction on that rate. Therefore, we feel very comfortable with that level. And also, we carried out this, the latest transaction, also to continue improving the maturity on our liability. And getting to the capitalization, there is the mid-teens that we are forecasting. We believe that as long as we continue with our strategy on catching up the higher recognition rate within our revenue line, our profitability is going to be improved, Therefore, the growth on the portfolio vis-Ă -vis a growth on the profitability. It's going to be somehow matched, and we're going to be able to maintain the same levels of capitalization for at least 2 to 3 years from now.

C
Claudia Benavente
analyst

Okay. But following up on the first question regarding the funding. I was asking how much can be changed to a variable portion because of benefit with hedge with derivatives. Therefore, you can change a portion to variable liability and that would benefit in the case interest rates start decreasing, right?

S
Sergio Camacho Carmona
executive

With financial instruments, everything can be swapped to variable rate.

Operator

Our next question will come from Chelsea ColĂłn with TIAA Investments.

C
Chelsea ColĂłn
analyst

I just wanted to get a little better understanding of how you're thinking about the capital structure because when you issued these 2 bonds recently, including the hybrid, that obviously reduces the securitizations as a percentage of your total funding. But then you mentioned earlier in the call that you plan to issue more securitizations later. So the question for you is, do you look at a ratio such as unencumbered assets to unsecured debt coverage. I know that S&P is very conscious of that. So I just wanted to kind of understand how you think about the mix of unsecured versus secured debt? And what we should see going forward?

S
Sergio Camacho Carmona
executive

Yes. I mean, what we believe is that, for example, with the proceed fund and the hybrid bond, we basically clean a lot our banking facility line. And the reason for the latest bond was to extend the maturity but continue without accessing the banking line. We are planning to issue another market securitization because it does not account for a lot of exposed assets. But with having the option to access the banking line if the market funds are not there. So going forward, you can expect to see very similar levels of leverage within our numbers. And of course, we are very close to the criteria that the rating agencies have.

C
Chelsea ColĂłn
analyst

So on a pro forma basis for the recent issuances, where does that ratio stand, the unencumbered assets to unsecured debt coverage?

S
Sergio Camacho Carmona
executive

Give me one second. We will follow up with that. The pro forma, we don't have it right now. I'll make sure to send it by -- right after the call, but it should [indiscernible]. We did use the proceeds from the issuances to prepay some debts that have encumbered assets.

C
Chelsea ColĂłn
analyst

Okay. And then just one more question. What was the reason for the jump in foreclosed assets in the quarter? What is that related to?

S
Sergio Camacho Carmona
executive

So I mean, as a natural course of business, we did manage to repossess [indiscernible] some additional assets that we have from past due accounts receivable from certain clients. I do have to be very specific that considering both assets, these assets do not represent UNIFIN's leased assets or assets under lease. Okay. Then the foreclosed assets need additional guarantees that we secured from clients that were nonperforming. But I mean, it is popular. It's a one-off effect. It is not recurring, but it's an additional part of the -- I mean, it's a natural part, but it's very small.

Operator

Our next question is from Javier Cervantes with BCP Securities.

J
Javier Cervantes
analyst

I'm just wondering, I've seen that your NPLs have stayed basically flat at 0.7% during the last, at least, 2 years. How have you managed to grow the portfolio in such a way without taking any hits on the credit quality of your -- of the loans?

S
Sergio Camacho Carmona
executive

Sure, Javier. I mean, it's basically the essence of UNIFIN. There is -- to have a very healthy levels of NPL, has to do with what originated on a very healthy rate. We continue to work very, very hard in our credit standards with our credit scorecard only originating operating leases or assets that have their own cash flow by self, assets that are part of -- a significant part of the SME that we're dealing with. Of course, having in all of our leases, the legal depository figure that we have explained in the past one -- and needs a very, very solid legal figure for collecting the assets. So when you continue growing with the same levels of prudence and a very conservative risk management approach, implies you are capable of keeping and having these very healthy NPL ratio.

Operator

We'll take our next question from Gabriel NĂłbrega with UBS.

F
Frederic De Mariz
analyst

This's actually Frederic De Mariz from UBS. So let me ask 2 questions. The first one is a follow-up on the discussion of the perpetual bond and equity. So you mentioned it's treated as equity. I believe you mentioned it's treated as equity by your accountants and by the rating agencies. And I wanted to hear your thoughts from a prudential standpoint. Following that issuance of the perpetual bond, you're going to have a large share of your capital coming from hybrids. And so I wanted to hear from you, what -- how do you think about the pure equity base. And is there some kind of a target in terms of equity to assets, not including the hybrids, that you consider internally. I understand the rating agencies look at the all-in capital, but I wanted to hear your thoughts on the equity. And then I'll come back with my second question.

S
Sergio Camacho Carmona
executive

Yes. The accounting -- the criteria on the account on the hybrid bond is 100% [indiscernible]. And as I mentioned, the both -- the 2 rating agencies treat them on a different basis. We are -- according to our plans, our business plans, we are okay with this issuance. And we do not expect nothing -- I mean, we do not expect to access in the near term on another hybrid bond or so for equity purposes. And the ratio that we are going to be targeting or that we're going to be focused on is to maintain and we've seen in that arena.

F
Frederic De Mariz
analyst

Okay. Great. And then the second question. You mentioned a few -- on a few other questions, the impact on cost of funding from the various issuances you're making dollar even though all your business is in pesos. So my question here is, how do you think of margins for this year and next year? What kind of compression are you expecting here?

S
Sergio Camacho Carmona
executive

Actually, we are forecasting margins to be from stable to improvement, based on the fact that we have lost the cost of funding now. And as long as we go through the support coming quarters, the proportion of origination within our revenue line carried out in 2017 and now 2016, which have been originated at higher rate, is going to be more relevant. Therefore, the profitability of the company is going to be enhanced. And that's why we are based our model on -- from stable to improvement on margins. [indiscernible] Please do remember that margins on a quarter-to-quarter basis or quarter-on-quarter basis can present some volatility, given that the company is regular invested in the market. And this, of course, in the short term, we can deposit that [indiscernible]. If you annualize the margin consideration, that's where we are starting to see some inflation on margins and probably an improvement, but also -- but considering [indiscernible] not just a quarter-to-quarter comparison.

F
Frederic De Mariz
analyst

Okay, I understand this. So we had a decreased compression in margin in the fourth quarter, but when we look at the full year of 2017 versus the full year of 2016, we also had a compression. So are you guiding just, say, that in 2018, we should work with stable margins. So are you expecting that the business is going deliver stable to slightly up? And if this is the case, then what kind of expansion would you be expecting?

S
Sergio Camacho Carmona
executive

Yes. Some sales improvement, and we may expect a 50 to 100 bps margin expansion.

F
Frederic De Mariz
analyst

Okay. And you're saying it's mostly because of lower cost of funding?

S
Sergio Camacho Carmona
executive

It is because of the low cost on the cost of funding and the higher originations rates that are going to be within our revenue line.

Operator

Our next question is from [ Jorge Marro ] with [ Fundamental ].

U
Unknown Analyst

It is regarding -- if you take on the P&L the 2 lines of other lease benefits and other lease expenses and you combine them, I've seen that in the last 11 quarters, this was on average MXN 5 million negative, but it came at MXN 225 million positive this quarter. So I'm trying to understand a bit better this line because if I combine it with the other operating income, if I were to adjust for this, I get to an ROE of 11%. So just trying to understand how recurrent these things are?

S
Sergio Camacho Carmona
executive

[indiscernible] The result we had on other lease benefits is none other than the cannibalization of assets that gets purchased by our clients at the end of each week. It is my [indiscernible] given that we spend within a quarter, we have our -- we might have an accumulation on conserved capital that were more relevant in terms of peso and pounds, both, rather than in other quarters. When you actually annualize these effects, the difference between the other lease benefits to other lease expenses, anything in peso we do not consider to be material at all. But then again, it might be sort of a cannibalization and the difference between book value and the receivable value that we carry and some terms actually that we close with the clients. I think going forward, you should be -- for modeling purposes, you should be modeling almost matter of fact between these 2 lines.

U
Unknown Analyst

Okay. So these 2 lines combination will be close to 0 going forward?

S
Sergio Camacho Carmona
executive

Yes. That's right.

U
Unknown Analyst

Okay. Sorry. And then, the -- I didn't understand the MXN 176 million in the other operating income net that you mentioned in benefit on some assets. Can you please give us more color on that as well because it was pretty significant relative to the last 12 quarters?

S
Sergio Camacho Carmona
executive

So I mean, the most important benefit there was when we think gains coming from the insurance fees, given low incident breaking in the insured assets that the company has. This is going to be present -- like we said before, this is going to be presenting going forward towards the end of the year, given that that's when you make the assessment of how many assets actually presented in this year. And that was, by far, the most important effect in these lines. Additionally, we also incurred an additional gain coming from the, let's say, claims or income coming from the collection from previous years.

U
Unknown Analyst

So recoveries -- sorry, not collections. You had better recoveries than the previous years.

S
Sergio Camacho Carmona
executive

Sorry.

U
Unknown Executive

Recoveries.

S
Sergio Camacho Carmona
executive

Yes, recoveries from [indiscernible] loan accounts [indiscernible].

Operator

And we'll take our next question from Neha Agarwala with HSBC.

N
Neha Agarwala
analyst

Most of my questions were answered. Just to get clarity on your capitalization ratio. You mentioned that you're comfortable with the current levels, but we note that your current equity to assets is about 14% and with the perf issue, it goes up to 20%. So in the medium term, what is the level that you want to operate at? Is it closer to 15% or more closer to 20%?

S
Sergio Camacho Carmona
executive

No. I mean, that number is what we consider to be very conservative. Of course, the higher number that we have there is going to be better for us. I mean, we are not going to do anything extraordinary to jeopardize that level. If we can achieve to be on the high teens, we're going to be there.

N
Neha Agarwala
analyst

Okay. So you would target to be in the high teens range?

S
Sergio Camacho Carmona
executive

I mean, that will be something that we would like to have, but we are very -- we were concerned. That's why we are targeting to the market the mid-teens.

Operator

We'll go next to Enrique Mendoza with Actinver.

E
Enrique Mendoza FarĂ­as
analyst

A follow-up regarding the accounting change made from performing loans into account receivables. I -- just wondering if the change is more related with lease rentals paid in advance by the borrower or if -- are more related to the commissions collected for the initial ramping of operating leases? That's my first question. And, if I may, I have another question.

S
Sergio Camacho Carmona
executive

Sorry, can you repeat the question because the line -- I mean, we didn't hear very well your question, sorry for that.

E
Enrique Mendoza FarĂ­as
analyst

Yes. Just a follow-up regarding the accounting change from performing loans into account receivables. Just wondering if the change is more related with lease rentals paid in advance by the borrowers? Or is it more related with commissions collected for the initial ramping of operating leases?

S
Sergio Camacho Carmona
executive

No, no, no. The full line on the lease business went to the other account receivable, both the portfolio as well as estimation on the nonperforming loans, nothing's changed, nothing changed at all.

E
Enrique Mendoza FarĂ­as
analyst

But the -- just to better understand the change and how to assess that. It is because of -- you mentioned something about the talks with the banking commission in order to improve the information for investors. Can you elaborate more about that?

S
Sergio Camacho Carmona
executive

Sure. Yes. I mean, the banking commission, which is more focused towards banks does not have a particular criteria on a performance that are nonregulated, which is the case of UNIFIN. So getting into, let's say, a review and getting the new [ pointer ] within the PricewaterhouseCoopers, they suggested that we need to record the portfolio that is from the leasing and other loans on the current portfolio and send the leasing portfolio with the estimation on NPLs to other account receivable, just for matter of presentation and that is more in line with what a bank would send. And that's it. It's as simple as that.

E
Enrique Mendoza FarĂ­as
analyst

Okay. And on the other hand, talking about the expected further interest margin expansion that you are expecting for 2018, I see total declines in the average leasing price at the end of the year. Do you -- are you considering that trend overall in order to expect further margin expansions for 2018?

S
Sergio Camacho Carmona
executive

What we are considering in that expectation is that as long as we work through the quarters, having increased our origination rate in 2017 to normal rates and late 2016 a similar number, our revenue line is going to be more profitable. Last year, for example, we have in that -- our revenue lines origination carried out in 2017, '16 [indiscernible]. The catch off that we need to price out for offsetting the increase on the reference rate on the [ DA ] that went up more than 400 bps within 18-month period of time. Of course, [indiscernible] takes time and that's where we see the contraction in the margin on the result of 2017. We are not considering anything different on that based on the proportion that we're going to have within the revenue of originations carried out in 2017, '18, so far so on.

E
Enrique Mendoza FarĂ­as
analyst

Therefore, if I understand correct, we should expect the average leasing price to start to increase in coming quarters?

S
Sergio Camacho Carmona
executive

Yes.

Operator

Next is Yulia di Mambro with Federated.

Y
Yulia di Mambro
analyst

I apologize this topic has been discussed a lot already, but I just want to make sure I understand. So as far as your perpetual is concerned, in your accounts, it's accounted as 100% equity, so the exchange rate movements do not matter for that because it always gets converted at the exchange rate that was initially recorded at. So even if you wanted to hedge the principal, you couldn't because that would create additional fluctuations in your balance sheet. And then, as far as rating agencies are concerned, they give you 50% equity credit for that perpetual. But again, the exchange rates that they use for the -- both for the equity and the debt portion never changes. Is that correct?

S
Sergio Camacho Carmona
executive

You understand it very, very well. Everything that you said is correct. The hybrid bond is considered [indiscernible] treated 100% equity. And therefore, there is no need to -- I mean, whatever the exchange rate move, there is going to be an impact on the shareholders' equity.

Y
Yulia di Mambro
analyst

And then as far as rating agencies are concerned, FX movements do not have an impact on the ratios that they look as far as this hybrid is concerned.

S
Sergio Camacho Carmona
executive

That's correct as well.

Y
Yulia di Mambro
analyst

Great. So actually having this hybrid in your capital structure benefits your balance sheet because you would be effectively long dollars in a way. Is that right? Because the denominator in your ratio will actually have more dollars than your assets?

S
Sergio Camacho Carmona
executive

Can you repeat that?

Y
Yulia di Mambro
analyst

So I'm saying that, actually, it benefits your capital structure because it's dollar capital for you. So when the rating agencies calculate your leverage ratios, they basically -- that capital never changes as far as FX is concerned, whereas on the -- whereas the other parts of the leverage ratio, they do change with FX.

S
Sergio Camacho Carmona
executive

[Indiscernible]. We'll receive the funds on the hybrid bonds that we have and injections between the capital structure as well as shareholders' equity and on the other hand came up with cash stock [indiscernible] and the terminated FX rate. [indiscernible] from one part on equity and another part on the assets on the cash and cash equivalents.

Operator

And next will be a follow-up from Jason Mollin.

J
Jason Mollin
analyst

I wanted to ask about the NPLs because -- the nonperforming loans, as you report them, that have been around 0.7%. I mean, as you've made clear in your disclosures that this only includes the missed installment payments and not the outstanding balances of leases. So my question is -- and you have disclosed some of this to the rating agencies, but can you tell us what would that be? What's been the trend in the fourth quarter of full outstanding balances and installment payments as a percentage of the total? And if you think it makes sense, I think that would be the way that analysts typically look at financial institutions. We know you're not regulated and don't have to do this, but clearly, the rating agencies wanted some estimate of this. And I think investors would benefit from it. Is there any plans to put this in your release and track this, so we can track it?

S
Sergio Camacho Carmona
executive

No. Because in nature, we cannot compare ourself. We cannot compare that criteria to a traditional bank because we own the asset that is within the lease agreement, which in the banks, they do not own a collateral on a credit line. So that's why they take the full amount on the credit and consider as a nonperforming credit in their case. In our case, on a stress test carried out by the rating agencies, they calculate something similar. But in those numbers, they are not considering the value on the asset. So in our case, we consider that the way that we show the NPLs is the right way to do it because, once again, we own the assets.

J
Jason Mollin
analyst

Yes, I mean, I understand that. And I think it's a very valid point. I just think that you are disclosing that information to the rating agencies, whether you can just -- you can argue whether you think it's valid or not. I mean, clearly, we have other loan segments where when you -- when it's a car loan rather than a lease, the banks don't own it, but there is collateral behind it. It's different. I get it. But what would that be because you have disclosed that to the rating agencies that you have and how is that...

S
Sergio Camacho Carmona
executive

It will be on a low single-digit number, better than a bank.

J
Jason Mollin
analyst

So is it -- and how is the trend...

S
Sergio Camacho Carmona
executive

And we're not considering the value on that assets.

J
Jason Mollin
analyst

So is the trend on what you've been disclosing improving or deteriorating?

S
Sergio Camacho Carmona
executive

It's maintained at the same healthy levels.

J
Jason Mollin
analyst

Okay. That's helpful. I just think it's helpful. I agree you're not -- well, by definition, you're not a bank. But it is one way to think about delinquency, just the missed payment. I get it that you can recover -- you own the asset, and you're depreciating a large number, 20% per year. So that is important. That's helpful.

S
Sergio Camacho Carmona
executive

But also something that is very, very important to clarify and in addition to what you're saying, we after the third payment that we did not receive, we stopped recording the income in our P&L. So very, very important, continue with the depreciation of the asset. So we basically have a full coverage of the third grade from the NPL of the third grade and continue [indiscernible] to the results the depreciation of the assets, which is like a natural reserve on the P&L.

J
Jason Mollin
analyst

That's very helpful. Maybe just for the sake of -- there are a lot of questions on the hedging and the implications on the hedging strategy. How should we think -- I mean, I guess, the perpetual is a different -- it's a different kind of product. But if we think about -- excluding the perpetual, if we think about your funding in dollars and your -- when you say that you hedge both the principal and interest payments through the life of that funding method, we shouldn't expect -- FX and interest rates shouldn't matter, right? The net impact, whether we account for market-to-market in one quarter, during the life of that product, of that security, if you're hedging exactly, I mean, 100%, then the net impact by the end of -- at maturity is 0. Is that correct? Or there -- or it's not difficult to hedge exactly?

S
Sergio Camacho Carmona
executive

That's correct. The effect on the mark-to-market is only an accounting perspective. It does not -- it's not a cash flow impact.

J
Jason Mollin
analyst

But do you -- I mean, like when we see this positive impact this quarter, let's say, in the valuation of the hedging instruments of MXN 1.4 billion, we should think that on the opposite side, there was a loss somewhere. I'm not sure where we see that, or at least through the period of the product, we -- the impact should be 0 if it's hedged -- I mean, if it can be hedged exactly.

S
Sergio Camacho Carmona
executive

I'm not sure if the impact is going to be 0.

J
Jason Mollin
analyst

Okay. That's what I just wanted to double check. And that now, of course, when you're holding open position. And are you entering in treasury operations to kind of move that position around during the quarter? Or that -- there are no positions? It's only to hedge?

S
Sergio Camacho Carmona
executive

The number that we record in our financial statements are the numbers that come from the statements from the counterparties of the hedges.

Operator

And next is also a follow-up from [ Jorge Marro ].

U
Unknown Analyst

Just a follow-up. I'm trying to add up the quarters with the years on these lines, other lease benefits and other lease expenses, and I'm getting to a difference of MXN 60 million -- MXN 59 million, actually. I mean, can you help me understand. Did you reclassify some revenues into expenses? Because for the net income, I don't see any difference, but I do find these differences on the top line.

L
Luis González
executive

Okay, can you please repeat the question?

U
Unknown Analyst

Yes. So if I take the other lease benefits, you reported a revenue of MXN 1.011 billion for the year and MXN 557 million for the quarter. But if I take that yearly figure and I subtract the last three quarters, the implied would have been MXN 435 million instead of the MXN 557 you reported. So there is a difference in this line. And I find that there is another difference in the interest income. And then another one in the other expenses from leasing operation, other lease expenses. So then if I combine all these, I'm just taking the annual figure and subtracting the last three quarters. And I see differences is not the same as the quarterly figure of the fourth quarter. So to me, that means that you reclassified something.

S
Sergio Camacho Carmona
executive

Honestly, I don't have that information here with me. We will get back to you with that.

Operator

It appears we have no further questions at this time. I'll return the floor to you, Sergio, for closing remarks.

S
Sergio Camacho Carmona
executive

Thank you. Thank you, guys. As explained throughout the presentation, we remain positive on Mexico fundamentals despite the volatility that we may experience. As we said, we performed our need for this year in anticipation to the volatility and along with our very prudent risk management approach. Thank you all, and see you on the next conference call for the first quarter results.

Operator

This will conclude today's program. Thanks for your participation. You may now disconnect.