Credicorp Ltd

NYSE:BAP

Earnings Call Transcript 2019-Q4

[Operator]

Good morning everyone, I would like to welcome all of you to the Credicorp Ltd. Fourth Quarter 2019 Conference Call. We now have our speakers in conference. Please be aware that each of your lines is in a listen-only mode. At the conclusion of today's presentation, we will open the floor to questions.

With us today is, Mr. Walter Bayly, Chief Executive Officer; Mr. Alvaro Correa, Deputy Chief Executive Officer; Mr. Reynaldo Llosa, Chief Risk Officer; Francesca Raffo , Transformation Officer, and Mr. Cesar Rios, Chief Financial Officer.

Now it is my pleasure to turn the conference over to Credicorp's Chief Financial Officer Mr. Cesar Rios. Mr. Rios you may begin.

[Cesar Rios, CFO]

Thank you. Good morning and welcome to Credicorp's conference call on our earnings results for the fourth quarter of 2019. Before we review Credicorp's performance, I would like to highlight some important matters regarding the local environment.

First, following the dissolution of Congress by President Vizcarra on September 30, 2018. Congressional elections took place on January 26, 2020. Voting results point towards the fragmented Congress with nine political parties. A simple majority requires 66 votes, while an absolute majority requires 87 votes, which mean, that parties will have to form a consensus to pass legislation. Members of Congress will assume their roles on March 2020 and their turn will end in July 2021.

Second, the Executive branch has taken to measures to bolster public investment. Amount emergency decrease to 100 down to stimulate public investment, the following are not working.

The reactivation of paralyzed projects. Measures to increase execution of prioritized infrastructure project. A prioritize public investment of regime and loosening the fiscal deficit rule to achieve a 1% deficit of GDP by 2024 instead of 2021. These measures are expected to have an effect on economic activity towards the second half of 2020.

Next slide please. The economic activity decelerated during the last quarter of 2019. As you can see in Chart 1, our estimates suggest GDP expanded around 1.6% year-over-year in the last quarter of the year. With these result GDP expanded 2% in 2019 while non-primary GDP grew around 3%.

The lackluster result for 2019 is primarily attributable to a decline in the result reported by the primary sector particularly fishing and mining. For 2020, GDP expect to accelerate an advance 3%. However, this recovery will mostly be attributable to our rebound in the primary sectors and to public investment.

As you can see in Chart 2, according to analyst consensus Peru will remain one of the most dynamic economies in the region for 2020. Lastly, banking sector loans decelerated in 2019.

As you can see in Chart 3, banking sector loans grew 6% in 2019, which falls below the expansion registered in 2019 represents the lowest figure registered since 2017, with total loans, corporate loans reported the highest deceleration forcing growth of 2.9% in 2019 compared to 9.7% in 2018, consumer loans however accelerated advances 14.8%

Next slide please. Regarding full year performance, there are important aspects of our lines of business that we like to mentioned. In the case of universal banking in 2019, average daily loan balances BCP Stand-alone posted 6.9% growth in a context of ongoing a strong pressure on pricing and a decrease in the overall demand for financing in wholesale banking.

Loan portfolio grow at BCP was driven by retail banking segments in local currency. This evolution in the portfolio mix had a positive impact in both NIM and risk adjusted NIM. In 2019 BCP began to offer consumer loans to new segment through digital channels.

BCP is now targeting broader segments of the population and a specific needs such as very short-term loans and a small immediate disposement products. As BCP grows in this regard, the organization has develop the capabilities to maintain adequate levels of risk adjusted NIM.

BCP has significantly increased expenditures on transformation, while maintaining our sharp focus on cost management. As a result, its cost to income ratio improved 100 basis points.

In 2019 BCP Bolivia celebrated its 25th anniversary in a complicated political environment. Nonetheless, the Bank registered good levels of loan growth and engage in a very disciplined cost management which had a positive impact on the efficiency ratio.

With regard to Microfinance. In 2019, Mibanco experience downward pressure on margins due to a strong competition. Moreover, having taken risk adjustment measures, the bank has focused on targeting lower risk profiles segment through the year. These two factors combined let NIM to drop 76 basis points.

In addition to focusing on short-term measures, such as fine tuning risk and collection models, as well as pricing, Mibanco has embarked on a multi pronged risk management program in which they are developing additional capabilities with ambitious goals. These efforts have already begun to reap benefits, which is evident in the fact that the cost of risk of Mibanco decrease 47 basis points in 2019.

Regarding efficiency, the cost to income ratio at Mibanco deteriorated in 2019. The bank expanded its relationship management and sales force to build capabilities to sustain business growth, and is strengthened its analytical and innovation capability.

It is important to note that Mibanco is migrating to hybrid model leveraging the use of data and analytics story in a loans based and models while gradually relying less on loan officers for loan origination.

Finally, in December Credicorp finalized the acquisition of Bancompartir Colombia. It has also been working on preparing the merger with Encumbra to consolidate his presence in the countries Microfinance sector.

With regards to insurance and pension funds. The insurance underwriting results increase on a full year basis. This was primarily due to the positive evolution of the property and casualty business, which posted on increasing its net earnings premium level, offsetting growth in net claims. Additionally, net interest income increase including investment gains.

In the case of the life business, there was an increase in net premiums and in net claims after Pacifico won the tender for disabilities survivorship and burial expenses policies for the private pension fund system. Nonetheless, this product reported higher claims than the other products in the life business.

Additionally, operating expenses grew less operating income, which led Pacifico to increase his contribution to Credicorp. The pension fund business produce an improvement in its results due to an increasing fees through both flows and net balance.

The profitability of the business legal reserves increase in line with more favorable market conditions. In investment banking and wealth management. In 2019, the proprietary portfolios posted better results in comparison 2018 in a context of favorable market conditions, both the trading books and the available for sales portfolio reported higher earnings, which were driven mainly by devolution at ASB, which realized gains while decreasing the size of its investment portfolio.

During the year, assets under management increase, particularly in Chile and Colombia in local currency, which fuels 6% growth in assets under management in 2019. The asset management business continues to focus on growing its international platform of funds for institutional investors in Latin America and other regions.

Corporate Finance registered a decreased in 2019 versus 2018, which was attributable mainly to the performance in Chile. However, total income in this segment recover considerably in the fourth quarter mostly driven by activity in Peru.

After receiving approval for the regulatory in Colombia, Credicorp completed the acquisition of 100% of the capital stock of Ultraserfinco and has begun the process to prepare the merger.

Next slide please. Now, I will comment on the highlights of the Credicorp performance [Indiscernible] and full year 2019. First, at the profitability level, Credicorp reported net income of 973 million soles in the fourth quarter of 2019, which was 11% lower than the third quarter results. This was the result of seasonality.

In operating expenses, mainly at BCP Stand-alone, which were not offset by growth in risk adjusted NIM and such return of average equity dropped to 14.9%. For the full year 2019 Credicorp reported net income of 4,265 million soles, 7.1% higher than this year posted last year.

These results for the full year represented of return on average equity and average assets of 17% and 2.3% respectively. The full year average daily loan balances grew 6.6% driven primarily by BCP Stand-alone retail banking portfolio.

The cost of risk increased 22 basis points in 2019 and situated at 1.6%. The increase was reported as retail banking in BCP Stand-alone in line with the shift in the portfolio mix. NIM at Credicorp increased 11 basis points to situate a 5.39% in 2019.

The improvement in BCP was partially offset by the deterioration of Mibanco. The risk adjusted NIM decrease four basis points in 2019 impacted by Mibanco's results. This was partially offset by growth in BCP Stand-alone risk adjusted NIM.

In terms of operating efficiency, the full year cost to income ratio improved 30 basis points, improvements were driven by BCP Stand-alone and Pacifico, which contribute with a production of 80 basis points and 100 basis points respectively.

These contributions were partially offset by the 70 basis points impact on Mibanco. Finally, core equity tier 1 ratio at BCP Stand-alone increased by 34 basis points year-over-year to 12.35%.

Next slide please. In the analysis of the evolution of earnings and profitability, the following is not -- is worth noting. As you can see in Chart 1, some additional expenses at the corporate level has led to a deceleration in earnings growth at Credicorp.

First, the group has spent more in withholding taxes in 2019 after more provisions were set aside for taxes for dividend distribution for fiscal year 2019. As you know, the dividend per share paid in 2019 was 28 soles compared to 14.17 soles in 2019.

It is important to mention that withholding taxes has late impact in 2018 earnings because fewer dividends were upstream from subsidiaries, the additional cash was obtained from the sale of BCP share from Credicorp to Grupo Credito.

Second, there was an increase in career loss business expenses and in other administrative expenses at the holding level. Regarding ROAE, as you can see in Chart 2, the ROAE was positively impacted by the evolutions in Universal Banking, Insurance & Pensions and Investment Banking and Wealth Management. But this effect was partially offset by the results of Microfinance and the impact of corporate expenses.

Next slide please. In the context of market deceleration, at the end of 2019, the loan portfolio share of interest earning asset situated at 67% in 2018, down from 68% in 2019, regarding the full year evolution of loan measure in average daily balances.

As you can see, in Chart 1, total loans grew 6.6% in 2019. Loan grow was mainly driven by retail banking at BCP Stand-alone. As you can see in Chart 2, the mortgage loan book led expansion within the retail banking portfolio accounting for 40% of total growth.

The majority of the remainder of grow was attributable to the consumer credit card and SME segments. It is noteworthy that the Credit Card loan book continues to grow at a faster pace and register expansion of 19% year over year. Loan expansion was mainly driven by local currency and higher margin segments, which led to an increase in the cost of risk.

Next slide please. In terms of funds, as you can see in Chart 1, Credicorp's funding structure grew 4.2% year-over-year driven mainly by an increase in deposits. In this context, the positive increase their share of total funding, while wholesale funding reduce its share.

It is important to note that BCP Stand-alone improve its wholesale funding maturity profile reducing the funding costs curve in both local and foreign currency due to the liability management strategy that was made in the third quarter of 2018.

The new money issue allow BCP Stand-alone to replace during the fourth quarter more expensive debt such as a corporate bond that expire and perpetual subordinated debt that was called.

In Chart 2 for Deposit by Type. Year-over-year grow was situated at 7.1%, which was primarily attributable to time and saving the deposit, which grew 8.7% and 7.9%, respectively.

The cost of funding increased by 12 basis points, which was mainly attributable to currency mix effect given that growth in local currency funding accounted for 90% of the function register in total funding.

Next slide please. As you can see in Chart 1, the IOL ratio increase four basis points due to deterioration in the SME business and in the middle market segments. It is important to note that these loans have been adequately provisioned.

Additionally, corporate or finance loans decrease as clients from the construction sector have partially paid their debt. In this context, the NPL ratio decrease nine basis points. In Chart 2, you can see that the cost of risk increased 22 basis points. This was attributable to an increase in provisions in retail banking and BCP Stand-alone.

In the case of consumer segment, provisions grew impacted by the cushion higher with segments to digital channels. Nonetheless, the increase in the cost of risk was offset by higher margins.

In the Credit Card segment, provision were also increase after the probability of the full growth in a context of system wide increase implied in debtness. Finally, medium term loans in the SME Pyme segment deteriorated as has been the trend increasing quarters due to a misalignment in the risk model for any specific segment.

Accordingly, provisions deteriorated more than expected price in origination and collection measures has already been taken. But due to the duration of this portfolio, the results of the adjustments will materialize later this year.

It is important to mention that increase in provisions and BCP Stand-alone retail portfolio was partially offset by reversals of provision in wholesale loans portfolio. Additionally, at Mibanco, the efforts made late last year and in the first semester of this year improvement in the quality origination and in the collections processes.

Next slide please. In 2019, Credicorp'S NIM increased 11 basis points. This was attributable to the positive evolution of NIM at BCP Stand-alone, which rose five basis points quarter-over-quarter and 26 basis points in 2019. This was driven mainly by loan growth and by more profitable mix by business segment and currency.

The aforementioned was partially offset by the reduction in Mibanco NIM, which failed five basis points quarter-over-quarter and 76 basis points in 2019. Mibanco's portfolio has been affected by the economic downturn and by higher competition, which pressures margins downward.

Additionally, Mibanco decided to focus on segments with variable weather risk profile, which negatively impacted NIM. Finally, the risk adjusted NIM on Credicorp increase six basis points quarter-over-quarter and decrease four basis points in full year 2018 after the improvement at BCP Stand-alone was offset by deterioration at Mibanco.

Next slide please. Regarding non-financial income. In Chart 1, you can see the evolution of non-financial income, which is funded 11.1% in 2019. This was driven mainly by two factors, first by an increasing net gain on securities [audio gap] Mibanco and BCP Stand-alone. Second, a bit of the expansion was due to an increase in the fee income.

Combined these two items represent 82% of the increase in non-financial income in 2019. In Chart 2, we can see that the feel register growth of 3.4% in 2018 mainly at BCP Stand-alone.

This was primarily attributable to an increasing the gain of drops and transfer some payments and collections and secondarily to an increase in the fee income at Mibanco due to a change in the accounting recognition of the fee related to insurance and loans, which were previously accrued over 12 months but now we have reduced debt when their policies sold.

Next slide please. In the following chart, you can see the contribution of each subsidiary to the variation in efficiency ratio. BCP Stand-alone improved its operating efficiency with an increasing interest income.. This was attributable to growth in retail banking loans, which offset the increasing administrative general and tax expenses.

At Mibanco the efficiency ratio deteriorate, the cost driven by an increasing personnel expenses in the first semester of the year. As mentioned earlier, our newly hired Salesforce is still on a learning to touch productivity should increase this year.

Grupo Pacifico posted an improvement in his efficiency ratio. This was primary attributable to growth in net earnings premiums mainly driven by the fact that Pacifico won two out of six tranches in the last tender process for disabilities survivorship and burial expenses policies for the private pension fund system.

These represent an improvement on 70 basis points in efficiency ratio. However, it is important to mention that the increasing in net earning premiums was offset by net claims, which are not part of the efficiency ratio, but impacted netting.

In the investment banking business, the efficiency ratio deteriorated with an increase in salaries and employee benefits mainly at Credicorp capital. In the full year analysis of operating efficiency, the cost to income ratio decreased 30 basis points.

If the effect of increase in net earning premiums due to disability survivorship and burial expenses policies for the private pension fund system is excluded. The operating efficiency ratio at Credicorp increased 40 basis points.

Next slide please. As mentioned in the past, BCP aspiration is to become the number one bank for customer satisfaction in Peru and most efficient in the region. To achieve these, BCP has been investing in customer experience by differentiating a physical self-service and digital channel level.

BCP currently leads the market for customer satisfaction in all retail and wholesale segments. In 2019, BCP increase the digital consumer client base by 57% to achieve a total of 3.3 million clients. These represents 41% of consumer banking clients as observed in Chart 1.

The fastest growing digital channels have the subsequent increase in digital users has reduced the marginal fees normally obtained through traditional channels. It is important to note that digital clients are those that need any of the following criteria.

They can do 50% of the monetary transaction through digital channels conduct at least 50% of non-monetary transaction through digital channel or have purchase any product digitally in the last 12 months.

In line with the strategic increase banking penetration BCP is now able to pre-approve credit to 36% of the total economically active population. The aspiration is to be able to do these for 50% of the total economic active population by 2021.

Also, as you can see Chart 3, in 2019 digital sales measuring unit has increased 2.4 times with regard to last year's figures. In this context, digital sales represent 13% of total sales. The most important product sold digitally is advance on wages where digital sales accounted for 46% of the total sales in 2019 versus 25% in 2018.

In the case of Yape, you can see in Chart 4, that the number of users continue to grow significantly. Additionally, transactions to Yape in 2019, total more than 18 million increasing five times compared to 2018 figure. Finally, in January 2020. Yape's total 22 million users and expect to reach the 10 million user mark by 2021.

Next slide please. In terms of the long term evolution of key financial indicators, in the past 10 years Credicorp has consistently growth its net income at a compound annual growth rate of 10%. This has been achieved despite economic slowdown in play since 2014.

In 2019, net income at Credicorp rose 7% despite headwinds is stemming from a highly uncertain political context, lower market rates and higher competition. Moreover, profitability levels have been as strong and consistent throughout the years despite variations in economics cycles.

As we have recently communicated, Credicorp is working to bolster its governance framework. With two main objectives to drive long-term stakeholder value and to demonstrate leadership in corporate governance within our operating region.

As such, the board has agreed on the following; first, to simplify the committee structure by migrate from seven committees to four, which are the risk committee, the compensation and nominations committee, the corporate governance committee and the audit committee.

We believe the reduction in committees will allow us to populate committees more effectively, increasing the diversity of views, represented by increasing committee members size and independence.

Second, regarding the chairperson of the committees, after the election of board members at the annual general meeting, the chairman of the board will no longer chair any standing committees. So he will continue to be a member of the risk committee and be a member of the newly formed compensation and nominations committee.

Third, the board has designated the Corporate Governance Committee, the task to redefine the criteria for independent directors to ensure that we meet the highest international standards for good practice.

Fourth, the board will submit a proposal to expand the size of the Board of Directors from eight to nine directors as per Credicorp's bylaws this proposal has to be approved at the Annual General Meeting of shareholders by the assistive board of two-thirds of our outstanding shares.

Credicorp proposes this expansion in order to enhance the independence and diversity of these directors, as well as to expand the skills and experiences represented on the board.. Finally, the board has designated the CFO for the task have instituted more stringent policies and procedures at the holding companies.

Next slide please, going into guidance. Credicorp's key indicator for the full year 2020 is based on the following. Despite some episodes of political uncertainty and good growth in the primary sector in Peru 2019 the macro economic and political context is expected to slightly improve in 2020.

This will have a positive effect on the economical and boots on the banking sector. The following contains Credicorp's guidance for key indicators. Loan growth for 2020 to situate between 8% and 10%. This will be driven mainly by the retail banking segment and BCP Stand-alone and by Mibanco, where efforts will continue to fine tune the business model.

In terms of cost of risk, the figures are expected to range between 1.6% to 1.8% in 2020. As the Group focus on growing in riskier segments, these riskier segments are expected to bring higher margins, higher competition. As such guidance for NIM will increase to a level between 5.4 and 5.7% and guidance for risk adjusted NIM remains flat at a level between 4.3% and 4.6%.

Efforts will continue to implement our transformation programs for BCP Pacifico and Mibanco. In this context, the efficiency ratio is expected to remain stable in comparison 2019 figures, higher costs are expected to be offset by better income generation.

Regarding capital, BCP will remain its internal limited for a minimum common equity tier 1 of 11% in the first quarter every year, as this quarter is when ordinary dividends are declared.

Average return on equity is expected to range between 16% and 18% in 2020. Credicorp has expanded the range for this indicator while assessing how to optimize the reserve fund that has been accumulated over the past few years considering potential application.

Finally, Credicorp is confident that when the full effect of each transformation initiative materialized and the capital optimization process is fully implemented, the target level of return of average equity of 19% is achievable.

With this comments, I would like to open the Q&A session.

[Operator]

Thank you sir. [Operator Instructions] We also ask that you please only ask one question at a time. After each question address by our speakers you will then be allowed to ask as many follow-ups as needed. But again, please only ask one question at a time. Thank you. Our first question will come from Jorg Friedemann, Citibank.

[Jorg Friedemann, Citibank]

Thank you for the opportunity. One point on the guidance please and one point that is implicit in the guidance, but I know, you did not comment. So, on the asset quality, we have seen that cost of risk as guided for 2020 is on the range of 1.6 to 1.8. So, the flow would be the level posted in 2019. And you mentioned that this is due to the origination in riskier segments. However, over the past two years, you have already been focusing a strongly in riskier segments, but I know, in 2018 for instance, your cost of risk declined.

So, my question is, what is different now, because the activity seems to be picking up and your NPLs are already coming down. So, why to keep higher guidance of cost of risk. Are you willing to build up coverage, which is below historical average, this is the first point. And the second point, just for me to understand, what I know, drove the income compression or is low down in 2019. You grew 3.5%, which is below even the level of credit growth, and that was at 6.6%. And what do you have for 2020 in terms of expectations for fee income? Thank you very much.

[Cesar Rios, CFO]

Hi. I will give you initial comments and probably Reynaldo complimenting. In the case of asset quality, we have came down for the last four years from around 2% to 1.6%. While we have been improving several variables in our risk management models. Going for what we have to a factors to consider, when the inclusion of higher risk segments and the momentary effect of the deterioration of the premium portfolio at BCP. During 2020, we are going to fine tune the results of this premium portfolio. And at the same time we are going to purposely take more risk in new segments as we have been mentioned previously.

In relation to fee income. We have state this previously also that the expected is that the fee income is going is going to grow less rapidly than the margins, because as we incur new margins, we are going to go, for example, in consumer loans, digital loans that it's going to have healthier margins, but usually no fee income related. And there is a strong competition in the payment systems also. So a structurally we are going to expect a lower fee income grow down the road.

[Reynaldo Llosa, Chief Risk Officer]

Regarding the coverage of our NPL, I would like to add that it is around 113%, it's been stable around that number. It has even picked up a little bit during this year. And I would say that that happens because, I mean, that level of knowledge basically as loan stuck up by real estate collateral. So I mean, that doesn't reflect the fact that there is a important recovery value in these specific loans.. So with that level of courage, I would say we're pretty healthy.

[Jorg Friedemann, Citibank]

Okay, thank you.

[Operator]

Thank you. Our next question will come from at Jason Mollin, Scotiabank.

[Jason Mollin, Scotiabank]

Yes. Hello. Hi everyone. Good morning. Credicorp showed a quarter-on-quarter and year-on-year increase in non-interest expenses. And in your release you stated that an important part of the increase is due to consulting and market expenses. Can you help us quantify that and understand that these will be ongoing expenses or not? And in relation to that, looking at your return on equity outlook and the sustainable return on equity outlook, you mentioned that the sustainable ROE of 19% will be once you've optimized, I guess, the capital and the transformation program. If you can talk about particularly on the capital side. Is this more on earnings improvement, perhaps from efficiency on sustainable ROE? Is it -- or is it more about optimizing capital? Thank you.

[Cesar Rios, CFO]

Okay. Probably first, relating to expenses, particularly at BCP Stand-alone level we have a strong seasonality in the fourth quarter. I wouldn't say that is any particular effect in advisory fees for this year. What's happen is that in many cases, you register the final invoices in the last two months of the year and this is a seasonal effect. I think is mainly the reason. When you have extraordinary gains that coincide with this period, you offset, but in this case, we have only will say, the trend.

In the case on return on equity, what we are having now I will say, are three main effects. First, we have the impact of the reserve fund that in general terms cost us north of 100 basis points. If we put these funds to work or make another decision, I will say automatically increase 100 basis points of return on equity. We're talking about around 600 million at this point.

The other factor is the transformation. Now, we are in the phase of investment, investing a lot is spending a lot in the transformation and we expect to start gradually gaining more ongoing a tangible not only operational, but financial rewards for this investments, and this will paid off down the road. And third and not a less important, the effect of withholding tax. We have increased significantly withholding dividends from 2018 to 2019 and we expect to continue paying increasing dividends over time.

So, for example, from 2018 to 2019, almost 2% of the earnings -- the decreasing earnings growth was attributed to marginal, more withholding taxes. The money that we ship upwards from Peru to Bermuda to pay dividends, pay withholding tax of 5%. We pay more dividends, we pay more withholding taxes. And the rate of the withholding taxes can increase also. When we start to operate in a more sustainable levels of dividends, the marginal factor of this increase is going to diminish. A change from 13 to 28 seconds down the road, it shouldn't be as dramatical as these on a continuous basis.

[Jason Mollin, Scotiabank]

Thank you very much.

[Cesar Rios, CFO]

The good factors to there, we have regional expectation of higher ROEs.

[Jason Mollin, Scotiabank]

Thank you, Cesar.

[Operator]

Our next question will come from Ernesto Gabilondo, Bank of America Merrill.

[Ernesto Gabilondo, Bank of America Merrill]

Hi, good morning, Cesar. Good morning, guys. Thanks for the opportunity. So GDP growth is expected to improve this year by public investment and rebound in primary economic sectors. However, we continue to see tough competition, especially in wholesale loans from international players and in the Microfinance sector. So, how do you see the challenges for your loan growth of 8% to 10%, especially in a year with a divided Congress and almost one year ahead of the presidential elections? And then I will make that my next question.

[Cesar Rios, CFO]

Okay. I would say that we are going to face probably two different realities, the retail -- the BCP retail portfolio and Mibanco portfolio growing on a faster pace, not only competing, we're trying to capture the same specific markets that we have been dealing, but probably addressing with new products, different markets. So, we are not only competing in the specific field, but expanding the potential markets going downward or creating different products. So we are positive about that.

The counterpart is, as you rightly mentioned in the wholesale segment that we expect tougher competition, both in terms of volume and margins, the combined effect produce has an expectation of between 8% or 10% as we have provided in the guidance.

[Ernesto Gabilondo, Bank of America Merrill]

Perfect. Thank you. So -- and then my second question is how you see the net income growth these year. Are you expecting double-digit growth? Or it should be more in the high single-digit growth? And then what will be your assumptions for the dividend payout ratio to achieve this 16%, 18% ROE guidance? And then my last question is on your M&A activity, do you continue to see opportunities in the region, any sector or country where you are more interested? Thank you.

[Cesar Rios, CFO]

Okay. I think there are probably three questions. If I can address one by one. I think in terms of NIM, our implied growth on NIM, I'm going to give you the answer, combining the loan growth with the expected NIM, give you the answer. I'm probably going to be in the vicinity that you're ready mentioned.

[Ernesto Gabilondo, Bank of America Merrill]

Sorry, you're ignoring the net income growth.

[Cesar Rios, CFO]

In the net income, if you combined of these figures probably we are going to be in the single-digits.

[Ernesto Gabilondo, Bank of America Merrill]

In the single-digits and your payout ratio, do you think it could be the same as in 2019, because I believe you consider special dividend in 2019?

[Cesar Rios, CFO]

In the case of the payout, we are, I will say, it’s a split answer. In the sense that we expect to continue paying a higher dividend, but in additional, we are now analyzing. We have not reached a conclusion at this point. How to -- what to do with the reserve funds. That was set assign mainly for M&A purposes. Based on decisions, a potential additional special dividend will be declared.

[Ernesto Gabilondo, Bank of America Merrill]

Perfect. And then in my last question of the M&A activity, as you were mentioned, you can use these reserve funds. So any sector or country where you are seeing more interest?

[Walter Bayly, CEO]

Hi. This is Walter. Regarding M&A, we continue to regularly review opportunities both domestically and in the countries that we have targeted, which we have well commented with all our shareholders. And frankly, we're finding a lot of potential assets that are interesting for us. So probably in the first half of this year, we will have to review and take a decision as to the size of continuity of such mutual fund. This is all work in progress. So I do not want to create expectations, but we are managing this aggressively vis-à-vis opportunities in the market and value creating for shareholders.

[Ernesto Gabilondo, Bank of America Merrill]

Perfect. Thank you very much, Cesar and Walter.

[Cesar Rios, CFO]

Thank you.

[Operator]

Thank you. Our next question will come from Alonso Garcia, Credit Suisse.

[Alonso Garcia, Credit Suisse]

Good morning everyone, and thank you for taking my question. My first question is on the CET1 level that is embedded in your…

[Reynaldo Llosa, Chief Risk Officer]

Excuse me, I couldn't hear you very clearly.

[Alonso Garcia, Credit Suisse]

Okay. Sorry, I will start again. So, my question is on capital, I mean, you are targeting a sustainable ROE of 19%. So, my question is, what kind of CET1 ratio is embedded in that 90% target? And my second question is, I can ask my second question afterwards.

[Cesar Rios, CFO]

Okay. I will say that, in line with these expected ROE can be -- and payout ratio north of 50%. If you assume that a business grow let's say a 10% and you have an ROE around 18%, 19%, a very simple mathematics gives you that payout is going to be a little bit north of 50%.

[Alonso Garcia, Credit Suisse]

Okay. But just to clarify. This 19% implies capital structure with the CET1 close to your target or your internal minimum of 11%. Is that correct?

[Cesar Rios, CFO]

Yes. The basic foundation is to have each company appropriately capitalized. That is the foundation. That's the basic assumptions. After that, requirement is fulfilled, we have extra fund to pay dividends. And at this point, with the analysis that we conducted in the case of BCP, the core equity Tier 1 in the minimum point is 11%.

[Alonso Garcia, Credit Suisse]

Okay. Understood. Thank you. And my second question is on OpEx [ph] I mean, based on your guidance is it fair to correct to assume that you are anticipating an acceleration in expensive growth from 6.7% growth in 2019 to a high single-digit this year. And what is a timeframe for your investment plan and is it like a two, three years of intensive investment or four years? And when should we expect OpEx growth to normalized. After this [Indiscernible]?

[Cesar Rios, CFO]

Well, we are targeting in average is maintaining the efficiency ratio with an internal transformation of some variables. What we expect this as a product of the transformation, we became much more efficient down the road, but spends more on technology in new digital capabilities and less on the traditional expenses, actually embedded in our numbers and a significant shift is spending more in IT, in new capabilities and less in traditional expenses.

In the short term, the effect is going to be neutralized and down the road, what we expect is a better efficiency. But continuous being investing aggressively in new capabilities is not going to be a three-year plan. That is going to end. What we expect that this is a trying framework to reap the benefits but we are continue to transform the capabilities to be a more digit and more data driven institution.

[Alonso Garcia, Credit Suisse]

Thank you very much.

[Operator]

Thank you. Next question will come from Andres Soto, Santander.

[Andres Soto]

Good morning. Thank you for the presentation. My question is related to Bolivia. This operation represents almost 7% of the loan book. And you highlighted some macro and political uncertainty in this country. And when I look at your coverage, I see that only 3% of your loan book in Bolivia is currently covered. So my question in relation to your cost of risk guidance is what level of coverage you assuming in these guidance? And to what extent you see some downside risk in your guidance based on your Bolivia exposure? Thank you.

[Walter Bayly, CEO]

Probably Reynaldo is going to compliment me. But as a general rule, all our past due loans are properly covered. In the case of Bolivia, its no exception. What you have in Bolivia is a structurally lower past due loans that implies and in relative.

[Reynaldo Llosa, Chief Risk Officer]

And just to add to what Cesar mentioned, when that crisis is start Bolivia we were quite concerned of that potentially, it could have in your portfolio. We have been positively surprise on the evolution of the portfolio. We haven't seen any significant impact in other quality in Bolivia. And we have to take a closer look at what happens in that country in following months in term of the elections. But as of today, we don't have any major concern in terms of that potential impact. We have increasing our guidance of provisions to other risk.

[Walter Bayly, CEO]

Andres, this is Walter. Yes, we are concerned with Bolivia. even further, more than the political volatility is need in the country to do some financial adjustments that will undoubtedly have an impact on the macroeconomic stability of a country. We are hoping that those adjustments are gradual and start soon, otherwise, a more volatile situation could come down the road. It is not material in the portfolio of Credicorp. And portfolio and back in Bolivia is more than adequately capitalized. And we feel that we have taken the appropriate measures to prepare ourselves in such hopefully unlikely scenario of more disruptive macroeconomic conditions appear during this year.

[Andres Soto]

Perfect. Thank you guys for the insights.

[Operator]

Thank you very much. [Operator Instructions] Our next question will come from Carlos Gomez, UBS.

[Carlos Gomez, UBS]

Hi.

[Operator]

Carlos go ahead.

[Carlos Gomez, UBS]

Hi. This is Carlos Gomez from HSBC. Two questions, one on the corporate change you want to increase the size of the board. Could you comment a little bit as to why specifically from [Indiscernible], what is the rational and couldn't have in mind for the position? Second, a technical question on the page four of your press release, you show the profitability by company. There is a growing item which is others, which is now minus 175 million solid, largest prima. Could explain exactly what it is in that particular line? Thank you.

[Alvaro Correa, Deputy CEO]

Hello, Carlos. This is Alvaro Correa. With regard to the size of the board, that's the outcome of an assessment that has been performed and has to do with the diversity and more balanced distribution of board members in the committee. And on top of that, the need to increase the number of independent directors. So, the conclusion was basically to have one board member and that will help a lot in this governance improvement process.

[Carlos Gomez, UBS]

Okay. The second question.

[Alvaro Correa, Deputy CEO]

Yes, probably the last question is in relation to the already mentioned withholding taxes. The company builder unit, [Indiscernible] and some corporate expenses, but the main factor is withholding taxes. As I mentioned before, when you increase dividends, you need to reserve more money for withholding taxes, the dividend from one year to another was increased in fold.

[Carlos Gomez, UBS]

So, follow-up there. Is there anything that you can do about the withholding taxes. I mean, re-domiciling [ph] the company save you some money in any way?

[Walter Bayly, CEO]

Carlos, this is Walter. Yes, we are continuously evaluating and obviously because of the increase of the amount of this withholding tax. We are bringing the issue back to the table. It is extremely complicated because it involves selling assets and moving assets from one country to the other, which have huge consequences from a tax perspective. So yes, we're looking at it. But so far, we have not been able to find an alternative which seems to be a better structure than what we are today because of the cost of moving from one place to the other, I didn't know if I explained myself.

[Carlos Gomez, UBS]

No, you explained yourself. And obviously there is no simple answer to this. So if we need to get us to technically a higher tax rate going forward?

[Walter Bayly, CEO]

That is unfortunately true.

[Carlos Gomez, UBS]

All right. Thank you very much.

[Operator]

Thank you. Our next question will come from Yuri Fernandes, JP Morgan.

[Yuri Fernandes]

Thank you gentlemen. I had a question regarding your guidance, and to your risk adjusted NIM. It points to a zero to 30% increase. Then similar to your margins, but your cost should be from zero to any bit higher. So my point is like what's a confidence level that the risk adjusted will increase, because about this mix shift towards consumer and local currency loans, this trend is not totally new, like we saw this in the last one, two years. So my point is like, how -- like how should we think about the risk adjusted NIM for 2020 demanding the low end of the expansion? Are you confident that we can see a surprise here?

[Cesar Rios, CFO]

We have -- let's say we have different ranges, and in the ranges are the expected outcomes. Something that we need to consider is that the basic of calculation was nor identical. Cost of risk is based on the loan book, and the NIM is in the entire portfolio, including investments. So it's not absolutely linear.

[Yuri Fernandes]

Got it. Thank you.

[Reynaldo Llosa, Chief Risk Officer]

But I would like to add, I mean, that the underwriting process in the new segments of the market is taking us every year a larger share of our total portfolio. So we expect to have the cost of risk increase a little bit, but a net interest margin adjusted to risk increase more than what is the impact, the negative impact on the cost of risk.

[Yuri Fernandes]

No, I mean, just like if you have your like NIM, increasing like [Indiscernible] and your cost of risk move in the same direction. In the end like the risk adjusted NIM can be flattish, right? So that was my concern when you try to put together NIM with the cost of risk?

[Walter Bayly, CEO]

Okay. I think we are usually very conservative on our projections and then we see -- we are very optimistic on the level of growth on these new segments. So that's why we projected a higher growth of risk for the year.

[Yuri Fernandes]

No. Got you guys. Thank you very much.

[Operator]

Thank you. Our next question will come from [Indiscernible] TRG management.

[Unidentified Analyst]

Hi. Thank you for taking my question. I had a question on costs, it seems you're guiding for your cost income ratio, et cetera to be flat in 2020 versus 2019. But I know you've had an aspiration at BCP to dramatically improve your efficiency ratio. So is that going to be harder to do now? And, you've spoken about the cost for the technology transformation program. So I was wondering what those costs were? And then finally had a question on loan growth. You got into a big pickup and loan growth. Have you actually started to see this early 2020? Or is this more of a hope and aspiration that once the political environment improves spending starts coming to you eventually see it? Or has this been something you've already started seeing in 2020? Is there evidence of this?

[Cesar Rios, CFO]

Okay. Our guidance is related to efficiency not cost. So, I think like the numerator and a denominator, both growing. In terms of the impact of the transformation, as I already mentioned is a medium term effort and we are starting to see the benefits and in the particular case of BCP that explains almost 70% of the results of the group. During 2018 despite a growing investment in the transformation that almost doubled during the year, we have improved a cost to income ratio 100 basis points.

[Unidentified Analyst]

How much are the investment you're making in the transformation roughly?

[Cesar Rios, CFO]

Excuse me'

[Unidentified Analyst]

How much is the quantity and investment in the transformation?

[Cesar Rios, CFO]

At BCP level, we have -- directly as an expensive, though is an investment. In terms of expenses we are in the vicinity of 200 million solace. But the investment is significantly higher than that figure. And we are going to see an amortization day and the benefit also.

[Unidentified Analyst]

Okay. And then on loan growth, I was just wondering, have you actually started to see an improvement in loan growth in 2020? Or is this something that you're hoping will come through as the year progresses? And so I just had one more thing I was curious about, you said something about 600 million in reserve funds that you could get more interest on. And you talked about that is something you could deploy these funds to improve your sustainable ROE in the long term, but as a bit confused about what you meant by that?

[Cesar Rios, CFO]

Okay. In the case in the case of loans, our expectation is I mentioned, between 8% to 10%. This is a little bit higher than the 6.6% average daily balances that we grew during this year. We expect some pickup in specific segments, but especially, we have a significant expectations to grow market share in a special niches, through new products, new channels, as we have stated before, so it's a combination of both.

[Walter Bayly, CEO]

Regarding the reserve fund the intent for that fund was mainly to be able to have the liquidity available to capture opportunities that we think could be found in the markets and in the businesses in which we have strategically focused Credicorp. In order to have that liquidity, obviously it is in very low yielding, very liquid assets. Does the return obtain for that excess capital has obviously been very low. If we were to assume that that fund totally disappears, which is not something that is quite on the table right now, this would mean a distribution of funds that would increase the return on equity by about 100 basis points.

Those are the comments that were made in the prior question. Going forward, as I mentioned in the prior question as well, we are starting to believe that there are no significant opportunities that seem to be available. And during the first half of this year we will reassess the size and whether or not we want to keep that fund. At this stage we have not made the decision. My only comment is that, we will reassess this during the first half of the year and take the decision that obviously generates more value to our shareholders. If we are going to keep a cash fund for that size, it doesn't make any sense. If we can redeploy it to improve the profitability, and by the generation for our shareholders, it does make sense. Those were the comments I don't know if I explained myself.

[Unidentified Analyst]

Perfect. Thank you.

[Operator]

Thank you, at this time there are no additional questions. I would now like to turn the conference back to Mr. Walter Bayly, Chief Executive Officer for closing remarks.

[Walter Bayly, CEO]

Thank you very much. A quick comment on each of our four business lines regarding the last year's performance. At BCP, we have seen strong results, growth on loans driven mainly by the retail banking. Thanks to improvement in the value proposition, and the bank targeting broader segments of the population, while implementing new risk, data and analytics models. Very intense competition on the wholesale side. Fortunately, the margins are not on that side of the business.

In Microfinance, was a challenging year for Mibanco due to a combination of increased competition and portfolio, the duration which led to pressure margins. As a result, Mibanco has strengthening its risk model and is in process of developing a hybrid business model, leveraging data and analytics to be able to originate better and distribute more efficiently our loans. This is an ongoing process, and I will talk a little bit more about it.

On Pacifico, we have in booth profitability at the group a three-month. Pacifico won the tender for two tranches of the contract to cover the cost of disability survival and burial for the ASP. And Prima had a very strong performance driven by cost control and portfolio gains. Credicorp capital, a boost in profitability of the investment banking and asset management business due to favorable financial market conditions, which allow the group to achieve gains and proprietary portfolio.

Going forward, BCP will continue its strategy focusing customer experience and efficiency in all segments. Investments in digital transformation are already helping to increase bank penetration. We are starting to see the results. They're still not absolutely meaningful within the size, but we think that this is the way to go and we will pursue this path going forward. In Microfinance, as I mentioned, we are -- the efforts are focused on consolidating this new hybrid model and in creating business alliances to be able to originate loans with the help of partners, such as Yape and Uber to scale the business without risk costs.

And additionally this year we have the effort to consolidate the investment we have made in Colombia emerged with our operation there and be able to create an avenue of growth, a path for growth for Credicorp in that country. In the insurance and pension business efforts will continue focused on strengthening the bank insurance strategy to develop the group synergies. And investment and wealth management business we will focus on strengthening regional offerings in order to continue gaining market share in Colombia and Chile.

Additionally, we are consolidating our back office and IT structure to have a more scalable business and a more solid platform, and focusing on the recently acquired business in Colombia. Just a quick word, we have presented preliminary measures to bolster our governance framework with the aim to be aligned with the highest international standards.

And finally, we are convinced that our strategy focused on long term transformation is the path we need to take in order to outpace market growth, while sustaining short term profitability. Again, with this, we conclude our call and as usual, I really want to thank all of you for your continued interest in our company. Thank you very much and look forward to having a continuous dialogue with all of you. Goodbye. Thank you.

[Operator]

Thank you, ladies and gentlemen. This concludes today's presentation. You may now disconnect.