Banco Itau Chile

SGO:ITAUCL

Earnings Call Transcript 2018-Q3

[Operator]

Thank you for standing by, ladies and gentlemen, and welcome to the Itaú CorpBanca conference call on the third quarter 2018 financial results. We have with us Mr. Gabriel Moura, Itaú CorpBanca Chief Financial Officer; and Ms. Claudia Labbé, Itaú CorpBanca Head of Investor Relations. [Operator Instructions] I must advise you, the conference is being recorded today.

We now pass the floor to one of your speakers today, Ms. Labbé. Please go ahead.

[Claudia Montevecchi, executive]

Good morning. Thank you for joining our conference call for our third quarter financial results. We apologize for any inconvenience in the starting time of our conference call. Due to change in daylight saving time in New York on November 3, there was a confusion regarding the starting time of the conference call set in Santiago.

I would like to remind you that our remarks may include forward-looking information and our actual results could differ materially from what is discussed in this presentation. I would also like to draw your attention to the financial information included in this management, discussion and analysis presentation, which is based in our managerial model that we adjust for non-recurring events for the amortization of intangibles arising from business combination and for the tax effects of the hedge of our investment in Colombia. At the same time, we adjust the managerial income statement with additional reclassifications of P&L lines in order to provide a better understanding of our performance. Please refer to Pages 9 and 10 of our report for further details.

Now Mr. Moura will continue with the presentation.

[Gabriel De Moura, executive]

Thank you, Claudia. Good morning to everyone. Thank you for joining us for this third quarter conference call. Today, we'll be going through our results for the quarter; then I'll be giving you an update of our estimated synergies capture up-to-date; and finally, we'll be reviewing, once again, the steps we have planned for the year and what we have delivered so far.

To start, let's move to Slide 3, where we will be briefly discussing our view on the macro scenario for both countries.

In Chile, activity ended the third quarter of the year with what we've estimated to be a 3% to 3.2% GDP growth rate, marking a continued recovery in the economy as we have been expecting since last year. Our current forecast is to end 2018 with a 3.8% GDP growth. This recovery has lead the Central Bank to begin gradually removing monetary stimulus by placing an initial hike of 25 basis points in interest rates to 2.75% in October. This normalization process comes amidst signs that activity recovery is not exempt of risks, fall in the wages, slowing employment growth, reduced confidence and under controlled core inflation are signs that, in the other hand, the economy is not too close to the point of overheating. So we currently expect 2019 we'll have 3.5% GDP growth and monetary policy normalization to gradually continue throughout the year with 4 more rate hikes until reaching 3.75%.

When we look at Colombia, despite showing some moderation, activity likely stayed elevated during the third quarter with retail sales and industrial production on the rise with the inflation stabilized slightly above the 3% target, which diminishes the appeal for additional monetary easing. We believe that the Central Bank will likely maintain a slightly expansionary interest rate for the time being, as it continues to evaluate activity recovery and inflation outlook, a little bit appreciation of the Colombian pesos add pressure to inflation expectations in the future.

The recovery in the labor market, on the other hand, has accelerated during the third quarter. And that paired with the improvement in business confidence has led us to improve our estimate for GDP expansion for 2019 from 2.5% to 2.7%. However, it's important to notice that consumer confidence has returned to pessimistic territory, probably hampered by the tax reform proposal that will be submitted to the Congress in the coming days.

Going to the next slide, we show the reconciliation between our accounting and managerial results. We ended the third quarter with a CLP 42.8 billion accounting net income and with CLP 143.5 billion for the 9 months of 2018. Adjusting for non-recurring events, our managerial recovery net income reached CLP 50.7 billion in the quarter, a reduction from the CLP 64.9 billion reported in the second quarter and a total of CLP 165.8 billion in the period, which represents a 109% increase when compared to last year, which we will review in more detail ahead. It's important to mention that a more detailed discussion on these managerial adjustments that we made to present better and more comparable information is found on our MD&A report published on our Investor Relations website.

Moving to Page 5, we can see the evolution of our managerial recurring return on tangible equity. Under this view, we ended the third quarter of 2018 with a 10.5% consolidated return and a 13.1% return from our Chilean operations on a stand-alone basis. There is a small decrease when compared to our second quarter return that we'll discuss in more detail throughout this presentation.

Here, I would like to call your attention to the evolution of our year-to-date accumulated results. For our Chilean operation alone, we have reached a 14.6% return on the first 9 months of the year, 1.7x what we posted for the same period for last year, and a result of 2 things that we've been pointing out throughout this year: a stabilization of our cost of credit and the first results of a successful implementation of our retail business model.

Now let's move on to review our results in more detail. On Page 6, we have the P&L for our Chilean operation. When we look at our performance in the quarter, revenues remained flat quarter-on-quarter with a better fee income in the wholesale segment despite of a lower inflation-linked revenues for the bank. Net provisions for credit and counterparty risks increased slightly, but still in a satisfactory level of 0.7% of total loans. The main driver for the decreasing result when compared to the previous quarter was higher operating expenses. Due to incentive payments on our sales force that takes place at the beginning of each semester and came a bit higher due to our good performance in retail banking.

Looking at the first 9 months, we see good operational trends throughout the P&L. And the 2 main points are high revenues as the wholesale, starts to stabilize in our retail business, keeps its positive trend both on credit and commissions. And the second, a market decrease in credit, reflecting the convergence to a more normalized level after strong but necessary adjustments made to the balance sheet in the first 2 years and a continued vigilance on control of our operating expenses growth, on which we will talk about a little bit more later.

Moving to Slide 7, we see the evolution of our credit portfolio here in Chile. Similar to what we have seen in the past few quarters, we're still lagging behind the overall market, but building a positive trend on the margin. On retail, we continue to see a good performance on consumer credit, especially in installment loans, where we grow 2x the rate of the Chilean market on a 12-month basis. And as a positive feedback for the strategy and platform we have -- we'll be using in our retail businesses.

On the wholesale side, although still lagging competitors, we begin to see some growth at the margin as our effort to improve diversification and reduce certain exposures come closer to an end. To give you a little bit more insight on this effort, please let's move on to the next slide.

On Slide 8, we separate our commercial loans into 2 categories: our core portfolio and our run-off portfolio. The second one is comprised of and represent the exposures we've determined back in 2016 to be misaligned with the risk appetite we set, both in terms of risk return and portfolio diversification. We have decreased this portfolio for about 80% since Legal Day One, an effort which amounts to CLP 1.5 trillion or about $2.3 billion, both actively through sales or passively through a natural run-off. Meanwhile, we have been growing our core commercial portfolio at an average of 2.9% per year since Legal Day One, a pace that has been increasing and tends to converge through the overall market growth. The selected deleverage that we have been commencing on previous call was another of our balance sheet and risk management efforts we have been taking on these past couple of years to provide us for a more solid and sustainable path of growth.

Now moving to Slide 9, we see some detail on our performance on provisions for credit and counterparty risks. Here, as I mentioned before, we continue to see what is a more normalized credit cost behavior with a level of credit risk that is within the 0.7% to 0.9% that I've been mentioning on our previous conference calls and that I believe to be our medium to long expected range, although some volatility on this line could still come given both the nature of our portfolio and the adoptions of changes in regulatory requirements.

Going to Slide 10, we see the trends on our main credit quality indicators. We continue to see a comfortably provisioned portfolio with a marginal improvement in the liquidity rates, both in our commercial and our mortgages portfolios, and a small increase in our consumer portfolio due to seasonal effects. If we take a look at NPL operation metrics, which better isolates the effect of portfolio growth, we are also presenting an important improvement for another consecutive quarter and reaching our lowest level since Legal Day One as detailed in our MD&A report.

Moving to Slide 11, we'll now discuss our results to the bank in Colombia. Results in Colombia in the year continue to be neutral through our consolidated net income as we expected and have been mentioning in our previous calls. In Colombia, we're still turning portfolio mix to reduce concentration and improve profitability while this low economic activity presents further challenges, all reflecting slow dynamic on client revenues. This is compensated by strong results on the banking book as low interest rates reversed

[Audio Gap]

of the losses we reported during the past monetary cycle as well as by lower credit costs. I would like to remind you that in Colombia, just as in Chile, we have taken important effort to reflect through the P&L to adjust credit risk exposures.

Lastly, we have been incurring lower hedging costs that are also product of low interest rates, narrowing the gap with the Chilean policy rates. Based on our current policy rates scenario, we expect this trend to continue into next year.

Moving to Slide 12, let's briefly discuss our capital adequacy ratios. At the end of the quarter, our regulatory capital reached 14.4%, above both -- 120% above regulatory minimum and the average of our main peers. This ratio is basically flat when compared to the second quarter as the effect of the increase in risk-weighted assets due to growth in our loan book was compensated by better core capital generation.

Looking at Basel III equivalent in order to keep you up-to-date with our views on the subject, our main assumptions for the impacts of the upcoming regulations have not changed from what we've been communicating to you over the past quarters. We are divesting intangible assets and net deferred taxes from our Q1 ratio and work with the assumption that incorporation of operational and market risk requirements are offset by changes in credit risk weightings. Under this scenario, we estimated a fully loaded 7.4% Basel III Tier 1 capital ratio, which leads to a maximum usage of Tier 2 instruments of 3.7% and is up to an estimated 11.1% fully loaded total capital ratio. We'll continue to keep you posted on the future developments of this topic and how we assess their impact on our capital plan.

Now moving on with the presentation, I'd like to give you an update on our estimated synergies, what we have captured so far in our P&L through our expenses.

Starting with Slide 14, we compare the evolution of our non-financial expenses with that of the financial -- Chilean financial system. Here, as we do in previous calls, we first adjust our baseline by excluding expenses recorded from Colombia as synergies from this merger come from consolidated operations in Chile only. Then we exclude provision expenses related to credit risk and non-recurring expenses in line with the reclassifications we do on our MD&A report. Lastly, we remove depreciation and amortization as these are more related to long-term income generation. If we apply the same methodology to the financial system as a whole, with data provided by our regulator and our main peers, we can compare the evolution of our cost base before and after the merger. As we see in the chart below, we have been growing expense at an average rate of almost half of what the overall market since the merger compared to the pro forma of both banks in 2015 that used to grow slightly above the market.

Now moving to Slide 15, let's assume that we and the market will maintain this current annual growth for the remainder of 2018. Under this scenario, if we compare it with our total expense growth, which we see on the top of chart, to what they would grow on average, the market rate, we can measure a gap and estimate synergies capture compared with how the cost for both banks should have been growing if the merger hasn't occurred, which is shown at the bottom of the chart. On this basis, we calculate a total of CLP 35 billion of synergies for the first 3 years since the merger, or about $50 million. As we finalize systems integration throughout the upcoming months and continue to emphasize cost control in our culture, we expect to continue to see synergies generation further ahead.

Now moving to the last part of our agenda before our Q&A, let's go through, once again, the steps we set out for the year.

So here on Slide 17, we list the main objectives we set for 2018 in our fourth quarter 2017 conference call at the beginning of the year.

In Chile, we continue to advance our systems integration and digital agenda, which has been consistently showing good results on our retail business as well as keeping continuous focus on cost control and sustainable results generation. We have satisfactorily seen a consistent expansion of our retail business and have likely reached an inflection point in our wholesale portfolio as risk and concentration adjustments we set out to do come closer to fulfillment.

In Colombia, we focus on implementing our business strategy for wholesale and retail as well as advancing our corporate culture agenda. I believe that this quarter represents another step ahead in the direction of consistent and sustainable results we've set out for.

Finishing the presentation, I would like now to open for any questions that you might have.

[Operator]

[Operator Instructions] We will now take our first question.

[Jason Mollin, analyst]

This is Jason Mollin from Scotiabank. Can you hear me?

[Gabriel De Moura, executive]

Jason, yes, I can hear.

[Jason Mollin, analyst]

Okay, great. So my question -- my first question is on the evolution of the profitability in the Chilean subsidiary. You talked about next steps in your presentation that you have been mentioning and you showed the growth in the consumer business and the profitability reached in the last several quarters in the Chilean subsidiary. My question is, it looks like the wholesale business there is still lagging, as you show, in terms of loan growth, perhaps profitability. If you are able to normalize that business, where do you see the return on equity? What would that take? And where do you see the return on equity in the upcoming year or 2? And then my second question is similar in terms of the Colombian operations. If you can talk about what needs to be done? You talked about writing the strategy or correct -- or implementing the strategy for the consumer and wholesale businesses there, where we're beyond breakeven now in Colombia. What will it take to get to the long-term ROE targets that you've talked about, I would say, in the 8% to 10% ROE range in Colombia?

[Gabriel De Moura, executive]

Okay, sure. Thank you for the question, Jason. First on the evolution of profitability here in Chile. When we did the merger, we mentioned that we saw potential for the operation in Chile to have a return between 16% and 18% return on tangible equity. If you take a look at the second quarter 2018, we reached that target of 17%, 16.9% to be more precise, during the second quarter. I think that this return is consistent to what we have seen on the Chilean operations before the merger. And especially after all the changes that we did in the portfolio in constructing the capabilities to growth. I think that we have the potential to achieve that in the future. Nevertheless, I think that we still need a little bit more time. I think that the returns that we saw in the first quarter and the third quarter of 2018 of between 13% and 14%, they are more alike to what is the potential of the Chilean bank on the short term. So we're still building capability. I think that all the investments that we did in technology, on digital, on people, they have built the operational leverage for the bank to grow its portfolio with a small impact on our cost base. That's why it's important for the bank to converge to the targets that we have in return on tangible equity to grow its wholesale portfolio. In terms of the retail, I think that we have an operation that is already aligned with the expectations of growth. Of course, we have not achieved the mix that we think is appropriate for this business. For that to happen, the retail bank needs to grow on those rates for a few years in order to create a better balance between retail and wholesale. Nevertheless, in order to receive the operational leverage things that we've been building in the bank, it's important for us to converge on the wholesale side of the bank. After the adjustments that we showed you on the portfolio, I think that we are ready to start growing this portfolio. This is -- I think that the ambition that we have for the next couple of years is to grow this portfolio more aligned with the market and then having the benefit of the gains of scale in Chile. In Colombia, as we mentioned before, I think that we are at least 1 year behind Chile in terms of the consolidation of the business model. We are still adjusting portfolio in Colombia, either through the wholesale portfolio and also in the payable loan portfolio that we have in Colombia. We are beginning to see a recovery on the retail bank. We have already implemented something -- some of the strategies that we have also set in Chile in Colombia. But in terms of its maturity, I think that we need 1 year or so to start to see better results. For Colombia to achieve a return on tangible equity of around 10%, I think it will -- I think that we're going to need a couple years down the road in order to see those levels of return. The macro scenario definitely helps on that as we see delinquency ratios stable and decreasing in Colombia in the near future. So that will help us to stabilize the cost of credit in a level below what we have seen in the last couple of years. So Colombia, a little bit behind, a few years down the road to see a return on tangible equity around 10%.

[Jorg Friedemann, analyst]

This is Jorg Friedemann, can you hear me?

[Gabriel De Moura, executive]

Jorg, yes, we can hear.

[Jorg Friedemann, analyst]

Okay. And I have 2 questions. The first one, one of your competitors provided some guidance about what they expect to have in terms of impacts from the group basis requirement for provisions next year. So just wondering if you would have any kind of indications also for us. And my second question, we noted your evaluation about the potential impacts of the new regulatory capital and their [Foreign Language] and your fully loaded would be slightly below 8%. So just wondering if you perceive this number as a number that potentially would limit your expected growth ahead. And what would be the ideal number for core capital that you would like to target in the future?

[Gabriel De Moura, executive]

Jorg, thank you for your question. Regarding group provisions, I think that's an important regulatory change here in Chile that will impact all the system. We don't have specific guidance yet for the market. But based on what you have seen in the industry, we've been hearing regulators and also the major banks here in Chile saying that the total impact for the industry will be something between $300 million and $400 million. We have roughly 12% of this market share. So I think it'll be appropriate to expect an impact for us between $36 million and $48 million in provisions -- in more provisions for credit next year based on this regulatory change. So this is probably the range that we're going to see the impact. As for capital, the new banking law is still in the process of being approved here in Chile. And within the next 18 months, probably, the CMF, which is the new regulatory body for banking regulations in Chile, will issue more detail on the adoption of Basel III requirements here in the local market. As I mentioned in the call, doing the adjustments, we will end with something around 7.4% in core equity Tier 1. I think that the minimum regulatory at the end of 2022, '24 will be something around 8% for us. And I think it will be appropriate for us to have a buffer of 20%. So probably, you're talking about us having a target of capitalization of something between 9% and 10%. For us to achieve that, the plan that we have is to converge the profitability of the bank and retain an important part of the core capital generation that we have. That's why, in terms of the guidance we have for the market for dividend payout, we estimate something between 30% and 40% dividend payout, probably 40% on the short term and the medium -- long term until the convergence of capital to having something around 30% in dividend payout. But we -- according to the plan that we have, it should be sufficient to accumulate something around 9.5% in said plan by the end of 2024, which is -- would be adaptation process that banks will go through in Chile.

[Jorg Friedemann, analyst]

That's very clear. And just one follow-up on the first point that you mentioned about the additional provision requirements. We also know that you constituted significant provisions for the Alto Maipo project and that you restructured some of, I know, days exposure. I think you sold a small part of it a couple of months ago. Could you just update us about where you are in terms of provisions for that project, Alto Maipo? Did you reverse anything already? Or are you still holding up where you see the construction efforts evolving?

[Gabriel De Moura, executive]

Sure. Regarding -- we don't tend to discuss individual provision levels, but to give you some background information about the provisions that we have, we didn't reverse any provisions specifically for the project that you mentioned. As the credit was restructured, any reversal of provisions or either further provisions will be made as we see construction coming along. So in 2018, we do not foresee any impact from this individual client. As we go through 2019, as construction goes through the project, probably you can have better news. But then again, we do see our provisions on -- especially on individual portfolio as a portfolio as a whole in specific case-by-case names. I don't think they have a major impact on our provision strategy.

[Operator]

[Operator Instructions] We will now take our next question.

[Alonso Aramburú, analyst]

Alonso Aramburú from BTG. Gabriel, I wanted to ask you about margins. We saw decline in margins both in Chile and in Colombia sequentially. And given the change in mix you're seeing in Chile, I would have expected at least to be flat. And given the interest rate hikes also in Chile, I mean, how do you see margins evolving over the next few quarters?

[Gabriel De Moura, executive]

Alonso, thank you for your question. We did have some volatility in margins between the last 2 quarters. More it was related to specific assets that we have that are inflation-related. Nevertheless, I think that probably for next year, we're going to see stable margins in Chile. We have 2 different effects in different some way -- directions is that you have a higher inflation and that will help us in terms of margins, especially because of our position in inflation-indexed assets. On the other hand, you have higher interest rates that somehow rebalance the portfolio with some marginal negative effect for us. Having said that, I think that both effects tend to net out. And probably what we will see throughout time in terms of margins is only based on mix. As I think that we are going more on the consumer side, probably, you're going to see changes in margins through that. But I do not expect expanding margins that are not driven only by mix. In Colombia, I think it's quite the same. We have stabilized our banking book in Colombia. I don't -- we are interest rate-neutral at the moment, especially because I think we are at the end of the cycle of monetary policy in Colombia. I think that the biggest impact then again for us in margin is our ability to reprice the wholesale portfolio at more competitive levels. I think there are price opportunities for us and also the same impact that we saw in mix in Chile, in Colombia, as we focus more on the retail market and change the mix flow of the bank in that sense.

[Operator]

There are no further questions at this time. Sir, please continue.

[Gabriel De Moura, executive]

Fantastic. Thank you so much for participating in our third quarter conference call. We'll see you next quarter. Take care.

[Operator]

Thank you. Ladies and gentlemen, that does conclude our conference for today. Thank you all for participating. You may now disconnect.