Credito Real SAB de CV SOFOM ENR

BMV:CREAL

Earnings Call Transcript

[Operator]

Good morning, and welcome everyone to Crédito Real's Second Quarter 2018 Earnings Conference Call. Crédito Real issued its quarterly report yesterday. If you did not receive a copy via e-mail please do not hesitate to contact us in Mexico City at [phone]. It is important to note that the presentation and MP3 recording referred to in this call will be available at www.creal.mx.

Before we begin the call today, I would like to remind you that the information discussed in today's call may include forward-looking statements on Crédito Real's future financial performance and prospects, which are subject to risks and uncertainties. Actual results may differ materially and the company cautions not to rely unduly on these forward-looking statements. The company undertakes no obligation to publicly update or revise any forward-looking statements.

With us this morning from Crédito Real, we have Mr. Carlos Ochoa, Deputy CEO. He will discuss on the more important strategic financial and operating aspects in the second quarter 2018. I would now like to turn the call over to Mr. Ochoa. Sir, please begin.

[Carlos Ochoa Valdés, executive]

Thank you, operator. Good morning, everyone, and thank you all for joining us today. Ángel Romanos, our Chief Executive Officer, excuses himself for not being able to participate in this morning's call.

I am proud to announce the result of a positive second quarter, setting new record high for our consolidated loan portfolio on the one hand, and maintaining the upward trend in our bottom line, mostly our financial margin and net income.

In terms of our business lines, Payroll loans was the best-performing this quarter. Instacredit [indiscernible] operation affected by the situation prevailing in Nicaragua, and Used Cars advanced in both Mexico and in the United States.

In the latter, even amidst a weak auto demand and a harsh immigration environment. One of the main drivers behind the good performance achieved this quarter was the resilient macroeconomic conditions in Mexico. With stable dynamics amidst uncertain environment resulting from the recently concluded Federal elections and the ongoing NAFTA negotiation process. Regarding the former, our operating activities and [indiscernible] approach, especially for the Payroll loan segment, remain unchanged as we have yet to observe any groundbreaking development in the industry or any factor that might have a material adverse effect on the company financial condition. In fact, we find positive for our company and the industry most of the preliminary standpoints on economics and the -- of the [indiscernible] President-elect as some of the policies he holds are oriented to boost the internal market.

Moving into the quarter results with greater detail, we generated MXN 1.8 million of financial margin this quarter, up to 30% from the same period last year, making it yet another consecutive quarter of growth. These results were largely attributed to the growth in the consolidated loan portfolio and the execution of our funding cost pass-through strategy, which more than offset the effects of interest rate hikes in Mexico.

Going down in the P&L. The second quarter 2018 consolidated net income posted an annual increase of 9%, reaching almost MXN 460 million, where the main driver behind the -- was the implementation of our strategy oriented to the incorporation of high-quality assets, which primarily stems from the associates of the Mexican -- of the -- Mexican pensioners during this period.

During this quarter, our consolidated loan portfolio increased by 34% and 7% compared to second Q '17 and third Q '18 {sic] [ '17 ], respectively, amounting to MXN 33.6 billion. As for the results by the business segment, the payroll loan origination increased 13%, reaching almost over MXN 1.5 billion, following our commercial endeavors to support the continuing addition of clients with proven credit records and the stable income.

For Instacredit, loan origination amounted to MXN 740 million, but it is expected to regain traction with the ongoing efforts to improve origination standards. The Used Car segment's loan originations was MXN 783 million, mainly attributed to the origination in Mexico, while recording a resilient performance in the U.S.

Another development, our shareholders meeting approved the adoption of the nonregulated, most-important financial institution regime. As mentioned in this quarter's earnings release, this decision will not affect any way Crédito Real's corporate structure, reporting practices, business operations and our communication with investing public.

Also, we launched Crédito Real USA merger between Don Carro and Crédito Real USA finance, previously known as AFS Acceptance.

In order to expand our brand and deepen our market penetration in the United States and better differentiate our financial products from our competitors. Once fully implemented, these enhanced operation will bring further support to our operating efficiency endeavors and contribute to impose the origination of credit.

On another note, we are pleased to repeat for fifth consecutive year the certification of Socially Responsible Company from the Mexican Philanthropy Center. These awards reflects our commitment to align our practices to the best interest of the environment and the communities where we operate.

The results achieved so far this year encourage us to keep moving towards the goals set at our 2018 guidance, while remaining aware of the opportunities posed by the reconfiguration of the federal public administration landscape in Mexico. Nevertheless, the positive results of this quarter are overshadowed by the irreparable loss of Francisco Berrondo Lagos on July 14. I have no words to describe the feeling of emptiness left by Paco's departure. His name will remain perpetually etched in Crédito Real. May he rest in peace.

Moving to the financial information in more detail. Regarding the interest income during this quarter, we raised interest income of MXN 2.6 billion, increasing 30.5% compared to second Q '17. These variations were mainly driven by the -- both the growth and the performance of SMEs, Used Cars, Used Cars in Mexico and the Payroll businesses.

Regarding the expenses, the average cost of funds increased to 11.4%, an increase of 10 bps when compared to 11.3% in the second Q '17 attributed to a higher total debt and the increase in the Mexican reference rate. The financial margin increased 30.4% to MXN 1.7 billion. We now see -- we now fully see the effect of the repricing of all of our products that took place in the last couple of years. Though, our international businesses contributed about 34% to the consolidated financial margins.

Provisions for loan losses reached MXN 40.4 million -- MXN 455 million during this quarter, representing 5.4% of the consolidated loan portfolio. The MXN 173 million increase compared to the second quarter of '17 was primarily attributed to portfolio expansion and the Instacredit business mostly because of the decrease in both Nicaragua's portfolio and origination.

The cost of risk during this quarter remains stable at 5.4% compared to the 5.3% (sic) [ 4.6% ] in second Q '17. However, due to the recovery of the charge-off accounts, which amounts MXN 75 million, the provisions line would have decreased to MXN 380 million. Therefore, the cost of risk, net of these collections and passive charges, would be around 4.5%. Commissions and fees collected decreased 7.5% during the second Q of '18 to MXN 194 million compared to the second Q of '17, integrated by at MXN 140 million and MXN 44 million commissions collected from Resuelve and Instacredit, respectively.

Administrative expenses reached MXN 907 million during the second quarter of '18, showing an 50% increase when compared to MXN 781 million in the second quarter of '17. The addition of MXN 126 million was driven by MXN 103 million increase in expenses associated to the portfolio expansion of the businesses in Mexico, and MXN 36 million increased in the Central American administrative expenses due to the business organic growth. These were partially offset by MXN 8 million decrease in the debt issuances expenses, and a MXN 5 million decrease related to the consolidation of the collection process in the businesses in the United States. This quarter, the net income reached MXN 459 million, showing an increase of 8.7% year-over-year.

Regarding key financial ratios, during the quarter, ROE (sic) [ ROAE ] stood at 12.5%, while ROA (sic) [ ROAA ] was 4.1%, excluding the perpetual notes, which, principally have the equity treatment and is registered in the company's equity, ROE (sic) [ ROAE ] reached 17.5% in the second quarter of '18.

This quarter the efficiency ratio decreased to 44.6% compared to 49.1% in the second quarter of '17. This quarter, the capitalization ratio reached 44.6% compared to the 35.8% in the second quarter of '17. Excluding the perpetual notes, the capitalization ratio reached 32.1% in the second quarter.

As of June 30 of this year, Crédito Real consolidated loan portfolio totaled MXN 33.6 billion up 33% -- above 33% when compared to the same period last year, driven by the double-digit growth in SMEs, Used Cars and in Mexico and the Payrolls. It is worth noting that notwithstanding the current environment of high inflation and rising interest rates, our loan origination was higher this quarter compared to the second quarter '17 and the third quarter of '18.

Our Payroll portfolio increased by 35.3% to MXN 22.7 billion, supported by the pensioner segment growth, which represented 40.5% of the total Payroll origination during the quarter.

Almost 80% of the Payroll loans originated during the quarter derived from our 3 main distributors in which we own equity.

In addition, the NPL decreased from 1.5% in the [ second quarter of '18 ] to 1.2% in the second quarter of '18.

Our SMEs portfolio increased almost 80% year-over-year, totaling MXN 2.9 billion as of the second quarter of '18. Also, the NPL decreased from 2.7% in the second quarter of '17 to 0.8% in the second quarter of '18.

Our Used Cars portfolio in Mexico reached almost MXN 800 million at the end of the second quarter of '18. That shows an increase of almost 50% year-over-year, while the origination amounted for MXN 431 million. This quarter, the NPL was 0.7% compared to the 1.3% for the same period last year.

Our Used Cars business in the States reached MXN 2 billion at the end of the second quarter of '18, increasing almost 7% year-over-year. Origination for the quarter amounted MXN 352 million, while the nonperforming loan ratio decreased 1.3% in the second Q '17 to 0.5% in the second Q '18. Instacredit's loan portfolio reached MXN 4.7 billion during the quarter, showing an increase of 18.2% year-over-year with an NPL of 6.4%. The increase in the NPL is mainly due to the deterioration of the Used Cars business in the region and the Nicaragua portfolio.

The line others, which is integrated by Durable Goods and Group Loan businesses, registered a loan portfolio of MXN 581 million during the quarter, a 41% increase year-over-year, and the origination reached MXN 1.4 million, increasing 3.8% year-over-year, both driven by the Loan Group business. In relation to asset quality, this quarter, the consolidated loan nonperforming loan ratio was 1.9%, decreasing 30 basis points from the 2.2% recorded in the same period last year. It is important to highlight that Crédito Real's nonperforming loan ratio remained way below the average industry. With this, I conclude my remarks. And now, let me turn back the call to the operator to open the line for Q&A.

[Operator]

[Operator Instructions] Our first question will come from Ernesto Gabilondo from Bank of America Merrill Lynch.

[Ernesto María Gabilondo Márquez, analyst]

Two questions from my side. And the first one is, we continue to see strong loan growth but the NII has been strong, but below the loan growth. So do you think this trend should continue in the next quarters? Or what should be the drivers behind to have NII growth more [indiscernible] related to more growth or even above? And my second question is on asset quality. We continue to see the cost of risk above 5%, as you explained Instacredit was affected by the Nicaragua operation, but when do you expect this cost of risk to be finally trending down to the levels you have mentioned before of 4.5%?

[Carlos Ochoa Valdés, executive]

Ernesto, thank you for call. Well, firstly, I mean, in terms of the -- let me address your first question in terms of the yield. Yes, I mean, one of the good things about the concentration that we now currently have on the pensioners segment in the Payroll business is the asset quality. That's the best-in-class asset, the best asset we currently have. So, yes, it's true that, that puts pressure on the yield because the interest rates that we charge for the pensioners are lower than with the rest of the products. But however, that helps you on the other hand with the provision, when it comes to the provisioning, improving the asset quality overall. Therefore, we feel very comfortable with that one and those are driving the growth rate above the average.

Now when it comes to the NPS and the cost of risk in general terms, I would say, that, yes, if you look there, the cost of risk has been stable over the last 3 or 4 quarters above a -- in the range of 5.2% to 5.4% or in the ranges that you see this quarter. But once the yields absorb -- once we view net the cost to risk of the other income that generates the cash collected charge of accounts, that gives us the 4.5% that we feel comfortable with. So I think there is meaningful improvement when it comes to Instacredit. Yes, we still have to see how the situation in Nicaragua level out, but I don't see the cost of risk getting worst then it is -- that it currently is, especially with the world rate that we are experiencing. I don't know if this answers your questions?

[Ernesto María Gabilondo Márquez, analyst]

Yes, Carlos. Just follow-ups on these. What should be -- I don't know if it will be stable cost of risk, higher NII growth and lower OpEx to achieve finally the double-digit growth because if we look to the loan growth it has been very good. So what is missing on the equation to have finally the double-digit earnings growth in Crédito Real?

[Carlos Ochoa Valdés, executive]

Well, we are almost there, we're almost there. We are real shy of the 8%. So we are almost there. And it's also important to bear in mind that the reference ratio in Mexico increased during this period over 70 basis. So that continues to affect. Also, if you look at the percentage of the financial margin that came from our more profitable products, which are the -- those abroad, those products outside Mexico. Today, they are represent 35%. So once that we reach to a normalization of 40%, I think that we'll be there.

[Operator]

[Operator Instructions] Our next question comes from Nik Dimitrov from Morgan Stanley.

[Nikolai Dimitrov, analyst]

I have a couple of quick questions. The first one is going to be on the U.S. operations, and if I remember correctly, you've previously stated that the business will become profitable probably by year-end. And I just want to double check whether we are still on track for that happening. And my second question's going to be on Instacredit. If you can tell us where you are in terms of restructuring that business? Obviously, as quality deteriorated there, you tightened underwriting standards, we are seeing some of the kind of the -- some of the metrics moving in the right direction, but my question is going to be, are we, kind of, done with restructuring there? Or there is more to come?

[Carlos Ochoa Valdés, executive]

Nik. When it comes to Used U.S. business, I mean, we are still struggling on the Don Carro part on the commercial side of the business. That's honestly -- the challenges that we've been facing over last the 1.5 year when it comes to addressing our customer base and the harsh environment from our -- for our customer base, that has affected us and that continues to be the case. However, the positive part of the story is that when you look at the other business, the AFS -- the previously known AFS business, it's already profitable, that one. So we're very proud of what we have accomplished so far when it comes to AFS. And we will continue to struggle with Don Carro, but aiming towards our goal of making both of them profitable by year-end. Now when it comes to Instacredit, I mean...

[Nikolai Dimitrov, analyst]

Got it.

[Carlos Ochoa Valdés, executive]

Excuse me?

[Nikolai Dimitrov, analyst]

Yes. Please go ahead.

[Carlos Ochoa Valdés, executive]

So -- okay. When it comes to Instacredit, we're not restructuring. I mean, basically, the problem over there was one particular problem, which was the -- as we mentioned before, the Uber drivers in the region in Costa Rica in particular, that led us to be more restrictive in terms of loan origination. And now the situation that's being prevailing in Nicaragua over the last -- since April, I mean, that has led to -- has stopped originating loans over there. Basically, what we're doing in Nicaragua is basically collecting the portfolio, which amounts roughly to $35 million. And we have been -- we've been very active on that end, but we are not originating new loans over there. So that doesn't help you when it comes to the performance of the group -- to the overall performance of the group. We expect to things to improve in Nicaragua. And as for the rest of the countries, in particular in Costa Rica, I think we're already on track to regain the dynamics that we've seen in that business in the previous months or quarters.

[Nikolai Dimitrov, analyst]

Okay. If I can ask one last question. So your SME lending almost doubled year-over-year, it was up like 80% or something. What is driving that increase? Is it really demand for SME loans? Or is it kind of a considered effort on your side to increased exposure to SMEs? Or is it a combination of both [indiscernible]?

[Carlos Ochoa Valdés, executive]

No, it's -- yes, it's demand. It's mostly demand. I mean, we are seeing a big opportunity over there, I mean, especially in this time and especially they're finding new products for this particular segment, and we are very confident that, that one is going to be one of the drivers of growth for the company the years to come.

[Operator]

Our next question comes from Natalia Corfield with JPMorgan.

[Natalia De Melo Corfield, analyst]

I have a couple of questions. My first one is with regards to origination. As you mentioned in the call, you have been originating at a very strong pace. If we look at the first half of 2018, you originated 59.2% of the total that you did in 2017. So -- and if you could you give me like more -- what can I expect for the second half? Is this going to continue to be strong like this? And how are you going to fund this strong growth pace? And if you could also let me know how much you expect in collections for the second half that would be very helpful too.

[Carlos Ochoa Valdés, executive]

Natalia, thank you for your questions. I mean, we're very pleased with the growth rates and with the originations that we've experienced this year. It's important to mention that the dynamics of the business, especially when it comes to the Payroll business, changed when we introduced the pensioners segment. And that changed in mostly over the first half of the year because if you remember when we didn't have that segment -- when we didn't add -- when we didn't tap the pensioners segment, what happened during the Christmas break, in particular, is that we had a disbandment the of sales forces that took us a few weeks of the first quarter. So there was negative seasonality associated to these. With the pensioners' segment, our origination remains stable year-long, and that continues to be the case for the -- not only for the Christmas break from but for Easter break and the summer break. But that's why that continues to be one of the most important drivers of growth in the Payroll business, and we expect that to continue for the second half.

We don't see a reason for that trend to change in the next few months. When it comes to funding's, I mean, if you look at the -- first, it's important to bear in mind that the most important source of collection that the company has, the most important source funds that the company has is the collection itself. We generate so much cash that it allows us to grow at a pace of, I don't know, probably, around 5% to 10%, simply by the interest rate that we charge and the asset quality that we currently have. So that will be the main source of funds. And additionally, I mean, what we've seen is, given the efforts that we've made in the last quarters, especially with the securitization and tapping the international markets, both with perpetual and the Swiss market, I think there are a wider source of funds that we could be recurring to in order to finance the remaining of the year.

[Natalia De Melo Corfield, analyst]

Okay, Carlos. And in terms of the collection. So how they -- like much do you have in the first half? And how much do you expect to have in the second half?

[Carlos Ochoa Valdés, executive]

Natalia, those are specific questions. We can address it in separate. I will tell Renata to send you all that information.

[Natalia De Melo Corfield, analyst]

Okay. And if I may, do you have the number offerings -- the available credit lines that you have? Or do you prefer me to take that offline too?

[Carlos Ochoa Valdés, executive]

Yes, we can take it that offline. I mean, I could give you probably the available bank lines. I think it's at -- it's I don't know roughly something around MXN 2 billion that we have on drawn bank lines at this moment. But in any case, Renata is -- we're going to provide you with exact information.

[Natalia De Melo Corfield, analyst]

Okay. Last question on the -- in provision expenses, something that caught my attention in this quarter, is that the line orders that is the -- that refers to your Durable Goods and Group Lending business, there was -- there have been an increase in the provision expenses there. And as I understand, I think, Durable Goods, you are discontinuing it. So what has been driving this -- the higher provisions in those segments?

[Carlos Ochoa Valdés, executive]

I mean, if you look at the -- first, if you look at the growth rates in that particular segment year-over-year, it was above 40%. So that increase is explained by -- partially that increase is explained by portfolio expansion and as well for -- I think when you compare that to the first quarter, there was a reallocation of provisions, but I will address that one in -- offline with you.

[Operator]

Our next question comes from Manuel González from Signum Research.

[Manuel González, analyst]

I was wondering if you could give us some color on your perspectives for the new administration in Mexico, particularly in the part of Payroll loans, given that the new President mainly has addressed that he wants to [indiscernible] educational reform. And [indiscernible]

[Carlos Ochoa Valdés, executive]

Excuse me, I didn't get the last part of your question.

[Manuel González, analyst]

Oh, yes, sorry. I'm also -- I was wondering if you could give us some color on the evolution of the SMEs sector? I mean, are you planning to give it a little more weight on your share, on your income share?

[Carlos Ochoa Valdés, executive]

Yes. Well, first, regarding what we expect for the next few -- for the next couple of years, at least for the next couple of years, I think, is that the new administration is going to promote internal consumption and that has been to be positive for the country overall. When it comes to specific policy intentions that the new administration has, I mean, first, they don't seem to affect our customer base in the sense that all the changes that he intends to do with the public administration, with the public servants, are not addressed to, especially those which you know, the wages cut and things like that, are not addressed to our customer base. It's important to bear in mind that we work only with unionized government employees. And if you look at the market they -- what they intend to do in the next few years is that actually they are -- the unionized basis are not going to be touched or affected negatively any way. When it comes to specifically about the educational reform, what you -- what we've heard so far is that they want to review the evaluation of the teachers. I think that they are not comfortable with a -- as far as I can understand what they intend to do, is that they are not comfortable with the way they are evaluating the teachers. And that's most likely the one that is going to be affected and not the most structural part of this. That's our view. When it comes to the SMEs, I mean, probably the most important part is that they represent roughly 60% of the Mexican GDP. So that give us -- that gives you an idea about the potential of this segment. And definitely, if we have an interesting product for them, it's definitely something that we'll continue to grow.

[Operator]

Our next mission comes from [ Ramon Gomez ] from [indiscernible].

[Unknown Analyst]

I have 2 questions. One is -- first, is the situation in Nicaragua going to go worse rather than better in the short term? It seems to me that it's going to have a -- the way of Venezuela, which has gone from worse to worse and worse. So what's your vision on that? I mean, if you -- I think you have much more view than us on what's happening there. And the second one is what is the practice of the buyback program that you have because you did something and then, I think, you stopped. Could you tell us about this as well?

[Carlos Ochoa Valdés, executive]

Yes, Ramon, thank you. No, first when it comes to Nicaragua, it's definitely a challenging situation over there. As you mentioned, you know in these cases, normally things tend to go worse before improving. So basically, the decisions that we took in place was on the one hand is stopping the whole origination, and that's what we did, and focusing on the -- and focusing only on the collection part, and being very sensitive about the collection process with the customers in order of not deteriorating -- the over deteriorating the portfolio. I think that strategy is paying off. Unfortunately, we cannot afford to keep all the employees, all the salespersons, so there's been some downsizing on that end, but only on the commercial side. And as I was telling you, we keep focusing on the origination and being very sensitive of our customer base and about the situation that they are living. Let's hope that this improves in the near term. Last time I see it, I think, that they are intending to start talks or something. So let's hope for the best in that situation.

When it comes to the buybacks, yes, we were active for 2 or 3 weeks. I mean, we bought over 2 million. We were active for, I don't know, 2 or 3 weeks as I told you, and the reason for stopping that one was for our quiet period, I mean, before releasing this quarterly result. And we still have to decide whether we continue to -- with the buyback program in the next week or let's see the dynamics of the stocks.

[Unknown Analyst]

Of the market itself?

[Carlos Ochoa Valdés, executive]

Yes, that's right.

[Operator]

Our next question comes from Claudia Benavente from Santander.

[Claudia Benavente, analyst]

Carlos, I have 2 questions. The first is about loan growth. So far [indiscernible] have you posting for entire portfolios, materially above your first Q 2017 guidance of 10%, 20%. So I was wondering what should we expect on the second half. And my second question is regarding your proficient with development banks. How much of your stance currently been obtained from them? And how do you see this position could be affected in the back of government's project at [indiscernible] to make more robust development bank? And that's it for my side.

[Carlos Ochoa Valdés, executive]

Well, Claudia -- well, when it comes to the guidance, I mean, you have to -- the beginning of the year we guided 15% to 20%, and clearly, we're exceeding that one. So I think that we're going to be on the higher end of that -- at least, we are going to be on the higher end of that guidance. If things continue during the second half, which we don't expect any changes, we would expect to be on the top end of that guidance. Let's hope for that. When it comes to development banks, I mean, right now we work with NAFIN and we are in talks with a BID. And with NAFIN, we had a [indiscernible] which we've had for so many years already of worth -- MXN 1.5 billion. And we don't expect that one to change with the new administration. And well, I'm not sure if that addresses your question?

[Claudia Benavente, analyst]

Yes, or maybe you have, I don't know, like read -- or have a better idea of how this like work in process with the development banks is going to go -- maybe they are -- it's even going to become more robust, I don't know, maybe you can even expect that. The credit lines can increase, but what do you...

[Carlos Ochoa Valdés, executive]

No, I don't think so. I mean, we have no reason to believe that the NAFIN line could -- would suffer any changes in the next year or because of the change in the administration. I think there's a lot of uncertainty among them as well because they are -- I mean, one of the proposals of the new administration is to move them to Torreón in the northern part of the country. So, I don't know how that's going to affect them, but we haven't heard anything different from there.

[Operator]

[Operator Instructions] Our next question comes from Jon Hale from Morgan Stanley.

[Jon Hale, analyst]

Most of my questions have been answered, but can you maybe give any thoughts on the M&A environment and the usual question that comes up every quarter is any thoughts about further purchases of participation in businesses that you already own? Maestro and so forth?

[Carlos Ochoa Valdés, executive]

Okay, John, good to hear you. Well, actually, we can -- I mean, it's -- the M&A, it's a [indiscernible] part of the company. However, we closed that one this year because all of the changes, not only the election here in Mexico, but also NAFTA renegotiations and else. So basically, all this is to answer you that right now, we don't have anything on the pipeline.

[Jon Hale, analyst]

Okay. And in -- even in some of those agreements where it's part -- to buy Maestro at this point, it's just going to be on hold?

[Carlos Ochoa Valdés, executive]

Yes. Right now, that's not going to change.

[Operator]

Thank you. At this time, I am showing no further questions in the queue. And the Q&A session now concludes. Thank you for being with us today. You may now disconnect.