Banco Santander Mexico, S.A.

Good day, everyone, and welcome to Banco Santander, Mexico's fourth quarter 2021 earnings conference call. Today's call is being recorded. Following the speaker's remarks, there will be a question and answer session. I'd now like to turn the conference over to Mr. Hector Chavez, Managing Director and Head of Investment Relations, who will make some opening remarks and introduce today's other speakers. Please go ahead.

Thank you. Good day and welcome to our fourth quarter 2021 earnings conference call. We appreciate everyone's participation today. By now, you should have access to our earnings press release and the presentation for today's call, both of which were distributed yesterday after the market closed and can be found on our investor relations website. Presenting on our call today will be Didier Mena, our CFO. But before we begin our formal remarks, allow me to remind you that certain statements made during the course of this discussion may constitute forward-looking statements which are based on management's current expectations and beliefs and are subject to a number of risks and uncertainties, including the COVID-19 pandemic. That could cause actual results to materially differ, including factors that could be beyond the company's control. For an explanation of these risks, please refer to our filings with the SEC. and the Mexican Stock Exchange. Didier, please go ahead.

Thank you, Hector. Good morning, everyone, and good afternoon to those of you participating from Europe. I hope you had the opportunity to enjoy the holidays and my best wishes for you and your families in 2022. Our results for the end of the year showed that the second half was a much healthier operating environment where we were able to boost business dynamics by designing and launching innovative products and services as part of our strategic priorities. This is in line with our mission of contributing meaningfully to the progress of people and businesses in our country. During the fourth quarter, we continued with a strong balance sheet and liquidity position. We also started to see positive performance in total loan volumes, mostly boosted by commercial loans, with corporates and government loans increasing close to 18% and 14% year-on-year, respectively. In individual loans, we continue outpacing the market, supported by sustained market share gains in mortgages and other loans. In consumer, we are now seeing signs of a sequential recovery, especially in credit cards, as economic activity starts to gather speed, coupled with the effort we have made within our commercial network as well as through the campaigns we have launched throughout the year. In terms of deposits, we continue growing at a solid pace, improving our funding mix by favoring demand deposits over term deposits. In fact, Our current deposit mix with 72% demand and 28% term is one of the best blends we have ever had. Also, it is worth to highlight that the contribution of individuals has increased considerably in both demand and term deposits. Currently, the contribution of individuals in total deposits represents close to 39% compared to 24% in 2016. On the other hand, our individual and corporate demand deposits continue expanding at high single-digit rates year-on-year, underscoring the success of our loyalty and customer acquisition strategies, as well as our focus on lowering our funding costs. In terms of asset quality, MPOs continue their downward trend, reflecting our prudent risk management, which resulted in a healthy loan portfolio, along with an improvement in the country's economic activity. we're pointing to a more normalized level of provisions and cost of risk as our operating environment becomes healthier. As for profitability, our ROE was shocked by an environment of limited growth in volumes, along with still low interest rates and higher provisions as a result of the additional reserves that we had to build throughout the year. On the bright side, we're optimistic, as we're expecting to see a turnover from this point forward, on the back of a better operating environment, stronger loan demand, and higher interest rates, coupled with our efforts to maximize profitability along 2022. Also during the quarter, our parent company, Grupo Santander, increased its ownership in our bank to slightly more than 96%, which leaves 3.8% of ownership with minority shareholders. The charts on slide four show that GDP is expected to continue recovering in 2022, but at a slower pace than in 2021, as the fiscal and monetary stimulus in the U.S. is likely to be gradually withdrawn, but while domestic demand continues to improve. According to the Mexican Institute of Social Security, 2021 registered the highest jobs increased ever, with more than 846,000 jobs created. As of now, we have recovered pre-pandemic formal employment levels. Macro indicators have also shown better performance, with most of the economy's components nearly achieving pre-pandemic levels. Industrial activity and private consumption have been recovering gradually. By contrast, investments have been lagging due to reduced business confidence. Additionally, with inflation remaining high and above the Bank of Mexico's target range, we forecast inflation of 4.3% for 2022 and 3.8% for 2023. We're expecting a high reference rate of 6.75% for 2022, and 7.25 for 2023. That said, we are more optimistic about the outlook for 2022, while remaining well-positioned to contribute to the economy's turnaround, supporting our customers, whose loan demand is starting to strengthen. Volumes in December continue to improve, increasing roughly 5% year-over-year after four consecutive quarters of negative annual growth. The year-on-year growth was mainly driven by the improvement in consumer loans, which started to show sequential recovery hand-in-hand with economic rebound. And partially offset by corporates, demand levels are still soft, but showing positive signs. System deposits continue their strong rebound, growing close to 6% year-on-year, with demand deposits increasing 9% year-on-year. Please turn to slide six, where we would like to give you an update in our growth strategy. Our strategic priority remains the same, provide the best customer experience in Mexico's financial services sector, leveraging the latest digital tools and improving processes to accelerate our technological transformation while we continue positioning the bank as a market leader in value-added products that attract and retain additional loyal clients. With that in mind, I would like to point out some milestones that we achieved throughout 2021. In auto loans, we continue to rapidly expand our business, gaining close to 7 percentage points, reaching a market share of over 12% as of December. These results are fueled by our alliances with leading automakers in the country, together with our Super Autos Santander platform, which integrates the commercial and insurance offerings in one place, allowing us to provide online pre-approval in less than 10 minutes. All in all, we are the fourth largest player in the market, and if we maintain this pace of growth, we will soon move up the ranking and be among the top three players. As a reminder, our goal is to achieve a natural market share of 13% to 13.5%, and we aim to accomplish this in the coming months. In mortgages, our strong performance reflects the success of our products, Hypotheca Plus and Hypotheca Free. as well as our Hypothek Online platform and the redesign of the customer's journey, whereby we eliminated significant pain points in the application and approval process. These strong results support our position as the second largest mortgage originator in the market, allowing us to gain market share. Digitalization of our products and services remains a priority, and we continue investing in technology. This includes collaborating with fintechs and other tech companies to introduce faster and more convenient digital tools and functionalities that enhance the customer experience, increase customer engagement, and drive more transactions. Furthering our progress on this front is very important for us with digital sales representing 56% of total sales, up from 41% a year ago. We also had 5.5 million digital clients as of December, increasing 10% year-on-year. In addition, in early September, we launched our new and innovative credit card, Like You. This card is 100% digital, one of the safest in the market, and is designed for any type of customer, allowing each client to tailor the card according to their individual preferences. It is worth mentioning that Like You is the first card in Mexico based on the concept of financial demand, which means that the customer only pays for the benefits they need. Our goal for 2022 is to almost double account acquisition, focusing on the profitability and health of our portfolio. Also this year, we will attack the open market with strategies that allow us to grow the portfolio with sound asset quality. Since its launch, we have issued over 354,000 like you cards, exceeding our own expectations. Currently, 93% of like you card holders remain fully digital. while 70% have also requested the plastic version, illustrating the higher adoption level of a digital product. We are quite happy with the results and market acceptance of the credit card so far. Another milestone we're proud to share with you, thanks to the progress in implementing the bank's ESG practices, Santander, Mexico, was the only bank in the country included in the S&P's Sustainability Yearbook 2021. Additionally, We were granted the industry mover emblem for surpassing the score we obtained in 2020 and representing the strongest improvement in the financial sector. Also, it is worth mentioning that we were once again included for consecutive year in the Sustainability Yearbook 2022. Besides, the International Finance Magazine recognizes us as the best financial inclusion bank and the most socially responsible bank in Mexico. In addition, we are glad to mention that we were selected as a member of the Dow Jones Sustainability Mila Pacific Alliance Index for the second consecutive year. For Santander, being sustainable means taking into account the communities where we are present, the people and companies that make them up, in order to generate continuous and profitable social progress at an economic, environmental, and ethical level. All these recognitions are proof of our strong commitment to sustainability and responsible banking agenda, not to mention our experience and good practices that are based on ESG benchmarks. As part of our mission of promoting financial inclusion, through Tuyo, we offer financial products and services to low-income sectors in Mexico. The majority of our customers are women entrepreneurs who are not part of the formal economy and who are generally excluded from formal financial institutions. The two-year customer support model currently comprises 84 branches, enabling us to directly support our customers where we have served to more than 279,000 clients. In addition, our customers have access to an online savings account that is open remotely by consultants, offering users mobile and online banking tools. We also launched new medical support services, helping contribute to the culture of prevention and facilitating access for our customers to specialist doctors, dentists, and laboratories. Our goal lies firmly in support Mexican families, ensuring they have the information and tools they need to manage their resources properly and take informed decisions in order to improve their economic well-being. We will continue making progress on this front as we remain committed to further operationally integrating the criteria, policies, and internal processes that drive the social and environmental performance as part of our mission. Turning to slide seven, total loans increased 6.9% year-on-year, outpacing the system and posting a 4.9% increase sequentially, underscoring our solid performance in consumer and credit card loans. Going forward, we expect to start seeing a better trend in these segments as our risk appetite increases, along with our ongoing efforts to drive mortgage and other loan growth. In addition, commercial loans are anticipated to strengthen due to the expected improvement in the economic environment. All in all, we expect to start seeing an upturn in higher yielding segments, which would support margin expansion while maintaining sound and sustainable asset quality, reflecting a portfolio that exhibits good behavior. On slide 8, you can see that individual loans are growing close to 10% year-on-year on the back of mortgages and other loans, while credit cards are starting to reverse their negative trend, reflecting a strong sequential growth. Our mortgage portfolio continues to expand at a solid pace, 16% year-on-year organically, almost doubling the market's growth rate. During the fourth quarter, around 56% of originations came from Hypotheca Plus products. which helps drive cross-selling of other products as well as build customer loyalty. In addition, through Hipoteca Online, which is our digital onboarding platform for mortgages, we have been able to process 95% of our mortgages completely virtually, allowing us to be more efficient in terms of response times and eliminating the need for our customers to visit the branch, all resulting in a much better customer experience. At the same time, credit cards are recovering growth, expanding almost 6% quarter over quarter. This encouraging performance is driven by our latest credit card launch, Like You. Thanks to the launch, we recovered sales and card activity rhythms with strong improvements in both acceptance and trust. Currently, almost 11% of total billing comes from Like You credit cards. Also, it is worth mentioning that November was the best month in terms of billing, increasing 37% month over month. We consider our campaigns and the benefits offered when using the Like You credit card during El Buen Fin had a positive impact, seeking greater usage of the new card. Through this new payment and credit value offering, we're confident we will acquire a significant number of users with our customer base, allowing us to grow steadily and organically in this market segment, and do so without compromising prudent risk management. Likewise, within consumer products, Otos has been showing strong growth. In just four years, Santander has positioned itself almost on par with our largest competitors. It is worth to mention that the last quarter, the gap that we had with the number three player was 456 basis points and now has been reduced to 172 basis points. We continue with this strong pace. We will be the top three player during this year. By contrast, personal payroll loans are still affected by weak demand conditions while also reflecting our cautious approach. Turning to slide nine, solid expansions in loyal and digital customers continues, achieving year-on-year growth of 7% and 10% respectively. In this highly competitive environment, we have maintained our focus on digital conversion while increasing digital transactions and sales. Further, the ratio of loyal customers continues to grow. with loyal clients now representing 41% of active clients versus 39% in the fourth quarter of 2020. The evolution of this ratio has been positive throughout the last years, as in 2019, it was standing at 33%. This clearly reflects our consistent improvement within our breadth of products and services, aiming to be the number one bank of our clients. On the other hand, I'm proud to share with you that our new Santander mobile app is being tested with friends and family, and we're expecting to do the official launch very soon. With this new app, we will be offering a variety of options, from everyday check-in to more specific needs, all in all, waiting to have one of the best apps in the market, providing the best customer experience. During the fourth quarter of last year, product sales via digital channels accounted for 56% of total sales, a significant increase compared to 41% a year ago. Digital monetary transactions also maintained an upward trend, reaching 43% for total, with mobile transactions accounting for 97% of total digital transactions versus 94% a year ago. In addition, mobile clients grew almost 10% over the past 12 months to over 5.2 million, driven by our promotional campaigns and incentives through digital channels. As shown on slide 10, commercial loans increased 5% year-on-year, driven by a pickup in corporate and government loan growth. As we have discussed in prior calls, during 2020, companies grew on their committed lines of credit in the face of uncertainty caused by the pandemic. Since the second quarter of 2020, we have seen normalized demand of credit and recently a pickup in demand. During the year, corporate loans increased at a double-digit rate year-on-year and sequentially by 18% and 24% respectively. Loans to government and financial entities also increased at a double-digit base, 14% year-on-year and 10% on a sequential basis. On the other hand, Mid-market companies posted a soft 3.5% year-on-year increase and remained flat on a sequential basis, signaling companies' still cautious approach to investments. SME loans remain affected by current circumstances. However, they're beginning to perform better, and we're putting more focus on alliances and campaigns to support the recovery of SME loan demand. We expect to see portfolio expansion going forward, reflecting our growing risk appetite in this segment. Moving on to funding on slide 11, total deposits increased 2.4% year-on-year and 2.2% sequentially. As in previous quarters, there continues to be a shift between demand and time deposits due to the decreasing interest rate environment experience in 2021. Nevertheless, we started seeing a sequential increase in time deposits driven by the recent hikes in the reference rate over the last couple of months. Demand deposits from individuals increased 8% year-on-year, supported by our ongoing efforts to attract this type of deposits. As a result, we have been able to reduce the cost of our demand deposits by 51 basis points year-on-year, beating the market's decrease in funding costs. Although we are satisfied with this result, we continue working to further reduce our funding costs as we make additional headway toward improving our deposit mix while lowering the cost of our commercial deposits as well, aligned with our strategy of focusing on prioritizing individual loans and foregoing certain expensive corporate deposits. As a result of this strategy, our total demand deposits from individuals have increased considerably during the last five years in both demand and term deposits, standing at 37% and 43% respectively, resulting in a 39% contribution of individuals to total deposits. Turning to slide 12, we have maintained very strong capital and liquidity positions. Our liquidity coverage ratio stands at 228%, representing a substantial buffer and far above the regulatory threshold. Our core equity tier one and capitalization ratios, as of December 31st, are 14.84% and 21.56% respectively. significantly above the minimum requirement established for systemically important financial institutions. On September 15th, the bank issued $700 million in subordinated notes, which gave us the opportunity to capitalize favorable market conditions. On December 8th, the bank announced its intention to pay in full the $500 million in 81 notes issued back in 2016, which were actually paid on January 20 of this year. This decision was made as we remain committed to manage efficiently our capital base. The impact of executing the call of these instruments is around 130 basis points in our total capital ratio. Also, during this quarter, anticipating rate hikes, the bank issued Two Cebures, one for 6.5 billion pesos at a fixed rate of 8% for seven years, and another one for 3.5 billion pesos at a variable rate of 5.3% for four years. Both transactions were priced at the best spreads we have issued. Our net loans to deposit ratio was 93% for the quarter, also reflecting our strong structural liquidity. As you can see on slide 13, our net interest income decreased 1.4% year-on-year, reflecting a combination of lower interest income from investment in securities and higher interest expenses for demand deposits partially compensated by lower interest expense for time deposits. Net interest margin decreased four basis points year-on-year to 4.46%. We expect to start seeing an improvement in NIM as higher margin segments begin an upturn coupled with higher interest rates. Please turn to slide 14. Debt commissions and fees rose 1.1% year-on-year and 7% quarter-on-quarter, mostly driven by a solid performance in financial advisory services combined with higher investment funds commissions as well as growth in insurance fees. On the other hand, credit card fees decreased 10% year-on-year due to bonuses and rewards that were paid to our customers in the quarter. Going forward, we expect a better performance in credit card fees as our ambitions for the like-year credit card are to increase monthly average billing while achieving a better composition of income. Turning to slide 15, gross operating income increased 2% year-on-year, mainly due to fee growth and to the solid performance in market-related income. as our markets team was able to capitalize on rising interest rates coupled with exchange rate volatility. On a community basis, gross operating income decreased 3.3% year over year, reflecting a higher base of market-related income and lower net interest income. Moving on to asset quality on slide 16, you can see that our NPL ratio showed a significant decrease of 90 basis points year over year to 2.18%, a level we have not seen since early 2020, with relevant improvements across our loan book. In addition, given the expected improvement in the economic environment, we expect to see the portfolio exhibit healthy behavior during 2022. Provisions in the quarter declined 2.2% sequentially, as two corporates prepaid the exposure they had with us. However, provisions increased 36% year-on-year, reflecting the low based in the fourth quarter of 2020. Going forward, we expect to keep provisions at more normalized levels, despite increasing our risk appetite in credit cards and SMEs. Our loan portfolio continues to perform well, with our cost of risk standing at 2.9%, remaining practically flat when compared with a year ago. Looking ahead, we do not see any deterioration that could impact any of the loan portfolio segments, so the cost of risk should remain below 3%. Turning to costs on slide 17, administrative and promotional expenses increased almost 14% year on year. It was mainly driven by the impact of the recently enacted outsourcing law and changes in the Mexican legislation regarding the profit-sharing benefit paid to employees, locally known as PTU. We have been reserving just one month's wage, and now, due to the regulatory change, we shall pay a limit of three monthly wages. The impact of these changes add to 959 million pesos. Excluding this impact on administrative and promotional expenses for the quarter would have increased 5.2% year-on-year, which is less than half the actual growth and 3.3%. for the full year. It is important to highlight our commitment to our IT transformation. Prior to the execution of our investment plan, IT expenses represented 9% of total expenses, and now they represent 14%. The combination of a soft growth period income and the significant increase in administrative and promotional expenses resulted in a deterioration of our efficiency ratio, which now stands at 56%. It is worth mentioning that the impact on expenses related to PTU and the outsourcing law only impact the fourth quarter of last year. We feel confident about the dynamics of the business and our disciplined cost control. Therefore, we expect to maintain cost growth below inflation along the year. Turning to profitability on slide 18, net income decreased 4% year-on-year to 5.2 billion pesos. mainly due to lower fees and higher expenses, partially offset by solid growth in market-related income and lower provisions. Donated income increased 8% quarter-on-quarter, supported by solid net interest income, lower loan load reserves, and a lower effective tax rate. Return on average equity was 12.9%, 181 basis points below the year-ago level. We are accumulating capital but the regulator's recommendation to limit the payout of 2019 and 2020 earnings. In fact, if we didn't have the current excess capital, our ROE would be 130 basis points higher, standing at 2.40% versus 11.13%. November 5th, we paid the remaining dividend amount associated with the restriction imposed by the banking regulator in Mexico. $0.28 per share, a total of $1.9 billion. Turning to guidance for this year on our next slide. We're expecting annual loan growth between 8% to 10%, with stronger performance in the retail segment, as we have reviewed over the presentation, but also with a gradual uptick in the commercial business. Total deposits, in turn, are expected to increase between 6% to 6% and 8%, we continue with our focus of improving our funding costs by bringing to the bank more deposits from individuals while trimming the cost of our corporate deposits. We expect asset quality to remain healthy despite our higher risk appetite in some business segments with cost of risk between 2.7 and 2.9 percent. In terms of costs, we're looking for an expansion between 3% and 4% as we continue investing in strengthening our digital capabilities. As for the tax rate, we're anticipating it to lie between 24% and 25%, considering the still high inflation rate expected for 2022. Taking all into account, we forecast net income to grow between 10% and 12%. Before going into Q&A, let me share with you some brief closing thoughts and perspectives. Our strategy will continue to focus on strengthening client loyalty and increasing digitalization for products and operations, keeping intact our ambition to become the bank providing the best customer experience in Mexico. We will continue working on our many growth initiatives, making new investments in the bank's transformation, mainly in IT and digitalization, while seeking efficiencies in other business lines. Although we have made progress in the operational transformation of our bank again this year, We're nevertheless mindful that we must pick up the pace. This concludes our remarks. We're now ready to take your questions. Operator, please open the call for the Q&A session.