Santander’s second LatAm engine

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By:
Rob Dwyer
Published on:

Santander’s Brazilian bank took lots of deserved acclaim when Santander released its global third-quarter results, but keep an eye on Mexico.

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While profits in the UK slipped by 13% in the first three months of the year, the bank beat estimates thanks largely to the Brazilian bank’s latest blockbuster result.

In the third quarter, Santander’s Brazilian business grew earnings by 20% year-over-year to reach R$3.1 billion and it is now the biggest individual contributor to Santander’s profits.

The rise of Santander Brasil is now well known. It can be traced to the appointment of its CEO Sergio Rial in September 2015 and Euromoney was one of the first to recognise Rial’s turnaround when we named the bank as the best bank in Brazil in July 2017.

The reasons for this were clear to us: between the first quarters of 2016 and 2017, the bank increased its customer base by half a million, to 3.7 million, and increased fees by 24.3%, revenues by 16.7%, net income by 37.3% and lowered non-performing loans by 40 basis points to 2.9%.

Digital transformation has been at the heart of the turnaround strategy and it helped to lower the bank’s efficiency ratio to 44.9% from 50.3% in just one year, and its return on equity (ROE) leapt to 15.9% from 12.6%.

Phenomenal

The bank’s momentum hasn’t faltered since this point. Santander has enjoyed 19 quarters of sequential earnings-per-share growth – an incredible achievement for any bank, but for one competing against two dominant players in a country suffering its worst recession it is a truly phenomenal result.

Santander has overtaken Bradesco to enjoy the second-best ROE in the country and is likely to reach Rial’s unofficial guidance of R$12 billion for 2018, announced at the bank’s 2017 year-end party – a projection that was met with more than a dash of sceptism in the market.

The price of this success is elevated expectations.

Rial gave guidance that the bank’s bottom-line growth will be “well in the double-digits” in local terms for the coming quarters, and pointed to a continuation of net interest margin (NIM) expansion – albeit at a slower pace as the mix effect from large corporates to consumer lending decreases in intensity.

However, a BTG Pactual analyst wrote a report with the words ‘losing stamina’ in the headline. Harsh.


The potential for outperformance of Santander Mexico could become crucial if Santander as a whole is to maintain its momentum 

To be fair, the analyst was making the point about the notable premium that the bank’s recent run has seen embedded in its share-price, and the report also noted that the radical improvement “definitely puts the bank on another level, alongside Itaú and Bradesco”.

But if the Brazilian story has less room for upside – in terms of radical improvement in profitability – there is another Latin American engine of growth that could be about to fire the global bank’s earnings momentum.

Santander Mexico has been in a bit of a slump in recent years and has never fulfilled the promise of its IPO in 2012. The bank has been recovering since its trough years of 2015 and 2016, but its recovery in profitability has still lagged the overall improvement in the market.

Years of disappointment have left those shares trading at a discount to its peers, but its management has adopted a strategy that could see it reproduce a similar momentum – if not the stellar heights – of Santander Brasil.

Critically, management has now conceded that its poor performance is largely down to underinvestment in capex – notably in digitization of customer platforms as well as internal systems.

Inescapable

It is inescapable that the banks in Mexico that have been performing best in terms of credit volume growth and profitability – BBVA Bancomer, Banorte and Scotiabank – have invested heavily in capex in recent years.

Santander Mexico bank is now spending in this area and will do so throughout 2019 – and will lessen the bank’s recent focus to win deposit market share on price competition, which has increased the banks cost of funding and is limiting efforts to improve profitability, with the full benefits expected in 2021.

Even the early results are positive.

Santander Mexico’s third-quarter results beat expectations and were driven by higher loan growth and strong NIMs. Asset quality is good too – perhaps too good, given the bank’s conservative risk-adjusted yields in the credit-card sector, which led Credit Suisse’s analyst Marcelo Telles to question if “management is not perhaps leaving money on the table by being excessively conservative”.

CEO Héctor Grisi and CFO Didier Mena say they don’t expect the full benefits of the capex investment to be felt until 2021 and – while there is plenty of room for execution errors – their target of a sustainable ROE of between 18% and 19% (16.3% in 3Q2018) should be attainable.

The potential for outperformance of Santander Mexico could become crucial if Santander as a whole is to maintain its momentum.

Some analysts point to the growing clouds of uncertainty beginning to form over Mexico’s macro-economic outlook as a factor that will limit the bank’s ability to deliver in the coming years.

But that never stopped Santander Brasil.