www.moodys.com Banking Moody’s Global Credit Analysis Table of Contents: Summary Rating Rationale 1 Key Issues 2 Analysis of Rating Considerations 3 Discussion of Qualitative Rating Drivers 3 Franchise Value 3 Market Share and Sustainability 4 Geographic Diversification 4 Risk Positioning 5 Regulatory Environment 7 Operating Environment 7 Discussion of Quantitative Rating Drivers 7 Profitability 7 Liquidity 8 Capital Adequacy 8 Efficiency 8 Asset Quality 9 Discussion of Support Considerations 9 Company Annual Statistics 11 Moody’s Related Research 19 Analyst Contacts: New York 1.212.553.1653 0 Jeanne M. Del Casino VP - Senior Credit Officer M. Celina Vansetti Senior Vice President Felipe M. Carvallo Analyst Mexico City 52.55.1253.5700 15 David Olivares Villagomez Vice President - Senior Analyst September 2008 Banco del Estado de Chile Santiago, Chile Summary Rating Rationale Moody’s assigns a bank financial strength rating (BFSR) of C+ to Banco del Estado de Chile (BancoEstado), with a stable outlook, one of the highest BFSRs assigned to Latin American issuers. BancoEstado reported $27.4 billion in assets (Chilean Pesos CHP 13.765 billion), $16.7 billion in deposits, and $1.2 billion in equity as of June 30, 2008. The bank earned $106.8 million for the full year 2007 and $65.4 million for the first six months of 2008. BancoEstado is Chile’s third largest bank and is wholly-owned by the Republic. The bank performs significant economic and social roles as a full service commercial bank. Its primary mission is to promote home ownership and finance and to promote national savings by providing banking services to low- and middle- income individuals, and to other underserved segments of the population. The bank is also an active lender to large corporations and a leading provider of international trade finance. BancoEstado has the most geographically dispersed branch network in Chile and the most ATMs enhanced through its alliances with local retailers D&S and La Polar. Management is further diversifying the bank’s business mix through payment services, consumer, small business, and microfinance lending, as well as through bancassurance with its partner MetLife of the US. BancoEstado’s BFSR reflects its extensive and unique franchise within Chile as the only public sector bank, its solid profitability and asset quality, and its relatively low risk balance sheet. The bank’s profit ratios are lower than those of its large, privately-owned peers, reflecting a more liquid and less risky balance sheet, which results in lower interest margins and pre-tax profitability. Government ownership lends itself to a certain amount of public scrutiny that may slow the bank’s ability to keep costs low; however BancoEstado has been quite successful in managing its expense growth in recent years. This Credit Analysis provides an in-depth discussion of credit rating(s) for Banco del Estado de Chile and should be read in conjunction with Moody’s most recent Credit Opinion and rating information available on Moody's website. Click here to link.
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September 2008 Banco del Estado de Chile · Banco del Estado de Chile Santiago, Chile Summary Rating Rationale Moody’s assigns a bank financial strength rating (BFSR) of C+ to Banco
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www.moodys.com
Banking Moody’s Global
Credit Analysis
Table of Contents: Summary Rating Rationale 1
Key Issues 2 Analysis of Rating Considerations 3
Discussion of Qualitative Rating Drivers 3 Franchise Value 3
Market Share and Sustainability 4 Geographic Diversification 4
Discussion of Support Considerations 9 Company Annual Statistics 11 Moody’s Related Research 19
Analyst Contacts:
New York 1.212.553.1653
0 Jeanne M. Del Casino VP - Senior Credit Officer M. Celina Vansetti Senior Vice President Felipe M. Carvallo Analyst
Mexico City 52.55.1253.5700
15 David Olivares Villagomez Vice President - Senior Analyst
September 2008
Banco del Estado de Chile Santiago, Chile
Summary Rating Rationale
Moody’s assigns a bank financial strength rating (BFSR) of C+ to Banco del Estado de Chile (BancoEstado), with a stable outlook, one of the highest BFSRs assigned to Latin American issuers. BancoEstado reported $27.4 billion in assets (Chilean Pesos CHP 13.765 billion), $16.7 billion in deposits, and $1.2 billion in equity as of June 30, 2008. The bank earned $106.8 million for the full year 2007 and $65.4 million for the first six months of 2008.
BancoEstado is Chile’s third largest bank and is wholly-owned by the Republic. The bank performs significant economic and social roles as a full service commercial bank. Its primary mission is to promote home ownership and finance and to promote national savings by providing banking services to low- and middle-income individuals, and to other underserved segments of the population.
The bank is also an active lender to large corporations and a leading provider of international trade finance. BancoEstado has the most geographically dispersed branch network in Chile and the most ATMs enhanced through its alliances with local retailers D&S and La Polar. Management is further diversifying the bank’s business mix through payment services, consumer, small business, and microfinance lending, as well as through bancassurance with its partner MetLife of the US.
BancoEstado’s BFSR reflects its extensive and unique franchise within Chile as the only public sector bank, its solid profitability and asset quality, and its relatively low risk balance sheet. The bank’s profit ratios are lower than those of its large, privately-owned peers, reflecting a more liquid and less risky balance sheet, which results in lower interest margins and pre-tax profitability. Government ownership lends itself to a certain amount of public scrutiny that may slow the bank’s ability to keep costs low; however BancoEstado has been quite successful in managing its expense growth in recent years.
This Credit Analysis provides an in-depth discussion of credit rating(s) for Banco del Estado de Chile and should be read in conjunction with Moody’s most recent Credit Opinion and rating information available on Moody's website. Click here to link.
2 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
Credit Analysis Moody’s Global Banking
Banco del Estado de Chile
High loan growth and corporate borrower concentrations are important risks we see for BancoEstado and the Chilean banks in general. While BancoEstado’s exposures tend to be to top-quality borrowers or projects, they are still large relative to the bank’s profitability and capitalization. Banks also face stiff and increasing competition in all customer segments within Chile’s relatively mature market where margins are already relatively tight relative to other Latin American markets. Nevertheless, BancoEstado’s implicit government guarantee and funding and market share advantages provide it with a significant competitive edge and allow the bank to benefit from flights to quality.
BancoEstado’s Aa1 long term local currency deposit rating incorporates its C+ BFSR, which translates to a baseline credit assessment of A2 and which is lifted four notches based on our assumption of full systemic support in the event of high stress. This assumption is based on BancoEstado’s 100% government ownership and policy mandate, as well as its important deposit franchise, the third largest in Chile. Therefore any significant change in BancoEstado’s ownership would entail a credit event that could lead to a change in the local currency deposit rating.
The bank’s A2 long term foreign currency deposit rating is constrained by the A2 country ceiling for foreign currency deposits and is therefore sensitive to upward or downward movement in the foreign currency country ceiling.
Upward pressure on the C+ BFSR could come about if BancoEstado's core profitability improves significantly and the bank maintains strong asset quality and liquidity. Reduced borrower concentrations would also be an important ratings driver. Downward pressure on the BFSR could result from a marked decline in financial fundamentals or franchise value.
Key Issues
Unique public sector role: lower profit ratios for structural reasons
BancoEstado falls short of its large peers in terms of overall profitability, partly because of its social mission. The bank has a relatively liquid balance sheet mandated by its owner as well as higher operating leverage resulting from its "bancarización" mandate to penetrate underserved customer segments. Estado’s profit ratios are therefore not entirely comparable to those of the private sector banks that are more profit-oriented and devote a higher proportion of their balance sheets to riskier loan assets.
Slower economic growth, high inflation and interest rates could still dampen profits
Chile’s economy slowed during 2008 to 4.3% year over year in the second quarter of 2008 versus the 6.2 % reported in the prior year period. This was partly as a result of energy supply shortages during the first part of the year. Growth this year has still been fueled by strong domestic demand and gross capital formation, which is expected to result in a stronger showing by year end of between 4.5% and 5%. The economy is expected to weaken again in 2009 however as a function of the global slowdown and financial market pressures.
For the moment BancoEstado’s credit business and earnings show a continued strong growth trend, though higher inflation and volatile interest and exchange rate conditions have contributed to a slowing of that growth. With local interest rates rising sharply during the year by about 200 basis points, from 6.25% to 8.25% (monetary policy rate as of September 4, 2008), further increases are expected by year end.
While short term funding costs have risen, however, the resulting impact on bank net interest margins has so far been counterbalanced by the rise in inflation, which serves to buoy spreads on UF-denominated1 (inflation-indexed) assets. So far, local liquidity remains ample despite turmoil in the global financial markets. However, we remain cautious as to the potential effects of prolonged volatility in the international markets.
1 UF = Unidad de Fomento, Chile's inflation-linked currency unit.
3 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
Credit Analysis Moody’s Global Banking
Banco del Estado de Chile
Credit costs continue to rise, though still manageable
As of June 30, 2008, BancoEstado’s credit costs absorbed a stable 33% of pre-provision profit, in line with the system average, reflecting the bank’s conservative credit policies and strong profit performance. While the level of credit costs is still low relative to BancoEstado’s record high of 53% in 2000, we consider it material, and one to watch.
The bank has limited its losses so far; however, increasing provisions and write-offs point to consumer asset quality deterioration. We expect the slower economy and higher inflation and interest rate environment to continue to take its toll on borrower quality in the near term.
High borrower concentrations
BancoEstado presents high single borrower concentrations relative to both earnings and capital as do all the large Chilean banks. In Moody’s view, high borrower concentrations increase a bank’s exposure to rapid asset quality deterioration and hence increase the risks to earnings.
BancoEstado’s twenty largest group exposures tend to be with top quality borrowers and projects in the financial services and corporate sectors; however, they remain large particularly relative to earnings.
Analysis of Rating Considerations
Discussion of Qualitative Rating Drivers
Franchise Value
Major retail bank with broad and diverse client base
BancoEstado’s franchise value reflects its importance as the third largest bank in Chile, its diversified earnings stream and extensive operating footprint across Chile. The bank serves a broad range of clients consisting of low- to middle-income individuals and companies that contribute to a fairly stable earnings stream.
Beginning in the 1990s, BancoEstado transformed its historically bureaucratic culture into a more nimble and commercially-oriented one, and has reduced to a minimum its dependence upon public sector balance and inflation-related revenues. The bank continues to explore opportunities to diversify its core lending and deposit business through organic growth and strategic alliances.
BancoEstado should continue to enhance its franchise value by leveraging its existing market shares in several business lines, its alliances with non-banks, and its public policy raison d'être. For example, BancoEstado has significantly expanded its distribution of insurance products through its alliance with MetLife, becoming the number 2 bank in Chile in providing insurance services to bank customers. Its ATM network has been enhanced through membership in the Redbanc automated teller network and through alliances with D&S and La Polar.
BancoEstado is also in a position to cross-sell multiple products to its massive client base given the still robust economic scenario in Chile and to improve its competitive position through advances in technology and service quality. The bank’s commitment to technology is already evident in a steady improvement in operating returns and efficiency ratios and an exemplary alignment with private sector performance metrics in general.
In Chile, BancoEstado operates 313 branches and 30 special access points (Puntos de Atención de Cercanía, PAC). The bank has a total of 1,133 ATMs, complemented by another 4,128 private ATMs (Redbanc), 1,088 sources for balances and deposit boxes, 300 CajaVecinas, and 25 branches of its ServiEstado subsidiary. Internet Banking represents over 2 million on-line transactions. Since 2005, the New York branch offers trade finance, working capital loans, and cash management services to Chilean corporations.
4 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
Credit Analysis Moody’s Global Banking
Banco del Estado de Chile
Market Share and Sustainability
Leading market shares in Chile
BancoEstado is the market leader in savings deposits and residential mortgages for low and middle income individuals and also lends to large and medium sized corporations. Mortgages to low income customers are made at arms length pricing by BancoEstado, while subsidies may be provided by the government, with the bank acting only as administrator for such programs. The bank is also one of the largest providers of administrative and cash management services to government-owned and private enterprises, including payroll services. BancoEstado has one of the largest treasury operations in the country as a primary dealer in government securities and also serves as an important source of liquidity to the Chilean financial system.
BancoEstado’s position among the top five banks in Chile as of June 30, 2008 is provided below. BancoEstado ranks number 3 in all categories, except for net income where it ranks fourth, reflecting its higher proportion of low margin securities and mortgages, higher expense base, and higher than average tax rate.
The bank’s loan (14%) and deposit (16.2%) market shares have gradually expanded in recent years as has its share of the system’s net income (7%). Estado remains the leader in savings accounts with 87% of total accounts and in mortgages with 25% of the total market, though Santander is a very close second. Banco de Chile follows with 14.4% of total mortgages, Bci with 10%, and BBVA with 8%.
Market Share of Top 5 Chilean Banks As of June 30, 2008
Total Deposits Total Gross Loans
Banco Santander 20.8% Banco Santander 20.6%
Banco de Chile 18.5% Banco de Chile 19.3%
Banco del Estado de Chile 16.2% Banco del Estado de Chile 13.9%
Banco de Crédito e Inversiones (Bci) 12.9% Banco de Crédito e Inversiones 13.2%
Banco del Estado de Chile 7.0% Banco de Crédito e Inversiones 10.4%
Banco de Crédito e Inversiones 14.7% Banco del Estado de Chile 9.3%
BBVA 4.3% BBVA 5.7%
Source: Moody's, SBIF
Geographic Diversification
Despite national coverage, primarily Chilean focus limits earnings diversification
BancoEstado is limited in its geographic diversification relative to global peers because of its largely Chilean operations. Moody’s assesses geographic diversification based on the Gross Domestic Product (GDP) of a bank’s operating footprint. Chile’s nominal GDP of US$163.9 billion for 2007 and population of some 15 million are relatively small, even when compared to other large Latin American countries such as Brazil and Mexico, and so the score for all Chilean banks is below average.
5 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
Credit Analysis Moody’s Global Banking
Banco del Estado de Chile
Earnings Stability
Retail focus and core funding contribute to relatively stable earnings profile
Moody’s believes retail banks have more predictable earnings to the extent that their consumer lending, deposit, and transaction-based revenues comprise the lion’s share. This is an invaluable asset to banks in times of stress. Given BancoEstado’s strong retail deposit base, granular lending base, and a relatively low proportion of corporate and trading-related revenues, the stability of its earnings profile is above average.
BancoEstado derives more than half of its interest income and commissions from the consumer segment (55%), followed by the financial services and corporate segment (including small and medium-sized companies) (30%) and institutional customers (14%). About 80% of BancoEstado’s interest revenues originate from traditional lending and deposit products and 15% from securities.
Risk Positioning
Policies and practices commensurate with risk profile and business mix
BancoEstado’s risk positioning score is hurt by its high single corporate borrower concentrations, endemic to the large Chilean banks, and its single shareholder ownership by the Republic of Chile. However, its overall credit, market, and liquidity risk management structure, practices, and financial reporting transparency support a stable risk profile.
Corporate Governance
Government ownership equated to a closely held firm under one shareholder
BancoEstado’s corporate governance structure is comparable to the standards of private sector institutions. Nevertheless, Moody’s equates BancoEstado’s government ownership to a closely held firm dominated by one shareholder or family that could exercise undue influence on the bank’s operations. That said BancoEstado is not permitted to lend to public sector entities and hence is more insulated than the typical public sector bank from politically-based lending pressure. In addition, though a government-owned bank, BancoEstado meets Moody’s test for an independent board of at least 25% of its members.
BancoEstado’s senior management is conservative and professional, drawn from the private sector. Management has been effective in modernizing the bank and in transforming its traditionally bureaucratic culture into a market-oriented and competitive institution.
Controls & Risk Management
High and improving standards and procedures
Management sets high standards for the bank's risk management and controls, supported by a well established management structure and a deep bench of experienced credit and market professionals.
As an important depositary for public sector liquidity and public savings, the bank maintains a relatively conservative investment and credit portfolio. The bank's trading activities are devoted mainly to managing its government securities portfolio and to dealing in foreign exchange forwards on behalf of clients.
Financial Reporting Transparency
Timely and complete financial statements
BancoEstado’s financial reporting transparency is above average as is the case for most of the Chilean banks. The bank publishes complete financial statements on a monthly basis and has employed International Financial Reporting Standards (IFRS) since January 2008 in accordance with the regulations of the Superintendency of Banks and Financial Institutions (SBIF).
6 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
Credit Analysis Moody’s Global Banking
Banco del Estado de Chile
The bank’s published financial statements provide comprehensive information about profitability, asset quality, and capital. They are however limited with respect to individual business line performance, market risk exposures, and VaR stress testing information, as well as details on the largest credits.
Credit Risk Concentration
High concentrations particularly as a percent of earnings
BancoEstado presents high borrower risk concentrations that are not uncommon to major lenders in Chile partly because of their size, large lending books, and the limited depth of domestic loan sales and securitization markets. The top twenty group exposures, including loans and net derivatives, are compared against both pre-provision pre-tax profitability and tier one capital.
While BancoEstado scores very low for borrower concentrations, the bank's twenty largest exposures are with top quality and highly rated borrowers in the financial services sector, and include solidly performing large corporate or project-related exposures. During the last four years BancoEstado has expanded its consumer lending activities, which should lead to greater diversification and granularity of the loan portfolio.
At the same time the bank reports relatively low industry concentrations, reflecting a diversified loan portfolio consisting of financial services, construction, manufacturing, commercial, and energy companies in Chile. High corporate sector concentrations are discouraged by the banking regulators.
BancoEstado’s exposure to residential mortgages is however by far the most highly concentrated in Chile at almost 42% of total loans versus 23% for the total system. Delinquency levels on mortgages in Chile have historically been contained and as of the date of this writing remain low at 1% for the system and about 2% for BancoEstado. While household indebtedness in Chile has increased in recent years, it also remains low relative to global averages.
Liquidity Management
Ample liquidity supported by stable core deposit base and high proportion of liquid assets
BancoEstado’s strong liquidity position within the Chilean financial system derives from the combination of an extensive and granular deposit base, its large holdings of liquid assets and low dependence on market funding.
The bank’s large securities portfolio comprises about 22% of total assets versus the system average of 11.5%. Core deposits represent a relatively high 75% of total loans vis-à-vis the system and large peer average of 55% and 51% of total liabilities. Its large demand and savings account base makes it less dependent upon local institutional money (i.e., the AFPs or pension funds) for funding. Market funds relate to 49% of total liabilities, mostly in the form of institutional deposits (16%), notes payable (i.e., letras hipotecarias – 18%), bank borrowings and repurchase agreements (9%), and bonds (3%).
Estado is among the largest providers of institutional liquidity in the Chilean banking system. The bank has been called upon to provide liquidity and/or administrative back-up to other banks in the system in case of need, such as during the CORFO-Inverlink affair of 2003.
Market Risk Appetite
Large liquid holdings are proactively managed
BancoEstado’s market risk appetite is about average, reflecting its traditional deposit-taking and lending profile. Market-related income contributes little to the bank’s bottom line and has historically been uneven, earning between 3% and 17% of gross intermediation revenues over the past few years.
7 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
Credit Analysis Moody’s Global Banking
Banco del Estado de Chile
BancoEstado’s relatively large securities portfolio, 90% of which is categorized as available for sale, exposes the bank to interest rate risk. The bank employs asset/liability management tools, including Value at Risk models, in order to minimize the potential losses related to interest rate risk. The bank takes measured positions in proprietary trading. Foreign exchange risk is limited to customer-based activities (= fee business) and to a lesser extent, its investment portfolio.
Regulatory Environment
Moody’s assessment of Chile’s regulatory environment considers its proven institutional framework, the independence of its regulatory body, and its 20-year history of setting and enforcing prudential standards. The assessment also incorporates the supervisors’ effective enforcement of asset quality measurement and loan loss provisioning rules, capital and liquidity regulations, and restrictions regarding related-party transactions. We also consider the Chilean regulators’ track record of preventive and corrective measures and their increasing commitment to transparency assisted by an increasingly user-friendly website.
The Chilean regulators continued in 2007 and 2008 to bolster bank regulatory and accounting standards through the adoption of IFRS, the latter which became effective in January 2008, as well as improving risk management regulations and guidance on market and operational risk. The system’s transition toward Basel II dovetails with improvements in regulation and supervision that have been implemented during the last two decades.
Operating Environment
Chilean banks operate within a relatively stable environment with a well established and effective institutional framework. Our BFSR scorecard assesses a country’s operating environment based on three factors: economic stability, the level of integrity and corruption prevalent in the country, and its legal system.
Chile’s economic stability is evaluated based on the standard deviation of Chile's GDP growth rates during the last twenty years compared to that of other countries in the world. Chile’s economic stability scores low relative to that of developed countries because of its uneven growth trend and the slightly negative GDP growth experienced during 1999. This measure should therefore improve over time.
The level of integrity and corruption is measured using the World Bank index, which ranks 212 countries worldwide based on six different parameters including voice and accountability, political stability and absence of violence, government effectiveness, regulatory quality, rule of law, and control of corruption. In this regard, Chile compares very favorably with both local and global peers.
The predictability and fairness of the Chilean legal system also compares very favorably to other countries and is evaluated based on our chosen proxy of the typical time (i.e., one to two years) it takes to foreclose on a residential mortgage.
Discussion of Quantitative Rating Drivers
Profitability
Is profit expansion sustainable for second half of 2008 and 2009?
Banco Estado’s 2007 earnings rose 5.8% in peso terms to US $106.8 million, primarily reflecting higher trading and mark-to-market gains and affiliate income as net interest income rose a slight 1.8%. The adjusted net interest margin (including hedges) declined 3% from 3.33%, due mainly to higher funding rates that largely offset the benefits of growth in commercial and mortgage loan volumes. Provisions have also taken a larger bite out of earnings throughout the year (39% up from 30% in 2006). Net income from fees and commissions were also weaker by 4.7%.
BancoEstado continued to control operating costs, which grew a modest 4%, despite strong business growth. Pre-provision profit to average risk-weighted assets improved slightly to 3% from 2.8%, boosted by increased
8 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
Credit Analysis Moody’s Global Banking
Banco del Estado de Chile
income from subsidiaries and affiliates, and non-operating income. Return on average assets and equity remained relatively stable at 0.46% and 9.7%, respectively, reflecting higher provisions and monetary correction.
First half 2008 results continued the positive trend with an improved net interest margin that benefits from rising inflation and a stronger pre-provision profit to average risk-weighted assets ratio. Rising funding and provisioning costs were therefore offset by higher income on inflation-indexed assets, a general widening of spreads, and good cost control.
It remains to be seen whether and to what extent current volatile conditions in the global markets coupled with the high inflation and interest rate scenario in Chile will affect the country and the bank’s performance in the coming quarters.
While BancoEstado's risk-weighted recurring earnings power falls short when compared to that of its large private sector peers, its earnings power is comparable to the global peer average. Pre-provision profit to risk-weighted assets has averaged 2.9% for the last three years versus 3.6% for its private sector peer group.
BancoEstado's operating expense base relative to earnings reflects in part the bank's mission to increase banking penetration throughout Chile as well as continuous technology upgrades of its branch and ATM network and other points of sale. BancoEstado's higher cost structure and tax rate (56.5%) claim more of the bottom line than do those of the other banks, however, net income has grown healthily in recent years.
BancoEstado has been generating higher net interest income and fees aided by new business alliances and products (e.g., insurance, factoring, ATMs, and electronic banking). Nevertheless, the bank’s fee generation capacity and pricing policy remains limited because of its mandate to offer financial services to underbanked segments throughout Chile. Fee coverage of operating expenses – at an improved 33% for the first six months of 2008 - remained below the system average of 38%.
Liquidity
Conservative balance sheet liquidity
BancoEstado’s liquidity is well above average as a result of the bank's low dependence on market funds, high proportion of readily marketable liquid assets, and good asset quality. Expensive market funds represent a small percentage of the bank’s funding. BancoEstado also maintains relatively low loan leverage with a 60% loan to asset ratio as compared with the system average of 68% and large peer average of 72%. Cash and highly liquid, marketable government securities represent about 32% of total assets as compared with 22% for the system.
Capital Adequacy
Solid tier one capital supports risk profile
BancoEstado's capitalization ratios are good compared to global peers. The bank’s tier one capital ratio of 7.1% as of June 30, 2008 well exceeds the Chilean regulator’s minimum regulatory standards. Though this ratio is below the system’s 9.2% and its rated peers’ 8.6%, we consider it adequate in the context of BancoEstado’s implicit government support, asset mix, and level of risk undertaken by the bank.
Efficiency
Low efficiency relative to private sector rivals due to social mission and extensive network
BancoEstado's efficiency ratio compares very well to the global average, but less well to local peers such as Banco Santander Chile and Banco de Chile that have a track record of globally competitive efficiency ratios. Given its developmental role, management expects the bank’s efficiency ratio to remain above the system average (it is presently 7 percentage points higher).
BancoEstado has nevertheless gradually improved its operating efficiency, reaching a ratio of 56.9% as of June 2008 from 60.85% in June of 2007 supported by both higher operating revenues and contained expense
9 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
Credit Analysis Moody’s Global Banking
Banco del Estado de Chile
growth. Increasing economies of scale will depend on the continued streamlining and automation of the bank's operations given the breadth of its network and social mission.
BancoEstado has undertaken important investments in technology and innovative products. The bank’s low-cost Caja Vecina in which small shops provide everyday banking services, ServiEstado, and ATM network have helped improve the bank’s automated transaction ratio.
Asset Quality
Problem loans remain manageable, but are on the rise
BancoEstado presents a well diversified asset mix, consisting primarily of loans (60.6% of the balance sheet) and A1-rated Chilean government securities and Central Bank paper (21.7%). The corporate loan portfolio contributes 48% of total loans relating mainly to high quality national and international corporations. Lending to individuals comprises 52%, with over 80% representing residential mortgage loans.
Loan growth of 23.3% was slightly higher for BancoEstado than the Chilean system’s 21.7% for the twelve months ended June 2008 and higher than the year earlier’s 14.3%, reflecting strong expansion of both the commercial and consumer loan portfolios. We expect slower loan growth in the latter part of 2008 and into 2009 because of higher interest rates and delinquencies.
Asset quality deteriorated during 2007 as non-performing loans (NPLs), mainly to consumers, rose a sharp 78.6% on a nominal basis to reach 1.2% of gross loans, a 50 basis point increase from the record lows of a year earlier. As of June 30, 2008, the NPL ratio rose a further 7 basis points, but a 14 basis point increase when adjusted for loan growth. Reserve coverage declined due mainly to write-offs but still covered 135% of problem loans, down from 171% as of year end 2007, and below the three-year average of 220%. Problem loans also represented a high of 14.5% of reserves plus shareholders’ equity, up from the prior three year average of 9.6%.
This trend is in line with rising non-performers within the Chilean system, whose loan portfolio has been growing in the double digits for the past five years with a special emphasis on consumer credit. Nevertheless, BancoEstado's rate of increase continued to surpass that of the system this year. Though non-performing loans are still at a manageable level, they are the highest the bank has reported since 2003 and its ratio is the highest among the four largest banks in Chile.
In our last report we had anticipated asset quality deterioration as a result of loan seasoning and double digit loan growth.. This has come to fruition, and therefore we remain cautious as to the pace of deterioration. We expect NPL ratios to continue to rise in the coming quarters, particularly in light of slower loan growth.
Discussion of Support Considerations
Full systemic support incorporated in deposit ratings
Moody's assigns a global local currency deposit rating of Aa1 for BancoEstado, incorporating the bank's baseline credit assessment of A2 that is directly mapped from the C+ BFSR. The deposit rating is then lifted to Aa1, reflecting full systemic support because of the bank’s 100% government ownership, policy mandate, and the importance of its retail deposit franchise in the Chilean financial system.
Moody's assesses Chile as a high support country because of the Chilean authorities' high level of interest and willingness to support the stability of the financial system. The support probability is measured against Chile's Aaa local currency country ceiling for deposits. This ceiling represents the risk that an important bank would be allowed to default upon local currency deposits either due to a lack of local currency resources or the imposition of a domestic deposit freeze.
10 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
Credit Analysis Moody’s Global Banking
Banco del Estado de Chile
Exhibit A: Mapping the BFSR to the Baseline Credit Assessment (BCA)
The discussions of qualitative and quantitative rating drivers presented in this report forms the analytical basis for assigning a Bank Financial Strength Rating (BSFR) of “C+” to Banco del Estado de Chile.
BFSRs are Moody’s opinions on the intrinsic safety and soundness of a bank enterprise and, in effect, address the susceptibility of a particular institution to financial distress.
The BFSR array of ratings is not on Moody’s traditional rating scale (Aaa, Aa, etc.). There is a useful method, however, for translating BFSRs to Moody’s traditional scale – the baseline credit assessment. In effect, the baseline credit assessment measures a bank’s stand-alone default risk assuming there is no systemic or other external support.
Banco del Estado de Chile’s “C+” BFSR maps to a baseline credit assessment of A2, yet, considering external support factors, its deposit ratings are Aa1.
BFSR/Baseline Risk Assessment Mapping for Banco del Estado de Chile
BFSR Baseline Credit Assessment (BCA)
A Aaa
A- Aa1
B+ Aa2
B Aa3
B- A1
C+ A2
C A3
C- Baa1
C- Baa2
D+ Baa3
D+ Ba1
D Ba2
D- Ba3
E+ B1
E+ B2
E+ B3
E Caa1
E Caa2
E Caa3
11 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
19 September 2008 Credit Analysis Moody’s Global Banking - Banco del Estado de Chile
Credit Analysis Moody’s Global Banking
Banco del Estado de Chile
Moody’s Related Research
Credit Opinion: Banco del Estado de Chile, September 2008
Company Profile: Banco del Estado de Chile, September 2007 (104709)
Banking System Outlook: Chile, July 2007 (103948)
Andean Banks, February 2008 (107477)
Banking Statistical Supplement: Chile, April 2008 (108667)
Country Statistics: Chile, May 2008
Special Comment: Moody’s Outlook for Latin American Banks, October 2007 (105399)
Bank Ratings and Government Bond Ratings, August 2007 (103903)
Moody’s First Annual Survey of Latin American Banks’ Single Client Exposures, May 2007 (103239)
Rating Methodologies: Guidelines for Rating Bank Junior Securities, April 2007 (102726)
Incorporation of Joint-Default Analysis into Moody’s Bank Ratings: A Refined Methodology, March 2007 (102639)
Bank Financial Strength Ratings: Global Methodology, February 2007 (102151)
Piercing the Country Ceiling: An Update, January 2005 (91215)
To access any of these reports, click on the entry above. Note that these references are current as of the date of publication of this report and that more recent reports may be available. All research may not be available to all clients.