Popular, Inc. (BPOP) Q1 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the First Quarter 2012 Popular, Inc. Earnings Conference Call. My name is Stacey and I’ll be your conference moderator for today. At this time, all participants are in a listen-only mode. We will conduct a question-and-answer session towards the end of the conference. (Operator Instructions) As a reminder, this conference call is being recorded for replay purposes. I’d now like to turn the presentation over to your host for today to Mr. Enrique Martel, Corporate Communication. Please proceed.

Good morning. Thank you for joining us on today’s call. Our Chairman and CEO, Richard Carrión; our CFO, Jorge Junquera; and our CRO, Lidio Soriano, will review our first quarter results and then answer your questions. We’ll be joined in the Q&A session by other members of our management team. Before we start, I would like to remind you that in today’s call, we may make forward-looking statements that are based on management’s current expectations and are subject to risks and uncertainties. Factors that could cause actual results to differ materially from these forward-looking statements are set forth within today’s earnings press release and are detailed in our SEC filings, our financial quarterly release, and supplements. You may find today’s press release and our SEC filings on our webpage, which you may visit by going to www.popular.com. I’ll now turn the call over to Mr. Richard Carrión. Richard L. Carrión: Good morning and thank you for joining the call. Please turn to the second slide. For the first quarter, we’ve reported net income of $48 million compared with the profit of $3 million in fourth quarter of 2011 and $10 million in Q1 of 2011. The results met our expectations and were driven by a lower provision expense. Most credit trends during the first quarter were encouraging. We have lower charge-offs, lower NPLs, and lower commercial NPL inflows. We are reaping the benefits from the numerous actions we have taken since 2009 to de-risk our balance sheet, which are being helped by improving economic conditions in Puerto Rico. We are in a better position today than we were at this point last year and we expect our institution to continue to get stronger. Revenue generation was again solid in the first quarter with continued strong production from our Puerto Rico…

Thank you, Richard. Good morning. I’d like to go over the main variations in our first quarter results as compared with the fourth quarter. First, net interest income declined by $7 million, this decline was driven primarily by a $14 million reduction in interest from FDIC covered loan portfolio, which was partially offset by a declining deposit on borrowing costs amounting to $4 million and $2 million, respectively. Our high-end stable margin is one of our strengths and we expected to remain over 4%. Net interest income declined by $25 million versus the previous period, due primarily to a decline of $33 million in the FDIC indemnity asset. The reduction in the indemnity income was principally associated with the 80% offsetting effect from the decline in the covered loan provision. As we have previously mentioned, we have a negative amortization related to our indemnity asset. This is the result of lower expected losses in our FDIC covered portfolio relative to our original estimates at the time of acquisition. This negative amortization is offset by an increase in the accretable yield, which is amortized over the expected life of the loans which is longer. In other income, excluding the aforementioned FDIC related items, a $7 million increase was led by a rise of $6 million in higher deposit and other fees and by favorable variances in the market of our mortgage servicing rates. Also benefiting net interest income during the quarter was the income related to several minority investments we have. These include EVERTEC, Grupo, BHD in the Dominican Republic and PRLP 2011 Holdings. The latter being the entity which owns the construction and commercial loans we sold last year and in which we hold a 24.9% participation. As Richard mentioned, our provision expense declined in quarter one. Of the $79…

Thank you, Jorge. I will begin with the detailed view of our credit indicators then we make regional comments related to the Corporation’s loan portfolio. First, overall portfolios in Puerto Rico show improved credit quality. The first quarter marked the second consecutive quarter with decreasing net charge-offs, which fell to $74 million, the lowest level since 2008. NPLs in Puerto Rico also dropped for the second consecutive quarter driven mostly by lower NPLs in the Corporation’s commercial portfolio. Mortgage NPLs increased by $7 million, this increase was not caused by deterioration in inherent credit quality of this portfolio, but was principally due to the implementation of a revised charge-off policy in Puerto Rico. During the first quarter of 2012, the Corporation revised its charge-off policy for the residential mortgage loan portfolio by including historical losses on recent OREO sales to determine the net realizable value and asset charge-offs once a loan becomes 180 days past due. Previously, this was done once the loan was foreclosed. While this accelerates the timing of the charge-off, this will result in lower OREO expenses upon disposition of foreclosed properties. We remain very comfortable with the risk profile of this portfolio and expect losses to remain at 1%. Secondly, we continue to enjoy the benefit of our de-risking strategies in the U.S. For the first quarter of the year, NPLs amounted to $338 million, an improvement of $28 million over the prior quarter. This marks the ninth consecutive quarterly decrease in NPLs for the U.S. business. NPLs for the first quarter in the U.S. amounted to $34 million, an improvement of $13 million compared to the prior quarter. The first quarter marked the fifth consecutive quarterly decrease in charge-offs reaching the lowest levels since the first quarter of 2008. And thirdly, during the first quarter…

(Operator Instructions). Your first question comes from the line of Joe Gladue with B. Riley. Please proceed. Joe Gladue – B. Riley & Co.: Yeah, hi. Good morning. Richard L. Carrión: Good morning, Joe. How are you?

Good morning, Joe. Joe Gladue – B. Riley & Co.: All right. Guess I want to start off with a question about, I guess, for Lidio, on the adjustment in the charge-off policy in residential mortgages. Just wondering, Lidio, did that result in a sort of a bump up in first quarter charge-offs as that would have affected loans that were already non-performing? And again, just wondering if we will see a decrease as that change only impacts inflows going forward just – am I looking at that correctly?

Yes. I mean, we didn’t had an impact during the first quarter. The impact was $5 million out of the $7 million of increase in net charge-off for the mortgage business was related to the implementation of the new charge-off policy. That policy should have an effect through the first year of implementation as we evaluate all of our loans as they can come due for the anniversary and evaluation from a net charge-off perspective. Going forward that should normalize to a slightly lower levels than what you’re seeing today. Joe Gladue – B. Riley & Co.: Okay. And just one bookkeeping item. Can you give us what accruing TDRs were at quarter end?

I don’t have that number with me. We’ll provide that with the Q certainly. I don’t have the number with me, sorry. Sorry, Joe. Joe Gladue – B. Riley & Co.: Okay. I’ll shift over and I guess ask about the PRLP, just wondering if you could saw some improvements there. Just wondering if you could tell us, is that something that’s sort of periodic that is re-evaluated? Richard L. Carrión: Yeah, they re-evaluate this, as you know we have 24/9, so we use the equity method to account for that. We have a minority interest there. I think we’re running at three months behind. So I think they have some good wins in the first few months of the process and they re-valued it positively.

I think it’s a good sign and we’re optimistic about it. But of course, this is every three months you got to re-value it, but so far, it seems to be working according to plan and I think that’s a good sign. Joe Gladue – B. Riley & Co.: Okay. I’ll ask one more and then step back.

Sure. Joe Gladue – B. Riley & Co.: And just a question on the, I guess non-interest bearing deposits. It looks like there was a sizeable decline in the quarter, just wondering what was going on there.

Okay. Joe, the decline in non-interest bearing, has to do, it’s more cyclical towards the end of every year. We have, particularly some government accounts. We are the trustee of a lot of the bond issues for the Puerto Rico government and they either come due or they certainly pay interest on January 1 and July 1. So they tend to pile up deposits one or two days before interest payment, but that money goes away. So it was just (inaudible) it tends to build up a little bit towards the end of the year and then it drops. There hasn’t been any material reductions in demand deposits. In fact, they’re running slightly higher than what we’re expecting. So there’s no negative surprises there, they’re just more cyclical. Joe Gladue – B. Riley & Co.: All right. Thank you. I’ll step back. Richard L. Carrión: Thanks.

Your next question comes from the line of Ken Zerbe with Morgan Stanley. Please proceed. Ken Zerbe – Morgan Stanley & Co. LLC: Great, thanks. You guys reaffirmed your guidance, right, the $185 million to $200 million, but you also benefited this quarter from the $25 million of reserving methodology change. Why didn’t you consider increasing your guidance this quarter?

Well, we think things are coming according to plan. Obviously, the provision will behave according to what credit conditions are, and so far they seem to be unfolding as we expected. But that was in our plan and we’re reaffirming the guidance at this level and we think we’re going to make it. Ken Zerbe – Morgan Stanley & Co. LLC: Okay. That probably explains it, because we didn’t know you were doing the methodology change. Is there any other items such as I guess that would result in gains that are included in your guidance that we don’t know about? Richard L. Carrión: No, I think we also mentioned this – a small tweak in the mortgage thing and that made for more charge-offs, but no nothing that is remarkable. Ken Zerbe – Morgan Stanley & Co. LLC: Okay. The other question I just have is on expenses, I guess we are looking for a more substantial decline this quarter given you had the unusual pension charges last quarter but obviously, they stayed elevated. How should we be thinking about expenses going forward?

Well, I think there’s still a little noise in there. Remember the employees were still on the payroll until February 1. We’ve had some temps come in as we begin to stabilize the process. And there are a couple of accruals that are sort of front loaded in the beginning of the year in terms of expenses, plus we also had some severance for some additional employees during the quarter. So there is a bit of noise there, I don’t know Jorge if you want to...

No, I think that’s precisely a – no doubt that we are already beginning to see the benefits of the window. We’re very satisfied with the window that was implemented and we already began to see reductions in salaries and pension cost. But as Richard mentioned, there were some other items that unfortunately mitigated these – the benefits that we’ve already seen. And also there was a lawsuit in the Mainland that we settled and also bringing up expenses slightly higher. But it has to do more with this hiring on a temporary basis of some of the people that retired. We should begin to more clearly see the benefits of the reduced level of our operating expenses in the second, but more likely in the third and fourth quarter. Also, when we get the full benefit of a further branch consolidation that are taking place is, but we still believe that as we committed last year, that we’re going to get that $25 million annual reduction from our quarter three expense levels. We still feel confident that we’re going to be able to achieve it toward the end of the year. Ken Zerbe – Morgan Stanley & Co. LLC: Okay, that helps. And then just one final question on deposit costs. Do you guys still feel good that you have 15, 20 basis points further funding cost reduction going forward? Is there still room to lower deposit costs on the island? Richard L. Carrión: Yeah, we still feel confident. It gets more difficult as we go along, but then we just have to get smarter, but yes, we still feel confident that that can be achieved throughout the year. Ken Zerbe – Morgan Stanley & Co. LLC: Great. Thank you. Richard L. Carrión: Okay.

Your next question comes from line of Michael Sarcone with Sandler O’Neill. Please proceed. Michael Sarcone – Sandler O’Neill & Partners: Hey, good morning, guys.

Good morning. Richard L. Carrión: Good morning, Michael. Michael Sarcone – Sandler O’Neill & Partners: I just had one question or just more, can you give us an update on the U.S. franchise? Richard L. Carrión: Yeah, well, Carlos is here. I’d tell you things are unfolding according to plan. In general, with one exception, we are finding asset generation on the commercial side particularly soft, but aside from that, everything is moving according to plan. Carlos, you want to add something here? Carlos J. Vázquez: The current cycle continues to develop as we have hoped and Lidio mentioned earlier with non-performings and losses continuing to drop. And the other – the thing that you might here something about in the next few weeks is that, we will be completing our re-branding with the New York region during this summer. We have already successfully done that in the other three regions, we’ll do that over the summer as well. Michael Sarcone – Sandler O’Neill & Partners: Okay. Thanks, guys. Richard L. Carrión: Thank you.

Your next question comes from the line of Derek Hewett with KBW. Please proceed. Derek R. Hewett – Keefe, Bruyette & Woods, Inc.: Good morning. Richard L. Carrión: Good morning. Derek R. Hewett – Keefe, Bruyette & Woods, Inc.: Hey, you guys transferred another $141 million roughly from non-accretable to the accretable yield. At some point, should we expect to see an accelerating accretable yield? Richard L. Carrión: Well, not necessarily an accelerating accretable yield, it would be – the benefit will be there, but it will be as the amortization of the indemnity assets becomes…

Extinguishes. Richard L. Carrión: …extinguishes and then we’ll continue with a clear benefit of the higher accretable yield from latest recastings. Derek R. Hewett – Keefe, Bruyette & Woods, Inc.: Okay. So in terms of the amount that’s going to flow through interest income, what you’re saying is that’s going to be relatively flat. But you will – in the outer years, will see the benefit as the amortization from the indemnity rolls off. Is that kind of how to look at it? Richard L. Carrión: That’s right. And look at both of them, you know, I say diminish because this is an extinguishing asset on both sides, so you know the amount of accretable yield and also the amortization of the indemnity asset will be going down gradually. Derek R. Hewett – Keefe, Bruyette & Woods, Inc.: Okay, great. Thank you very much.

Okay. Richard L. Carrión: Thank you.

(Operator Instructions) Your next question comes from the line of Jose Carmona with Caribbean Business. Please proceed. Jose Carmona – Caribbean Business: Good morning, gentlemen.

Good morning. Richard L. Carrión: Good morning, Jose. Jose Carmona – Caribbean Business: Good morning. I got a couple of questions. First, I would like your comments on Moody’s recent news on placing Popular for a possible review on their outlook, on the credit rating. And also, if you plan to meet with them to review your first quarter results and the latest information regarding the economic outlook of the island. As you know, this morning, the GDB yesterday revised upward their economic forecast for growth for 2012. Can you comment on that? Richard L. Carrión: Sure. We will obviously be meeting with them and go over the first quarter with them and with all the other rating agencies as we do regularly. Regarding the announcement that they made, I think it was related to the fact that they are revising the Commonwealth debt and as a result they have said they would put all the Puerto Rico banks also on their watches as is normal. So I think it’s going to happen and we’ll talk to them and see where they come out there. Jose Carmona – Caribbean Business: Okay. My second question has to do with the Bloomberg story that came out yesterday. This is nothing new has been reported previously regarding some loans. Richard L. Carrión: Yeah. Jose Carmona – Caribbean Business: Given to some Board Directors, can you comment on that? Richard L. Carrión: Sure. I’ll be glad to. I think the key thing we have to separate is first of all, all these loans, at the time they were made were made with the approval of the Board of Directors. I was certainly not involved in that approval. And they were made under the same conditions as same market conditions existing at the time of approval. As you know in the past few years, things have not worked out exactly as we expected in Puerto Rico and the loans, the same as many other loans in the construction portfolio, when we transferred them to held-for-sale, we took a hit on that. We expect that these loans at this current level will get paid on. Jose Carmona – Caribbean Business: Okay. Thank you, gentlemen. Richard L. Carrión: Okay.

Thank you.

Your next question is a follow-up question from the line of Joe Gladue with B. Riley. Please proceed. Joe Gladue – B. Riley & Co.: Hi, again. Richard L. Carrión: Hi, Joe. Joe Gladue – B. Riley & Co.: I’d like to touch base on the recourse loans. Yeah, you guys stopped selling loans with recourse sometime ago. And I guess I’d just like some color, yeah, I imagine most of the recourse provisions had a timeframe on them that they expired after a certain amount of seasoning. And just wondering if you can give us an idea of, or is there a good portion of those loans that were sold with recourse that will sort of pass the range for recourse or were there timeframes on that?

Most of this recourse were lifetime recourse. So there wasn’t an expiration, but I think the key message from a recourse portfolio is that we feel comfortable, the delinquencies are down and when you take it together with our mortgage exposure – mortgage on balance sheet exposure, the trends and the quality of those, both portfolios taken together, is actually trending better over the last year or so. Joe Gladue – B. Riley & Co.: Okay, all right. And just one other, just wondering if you could maybe touch on just loan demand overall, particularly, I guess in Puerto Rico, are you seeing any – what trends are you seeing in loan demand?

On the commercial side, both in the States and in Puerto Rico is still soft. We are seeing better consumer demand and mortgage business that continued strong in Puerto Rico. But the commercial side, particularly small and middle commercial remains soft, Joe. Joe Gladue – B. Riley & Co.: Okay, thank you. Richard L. Carrión: Okay.

(Operator Instructions) And with no more questions in the queue, we thank you for your participation in today’s conference. This does conclude your presentation. You may now disconnect and have a great day. Richard L. Carrión: Thank you.

Thank you very much.

Thank you.