Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2012 Popular Inc. Earnings Conference Call. My name is Tahisha, and I'll be your operator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Mr. Enrique Martel, Manager of Corporate Communications. Please proceed.

Good morning. Thank you for joining us on today's call. The Chairman and CEO, Richard Carrion; our CFO, Jorge Junquera; and our CRO, Lidio Soriano, will review our fourth 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 on 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, financial quarterly release and supplements. You may find today's press release and our SEC filings on our web page, which you may visit by going to www.popular.com. We also want to remind shareholders and analysts that we will hold our Investor Day on Friday, March 1, in San Juan. You'll find the link to the webcast in the Investor Relations section of our website. For further information, please contact us via e-mail at investor-relations@bppr.com. I will now turn the call over to Richard Carrion.

Good morning, and thank you, all, for joining the call. I'd like to first address the highlights and key events of the quarter and then discuss our progress and priority areas. Jorge will go into greater detail on the fourth quarter and full year financial results, and Lidio will provide an overview of credit trends and metrics. With that, please turn to the second slide. While we reported $84 million in net income in the fourth quarter, this included a $27 million after-tax gain or equity pick-up from our 49% interest in EVERTEC. Excluding this gain, net income amounted to $57 million for the fourth quarter, which was marked by another strong performance from our core businesses and continued improvement in credit. The sequential increase of $10 million in net income was driven by greater interest income, lower loss estimates for our covered portfolio and further declines in our funding costs. The fourth quarter marked a strong finish to a good year that positions the company for continued progress in 2013. The $27 million after-tax gain was our proportional share of a tax grant received by EVERTEC from the Puerto Rico Treasury. Excluding the EVERTEC gain, we earned $218 million for the year, in line with our expectation. Including it, net income for the year amounted to $245 million. We continued to make significant progress on the credit front. The $125 million decline in held-in-portfolio nonperforming loans was our largest quarterly decrease during the current credit cycle, excluding bulk sales, while NPLs at quarter end reached their lowest levels since December of 2009. More than 2/3 of the decrease in NPLs this quarter occurred in our Puerto Rico commercial portfolio, which underwent its annual credit review in the third and fourth quarters. The reduction in Puerto Rico commercial NPLs was…

Thank you, Richard. Please turn to Slide 5. Our fourth quarter performance capped a good year. On the revenue side, we saw a 4-basis point sequential increase in the net interest margin. While the 4.41% NIM was partially driven by the spike in the accretable yield of the covered portfolio, the margin was still above 4%, excluding the impact of the covered portfolio. Cost of funds was down 5 basis points on a quarterly basis and 26 basis points when compared with the year-ago quarter. In 2012, we made additional progress in further aligning the cost of deposits with mainland banks. Despite the additional rate cuts we implemented in a low rate environment, we were successful in maintaining our core deposit base. Average balance of deposits, excluding broker, public funds and demand deposit accounts, remained relatively stable in quarter 4 versus the previous year, declining by only $13 million. DTA accounts, during the same period, increased $350 million, which helped support our NIM. Declines in deposit costs have slowed down recently, but we think there is still some room left for additional savings. Income remains stable but other operating income was pushed higher by the EVERTEC equity pick-up, which as mentioned earlier, included a $32 million pretax benefit related to a proportionate share of the tax grant received by EVERTEC. We also recorded a $12 million increase in net gain on loan sales, driven by higher gains on mortgage loan securitizations in Puerto Rico and sales of commercial loans held-for-sale in the U.S. The performance of the covered portfolio continued to exceed our expectations. Lower loss estimates, resolutions that exceed the book value of certain commercial loans, helped push net interest income higher and lower the provision for covered loans by $26 million. However, the benefits were offset by a…

Thank you, Jorge. We are pleased to report that we continue to make steady progress on the credit front. Before going to the details, let me highlight the key credit trends. Nonperforming loans and nonperforming assets continue to decline, and are at the lowest levels since 2009 and 2010, respectively. NPL inflows reached the lowest levels in 3 years in the fourth quarter [ph]. On a year-over-year basis, NPL inflows were down approximately 27%. The net charge-off ratio remained below 2% for the third consecutive quarter. Please turn to Slide 7. On the top half of the slide, we summarized the trending NPLs over the last year. And speaking in the third quarter of 2010, NPLs are down approximately $920 million or 39%. For the quarter, a $90 million reduction in Puerto Rico commercial portfolio, a $17 million reduction in the U.S. commercial portfolio, an $8 million drop in the U.S. legacy portfolio and a $6 million decline in the U.S. construction portfolio, led to a sequential reduction of $120 million in NPLs. In Puerto Rico, most of the decrease in commercial NPLs was driven by lower inflows of nonperforming loans, and loans returning to accrual, that was after sustained performance by borrowers. In the U.S., 2 milestones are worth highlighting: First, commercial and construction NPLs, including legacy loans, are below $200 million. Second, from a peak of $250 million in nonperforming construction loans in 2009, we are down to 1 nonperforming construction relationship for approximately $6 million, which we expect resolution during the first quarter of 2013. On the bottom half of the slide, we illustrated the steady decline of nonperforming assets during the year; the $384 million decrease for the year, primarily driven by the previously mentioned decrease in NPLs held-in-portfolio and a decrease in NPL held-for-sale driven…

Thank you, Lidio. Please turn to Slide 10. Let me conclude today's call by summarizing the key takeaways. We closed the year with a solid performance and strong capital ratios. Our covered portfolio continues to produce better-than-expected results. We've added resources to our credit management function and are operating with both greater speed and higher efficiency in addressing NPLs, as demonstrated by the continuing improvement in the credit quality of our portfolios in both the U.S. and Puerto Rico. Notably, the substantial decline in Puerto Rico commercial NPLs was the main driver behind our largest organic quarterly decrease in NPLs. We continue to explore all avenues to reduce NPLs, including resolutions in sales that make economic sense. The leading market positions of our unique Puerto Rico franchise are allowing us to benefit from a rebound in loan demand in certain sectors of the economy and sustaining above-average margins. In the U.S., we will continue to build on the improvement we made in 2012 and seek to originate quality assets to offset runoffs and pursue profitable growth. The Corporation's revenue-generating capacity remains strong despite current economic conditions, while our total capital exceeds the current well-capitalized threshold by $2 billion. When we reported Q4 2011 earnings, we made an exception from our historical practice and provided guidance for 2012. At that time, there was a wide disparity between our expectations and analyst estimates for 2012, and we felt the need to address that by offering some clarity regarding our outlook. We want to be as helpful as possible, but we don't believe that providing annual net income guidance is the most meaningful way to do that. So we're returning to our historical practice of not providing annual earnings guidance. We intend to provide an update on our estimated normalized earnings at our…

[Operator Instructions] Your first question comes from the line of Ken Zerbe from Morgan Stanley.

First question, just in terms of loan growth, you obviously seemed a little more, probably much more positive on the outlook for loan growth or the activity, commercial activity that you're seeing in Puerto Rico right now. When we think about 2013, is it fair to assume that we could continue to see positive commercial growth from here, or was this more of a 1-quarter unusual positive?

Well, it's 1 quarter in a row so far. But we're hoping, yes, we are hoping that we can generate more commercial loan activity in both Puerto Rico and the U.S. And that's our plan.

But the economy is strong enough that actually that's a viable...

Strong is not what I would say, but there are some encouraging signs and we are encouraged, absolutely.

Okay, that helps. And then, I guess the other question, just on the NPAs coming down, so good job in terms of getting those down a little bit. Was any of that -- were there any bulk sales of any size in the quarter? And if not, what's the outlook for bulk sales going forward, because I know it's something you've been working on for a while and we just haven't seen...

Well, no bulk sales in the quarter, and as we've said, probably too many times, we'll look at bulk sales and if they make sense, we'll go ahead and pull the trigger and execute them. But the key is that they make sense and we're happy to do them. We are also happy with the progress we have made in bringing down NPAs, and I think we can continue to do that even absent bulk sales.

At the same pace?

Bulk sales will be faster, obviously.

No, I mean, without the bulk sales, do you think you can get the NPAs down?

Yes, I think we can continue the pace, yes.

Your next question comes from the line of Gerard Cassidy from RBC.

Can you guys talk about the cost of deposits? Can you bring that -- you've got such a great market share in Puerto Rico, can you bring that down from the current levels where you are today?

I think as Jorge mentioned, we have succeeded in bringing it down. We do have a high component of passbook and other types that it gets tougher to bring it down. I think we operate better. Our margin operates better in a higher interest rate environment. That said, we have had a lot of success in bringing it down. The margin increased this quarter, which is not what you've seen in the mainland. And so we do -- we've had success bringing it down. We think there's still a ways to go there.

And then to follow up on your guidance comments about the EVERTEC investment, what kind of analysis do you do to determine -- you pointed out that the market value is materially greater than what you carry it for and everybody has their own estimate, of course. But what kind of analysis are you doing to determine whether you should just keep it on the books or should you sell it, realize the sale and then use it to possibly write down distressed assets more quickly?

Well, we are a passenger in that car, not in the driver's seat. We like where the car is going, but we are -- we don't have a control of that asset. We have 49% and there are some governance provisions which determine what we can and cannot do with our stake. That said, we think that the capital is earning a very good return. And if there is an opportunity down the road, we will certainly execute.

And then the final question on TARP, you pointed to that you could potentially start paying it off in segments or chunks. Should we anticipate that there could be a possible partial TARP repayment in 2013? Or is that too optimistic?

Well, we didn't -- what we said is, we have no new news on exiting TARP. Obviously, we want to do it, but we want to do it in terms that are favorable and in terms that we think are just. So we'll continue to work on that. We'll continue our dialogue with the regulators, since anything we want to do will need to be approved by them. What we do think is that the better we improve our condition, the more flexibility and the more optionality that we'll have regarding TARP exit. And as I think we've mentioned, the interest rate reset doesn't really affect us in a sense that we have that discount, and the effective rate will not really change. There'll be some slight impact on cash but nothing that we can't handle. So in that sense, we don't feel this immense pressure. Although I must mention, some of my guys occasionally talk about cash bonuses, but not too frequently.

[Operator Instructions] Your next question comes from the line of Todd Hagerman from Sterne Agee.

A couple of questions, I guess for Lidio on the credit side. One, on the commercial, obviously, very good progress, again on the commercial side, but as I look at the numbers and I think about the clean-up in Q2 with the held-for-sale and the marks there, charge-offs fairly heavy again this quarter, but I guess, the question simply is, as we think about the charge-offs and the marks taken on the commercial portfolio over the last 6 months, how should we think about the outlook going forward again, assuming that NPAs will continue to trend lower?

As it relates to charge-offs specifically?

Well, yes, just in terms of the marks on the commercial book, the progress you're making and, again, like if I'm thinking about Q2 and the held-for-sale and the charge-offs in Q4 in the commercial portfolio, you're obviously making progress, but I'm just trying to think in terms of more order of magnitude, are we getting closer in terms of the appraised values? You mentioned the deep dive that you've done in the last 2 quarters in terms of reviews, where -- what's the comfort level now in terms of the underlying book value on these credits?

I will say much more comfort than the first time I sat in this to take a call. Over the last year, we have seen tremendous progress in the commercial front and net charge-offs, as we mentioned, for the corporation has been under 2% for 3 consecutive quarters. So to answer your question, I will say outlook is more positive than, or has been, the last year and the recent experience.

But in other words $57 million this quarter obviously a fair amount of clean-up, but again, in terms of order of magnitude, could we possibly see that number drop in half? Is it going to come down more modestly, how should I think about that [indiscernible]?

Generally, I mean, this is a difficult question to answer what is going to precisely be the number, what does it have, 70%, 80%? Clearly, I mean, seeing the trending credit qualities is improvement in both Puerto Rico and the U.S. So we will expect those numbers to show equal improvement as we continue to move forward.

Pardon the interruption, we just lost him, he -- I guess his line went idle. So we'll move on the next question, and that comes from the line of Alex Twerdahl from Sandler O'Neill.

First off, I was wondering if you could elaborate on the drop in the FDIC deposit insurance that happened sequentially? Just talk a little bit about what changed, and can we take that to assume that maybe your CAMEL rating has improved?

No, I would not assume that. I mean, it's a tough formula to really look at. We did do a deep dive and we found some savings opportunity. So I think that Q4 expense decline reflect the benefits of certain risk-based adjustments to the calculation that we made as a result of that review. Another example is we merged our mortgage subsidiary into the Puerto Rico bank and that reduces the annual expense by about $10 million, based on the related asset classifications under that assessment methodology, which is to say the least, pretty convoluted.

Okay, so is the $13.7 million number, is that kind of around the run rate that we should expect going into 2013 per quarter?

Well, again, remember that, that assessment will depend on asset size and the balance sheet risk composition. So it's a variable that it would change over time. The fourth quarter number did include some one-time benefits. We would expect the near-term normalized expense under $20 million a quarter, but that will depend on what happens on the balance sheet.

And then just, I didn't see the level of accruing TDRs in the press release. Can -- Lidio, do you have that number in front of you?

Sure, accruing TDRs for the quarter stood at approximately $650 million from a total of $1.15 billion.

Of total TDRs, okay. And then Lidio, you also talked a little bit about how 51% of the loans have been -- are subject to individual analysis and have been written down to an estimated realizable value. I was wondering if you could just put some numbers around that and talk maybe about sort of where that -- what that estimated realizable value would be for some of those loans, as a percentage of unpaid principal balance?

I mean, we have -- in previous releases, we have provided much more details into the coverage ratio and the information, but generally, it's about 30% mark in terms of lifetime charge-off on valuation vis-a-vis unpaid principal balance. So it's about a 30% mark.

Okay. And then just final question, on the joint venture that you sold, the $360 million of commercial construction loans to, about 1.5 years, can you maybe give us a little update on how the resolutions are going there? And whether or not you think they might have some appetite for further loan purchases off your balance sheets in the future?

Well, let me say, I think they're going a lot better and a lot faster than was originally forecast. And the evidence is that the loans we made to the entity are being paid off at a much faster rate, and our loans need to be paid off before any cash distributions get made. As to whether they want to do some more, you'll have to ask them, I don't know.

Your next question comes from the line of Derek Hewett from KBW.

I'm not sure if you guys mentioned this earlier, but what portion of the island commercial loan growth was organic versus purchased?

In this quarter, it was all organic.

It was all organic?

Yes.

Okay, and then how much cash is currently at the parent given the EVERTEC dividend?

$300 million -- I'm getting the sign that it's $300 million, around $300 million, Derek.

Okay, great. And then maybe asking that credit question a different way. I mean, if you take a look at the -- your total of level of NPAs, at what percentage of a mark on the entire portfolio do you guys currently carry that -- those loans?

I'm sorry, Derek, you relate to commercial or the whole books?

On the entire book?

It is quite different because obviously, a significant portion of our NPA books is mortgage loans. As we have mentioned before, in that particular book, the losses in Puerto Rico, which is the biggest component of the portfolio, has been low and therefore the mark on that portfolio is much different than in the commercial piece. In that portfolio, the mark is -- are in the teens, while in the commercial book, as I mentioned, is closer to 30%.

That OREO would be at market value less [indiscernible].

Okay, and so that would be 30 -- you have a 30% mark on the entire commercial portfolio?

Correct, yes. Lifetime charge-offs and adding to that, the reserve, yes. About 30%.

Okay, and of that 30% mark, what percentage is current reserves on that versus...

Most of it is charge-off. Most of our portfolio, is as we have mentioned, is specifically analyzed and back in 2010, we changed our charge-off policy in which we don't reserve, I mean, we take any impairment, we charge off promptly. But most of it is lifetime charge-offs.

Okay, great, and then one -- maybe one final question on credit is, do you think that the pace of NPL inflows will kind of improve from kind of these low fourth quarter levels going forward?

We're very encouraged by the trend, and we think that we'll continue to see positive trend as we move into 2013.

And gentlemen, we have Mr. Hagerman, that is back on the line.

Let me move on. But Lidio, now I wanted to transition to the mortgage portfolio, if I could? And what I'm trying to get at is really the split and a better understanding between the core portfolio and the repurchase portfolio? I noticed in the quarter that effectively, charge-off is relatively flat, NPLs came down, but NPA inflows actually ticked up a little bit. Could you give me a little bit more insight between the core portfolio and the report purchase portfolio, and how those optics really come together?

The recourse portfolio, as we have said, is part of our legacy activities that we did. We stopped that activities in early 2009. That portfolio is down to about $3 billion. It has come down over the last 2 years, about $1 billion, and in terms of asset quality, it has gone down from double digits in 90-plus delinquency to a number that is closer to 5% today. We used to -- and you'd speak during 2011, we purchased about $240 million of mortgages from a recourse portfolio, we are down to $35 million a quarter, and this quarter was about $41 million. As we mentioned, I alluded during the script or the conference, part of that increase related to loss mitigation activities. As clients come in and they're looking for loss mitigation activities, we're providing them such benefits to them and when we do that, we purchase the mortgages from the recourse portfolio. So that was the increase that you saw during the fourth quarter. Overall, just, let me finish, I'm sorry. Overall, we feel very comfortable with the risk that we have in both on-books as well as off-books portfolios.

And then just in terms of the past due number, the 90-days past due, just in terms of some insight there?

For the on-books or off-books?

For your book, yes, the -- again, the core portfolio.

In terms of our core portfolio, the 90-plus is around 12% in the Puerto Rico. I'm talking about mostly Puerto Rico, but it -- that drive the numbers. So it's about a 12% number for -- which includes the loans that we have repurchased.

Okay, terrific. And then Jorge, a question for you, just in terms of the spread income. Again, it looks like essentially kind of reclassification this quarter with the covered portfolio and the cash flows. How should we think about that on a go-forward basis and kind of the benefit, if you will, in spread income with this reevaluation this quarter? I'm trying to get the numbers squared away.

As you know, we do have to do the recasting every quarter. And the nature of this portfolio is that it's reducing and it's a high-yielding portfolio. So it will continue to put pressure, downward pressure on the yield on loans. We're continuing to try to offset that by lowering the cost of deposits on both, here in Puerto Rico and in the U.S. But as we mentioned earlier, the drop that we have undertaken, it's beginning to slow down, the continuous drop is beginning to slow down. But we still see some more room for improvement. By nature, you're going to get the margin to gravitate lower, but slowly, we still see that we will maintain a very comfortable margin in our operations for the next few quarters.

Okay, and could you just say, just in terms of the quarter itself, about -- what was the influence on the cash flow adjustment in terms of basis points? Do you have that number?

Vis-a-vis, we don't have that number done, no. But as we mentioned, if you exclude the entire effect of the covered portfolio, the margin will still be above 4%.

Okay. That's very helpful. And if I could -- just one quick last one, it looks like the disallowed DTA picked up a little bit in the quarter. Could you just talk a little bit about that?

Okay, yes, we'll have Jorge Garcia answer that.

The change is mainly related to the tax basis, it's more of tax strategy. It's not related to any type of book income or anything like that, it's more on the tax side.

Was that -- was any part of that tied to the EVERTEC?

No.

Okay. And on a go-forward -- but again, just -- you think about the improving profitability of the company, I know a lot of this, or essentially all of it, is tied to North America, but would I -- how should we think about the pace of that coming down?

The DTA is really in Puerto Rico, it's all in Puerto Rico.

Or excuse me, I'm sorry, Puerto Rico, correct.

And the changes in the disallowed will depend -- it depends a lot on the actual statutory tax impact of Puerto Rico. So it's not just simply on a GAAP accounting basis.

You have a follow-up question from the line of Ken Zerbe from Morgan Stanley.

Yes, just a quick one here. Just in terms of total operating expenses x anything related to the FDIC, it just seems that they were a little bit higher, I mean, personnel, occupancy, professional fees, how should we think about this going forward? I mean, as you continue to grow loans, or do we see more on the related expenses? Or is this -- or is there something unusual or do they just stay high?

No, we don't -- there wasn't really anything extraordinary in the quarter. As we have mentioned, we're running relatively high on operating expenses due to the cost of managing credit. To the extent that we continue to lower the nonperforming loans, we will be looking for reductions in expenses. And that's going to be the main driver of the reduction in expenses going forward. And there is some room, there is some room for reduction, but it will be principally dependent on the activity of reduced NPLs.

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.

Thank you.