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Shinhan Financial Group Co, Ltd. (SHG) Q3 2020 Earnings Call Transcript

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Shinhan Financial Group Co, Ltd. (NYSE: SHG)
Q3 2020 Earnings Call
Oct 27, 2020, 3:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Cheol-Woo Park -- Head of Investor Relations

Greetings. I am Park Cheol Woo, in-charge of IR. I would like to thank all participants in our business results presentation and begin the 2020 Q3 Earnings Release. From Q1 of this year, we have been having this earnings call with only voice in order to have the minimum number of staffs due to COVID-19. We ask for your understanding.

We have here with us, our CFO, Roh Yong-Hoon; CSO, Park Woo-Hyuk; CRO, Im-Geun Kim; Head of Strategy Planning, Kim Hee [Phonetic] and Head of Finance Management, Kim Hee Geon. We will first hear the 2020 Q3 earnings presentation from CFO Roh Yong-Hoon and then have a Q&A session.

I would like to invite our CFO, Roh Yong-Hoon to walk us through the 2020 Q3 earnings.

Roh Yong-Hoon -- Chief Financial Officer

Greetings. I am Shinhan Financial Group CFO, Roh Yong-Hoon. Thank you all for taking part in the 2020 Q3 earnings release. With the weather turning cold, a second wave of COVID-19 pandemic is spreading around the world and the speed of economic recovery is becoming delayed with still a great amount of uncertainty regarding the economic recovery while maintaining solid basic fundamentals. It is an important juncture for us to prepare for the future, in particular, utilization of capital, the basis of activities of financial companies will become an important yardstick that will decide the future competitiveness in an environment like in the current situation. Based on this diagnosis, Shinhan Financial Group in Q3 worked hard to continuously create conditions to generate capital and asset profitability even after the post-COVID era. I will briefly cover this from pages five to six and then explain about the Group's Q3 earnings.

Let's go to page five. Our characteristic of Q3 activities of Shinhan Financial Group is that we continued efforts to improve capital profitability, in particular in the investment banking area with high capital and asset profitability based on operating income GIB rose 24% Y-o-Y and GMS rose as much as 128% Y-o-Y, a high growth rate respectively. Shinhan in order to increase the profitability of investment banking and property asset management has adopted the matrix operational system, the basis for co-operation between many subsidiaries. The experience of the matrix operational system accumulated for many years is showing its effect in a difficult situation like in the current situation.

On the other hand, with the continuation of SME funding support in order to overcome the COVID-19 situation, the growth rate of corporate loans has grown 11.2% compared to late last year and is maintaining a high growth rate. From Q4 of this year, we will utilize raised capital so that the growth momentum of the business areas with high profitability can be maintained. As aforementioned, we believe that in a situation like in the current utilization of capital is an important yardstick to determine the future competitiveness of a financial company and when we announced the paid-in capital increase in September, we also forecast our mid-term capital policy target, it's not at the level of the detailed guideline but we set the CET1 ratio target of 12% going forward. And based on this target, we mentioned that we will implement diverse [Phonetic] shareholder return measures including quarterly dividends. As of September, we have reached CET1 ratio of 12% and based on this more aggressive profit growth and ultimately shareholder return will be possible.

As you can see on the next page, we will communicate with the market regarding the details about our capital utilization. The material that you can see on page five shows the CET1 ratio as of September 2020. The current CET ratio as of end September is posting 12% and this is a 89 bp improvement YTD and you can see that we had an improvement of capital ratio accumulated through income generated until end September it's 108 [Phonetic] bp and the capital allocated for profit generation was 76 bp with the expansion of other comprehensive income including GMS, the CET1 ratio improved 18 bp with the expansion of assets in the new growth areas, including IB, the size of allocated capital can get bigger than the current situation.

On the other hand, as a part of M&A activities, the change of capital ratio caused by the integration of Orange as a complete subsidiary early this year was neutral. Apart from this, there was a 44 bp improvement with paid-in capital increase which was resolved in September. As you are well aware, as a part of the government's deregulation measures regarding the COVID-19 situation, there was early adoption of Basel III credit risk, which led to a 110 bp nominal improvements in capital ratio. However, taking into consideration the Basel III adoption schedule, capital management will be continued centering on the CET ratio of the past standard. Assuming that the CET1 ratio as of September-end is maintained and if the ordinary income at the end of the year is realized at a similar level to the previous year, we expect to pay out at least the previous year's levels dividend per share. From the next quarter's earnings call, we will show you the capital ratio allocated for shareholder return.

Now let's go to page eight, Group's management of performance highlights. The financial performance as of Q3 2020 posted KRW2,950.2 billion of net income, a level up in recurring fundamentals. On a quarterly basis, it posted KRW1,144.7 billion, the largest quarterly income since we were founded. Despite the COVID-19 situation and the provisioning against investment product issues, you can see that the situation has improved and as aforementioned despite the COVID-19 situation and the provisioning against investment product issues, the size of income grew 1.9% Y-o-Y, not only on the back of 2% interest income growth, following the high loan asset growth rate following COVID-19 support measures and margin guarding [Phonetic] but also because there was a 4.8% Y-o-Y increase in highly profitable flow based non-interest income.

On the other hand, in terms of cost, SG&A and provisioning is being managed stably. SG&A increased 2.6% Y-o-Y and the Group CIR ratio posted 42.5%, the lowest level in the industry with acceleration of digital transformation going forward through efficiency improvement of front, middle and back we believe that a low level of CIR can be maintained. Despite concerns regarding the COVID situation, the CCR, is being maintained stably at 42 bp. Excluding the provisioning related to COVID-19 and investment products, which took place in Q2, the recurring credit cost ratio is maintaining a 30 bp range, showing the effect of pre-emptive risk management considering COVID-19.

From page nine, I will cover the details of Q3 financials. 2020 Q3 group interest income posted KRW6 trillion, a 2% increase Y-o-Y. With the continuation and maintenance of external growth, it seems to have offset the margin decline effect caused by the policy rate cuts in May. On the other hand, despite the group quarterly margin drop of 3 bp in Q3, we expect more stability from Q4, taking into account the recent market interest rate trend. The bank's loans in Won growth rate on a cumulative basis until Q3 posted 7.7%.

Looking at the breakdown per annum, household loans grew 4.4% and corporate loans grew 11.2% respectively. In particular with the maturity extension of the COVID-19 financial programs, SME and SOHO loan assets grew greatly, driving the overall asset growth trend with high concerns over the situation about the financial support program when it is over through a loan early warning system utilizing Big Data and other measures, we will continue pre-emptive risk management.

I will now cover the Group non-interest income from page 10. The Group's non-interest income in Q3 rose 4.8% Y-o-Y to KRW2,711.9 billion. This is attributable to valuation gain on securities due to capital market stabilization in Q2, but what is noteworthy is the increase in fee income. The fee income as of Q3 YTD increased 8.4% Y-o-Y to KRW1,755 billion. The breakdown of the income shows growth in many areas with the exception of retail investment product due to the PE-related incident. Despite concerns of shrinking consumption due to COVID-19, the credit card fee maintained a growth rate of 2.8% on a cumulative basis with the brokerage fee increase of 121.5% driven by the retail investors stock trading, the profit base related to retail investors was well defended. In addition, lease financing fees and IT-related [Phonetic] fees except for one-offs led the fee income increase in Q3.

Let me now discuss cost on page 11. The Group's SG&A in Q3 YTD grew 2.6% Y-o-Y and the Group's CI ratio is maintained stably at 42.5%. We will continue to keep the CI ratio at a low level through efficient management system enabled by digital innovation. The Group's loan loss provision increased 40.6% Y-o-Y, but if we take out the provisioning related to COVID-19 and -- in Q2, it is actually a decrease of 0.8% Y-o-Y. Considering the recurring credit cost ratio set to be in the later 30 bp according to the 2020 business plan, credit cost is still in the stable range. The delinquency ratio, which is considered the leading indicator for future credit cost has fallen both Y-o-Y and Q-o-Q, not showing signs of deterioration in asset quality due to COVID-19. However, taking into account the uncertainties including the extension of the COVID-19 relief program up until Q1 next year and economic recovery not taking-off, pre-emptive risk management is vital. We will be prepared for the uncertainties through many different means including the early warning system utilizing Big Data that I mentioned earlier.

Page 12. Please refer to the slide for capital adequacy indicators. As of Q3, ROE stood at 10%, recording a two-digit ROE every third quarter for four consecutive years. We will continue to work to enhance ROA and ROE in a sustainable manner.

The subsidiaries business performance on the next page. Thanks to the outstanding performance of the non-bank subsidiaries in Q3, non-banks contribution to net income increased 23.8% [Phonetic] Y-o-Y and increased to 41%. With the securities capital and IB arms going strong this quarter, we were reassured of Shinhan's diversified portfolio able to maintain its fundamentals despite the challenging environment. Across the matrix due to COVID-19 and GLS, the operating income in the Wealth Management and Global business fell, however Wealth Management maintained its growth momentum in size and the number of customers. So it is expected to recover when the external conditions improve. Income from global business decreased 16.2% Y-o-Y, but this is because they had provisioned in Q2 compliant with Korea's domestic standard. Without that factor, the recurring income is at a similar level or even a 7% increase Y-o-Y. We will continue to manage profitability, liquidity and soundness in each countries. Please refer to the next page for more detail on the status of the global business.

I will now continue with the explanation about the contribution made by the digital initiatives. Please look to page 15. Press release of Shinhan Financial Group has stated that it will accelerate its digital transformation by, for example, setting aside a separate budget for digital. Right now we are in the middle of measuring the financial return on digital activities and we would like to share some of that with you on this page. Digital transformation is not limited to a strategy based simply on channel expansion, it is a groupwide innovation, affecting all front, middle and back office activities. In that regard, we're measuring the impact by developing both profit and cost indicators. Let us first look at how much digital contributed to operating income. In Q3, its contribution to the Group's income was 11.6% growing year-on-year. And by subsidiaries, we can see that the digital contribution is high in Shinhan card through digital pay.

And let's look at the cost side. Digital's contribution to cost saving is most pronounced in the front office with the expansion of new digital products. And we also see some cost-cutting effect in mid-to-back office through paperless branches and robotic process automation. We will continue to develop a number of indicators, so that we can communicate the various financial impact digital activities have.

Lastly, ESG on page 16. We believe ESG is not limited to a simple set of strategic initiatives in enabling long-term sustainable growth and creating results. Since they have impact on the long-term financial status, we will keep communicating with the market the ESG activities that we are engaged in. This page shows that up to Q3 2020, the total amount of green finance executed was KRW1,990 billion and inclusive financing KRW22,722 billion. Shinhan does not stop at calculating the financial support extended to each ESG scheme. We are getting ready to properly measure the impact of our ESG activities. For example, by introducing the Carbon Neutral concept based on carbon emission and developing the social value measurement system based on social values. We will share more concrete results with you once we are ready. Detailed information about the Group's ESG activities thus far can be found in the Annual CSR report. The remaining slides are for your reference guiding you through major subsidiaries performance and business indicators.

The year 2020 will be remembered as a year facing unprecedented challenges of COVID-19. It is essential to be prepared for the future, which we don't know how it will unfold. To make the best possible preparation, we will strengthen our fundamentals, as well as keep working hard to create sustainable corporate value. Please show us your kind attention and support, so that we may continue on our differentiated Shinhan way.

This concludes the earnings presentation and now we will have a Q&A. Thank you.

Questions and Answers:

Operator

Thank you very much. We will begin the Q&A. [Operator Instructions] And if you wish to speak in English, we are providing consecutive interpretation into Korean. So please hold as your question gets interpreted into Korean. And there may be some latency until you are connected. So please hold also. We will get the first question from Hyundai Motor Securities, Mr. Kim Jin-Sang. Please go ahead.

Jin-Sang Kim -- Hyundai Motor Securities Co Ltd -- Analyst

Congratulations on your great earnings. I have two questions. First question is a simple question. Regarding your CIR, you mentioned it's 40.5%, 42.5%, so it's quite good. And looking into the next three years, I'm sure that you have integrated related costs as well and digitalization related costs actually. So do you think the numbers of CIR will be affected and do you think the cost will be big in the beginning and then your CIR is going to go down in the mid to long-term, so the current level of CIR do you believe it can be maintained. That is my first question.

The second question is related to, excluding one-offs on a recurring level you had about KRW1 trillion and in Q2 -- in Q3 actually, what were the special factors -- outstanding factors. And regarding your recurring fundamentals, do you believe that it's sustainable.

Last question actually regarding the government programs. The deferral of interest payments or interest holiday seems to be most worrisome. So can you tell us about the situation and what is the amount of principal -- the interest based on the principal. So can you tell us about what impact this may have on your Group. Thank you very much.

Roh Yong-Hoon -- Chief Financial Officer

I am the CFO, Roh Yong-Hoon. I think you gave us three questions. And based on that, first, related to digital innovation, we mentioned that for the next three years, about 10% of our group's net income in the past we didn't have a separate digital budget and it was included in our ICT budget, but we mentioned that this will be separate, so that we will accelerate digitalization. So we announced that after setting it as our plan going forward and the 10% that we mentioned, well, it can include the recurring cost, but capital-related costs are included as well. With the digital innovation regarding one-off expenses and costs, we are still getting material for next year's financial plan. So we cannot give you a concrete details, but a sizable amount will be related to capital. So regarding the CIR ratio even though we do have digitalization efforts, we don't believe that it will deteriorate in the next two to three years and because of our increase of income regarding our raising of capital, we believe that the CIR related factors that could push up the CRE or bid will not be that sizable and in Q3 you mentioned one-offs in Q3 what they are the breakdown and whether we can maintain the recurring level of fundamentals.

Regarding the one-offs there could be many factors and looking at it conservatively, the biggest one-off is Shinhan Life Insurance's building that we had as type of profitable security, but we sold this off. So we had a profit of KRW49 billion, so that is the biggest one-off factor and then we accumulated additional provisioning, but if that is not seen as one-offs, then the KRW49 billion will be seen as a one-off factor. Then in a quarterly recurring level, the fundamentals, well, it goes beyond KRW1 trillion and for our recurring income and in Q4 and in next year we have a goal to push this up and of course we do believe that we have possibility of sustainability.

Dong-Kwon Bang -- Chief Risk Officer

And regarding the interest holiday, I am the CRO and I will answer your question about the interest holiday and the amount of interest is about KRW6 billion and principal is about KRW300 billion and it is not a sizable amount. So we believe that it will not affect our robustness and we believe that as you know for this year, well, if this becomes reflected into the financials next year then there could be some marginalized companies that will be affected, but we are actively pre-emptively preparing for these possibilities.

Kim Tae-yeon -- Head of Finance

I am Kim Tae-yeon, Head of Finance management. And just to elaborate on the first and second questions related to the digital expenses, we mentioned that we will invest more than 10% of our net income into digital innovation, but just on a cash basis, so capital expenditure or capital type of expenses, well, that could be another type and you can see that the expenses will just be for the -- depreciated four, five years going forward, and you also mentioned FinTech companies and in our collaborative efforts with the company there could be some capital going in, but it could be seen separately. So we believe that it will not have a great impact on CIR, so the depreciation because of capital-related expenses and others will be limited. So we will not have a big impact on CIR.

And regarding the accordingly recurring income whether it can be maintained at KRW1 trillion quarterly level, looking at last year's earnings, it was about KRW900 billion per quarter and we believe that was realized and regarding what has changed between last year and this year, you can see that OrangeLife's 60% to 100% of the shares was acquired, so if they have more than KRW250 billion of income this year, then we could have about KRW100 billion of plus because of that and we had capital increase of KRW660 billion for Shinhan Investment Corp and related to those funds for Shinhan Investment Corp they had Shinhan Investment Corp accumulated KRW300 billion of provisioning, but they were able to realize sizable profit and income. So looking at those two factors, we believe that financially, we already have reached the KRW1 trillion line and we believe that it is indeed sustainable.

Jin-Sang Kim -- Hyundai Motor Securities Co Ltd -- Analyst

Thank you very much.

Operator

Thank you very much. We are waiting for additional questions. [Operator Instructions] Next question is from Hume Securities, Mr. Heung Su [Phonetic]. Please go ahead.

Heung Su -- Hume Securities -- Analyst

Hello, I am Heung Su from Hume Securities. Can you hear me well?

Operator

Yes. Please go ahead.

Heung Su -- Hume Securities -- Analyst

In Q2 because of the DLS [Phonetic] incident, you had some difficulties and as we had expected in Q3 there were no mishaps related to such mis-selling of PE products. But nonetheless, we are still concerned regarding other types of PE funds including real estate funds going bad. Internally, what are your plans. Do you think this incident is over.

And second question is about provisioning. Will there be additional provisioning. I think you mentioned that if there is a need, so may be in Q4, applying the IFRS 9, will you be provisioning additionally and will that be affecting the financial results. And going forward, applying the DSR is becoming topic these days and how are you getting prepared for DSR. Thank you.

Roh Yong-Hoon -- Chief Financial Officer

Yes. I am CFO, Roh Yong-Hoon. I would like to take the question about the DLS and our outlook for the coming quarters. As for the PE related products, the distributors, the bank and financial -- the Investment Corp, how we have been affected is what we are keenly looking out for. We need to do in-depth reviews and we are still waiting for the decision coming from the FSS and the dispute settlement body. We have a contract with a foreign accounting firm and they're doing due diligence. So we have requested a due diligence to that accounting firm about the loss amount and the result of the due diligence will be coming out in Q4. So depending on the result, we will decide accordingly how we are going to reflect it on our book, by consulting would that foreign accounting firm and we will recognize losses accordingly. What our expectation is as for the Lime CI fund we do have insurance against the losses and so there is the possibility of the insurance payment and we also have to watch out for the decision coming from the dispute settlement body and so we will be reflecting that accordingly.

Dong-Kwon Bang -- Chief Risk Officer

And the next question were DSR. Yes, this is CRO, Bang Dong-Kwon. As for the DSR, we have adjusted the RC for the sector and we have provisioned additionally, in Q3 and Stage 2 there was additional provisioning in Q4 there could be some more and there will be RSP forecast in Q4 for the next year. In Q4, probably, we won't be provisioning as much the amount will be less and as for the marginal companies looking at the growth trend, we will be working on a selective basis and we will move conservatively.

And the next question about DSR, there is the overall bank average. Maybe it could be done on a region basis or an individual basis, individual company basis and we plan to apply differentiated DSR on a conservative level.

Kim Tae-yeon -- Head of Finance

I am Kim Tae-yeon, Head of Finance management and I would like to add some comments. As was mentioned by the CRO in Q3 for selective companies KRW22 billion of additional provisioning was set aside. And as for the PE-related funds, KRW40billion of provision was set aside for Lime front. In Q2, we had a sizable provision but starting from the end of last year if you watch closely, the provision was around KRW50 billion every quarter and so it was quite a sizable amount. In Q4 what will be the size of provision, in Q1 and Q2 and Q3, we had continue to position. Of course, there won't be as large provision as in Q2 and things could change, but we don't believe any future big shock will be there.

Park Sung-Hyun -- Chief Strategy Officer

I am Park Sung-Hyun, the CSO. As to the private equity fund in Heritage, we had the provision for end. We had made the payment for the Lime fund and in August, we had provisioned by agreeing to the terms that 100% payment will be made out. Of course depending on the macroeconomic situation next year, we cannot say for sure that the PE issue can all be taken care of, but we do believe that the major issues have been taken care of. And if there are some minor issues that remain, they can be handled at the bank level and at the Investment Corp level and it will not make a huge difference.

Heung Su -- Hume Securities -- Analyst

Thank you.

Operator

Next question from KTB Securities, Kimani [Phonetic] please.

Kimani -- KTB Securities -- Analyst

I am Kimani from KTB Securities. Thank you for this opportunity. I am curious about dividends and you mentioned about growth regarding raising of capital and I think this was something that many people were wondering and I have a question regarding your top line because it's very good for the group and Investment Corp as well. And can you tell us about whether this is sustainable for next year and you mentioned the matrix organization and the review, but when you are drawing business plans for next year, are you going to be conservative in certain areas. Can you tell us about what they are and how conservative are you going to be. I think that will help us try to understand next year's financial forecast. Thank you.

Roh Yong-Hoon -- Chief Financial Officer

I am Roh Yong-Hoon, the CFO. Thank you for your question. For next year, we are actually setting forth our business plans, our management plans and GIB and GMS are very important and while having sales increase, RWA will increase, but we already have a capital increase, so that is not going to be a big issue. But regarding GIB and GMS through this non-interest income expansion, we believe will follow next year and it needs to follow and we are going to drive that. However, for PE fund or trust, when we sell it in our channels we can be impacted in the sales commissions and fees. So we believe that those targets will not be very high. So incoming we will increase fee and commissions through GIB and GMS and interest income expansion. Thank you. Non-interest income expansion actually. Thank you.

Park Sung-Hyun -- Chief Strategy Officer

Regarding the matrix, we did have some good results this year and for GIB and GMS we have some realizations that did not occur because of foreign circumstances abroad, but through the system, we have very good inner system as well -- internal system as well. So we believe that on a recurring level, growth and sustainability will be possible and for GIB and GMS actually even when interest rate falls we believe that it can be complemented so we can maintain the recurring income for WM for this year. We had some difficulties because of the PE fund issues, but we believe that the direction is very positive and we believe that for the other accounting factors, it is very positive on a recurring level. So the level of income we believe that we will have growth going forward and it will be maintained.

Operator

So that was our CSO, Park Sung-Hyun. We have no other questions in the queue as of now, so we will hold. This concludes Shinhan Financial Group's 2020 Q3 earnings release. We will continue to work hard for better results to make a difference in the valuation. Thank you for your participation in today's quarterly earnings call and we wish you the very best. Thank you.

Duration: 39 minutes

Call participants:

Cheol-Woo Park -- Head of Investor Relations

Roh Yong-Hoon -- Chief Financial Officer

Dong-Kwon Bang -- Chief Risk Officer

Kim Tae-yeon -- Head of Finance

Park Sung-Hyun -- Chief Strategy Officer

Jin-Sang Kim -- Hyundai Motor Securities Co Ltd -- Analyst

Heung Su -- Hume Securities -- Analyst

Kimani -- KTB Securities -- Analyst

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