BBVA may have grabbed the headlines for missed acquisitions but a bank that posts 20% a year profits growth, that pays a top return on equity as well as being a byword for prudence cannot be all bad, as Karina Robinson discovers.

At a time when some of the biggest banks in the world are hitting the headlines with losses and write downs in the billions and revelations of deficient risk control, BBVA stands out for its solidity and solvency. Not only does it have one of the lowest non-performing loan rates of any top 25 global bank at 0.86% (which are covered 250 times by provisions), it also has no exposure to subprime securitisations and is reportedly one of only three banks that has been a net lender in the European interbank market at various points in September, a clear indication of its ample liquidity.

Even more impressive is that this conservatism is allied to exceptional profitability – at 36.4% the best return on equity of the top 25 and, further evidence of good management, the best cost/income ratio at 44% in 2006. Additionally, it is the number three bank in the world for trade finance, according to Dealogic, the 24th biggest bank in the US following recent acquisitions, one of the largest banks in the world in the exploding remittances market and among the top two pension fund managers in Latin America.

Better known than some of the more hidden charms listed above is that it is the second largest bank in Spain, the largest in Mexico and the second largest in South America. It has 35 million clients worldwide.

The 150-year-old bank, which is still nominally headquartered in Bilbao, in Spain’s Basque region, does, however, face several challenges. Not least of these are the critics who say its recent history is a catalogue of missed acquisition opportunities that have left it trailing long-time competitor Santander. Its Spanish rival is the ninth largest bank in the world with a market capitalisation of $122.4bn, a third more than BBVA in 22nd place with $90.8bn.

They also allege that BBVA’s two main businesses in Spain and Mexico are bound to suffer from slower growth rates, while the latter is, additionally, vulnerable to a US slowdown.

Exuberant chairman Francisco González dismisses the criticisms: “We have had annual 20% earnings growth. To maintain that growth rate in a more hostile environment of the cycle we will reduce our costs, reprice assets and gain market share based on innovation, less time to market, better service and liquidity” he says.

“We [have] more liquidity than other banks, because we believed leverage was too high and we did not get involved in any transaction that was unclear,” he adds, speaking in his corner office at the top of BBVA’s main office on Castellana Avenue in Madrid – an unshowy edifice that is representative of the bank’s corporate culture.

Strategic plan

The bank recently published a new strategic plan that set very ambitious goals in the years to 2010, including reducing its cost/income ratio by nine percentage points to under 35% – no mean feat when it already boasts the lowest in the top 25 – and adding 20% more clients globally by targeting the young and immigrants in Spain, while in Mexico it will increase consumer credits 2.5 times and mortgages three times. In the rest of Latin America, it plans on adding three million more clients.

As part of the plan, 10% of operating profits will come from non-financial products by 2010. That underlines the innovative nature of the bank, which has come up with novel ideas such as DineroExpress, an entity serving the large new immigrant population in Spain that takes advantage of the bank’s Latin American links (see February’s The Banker).

Mr González is the missionary force for innovation in the bank – with the chairman pushing it, the bank, unlike most, has not parked the subject in a far-off department.

“We want to go beyond the banking needs of clients to what are their needs from when they wake up to when they go to sleep. We want to tell people whether the clothes they are buying are good value, what is the best placed school to send their child to. We will do this in real time and at a marginal cost,” he says. By inserting itself into people’s non-financial decisions, the bank hopes to create loyalty and make money from financing the services they need.

It has already taken an experimental step or two in this direction (see box below).

Mergers and acquisitions

As for the criticism of its market capitalisation, the critics have a point. After all, arch-rival Santander boldly took over the UK’s Abbey, and this year will gain ABN AMRO’s Brazilian and Italian operations. Meanwhile, BBVA failed to take over Banca Nazionale del Lavoro (BNL) in 2005, a move which would have made it a truly cross-border European bank and given another leg to complement its Spanish and Latin American businesses. Additionally, it is barely present in Brazil, the largest economy in South America.

Competitors say its failure in Italy was due to the board not supporting the chairman, following a falling out over secret offshore accounts between Mr González, formerly head of Banco Argentaria, and former co-president Emilio Ybarra and other executives hailing from Banco Bilbao Vizcaya. The banks were merged in 1999.

Insiders say Antonio Fazio, then governor of the Bank of Italy, who later that year was forced to resign amid a scandal over his favouring of a friend’s bid for Italian bank Banca Antonveneta, played hardball to protect BNL.

Whatever the real story, the result was that when the Italian deal failed, BBVA was perceived as a target and Mr González’s oft-quoted remarks about how the bank would be among the global top 10 looked deeply unachievable.

He says a few banks have come “not to buy us, but to marry us.” There have in fact been rumours about many banks, including UK-headquartered Lloyds TSB and HSBC.

Mr González says that being a consolidator in Europe is no longer a central part of strategy, nor would BBVA contemplate the carve-up of a bank through a consortium-style bid as hostile operations are not part of its corporate culture, nor will it be involved in big operations in the near term.

However, statements by bank chairmen and chief executives on M&As are easily ditched when opportunities present themselves.

Mr González also denies that recent acquisitions of small stakes in the bank by various friendly Spanish billionaires constitute an attempt to form a hard core of shareholders.

US moves

Still, as a top Spanish banker points out, shareholders of BBVA have benefited more than those of Santander, which has posted a much lower return on equity (ROE) in recent years. In the past three years, BBVA’s ROE ranged from 33.2% to 36.4%, while Santander’s ranged from 19.7% to 21.4%.

What the critics have also missed is the magnitude and potential of BBVA’s acquisition of Compass Bancshares in the US – partly the bank’s fault for failing to communicate its US strategy. It plans to remedy this mid-November with an investor day.

“We have zero visibility [on the US acquisition]. We don’t know what contribution it will make,” says Carlos Berastain, Spanish banks analyst at Deutsche Bank in Madrid. “Look at last year’s earnings for Compass – with growth of only 10% to 12%. That is way below Spain and Mexico.”

BBVA’s shares, which are trading on a price earnings multiple of only 9.5 times 2008 earnings, have also suffered from an unexpected rights issue last year which was seen by investors as unnecessary.

Mr Berastain, though, like many analysts, is telling investors to buy the shares as he thinks they are cheap.

So what is the US story? BBVA is now the 24th largest bank in the US. Its US operations now have assets of $56bn on the back of BBVA’s $9.1bn acquisition of Compass Bancshares – completed in September – added to the Spanish bank’s existing US operations. These include four banks bought in recent years in California, Texas and New Mexico, as well as BBVA Puerto Rico.

“BBVA is strongly implanted in Spain and Mexico, that is the core. But it is transforming itself with what it is doing in the US with Compass, where it will have an important footprint,” notes Jesús Martínez, an analyst at rating agency Standard & Poor’s.

Mr González assumes that it will take the bank up to three years to prove to the market that the BBVA model can work in the US. This consists of cross-selling to retail clients – in Spain it sells an average of 4.7 products per client – which sceptics say is not a model that can easily be implanted in the US, where clients often buy individual product from lots of different providers. Isabel Goiri, BBVA’s head of investor relations, disagrees, pointing out that US behemoth Wells Fargo sells about five.

As well as retail banking, the bank will focus on small and medium-sized enterprises – BBVA has made this a speciality in all the markets in which it operates – and community banking. It plans to expand the corporate banking franchise since as part of a multinational group, BBVA US will be able to offer a much wider range of products to existing clients while recruiting new ones. It should also see a drop in funding costs.

Compass ‘opportunity’

Some investors, says Mr Berastain, believe BBVA overpaid for Compass. José María García Meyer, CEO of BBVA USA, responds to that charge by saying that Compass “presented a unique opportunity to add what many called a ‘trophy’ franchise given its operations in attractive, high-growth Sunbelt [southern US from Pacific to Atlantic] markets”. Combined with BBVA’s existing Texas banks, the merged bank ranks fourth in deposit market share in Texas.

With Compass the largest regional bank in the Sunbelt region, BBVA has also ensured its exposure to the US housing market and possible economic slowdown will be less than if it had operations in states with lower growth. The Sunbelt is seeing relatively dynamic local housing markets as well as higher growth than other US regions. Mr García Meyer also notes that all the banks that form BBVA US offered primarily plain vanilla mortgages and were not involved in the subprime market.

The Compass purchase also brought into the Spanish group a good local management team with a record of integrating acquisitions efficiently. That will come in handy when BBVA buys yet another US bank – an obvious move.

“Of course we will buy another bank, but not for three years. Now we need to integrate,” says Mr González.

Playing it safe

But the US is far from the whole story. On the prudence side, it is worth noting that BBVA’s regulator has been more conservative than those in many other countries. In 2006, research house Fox-Pitt, Kelton said Spanish banks operated under “over-prudent” provisioning requirements from the Bank of Spain. At the tail-end of 2007, the Bank of Spain’s obsession with loading banks up with counter-cyclical provisions looks like the right judgement call.

Meanwhile, BBVA’s exposure to the slowing Spanish property market, which is of concern to analysts, is limited both in volume and scope. The 10-year construction boom came to an end in the first half of the year when 10% fewer homes were sold than in the same period in 2006.

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Juan Asúa, head of the Spain and Portugal unit which accounts for 45% of BBVA’s profits, notes that the bank has been very prudent in its lending criteria, sticking mainly to first homes and avoiding the coastal areas of Spain, which are the most speculative. In terms of lending to property developers, the bank has only a 6% market share. For them and for the Spanish utilities that have property arms, the bank has been conservative in its risk criteria.

In fact, says Mr Asúa, the credit crunch in wholesale markets presents an opportunity to increase market share and margins in SMEs and consumer finance. The cajas (savings banks), which were stealing market share from the listed banks with aggressive mortgage offers, are cutting back on their loans.

BBVA’s corporate division is another hidden gem – the sort of low-profile unit with stable, recurring business that investment bankers at the big global banks write off as the bumbling country cousin.

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But, as José Barreiro, head of global wholesale banking and asset management points out, his division has a 40% return on economic capital and a cost/income ratio of 35%, while its value at risk (VAR) limits are 50% to 60% of that of the industry.He expects market activity to slow, which will affect revenues, but also believes that recent events provide an opportunity for the bank in recruiting structured product and equity teams – areas in which the bank has traditionally been weak – as well as in its business model.

“Many investors bought products without realising how the leverage behind them worked and have had heavy losses. So there is a move towards more transparency, less ‘sophisticated’ products, where trust becomes more important. The market is moving towards our space,” he says. “We had record revenues in the markets in July and August as we were not exposed to leveraged buyouts, we had no bridge financing, and we had been saying for months that credit was overdone, so were long on volatility,” he adds.

In Spain, BBVA is the lead bank for 57% of the big companies, many of which are expanding abroad.

Its position in trade finance – it is the third largest provider of finance in the world, according to Dealogic – will benefit from its recent foray into Asia. This year BBVA spent almost $1bn on 5% of Citic Bank and 15% of its Hong Kong-based international business, Citic International Financial Holdings – in essence two banks operated by China’s state-owned Citic Group. It has the option to increase these stakes.

By the end of the year, the Spanish bank expects to announce exactly how it will develop joint businesses, ranging from leveraging Chinese investments in Latin America to helping develop banking products for the Chinese group.

BBVA is a bank with hidden charms. The bank believes investors will discover them. It argues that in the recent booming world economy, with all banks growing strongly, very little distinction has been made between different banks. It contends that now, a bank that can grow profits at 20% a year, reward shareholders with a top return on equity and is at the same time a byword for prudence will see its shares re-rated.

Whether or not it is right, speculation about a merger or takeover shows no signs of abating.

GRAPH: BBVA SHARE PRICE 2002-2007

MULTI-FUNCTIONAL BANK BRANCHES

Five years ago, accepted wisdom had it that bank branches were of minor importance as the internet and other channels took over. Many of them would be closed down, said the pundits.

That has not proved to be the case, not least because banks have found that face-to-face selling in the branches works better. But using space in them productively is a preoccupation.

BBVA chairman Francisco González notes that as back-office functions migrate to lower-cost centres, there is room for other businesses. A pilot branch in Madrid’s busy María de Molina street provides one of a number of possible prototypes. With large plate glass windows, the Juan Valdez café inside the branch is a beacon, bringing in passers-by. Next to the Colombian company’s café are three manned booths. The one advertising BBVA Holidays, for instance, has an adviser from Viajes Marsans, a well-known Spanish travel agency, who recommends destinations and financing packages.

One of the aims is to attract more young people who are not necessarily BBVA clients but are looking for services like holiday planning, with the aim of turning them into the bank’s clients, while for existing clients, providing an additional service will tie them more closely to the bank.

The bank receives rent from the café and is looking to set up joint promotions with it.

Meanwhile, the more traditional bank functions such as financial advice are located at the back of this branch.

Another productive use of office space for BBVA is what it calls “Oficinas Duo”, a few of which are being tested. These are branches that operate as normal BBVA ones in the usual banking hours, but from 3pm to 11pm turn into DineroExpress branches via a simple series of lowered screens and opened partitions.

DineroExpress is the Spanish bank’s immigrant unit. In the next three years, the bank is aiming to capture half a million new immigrant clients in Spain, a country which has gone from a net exporter to a net importer of people in recent years. It offers them a range of services from simple remittances to mortgages and consumer credit, having learned lessons from its Mexican unit on credit scoring for customers with no credit record – an example of the cross-fertilisation of ideas.

Its Mexican experience also gave the bank an insight into the behaviour and potential of immigrants sending money home. To leverage its knowledge and take advantage of ever-increasing global mobility, it set up a global remittances unit, Bancomer Transaction Services, which has signed deals with banks as diverse as Bank of China and ICICI of India.

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