With concerns growing for the economic health of the eurozone, investors could be forgiven for being unenthusiastic about buying shares in Spanish lender Banco Santander (BNC). But Spain's economy is one of the few in the eurozone where recovery is clearly under way, which should eventually prove good news for all Spanish-focused lenders. Moreover, worries related to the recent EU-wide bank stress-testing exercise should disappear given that Santander passed with flying colours. Add that to Santander's fat dividend yield and a re-rating looks likely.
- Spanish economy is on the mend
- Robust non-Spanish operations
- Plenty of capital
- Fat dividend yield
- Bad loans remain a drag
- Withholding tax on dividends
Admittedly, Santander faces plenty of challenges. Reflecting the impact of Spain's deep recession following the financial crisis, as well as the collapse of the country's property market, credit quality is a problem. On its Spanish lending, Santander's ratio of non-performing loans (NPL) to all loans was 7.59 per cent at the half-year stage. That has left the group's NPL ratio at almost 5.5 per cent - high compared with its international peers.
But unlike many eurozone nations, Spain's economy - and therefore Spain's banks - can expect better times. Indeed, when the IMF revisited its global growth forecasts this month it modestly upped its estimates for Spain, despite cutting its forecast for overall eurozone growth. The IMF now expects Spain's economy to grow 1.3 per cent in 2014 and 1.7 per cent in 2015. This brighter outlook is reducing Spain's credit quality problem and the bad-loan ratio for all banks has begun falling from January's peak of 13.5 per cent. For Santander, its second-quarter NPL ratio in Spain fell for the first time in eight quarters, albeit by a tiny fraction. Expect more progress when Santander's third-quarter figures appear on 4 November. As bad debts fall, Santander's earnings should grow.
Nor is Santander just a Spanish play. In fact, 28 per cent of the group's assets are in the UK - compared with a quarter in Spain - and the UK business looks in good shape. At the half-year stage, UK pre-tax profit jumped 56 per cent year on year to €973m (£766m) while the UK non-performing loan ratio, at just 1.91 per cent, is a fraction of the group figure. "The transformation of Santander UK from a collection of building societies into a higher-quality retail and commercial bank is going well," reckon analysts at Deutsche Bank. Moreover, Santander boasts significant exposure to the faster-growth emerging markets of Latin America - for example, 13 per cent of the bank's assets are in Brazil.
BANCO SANTANDER (BNC) | ||||
|---|---|---|---|---|
| ORD PRICE: | 550p | MARKET VALUE: | £65.9bn | |
| TOUCH: | 549-550p | 12-MONTH HIGH: | 642p | LOW: 505p |
| FORWARD DIVIDEND YIELD: | 8.6% | FORWARD PE RATIO: | 11 | |
| NET ASSET VALUE: | 494p | |||
| Year to 31 Dec | Pre-tax profit (€bn) | Adj. earnings per share (¢) | Dividend per share (¢) |
|---|---|---|---|
| 2011 | 10.2 | 60 | 60 |
| 2012 | 8.5 | 23 | 60 |
| 2013 | 7.3 | 40 | 60 |
| 2014* | 9.7 | 47 | 60 |
| 2015* | 11.8 | 61 | 60 |
| % change | +22 | +30 | - |
*Grupo Novo Banco estimates Normal market size: 3,000 Matched bargain trading Beta: 1.04 £1=€1.27 | |||
Santander is well capitalised, too. It emerged in good shape from this month's stress-testing exercises by the European Central Bank (ECB) and the European Banking Authority (EBA). Based on the EBA's adverse scenario - reflecting such assumptions as a 5 per cent contraction in the EU's output by the end of 2016 - Santander's ratio of core tier-one equity (comparing highest-quality capital with assets, weighted for risk) should reach 9 per cent. That's 3.5 percentage points above the minimum. Moreover, the ECB's asset quality review suggested Santander should make extra provisions of just €200m, which would hit the bank's capital ratio by a mere 0.04 percentage points.
That healthy capital cushion leaves Santander's dividend looking safe - it's forecast to remain at 60¢ for the foreseeable future, producing an 8.6 per cent dividend yield. However, despite Santanders' secondary listing in London, UK residents face a Spanish withholding tax on dividend income. But a bilateral UK-Spanish tax treaty, which came into force in June, cuts the rate down from the standard 21 per cent to 10 per cent. Sure, much bureaucracy is involved before being able to benefit from that lower rate, but a fat dividend yield still beckons for those prepared to jump through the hoops.
