Banco Santander Chile Update: Reducing Our FVE to $18 From $21 on High Cost of Funds

We are reducing our fair value estimate for narrow-moat Banco Santander Chile BSAC to $18 per share from $21 per ADR share as the bank’s results are being severely impacted by economic conditions in Chile. About $1.70 of the reduction is from exchange rate movements since our last update with our fair value estimate now being based on an exchange rate of CLP 890/$1 as of Sept. 22, 2023.

The remainder of the reduction in our fair value estimate comes from lower net interest income projections as the bank’s rapidly increasing cost of funds and lower inflation readjustment income have caused the bank’s profitability to decline dramatically this year, with the bank’s net interest income decreasing more than 40% in the first half of 2023 from last year. Banco Santander has material positive exposure to inflation through inflation indexed loans, which benefited it during a period of high inflation in 2021 and 2022. However, inflation in Chile has decreased significantly in recent months, leading to much lower inflation adjustment income for the bank.

At the same time, high interest rates have caused the bank’s cost of funds to rise from 0.9% at the end of 2021 to 7.3% by the second quarter of 2023. While asset yields have also increased during the year, they have failed to keep pace and the firm’s net interest margin has compressed to 2.1% in the most recent quarter from 4.1% last year. Fortunately, the Chilean central bank has begun to decrease the benchmark rate, reducing it from a high of 11.25% at the start of the year to 9.5% by September, which will provide relief for the bank’s net interest income. That said, the bank will need to endure a period of significantly diminished profitability as we do not see the bank’s net interest margin fully recovering until 2025.