UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

 

Washington, D.C. 20549

 

 

 

FORM 20-F

 

(Mark One)

 

REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934

OR 

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2016

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission file number: 1-14554

 

BANCO SANTANDER-CHILE
(d/b/a Santander and Banco Santander)
(Exact name of Registrant as specified in its charter)

 

SANTANDER-CHILE BANK
(d/b/a Santander and Banco Santander)
(Translation of Registrant’s name into English)

 

Chile
(Jurisdiction of incorporation or organization)

 

Bandera 140, 20th floor
Santiago, Chile
Telephone: 011-562-320-2000
(Address of principal executive offices)

Robert Moreno Heimlich

Tel: 562-2320-8284, Fax: 562-696-1679, email: robert.moreno@santander.cl

Bandera 140, 20th Floor, Santiago, Chile

 

Securities registered or to be registered pursuant to Section 12(b) of the Act:

 

Title of each class 

Name of each exchange on which registered 

American Depositary Shares (“ADS”), each representing the right to receive 400 Shares of Common Stock without par value New York Stock Exchange
Shares of Common Stock, without par value* New York Stock Exchange
   
 

* Santander-Chile’s shares of common stock are not listed for trading, but only in connection with the registration of the American Depositary Shares pursuant to the requirements of the New York Stock Exchange.

 

 
 

Securities registered or to be registered pursuant to Section 12(g) of the Act:

 

None
(Title of Class)

 

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act:

 

None
(Title of Class)

 

The number of outstanding shares of each class of common stock of Banco Santander-Chile at December 31, 2016, was:

 

188,446,126,794 Shares of Common Stock, without par value

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

 

Yes           No

 

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

 

Yes           No

 

Note – Checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 from their obligations under those Sections.

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

Yes           No

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

 

Yes           No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large Accelerated Filer           Accelerated Filer           Non-accelerated Filer

 

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:

 

U.S. GAAP International Financial Reporting Standards as issued by the International Accounting Standards Board Other

 

If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.

 

Item 17           ☐ Item 18

 

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

 

Yes           No

 

 
 
 

TABLE OF CONTENTS

 

 

Page

 

CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS 2
CERTAIN TERMS AND CONVENTIONS 4
PRESENTATION OF FINANCIAL INFORMATION 4
PART I 7
ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS 7
ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE 7
ITEM 3. KEY INFORMATION 7
ITEM 4. INFORMATION ON THE COMPANY 39
ITEM 4A. UNRESOLVED STAFF COMMENTS 56
ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS 57
ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES 132
ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS 144
ITEM 8. FINANCIAL INFORMATION 150
ITEM 9. THE OFFER AND LISTING 151
ITEM 10. ADDITIONAL INFORMATION 152
ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 170
ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES 190
PART II 192
ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES 192
ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS 192
ITEM 15. CONTROLS AND PROCEDURES 192
ITEM 16. [RESERVED] 194
ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT 194
ITEM 16B. CODE OF ETHICS 194
ITEM 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES 194
ITEM 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES 195
ITEM 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS 195
ITEM 16F. CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT 195
ITEM 16G. CORPORATE GOVERNANCE 195
ITEM 16H. MINE SAFETY DISCLOSURE 197
PART III 198
ITEM 17. FINANCIAL STATEMENTS 198
ITEM 18. FINANCIAL STATEMENTS 198
ITEM 19. EXHIBITS 198

 

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CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS

 

We have made statements in this Annual Report on Form 20-F that constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E of the Securities Exchange Act of 1934, as amended, and the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These statements appear throughout this report and include statements regarding our intent, belief or current expectations regarding:

 

·asset growth and alternative sources of funding

 

·growth of our fee-based business

 

·financing plans

 

·impact of competition

 

·impact of regulation

 

·exposure to market risks including:

 

·interest rate risk

 

·foreign exchange risk

 

·equity price risk

 

·projected capital expenditures

 

·liquidity

 

·trends affecting:

 

·our financial condition

 

·our results of operation

 

The sections of this Annual Report which contain forward-looking statements include, without limitation, “Item 3. Key Information—Risk Factors,” “Item 4. Information on the Company—B. Business Overview—Competition,” “Item 5. Operating and Financial Review and Prospects,” “Item 8. Financial Information—A. Consolidated Statements and Other Financial Information—Legal Proceedings,” and “Item 11. Quantitative and Qualitative Disclosures About Market Risk.” Our forward-looking statements also may be identified by words such as “believes,” “expects,” “anticipates,” “projects,” “intends,” “should,” “could,” “may,” “seeks,” “aim,” “combined,” “estimates,” “probability,” “risk,” “VaR,” “target,” “goal,” “objective,” “future” or similar expressions.

 

You should understand that the following important factors, in addition to those discussed elsewhere in this Annual Report and in the documents which are incorporated by reference, could affect our future results and could cause those results or other outcomes to differ materially from those expressed in our forward-looking statements:

 

·changes in capital markets in general that may affect policies or attitudes towards lending to Chile or Chilean companies;

 

·changes in economic conditions;

 

·the monetary and interest rate policies of Central Bank (as defined below);

 

·inflation;

 

·deflation;

 

·unemployment;

 

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·increases in defaults by our customers and in impairment losses;

 

·decreases in deposits;

 

·customer loss or revenue loss;

 

·unanticipated turbulence in interest rates;

 

·movements in foreign exchange rates;

 

·movements in equity prices or other rates or prices;

 

·the effects of non-linear market behavior that cannot be captured by linear statistical models, such as the VaR model we use;

 

·changes in Chilean and foreign laws and regulations;

 

·changes in taxes;

 

·competition, changes in competition and pricing environments;

 

·our inability to hedge certain risks economically;

 

·the adequacy of loss allowances;

 

·technological changes;

 

·changes in consumer spending and saving habits;

 

·changes in demographics, consumer spending, investment or saving habits;

 

·increased costs;

 

·unanticipated increases in financing and other costs or the inability to obtain additional debt or equity financing on attractive terms;

 

·changes in, or failure to comply with, banking regulations;

 

·acquisitions or restructurings of businesses that may not perform in accordance with our expectations;

 

·our ability to successfully market and sell additional services to our existing customers;

 

·disruptions in client service;

 

·damage to our reputation;

 

·natural disasters;

 

·implementation of new technologies;

 

·the Group’s exposure to operational losses (e.g., failed internal or external processes, people and systems); and

 

·an inaccurate or ineffective client segmentation model.

 

You should not place undue reliance on such statements, which speak only as of the date at which they were made. The forward-looking statements contained in this report speak only as of the date of this Annual Report, and we do not undertake to update any forward-looking statement to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.

 

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CERTAIN TERMS AND CONVENTIONS

 

As used in this annual report (the “Annual Report”), “Santander-Chile”, “the Bank”, “we,” “our” and “us” or similar terms refer to Banco Santander-Chile together with its consolidated subsidiaries.

 

When we refer to “Santander Spain,” we refer to our parent company, Banco Santander, S.A. References to “the Group,” “Santander Group” or “Grupo Santander” mean the worldwide operations of the Santander Spain conglomerate, as indirectly controlled by Santander Spain and its consolidated subsidiaries, including Santander-Chile.

 

As used in this Annual Report, the term “billion” means one thousand million (1,000,000,000).

 

In this Annual Report, references to “$”, “U.S.$”, “U.S. dollars” and “dollars” are to United States dollars; references to “Chilean pesos,” “pesos” or “Ch$” are to Chilean pesos; references to “CHF” or “CHF$” are to Swiss francs; references to “CNY” or “CNY$” are to Chinese yuan renminbi); and references to “UF” are to Unidades de Fomento. The UF is an inflation-indexed Chilean monetary unit with a value in Chilean pesos that changes daily to reflect changes in the official Consumer Price Index (“CPI”) of the Instituto Nacional de Estadísticas (the Chilean National Institute of Statistics) for the previous month. See “Item 3. Key Information—A. Selected Financial Data—Exchange Rates” for information regarding exchange rates.

 

As used in this Annual Report, the terms “write-offs” and “charge-offs” are synonyms.

 

In this Annual Report, references to the Audit Committee are to the Bank’s Comité de Directores y Auditoría.

 

In this Annual Report, references to “BIS” are to the Bank for International Settlement, and references to “BIS ratio” are to the capital adequacy ratio as calculated in accordance with the Basel Capital Accord. References to the “Central Bank” are to the Banco Central de Chile. References to the SBIF are to the Superintendency of Banks and Financial Institutions.

 

Certain figures included in this Annual Report have been subject to rounding adjustments. Accordingly, figures shown as totals in certain tables may not be an arithmetic aggregation of the figures that precede them.

 

PRESENTATION OF FINANCIAL INFORMATION

 

Santander-Chile is a Chilean bank and maintains its financial books and records in Chilean pesos and prepares its consolidated financial statements in accordance with International Financial Reporting Standards (“IFRS”) as issued by the International Accounting Standards Board (“IASB”). Any reference to IFRS in this document is to IFRS as issued by the IASB.

 

As required by local regulations, our locally filed consolidated financial statements have been prepared in accordance with the Compendium of Accounting Standards issued by the SBIF the Chilean regulatory agency (“Chilean Bank GAAP”). Therefore, our locally filed consolidated financial statements have been adjusted to IFRS in order to comply with the requirements of the Securities and Exchange Commission (the “SEC”). Chilean Bank GAAP principles are substantially similar to IFRS but there are some exceptions. For further details and a discussion of the main differences between Chilean Bank GAAP and IFRS, see to “Item 5. Operating and Financial Review and Prospects—Accounting Standards Applied in 2016.”

 

This Annual Report contains our consolidated financial statements as of December 31, 2016 and 2015 and for the years ended December 31, 2016, 2015 and 2014 (the “Audited Consolidated Financial Statements”). Such Audited Consolidated Financial Statements have been prepared in accordance with IFRS as issued by the IASB, and have been audited by the independent registered public accounting firm PricewaterhouseCoopers Consultores, Auditores y Compañía Limitada for the year ended December 31, 2016 and by the independent registered accounting firm Deloitte Auditores y Consultores Limitada for the years ended December 31, 2015 and 2014. See page F-2 of the Audited Consolidated Financial Statements for the 2016 audit report prepared by PricewaterhouseCoopers Consultores, Auditores y Compañía Limitada and page F-4 of the Audited Consolidated Financial Statements for the 2015 and 2014 audit report prepared by Deloitte Auditores y Consultores Limitada. The Audited Consolidated Financial Statements have been prepared from accounting records maintained by the Bank and its subsidiaries.

 

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The notes to the Audited Consolidated Financial Statements form an integral part of the Audited Consolidated Financial Statements and contain additional information and narrative descriptions or details of these financial statements.

 

We have formatted our financial information according to the classification format for banks in Chile for purposes of IFRS. We have not reclassified the line items to comply with Article 9 of Regulation S-X. Article 9 is a regulation of the SEC that contains formatting requirements for bank holding company financial statements.

 

Functional and Presentation Currency

 

The Chilean peso is the currency of the primary economic environment in which the Bank operates and the currency that influences its structure of costs and revenues, and in accordance with International Accounting Standard 21 – The Effects of Changes in Foreign Exchange Rates has been defined as the functional and presentation currency. Accordingly, all balances and transactions denominated in currencies other than the Chilean peso are treated as “foreign currency.”

 

For presentational purposes, we have translated Chilean pesos (Ch$) into U.S. dollars (U.S.$) using the rate as indicated below under “Exchange Rates,” for the financial information included in this Annual Report. See “Note 1—Summary of Significant Accounting Principles—e) Functional and presentation currency.”

 

Loans

 

Unless otherwise specified, all references herein (except in the Audited Consolidated Financial Statements) to loans are to loans and financial leases before deduction for loan loss allowance, and, except as otherwise specified, all market share data presented herein is based on information published periodically by the SBIF. Non-performing loans include the entire principal amount and accrued but unpaid interest on loans for which either principal or interest is past-due for 90 days or more. Restructured loans for which no payments are past-due are not ordinarily classified as non-performing loans. See “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information—Classification of Loan Portfolio Based on the Borrower’s Payment Performance.”

 

Under IFRS, a loan is evaluated on each financial statement reporting date to determine whether objective evidence of impairment exists. A loan will be impaired if, and only if, objective evidence of impairment exists as a result of one or more events that occurred after the initial recognition of the loan, and such event or events have an impact on the estimated future cash flows of such loan that can be reliably estimated. It may not be possible to identify a single event that was the individual cause of the impairment.

 

An impairment loss relating to an individually significant loan recorded at amortized cost which has experienced objective evidence of impairment is calculated as the difference between the recorded amount of the loan and the fair value of the collateral less costs to sell (practical expedient as allowed under IAS 39, “Financial Instruments”, Application Guidance paragraph 84).

 

Those loans individually assessed for impairment and found not to be individually impaired are included in the loans collectively assessed for impairment (so that the collective assessment includes both the remainder of the loans not individually assessed and those not found to be individually impaired) where grouping of such loans on a collective basis is performed using similar credit characteristics.

 

The reversal of an impairment loss occurs only if it can be objectively related to an event occurring after the initial impairment loss was recorded. In the case of loans recorded at amortized cost, the reversal is recorded in income. See “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information—Analysis of Loan Loss Allowances.”

 

Outstanding loans and the related percentages of our loan portfolio consisting of corporate and consumer loans in the section entitled “Item 4. Information on the Company—B. Business Overview” are categorized based on the nature of the borrower. Outstanding loans and related percentages of our loan portfolio consisting of corporate and consumer loans in the section entitled “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information” are categorized in accordance with the reporting requirements of the SBIF, which are based on the type and term of loans. This disclosure is consistent with IFRS.

 

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Effect of Rounding

 

Certain figures included in this Annual Report and in the Audited Consolidated Financial Statements have been rounded up for ease of presentation. Percentage figures included in this Annual Report have not in all cases been calculated on the basis of such rounded figures but on the basis of such amounts prior to rounding. For this reason, certain percentage amounts in this Annual Report may vary from those obtained by performing the same calculations using the figures in the Audited Consolidated Financial Statements. Certain other amounts that appear in this Annual Report may not sum due to rounding.

 

Economic and Market Data

 

In this Annual Report, unless otherwise indicated, all macroeconomic data related to the Chilean economy is based on information published by the Central Bank, and all market share and other data related to the Chilean financial system is based on information published by the SBIF and our analysis of such information. Information regarding the consolidated risk index of the Chilean financial system as a whole is not available.

 

Exchange Rates

 

This Annual Report contains translations of certain Chilean peso amounts into U.S. dollars at specified rates solely for the convenience of the reader. These translations should not be construed as representations that the Chilean peso amounts actually represent such U.S. dollar amounts, were converted from U.S. dollars at the rate indicated in preparing the Audited Consolidated Financial Statements, could be converted into U.S. dollars at the rate indicated, were converted or will be converted at all.

 

Unless otherwise indicated, all U.S. dollar amounts at any year end, for any period have been translated from Chilean pesos based on the interbank market rate published by Reuters at 1:30 pm on the last business day of the period. On December 31, 2016 and 2015, the exchange rate in the Informal Exchange Market as published by Reuters at 1:30 pm on these days was Ch$666.00and Ch$707.80 respectively, or 0.19% less and 0.06% more, respectively, than the observed exchange rate published by the Central Bank for such date of Ch$667.29 and Ch$707.34 respectively, per U.S.$1.00. The Federal Reserve Bank of New York does not report a noon buying rate for the Chilean peso. For more information on the observed exchange rate, see “Item 3. Key Information—A. Selected Financial Data—Exchange Rates” of the Annual Report.

 

As of December 31, 2016 and 2015, one UF was equivalent to Ch$26,347.98 and Ch$25,629.09, respectively. The U.S. dollar equivalent of one UF was U.S.$39.49 as of December 31, 2016, using the observed exchange rate reported by the Central Bank as of December 30, 2015 of Ch$36.23 per U.S.$1.00.

 

 

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PART I

 

ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS

 

Not applicable.

 

ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE

 

Not applicable.

 

ITEM 3. KEY INFORMATION

 

A.Selected Financial Data

 

The following table presents selected historical financial information for Santander-Chile as of the dates and for each of the periods indicated. Financial information for Santander-Chile as of and for the years ended December 31, 2016, 2015, 2014, 2013, and 2012 has been derived from our audited consolidated financial statements prepared in accordance with IFRS. In the F-pages of this Annual Report on Form 20-F, our audited financial statements as of December 31, 2016 and 2015 and for the years ended December 31, 2016, 2015 and 2014 are presented. The audited financial statements for 2013 and 2012 are not included in this document, but they can be found in our previous Annual Reports on Form 20-F. These consolidated financial statements differ in some respects from our locally filed financial statements as of and for the years ended December 31, 2016, 2015, 2014, 2013 and 2012 prepared in accordance with Chilean Bank GAAP. See “Item 4. Information on the Company—Differences between IFRS and Chilean Bank GAAP.”

 

The following table should be read in conjunction with, and is qualified in its entirety by reference to, our Audited Consolidated Financial Statements appearing elsewhere in this Annual Report.

 

   As of and for the years ended December 31,
   2016  2016  2015  2014  2013  2012
   In U.S.$ thousands(1)  In Ch$ millions (2)
CONSOLIDATED STATEMENT OF INCOME DATA (IFRS)                  
Net interest income    1,923,973    1,281,366    1,255,206    1,317,104    1,076,762    1,042,734 
Net fee and commission income    382,018    254,424    237,627    227,283    229,836    270,572 
Financial transactions, net (3)    210,748    140,358    145,499    112,565    124,437    82,299 
Other operating income    9,650    6,427    6,439    6,545    88,155    13,105 
Net operating profit before provision for loan losses    2,526,389    1,682,575    1,644,771    1,663,497    1,519,190    1,408,710 
Provision for loan losses    (513,638)   (342,083)   (399,277)   (354,903)   (371,462)   (403,692)
Net operating profit    2,012,751    1,340,492    1,245,494    1,308,594    1,147,728    1,005,018 
Total operating expenses    (1,135,197)   (756,041)   (719,958)   (683,819)   (610,191)   (599,379)
Operating income    877,554    584,451    525,536    624,775    537,537    405,639 
Income from investments in associates and other companies    4,523    3,012    2,588    2,165    1,422    267 
Income before tax    882,077    587,463    528,124    626,940    538,959    405,906 
Income tax expense    (163,710)   (109,031)   (76,395)   (51,050)   (94,530)   (44,473)
Net income for the year    718,366    478,432    451,729    575,890    444,429    361,433 
Net income for the period attributable to:                              
Equity holders of the Bank    714,815    476,067    448,466    569,910    442,294    356,808 
Non-controlling interests    3,551    2,365    3,263    5,980    2,135    4,625 
Net income attributable to Equity holders of the Bank per share    3.79    2.53    2.38    3.02    2.35    1.89 
Net income attributable to Equity holders of the Bank per ADS    1,517.28    1,010.51    951.92    1,208.00    938.83    757.37 
Weighted-average shares outstanding (in millions)    188,446.1    188,446.1    188,446.1    188,446.1    188,446.1    188,446.1 
Weighted-average ADS outstanding (in millions)    471.1    471.1    471.1    471.1    471.1    471.1 

 

 

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   As of and for the years ended December 31,
   2016  2016  2015  2014  2013  2012
   In U.S.$ thousands(1)  In Ch$ millions (2)
CONSOLIDATED STATEMENT OF FINANCIAL POSITION DATA (IFRS)                              
Cash and deposits in banks    3,422,506    2,279,389    2,064,806    1,608,888    1,571,810    1,250,414 
Cash items in process of collection    743,668    495,283    724,521    531,373    604,077    520,267 
Trading investments    596,077    396,987    324,271    774,815    287,567    338,287 
Investments under resale agreements    10,114    6,736    2,463        17,469    6,993 
Financial derivative contracts    3,754,928    2,500,782    3,205,926    2,727,563    1,494,018    1,293,212 
Interbank loans, net    403,411    268,672    9,711    11,942    124,954    90,414 
Loans and accounts receivable from customers, net    39,259,991    26,147,154    24,528,745    22,196,390    20,320,874    18,326,190 
Available-for-sale investments    5,088,447    3,388,906    2,044,411    1,651,598    1,700,993    1,826,158 
Investments in associates and other companies    35,706    23,780    20,309    17,914    9,681    7,614 
Intangible assets    87,215    58,085    51,137    40,983    66,703    87,347 
Property, plant, and equipment    386,455    257,379    240,659    211,561    180,215    162,214 
Current taxes                2,241    1,643    10,227 
Deferred taxes    539,940    359,600    320,527    272,118    227,285    181,875 
Other assets    1,272,180    847,272    1,100,174    927,961    514,938    657,890 
TOTAL ASSETS    55,600,638    37,030,025    34,637,660    30,975,347    27,122,227    24,759,102 
Deposits and other demand  liabilities    11,320,293    7,539,315    7,356,121    6,480,497    5,620,763    4,970,019 
Cash items in process of being cleared    433,143    288,473    462,157    281,259    276,379    284,953 
Obligations under repurchase agreements    318,974    212,437    143,689    392,126    208,972    304,117 
Time deposits and other time liabilities    19,747,311    13,151,709    12,182,767    10,413,940    9,675,272    9,112,213 
Financial derivative contracts    3,441,683    2,292,161    2,862,606    2,561,384    1,291,785    1,146,161 
Interbank borrowing    2,877,429    1,916,368    1,307,574    1,231,601    1,682,377    1,438,003 
Issued debt instruments    11,000,559    7,326,372    5,957,095    5,785,112    5,198,658    4,571,289 
Other financial liabilities    360,384    240,016    220,527    205,125    189,781    192,611 
Current taxes    43,985    29,294    17,796    1,077    50,242    525 
Deferred taxes    11,541    7,686    3,906    7,631    26,753    9,544 
Provisions    438,754    292,210    274,998    285,970    217,310    191,892 
Other liabilities    1,194,872    795,785    1,045,869    654,557    311,479    341,274 
TOTAL LIABILITIES    51,188,928    34,091,826    31,835,105    28,300,279    24,749,771    22,562,601 
Capital    1,338,293    891,303    891,303    891,303    891,303    891,303 
Reserves    2,462,631    1,640,112    1,527,893    1,307,761    1,130,991    975,460 
Valuation adjustments    9,970    6,640    1,288    25,600    (5,964)   (3,781)
Retained earnings    556,761    370,803    351,890    417,321    327,622    299,254 
Attributable to Equity holders of the Bank    4,367,655    2,908,858    2,772,374    2,641,985    2,343,952    2,162,236 
Non-controlling interest   44,056    29,341    30,181    33,083    28,504    34,265 
TOTAL EQUITY (4)    4,411,710    2,938,199    2,802,555    2,675,068    2,372,456    2,196,501 
TOTAL LIABILITIES AND EQUITY    55,600,638    37,030,025    34,637,660    30,975,347    27,122,227    24,759,102 

 

   As of and for the years ended December 31,
   2016  2015  2014  2013  2012
CONSOLIDATED RATIOS                         
(IFRS)                         
Profitability and performance:                         
Net interest margin (5)    4.3%   4.4%   4.9%   4.6%   4.8%
Return on average total assets (6)    1.4%   1.3%   1.8%   1.6%   1.4%
Return on average equity (7)    16.8%   16.0%   21.4%   18.9%   16.5%
Capital:                         
Average equity as a percentage of average total assets (8)    8.1%   8.2%   8.2%   8.7%   8.7%
Total liabilities as a multiple of equity (9)    11.6    11.4    10.6    10.4    10.3 
Credit Quality:                         
Non-performing loans as a percentage of total loans (10)    2.1%   2.5%   2.8%   2.9%   3.2%
Allowance for loan losses as percentage of total loans    2.9%   3.0%   2.9%   2.9%   2.9%
Operating Ratios:                         
Operating expenses /operating revenue (11)    44.9%   43.8%   41.1%   40.2%   42.5%
Operating expenses /average total assets    2.1%   2.1%   2.1%   2.3%   2.4%
                          
OTHER DATA                         
CPI Inflation Rate (12)    2.7%   4.4%   4.7%   3.0%   1.5%
Revaluation (devaluation) rate (Ch$/U.S.$) at year end (12)    5.7%   (16.5%)   (16.0%)   (9.4%)   8.2%
Number of employees at period end    11,354    11,723    11,478    11,516    11,713 
Number of branches and offices at period end    423    471    474    493    504 

 

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(1)Amounts stated in U.S. dollars at and for the year ended December 31, 2016 have been translated from Chilean pesos at the interbank market exchange rate of Ch$666.00 = U.S.$1.00 as of December 31, 2016 based on the interbank market rate published by Reuters at 1:30 pm on the last business day of the period.

 

(2)Except per share data, percentages and ratios, share numbers, employee numbers and branch numbers.

 

(3)Net income (expense) from financial operations and net foreign exchange gain.

 

(4)Total equity includes equity attributable to Equity holders of the Bank plus non-controlling interests.

 

(5)Net interest income divided by average interest earning assets (as presented in “Item 5. Operating and Financial Review and Prospects— C. Selected Statistical Information”).

 

(6)Net income for the year divided by average total assets (as presented in “Item 5. Operating and Financial Review and Prospects— C. Selected Statistical Information”).

 

(7)Net income for the year divided by average equity (as presented in “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information”).

 

(8)This ratio is calculated using total average equity (as presented in “Item 5. Operating and Financial Review and Prospects— C. Selected Statistical Information”) including non-controlling interest.

 

(9)Total liabilities divided by equity.

 

(10)Non-performing loans include the aggregate unpaid principal and accrued but unpaid interest on all loans with at least one installment over 90 days past-due.

 

(11)The efficiency ratio is equal to operating expenses over operating income. Operating expenses includes personnel salaries and expenses, administrative expenses, depreciation and amortization, impairment and other operating expenses. Operating income includes net interest income, net fee and commission income, net income from financial operations (net trading income), foreign exchange profit (loss), net and other operating income.

 

(12)Based on information published by the Central Bank.

 

Exchange Rates

 

Chile has two currency markets, the Mercado Cambiario Formal, or the Formal Exchange Market, and the Mercado Cambiario Informal, or the Informal Exchange Market. According to Law 18,840, the organic law of the Central Bank and the Central Bank Act (Ley Orgánica Constitucional del Banco Central de Chile), the Central Bank determines which purchases and sales of foreign currencies must be carried out in the Formal Exchange Market. Pursuant to Central Bank regulations currently in effect, all payments, remittances or transfers of foreign currency abroad which are required to be effected through the Formal Exchange Market may be effected with foreign currency procured outside the Formal Exchange Market. The Formal Exchange Market is comprised of the banks and other entities so authorized by the Central Bank. The Informal Exchange Market is comprised of entities that are not expressly authorized to operate in the Formal Exchange Market, such as certain foreign exchange houses and travel agencies, among others. The Central Bank is empowered to require that certain purchases and sales of foreign currencies be carried out on the Formal Exchange Market. The conversion from pesos to U.S. dollars of all payments and distributions with respect to the ADSs described in this Annual Report must be transacted at the spot market rate in the Formal Exchange Market.

 

Both the Formal and Informal Exchange Markets are driven by free market forces. Current regulations require that the Central Bank be informed of certain transactions and that they be effected through the Formal Exchange Market. In order to keep the average exchange rate within certain limits, the Central Bank may intervene by buying or selling foreign currency on the Formal Exchange Market.

 

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The U.S.$ Observed Exchange Rate (dólar observado), which is reported by the Central Bank and published daily in the Chilean newspapers, is the weighted average exchange rate of the previous business day’s transactions in the Formal Exchange Market. The Central Bank has the power to intervene by buying or selling foreign currency on the Formal Exchange Market to attempt to maintain the Observed Exchange Rate within a desired range. Even though the Central Bank is authorized to carry out its transactions at the Observed Exchange Rate, it generally uses spot rates for its transactions. Other banks generally carry out authorized transactions at spot rates as well.

 

Purchases and sales of foreign currencies may be legally carried out in the Informal Exchange Market. The Informal Exchange Market reflects transactions carried out at informal exchange rates by entities not expressly authorized to operate in the Formal Exchange Market. There are no limits imposed on the extent to which the rate of exchange in the Informal Exchange Market can fluctuate above or below the Observed Exchange Rate. In recent years, the variation between the Observed Exchange Rate and the Informal Exchange Rate has not been significant. On December 31, 2015 and 2016 the exchange rate in the Informal Exchange Market as published by Reuters at 1:30 pm on these days was Ch$707.80 and Ch$666.00 respectively, or 0.06% more and 0.19% less, respectively, than the Central Bank’s published observed exchange rate for such date of Ch$707.34 and Ch$667.29, respectively, per U.S.$1.00.

 

The following table sets forth the annual low, high, average and period-end observed exchange rate for U.S. dollars for each of the following periods, as reported by the Central Bank. We make no representation that the Chilean peso or the U.S. dollar amounts referred to herein actually represent, could have been or could be converted into U.S. dollars or Chilean pesos, as the case may be, at the rates indicated, at any particular rate or at all. The Federal Reserve Bank of New York does not report a noon buying rate for pesos.

 

   Daily Observed Exchange Rate Ch$ Per U.S.$(1)
Year  Low(2)  High(2)  Average(3)  Period End
             
2012     469.65    519.69    494.99    478.60 
2013     466.50    533.95    495.09    523.76 
2014     524.61    621.41    570.01    607.38 
2015     597.10    715.66    654.25    707.34 
2016     645.22    730.31    676.83    667.29 

 

   Daily Observed Exchange Rate Ch$ Per U.S.$(1)
Month  Low(2)  High(2)  Average(3)  Period End
October 2016  651.65     670.88     663.92     651.65   
November 2016     650.72    679.24    666.12    675.48 
December 2016     649.40    677.11    667.17    667.29 
January 2017     648.31    673.36    661.19    648.87 
February 2017     638.35    646.97    643.21    645.19 
March 2017 (through March 22, 2017)     648.88    669.52    660.29    657.83 

 

 

Source: Central Bank.

 

(1)Nominal figures.

 

(2)Exchange rates are the actual low and high, on a day-by-day basis for each period.

 

(3)The average of monthly average rates during the year.

 

Dividends

 

Under the current General Banking Law, a Chilean bank may only pay a single dividend per year (i.e., interim dividends are not permitted). Santander-Chile’s annual dividend is proposed by its Board of Directors and is approved by the shareholders at the annual ordinary shareholders’ meeting held the year following that in which the dividend is generated. For example, the 2016 dividend must be proposed and approved during the first four months of 2017. Following shareholder approval, the proposed dividend is declared and paid. Historically, the dividend for a particular year has been declared and paid no later than one month following the shareholders’ meeting. Dividends are paid to shareholders of record on the fifth day preceding the date set for payment of the dividend. The applicable record dates for the payment of dividends to holders of ADSs will, to the extent practicable, be the same.

 

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Under the General Banking Law, a bank must distribute cash dividends in respect of any fiscal year in an amount equal to at least 30% of its net income for that year, as long as the dividend does not result in the infringement of minimum capital requirements. The balances of our distributable net income are generally retained for use in our business (including for the maintenance of any required legal reserves). Although our Board of Directors currently intends to pay regular annual dividends, the amount of dividend payments will depend upon, among other factors, our then current level of earnings, capital and legal reserve requirements, as well as market conditions, and there can be no assurance as to the amount or timing of future dividends.

 

Dividends payable to holders of ADSs are net of foreign currency conversion expenses of The Bank of New York Mellon, as depositary (the “Depositary”) and will be subject to the Chilean withholding tax currently at the rate of 35% (subject to credits in certain cases as described in “Item 10. Additional Information—E. Taxation—Material Tax Consequences of Owning Shares of Our Common Stock or ADSs”).

 

Under the Foreign Investment Contract (as defined herein), the Depositary, on behalf of ADS holders, is granted access to the Formal Exchange Market to convert cash dividends from Chilean pesos to U.S. dollars and to pay such U.S. dollars to ADS holders outside Chile, net of taxes, and no separate registration by ADS holders is required. In the past, Chilean law required that holders of shares of Chilean companies who were not residents of Chile to register as foreign investors under one of the foreign investment regimes contemplated by Chilean law in order to have dividends, sale proceeds or other amounts with respect to their shares remitted outside Chile through the Formal Exchange Market. On April 19, 2001, the Central Bank deregulated the Exchange Market and eliminated the need to obtain approval from the Central Bank in order to remit dividends, but at the same time this eliminated the possibility of accessing the Formal Exchange Market. These changes do not affect the current Foreign Investment Contract, which was signed prior to April 19, 2001, which grants access to the Formal Exchange Market with prior approval of the Central Bank. See “Item 10. Additional Information—D. Exchange Controls.”

 

The following table presents dividends declared and paid by us in nominal terms in the past four years:

 

Year 

Dividend
Ch$ millions (1) 

Dividend
U.S.$ millions (2) 

Per share Ch$/share (3) 

Per ADS U.S.$/ADS (4) 

% over earnings (5) 

% over earnings (6) 

2013 232,780 493.1 1.24 1.05 60 65
2014 265,156 476.0 1.41 1.01 60 60
2015 330,198 540.4 1.75 1.15 60 58
2016 336,659 503.7 1.79 1.07 75 75
2017(7) 330,646 496.5 1.75 1.05 70 69

 

 
(1)Millions of nominal pesos.

 

(2)Millions of U.S.$ using the observed exchange rate of the day the dividend was approved at the annual shareholders’ meeting, except for 2017 when the exchange rate used is Ch$666.00.

 

(3)Calculated on the basis of 188,446 million shares.

 

(4)Dividend in U.S.$ million divided by the number of ADS, which was calculated on the basis of 1,039 shares per ADS for 2012. For 2013, 2014, 2015 and 2016, it is calculated on the basis of 400 shares per ADS.

 

(5)Calculated by dividing dividend paid in the year by net income attributable to the equity holders of the Bank for the previous year under Chilean Bank GAAP. This is the payment ratio determined by shareholders.

 

(6) Calculated by dividing dividend paid in the year by net income attributable to the equity holders of the Bank for the previous year under IFRS.

 

(7)Dividend proposed by the Board for shareholders’ approval on April 26, 2017.

 

B.Capitalization and Indebtedness

 

Not applicable.

 

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C.Reasons for the Offer and Use of Proceeds

 

Not applicable.

 

D.Risk Factors

 

You should carefully consider the following risk factors, which should be read in conjunction with all the other information presented in this Annual Report. The risks and uncertainties described below are not the only ones that we face. Additional risks and uncertainties that we do not know about or that we currently think are immaterial may also impair our business operations. Any of the following risks, if they actually occur, could materially and adversely affect our business, results of operations, prospects and financial condition.

 

We are subject to market risks that are presented both in this subsection and in “Item 5. Operating and Financial Review and Prospects” and “Item 11. Quantitative and Qualitative Disclosures about Market Risk.”

 

Risks Associated with Our Business

 

We are vulnerable to disruptions and volatility in the global financial markets.

 

In the recent past, financial systems worldwide have experienced difficult credit and liquidity conditions and disruptions leading to less liquidity and greater volatility (such as volatility in spreads). Global economic conditions deteriorated significantly between 2007 and 2009, and many countries fell into recession. Although most countries have begun to recover, this recovery may not be sustainable. Many major financial institutions, including some of the world’s largest global commercial banks, investment banks, mortgage lenders, mortgage guarantors and insurance companies experienced, and some continue to experience, significant difficulties. Around the world, there have also been runs on deposits at several financial institutions, numerous institutions have sought additional capital or have been assisted by governments, and many lenders and institutional investors have reduced or ceased providing funding to borrowers (including to other financial institutions).

 

In particular, we face, among others, the following risks related to the economic downturn:

 

·Reduced demand for our products and services.

 

·Increased regulation of our industry. Compliance with such regulation will continue to increase our costs and may affect the pricing for our products and services, increase our conduct and regulatory risks to non-compliance and limit our ability to pursue business opportunities.

 

·Inability of our borrowers to timely or fully comply with their existing obligations. Macroeconomic shocks may negatively impact the household income of our retail customers and may adversely affect the recoverability of our retail loans, resulting in increased loan losses.

 

·The process we use to estimate losses inherent in our credit exposure requires complex judgments, including forecasts of economic conditions and how these economic conditions might impair the ability of our borrowers to repay their loans. The degree of uncertainty concerning economic conditions may adversely affect the accuracy of our estimates, which may, in turn, impact the reliability of the process and the sufficiency of our loan loss allowances.

 

·The value and liquidity of the portfolio of investment securities that we hold may be adversely affected.

 

·Any worsening of global economic conditions may delay the recovery of the international financial industry and impact our financial condition and results of operations.

 

Despite recent improvements in certain segments of the global economy, uncertainty remains concerning the future economic environment. Such economic uncertainty could have a negative impact on our business and results of operations. A slowing or failing of the economic recovery would likely aggravate the adverse effects of these difficult economic and market conditions on us and on others in the financial services industry.

 

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Increased volatility in the global financial markets could have a material adverse effect on us, including on our ability to access capital and liquidity on financial terms acceptable to us, if at all. If capital markets financing ceases to become available, or becomes excessively expensive, we may be forced to raise the rates we pay on deposits to attract more customers and become unable to maintain certain liability maturities. Any such increase in capital markets funding availability or costs or in deposit rates could have a material adverse effect on our interest margins and liquidity.

 

If all or some of the foregoing risks were to materialize, this could have a material adverse effect on our financing availability and terms and, more generally, on our results, financial condition and prospects.

 

Additionally, the results of the 2016 United States presidential and congressional elections have generated volatility in the global capital and currency markets and have created uncertainty about the relationship between the United States and Latin American countries. Any material change to United States trade policy with respect to Chile could have a material adverse effect on the economy, which could in turn materially harm our financial condition and results of operations.

 

Credit, market and liquidity risk may have an adverse effect on our credit ratings and our cost of funds. Any downgrade in Chile’s, our controlling shareholders or our credit rating would likely increase our cost of funding, require us to post additional collateral or take other actions under some of our derivative contracts and adversely affect our interest margins and results of operations.

 

Credit ratings affect the cost and other terms upon which we are able to obtain funding. Rating agencies regularly evaluate us, and their ratings of our debt are based on a number of factors, including our financial strength and conditions affecting the financial services industry generally. In addition, due to the methodology of the main rating agencies, our credit rating is affected by the rating of Chile’s sovereign debt. If Chile’s sovereign debt is downgraded, our credit rating would also likely be downgraded by an equivalent amount.

 

In December 2016, Moody’s Investors Services (“Moody’s”) concluded a review of the Bank’s ratings and downgraded the baseline credit assessments from a2 to a3 due to their belief that the prospects of a continued slowdown in the Chilean economy and relevant market shift have changed the competitive landscape. Moody’s confirmed our other ratings, maintaining a stable outlook. Also in December 2016, Fitch changed their outlook on the Bank from stable to negative due to concerns over the sovereign ratings for Chile. Standard and Poor’s Ratings Services (“S&P”) announced the same action in January 2017.

 

In addition, our ratings may be adversely affected by any downgrade in the ratings of our parent company, Santander Spain. The long-term debt of Santander Spain is currently rated investment grade by the major rating agencies: A3 (stable) by Moody’s, A- (positive) by S&P and A- (stable) by Fitch Ratings Ltd. (“Fitch”).

 

Any downgrade in our debt credit ratings would likely increase our borrowing costs and require us to post additional collateral or take other actions under some of our derivative contracts, and could limit our access to capital markets and adversely affect our commercial business. For example, a ratings downgrade could adversely affect our ability to sell or market certain of our products, engage in certain longer-term and derivatives transactions and retain our customers, particularly customers who need a minimum rating threshold in order to invest. In addition, under the terms of certain of our derivative contracts and other financial commitments we may be required to maintain a minimum credit rating or terminate such contracts or post collateral. Any of these results of a ratings downgrade could reduce our liquidity and have an adverse effect on us, including our operating results and financial condition.

 

While certain potential impacts of these downgrades are contractual and quantifiable, the full consequences of a credit rating downgrade are inherently uncertain, as they depend upon numerous dynamic, complex and inter-related factors and assumptions, including market conditions at the time of any downgrade, whether any downgrade of our long-term credit rating precipitates downgrades to our short-term credit rating, and assumptions about the potential behaviors of various customers, investors and counterparties. Actual outflows could be higher or lower than the preceding hypothetical examples, depending upon certain factors including which credit rating agency downgrades our credit rating, any management or restructuring actions that could be taken to reduce cash outflows and the potential liquidity impact from loss of unsecured funding (such as from money market funds) or loss of secured funding capacity. Although unsecured and secured funding stresses are included in our stress testing scenarios and a portion of our total liquid assets is held against these risks, a credit rating downgrade could still have a material adverse effect on us.

 

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In addition, if we were required to cancel our derivatives contracts with certain counterparties and were unable to replace such contracts, our market risk profile could be altered.

 

There can be no assurance that the rating agencies will maintain the current ratings or outlooks. Failure to maintain favorable ratings and outlooks could increase our cost of funding and adversely affect interest margins, which could have a material adverse effect on us.

 

Increased competition, including from non-traditional providers of banking services such as financial technology providers, and industry consolidation may adversely affect our results of operations.

 

The Chilean market for financial services is highly competitive. We compete with other private sector Chilean and non-Chilean banks, with Banco del Estado de Chile, the principal government-owned sector bank, with department stores and with larger supermarket chains that make consumer loans and sell other financial products to a large portion of the Chilean population. The lower to middle-income segments of the Chilean population and the small- and mid- sized corporate segments have become the target markets of several banks and competition in these segments may increase. In addition, there has been a trend towards consolidation in the Chilean banking industry in recent years, which has created larger and stronger banks with which we must now compete. There can be no assurance that this increased competition will not adversely affect our growth prospects, and therefore our operations. We also face competition from non-bank (such as department stores, insurance companies, cajas de compensación and cooperativas) and non-finance competitors (principally department stores and larger supermarket chains) with respect to some of our credit products, such as credit cards, consumer loans and insurance brokerage. In addition, we face competition from non-bank finance competitors, such as leasing, factoring and automobile finance companies, with respect to credit products, and from mutual funds, pension funds and insurance companies with respect to savings products.

 

Non-traditional providers of banking services, such as internet based e-commerce providers, mobile telephone companies and internet search engines may offer and/or increase their offerings of financial products and services directly to customers. These non-traditional providers of banking services currently have an advantage over traditional providers because they are not subject to banking regulation. Several of these competitors may have long operating histories, large customer bases, strong brand recognition and significant financial, marketing and other resources. They may adopt more aggressive pricing and rates and devote more resources to technology, infrastructure and marketing. New competitors may enter the market or existing competitors may adjust their services with unique product or service offerings or approaches to providing banking services. If we are unable to successfully compete with current and new competitors, or if we are unable to anticipate and adapt our offerings to changing banking industry trends, including technological changes, our business may be adversely affected. In addition, our failure to effectively anticipate or adapt to emerging technologies or changes in customer behavior, including among younger customers, could delay or prevent our access to new digital-based markets, which would in turn have an adverse effect on our competitive position and business.

 

The rise in customer use of internet and mobile banking platforms in recent years could negatively impact our investments in bank premises, equipment and personnel for our branch network. The persistence or acceleration of this shift in demand towards internet and mobile banking may necessitate changes to our retail distribution strategy, which may include closing and/or selling certain branches and restructuring our remaining branches and work force. These actions could lead to losses on these assets and may lead to increased expenditures to renovate, reconfigure or close a number of our remaining branches or to otherwise reform our retail distribution channel. Furthermore, our failure to swiftly and effectively implement such changes to our distribution strategy could have an adverse effect our competitive position.

 

Increasing competition could also require that we increase our rates offered on deposits or lower the rates we charge on loans, which could also have a material adverse effect on us, including our profitability. It may also negatively affect our business results and prospects by, among other things, limiting our ability to increase our customer base and expand our operations and increasing competition for investment opportunities.

 

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If our customer service levels were perceived by the market to be materially below those of our competitor financial institutions, we could lose existing and potential business. If we are not successful in retaining and strengthening customer relationships, we may lose market share, incur losses on some or all of our activities or fail to attract new deposits or retain existing deposits, which could have a material adverse effect on our operating results, financial condition and prospects.

 

Our ability to maintain our competitive position depends, in part, on the success of new products and services we offer our clients and our ability to continue offering products and services from third parties, and we may not be able to manage various risks we face as we expand our range of products and services that could have a material adverse effect on us.

 

The success of our operations and our profitability depends, in part, on the success of new products and services we offer our clients and our ability to continue offering products and services from third parties. However, we cannot guarantee that our new products and services will be responsive to client demands, or that they will be successful. In addition, our clients’ needs or desires may change over time, and such changes may render our products and services obsolete, outdated or unattractive and we may not be able to develop new products that meet our clients’ changing needs. Our success is also dependent on our ability to anticipate and leverage new and existing technologies that may have an impact on products and services in the banking industry. Technological changes may further intensify and complicate the competitive landscape and influence client behavior. If we cannot respond in a timely fashion to the changing needs of our clients, we may lose clients, which could in turn materially and adversely affect us.

 

As we expand the range of our products and services, some of which may be at an early stage of development in the markets of certain regions where we operate, we will be exposed to new and potentially increasingly complex risks and development expenses in those markets, with respect to which our experience and the experience of our partners may not be sufficient. Our employees and our risk management systems may not be sufficient to enable us to properly manage such risks. In addition, the cost of developing products that are not launched is likely to affect our results of operations. Any or all of these factors, individually or collectively, could have a material adverse effect on us.

 

Our strong position in the credit card market is in part due to our credit card co-branding agreement with Chile’s largest airline. This agreement expires in August 2020 and no assurance can be given that it will be renewed, which may materially and adversely affect our results of operations and financial condition in the credit card business.

 

While we have successfully increased our customer service levels in recent years, should these levels ever be perceived by the market to be materially below those of our competitor financial institutions, we could lose existing and potential business. If we are not successful in retaining and strengthening customer relationships, we may lose market share, incur losses on some or all of our activities or fail to attract new deposits or retain existing deposits, which could have a material adverse effect on our operating results, financial condition and prospects.

 

The financial problems faced by our customers could adversely affect us.

 

Market turmoil and economic recession could materially and adversely affect the liquidity, credit ratings, businesses and/or financial conditions of our borrowers, which could in turn increase our non-performing loan ratios, impair our loan and other financial assets and result in decreased demand for borrowings in general. In addition, our customers may further significantly decrease their risk tolerance to non-deposit investments such as stocks, bonds and mutual funds, which would adversely affect our fee and commission income. We may also be adversely affected by the negative effects of the heightened regulatory environment on our customers due to the high costs associated with regulatory compliance and proceedings. Any of the conditions described above could have a material adverse effect on our business, financial condition and results of operations.

 

We may generate lower revenues from fee and commission based businesses.

 

The fees and commissions that we earn from the different banking and other financial services that we provide represent a significant source of our revenues. Our customers may significantly decrease their risk tolerance to non-deposit investments such as stocks, bonds and mutual funds for a number of reasons, including a market downturn, which would adversely affect us, including our fee and commission income.

 

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Banco Santander Chile sold its asset management business in 2013 and signed a management service agreement for a 10 year-period with the acquirer of this business in which we sell asset management funds on their behalf. Therefore, even in the absence of a market downturn, below-market performance by the mutual funds of the firm we broker for may result in a reduction in revenue we receive from selling asset management funds and adversely affect our results of operations.

 

Market conditions have resulted, and could result, in material changes to the estimated fair values of our financial assets. Negative fair value adjustments could have a material adverse effect on our operating results, financial condition and prospects.

 

In the recent past, financial markets have been subject to significant stress resulting in steep falls in perceived or actual financial asset values, particularly due to volatility in global financial markets and the resulting widening of credit spreads. We have material exposures to securities, loans and other investments that are recorded at fair value and are therefore exposed to potential negative fair value adjustments. Asset valuations in future periods, reflecting then-prevailing market conditions, may result in negative changes in the fair values of our financial assets and these may also translate into increased impairments. In addition, the value ultimately realized by us on disposal may be lower than the current fair value. Any of these factors could require us to record negative fair value adjustments, which may have a material adverse effect on our operating results, financial condition or prospects.

 

In addition, to the extent that fair values are determined using financial valuation models, such values may be inaccurate or subject to change, as the data used by such models may not be available or may become unavailable due to changes in market conditions, particularly for illiquid assets, and particularly in times of economic instability. In such circumstances, our valuation methodologies require us to make assumptions, judgments and estimates in order to establish fair value, and reliable assumptions are difficult to make and are inherently uncertain and valuation models are complex, making them inherently imperfect predictors of actual results. Any consequential impairments or write-downs could have a material adverse effect on our operating results, financial condition and prospects.

 

The credit quality of our loan portfolio may deteriorate and our loan loss reserves could be insufficient to cover our actual loan losses, which could have a material adverse effect on us.

 

Risks arising from changes in credit quality and the recoverability of loans and amounts due from counterparties are inherent in a wide range of our businesses. Non-performing or low credit quality loans have in the past negatively impacted our results of operations and could do so in the future. In particular, the amount of our reported non-performing loans may increase in the future as a result of growth in our total loan portfolio, including as a result of loan portfolios that we may acquire in the future (the credit quality of which may turn out to be worse than we had anticipated), or factors beyond our control, such as adverse changes in the credit quality of our borrowers and counterparties or a general deterioration in economic conditions in Chile or in global economic and political conditions. If we were unable to control the level of our non-performing or poor credit quality loans, this could have a material adverse effect on us.

 

As of December 31, 2016, our non-performing loans were Ch$564,131 million, and the ratio of our non-performing loans to total loans was 2.1%. As of December 31, 2016, our allowance for loan losses was Ch$790,605 million, and the ratio of our allowance for loan losses to total loans was 2.9%. For additional information on our asset quality, see “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information–Classification of Loan Portfolio Based on the Borrower’s Payment Performance.”

 

Our current allowance for loan losses may not be adequate to cover an increase in the amount of non-performing loans or any future deterioration in the overall credit quality of our total loan portfolio. Our allowance for loan losses is based on our current assessment of and expectations concerning various factors affecting us, including the quality of our loan portfolio. These factors include, among other things, our borrowers’ financial condition, repayment abilities and repayment intentions, the realizable value of any collateral, the prospects for support from any guarantor, Chile’s economy, government macroeconomic policies, interest rates and the legal and regulatory environment. As the recent global financial crisis has demonstrated, many of these factors are beyond our control. In addition, as these factors evolve, the models we use to determine the appropriate level of allowance for loan losses and other assets require recalibration, which can lead to increased provision expense. See “Item 5. Operating and Financial Review and Prospects—A. Operating Results–Results of Operations for the Years ended December 31, 2016, 2015 and 2014—Provision for loan losses, net of recoveries.”

 

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As a result, there is no precise method for predicting loan and credit losses, and we cannot assure you that our allowance for loan losses will be sufficient in the future to cover actual loan and credit losses. If our assessment of and expectations concerning the above-mentioned factors differ from actual developments, if the quality of our total loan portfolio deteriorates, for any reason, including the increase in lending to individuals and small and medium enterprises, the volume increase in the consumer loan portfolio and the introduction of new products, or if the future actual losses exceed our estimates of incurred losses, we may be required to increase our provisions and allowance for loan losses, which may adversely affect us. If we are unable to control or reduce the level of our non-performing or poor credit quality loans, this could have a material adverse effect on us.

 

The value of the collateral securing our loans may not be sufficient, and we may be unable to realize the full value of the collateral securing our loan portfolio.

 

The value of the collateral securing our loan portfolio may fluctuate or decline due to factors beyond our control, including macroeconomic factors affecting Chile’s economy. The value of the collateral securing our loan portfolio may be adversely affected by force majeure events, such as natural disasters, particularly in locations where a significant portion of our loan portfolio is composed of real estate loans. Natural disasters such as earthquakes and floods may cause widespread damage, which could impair the asset quality of our loan portfolio and could have an adverse impact on Chile’s economy. The real estate market is particularly vulnerable in the current economic climate and this may affect us, as real estate represents a significant portion of the collateral securing our residential mortgage loan portfolio. We may also not have sufficiently recent information on the value of collateral, which may result in an inaccurate assessment for impairment losses of our loans secured by such collateral. If any of the above were to occur, we may need to make additional provisions to cover actual impairment losses of our loans, which may materially and adversely affect our results of operations and financial condition.

 

The growth of our loan portfolio may expose us to increased loan losses. Our exposure to individuals and small and mid-sized businesses could lead to higher levels of past due loans, allowances for loan losses and charge-offs.

 

The further expansion of our loan portfolio (particularly in the consumer, small- and mid-sized companies and real estate segments) can be expected to expose us to a higher level of loan losses and require us to establish higher levels of provisions for loan losses. See “Note 8—Interbank Loans” and “Note 9—Loans and Accounts Receivables from Customers” in our Audited Consolidated Financial Statements for a description and presentation of our loan portfolio as well as “Item 5-Selected Statistical Information—Loan Portfolio.”

 

Retail customers represent 68.4% of the value of the total loan portfolio as of December 31, 2016. As part of our business strategy, we seek to increase lending and other services to retail clients, which are more likely to be adversely affected by downturns in the Chilean economy. In addition, as of December 31, 2016, our residential mortgage loan portfolio totaled Ch$8,619,355 million, representing 31.7% of our total loans. See “Note 9—Loans and Accounts Receivables from Customers” in our Audited Consolidated Financial Statements for a description and presentation of our residential mortgage loan portfolio. If the economy and real estate market in Chile experience a significant downturn, this could materially adversely affect the liquidity, businesses and financial conditions of our customers, which may in turn cause us to experience higher levels of past-due loans, thereby resulting in higher provisions for loan losses and subsequent charge-offs. This may materially and adversely affect our asset quality, results of operations and financial condition.

 

Our loan portfolio may not continue to grow at the same rate and economic turmoil may lead to a contraction in our loan portfolio.

 

There can be no assurance that our loan portfolio will continue to grow at similar rates to the historical growth rate described above. A reversal of the rate of growth of the Chilean economy, a slowdown in the growth of customer demand, an increase in market competition or changes in governmental regulations could adversely affect the rate of growth of our loan portfolio and our risk index and, accordingly, increase our required allowances for loan losses. An economic turmoil could materially adversely affect the liquidity, businesses and financial condition of our customers as well as lead to a general decline in consumer spending and a rise in unemployment. All this could in turn lead to decreased demand for borrowings in general.

 

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Our financial results are constantly exposed to market risk. We are subject to fluctuations in interest rates and other market risks, which may materially and adversely affect us and our profitability.

 

Market risk refers to the probability of variations in our net interest income or in the market value of our assets and liabilities due to volatility of interest rate, inflation, exchange rate or equity price. Changes in interest rates affect the following areas, among others, of our business:

 

·net interest income;

 

·the volume of loans originated;

 

·credit spreads;

 

·the market value of our securities holdings;

 

·the value of our loans and deposits; and

 

·the value of our derivatives transactions.

 

Interest rates are sensitive to many factors beyond our control, including increased regulation of the financial sector, the reserve policies of the Central Bank, deregulation of the financial sector in Chile, monetary policies and domestic and international economic and political conditions. Variations in interest rates could affect the interest earned on our assets and interest paid on our borrowings, thereby affecting our net interest income, which comprises the majority of our revenue, reducing our growth rate and potentially resulting in losses. Interest rate variations could adversely affect us, including our net interest income, reducing our growth rate or even resulting in losses. When interest rates rise, we may be required to pay higher interest on our floating-rate borrowings while interest earned on our predominately fixed-rate assets may not rise as quickly, which could cause profits to grow at a reduced rate or decline in some parts of our portfolio.

 

Increases in interest rates may reduce the volume of loans we originate. Sustained high interest rates have historically discouraged customers from borrowing and have resulted in increased delinquencies in outstanding loans and deterioration in the quality of assets. Increases in interest rates may also reduce the propensity of our customers to prepay or refinance fixed-rate loans. Increases in interest rates may reduce the value of our financial assets and may reduce gains or require us to record losses on sales of our loans or securities.

 

If interest rates decrease, although this is likely to decrease our funding costs, it is likely to adversely impact the income we receive from our investments in securities as well as loans with similar maturities. In addition, we may also experience increased delinquencies in a low interest rate environment when such an environment is accompanied by high unemployment and recessionary conditions.

 

The market value of a security with a fixed interest rate generally decreases when the prevailing interest rates rise, which may have an adverse effect on our earnings and financial condition. In addition, we may incur costs as we implement strategies to reduce interest rate exposure in the future (which, in turn, will impact our results). The market value of an obligation with a floating interest rate can be adversely affected when interest rates increase, due to a lag in the implementation of repricing terms or an inability to refinance at lower rates.

 

We are also exposed to foreign exchange rate risk as a result of mismatches between assets and liabilities denominated in different currencies. Fluctuations in the exchange rate between currencies may negatively affect our earnings and value of our assets and securities. Therefore, while the Bank seeks to avoid significant mismatches between assets and liabilities due to foreign currency exposure, from time to time, we may have mismatches. “See Item 11. Quantitative and Qualitative Disclosure About Market Risks— E. Market Risks—Foreign exchange fluctuations.”

 

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Failure to successfully implement and continue to improve our risk management policies, procedures and methods, including our credit risk management system, could materially and adversely affect us, and we may be exposed to unidentified or unanticipated risks.

 

The management of risk is an integral part of our activities. We seek to monitor and manage our risk exposure through a variety of separate but complementary financial, credit, market, operational, compliance and legal reporting systems. While we employ a broad and diversified set of risk monitoring and risk mitigation techniques, such techniques and strategies may not be fully effective in mitigating our risk exposure in all economic market environments or against all types of risk, including risks that we fail to identify or anticipate.

 

Some of our qualitative tools and metrics for managing risk are based upon our use of observed historical market behavior. We apply statistical and other tools to these observations to arrive at quantifications of our risk exposures. These qualitative tools and metrics may fail to predict future risk exposures. These risk exposures could, for example, arise from factors we did not anticipate or correctly evaluate in our statistical models. This would limit our ability to manage our risks. Our losses thus could be significantly greater than the historical measures indicate. In addition, our quantified modeling does not take all risks into account. Our more qualitative approach to managing those risks could prove insufficient, exposing us to material unanticipated losses. We could face adverse consequences as a result of decisions, which may lead to actions by management, based on models that are poorly developed, implemented or used, or as a result of the modelled outcome being misunderstood or the use of such information for purposes for which it was not designed. In addition, if existing or potential customers or counterparties believe our risk management is inadequate, they could take their business elsewhere or seek to limit their transactions with us. This could have a material adverse effect on our reputation, operating results, financial condition and prospects.

 

As a commercial bank, one of the main types of risks inherent in our business is credit risk. For example, an important feature of our credit risk management system is to employ an internal credit rating system to assess the particular risk profile of a customer. As this process involves detailed analyses of the customer, taking into account both quantitative and qualitative factors, it is subject to human or IT systems errors. In exercising their judgment on current or future credit risk behavior of our customers, our employees may not always be able to assign an accurate credit rating, which may result in our exposure to higher credit risks than indicated by our risk rating system.

 

Failure to effectively implement, consistently follow or continuously refine our credit risk management system may result in an increase in the level of non-performing loans and a higher risk exposure for us, which could have a material adverse effect on us.

 

The effectiveness of our credit risk management is affected by the quality and scope of information available in Chile.

 

In assessing customers’ creditworthiness, we rely largely on the credit information available from our own internal databases, the SBIF, Dicom en Capital, a Chilean nationwide credit bureau, and other sources. Due to limitations in the availability of information and the developing information infrastructure in Chile, our assessment of credit risk associated with a particular customer may not be based on complete, accurate or reliable information. In addition, although we have been improving our credit scoring systems to better assess borrowers’ credit risk profiles, we cannot assure you that our credit scoring systems will collect complete or accurate information reflecting the actual behavior of customers or that their credit risk can be assessed correctly. Without complete, accurate and reliable information, we will have to rely on other publicly available resources and our internal resources, which may not be effective. As a result, our ability to effectively manage our credit risk and subsequently our loan loss allowances may be materially adversely affected.

 

Liquidity and funding risks are inherent in our business and could have a material adverse effect on us.

 

Liquidity risk is the risk that we either do not have available sufficient financial resources to meet our obligations as they fall due or can secure them only at excessive cost. This risk is inherent in any retail and commercial banking business and can be heightened by a number of enterprise-specific factors, including over-reliance on a particular source of funding, changes in credit ratings or market-wide phenomena such as market dislocation. While we implement liquidity management processes to seek to mitigate and control these risks, unforeseen systemic market factors make it difficult to eliminate completely these risks. Continued constraints in the supply of liquidity, including in inter-bank lending, has affected and may materially and adversely affect the cost of

 

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funding our business, and extreme liquidity constraints may affect our current operations and our ability to fulfill regulatory liquidity requirements as well as limit growth possibilities.

 

Increases in prevailing market interest rates and in our credit spreads can significantly increase the cost of our funding. Changes in our credit spreads may be influenced by market perceptions of our creditworthiness. Changes to interest rates and our credit spreads occur continuously and may be unpredictable and highly volatile.

 

We rely, and will continue to rely, primarily on commercial deposits to fund lending activities. The ongoing availability of this type of funding is sensitive to a variety of factors outside our control, such as general economic conditions and the confidence of commercial depositors in the economy and in the financial services industry, and the availability and extent of deposit guarantees, as well as competition between banks or with other products, such as mutual funds, for deposits. Any of these factors could significantly increase the amount of commercial deposit withdrawals in a short period of time, thereby reducing our ability to access commercial deposit funding on appropriate terms, or at all, in the future. If these circumstances were to arise, this could have a material adverse effect on our operating results, financial condition and prospects.

 

We anticipate that our customers will continue, in the near future, to make short-term deposits (particularly demand deposits and short-term time deposits), and we intend to maintain our emphasis on the use of banking deposits as a source of funds. As of December 31, 2016, 99.1% of our customer deposits had remaining maturities of one year or less, or were payable on demand. A significant portion of our assets have longer maturities, resulting in a mismatch between the maturities of liabilities and the maturities of assets. Historically, one of our principal sources of funds has been time deposits. Time deposits represented 35.5% and 35.2% of our total liabilities and equity as of December 31, 2016 and 2015, respectively. The Chilean time deposit market is concentrated given the importance in size of various large institutional investors such as pension funds and corporations relative to the total size of the economy. As of December 31, 2016, the Bank’s top 20 time deposits represented 29.5% of total time deposits, or 10.5% of total liabilities and equity, and totaled U.S.$5.8 billion. No assurance can be given that future economic stability in the Chilean market will not negatively affect our ability to continue funding our business or to maintain our current levels of funding without incurring increased funding costs, a reduction in the term of funding instruments or the liquidation of certain assets. If this were to happen, we could be materially adversely affected.

 

The short-term nature of this funding source could cause liquidity problems for us in the future if deposits are not made in the volumes we expect or are not renewed. If a substantial number of our depositors withdraw their demand deposits or do not roll over their time deposits upon maturity, we may be materially and adversely affected.

 

Central banks have taken extraordinary measures to increase liquidity in the financial markets as a response to the financial crisis. If current facilities were rapidly removed or significantly reduced, this could have an adverse effect on our ability to access liquidity and on our funding costs.

 

We cannot assure that in the event of a sudden or unexpected shortage of funds in the banking system, we will be able to maintain levels of funding without incurring high funding costs, a reduction in the term of funding instruments or the liquidation of certain assets. If this were to happen, we could be materially adversely affected.

 

We are subject to regulatory capital and liquidity requirements that could limit our operations, and changes to these requirements may further limit and adversely affect our operating results, financial condition and prospects.

 

Chilean banks are required by the General Banking Law to maintain regulatory capital of at least 8% of risk-weighted assets, net of required loan loss allowance and deductions, and paid-in capital and reserves (“core capital”) of at least 3% of total assets, net of required loan loss allowances. As we are the result of the merger between two predecessors with a relevant market share in the Chilean market, we are currently required to maintain a minimum regulatory capital to risk-weighted assets ratio of 11%. As of December 31, 2016, the ratio of our regulatory capital to risk-weighted assets, net of loan loss allowance and deductions, was 13.4% and our core capital ratio was 10.5%. Certain developments could affect our ability to continue to satisfy the current capital adequacy requirements applicable to us, including:

 

·the increase of risk-weighted assets as a result of the expansion of our business or regulatory changes;

 

·the failure to increase our capital correspondingly;

 

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·losses resulting from a deterioration in our asset quality;

 

·declines in the value of our investment instrument portfolio;

 

·changes in accounting standards;

 

·changes in provisioning guidelines that are charged directly against our equity or net income; and

 

·changes in the guidelines regarding the calculation of the capital adequacy ratios of banks in Chile.

 

Chilean banks are gradually being required to adopt the guidelines set forth under the Basel III Capital Accord with adjustments incorporated by the SBIF once these changes are approved by the Chilean Congress in 2017 or 2018. Following this approval, Chilean banks will most likely have to fully comply with Basel III requirements by 2018 or 2019. This could result in a different level of minimum capital required to be maintained by us. According to initial estimates of the impact of market risk on regulatory capital, published by the SBIF for informational purposes only, our ratio of regulatory capital to risk-weighted assets, net of loan loss allowance and deductions, including an initial estimate of the adjustments for market risk was 12.2% as of December 31, 2016. Additionally, for the purposes of reporting to our parent company, we calculate this ratio using a model approved by the European Central Bank standards. In this scenario our core capital ratio is 12.1% and our regulatory capital ratio is 15.5 % as of December 31, 2016. No assurance can be given that the adoption of the Basel III capital requirements will not have a material impact on our capitalization ratio.

 

We may also be required to raise additional capital in the future in order to maintain our capital adequacy ratios above the minimum required levels. Our ability to raise additional capital may be limited by numerous factors, including: our future financial condition, results of operations and cash flows; any necessary government regulatory approvals; our credit ratings; general market conditions for capital raising activities by commercial banks and other financial institutions; and domestic and international economic, political and other conditions. If we require additional capital in the future, we cannot assure you that we will be able to obtain such capital on favorable terms, in a timely manner or at all. Furthermore, the SBIF may increase the minimum capital adequacy requirements applicable to us. Accordingly, although we currently meet the applicable capital adequacy requirements, we may face difficulties in meeting these requirements in the future. If we fail to meet the capital adequacy requirements, we may be required to take corrective actions. These measures could materially and adversely affect our business reputation, financial condition and results of operations. In addition, if we are unable to raise sufficient capital in a timely manner, the growth of our loan portfolio and other risk-weighted assets may be restricted, and we may face significant challenges in implementing our business strategy. As a result, our prospects, results of operations and financial condition could be materially and adversely affected.

 

The SBIF and the Central Bank published new liquidity standards in 2015 and ratios that must be implemented and calculated by all banks. These will eventually replace the current regulatory limits imposed by the SBIF and the Central Bank described above. These new liquidity standards are in line with those established in Basel III. The most important liquidity ratios that will eventually be adopted by Chilean banks are:

 

·Liability concentration per institutional and wholesale counterparty. Banks will have to calculate the percentage of their liabilities coming from institutional and wholesale counterparties, including ratios regarding renovation, renewals, restructurings, maturity and product concentration of these counterparties.

 

·Liquidity coverage ratio (LCR), which measures the percentage of liquid Assets over net cash outflows. The new guidelines also define liquid assets and the formulas for calculating net cash outflows.

 

·Net Stable Funding Ratio (NSFR) which will measure a bank’s available stable funding relative to its required stable funding. Both concepts are also defined in the new regulations.

 

Beginning on March 30, 2016, banks began reporting these ratios to the Central Bank and the SBIF. The evolution of these indicators will be monitored for a 12 month period and adjustments to the required ratios could be made. The final limits and results should begin to be published in the first half of 2017. The initial limits banks must meet in order to comply with these new ratios have not been published yet. For this reason, we cannot yet determine the effect that the implementation of these models will have on our business. Such effect could be material and adverse if it materially increases the liquidity we are required to maintain.

 

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We are subject to regulatory risk, or the risk of not being able to meet all of the applicable regulatory requirements and guidelines.

 

As a financial institution, we are subject to extensive regulation, inspections, examinations, inquiries, audits and other regulatory requirements by Chilean regulatory authorities, which materially affect our businesses. We cannot assure you that we will be able to meet all of the applicable regulatory requirements and guidelines, or that we will not be subject to sanctions, fines, restrictions on our business or other penalties in the future as a result of noncompliance. If sanctions, fines, restrictions on our business or other penalties are imposed on us for failure to comply with applicable requirements, guidelines or regulations, our business, financial condition, results of operations and our reputation and ability to engage in business may be materially and adversely affected.

 

Changes in regulations may also cause us to face increased compliance costs and limitations on our ability to pursue certain business opportunities and provide certain products and services. As some of the banking laws and regulations have been recently adopted, the manner in which those laws and related regulations are applied to the operations of financial institutions is still evolving. Moreover, to the extent these recently adopted regulations are implemented inconsistently in the various jurisdictions in which we operate, it may face higher compliance costs. No assurance can be given generally that laws or regulations will be adopted, enforced or interpreted in a manner that will not have a material adverse effect on our business and results of operations.

 

Modifications to reserve requirements may affect our business.

 

Deposits are subject to a reserve requirement of 9.0% for demand deposits and 3.6% for time deposits (with terms of less than one year). The Central Bank has statutory authority to require banks to maintain reserves of up to an average of 40.0% for demand deposits and up to 20.0% for time deposits (irrespective, in each case, of the currency in which these deposits are denominated) to implement monetary policy. In addition, to the extent that the aggregate amount of the following types of liabilities exceeds 2.5 times the amount of a bank’s regulatory capital, a bank must maintain a 100% reserve against them: demand deposits, deposits in checking accounts, obligations payable on sight incurred in the ordinary course of business and, in general, all deposits unconditionally payable immediately. If the Central Bank were to increase reserve requirements, this could lead to lower loan growth and have a negative effect on our business.

 

Our business could be affected if its capital is not managed effectively or if changes limiting our ability to manage our capital position are adopted.

 

Effective management of our capital position is important to our ability to operate our business, to continue to grow organically and to pursue our business strategy. However, in response to the global financial crisis, a number of changes to the regulatory capital framework have been adopted or continue to be considered. As these and other changes are implemented or future changes are considered or adopted that limit our ability to manage our balance sheet and capital resources effectively or to access funding on commercially acceptable terms, we may experience a material adverse effect on our financial condition and regulatory capital position.

 

Changes to the pension fund system may affect the funding mix of the Bank

 

The current pension fund system dates from the 1980’s when pension saving went from being state-funded to private funds which require Chilean employees to set aside 10% of their wages. While the system is widely regarded as a success, the demographics of the Chilean society have changed and there have been some modifications to the system. As of December 31, 2016, the Chilean pension fund management companies (Administradora de Fondos de Pensión, or “AFPs”) had US$6,270 million invested in the Bank via equity, deposits and fixed income. There is no assurance that in the future there will not be significant reforms that may affect our funding mix which may have an adverse effect on our financial condition and results of operations.

 

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The legal restrictions on the exposure of Chilean pension funds to different asset classes may affect our access to funding.

 

Chilean regulations impose a series of restrictions on how Chilean pension fund management companies (Administradora de Fondos de Pensión, or “AFPs”) may allocate their assets. In the particular case of financial issuers’ there are three restrictions, each involving different assets and different limits determined by the amount of assets in each fund and the market and book value of the issuer’s equity. As a consequence, limits vary within funds of AFPs and issuers. According to our estimates in December 2016, the AFPs still had the possibility of being able to invest another US$9,338 million in the Bank via equity, deposits and fixed income. If the exposure of any AFP to Santander-Chile exceeds the regulatory limits, we would need to seek alternative sources of funding, which could be more expensive and, as a consequence, may have a material adverse effect on our financial condition and results of operations.

 

Our financial statements are based in part on assumptions and estimates which, if inaccurate, could cause material misstatement of the results of our operations and financial position.

 

The preparation of financial statements requires management to make judgments, estimates and assumptions that affect the reported amounts of assets, liabilities, income and expenses. Due to the inherent uncertainty in making estimates, actual results reported in future periods may be based upon amounts which differ from those estimates. Estimates, judgments and assumptions are continually evaluated and are based on historical experience and other factors, including expectations of future events that are believed to be reasonable under the circumstances. Revisions to accounting estimates are recognized in the period in which the estimate is revised and in any future periods affected. The accounting policies deemed critical to our results and financial position, based upon materiality and significant judgments and estimates, include impairment of loans, valuation of financial instruments, valuation of derivatives, impairment of available-for-sale financial assets, deferred tax assets and liabilities and provision for liabilities.

 

If the judgment, estimates and assumptions we use in preparing our consolidated financial statements are subsequently found to be incorrect, there could be a material effect on our results of operations and a corresponding effect on our funding requirements and capital ratios.

 

Changes in accounting standards could impact reported earnings.

 

The accounting standard setters and other regulatory bodies periodically change the financial accounting and reporting standards that govern the preparation of our consolidated financial statements. For example IFRS 9 will be adopted as of January 1, 2018 and will establish a new model of expected loss and make changes to the classification and measurement requirements for financial assets. In addition, IFRS 16 will be adopted as of January 1, 2019 and will specify new standards for recognition, measurement, presentation and disclosure of leases. Changes made to accounting standards can materially impact how we record and report our financial condition and results of operations. In some cases, we could be required to apply a new or revised standard retroactively, resulting in the restatement of prior period financial statements. For further information about developments in financial accounting and reporting standards, see Note 1 to our Audited Consolidated Financial Statements.

 

We are subject to review by taxing authorities, and an incorrect interpretation by us of tax laws and regulations may have a material adverse effect on us.

 

The preparation of our tax returns requires the use of estimates and interpretations of complex tax laws and regulations and is subject to review by taxing authorities.

 

We are subject to the income tax laws of Chile and certain foreign countries. These tax laws are complex and subject to different interpretations by the taxpayer and relevant governmental taxing authorities, which are sometimes subject to prolonged evaluation periods until a final resolution is reached. In establishing a provision for income tax expense and filing returns, we must make judgments and interpretations about the application of these inherently complex tax laws.

 

If the judgment, estimates and assumptions we use in preparing our tax returns are subsequently found to be incorrect, there could be a material adverse effect on our results of operations. In some jurisdictions, the interpretations of the taxing authorities are unpredictable and frequently involve litigation, which introduces further uncertainty and risk as to tax expense.

 

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Disclosure controls and procedures over financial reporting may not prevent or detect all errors or acts of fraud.

 

Disclosure controls and procedures over financial reporting are designed to provide reasonable assurance that information required to be disclosed by the company in reports filed or submitted under the Securities Exchange Act is accumulated and communicated to management, and recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

 

These disclosure controls and procedures have inherent limitations, which include the possibility that judgments in decision-making can be faulty and that breakdowns can occur because of errors or mistakes. Additionally, controls can be circumvented by any unauthorized override of the controls. Consequently, our businesses are exposed to risk from potential non-compliance with policies, employee misconduct or negligence and fraud, which could result in regulatory sanctions, civil claims and serious reputational or financial harm. In recent years, a number of multinational financial institutions have suffered material losses due to the actions of ‘rogue traders’ or other employees. It is not always possible to deter employee misconduct and the precautions we take to prevent and detect this activity may not always be effective. Accordingly, because of the inherent limitations in the control system, misstatements due to error or fraud may occur and not be detected.

 

We engage in transactions with related parties that others may not consider to be on an arm’s-length basis.

 

We and our affiliates have entered into a number of services agreements pursuant to which we render services, such as administrative, accounting, finance, treasury, legal services and others.

 

Chilean law applicable to public companies and financial groups and institutions and our bylaws provide for several procedures designed to ensure that the transactions entered into with or among our financial subsidiaries and/or affiliates do not deviate from prevailing market conditions for those types of transactions, including the requirement that our board of directors approve such transactions. Furthermore, all significant related party transactions must be approved by the Audit Committee and the Board. These significant transactions are also reported in our annual shareholders meeting. Please see Note 34 of our Audited Consolidated Financial Statements and “Item 7. Major Shareholders and Related Party Transactions.”

 

We are likely to continue to engage in transactions with our affiliates. Future conflicts of interests between us and any of affiliates, or among our affiliates, may arise, which conflicts are not required to be and may not be resolved in our favor.

 

Any failure to effectively improve or upgrade our information technology infrastructure and management information systems in a timely manner could have a material adverse effect on us.

 

Our ability to remain competitive depends in part on our ability to upgrade our information technology on a timely and cost-effective basis. We must continually make significant investments and improvements in our information technology infrastructure in order to remain competitive. We cannot assure you that in the future we will be able to maintain the level of capital expenditures necessary to support the improvement or upgrading of our information technology infrastructure. Any failure to effectively improve or upgrade our information technology infrastructure and management information systems in a timely manner could have a material adverse effect on us.

 

Risks relating to data collection, processing and storage systems and security are inherent in our business.

 

Like other financial institutions, we manage and hold confidential personal information of customers in the conduct of our banking operations, as well as a large number of assets. Accordingly, our business depends on the ability to process a large number of transactions efficiently and accurately, and on our ability to rely on our digital technologies, computer and email services, software and networks, as well as on the secure processing, storage and transmission of confidential sensitive personal data and other information using our computer systems and networks. The proper functioning of financial control, accounting or other data collection and processing systems is critical to our businesses and to our ability to compete effectively. Losses can result from inadequate personnel, inadequate or failed internal control processes and systems, or from external events that interrupt normal business operations. We also face the risk that the design of our controls and procedures prove to be inadequate or are circumvented such that our data and/or client records are incomplete, not recoverable or not securely stored. Although we work with our clients, vendors, service providers, counterparties and other third parties to develop secure data and information processing, storage and transmission capabilities to prevent against information security risk, we routinely manage

 

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personal, confidential and proprietary information by electronic means, and we may be the target of attempted cyber-attack. If we cannot maintain an effective and secure electronic data and information, management and processing system or we fail to maintain complete physical and electronic records, this could result in regulatory sanctions and serious reputational or financial harm to us.

 

We take protective measures and continuously monitor and develop our systems to protect our technology infrastructure, data and information from misappropriation or corruption, but our systems, software and networks nevertheless may be vulnerable to unauthorized access, misuse, computer viruses or other malicious code and other events that could have a security impact. An interception, misuse or mishandling of personal, confidential or proprietary information sent to or received from a client, vendor, service provider, counterparty or third party could result in legal liability, regulatory action, reputational harm and financial loss. There can be no absolute assurance that we will not suffer material losses from operational risk in the future, including those relating to any security breaches.

 

We have seen in recent years computer systems of companies and organizations being targeted, not only by cyber criminals, but also by activists and rogue states. We have been and continue to be subject to a range of cyber-attacks, such as denial of service, malware and phishing. Cyber-attacks could give rise to the loss of significant amounts of customer data and other sensitive information, as well as significant levels of liquid assets (including cash). In addition, cyber-attacks could disrupt our electronic systems used to service our customers. As attempted attacks continue to evolve in scope and sophistication, we may incur significant costs in order to modify or enhance our protective measures against such attacks, or to investigate or remediate any vulnerability or resulting breach, or in communicating cyber-attacks to our customers. If we fail to effectively manage our cyber security risk, e.g. by failing to update our systems and processes in response to new threats, this could harm our reputation and adversely affect our operating results, financial condition and prospects through the payment of customer compensation, regulatory penalties and fines and/or through the loss of assets. In addition, we may also be impacted by cyber-attacks against national critical infrastructures of the countries where we operate; for example the telecommunications network. Our information technology systems are dependent on such national critical infrastructure and any cyber-attack against such critical infrastructure could negatively affect our ability to service our customers. As we do not operate such national critical infrastructure, we have limited ability to protect our information technology systems from the adverse effects of such a cyber-attack. For further information see “Item 11. Quantitative and Qualitative Disclosures about Market Risk—2. Non-financial risks—Cyber-security and data security plans.”

 

Although we have procedures and controls to safeguard personal information in our possession, unauthorized disclosures could subject us to legal actions and administrative sanctions as well as damages and reputational harm that could materially and adversely affect our operating results, financial condition and prospects. Further, our business is exposed to risk from potential non-compliance with policies, employee misconduct or negligence and fraud, which could result in regulatory sanctions and serious reputational or financial harm. It is not always possible to deter or prevent employee misconduct, and the precautions we take to detect and prevent this activity may not always be effective. In addition, we may be required to report events related to information security issues (including any cyber security issues), events where customer information may be compromised, unauthorized access and other security breaches, to the relevant regulatory authorities. Any material disruption or slowdown of our systems could cause information, including data related to customer requests, to be lost or to be delivered to our clients with delays or errors, which could reduce demand for our services and products, could produce customer claims and could materially and adversely affect us.

 

We rely on third parties and affiliates for important products and services.

 

Third party vendors and certain affiliated companies provide key components of our business infrastructure such as loan and deposit servicing systems, back office and business process support, information technology production and support, internet connections and network access. Relying on these third parties and affiliated companies can be a source of operational and regulatory risk to us, including with respect to security breaches affecting such parties. We are also subject to risk with respect to security breaches affecting the vendors and other parties that interact with these service providers. As our interconnectivity with these third parties and affiliated companies increases, we increasingly face the risk of operational failure with respect to their systems. We may be required to take steps to protect the integrity of our operational systems, thereby increasing our operational costs and potentially decreasing customer satisfaction. In addition, any problems caused by these third parties or affiliated companies, including as a result of them not providing us their services for any reason, or performing their services

 

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poorly, could adversely affect our ability to deliver products and services to customers and otherwise conduct our business, which could lead to reputational damage and regulatory investigations and intervention. Replacing these third party vendors could also entail significant delays and expense. Further, the operational and regulatory risk we face as a result of these arrangements may be increased to the extent that we restructure such arrangements. Any restructuring could involve significant expense to us and entail significant delivery and execution risk which could have a material adverse effect on our business, operations and financial condition.

 

Damage to our reputation could cause harm to our business prospects.

 

Maintaining a positive reputation is critical to protect our brand, attract and retain customers, investors and employees and conduct business transactions with counterparties. Damage to our reputation can therefore cause significant harm to our business and prospects. Harm to our reputation can arise from numerous sources, including, among others, employee misconduct, including the possibility of fraud perpetrated by our employees, litigation or regulatory enforcement, failure to deliver minimum standards of service and quality, compliance failures, unethical behavior, and the activities of customers and counterparties. Further, negative publicity regarding us may result in harm to our prospects.

 

Actions by the financial services industry generally or by certain members of, or individuals in, the industry can also affect our reputation. For example, the role played by financial services firms in the financial crisis and the seeming shift toward increasing regulatory supervision and enforcement has caused public perception of us and others in the financial services industry to decline.

 

We could suffer significant reputational harm if we fail to identify and manage potential conflicts of interest properly. The failure, or perceived failure, to adequately address conflicts of interest could affect the willingness of clients to deal with us, or give rise to litigation or enforcement actions against us. Therefore, there can be no assurance that conflicts of interest will not arise in the future that could cause material harm to us.

 

We rely on recruiting, retaining and developing appropriate senior management and skilled personnel.

 

Our continued success depends in part on the continued service of key members of our senior executive team and other key employees. The ability to continue to attract, train, motivate and retain highly qualified and talented professionals is a key element of our strategy. The successful implementation of our strategy and culture depends on the availability of skilled and appropriate management, both at our head office and at each of our business units. If we or one of our business units or other functions fails to staff its operations appropriately or loses one or more of its key senior executives or other key employees and fails to replace them in a satisfactory and timely manner, our business, financial condition and results of operations, including control and operational risks, may be adversely affected.

 

In addition, the financial industry has and may continue to experience more stringent regulation of employee compensation, which could have an adverse effect on our ability to hire or retain the most qualified employees. If we fail or are unable to attract and appropriately train, motivate and retain qualified professionals, our business may also be adversely affected.

 

We may not be able to detect or prevent money laundering and other financial crime activities fully or on a timely basis, which could expose us to additional liability and could have a material adverse effect on us.

 

We are required to comply with applicable anti-money laundering (“AML”), anti-terrorism, anti-bribery and corruption, sanctions and other laws and regulations applicable to us. These laws and regulations require us, among other things, to conduct full customer due diligence (including sanctions and politically-exposed person screening), keep our customer, account and transaction information up to date and have implemented effective financial crime policies and procedures detailing what is required from those responsible. We are also required to conduct AML training for our employees and to report suspicious transactions and activity to appropriate law enforcement following full investigation by our AML team.

 

Financial crime has become the subject of enhanced regulatory scrutiny and supervision by regulators globally. AML, anti-bribery and corruption and sanctions laws and regulations are increasingly complex and detailed and have become the subject of enhanced regulatory supervision, requiring improved systems, sophisticated monitoring and skilled compliance personnel.

 

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We have developed policies and procedures aimed at detecting and preventing the use of our banking network for money laundering and other financial crime related activities. These require implementation and embedding within our business effective controls and monitoring, which in turn requires on-going changes to systems and operational activities. Financial crime is continually evolving and, as noted is subject to increasingly stringent regulatory oversight and focus. This requires proactive and adaptable responses from us so that we are able to deter threats and criminality effectively. Even known threats can never be fully eliminated, and there will be instances where we may be used by other parties to engage in money laundering and other illegal or improper activities. In addition, we rely heavily on our employees to assist us by spotting such activities and reporting them, and our employees have varying degrees of experience in recognizing criminal tactics and understanding the level of sophistication of criminal organizations. Where we outsource any of our customer due diligence, customer screening or anti financial crime operations, we remain responsible and accountable for full compliance and any breaches. If we are unable to apply the necessary scrutiny and oversight, there remains a risk of regulatory breach.

 

If we are unable to fully comply with applicable laws, regulations and expectations, our regulators and relevant law enforcement agencies have the ability and authority to impose significant fines and other penalties on us, including requiring a complete review of our business systems, day-to-day supervision by external consultants and ultimately the revocation of our banking license.

 

The reputational damage to our business and global brand would be severe if we were found to have breached AML, anti-bribery and corruption or sanctions requirements. Our reputation could also suffer if we are unable to protect our customers’ bank products and services from being used by criminals for illegal or improper purposes.

 

In addition, while we review our relevant counterparties’ internal policies and procedures with respect to such matters, we, to a large degree, rely upon our relevant counterparties to maintain and properly apply their own appropriate compliance procedures and internal policies. Such measures, procedures and internal policies may not be completely effective in preventing third parties from using our (and our relevant counterparties’) services as a conduit for illicit purposes (including illegal cash operations) without our (and our relevant counterparties’) knowledge. If we are associated with, or even accused of being associate with, breaches of AML, anti-terrorism or sanctions requirements, our reputation could suffer and/or we could become subject to fines, sanctions and/or legal enforcement (including being added to any “black lists” that would prohibit certain parties from engaging in transactions with us), any one of which could have a material adverse effect on our operating results, financial condition and prospects.

 

Any such risks could have a material adverse effect on our operating results, financial condition and prospects.

 

We are exposed to risk of loss from legal and regulatory proceedings.

 

We face risk of loss from legal and regulatory proceedings, including tax proceedings, that could subject us to monetary judgments, regulatory enforcement actions, fines and penalties. The current regulatory and tax enforcement environment in the jurisdictions in which we operate reflects an increased supervisory focus on enforcement, combined with uncertainty about the evolution of the regulatory regime, and may lead to material operational and compliance costs.

 

We are from time to time subject to certain claims and party to certain legal proceedings incidental to the normal course of our business, including in connection with conflicts of interest, lending activities, relationships with our employees and other commercial or tax matters. In view of the inherent difficulty of predicting the outcome of legal matters, particularly where the claimants seek very large or indeterminate damages, or where the cases present novel legal theories, involve a large number of parties or are in the early stages of discovery, we cannot state with confidence what the eventual outcome of these pending matters will be or what the eventual loss, fines or penalties related to each pending matter may be. The amount of our reserves in respect of these matters is substantially less than the total amount of the claims asserted against us and in light of the uncertainties involved in such claims and proceedings, there is no assurance that the ultimate resolution of these matters will not significantly exceed the reserves currently accrued by us. As a result, the outcome of a particular matter may be material to our operating results for a particular period.

 

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We are subject to market, operational and other related risks associated with our derivative transactions that could have a material adverse effect on us.

 

We enter into derivative transactions for trading purposes as well as for hedging purposes. We are subject to market, credit and operational risks associated with these transactions, including basis risk (the risk of loss associated with variations in the spread between the asset yield and the funding and/or hedge cost) and credit or default risk (the risk of insolvency or other inability of the counterparty to a particular transaction to perform its obligations thereunder, including providing sufficient collateral).

 

Market practices and documentation for derivative transactions in Chile may differ from those in other countries. For example, documentation may not incorporate terms and conditions of derivatives transactions as commonly understood in other countries. In addition, the execution and performance of these transactions depend on our ability to maintain adequate control and administration systems. Moreover, our ability to adequately monitor, analyze and report derivative transactions continues to depend, largely, on our information technology systems. These factors further increase the risks associated with these transactions and could have a material adverse effect on us.

 

We are subject to counterparty risk in our banking business.

 

We are exposed to counterparty risk in addition to credit risks associated with lending activities. Counterparty risk may arise from, for example, investing in securities of third parties, entering into derivative contracts under which counterparties have obligations to make payments to us or executing securities, futures, currency or commodity trades from proprietary trading activities that fail to settle at the required time due to non-delivery by the counterparty or systems failure by clearing agents, clearing houses or other financial intermediaries.

 

We routinely transact with counterparties in the financial services industry, including brokers and dealers, commercial banks, investment banks, mutual funds, hedge funds and other institutional clients. Defaults by, and even rumors or questions about the solvency of, certain financial institutions and the financial services industry generally have led to market-wide liquidity problems and could lead to losses or defaults by other institutions. Many of the routine transactions we enter into expose us to significant credit risk in the event of default by one of our significant counterparties.

 

Our loan and investment portfolios are subject to risk of prepayment, which could have a material adverse effect on us.

 

Our fixed rate loan and investment portfolios are subject to prepayment risk, which results from the ability of a borrower or issuer to pay a debt obligation prior to maturity. Generally, in a declining interest rate environment, prepayment activity increases, which reduces the weighted average lives of our earning assets and could have a material adverse effect on us. We would also be required to amortize net premiums into income over a shorter period of time, thereby reducing the corresponding asset yield and net interest income. Prepayment risk also has a significant adverse impact on credit card and collateralized mortgage loans, since prepayments could shorten the weighted average life of these assets, which may result in a mismatch in our funding obligations and reinvestment at lower yields. Prepayment risk is inherent to our commercial activity and an increase in prepayments could have a material adverse effect on us.

 

Current economic conditions may make it more difficult for us to continue funding our business on favorable terms with institutional investors.

 

Large denominations of funding from time deposits from institutional investors may, under some circumstances, be a less stable source of funding than savings and bonds, such as during periods of significant changes in market interest rates for these types of deposit products and any resulting increased competition for such funds. As of December 31, 2016 short-term funding from institutional investors totaled US$ 3.7 billion or 6.7% of total liabilities and equity. Although our results of operations and financial position have not suffered a significant impact as a consequence of the credit market instability in the U.S., future market instability in the U.S. or in European markets, specifically the Spanish market, may negatively affect our ability to continue funding our business or maintain our current levels of funding without incurring higher funding costs or having to liquidate certain assets.

 

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If we are unable to manage the growth of our operations, this could have an adverse impact on our profitability.

 

We allocate management and planning resources to develop strategic plans for organic growth, and to identify possible acquisitions and disposals and areas for restructuring our businesses. From time to time, we evaluate acquisition and partnership opportunities that we believe offer additional value to our shareholders and are consistent with our business strategy. However, we may not be able to identify suitable acquisition or partnership candidates, and our ability to benefit from any such acquisitions and partnerships will depend in part on our successful integration of those businesses. Any such integration entails significant risks such as unforeseen difficulties in integrating operations and systems and unexpected liabilities or contingencies relating to the acquired businesses, including legal claims. We can give no assurances that our expectations with regard to integration and synergies will materialize. We also cannot provide assurance that we will, in all cases, be able to manage our growth effectively or deliver our strategic growth objectives. Challenges that may result from our strategic growth decisions include our ability to:

 

·manage efficiently the operations and employees of expanding businesses;

 

·maintain or grow our existing customer base;

 

·assess the value, strengths and weaknesses of investment or acquisition candidates, including local regulation that can reduce or eliminate expected synergies;

 

·finance strategic investments or acquisitions;

 

·align our current information technology systems adequately with those of an enlarged group;

 

·apply our risk management policy effectively to an enlarged group; and

 

·manage a growing number of entities without over-committing management or losing key personnel.

 

Any failure to manage growth effectively could have a material adverse effect on our operating results, financial condition and prospects.

 

In addition, any acquisition or venture could result in the loss of key employees and inconsistencies in standards, controls, procedures and policies.

 

Moreover, the success of the acquisition or venture will at least in part be subject to a number of political, economic and other factors that are beyond our control. Any of these factors, individually or collectively, could have a material adverse effect on us.

 

Risks Relating to Chile

 

Our growth, asset quality and profitability may be adversely affected by macroeconomic and political conditions in Chile.

 

A substantial number of our loans are to borrowers doing business in Chile. Chile’s economy has experienced significant volatility in recent decades, characterized, in some cases, by slow or regressive growth, declining investment and hyperinflation. This volatility resulted in fluctuations in the levels of deposits and in the relative economic strength of various segments of the economies to which we lend. The Chilean economy may not continue to grow at similar rates as in the past or future developments may negatively affect Chile’s overall levels of economic activity.

 

Negative and fluctuating economic conditions, such as slowing or negative growth and a changing interest rate and inflationary environment, impact our profitability by causing lending margins to decrease and credit quality to decline and leading to decreased demand for higher margin products and services. Negative and fluctuating economic conditions in Chile could also result in government defaults on public debt. This could affect us in two ways: directly, through portfolio losses, and indirectly, through instabilities that a default in public debt could cause to the banking system as a whole, particularly since commercial banks’ exposure to government debt is high in Chile.

 

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Our revenues are also subject to risk of loss from unfavorable political and diplomatic developments, social instability, and changes in governmental policies, including expropriation, nationalization, international ownership legislation, interest-rate caps and tax policies.

 

The recent fall and subsequent fluctuation in oil prices may give rise to volatility in the global financial markets and further economic instability in oil-dependent regions, such as Chile. In addition, the ability of borrowers in or exposed to the oil sector has been and may be further adversely affected by such price fluctuations.

 

Our growth, asset quality and profitability may be adversely affected by volatile macroeconomic and political conditions in Chile.

 

Portions of our loan portfolio are subject to risks relating to force majeure events and any such event could materially adversely affect our operating results.

 

Chile lies on the Nazca tectonic plate, making it one of the world’s most seismically active regions. Our financial and operating performance may be adversely affected by force majeure events, such as natural disasters, particularly in locations where a significant portion of our loan portfolio is composed of real estate loans. Natural disasters such as earthquakes and floods may cause widespread damage which could impair the asset quality of our loan portfolio and could have an adverse impact on the economy of the affected region.

 

Changes in taxes, including the corporate tax rate, in Chile may have an adverse effect on us and our clients.

 

The Chilean Government enacted in 2014 and again in 2015 a reform to the tax and other assessment regimes to which we are subject in order to finance greater expenditure in education. The most important changes approved were:

 

1.A corporation such as Banco Santander Chile with a majority of shareholders that are incorporated entities is obliged to adhere to the sistema integrado parcial (SIP or partially integrated tax system). The statutory tax rate rose to 25.5% in 2016 and will rise to 27% in 2017 and onward, with personal taxes paid on a dividend basis, therefore retaining some benefits for shareholders of companies that reinvest profits.

 

2.The Taxable Profits Fund (FUT), a mechanism that gives shareholders tax exemptions on reinvested profits, will be eliminated in fiscal 2018.

 

3.Decree-Law 600, which gives foreign investors certain tax and other guarantees, will be replaced by a new law, yet to be designed.

 

4.The maximum personal income tax rate will be reduced from 40% to 35%, starting in 2018.

 

5.An increase in stamp tax from 0.45% to 0.8% in 2016.

 

6.Lowering of VAT exemption for construction of houses up to 2,000 UF to 225 UF per dwelling.

 

7.Charge VAT tax on real estate transactions beginning in 2016. VAT tax is 19% in Chile.

 

8.Extension of certain tax benefits and simplified accounting for companies with annual sales lower than 50,000 UF.

 

9.Withholding tax on dividends paid to ADR holders remains unchanged at 35% with the statutory corporate tax rate paid by the company still available as credit to the withholding tax.

 

In general, these reforms may have an adverse effect on the growth rate of mortgage loans and could slow down the rate of economic growth if tax receipts are not spent efficiently or for their intended purposes. We cannot predict at this time if these reforms will have a material impact on our business or clients or if further tax reforms will be implemented in the future. Banco Santander Chile’s effective corporate tax rate should rise in the future, which may have an adverse impact on our results of operations. Please see “Item 10—Additional information—E. Taxation” for more information regarding the impacts of this tax reform on ADR holders.

 

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Developments in other countries may affect us, including the prices for our securities.

 

The prices of securities issued by Chilean companies, including banks, are influenced to varying degrees by economic and market considerations in other countries. We cannot assure you that future developments in or affecting the Chilean economy, including consequences of economic difficulties in other markets, will not materially and adversely affect our business, financial condition or results of operations.

 

We are exposed to risks related to the weakness and volatility of the economic and political situation in Asia, the United States, Europe (including Spain, where Santander Spain, our controlling shareholder, is based), Brazil, Argentina and other nations. Although economic conditions in Europe and the United States may differ significantly from economic conditions in Chile, investors’ reactions to developments in these other countries may have an adverse effect on the market value of securities of Chilean issuers. In particular, investor perceptions of the risks associated with our securities may be affected by perception of risk conditions in Spain.

 

If these nations’ economic conditions deteriorate, the economy in Chile, as both a neighboring country and a trading partner, could also be affected and could experience slower growth than in recent years, with possible adverse impact on our borrowers and counterparties. If this were to occur, we would potentially need to increase our allowances for loan losses, thus affecting our financial results, our results of operations and the price of our securities. As of December 31, 2016, approximately 5.9% of our assets were held abroad. There can be no assurance that the ongoing effects of the global financial crisis will not negatively impact growth, consumption, unemployment, investment and the price of exports in Chile. Crises and political uncertainties in other Latin American countries could also have an adverse effect on Chile, the price of our securities or our business.

 

Chile has considerable economic ties with China, the United States and Europe. In 2016, approximately 24.1% of Chile’s exports went to China, mainly copper. China’s economy has grown at a strong pace in recent times, but a slowdown in economic activity in China may affect Chile’s GDP and export growth as well as the price of copper, which is Chile’s main export. Chile exported approximately 17.8% of total exports to the United States and 18.7 % to Europe in 2016.

 

Chile is also involved in an international litigation with Bolivia regarding maritime borders. We cannot assure you that crises and political uncertainty in other Latin American countries will not have an adverse effect on Chile, the price of our securities or our business.

 

Fluctuations in the rate of inflation may affect our results of operations.

 

High levels of inflation in Chile could adversely affect the Chilean economy and have an adverse effect on our business, financial condition and results of operations. Extended periods of deflation could also have an adverse effect on our business, financial condition and results of operations. In 2009, Chile experienced deflation of 1.4% as the global economy contracted. In 2016, CPI inflation was 2.7% compared to 4.4% in 2015.

 

Our assets and liabilities are denominated in Chilean pesos, UF and foreign currencies. The UF is revalued in monthly cycles. On each day in the period beginning on the tenth day of any given month through the ninth day of the succeeding month, the nominal peso value of the UF is indexed up (or down in the event of deflation) in order to reflect a proportionate amount of the change in the Chilean Consumer Price Index during the prior calendar month. For more information regarding the UF, see “Item 5. Operating and Financial Review and Prospects—A. Operating Results—Impact of Inflation.” Although we benefit from inflation in Chile due to the current structure of our assets and liabilities (i.e., a significant portion of our loans are indexed to the inflation rate, but there are no corresponding features in deposits, or other funding sources that would increase the size of our funding base), there can be no assurance that our business, financial condition and result of operations in the future will not be adversely affected by changing levels of inflation, including from extended periods of inflation that adversely affect economic growth or periods of deflation.

 

Any change in the methodology of how the CPI index or the UF is calculated could also adversely affect our business, financial condition and results of operations.

 

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Currency fluctuations could adversely affect our financial condition and results of operations and the value of our securities.

 

Any future changes in the value of the Chilean peso against the U.S. dollar will affect the U.S. dollar value of our securities. The Chilean peso has been subject to large devaluations and appreciations in the past and could be subject to significant fluctuations in the future. Our results of operations may be affected by fluctuations in the exchange rates between the peso and the dollar despite our policy and Chilean regulations relating to the general avoidance of material exchange rate exposure. In order to avoid material exchange rate exposure, we enter into forward exchange transactions. The following table shows the value of the Chilean peso relative to the U.S. dollar as reported by the Central Bank at year end for the last five years and the devaluation or appreciation of the peso relative to the U.S. dollar in each of those years.

 

Year 

Exchange rate (Ch$) at year end 

Devaluation (Appreciation) (%) 

2012 478.60 (8.2)
2013 523.76 9.4
2014 607.38 16.0
2015 707.34 16.5
2016 667.29 (5.7)
2017 (through March 22, 2017) 657.83 (1.4)

Source: Central Bank.

 

We may decide to change our policy regarding exchange rate exposure. Regulations that limit such exposures may also be amended or eliminated. Greater exchange rate risk will increase our exposure to the devaluation of the peso, and any such devaluation may impair our capacity to service foreign currency obligations and may, therefore, materially and adversely affect our financial condition and results of operations. Notwithstanding the existence of general policies and regulations that limit material exchange rate exposures, the economic policies of the Chilean government and any future fluctuations of the peso against the dollar could affect our financial condition and results of operations.

 

We are subject to substantial regulation and regulatory and governmental oversight which could adversely affect our business, operations and financial condition.

 

As a financial institution, we are subject to extensive regulation, which materially affects our businesses. The statutes, regulations and policies to which we are subject may be changed at any time. In addition, the interpretation and the application by regulators of the laws and regulations to which we are subject may also change from time to time. In the wake of the global financial crisis, the financial services industry continues to experience significant financial regulatory reform in jurisdictions outside of Chile that directly or indirectly affect our business, including Spain, the European Union, the United States, Latin America and other jurisdictions. Changes to current legislation and their implementation through regulation (including additional capital, leverage, funding, liquidity and tax requirements), policies (including fiscal and monetary policies established by central banks and financial regulators, and changes to global trade policies), and other legal and regulatory actions may impose additional regulatory burden on Santander Group, including Santander-Chile, in these jurisdictions. The manner in which these laws and related regulations are applied to the operations of financial institutions is still evolving. Moreover, to the extent these recently adopted regulations are implemented inconsistently in the various jurisdictions in which we operate we may face higher compliance costs.

 

Any legislative or regulatory actions and any required changes to our business operations resulting from such legislation and regulations, as well as any deficiencies in our compliance with such legislation and regulation, could result in significant loss of revenue, limit our ability to pursue business opportunities in which we might otherwise consider engaging and provide certain products and services, affect the value of assets that we hold, require us to increase our prices and therefore reduce demand for our products, impose additional compliance and other costs on us or otherwise adversely affect our businesses. In particular, legislative or regulatory actions resulting in enhanced prudential standards, in particular with respect to capital and liquidity, could impose a significant regulatory burden on the Bank or on its bank subsidiaries and could limit the bank subsidiaries’ ability to distribute capital and liquidity to the Bank, thereby negatively impacting the Bank. Future liquidity standards could require the Bank to maintain a greater proportion of its assets in highly-liquid but lower-yielding financial instruments, which would

 

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negatively affect its net interest margin. Moreover, the Bank's regulatory authorities, as part of their supervisory function, periodically review the Bank's allowance for loan losses. Such regulators may require the Bank to increase its allowance for loan losses or to recognize further losses. Any such additional provisions for loan losses, as required by these regulatory agencies, whose views may differ from those of the Bank's management, could have an adverse effect on the Bank’s earnings and financial condition. Accordingly, there can be no assurance that future changes in regulations or in their interpretation or application will not adversely affect us.

 

The wide range of regulations, actions and proposals which most significantly affect the Bank, or which could most significantly affect the Bank in the future, relate to capital requirements, funding and liquidity and regulatory reforms in Chile, and are discussed in further detail below. These and other regulatory reforms adopted or proposed in the wake of the financial crisis have increased and may continue to materially increase our operating costs and negatively impact our business model. Furthermore, regulatory authorities have substantial discretion in how to regulate banks, and this discretion, and the means available to the regulators, have been increasing during recent years. Regulation may be imposed on an ad hoc basis by governments and regulators in response to a crisis. In addition, the volume, granularity, frequency and scale of regulatory and other reporting requirements necessitate a clear data strategy to enable consistent data aggregation, reporting and management. Inadequate management information systems or processes, including those relating to risk data aggregation and risk reporting, could lead to a failure to meet regulatory reporting requirements or other internal or external information demands and we may face supervisory measures as a result.

 

The main regulations and regulatory and governmental oversight that can adversely impact us include but are not limited to the following (see more details on “Item 4. Information on the Company—B. Business Overview—Regulation and Supervision”):

 

We are subject to regulation by the SBIF and by the Central Bank with regard to certain matters, including reserve requirements, interest rates, foreign exchange mismatches and market risks. Chilean laws, regulations, policies and interpretations of laws relating to the banking sector and financial institutions are continually evolving and changing. Any new reforms could result in increased competition in the industry and thus may have a material adverse effect on our financial condition and results of operations.

 

Pursuant to the General Banking Law, all Chilean banks may, subject to the approval of the SBIF, engage in certain businesses other than commercial banking depending on the risk associated with such business and their financial strength. Such additional businesses include securities brokerage, mutual fund management, securitization, insurance brokerage, leasing, factoring, financial advisory, custody and transportation of securities, loan collection and financial services. The General Banking Law also applies to the Chilean banking system a modified version of the capital adequacy guidelines issued by the Basel Committee on Banking Regulation and Supervisory Practices and limits the discretion of the SBIF to deny new banking licenses. There can be no assurance that regulators will not in the future impose more restrictive limitations on the activities of banks, including us. Any such change could have a material adverse effect on our financial condition or results of operations.

 

Historically, Chilean banks have not paid interest on amounts deposited in checking accounts. We have begun to pay interest on some checking accounts under certain conditions. If competition or other factors lead us to pay higher interest rates on checking accounts, to relax the conditions under which we pay interest or to increase the number of checking accounts on which we pay interest, any such change could have a material adverse effect on our financial condition or results of operations.

 

On November 20, 2013, the Chilean Congress approved new legislation to reduce the maximum rates that can be charged on loans. This new legislation is aimed at loans of less than UF 200 (U.S.$7,241) and with a term of more than 90 days, and thus includes consumer loans in installments, lines of credit and credit card lines. Previously, the maximum interest rate for loans of less than UF 200 and with a term of more than 90 days was calculated as the average rate of all transactions undertaken within the banking industry over the previous month of loans of less than UF 200 and with a term of more than 90 days, multiplied by a factor of 1.5. The average and maximum rates are published daily by the SBIF. By year-end 2016 the maximum rate was 36.64%, close to the level the authorities are seeking for loans of this size.

 

On December 13, 2013, the SBIF published the new maximum rates for loans between UF 50 (US$1,810) and UF 200 (US$7,241). The objective was to lower the maximum rate to a level closer to the average interest rate for loans between UF 200 (US$7,241) to UF 5,000 (US$181,047) plus 14%, unless the flow of new loans in the

 

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industry decreases by 10%-20%, in which case the reduction will be partially or completely suspended until the next period. By year-end 2016 the maximum rate was 29.64%, close to the level the authorities are seeking for loans of this size.

 

In March 2012, a bill aimed at giving additional enforcement powers to the SERNAC (Chile’s Consumer Protection Agency) regarding financial services became effective and created the SERNAC Financiero, a specific consumer protection agency for the financial industry. The SERNAC Financiero has powers to supervise and regulate Bank products and services. The creation of the SERNAC Financiero has also resulted in additional scrutiny regarding prices and contracts for financial products and services, making it more difficult to raise prices and increasing competition among bank and non-bank competitors. The government is currently discussing with the Chilean Congress a bill to again reform the SERNAC Financiero and its powers. No assurance can be given that these changes will not have a material impact on our fee income.

 

The SBIF and the Ministry of Finance have drafted a new General Banking Law that is expected to be submitted to the Chilean Congress in 2017. Among other things, the new banking law is expected to include clearer guidelines for the adoption of Basel III regulations in Chile and new regulations regarding the SBIF’s corporate governance. Although we currently have a regulatory capital ratio of 13.4% as of December 31, 2016 and a core capital ratio of 10.5%, this change could require us to inject additional capital to our business in the future. According to initial estimates of the impact of market risk on regulatory capital, published for informational purposes only by the SBIF, our ratio of regulatory capital to risk-weighted assets, net of loan loss allowance and deductions, including an initial estimate of the adjustments for market risk was 12.2% as of December 31, 2016. Additionally, for the purposes of reporting to our parent company, we calculate this ratio using a model approved by the European Central Bank standards. In this scenario our core capital ratio is 12.1% and our regulatory capital ratio is 15.5% as of December 31, 2016. No assurance can be given that these changes will not have a material impact on our capitalization ratio.

 

A change in labor laws in Chile or a worsening of labor relations in the Bank could impact our business.

 

As of December 31, 2016 on a consolidated basis, we had 11,354 employees, of which 72.2% were unionized. In March 2014, a new collective bargaining agreement was signed with the main unions, which became effective on January 1, 2014, and which will expire on December 31, 2018. We generally apply the terms of our collective bargaining agreement to unionized and non-unionized employees. We have traditionally had good relations with our employees and their unions, but we cannot assure you that in the future, a strengthening of cross-industry labor movements will not materially and adversely affect our business, financial condition or results of operations.

 

Congress passed a new labor law in 2016 that becomes effective April 1, 2017. The main points included in this law are:

 

·Expands the scope of collective bargaining. Currently some groups of workers are excluded from the collective bargaining process.

 

·Expands workers ability to switch unions and gives workers the same rights under a collective bargaining agreement if they affiliate themselves post-negotiations.

 

·Expand the right to greater information of unions including the wages of each worker included in a collective bargaining agreement.

 

·Simplifies the standard collective bargaining process.

 

·Collective bargaining agreements must last maximum three years instead of four.

 

·Eliminate the ability of the employer to replace workers on strike and establishes minimum service guidelines that workers must respect.

 

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·Establishes the current collective bargaining agreement as the bargaining floor for future collective bargaining agreements.

 

·Amplifies the matters that can be negotiated in collective bargaining.

 

·Greater hours for training of union representatives.

 

·Strengthen the participation of women in unions.

 

The Bank currently has a high unionization level and good labor relations. At this time, we are unable to estimate the impact these new regulations will have on labor relations and costs. The current project may also suffer additional modification will being discussed in Congress.

 

These and any additional legislative or regulatory actions in Chile, Spain, the European Union, the United States or other countries, and any required changes to our business operations resulting from such legislation and regulations, could result in reduced capital availability, significant loss of revenue, limit our ability to continue organic growth (including increased lending), pursue business opportunities in which we might otherwise consider engaging and provide certain products and services, affect the value of assets that we hold, require us to increase our prices and therefore reduce demand for our products, impose additional costs on us or otherwise adversely affect our businesses. Accordingly, we cannot provide assurance that any such new legislation or regulations would not have an adverse effect on our business, results of operations or financial condition in the future.

 

Our corporate disclosure may differ from disclosure regularly published by issuers of securities in other countries, including the United States.

 

Issuers of securities in Chile are required to make public disclosures that are different from, and that may be reported under presentations that are not consistent with, disclosures required in other countries, including the United States. In particular, as a Chilean regulated financial institution, we are required to submit to the SBIF on a monthly basis unaudited consolidated balance sheets and income statements, excluding any note disclosure, prepared in accordance with Chilean Bank GAAP as issued by the SBIF. This disclosure differs in a number of significant respects from generally accepted accounting principles in the United States and information generally available in the United States with respect to U.S. financial institutions. In addition, as a foreign private issuer, we are not subject to the same disclosure requirements in the United States as a domestic U.S. registrant under the Exchange Act, including the requirements to prepare and issue quarterly reports, the proxy rules applicable to domestic U.S. registrants under Section 14 of the Exchange Act or the insider reporting and short-swing profit rules under Section 16 of the Exchange Act. Accordingly, the information about us available to you will not be the same as the information available to shareholders of a U.S. company and may be reported in a manner that you are not familiar with.

 

Chile imposes controls on foreign investment and repatriation of investments that may affect your investment in, and earnings from, our ADSs.

 

Equity investments in Chile by persons who are not Chilean residents have generally been subject to various exchange control regulations, which restrict the repatriation of the investments and earnings therefrom. In April 2001, the Central Bank eliminated the regulations that affected foreign investors, except that investors are still required to provide the Central Bank with information relating to equity investments and conduct such operations within Chile’s Formal Exchange Market. The ADSs are subject to a contract, dated May 17, 1994, among the Depositary, us and the Central Bank (the “Foreign Investment Contract”) that remains in full force and effect. The ADSs continue to be governed by the provisions of the Foreign Investment Contract subject to the regulations in existence prior to April 2001. The Foreign Investment Contract grants the Depositary and the holders of the ADSs access to the Formal Exchange Market, which permits the Depositary to remit dividends it receives from us to the holders of the ADSs. The Foreign Investment Contract also permits ADS holders to repatriate the proceeds from the sale of shares of our common stock withdrawn from the ADR facility, or that have been received free of payment as a consequence of spin offs, mergers, capital increases, wind ups, share dividends or preemptive rights transfers, enabling them to acquire the foreign currency necessary to repatriate earnings from such investments. Pursuant to Chilean law, the Foreign Investment Contract cannot be amended unilaterally by the Central Bank, and there are judicial precedents (although not binding with respect to future judicial decisions) indicating that contracts of this type may not be abrogated by future legislative changes or resolutions of the Advisory Council of the Central Bank. Holders of shares of our common stock, except for shares of our common stock withdrawn from the ADS facility or

 

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received in the manner described above, are not entitled to the benefits of the Foreign Investment Contract, may not have access to the Formal Exchange Market, and may have restrictions on their ability to repatriate investments in shares of our common stock and earnings therefrom.

 

Holders of ADSs are entitled to receive dividends on the underlying shares to the same extent as the holders of shares. Dividends received by holders of ADSs will be paid net of foreign currency exchange fees and expenses of the Depositary and will be subject to Chilean withholding tax, currently imposed at a rate of 35.0% (subject to credits in certain cases). If for any reason, including changes in Chilean law, the Depositary were unable to convert Chilean pesos to U.S. dollars, investors would receive dividends and other distributions, if any, in Chilean pesos.

 

We cannot assure you that additional Chilean restrictions applicable to holders of our ADSs, the disposition of the shares underlying them or the repatriation of the proceeds from such disposition or the payment of dividends will not be imposed in the future, nor can we advise you as to the duration or impact of such restrictions if imposed.

 

Investors may find it difficult to enforce civil liabilities against us or our directors, officers and controlling persons.

 

We are a Chilean corporation. None of our directors are residents of the United States and most of our executive officers reside outside of the United States. In addition, a substantial portion of our assets and the assets of our directors and executive officers are located outside the United States. Although we have appointed an agent for service of process in any action against us in the United States with respect to our ADSs, none of our directors, officers or controlling persons has consented to service of process in the United States or to the jurisdiction of any United States court. As a result, it may be difficult for investors to effect service of process within the United States on such persons.

 

It may also be difficult for ADS holders to enforce in the United States or in Chilean courts money judgments obtained in United States courts against us or our directors and executive officers based on civil liability provisions of the U.S. federal securities laws. If a U.S. court grants a final money judgment in an action based on the civil liability provisions of the federal securities laws of the United States, enforceability of this money judgment in Chile will be subject to the obtaining of the relevant “exequatur” (i.e., recognition and enforcement of the foreign judgment) according to Chilean civil procedure law currently in force, and consequently, subject to the satisfaction of certain factors. The most important of these factors are the existence of reciprocity, the absence of a conflicting judgment by a Chilean court relating to the same parties and arising from the same facts and circumstances and the Chilean courts’ determination that the U.S. courts had jurisdiction, that process was appropriately served on the defendant and that enforcement would not violate Chilean public policy. Failure to satisfy any of such requirements may result in non-enforcement of your rights.

 

Risks Relating to Our Controlling Shareholder and our ADSs

 

Our controlling shareholder has a great deal of influence over our business and its interests could conflict with yours.

 

Santander Spain, our controlling shareholder, controls Santander-Chile through its holdings in Teatinos Siglo XXI Inversiones S.A. and Santander Chile Holding S.A., which are controlled subsidiaries. Santander Spain has control over 67.18% of our shares and actual participation, excluding non-controlling shareholders that participate in Santander Chile Holding, S.A. of 67.06%.

 

Due to its share ownership, our controlling shareholder has the ability to control us and our subsidiaries, including the ability to:

 

·elect the majority of the directors and exercise control over our company and subsidiaries;

 

·cause the appointment of our principal officers;

 

·declare the payment of any dividends;

 

·agree to sell or otherwise transfer its controlling stake in us; and

 

·determine the outcome of substantially all actions requiring shareholder approval, including amendments of our bylaws, transactions with related parties, corporate reorganizations, acquisitions and disposals of assets and issuance of additional equity securities, if any.

 

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In December 2012, primarily in response to the requirements of the European Banking Authority, the Bank of Spain and regulators in various jurisdictions, Santander Spain adopted a corporate governance framework (Marco de Gobierno Interno del Grupo Santander). The purpose of the framework is to organize and standardize the corporate governance practices of Santander Spain and its most significant subsidiaries, including us. (Our Board of Directors approved the adoption of this corporate governance framework in July 2013,) subject to certain overarching principles, such as the precedence of applicable laws and regulations over the framework to the extent they are in conflict. See “Item 16G. Corporate Governance.” Our adoption of this framework may increase Santander Spain’s control over us.

 

We operate as a stand-alone subsidiary within the Santander Group. Our controlling shareholder has no liability for our banking operations, except for the amount of its holdings of our capital stock. The interests of Santander Spain may differ from the interests of our other shareholders, and the concentration of control in Santander Spain may differ from the interests of our other shareholders, and the concentration of control in Santander Spain will limit other shareholders’ ability to influence corporate matters. As a result, we may take actions that our other shareholders do not view as beneficial.

 

Our status as a controlled company and a foreign private issuer exempts us from certain of the corporate governance standards of the New York Stock Exchange (“NYSE”), limiting the protections afforded to investors.

 

We are a “controlled company” and a “foreign private issuer” within the meaning of the NYSE corporate governance standards. Under the NYSE rules, a controlled company is exempt from certain NYSE corporate governance requirements. In addition, a foreign private issuer may elect to comply with the practice of its home country and not to comply with certain NYSE corporate governance requirements, including the requirements that (1) a majority of the board of directors consist of independent directors, (2) a nominating and corporate governance committee be established that is composed entirely of independent directors and has a written charter addressing the committee’s purpose and responsibilities, (3) a compensation committee be established that is composed entirely of independent directors and has a written charter addressing the committee’s purpose and responsibilities and (4) an annual performance evaluation of the nominating and corporate governance and compensation committees be undertaken. Although we have similar practices, they do not entirely conform to the NYSE requirements for U.S. issuers; therefore we currently use these exemptions and intend to continue using them. Accordingly, you will not have the same protections afforded to shareholders of companies that are subject to all NYSE corporate governance requirements.

 

There may be a lack of liquidity and market for our shares and ADSs.

 

Our ADSs are listed and traded on the NYSE. Our common stock is listed and traded on the Santiago Stock Exchange, the Chile Electronic Stock Exchange and the Valparaiso Stock Exchange, which we refer to collectively as the Chilean Stock Exchanges, although the trading market for the common stock is small by international standards. At December 31, 2016, we had 188,446,126,794 shares of common stock outstanding. The Chilean securities markets are substantially smaller, less liquid and more volatile than major securities markets in the United States. According to Article 14 of the Ley de Mercado de Valores, Ley No. 18,045, or the Chilean Securities Market Law, the Superintendencia de Valores y Seguros, or the Superintendency of Securities and Insurance, may suspend the offer, quotation or trading of shares of any company listed on one or more Chilean Stock Exchanges for up to 30 days if, in its opinion, such suspension is necessary to protect investors or is justified for reasons of public interest. Such suspension may be extended for up to 120 days. If, at the expiration of the extension, the circumstances giving rise to the original suspension have not changed, the Superintendency of Securities and Insurance will then cancel the relevant listing in the registry of securities. In addition, the Santiago Stock Exchange may inquire as to any movement in the price of any securities in excess of 10% and suspend trading in such securities for a day if it deems necessary.

 

Although our common stock is traded on the Chilean Stock Exchanges, there can be no assurance that a liquid trading market for our common stock will continue to exist. Approximately 33.0% of our outstanding common stock is held by the public (i.e., shareholders other than Santander Spain and its affiliates), including our shares that are represented by ADSs trading on the NYSE. A limited trading market in general and our concentrated ownership in particular may impair the ability of an ADS holder to sell in the Chilean market shares of common stock obtained upon withdrawal of such shares from the ADR facility in the amount and at the price and time such holder desires, and could increase the volatility of the price of the ADSs.

 

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You may be unable to exercise preemptive rights.

 

The Ley Sobre Sociedades Anónimas, Ley No. 18,046 and the Reglamento de Sociedades Anónimas, which we refer to collectively as the Chilean Companies Law, and applicable regulations require that whenever we issue new common stock for cash, we grant preemptive rights to all of our shareholders (including holders of ADSs), giving them the right to purchase a sufficient number of shares to maintain their existing ownership percentage. Such an offering would not be possible in the United States unless a registration statement under the U.S. Securities Act of 1933 (“Securities Act”), as amended, were effective with respect to such rights and common stock or an exemption from the registration requirements thereunder were available.

 

Since we are not obligated to make a registration statement available with respect to such rights and the common stock, you may not be able to exercise your preemptive rights in the United States. If a registration statement is not filed or an applicable exemption is not available under U.S. securities law, the Depositary will sell such holders’ preemptive rights and distribute the proceeds thereof if a premium can be recognized over the cost of any such sale.

 

As a holder of ADSs you will have different shareholders’ rights than in the United States and certain other jurisdictions.

 

Our corporate affairs are governed by our estatutos, or by-laws, and the laws of Chile, which may differ from the legal principles that would apply if we were incorporated in a jurisdiction in the United States or in certain other jurisdictions outside Chile. Under Chilean corporate law, you may have fewer and less well-defined rights to protect your interests than under the laws of other jurisdictions outside Chile. For example, under legislation applicable to Chilean banks, our shareholders would not be entitled to appraisal rights in the event of a merger or other business combination undertaken by us.

 

Although Chilean corporate law imposes restrictions on insider trading and price manipulation, the form of these regulations and the manner of their enforcement may differ from that in the U.S. securities markets or markets in certain other jurisdictions. In addition, in Chile, self-dealing and the preservation of shareholder interests may be regulated differently, which could potentially disadvantage you as a holder of the shares underlying ADSs.

 

Holders of ADSs may find it difficult to exercise voting rights at our shareholders’ meetings.

 

Holders of ADSs will not be our direct shareholders and will be unable to enforce directly the rights of shareholders under our by-laws and the laws of Chile. Holders of ADSs may exercise voting rights with respect to the common stock represented by ADSs only in accordance with the deposit agreement governing the ADSs. Holders of ADSs will face practical limitations in exercising their voting rights because of the additional steps involved in our communications with ADS holders. Holders of our common stock will be able to exercise their voting rights by attending a shareholders’ meeting in person or voting by proxy. By contrast, holders of ADSs will receive notice of a shareholders’ meeting by mail from the Depositary following our notice to the Depositary requesting the Depository to do so. To exercise their voting rights, holders of ADSs must instruct the Depositary on a timely basis on how they wish to vote. This voting process necessarily will take longer for holders of ADSs than for holders of our common stock. If the Depositary fails to receive timely voting instructions for all or part of the ADSs, the Depositary will assume that the holders of those ADSs are instructing it to give a discretionary proxy to a person designated by us to vote their ADSs, except in limited circumstances.

 

Holders of ADSs also may not receive the voting materials in time to instruct the Depositary to vote the common stock underlying their ADSs. In addition, the Depositary and its agents are not responsible for failing to carry out voting instructions of the holders of ADSs or for the manner of carrying out those voting instructions. Accordingly, holders of ADSs may not be able to exercise voting rights, and they will have little, if any, recourse if the common stocks underlying their ADSs are not voted as requested.

 

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ADS holders may be subject to additional risks related to holding ADSs rather than shares.

 

Because ADS holders do not hold their shares directly, they are subject to the following additional risks, among others:

 

·as an ADS holder, you may not be able to exercise the same shareholder rights as a direct holder of ordinary shares;

 

·we and the Depositary may amend or terminate the deposit agreement without the ADS holders’ consent in a manner that could prejudice ADS holders or that could affect the ability of ADS holders to transfer ADSs; and

 

·the Depositary may take or be required to take actions under the Deposit Agreement that may have adverse consequences for some ADS holders in their particular circumstances.

 

ITEM 4. INFORMATION ON THE COMPANY

 

A.History and Development of the Company

 

Overview

 

We are the largest bank in Chile in terms of total assets and loans. As of December 31, 2016, we had total assets of Ch$37,030,025 million (U.S.$55,601 million), outstanding loans, net of allowances for loan losses of Ch$26,147,154 million (U.S.$39,260 million), total deposits of Ch$20,691,024 million (U.S.$31,068 million) and equity of Ch$2,938,199 million (U.S.$4,412 million). As of December 31, 2016, we employed 11,354 people. We have a leading presence in all the major business segments in Chile, and the largest distribution network with national coverage spanning across all the country, including the only privately owned bank with a branch in Easter Island. We offer unique transaction capabilities to clients through our 423 branches and 1,295 ATMs. Our headquarters are located in Santiago and we operate in every major region of Chile.

 

We provide a broad range of commercial and retail banking services to our customers, including Chilean peso and foreign currency denominated loans to finance a variety of commercial transactions, trade, foreign currency forward contracts and credit lines and a variety of retail banking services, including mortgage financing. We seek to offer our customers a wide range of products while providing high levels of service. In addition to our traditional banking operations, we offer a variety of financial services, including financial leasing, financial advisory services, mutual fund management, securities brokerage, insurance brokerage and investment management.

 

The legal predecessor of Santander-Chile was Banco Santiago (“Santiago”). Old Santander-Chile was established as a subsidiary of Santander Spain in 1978. On August 1, 2002, Santiago and Old Santander Chile merged, whereby the latter ceased to exist and Santander-Chile (formerly known as Santiago) being the surviving entity.

 

Our principal executive offices are located at Bandera 140, 20th floor, Santiago, Chile. Our telephone number is +562-320-2000 and our website is www.santander.cl. None of the information contained on our website is incorporated by reference into, or forms part of, this Annual Report. Our agent for service of process in the United States is CT Corporation, located at 111 Eighth Avenue, 13th Floor, New York, New York 10011.

 

Relationship with Santander Spain

 

We believe that our relationship with our controlling shareholder, Santander Spain, offers us a significant competitive advantage over our peer Chilean banks. Santander Spain, our parent company, is one of the largest financial groups in Brazil and the rest of Latin America, in terms of total assets measured on a regional basis. It is the largest financial group in Spain and is a major player elsewhere in Europe, including the United Kingdom, Poland and Portugal, where it is the third-largest banking group. Through Santander Consumer, it also operates a leading consumer finance franchise in the United States, as well as in Germany, Italy, Spain, and several other European countries.

 

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Our relationship with Santander Spain provides us with access to the group’s client base, while its multinational focus allows us to offer international solutions to our clients’ financial needs. We also have the benefit of selectively borrowing from Santander Spain’s product offerings in other countries, as well as of its know-how in systems management. We believe that our relationship with Santander Spain will also enhance our ability to manage credit and market risks by adopting policies and knowledge developed by Santander Spain. In addition, our internal auditing function has been strengthened as a result of the addition of an internal auditing department that concurrently reports directly to our Audit Committee and the audit committee of Santander Spain. We believe that this structure leads to improved monitoring and control of our exposure to operational risks.

 

Santander Spain’s support of Santander-Chile includes the assignment of managerial personnel to key supervisory areas of Santander-Chile, such as risks, auditing, accounting and financial control. Santander-Chile does not pay any management or other fees to Santander Spain in connection with these support services.

 

B.Business Overview

 

We have 423 total branches, 274 of which are operated under the Santander brand name, with the remaining branches under certain specialty brand names, including 39 under the Santander Banefe brand name, 53 under the Select brand name, 8 specialized branches for the Middle Market and 49 as auxiliary and payment centers. We provide a full range of financial services to corporate and individual customers. We divide our clients into the following groups: (i) Retail banking, (ii) Middle-market, (iii) Global Corporate Banking and (iv) Corporate Activities (“Other”).

 

The Bank has the reportable segments noted below (see “Segmentation Criteria” for further information):

 

Retail Banking

 

Consists of individuals and small to middle-sized entities (SMEs) with annual sales less than Ch$2,000 million (U.S.$3.0 million). This segment gives customers a variety of services, including consumer loans, credit cards, auto loans, commercial loans, foreign exchange, mortgage loans, debit cards, checking accounts, savings products, mutual funds, stock brokerage, and insurance brokerage. Additionally, the SME clients are offered government-guaranteed loans, leasing and factoring.

 

Middle-market

 

This segment serves companies and large corporations with annual sales exceeding Ch$2,000 million (U.S.$3.0 million). It also serves institutions such as universities, government entities, local and regional governments and companies engaged in the real estate industry who carry out projects to sell properties to third parties and annual sales exceeding Ch$800 million (U.S.$1.2 million) with no upper limit. The companies within this segment have access to many products including commercial loans, leasing, factoring, foreign trade, credit cards, mortgage loans, checking accounts, transactional services, treasury services, financial consulting, savings products, mutual funds, and insurance brokerage. Also companies in the real estate industry are offered specialized services to finance projects, chiefly residential, with the aim of expanding sales of mortgage loans.

 

Global Corporate Banking

 

This segment consists of foreign and domestic multinational companies with sales over Ch$10,000 million (U.S.$15.0 million). The companies within this segment have access to many products including commercial loans, leasing, factoring, foreign trade, credit cards, mortgage loans, checking accounts, transactional services, treasury services, financial consulting, investments, savings products, mutual funds and insurance brokerage.

 

This segment also consists of a Treasury Division which provides sophisticated financial products, mainly to companies in the Middle-market segment and Global Corporate Banking. These include products such as short-term financing and fund raising, brokerage services, derivatives, securitization and other tailor-made products. The Treasury Division may act as broker to transactions and also manages the Bank’s investment portfolio.

 

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Corporate Activities (“Other”)

 

This segment mainly includes our Financial Management Division, which develops global management functions, including managing inflation rate risk, foreign currency gaps, interest rate risk and liquidity risk. Liquidity risk is managed mainly through wholesale deposits, debt issuances and the Bank’s available-for-sale portfolio. This segment also manages capital allocation by unit. These activities usually result in a negative contribution to income.

 

In addition, this segment encompasses all the intra-segment income and all the activities not assigned to a given segment or product with customers. The segments’ accounting policies are those described in the summary of accounting policies. The Bank earns most of its income in the form of interest income, fee and commission income and income from financial operations. To evaluate a segment’s financial performance and make decisions regarding the resources to be assigned to segments, the Chief Operating Decision Maker (CODM) bases his or her assessment on the segment's interest income, fee and commission income, and expenses.

 

The tables below show the Bank’s results by reporting segment for the year ended December 31, 2016, in addition to the corresponding balances of loans and accounts receivable from customers:

 

    As of December 31, 2016
 

Loans and accounts receivable from customers

(1)

Net interest
income
Net fee and commission
income

Financial transactions, net

(2)

Provision for loan losses

Support expenses

(3)

Segment`s
net contribution
  Ch$mn
               
Retail Banking 18,604,936 931,105 196,845 21,141 (323,888) (529,909) 295,294
Middle-market 6,396,376 244,960 30,851 19,577 (26,748) (83,412) 185,228
Global Corporate Banking 2,121,513 95,105 25,077 55,927 7,579 (53,935) 129,753
Other 83,606 10,196 1,651 43,713 974 (19,649) 36,885
Total 27,206,431 1,281,366 254,424 140,358 (342,083) (686,905) 647,160
               
Other operating income         6,427
Other operating expenses and impairment         (69,136)
Income from investments in associates and other companies         3,012
Income tax expense         (109,031)
Net income for the year         478,432
                 

(1) Corresponds to loans and accounts receivable from customers, without deducting their allowances for loan losses.

 

(2) Corresponds to the sum of the net income from financial operations and the foreign exchange profit or loss.

 

(3) Corresponds to the sum of personnel salaries and expenses, administrative expenses, depreciation and amortization.

 

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Operations through Subsidiaries

 

Today, the General Banking Law permits us to directly provide the leasing and financial advisory services that we could formerly offer only through our subsidiaries, to offer investment advisory services outside of Chile and to undertake activities that we could not formerly offer directly or through subsidiaries, such as factoring, securitization, foreign investment funds, custody and transport of securities and insurance brokerage services. For the twelve–month period ended December 31, 2016, our subsidiaries collectively accounted for 0.6% of our total consolidated assets.

 

      Percent ownership share As of December 31,
      2016  2015  2014
Name of the Subsidiary  Main activity  Direct  Indirect  Total  Direct  Indirect  Total  Direct  Indirect  Total
       %    %    %    %    %    %    %    %    % 
Santander Corredora de Seguros Limitada  Insurance brokerage   99.75    0.01    99.76    99.75    0.01    99.76    99.75    0.01    99.76 
Santander Corredores de Bolsa Limitada(*)  Financial instruments brokerage   50.59    0.41    51.00    50.59    0.41    51.00    50.59    0.41    51.00 
Santander Agente de Valores Limitada  Securities brokerage   99.03        99.03    99.03        99.03    99.03        99.03 
Santander S.A. Sociedad Securitizadora  Purchase of credits and issuance of debt instruments   99.64        99.64    99.64        99.64    99.64        99.64 
Santander Servicios de Recaudación y Pagos Limitada(**)  Support business, making and receiving payments                           99.90    0.1    100.00 

 

 
(*)On June 19, 2015, Santander Corredores de Bolsa Limitada, our stock brokerage company changed its corporate structure to that of a limited liability company.

(**)As of May 1, 2014, this entity was absorbed by the Bank pursuant to authorization obtained from the SBIF on March 25, 2014.

 

The following companies have been consolidated based on the determination that they are controlled by the Bank, in accordance with IFRS 10 Consolidated Financial Statements:

 

- Santander Gestión de Recaudación y Cobranza Limitada (collection services)

 

- Bansa Santander S.A. (management of repossessed assets and leasing of properties)

 

During 2015, Multinegocios S.A. (management of sales force), Servicios Administrativos y Financieros Limitada (management of sales force) and Multiservicios de Negocios Limitada (call center) have ceased rendering sales services to the Bank and the Bank no longer controls their relevant activities. Therefore as of June 30, 2015, these entities have been excluded from our consolidated results. As of August 1, 2014, Servicios de Cobranza Fiscalex Limitada was absorbed by Santander Gestión de Recaudación y Cobranza Limitada.

 

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Competition

 

Overview

 

The Chilean financial services market consists of a variety of largely distinct sectors. The most important sector, commercial banking, includes a number of privately-owned banks and one public-sector bank, Banco del Estado de Chile (which operates within the same legal and regulatory framework as the private sector banks). The private-sector banks include local banks and a number of foreign-owned banks operating in Chile. The Chilean banking system is comprised of 22 banks, including one public-sector bank. The four largest banks accounted for 69.1% of all outstanding loans by Chilean financial institutions as of December 31, 2016 (excluding assets held abroad by Chilean banks).

 

The Chilean banking system has experienced increased competition in recent years, largely due to consolidation in the industry and new legislation. We also face competition from non-bank and non-finance competitors, principally department stores, credit unions and cajas de compensación (private, non-profitable corporations whose aim is to administer social welfare benefits, including payroll loans, to their members) with respect to some of our credit products, such as credit cards, consumer loans and insurance brokerage. In addition, we face competition from non-bank finance competitors, such as leasing, factoring and automobile finance companies, with respect to credit products, and mutual funds, pension funds and insurance companies, with respect to savings products. Currently, banks continue to be the main suppliers of leasing, factoring and mutual funds, and the insurance sales business has grown rapidly.

 

All the competition data in the following sections is based on Chilean Bank GAAP.

 

The following tables set out certain statistics comparing our market position to that of our peer group, defined as the five largest banks in Chile in terms of total loans as of December 31, 2016 (excluding assets held by Chilean banks abroad).

 

 

As of December 31, 2016,
unless otherwise noted 

 

Market Share 

Rank 

Commercial loans 17.3% 2
Consumer loans 23.4% 1
Residential mortgage loans 21.6% 1
Total loans 19.4% 1
Deposits 18.8% 1
Credit card issued 15.5% 1
Checking accounts (1) 21.8% 1
Branches 19.3% 1

 

 

Source: SBIF

 

(1)As of November 2016, the latest available information

 

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Loans

 

As of December 31, 2016, our loan portfolio was the largest among Chilean banks. Our loan portfolio, including interbank loans, represented 19.4% of the market for loans in the Chilean financial system as of such date. The following table sets forth our and our peer group’s market shares in terms of loans (excluding assets held by Chilean banks abroad).

 

   As of December 31, 2016
(Chilean Bank GAAP)
Loans  Ch$ million  U.S.$ million  Market
Share
Santander-Chile    27,206,431    40,850    19.4%
Banco de Chile    25,858,639    38,827    18.4%
Banco de Crédito e Inversiones    18,183,165    27,302    13.0%
Banco del Estado de Chile    20,208,686    30,343    14.4%
BBVA, Chile    9,271,674    13,921    6.6%
Itaú Corpbanca    15,503,610    23,279    11.1%
Others    51,232,466    76,926    36.5%
Chilean financial system    140,258,239    210,598    100.0%

 

 

Source: SBIF

 

Deposits

 

We had a 18.8% market share in deposits, ranking first among banks in Chile as of December 31, 2016. Deposit market share is based on total time and demand deposits as of the respective dates. The following table sets forth our and our peer group’s market shares in terms of deposits (excluding assets held by Chilean banks abroad).

 

   As of December 31, 2016
(Chilean Bank GAAP)
Deposits  Ch$ million  U.S.$ million  Market Share
Santander-Chile    20,691,024    31,068    18.8%
Banco de Chile    18,874,049    28,339    17.2%
Banco de Crédito e Inversiones    13,492,879    20,260    12.3%
Banco del Estado de Chile    19,744,842    29,647    18.0%
BBVA, Chile    6,876,369    10,325    6.3%
Itaú Corpbanca    10,648,447    15,989    9.7%
Others    19,573,689    29,390    17.8%
Chilean financial system    109,901,300    165,017    100.0%

 

 

Source: SBIF.

 

Total equity

 

With Ch$2,898,047 million (U.S.$4,351 million) in equity in Chilean Bank GAAP as of December 31, 2016, we were the second largest commercial bank in Chile in terms of shareholders’ equity. The following table sets forth our and our peer group’s shareholders’ equity.

 

   As of December 31, 2016
(Chilean Bank GAAP)
Total Equity  Ch$ million  U.S.$ million  Market Share
Santander-Chile    2,898,047    4,351    16.3%
Banco de Chile    2,887,411    4,335    16.2%
Banco de Crédito e Inversiones    2,518,677    3,782    14.1%
Banco del Estado de Chile    1,572,861    2,362    8.8%
BBVA, Chile    829,494    1,245    4.7%
Itaú Corpbanca    3,404,296    5,112    19.1%
Others    3,692,173    5,544    20.7%
Chilean financial system    17,802,959    26,731    100.0%

 

 

Source: SBIF.

 

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Efficiency

 

As of December 31, 2016, we were the most efficient bank in our peer group. The following table sets forth our and our peer group’s efficiency ratio (defined as operating expenses as a percentage of operating revenue, which is the aggregate of net interest income, fees and income from services (net), net gains from mark-to-market and trading, exchange differences (net) and other operating income (net)) in each case under Chilean Bank GAAP.

 

Efficiency ratio as defined by the SBIF 

As of
December 31, 2016
(Chilean Bank GAAP) 

Santander-Chile 44.4%
Banco de Chile 45.2%
Banco de Crédito e Inversiones 53.8%
Banco del Estado de Chile 61.3%
BBVA, Chile 61.5%
Itaú Corpbanca 71.2%
Chilean financial system 53.9%

 

 

Source: SBIF.

 

Net income for the period attributable to equity holders

 

In 2016, we were the second largest bank in Chile in terms of net income attributable to shareholders of Ch$472,351 million (U.S.$709 million) measured under Chilean Bank GAAP. The following table sets forth our and our peer group’s net income.

 

   As of December 31, 2016
(Chilean Bank GAAP)
Net income attributable to equity holders  Ch$ million  U.S.$ million  Market Share
Santander-Chile    472,351    709    24.3%
Banco de Chile    552,249    829    28.4%
Banco de Crédito e Inversiones    340,121    511    17.5%
Banco del Estado de Chile    147,090    221    7.6%
BBVA, Chile    80,440    121    4.1%
Itaú Corpbanca    2,059    3    0.1%
Others    349,001    524    18.0%
Chilean financial system    1,943,311    2,918    100.0%

 

 

Source: SBIF.

 

Return on equity

 

As of December 31, 2016, we were the second most profitable bank in our peer group (as measured by return on period-end equity under Chilean Bank GAAP) and the most capitalized bank as measured by the Chilean BIS ratio. The following table sets forth our and our peer group’s return on average equity and BIS ratio.

 

   Return on period-end equity as of December 31, 2016
(Chilean Bank GAAP)
  BIS Ratio as of December 31, 2016
(Chilean Bank GAAP)
Santander-Chile    16.4%   13.4%
Banco de Chile    19.1%   13.9%
Banco de Crédito e Inversiones    13.5%   13.4%
Banco del Estado de Chile    10.2%   11.3%
BBVA, Chile    9.7%   12.3%
Itaú Corpbanca    (0.1)%   14.0%
Chilean Financial System    11.0%   13.8%

 

 

Source: SBIF.

 

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Asset Quality

 

As of December 31, 2016, we had the second-highest non-performing loan to loan ratio in our peer group. The following table sets forth our and our peer group’s non-performing loan ratio as defined by the SBIF as of December 31, 2016.

 

 

Non-performing loans / total loans(1) as of December 31, 2016
(Chilean Bank GAAP) 

Santander-Chile 2.07%
Banco de Chile 1.12%
Banco de Crédito e Inversiones 1.42%
Banco del Estado de Chile 3.34%
BBVA, Chile 1.30%
Itaú Corpbanca 1.66%
Chilean financial system 1.85%

 

 

Source: SBIF.

 

(1)Excluding interbank loans.

 

Regulation and Supervision

 

General

 

In Chile, only banks may maintain checking accounts for their customers, conduct foreign trade operations, and, together with non-banking financial institutions, accept time deposits. The principal authorities that regulate financial institutions in Chile are the SBIF and the Central Bank. Chilean banks are primarily subject to the General Banking Law, and secondarily subject, to the extent not inconsistent with this statute, the provisions of the Chilean Companies Law governing public corporations, except for certain provisions which are expressly excluded.

 

The modern Chilean banking system dates from 1925 and has been characterized by periods of substantial regulation and state intervention, as well as periods of deregulation. The most recent period of deregulation commenced in 1975 and culminated in the adoption of a series of amendments to General Banking Law. That law, amended most recently in 2001, granted additional powers to banks, including general underwriting powers for new issues of certain debt and equity securities and the power to create subsidiaries to engage in activities related to banking, such as brokerage, investment advisory and mutual fund services, administration of investment funds, factoring, securitization products and financial leasing services.

 

The Central Bank

 

The Central Bank is an autonomous legal entity created by the Chilean Constitution. It is subject to the Chilean Constitution and its own ley orgánica constitucional, or organic constitutional law. To the extent not inconsistent with the Chilean Constitution or the Central Bank’s organic constitutional law, the Central Bank is also subject to private sector laws (but in no event is it subject to the laws applicable to the public sector). It is directed and administered by a Board of Directors composed of five members designated by the President of Chile, subject to the approval of the Chilean Senate.

 

The legal purpose of the Central Bank is to maintain the stability of the Chilean peso and the orderly functioning of Chile’s internal and external payment systems. The Central Bank’s powers include setting reserve requirements, regulating the amount of money and credit in circulation, establishing regulations and guidelines regarding finance companies, foreign exchange (including the Formal Exchange Market) and banks’ deposit-taking activities.

 

The SBIF

 

Banks are supervised and controlled by the SBIF, an independent Chilean governmental agency. The SBIF authorizes the creation of new banks and has broad powers to interpret and enforce legal and regulatory requirements applicable to banks and financial companies. Furthermore, in cases of noncompliance with such legal and regulatory requirements, the SBIF has the ability to impose sanctions. In extreme cases, it can appoint, with the

 

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prior approval of the Board of Directors of the Central Bank, a provisional administrator to manage a bank. It must also approve any amendment to a bank’s by-laws or any increase in its capital.

 

The SBIF examines all banks from time to time, generally at least once a year. Banks are also required to submit their financial statements monthly to the SBIF, and a bank’s financial statements are published at least four times a year in a newspaper with countrywide coverage. In addition, banks are required to provide extensive information regarding their operations at various periodic intervals to the SBIF. A bank’s annual financial statements and the opinion of its independent auditors must also be submitted to the SBIF.

 

Any person wishing to acquire, directly or indirectly, 10.0% or more of the share capital of a bank must obtain the prior approval of the SBIF. Absent such approval, the acquirer of shares so acquired will not have the right to vote. The SBIF may only refuse to grant its approval, based on specific grounds set forth in the General Banking Law.

 

According to Article 35bis of the General Banking Law, the prior authorization of the SBIF is required for:

 

·the merger of two or more banks;

 

·the acquisition of all or a substantial portion of a bank’s assets and liabilities by another bank;

 

·the control by the same person, or controlling group, of two or more banks; or

 

·a substantial increase in the existing control of a bank by a controlling shareholder of that bank.

 

Such prior authorization is required solely when the acquiring bank or the resulting group of banks would own a significant market share in loans, defined by the SBIF to be more than 15.0% of all loans in the Chilean banking system. The intended purchase, merger or expansion may be denied by the SBIF; or, if the acquiring bank or resulting group would own a market share in loans determined to be more than 20.0% of all loans in the Chilean banking system, the purchase, merger or expansion may be conditioned on one or more of the following:

 

·that the bank or banks maintain regulatory capital higher than 8.0% and up to 14.0% of their risk-weighted assets;

 

·that the technical reserve established in Article 65 of the General Banking Law be applicable when deposits exceed one and a half times the resulting bank’s paid-in capital and reserves; or

 

·that the margin for interbank loans be reduced to 20.0% of the resulting bank’s regulatory capital.

 

If the acquiring bank or resulting group would own a market share in loans determined by the SBIF to be more than 15.0% but less than 20.0%, the authorization will be conditioned on the bank or banks maintaining a regulatory capital not lower than 10.0% of their risks-weighted assets for the period specified by the SBIF, which may not be less than one year. The calculation of the risk-weighted assets is based on a five-category risk classification system applied to a bank’s assets that is based on the Basel Committee recommendations.

 

Pursuant to the regulations of the SBIF, the following ownership disclosures are required:

 

·a bank is required to inform the SBIF of the identity of any person owning, directly or indirectly, 5.0% or more of such banks’ shares;

 

·holders of ADSs must disclose to the Depositary the identity of beneficial owners of ADSs registered under such holders’ names;

 

·the Depositary is required to notify the bank as to the identity of beneficial owners of ADSs which such Depositary has registered and the bank, in turn, is required to notify the SBIF as to the identity of the beneficial owners of the ADSs representing 5.0% or more of such banks’ shares; and

 

·bank shareholders who individually hold 10.0% or more of a bank’s capital stock and who are controlling shareholders must periodically inform the SBIF of their financial condition.

 

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Limitations on Types of Activities

 

Chilean banks can only conduct those activities allowed by the General Banking Law: making loans, accepting deposits and, subject to limitations, making investments and performing financial services. Investments are restricted to real estate for the bank’s own use, gold, foreign exchange and debt securities. Through subsidiaries, banks may also engage in other specific financial service activities such as securities brokerage services, equity investments, securities, mutual fund management, investment fund management, financial advisory and leasing activities. Subject to specific limitations and the prior approval of the SBIF and the Central Bank, Chilean banks may own majority or non-controlling interests in foreign banks.

 

Since June 1, 2002, Chilean banks are allowed to offer a new checking account product that pays interest. The SBIF also stated that these accounts may be subject to minimum balance limits and different interest rates depending on average balances held in the account and that banks may also charge fees for the use of this new product. For banks with a solvency score of less than A, the Central Bank has also imposed additional caps to the interest rate that can be paid.

 

On June 5, 2007, pursuant to Law 20.190, new regulations became effective authorizing banks to enter into transactions involving a wider range of derivatives, such as futures, options, swaps, forwards and other derivative instruments or contracts subject to specific limitations established by the Central Bank of Chile. Previously, banks were able to enter into transactions involving derivatives, but subject to more restrictive guidelines.

 

Deposit Insurance

 

The Chilean government guarantees up to 90.0% of the principal amount of certain time and demand deposits and savings accounts held by natural persons with a maximum value of UF120 per person (Ch$3,161,758 or U.S.$4,747 as of December 31, 2016) per calendar year in the entire financial system.

 

Reserve Requirements

 

Deposits are subject to a reserve requirement of 9.0% for demand deposits and 3.6% for time deposits (with terms of less than one year). For purposes of calculating the reserve obligation, banks are authorized to deduct daily from their foreign currency denominated liabilities, the balance in foreign currency of certain loans and financial investments held outside of Chile, the most relevant of which include:

 

·cash clearance account, which should be deducted from demand deposit for calculating reserve requirement;

 

·certain payment orders issued by pension providers; and

 

·the amount set aside for “technical reserve” (as described below), which can be deducted from reserve requirement.

 

The Central Bank has statutory authority to require banks to maintain reserves of up to an average of 40.0% for demand deposits and up to 20.0% for time deposits (irrespective, in each case, of the currency in which they are denominated) to implement monetary policy. In addition, to the extent that the aggregate amount of the following types of liabilities exceeds 2.5 times the amount of a bank’s regulatory capital, a bank must maintain a 100.0% “technical reserve” against them: demand deposits, deposits in checking accounts, or obligations payable on sight incurred in the ordinary course of business, and in general all deposits unconditionally payable immediately but excluding interbank demand deposits.

 

Minimum Capital

 

Under the General Banking Law, a bank is required to have a minimum of UF800,000 (approximately Ch$21,078 million or U.S.$31.6 million as of December 31, 2016) of paid-in capital and reserves, calculated in accordance with Chilean Bank GAAP, regulatory capital of at least 8.0% of its risk weighted assets, net of required allowances, and paid in capital and reserves of at least 3.0% of its total assets, net of required allowances, as calculated in accordance with Chilean Bank GAAP.

 

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Regulatory capital is defined as the aggregate of:

 

·a bank’s paid-in capital and reserves, excluding capital attributable to subsidiaries and foreign branches or capital básico;

 

·its subordinated bonds, valued at their placement price (but decreasing by 20.0% for each year during the period commencing six years prior to maturity), for an amount up to 50.0% of its core capital; and

 

·its voluntary allowances for loan losses for an amount of up to 1.25% of risk weighted-assets.

 

Capital Adequacy Requirements

 

According to the General Banking Law, each bank should have regulatory capital of at least 8.0% of its risk-weighted assets, net of required allowances. The calculation of risk weighted assets is based on a five-category risk classification system for bank assets that is based on the Basel Committee recommendations. The SBIF is expected to implement in 2017 the Basel III capital standards in Chile, which will includes the implementation of capital limits with market risk and operational risk-weighted assets. These changes must be approved by the Chilean Congress, as it involves a modification to the General Banking Law.

 

Banks should also have capital básico, or core capital, of at least 3.0% of their total assets, net of allowances. Core capital is defined to include shareholders’ equity.

 

Within the scope of Basel III in Chile, further changes in regulation may occur. See “Item 3. Key Information—D. Risk Factors—Risks Relating to Chile—We are subject to substantial regulation and regulatory and governmental oversight which could adversely affect our business, operations and financial condition.”

 

Lending Limits

 

Under the General Banking Law, Chilean banks are subject to certain lending limits, including the following material limits:

 

·A bank may not extend to any entity or individual (or any one group of related entities), except for another financial institution, directly or indirectly, unsecured credit in an amount that exceeds 10.0% of the bank’s regulatory capital, or in an amount that exceeds 30.0% of its regulatory capital if the excess over 10.0% is secured by certain assets with a value equal to or higher than such excess. These limits were raised from 5.0% and 25.0%, respectively, in 2007 by the Reformas al Mercado de Capitales II (also known as MK2). In the case of financing infrastructure projects built by government concession, the 10.0% ceiling for unsecured credits is raised to 15.0% if secured by a pledge over the concession, or if granted by two or more banks or finance companies which have executed a credit agreement with the builder or holder of the concession;

 

·a bank may not extend loans to another financial institution subject to the General Banking Law in an aggregate amount exceeding 30.0% of its regulatory capital;

 

·a bank may not directly or indirectly grant a loan whose purpose is to allow an individual or entity to acquire shares of the lender bank;

 

·a bank may not lend, directly or indirectly, to a director or any other person who has the power to act on behalf of the bank; and

 

·a bank may not grant loans to related parties (including holders of more than 1.0% of its shares) on more favorable terms than those generally offered to non-related parties. Loans granted to related parties are subject to the limitations described in the first bullet point above. In addition, the aggregate amount of loans to related parties may not exceed a bank’s regulatory capital.

 

In addition, the General Banking Law limits the aggregate amount of loans that a bank may grant to its employees to 1.5% of its regulatory capital, and provides that no individual employee may receive loans in excess of 10.0% of this 1.5% limit. Notwithstanding these limitations, a bank may grant to each of its employees a single residential mortgage loan for personal use during such employee’s term of employment.

 

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Allowance for Loan Losses

 

Chilean banks are required to provide to the SBIF detailed information regarding their loan portfolio on a monthly basis. The SBIF examines and evaluates each financial institution’s credit management process, including its compliance with the loan classification guidelines. Banks are classified into four categories: 1, 2, 3 and 4. Each bank’s category depends on the models and methods used by the bank to classify its loan portfolio, as determined by the SBIF. Category 1 banks are those banks whose methods and models are satisfactory to the SBIF. Category 1 banks will be entitled to continue using the same methods and models they currently have in place. A bank classified as a category 2 bank will have to maintain the minimum levels of reserves established by the SBIF while its Board of Directors will be made aware of the problems detected by the SBIF and required to take steps to correct them. Banks classified as categories 3 and 4 will have to maintain the minimum levels of reserves established by the SBIF until they are authorized by the SBIF to do otherwise. Santander-Chile is categorized as a “Category 1” bank.

 

Differences between IFRS and Chilean Bank GAAP

 

As stated above, Chilean Bank GAAP, as prescribed by the Compendium of Accounting Standards (the “Compendium”), differs in certain respects from IFRS. The main differences that should be considered by an investor are the following:

 

Suspension of Income Recognition on Accrual Basis

 

In accordance with the Compendium, financial institutions must suspend recognition of income on an accrual basis in their statements of income for certain loans included in the impaired portfolio. IFRS does not allow the suspension of accrual of interest on financial assets for which an impairment loss has been determined. This difference does not materially impact our Audited Consolidated Financial Statements.

 

Charge-offs and Accounts Receivable

 

The Compendium requires companies to establish deadlines for the charge-off of loans and accounts receivable. IFRS does not require any such deadline for charge-offs. A charge-off due to impairment would be recorded, if and only if, all efforts at collection of the loan or account receivable had been exhausted. Accordingly, this difference does not materially impact our Audited Consolidated Financial Statements.

 

Assets Received in Lieu of Payment

 

The Compendium requires that the initial value of assets received in lieu of payment be the value agreed upon with a debtor as a result of the loan settlement or the value awarded in an auction, as applicable. These assets are required to be written off one year after their acquisition, if the assets have not been previously disposed of. IFRS requires that assets received in lieu of payment be initially accounted for at fair value. Subsequently, asset valuation depends on the classification provided by the entity for that type of asset. No deadline is established for charging-off an asset. The Bank has adjusted the Audited Consolidated Financial Statements accordingly.

 

Loan loss allowances

 

The main difference between Chilean bank GAAP and IFRS regarding loan loss allowances is that under Chilean Bank GAAP, these are calculated based on specific guidelines set by the SBIF, which are in turn based on an expected losses approach, and under IFRS, we use an incurred loss approach. The Bank has adjusted the Audited Consolidated Financial Statements.

 

Provisions for country risk and for contingent loan risk

 

Under Chilean GAAP, the Bank provisions for country risk to cover the risk taken when holding or committing resources with any foreign country. These allowances are established according to country risk classifications established by the SBIF and therefore are not in accordance with IFRS as issued by the IASB. Our Audited Consolidated Financial Statements have been adjusted accordingly.

 

Also under Chilean GAAP, the Bank has established allowances related to the undrawn available credit lines and contingent loans in accordance with the SBIF. As IFRS only permits allowances following its internal models based on incurred debt, the Bank has adjusted the Audited Consolidated Financial Statements accordingly.

 

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These differences do not materially impact our financial statements.

 

Deferred taxes

 

The Bank records, when appropriate, deferred tax assets and liabilities for the estimated future tax effects attributable to differences between the carrying amount of assets and liabilities and their tax bases. Due to the adjustments made to the consolidated financial statements, we adjust deferred taxes accordingly.

 

Provision for mandatory dividends

 

This provision is made in accordance with the Bank’s internal policy, pursuant to which at least 30% of net income for the period is distributed, except in the case of a contrary resolution adopted at the respective shareholders’ meeting by unanimous vote of the outstanding shares. While the Bank uses the same policy under Chilean GAAP and IFRS, the net income used to calculate the provision is adjusted in accordance with IFRS principles.

 

Capital Markets

 

Under the General Banking Law, banks in Chile may purchase, sell, place, underwrite and act as paying agents with respect to certain debt securities. Likewise, banks in Chile may place and underwrite certain equity securities. Bank subsidiaries may also engage in debt placement and dealing, equity issuance advice and securities brokerage, as well as in financial leasing, mutual fund and investment fund administration, investment advisory services and merger and acquisition services. These subsidiaries are regulated by the SBIF and, in some cases, also by the Superintendency of Securities and Insurance, the regulator of the Chilean securities market, open-stock corporations and insurance companies.

 

Legal Provisions Regarding Banking Institutions with Economic Difficulties

 

The General Banking Law provides that if specified adverse circumstances exist at any bank, its Board of Directors must correct the situation within 30 days from the date of receipt of the relevant financial statements. If the Board of Directors is unable to do so, it must call a special shareholders’ meeting to increase the capital of the bank by the amount necessary to return the bank to financial stability. If the shareholders reject the capital increase, or if it is not effected within the term and in the manner agreed to at the meeting, or if the SBIF does not approve the Board of Directors’ proposal, the bank will be barred from increasing its loan portfolio beyond that stated in the financial statements presented to the Board of Directors and from making any further investments in any instrument other than in instruments issued by the Central Bank. In such a case, or in the event that a bank is unable to make timely payment in respect of its obligations, or if a bank is under provisional administration of the SBIF, the General Banking Law provides that the bank may receive a two-year term loan from another bank. The terms and conditions of such a loan must be approved by the directors of both banks, as well as by the SBIF, but need not be submitted to the borrowing bank’s shareholders for their approval. In any event, a creditor bank cannot grant interbank loans to an insolvent bank in an amount exceeding 25.0% of the creditor bank’s regulatory capital. The Board of Directors of a bank that is unable to make timely payment of its obligations must present a reorganization plan to its creditors in order to capitalize the credits, extend their respective terms, condone debts or take other measures for the payment of the debts. If the Board of Directors of a bank submits a reorganization plan to its creditors and such arrangement is approved, all subordinated debt issued by the bank, whether or not matured, will be converted by operation of law into common stock in the amount required for the ratio of regulatory capital to risk-weighted assets to be not lower than 12.0%. If a bank fails to pay an obligation, it must notify the SBIF, which shall determine if the bank is solvent.

 

Dissolution and Liquidation of Banks

 

The SBIF may establish that a bank should be liquidated for the benefit of its depositors or other creditors when such bank does not have the necessary solvency to continue its operations. In such case, the SBIF must revoke a bank’s authorization to exist and order its mandatory liquidation, subject to agreement by the Central Bank. The SBIF must also revoke a bank’s authorization if the reorganization plan of such bank has been rejected twice. The resolution by the SBIF must state the reason for ordering the liquidation and must name a liquidator, unless the SBIF assumes this responsibility. When a liquidation is declared, all checking accounts and other demand deposits received in the ordinary course of business, are required to be paid by using existing funds of the bank, its deposits with the Central Bank or its investments in instruments that represent its reserves. If these funds are insufficient to

 

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pay these obligations, the liquidator may seize the rest of the bank’s assets, as needed. If necessary and in specified circumstances, the Central Bank will lend the bank the funds necessary to pay these obligations. Any such loans are preferential to any claims of other creditors of the liquidated bank.

 

Obligations Denominated in Foreign Currencies

 

Santander-Chile must also comply with various regulatory and internal limits regarding exposure to movements in foreign exchange rates (See “Item 11. Quantitative and Qualitative Disclosures About Market Risk”).

 

Loans and Investments in Foreign Securities

 

Under current Chilean banking regulations, banks in Chile may grant loans to foreign individuals and entities and invest in certain securities of foreign issuers. Banks may grant commercial loans and foreign trade loans, and can buy loans granted by banks abroad. Banks in Chile may also invest in debt securities traded in formal secondary markets. Such debt securities must be (1) securities issued or guaranteed by foreign sovereign states or their central banks or other foreign or international financial entities, and (2) bonds issued by foreign companies. If the sum of investment in foreign securities and loans granted outside of Chile surpasses 70.0% of regulatory capital, the amount that exceeds 70.0% is subject to a mandatory reserve of 100.0%.

 

Table 1

 

Rating Agency 

Short Term 

Long Term 

Moody’s P2 Baa3
Standard and Poor’s A3 BBB-
Fitch F2 BBB-
Dominion Bond Rating (DBRS) R-2 BBB (low)

 

In the event that the sum of: (a) loans granted abroad that are not to subsidiaries of Chilean companies, and that have a rating of BB- or less and do not trade on a foreign stock exchange, and (b) the investments in foreign securities which have a rating that is below that indicated in Table 1 above, but is equal to or exceeds the ratings mentioned in the Table 2 below and exceeds 20.0% (and 30.0% for banks with a BIS ratio equal or exceeding 10% of the regulatory capital of such bank), the excess is subject to a mandatory reserve of 100.0%.

 

Table 2

 

Rating Agency 

Short Term 

Long Term 

Moody’s P2 Ba3
Standard and Poor’s A-2 BB-
Fitch F2 BB-
Dominion Bond Rating (DBRS) R-2 BB (low)

 

In addition, banks may invest in foreign securities whose ratings are equal or exceeds those mentioned in Table 3 below for an additional amount equal to 70% of their regulatory capital. This limit constitutes an additional margin and is not subject to the 100% mandatory reserve.

 

Additionally, a Chilean bank may invest in foreign securities whose rating is equal to or exceeds those mentioned in Table 3 below in: (i) demand deposits with foreign banks, including overnight deposits in a single entity; and (ii) securities issued or guaranteed by sovereign states or their central banks or securities issued or guaranteed by foreign entities within the Chilean State, though investment will be subject to the limits by issuer up to 30.0% and 50.0%, respectively, of the regulatory capital of the Chilean bank that makes the investment. If these foreign securities do not have a rating, the individual limit will be 10.0% of regulatory capital.

 

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Table 3

 

Rating Agency 

Short Term 

Long Term 

Moody’s P1 Aa3
Standard and Poor’s A1+ AA-
Fitch F1+ AA-
DBRS R-1 (high) AA (low)

 

Moreover, the sum of all demand deposits with foreign banks, including overnight deposits to related parties, as defined by the Central Bank and the SBIF, cannot surpass 25.0% of a bank’s regulatory capital. This limit excludes foreign branches of Chilean banks or their subsidiaries, but must include amounts deposited by these entities in related parties abroad.

 

Chilean banks may only invest in equity securities of foreign banks and certain other foreign companies which may be affiliates of the bank or which would be complementary to the bank’s business if such companies were incorporated in Chile.

 

“Mortgage Bonds”

 

In 2012, the mortgage-covered bond legislation was approved by the Chilean Congress. These bonds, known as “mortgage bonds,” are debt backed by the company that sells them, as well as by a pool of mortgages that in the event of insolvency the pool of mortgages are auctioned with the corresponding mortgage bond. Unlike covered bonds, they are not be limited to banks. These bonds, if bought by banks, are available for immediate liquidity in the Central Bank liquidity window and have other restrictions as to the type of mortgage they will be funding, i.e. mortgage loans with loan-to-values of maximum 80.0%.

 

U.S. Banking Regulation—Volcker Rule

 

Section 13 of the U.S. Bank Holding Company Act of 1956, as amended, and its implementing rules (collectively, the “Volcker Rule”) prohibit “banking entities” from engaging in certain forms of proprietary trading or from sponsoring, investing in or entering into certain credit-related transactions with related “covered funds,” in each case subject to certain limited exceptions. The term “covered fund” is defined very broadly to include traditional hedge funds, private equity funds, certain securitization vehicles and other entities that must rely on Section 3(c)(1) or 3(c)(7) of the U.S. Investment Company Act of 1940 for an exemption under that Act, as well as certain similar foreign funds. The Volcker Rule also contains exclusions and certain exemptions for market-making, hedging, underwriting, trading in U.S. government and agency obligations as well as certain foreign government obligations, and trading solely outside the United States, and also permit certain ownership interests in certain types of funds to be retained. Banking entities such as Santander Spain must bring their activities and investments worldwide into compliance with the requirements of the Volcker Rule by the end of the conformance period applicable to each requirement.

 

In general, all banking entities were required to conform to the requirements of the Volcker Rule, except for provisions related to certain funds, and to implement a compliance program by July 21, 2015. In December 2014, the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”) issued an order extending the Volcker Rule’s general conformance period until July 21, 2016 for investments in and relationships with covered funds and certain foreign funds that were in place on or prior to December 31, 2013 (“legacy covered funds”). In July 2016, the Federal Reserve Board granted a final one-year extension of the general conformance period to July 21, 2017 for banking entities to conform ownership interests in and relationships with legacy covered funds. Santander Spain has assessed how the Volcker Rule affects the businesses of Santander Group and Santander Group, including Santander-Chile, generally has brought its activities into compliance, with the exception of certain legacy covered funds activities. Santander Group, including Santander-Chile, has further adopted the necessary measures to bring these legacy covered funds activities into compliance prior to July 21, 2017. Santander Group’s non-U.S. banking organizations, such as Santander-Chile, are largely able to continue their activities outside the United States in reliance on the “solely outside the U.S.” exemptions under the Volcker Rule. Santander Group, including Santander-Chile, will monitor the financial regulatory reform developments in the United States, including with respect to the Volcker Rule, and make appropriate adjustments, if necessary, to ensure continued regulatory compliance of its operations.

 

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U.S. Anti-Money Laundering, Anti-Terrorist Financing, and Foreign Corrupt Practices Act Regulations

 

The Bank, as a foreign private issuer whose securities are registered under the U.S. Securities Exchange Act of 1934, is subject to the U.S. Foreign Corrupt Practices Act (the “FCPA”). The FCPA generally prohibits such issuers and their directors, officers, employees and agents from using any means or instrumentality of U.S. interstate commerce in furtherance of any offer or payment of money to any foreign official or political party for the purpose of influencing a decision of such person in order to obtain or retain business. It also requires that the issuer maintain books and records and a system of internal accounting controls sufficient to provide reasonable assurance that accountability of assets is maintained and accurate financial statements can be prepared. Penalties, fines and imprisonment of the Bank’s officers and/or directors can be imposed for violations of the FCPA.

 

Furthermore, the Bank is subject to a variety of U.S. anti-money laundering and anti-terrorist financing laws and regulations, such as the Bank Secrecy Act of 1970, as amended, and the USA PATRIOT ACT of 2001, as amended, and a violation of such laws and regulations may result in substantial penalties, fines and imprisonment of the Bank’s officers and/or directors.

 

Disclosure pursuant to Section 219 of the Iran Threat Reduction and Syria Human Rights Act

 

Santander-Chile has no exposure to Iran or Syria. As we are part of Grupo Santander, we must disclose the exposure of other entities of the Group to Iran and Syria.

 

Pursuant to Section 219 of the Iran Threat Reduction and Syria Human Rights Act of 2012, which added Section 13(r) to the Securities Exchange Act of 1934, as amended (the “Exchange Act”), an issuer is required to disclose in its annual or quarterly reports, as applicable, whether it or any of its affiliates knowingly engaged in certain activities, transactions or dealings relating to Iran or with individuals or entities designated pursuant to certain Executive Orders. Disclosure is generally required even where the activities, transactions or dealings were conducted in compliance with applicable law.

 

The following activities are disclosed in response to Section 13(r) with respect to affiliates of Santander U.K. within the Group. During the period covered by this annual report:

 

(a)       Santander U.K. holds two savings accounts and one current account for two customers resident in the U.K. who are currently designated by the U.S. under the Specially Designated Global Terrorist (SDGT) sanctions program. Revenues and profits generated by Santander U.K. on these accounts in the year ended December 31, 2016 were negligible relative to the overall revenues and profits of Banco Santander S.A.

 

(b)       Santander U.K. held a savings account for a customer resident in the U.K. who is currently designated by the U.S. under the SDGT sanctions program. The savings account was closed on July 26, 2016. Revenue generated by Santander U.K. on this account in the year ended December 31, 2016 was negligible relative to the overall revenues of Banco Santander S.A.

 

(c)       Santander U.K. held a current account for a customer resident in the U.K. who is currently designated by the U.S. under the SDGT sanctions program. The current account was closed on December 22, 2016. Revenue generated by Santander U.K. on this account in the year ended December 31, 2016 was negligible relative to the overall revenues of Banco Santander S.A.

  

(d)       Santander U.K. holds two frozen current accounts for two U.K. nationals who are designated by the U.S. under the SDGT sanctions program. The accounts held by each customer have been frozen since their designation and have remained frozen through the year ended December 31, 2016. The accounts are in arrears (£1,844.73 in debit combined) and are currently being managed by Santander U.K. Collections & Recoveries department. Revenues and profits generated by Santander U.K. on these accounts in the year ended December 31, 2016 were negligible relative to the overall revenues and profits of Banco Santander S.A.

 

(e)       In addition, during the year ended December 31, 2016, Santander U.K. had an OFAC match on a power of attorney account. The power of attorney listed on the account is currently designated by the U.S. under the SDGT and the Iranian Financial Sanctions Regulations (IFSR) sanctions program. The power of attorney was removed from the account on July 29, 2016. During the year ended December 31, 2016, revenues and profits generated by Santander U.K. were negligible relative to the overall revenues and profits of Banco Santander S.A.

 

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(f)       An Iranian national, resident in the U.K., who is currently designated by the U.S. under the Iranian Financial Sanctions Regulations and the Non-Proliferation of Weapons of Mass Destruction (NPWMD) designation, held a mortgage with Santander U.K. that was issued prior to such designation. The mortgage account was redeemed and closed on April 13, 2016. No further drawdown has been made (or would be allowed) under this mortgage although we continued to receive repayment instalments prior to redemption. Revenues generated by Santander U.K. on this account in the year ended December 31, 2016 were negligible relative to the overall revenues of Banco Santander S.A. The same Iranian national also held two investment accounts with Santander ISA Managers Limited. The funds within both accounts were invested in the same portfolio fund. The accounts remained frozen until the investments were closed on May 12, 2016 and bank checks issued to the customer. Revenues generated by Santander U.K. on these accounts in the year ended December 31, 2016 were negligible relative to the overall revenues of Banco Santander S.A.

 

(g)       In addition, during the year ended December 31, 2016, Santander U.K. held a basic current account for an Iranian national, resident in U.K., previously designated under the OFAC Iran designation. The account was closed in September 2016. Revenues generated by Santander U.K. on this account in the year ended December 31, 2016 were negligible relative to the overall revenues of Banco Santander S.A.

 

In addition, the Group has an outstanding legacy export credit facility with Bank Mellat. In 2005 Banco Santander S.A. participated in a syndicated credit facility for Bank Mellat of €15.5 million, which matured on July 6, 2015. As of December 31, 2016, the Group was owed €0.1 million not paid at maturity under this credit facility, corresponding to the 5% that was not covered by official export credit agencies.

 

Banco Santander has not been receiving payments from Bank Mellat under this or other credit facilities in recent years. Banco Santander has been and expects to continue to be repaid any amounts due by official export credit agencies. No funds have been extended by Santander under this facility since it was granted.

 

The Group also has certain legacy performance guarantees for the benefit of Bank Sepah and Bank Mellat (stand-by letters of credit to guarantee the obligations – either under tender documents or under contracting agreements – of contractors who participated in public bids in Iran) that were in place prior to April 27, 2007.

 

In the aggregate, all of the transactions described above resulted in gross revenues and net profits in the year ended December 31, 2016, which were negligible relative to the overall revenues and profits of Banco Santander, S.A. The Group has undertaken significant steps to withdraw from the Iranian market such as closing its representative office in Iran and ceasing all banking activities therein, including correspondent relationships, deposit taking from Iranian entities and issuing export letters of credit, except for the legacy transactions described above. The Group is not contractually permitted to cancel these arrangements without either (i) paying the guaranteed amount (in the case of the performance guarantees), or (ii) forfeiting the outstanding amounts due to it (in the case of the export credits). As such, the Group intends to continue to provide the guarantees and hold these assets in accordance with company policy and applicable laws.

 

C.Organizational Structure

 

Santander Spain controls Santander-Chile through its holdings in Teatinos Siglo XXI Inversiones S.A. and Santander Chile Holding S.A. which are controlled subsidiaries. Santander Spain control over 67.18% of our shares and actual participation when excluding non-controlling interests participating in Santander Chile Holding S.A. of 67.06%.

 

Shareholder 

Number of Shares 

Percentage 

Santander Chile Holding S.A. 66,822,519,695 35.46
Teatinos Siglo XXI Inversiones S.A. 59,770,481,573 31.72

 

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The chart below sets forth the names and areas of responsibility of our senior managers as of March 2017.

 

 

 

 

D.Property, Plant and Equipment

 

We are domiciled in Chile and own our principal executive offices located at Bandera 140, 20th floor, Santiago, Chile. At December 31, 2016, we owned the locations at which 23.5% of our branches were located. The remaining branches operate at rented locations. We believe that our existing physical facilities are adequate for our needs.

 

Main properties as of December 31, 2016 

Number 

Central Offices  
Owned 4
Rented 5
Total 9
   
Branches(1)  
Owned 98
Rented 319
Total 417
   
Other property(2)  
Owned 49
Rented 5
Total 54

 

 
(1)Some branches are located inside central office buildings and other properties. Including these branches, the total number of branches is 423. Special payment centers are included in Other property.

 

(2)Consists mainly of parking lots, mini-branches and property owned by our subsidiaries.

 

ITEM 4A. UNRESOLVED STAFF COMMENTS

 

None.

 

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ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS

 

Accounting Standards Applied in 2016

 

Santander-Chile is a Chilean bank and maintains its financial books and records in Chilean pesos and prepares its consolidated financial statements in accordance with IFRS-IASB in order to comply with requirements of the SEC. As required by the General Banking Law, which subjects Chilean banks to the regulatory supervision of the SBIF, and which mandates that Chilean banks abide by the accounting standards stipulated by the SBIF, our locally-filed consolidated financial statements have been prepared in accordance with Chilean Bank GAAP as issued by the SBIF. The accounting principles issued by the SBIF are substantially similar to IFRS but there are some exceptions, as described in Item 4. Therefore, our locally-filed consolidated financial statements have been adjusted according to IFRS as issued by the IASB.

 

Critical Accounting Policies

 

Our consolidated financial statements include various estimates and assumptions, including but not limited to the adequacy of the allowance for loan losses, estimates of the fair value of certain financial instruments and the selection of useful lives of certain assets.

 

We evaluate these estimates and assumptions on an ongoing basis. Management bases its estimates and assumptions on historical experience and on various other factors that it believes to be reasonable under the circumstances. Actual results in future periods could differ from those estimates and assumptions, and if these differences were significant enough, our reported results of operations would be affected materially. We believe that the following are the most critical judgment areas or involve a higher degree of complexity in the application of the accounting policies that currently affect our financial condition and results of operations.

 

Allowance for loan losses

 

The Bank records its allowances following its internal models for the recording of incurred debt. These models have been approved by the Board. To establish impairment losses, the Bank carries out an evaluation of outstanding loans and accounts receivable from customers, as detailed below:

 

·Individual assessment of debtors: when debtors are recorded as individually significant, i.e., when they have significant debt levels or, even for those that do not have these levels, could be classified in a group of financial assets with similar credit risk features and who, due to the size, complexity or level of exposure, require detailed information. See “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information—Classification of Loan Portfolio—Classification of Loan Portfolio—Credit Approval: Loans approved on an individual basis” and “Note 1—Summary of Significant Accounting Policies—(p) Provisions for loan losses” of our Audited Consolidated Financial Statements.

 

·Group assessment of debtors: when there is no evidence of impairment for individually-assessed debtors and debtors with loans grouped collectively—whether or not significant—the Bank groups debtors with similar risk credit features and assesses them for impairment. Debtors individually assessed for impairment and for whom a loss due to impairment has been recorded, are not included in the group assessment of impairment. See “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information—Classification of Loan Portfolio—Classification of Loan Portfolio—Credit Approval: Loans approved on a group basis” and “Note 1—Summary of Significant Accounting Policies—(p) Provisions for loan losses” of our Audited Consolidated Financial Statements.

 

Valuation of financial instruments

 

Fair value is the price that would be received to sell an asset or that would be paid to transfer a liability in an orderly transaction between market participants at the measurement date. IFRS 13 provides a hierarchy that separates the inputs and/or valuation technique assumptions used to measure the fair value of financial instruments. The hierarchy reflects the significance of the inputs used in making the measurement.

 

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The hierarchy gives the highest priority to (unadjusted) quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The Bank uses valuation techniques appropriate in the circumstances and for which sufficient data are available to measure fair value, maximizing the use of relevant observable inputs and minimizing the use of unobservable inputs.

 

For financial instruments with no available market prices, fair values are estimated using recent transactions in analogous instruments, and in the absence thereof, the present values or other valuation techniques based on mathematical valuation models sufficiently accepted by the international financial community. In the use of these models, consideration is given to the specific particularities of the asset or liability to be valued, and especially to the different kinds of risks associated with the asset or liability.

 

These techniques are significantly influenced by the assumptions used, including the discount rate, the estimates of future cash flows and prepayment expectations. See “Note 36— Fair value of financial assets and liabilities” in our Audited Consolidated Financial Statements

 

Derivative activities

 

Derivatives are measured at fair value on the statement of financial position and the net unrealized gain (loss) on derivatives is classified as a separate line item within the income statement. Under IFRS, banks must mark-to-market derivatives. A derivative financial instrument held for trading purposes must be marked to market and the unrealized gain or loss must be recognized in the income statement. Within the fair value of derivatives are included Credit Valuation Adjustment (CVA) and Debit Valuation Adjustment (DVA), all with the objective that the fair value of each instrument includes the credit risk of its counterparty and Bank’s own risk. The CVA is a valuation adjustment to OTC derivatives as a result of the risk associated with the credit exposure assumed by each counterparty in each future period. The DVA is a valuation adjustment similar to the CVA but, in this case, it arises as a result of the Bank’s own risk assumed by its counterparties. The following inputs are used to calculate the CVA and DVA:

 

·Expected exposure: Including for each transaction the mark-to-market (MtM) value plus an add-on for the potential future exposure for each period. Mitigating factors such as collateral and netting agreements are taken into account, as well as a temporary impairment factor for derivatives with interim payments.

 

·LGD: percentage of final loss assumed in a counterparty credit event/default.

 

·Probability of default: for cases where there is no market information, proxies based on comparable companies in the same industry and with the same external rating as the counterparty, are used.

 

·Discount factor curve.

 

Impairment of available-for-sale financial assets,

 

Available for sale financial assets are evaluated for impairment throughout the year and at each reporting date in order to assess whether events or changes in circumstances indicate that these assets are impaired, such as an adverse change in business climate or observable market data, indicate that these assets may be impaired. If there is objective evidence of an impairment of an asset, an impairment test is performed by comparing the investments’ recoverable amount, which is the higher of its value in use and fair value less costs to sell, with its carrying amount.

 

The Bank evaluates available-for-sale financial assets with unrealized losses as of the end of each period and concludes if these were impaired. This review consist of evaluating the economic reasons for any declines, the credit ratings of the securities’ issuers, and the Bank’s intention and ability to hold the securities until the unrealized loss is recovered. See “Note 10— Available for sale investments” in our Audited Consolidated Financial Statements.

 

Deferred tax assets and liabilities

 

The Bank records, when appropriate, deferred tax assets and liabilities for the estimated future tax effects attributable to differences between the carrying amount of assets and liabilities and their tax bases. The measurement of deferred tax assets and liabilities is based on the tax rate, in accordance with the applicable tax laws, using the tax rate that applies to the period when the deferred asset and liability will be settled. The future effects of changes in

 

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tax legislation or tax rates are recorded in deferred taxes beginning on the date on which the law is enacted or substantially enacted. See “Note 14—Current and deferred taxes” of our Audited Consolidated Financial Statements.

 

Provision for liabilities

 

Provisions for liabilities such as contingencies associated to pending signature of contracts, potential clients claims, operational risk arise from financial transactions and potential property tax associated to leasing contracts, and personnel salaries and expenses are quantified using the best available information on the consequences of the event giving rise to them and are reviewed and adjusted at the end of each year. See “Note 20—Provisions” of our Audited Consolidated Financial Statements.

 

A.Operating Results

 

Chilean Economy

 

All of our operations and substantially all of our customers are located in Chile. Accordingly, our financial condition and results of operations are substantially dependent upon economic conditions prevailing in Chile. In 2016, the Chilean economy grew approximately 1.6% compared to 2.1% in 2015 and 1.9% in 2014. In the same period, the Central Bank of Chile reported that internal demand increased 1.1% compared to an increase of 1.8% in 2015 and a decrease of 0.3% in 2014. The growth of internal demand was led by growth of total consumption, which was up 2.8% while growth in the mining sector contracted due to concerns regarding global economic growth, especially growth in China.

 

As of December 2016, the unemployment rate was 6.1% compared to 5.8% in 2015 and 6.0% in 2014. The exchange rate appreciated in 2016 by 5.7% compared to a depreciation of 16.5% in 2015. As a result of this appreciation of the peso, CPI inflation reached 2.7% in 2016 compared to 4.4% in 2015 and 4.7% in 2014. Given the slower economic growth in 2016 and the lower inflation rate, the Central Bank decided to reduce the rate to 3.00% in the first quarter of 2017. Economic activity is expected to increase by approximately 2.0% in 2017, but with continued uncertainty regarding global growth, especially in growth in China, which impacts Chile’s mining sector, and internal political issues.

 

The growth of the Chilean banking sector evolved in line with overall economic developments, with an increase in the volume of loans and deposits. Total loans as of December 31, 2016 in the Chilean financial system were Ch$140,258,239 million (U.S.$211 billion), excluding loans held by subsidiaries of Chilean banks abroad, grew 5.7% in 2016. Total customer deposits (defined as time deposits plus checking accounts), excluding loans held by subsidiaries of Chilean banks abroad grew 3.4% in 2016 and totaled Ch$109,901,300 million (U.S.$165 billion) as of December 31, 2016. The non-performing loan (defined as loans with an installment that is at least 90 days past-due) to total loans ratio remained stable at year end for both 2016 and 2015.

 

Impact of inflation

 

Our assets and liabilities are denominated in Chilean pesos, Unidades de Fomento (UF) and foreign currencies. The Bank no longer recognizes inflation accounting and has eliminated price-level restatement in line with IFRS, but inflation impacts our results of operations as some loan and deposit products are contracted in UF. The UF is revalued in monthly cycles. Each day in the period beginning on the tenth day of the current month through the ninth day of the succeeding month, the nominal peso value of the UF is indexed up (or down in the event of deflation) in order to reflect a proportionate amount of the change in the Chilean Consumer Price Index during the prior calendar month. One UF equaled Ch$26,347.98 at December 31, 2016, Ch$25,629.09 at December 31, 2015 and Ch$24,627.10 at December 31, 2014. High levels of inflation in Chile could adversely affect the Chilean economy and could have an adverse effect on our business, financial condition and results of operations. Negative inflation rates also negatively impact our results. Inflation measured as the annual variation of the UF was 2.8% in 2016, 4.1% in 2015 and 5.7% in 2014. There can be no assurance that Chilean inflation will not change significantly from the current level. Although we currently benefit from moderate levels of inflation, due to the current structure of our assets and liabilities (i.e., a significant portion of our loans are indexed to the inflation rate, but there are no corresponding features in deposits or other funding sources that would increase the size of our funding base), there can be no assurance that our business, financial condition and result of operations in the future will not be adversely affected by changing levels of inflation. In summary:

 

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·UF-denominated assets and liabilities. The effect of any changes in the nominal peso value of our UF-denominated interest earning assets and interest bearing liabilities is reflected in our results of operations as an increase (or decrease, in the event of deflation) in interest income and expense, respectively. Our net interest income will be positively affected by an inflationary environment to the extent that our average UF-denominated interest earning assets exceed our average UF-denominated interest bearing liabilities. Our net interest income will be positively affected by deflation in any period in which our average UF-denominated interest bearing liabilities exceed our average UF-denominated interest earning assets. Our net interest income will be negatively affected in a deflationary environment if our average UF-denominated interest earning assets exceed our average UF-denominated interest bearing liabilities.

 

·Inflation and interest rate hedge. A key component of our asset and liability policy is the management of interest rate risk. The Bank’s assets generally have a longer maturity than our liabilities. As the Bank’s mortgage portfolio grows, the maturity gap tends to rise as these loans, which are contracted in UF, have a longer maturity than the average maturity of our funding base. As most of our long term financial instruments and mortgage loans are contracted in UF and most of our deposits are in nominal pesos, the rise in mortgage lending increases the Bank’s exposure to inflation and to interest rate risk. The size of this gap is limited by internal and regulatory guidelines in order to avoid excessive potential losses due to strong shifts in interest rates. In order to keep this duration gap below regulatory limits, the Bank issues long term bonds denominated in UF or interest rate swaps. The financial cost of the bonds and the efficient part of these hedges is recorded as net interest income. In 2016, the loss from the swaps taken in order to hedge mainly for inflation and interest rate risk and included in net interest income totaled a loss of Ch$42,420 million compared to a loss of Ch$107,867 million in 2015 and of Ch$130,254 million in 2014. The average gap between our interest earnings assets and total liabilities linked to the inflation, including hedging, was Ch$4,534,665 million in 2016, Ch$3,507,250 million in 2015 and Ch$4,193,701 million in 2014.

 

·The financial impact of the gap between our interest earning assets and liabilities denominated in UFs including hedges was in the results of the Bank Ch$133,702 million in 2016, Ch$130,666 million in 2015 and Ch$229,946 million in 2014. The 2.3% rise in the results from our UF gap was due to the higher gap in 2016 compared to 2015, which was partially offset by the lower UF inflation rate in 2016 compared to 2015.

 

   As of December 31,  % Change  % Change
Impact of inflation on net interest income  
   2016    2015    2014    2016 /2015   2015 /2014
    (in millions of Ch$)
Results from UF GAP (1)    133,702    130,666    229,946    2.3%   (43.2%)
Annual  UF inflation    2.8%   4.1%   5.7%          

 

 
(1)UF GAP is net interest income from asset and liabilities denominated in UFs and include the results from hedging the size of this gap via interest rate swaps.

 

·Peso-denominated assets and liabilities. Interest rates prevailing in Chile during any period primarily reflect the inflation rate during the period and the expectations of future inflation. The sensitivity of our peso-denominated interest earning assets and interest bearing liabilities to changes to such prevailing rates varies. See “Item 5. Operating and Financial Review and Prospects—A. Operating Results—Interest Rates.” We maintain a substantial amount of non-interest bearing peso-denominated demand deposits. Because such deposits are not sensitive to inflation, any decline in the rate of inflation would adversely affect our net interest margin on inflation indexed assets funded with such deposits, and any increase in the rate of inflation would increase the net interest margin on such assets. The ratio of the average of such demand deposits and average shareholder’s equity to average interest-earning assets was 29.0%, 29.9%, and 30.2% for the years ended December 31, 2016, 2015, and 2014, respectively.

 

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Interest Rates

 

Interest rates earned and paid on our assets and liabilities reflect, to a certain degree, inflation, expectations regarding inflation, changes in short term interest rates set by the Central Bank and movements in long term real rates. The Central Bank manages short term interest rates based on its objectives of balancing low inflation and economic growth. Because our liabilities are generally re-priced sooner than our assets, changes in the rate of inflation or short term rates in the economy are reflected in the rates of interest paid by us on our liabilities before such changes are reflected in the rates of interest earned by us on our assets. Therefore, when short term interest rates fall, our net interest margin is positively impacted, but when short term rates increase, our interest margin is negatively affected. At the same time, our net interest margin tends to be adversely affected in the short term by a decrease in inflation rates since generally our UF-denominated assets exceed our UF-denominated liabilities. See “Item 5. Operating and Financial Review and Prospects—A. Operating Results—Impact of Inflation—Peso-denominated assets and liabilities.” An increase in long term rates has a positive effect on our net interest margin, because our interest earning assets generally have longer terms than our interest bearing liabilities. In addition, because our peso-denominated liabilities have relatively short re-pricing periods, they are generally more responsive to changes in inflation or short term rates than our UF-denominated liabilities. As a result, during periods when or expected inflation exceeds the previous period’s inflation, customers often switch funds from UF-denominated deposits to peso-denominated deposits, which generally bear higher interest rates, thereby adversely affecting our net interest margin.

 

Foreign Exchange Fluctuations

 

The Chilean government’s economic policies and any future changes in the value of the Chilean peso against the U.S. dollar could adversely affect our financial condition and results of operations. The Chilean peso has been subject to significant devaluation in the past and may be subject to significant fluctuations in the future. The Central Bank exchange rate appreciated 5.7% in 2016 and 16.5% in 2015. See “Item 3. Key Information—A. Selected Financial Data—Exchange Rates.” A significant portion of our assets and liabilities are denominated in foreign currencies, principally the U.S. dollar, and we historically have maintained and may continue to maintain material gaps between the balances of such assets and liabilities. Our current strategy is not to maintain a significant difference between the balances of our assets and liabilities in foreign currencies. In 2016, 2015 and 2014, the Bank, in its spot position, held more liabilities than assets in foreign currencies, mainly the U.S. dollar, as a result of an ample supply of U.S. dollar deposits from companies that receive export revenues, foreign correspondent bank loans and bonds issued abroad. This difference is usually hedged using forwards and cross-currency swaps. Including derivatives, the Bank seeks to run no foreign currency risk in its non-trading balance sheet. Because such assets and liabilities, as well as interest earned or paid on such assets and liabilities, and gains and losses realized upon the sale of such assets, are translated to Chilean pesos in preparing our financial statements, our reported income is affected by changes in the value of the Chilean peso relative to foreign currencies (principally the U.S. dollar). The translation gain or loss over assets and liabilities (excluding derivatives held for trading) is included as foreign exchange transactions in the income statement. The translation and mark-to-market of foreign currency derivatives held for trading is recognized as a gain or loss in the net results from mark-to-market and trading. See “Item 11. Quantitative and Qualitative Disclosures About Market Risk—E. Market Risks—Foreign exchange fluctuations” for more detail on the Bank’s exposure to foreign currency.

 

The Bank also uses a sensitivity analysis with both internal limits and regulatory limits to seek to manage the potential loss in net interest income resulting from fluctuations of interest rates on U.S. dollar denominated assets and liabilities and a VaR model to limit foreign currency trading risk.

 

We also set an absolute limit on the size of Santander-Chile’s consolidated net foreign currency trading position. As of December 31, 2016, the net difference between assets and liabilities in foreign currency was a net asset position of U.S.105.4 million. The average gap, be it a net asset or liability position in foreign currency, in 2016 was U.S.$121.6 million. Both figures include derivatives used to hedge foreign currency risk. See “Item 11. Quantitative and Qualitative Disclosures About Market Risk—Volume limits.” The limit on the size of the net foreign currency position is determined by the Asset and Liability Committee and is calculated and monitored by our Market Risk and Control Department.

 

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Segmentation criteria

 

The accounting policies used to determine the Bank’s income and expenses by reporting segment are the same as those described in the summary of accounting policies in “Note 1—Summary of Significant Accounting Policies” of the Bank’s Consolidated Financial Statements, and are customized to meet the needs of the Bank’s management. The Bank earns most of its income in the form of interest income, fee and commission income and income from financial operations.

 

To evaluate a segment’s financial performance and make decisions regarding the resources to be assigned to segments, the Chief Operating Decision Maker (CODM) bases his or her assessment on the segment's interest income, fee and commission income, and expenses. Due to changes aimed at improving relations with its customers, streamlining processes and saving costs, the Bank simplified its internal structure in 2015. For this reason, the disclosure has been simplified to reflect how the Bank is currently managed. The Bank’s reporting segments have three Chief Operating Decision Makers: (i) Director of Retail banking, (ii) the Director of the Middle-market segment and (iii) the Director of Global corporate banking, each of which report to our Chief Executive Officer. All reporting segment information is presented following this structure.

 

Due to changes aimed at allocating customers to the segment best capable of servicing them and streamlining processes, the Bank modified its internal structure in 2015. This change in composition of the segments resulted in the following:

 

·commissions paid in “Net fee and commission income “were reassigned among segments to more appropriately reflect the distributions in accordance with the management of each segment;

 

·the effects of changes in foreign exchange rates of provisions were reallocated to the line item “Other” to more appropriately reflect the effects directly attributable to the respective segments; and

 

·the improvement of the allocation of interest costs at the time of placement of the loan.

 

Under IFRS 8, the Bank has aggregated operating segments with similar economic characteristics according to the aggregation criteria specified in the standard. A reporting segment consists of clients that are offered differentiated but, considering how their performance is measured, homogenous services based on IFRS 8 aggregation criteria, thus they form part of the same reporting segment. Overall, this aggregation has no significant impact on the understanding of the nature and effects of the Bank’s business activities and the economic environment. The information relating to 2015 and 2014 has been prepared using the above-mentioned current criteria so that the figures presented are comparable.

 

The Bank’s reportable segments are (i) Retail banking, (ii) Middle-market, (iii) Global Corporate Banking and (iv) Corporate Activities (“Other”).

 

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Results of Operations for the Years Ended December 31, 2016, 2015 and 2014

 

The following discussion is based upon and should be read in conjunction with the Audited Consolidated Financial Statements. The Audited Consolidated Financial Statements have been prepared in accordance with IFRS as issued by the IASB. The following table sets forth the principal components of our net income for the years ended December 31, 2016, 2015 and 2014.

 

   2016  2016  2015       2014    % Change  % Change
CONSOLIDATED INCOME STATEMENT DATA  (ThU.S.$)(1)  (Ch$ million)     2016/2015   2015/2014
IFRS:               
Interest income and expense                              
Interest income    3,208,775    2,137,044    2,085,988    2,227,018    2.4%   (6.3%)
Interest expense    (1,284,802)   (855,678)   (830,782)   (909,914)   3.0%   (8.7%)
Net interest income    1,923,973    1,281,366    1,255,206    1,317,104    2.1%   (4.7%)
Fees and income from services                              
Fees and commission income    647,423    431,184    402,900    366,729    7.0%   9.9%
Fees and commission expense    (265,405)   (176,760)   (165,273)   (139,446)   7.0%   18.5%
Total net fees and commission income    382,018    254,424    237,627    227,283    7.1%   4.6%
Financial transactions, net                              
Net income (expense) from financial operations    (551,102)   (367,034)   (457,897)   (159,647)   (19.8%)   186.8%
Net foreign exchange gain (loss)    761,850    507,392    603,396    272,212    (15.9%)   121.7%
Financial transactions, net    210,748    140,358    145,499    112,565    (3.5%)   29.3%
Other operating income    9,650    6,427    6,439    6,545    (0.2%)   (1.6%)
Net operating profit before provision for loan losses    2,526,389    1,682,575    1,644,771    1,663,497    2.3%   (1.1%)
Provision for loan losses    (513,638)   (342,083)   (399,277)   (354,903)   (14.3%)   12.5%
Net operating profit    2,012,751    1,340,492    1,245,494    1,308,594    7.6%   (4.8%)
Operating expenses                               
Personnel salaries and expenses    (593,293)   (395,133)   (387,063)   (338,888)   2.1%   14.2%
Administrative expenses    (339,959)   (226,413)   (220,531)   (205,149)   2.7%   7.5%
Depreciation and amortization    (98,137)   (65,359)   (53,614)   (44,172)   21.9%   21.4%
Impairment of property, plant and equipment    (351)   (234)   (21)   (36,664)   1014.3%   (99.9%)
Other operating expenses    (103,456)   (68,902)   (58,729)   (58,946)   17.3%   (0.4%)
Total operating expenses    (1,135,197)   (756,041)   (719,958)   (683,819)   5.0%   5.3%
Net Operating income    877,554    584,451    525,536    624,775    11.2%   (15.9%)
Income from investments in associates and other companies    4,523    3,012    2,588    2,165    16.4%   19.5%
Income before tax    882,077    587,463    528,124    626,940    11.2%   (15.8%)
Income tax expense    (163,710)   (109,031)   (76,395)   (51,050)   42.7%   49.6%
Consolidated Net income for the year    718,366    478,432    451,729    575,890    5.9%   (21.6%)
Net income for the year attributable to:                              
Equity holders of the Bank    714,815    476,067    448,466    569,910    6.2%   (21.3%)
Non-controlling interests    3,551    2,365    3,263    5,980    (27.5%)   (45.4%)
                               
 
(1)Amounts stated in U.S. dollars at and for the year ended December 31, 2016 have been translated from Chilean pesos at the exchange rate of Ch$666.00 = U.S.$1.00 as of December 31, 2016. See “Item 3. Key Information—A. Selected Financial Data—Exchange Rates” for more information on exchange rate.

 

Results of operations for the years ended December 31, 2016 and 2015. Consolidated net income for the year ended December 31, 2016 increased 5.9% to Ch$478,432 million. Our return on annualized average equity was 16.8% in 2016 compared to 16.0% in 2015.

 

In 2016, net operating profit before loan losses was Ch$1,682,575 million, an increase of 2.3% compared to 2015. Our net interest income increased 2.1% to Ch$1,281,366 million in 2016 compared to 2015. Our net interest margin decreased to 4.32% in 2016 from 4.40% in 2015. Net interest margins were negatively affected by the lower UF inflation rate in 2016 compared to 2015.

 

Net fees and commission income increased 7.1% to Ch$254,424 million in the twelve-month period ended December 31, 2016 compared to the same period in 2015. In 2016, the Bank continued to experience positive client base and product usage growth. This has driven growth of fees in Global Corporate Banking that rose 64.6% in 2016 as the Bank won an important share of the investment banking, cash management and advisory services for the large

 

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projects being developed in Chile. The Middle-market segment increased fees by 8.1% and Retail banking increased 3.4% in 2016, mainly due to greater product usage.

 

Total financial transactions, net, which is the sum of net income from financial operations and foreign exchange gain (loss), totaled Ch$140,358 million in the year ended December 31, 2016, a decrease of 3.5% compared to the same period in 2015. These results include the results of our Treasury Division’s trading business and financial transactions with customers, as well as the results of our non-client treasury operations, mainly the Financial Management Division. The results from our client treasury business increased 7.1% in 2016 and totaled Ch$89,786 million. The results from Santander Global Connect and market-making mainly include the results from the sale of derivatives, foreign exchange and fixed income instruments to our client base. In 2016, the results from Santander Global Connect increased 2.3%. The high market volatility led to a larger demand for hedging from our Corporate and Middle-market clients, driving this income line. The results from market-making with client services increased 19.8% in 2016, mainly due to higher business volumes with specific corporate clients, especially in our cash management services.

 

Results from non-client treasury income in 2016 decreased 18.0% and totaled Ch$50,572 million. This decrease was mainly due to lower realized gains on the available-for-sale portfolio in 2016.

 

Other operating income totaled a gain of Ch$6,427 million in the year ended December 31, 2016, a 0.2% decrease compared to 2015. The main reasons for this decrease was lower income received from assets received in lieu of payment which decreased 32.3%.

 

Provisions for loan losses, net of recoveries totaled Ch$342,083 million in 2016 and decreased 14.3% compared to the amount of provisions recorded in 2015. Provisions for loan losses totaled Ch$409,159 million in 2016 compared to Ch$454,462 million in 2015 and decreased 10.0%. Improvements in asset quality and higher loan loss recoveries drove this decrease in provisions for loan losses. Non-performing loans as a percentage of the loan portfolio decreased from 2.6% in 2015 to 2.1% in 2016 and the non-performing loans coverage ratio increased from 118.5% to 140.2%. This environment also led to a decrease in the loans charged-off during 2016 to Ch$11,222 million.

 

The provision expense for loan loss for commercial loans decreased from Ch$197,247 million in 2015 to Ch$137,242 million in 2016. This was mainly due to an improvement in asset quality in commercial loans. The non-performing loan ratio of commercial loans reached 2.3% in 2016 compared to 2.6% in 2015. This improvement in asset quality was due to two factors. First, the NPL ratio among small to middle-sized entities in retail banking decreased from 6.8% in 2015 to 5.8% in 2016. Second, there was an improvement in asset quality among loans evaluated on an individual basis, which resulted in a provision expense of Ch$17,819 million in 2016 compared to an expense of Ch$78,354 million in 2015. This was due to (i) a 2.6% decrease in loan volumes in global corporate banking, (ii) an unusually high provision expense in 2015 for specific corporate clients that were downgraded and (iii) an increase in 2016 in the number of clients that either improved their risk status or paid their loans.

 

Provisions for mortgage loans decreased by 38.7% from Ch$27,168 million in 2015 compared to Ch$16,646 million in 2016. During 2016, the Bank lowered its exposure to the lower end of the market and lowered the loan-to-value of residential mortgages at origination, which led to an improvement in mortgage loan asset quality and in April 2016 the mortgage loan allowance model was recalibrated resulting in a decrease in mortgage loan allowance of approximately Ch$3,500 million. The non-performing ratio for mortgage loans decreased from 2.1% in 2015 to 1.7% in 2016 and the impaired mortgage loans ratio also improved from 5.1% in 2015 to 4.6% in 2016.

 

The provision expense for consumer loans increased 8.2% during 2016, primarily attributable to growth of 7.1% in the loan portfolio in 2016. During 2016, the Bank lowered its exposure to the lower end of the consumer market and restricted renegotiations for consumer clients presenting payment difficulties, which led to an increase in charge-offs in 2016 and improvements in consumer loan asset quality. This was partially offset by recoveries from loans previously charged-off that increased from Ch$35,565 million in 2015 to Ch$41,072 million in 2016. The consumer non-performing loans ratio was 2.2% in 2016 compared to 2.7% in 2015 and the impaired consumer loan ratio decreased from 8.9% in 2015 to 6.5% in 2016.

 

Recoveries on loans previously charged-off increased 14.9% in 2016 compared to 2015. This was due to higher recoveries from charged-off consumer and residential mortgage loans mainly due to improved recovery efforts.

 

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As a result of the factors mentioned above, net operating profit increased 7.6% in 2016 compared to 2015 and totaled Ch$1,340,492 million.

 

Operating expenses increased 5.0% compared to 2015. The efficiency ratio was 44.9% in 2016 compared to 43.8% in 2015. The increase in 2016 is explained by the digital transformation undertaken by the Bank that involves developing technology capabilities and branch formats in order to achieve greater efficiencies in the long term.

 

The 2.1% increase in personnel salaries and expenses was mainly due to an increase in personnel compensation due to all salaries being indexed to inflation. During the year the Bank made changes to the management structure and the total headcount was reduced 3.1% to 11,354 employees in December 2016, in line with the Bank’s strategy of reducing mid-upper management levels and the sales force.

 

Administrative expenses increased 2.7% in the year ended December 31, 2016 compared to the corresponding period in 2015, mainly due to IT and communication expenses that increased from Ch$28,420 million in 2015 to Ch$37,351 million in 2016 as part of technological innovation to maintain and develop the Bank’s digital platform. This also led to an increase in impairment charges to Ch$234 million in 2016 compared to Ch$21 million in 2015, primarily due to impairments in the ATM network.

 

Depreciation and amortization expense increased 21.9% in 2016 compared to 2015 and totaled Ch$65,359 million. This is in line with the greater investments in hardware and other equipment made by the Bank as it modernizes its branch network and systems.

 

Other operating expenses were Ch$68,902 million in 2016, a 17.3% increase compared to 2015. This was mainly due to a one time severance pay of Ch$10,789 million in April 2016 as the Bank made changes to the management structure in line with the strategy of reducing mid-upper management levels.

 

Total income tax expense in 2016 totaled Ch$109,031 million a 42.7% increase compared to 2015. This rise was mainly due to the higher effective tax rate paid by the Bank, which in 2016 reached 18.6% compared to 14.5% in 2015. The higher effective tax rate was mainly due to the higher statutory corporate tax rate in Chile, which increased from 22.5% in 2015 to 24.0% in 2016. Also, the lower CPI inflation rate in 2016 compared to 2015 resulted in higher income tax expense since the Bank, for Chilean tax purposes, must re-measure its capital each year for the variation in CPI inflation.

 

Results of operations for the years ended December 31, 2015 and 2014. Consolidated net income for the year ended December 31, 2015 decreased 21.6% to Ch$451,729 million. Our return on annualized average equity was 16.0% in 2015 compared to 21.4% in 2014.

 

In 2015, net operating profit before loan losses was Ch$1,644,771 million, a decrease of 1.1% compared to 2014. Our net interest income decreased 4.7% to Ch$1,255,206 million in 2015 compared to 2014. Our net interest margin decreased to 4.40% in 2015 from 4.92% in 2014. Net interest margins were negatively affected by the lower UF inflation rate in 2015 compared to 2014.

 

Net fees and commission income increased 4.6% to Ch$237,627 million in the twelve-month period ended December 31, 2015 compared to the same period in 2014. In 2015, the Bank continued to experience positive client base and product usage growth. This has driven growth of fees in Retail banking that rose 8.8% in 2015 and the Middle-market segment in which fees increased 5.5% in the period being analyzed. This was partially offset by the 31.8% decrease in fees from Global corporate banking which were negatively affected by the slower economic growth environment that lowered investment banking revenue.

 

Total financial transactions, net, which is the sum of net income from financial operations and foreign exchange gain (loss), totaled Ch$145,499 million in the year ended December 31, 2015, an increase of 29.3% compared to the same period in 2014. These results include the results of our Treasury Division’s trading business and financial transactions with customers, as well as the results of our non-client treasury operations, mainly the Financial Management Division. The results from our Client treasury business were flat compared to 2014 and totaled Ch$83,845 million. The results from Santander Global Connect and market-making mainly include the results from the sale of derivatives, foreign exchange and fixed income instruments to our client base. In 2015, the results from Santander Global Connect increased 20.2%. The depreciation of the peso and higher market volatility led to a larger demand for hedging from our Corporate and Middle-market clients, driving this income line. The results from market-making with client services decreased 31.0% in 2014, mainly due to lower business volumes of tailor-made treasury services sold to specific corporate clients.

 

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Results from non-client treasury income in 2015 increased 114.6% and totaled Ch$61,654 million. This higher result was mainly due to larger realized gains from the available-for-sale portfolio. The results from our available-for-sale portfolio increased 241.1% in 2015 compared to 2014 and totaled Ch$23,655 million. This higher gain arose from the decline in long-term interest rates, especially in the first quarter of 2015.

 

Other operating income totaled a gain of Ch$6,439 million in the year ended December 31, 2015, a 1.6% decrease compared to 2014. The main reasons for this decrease was lower income received from assets received in lieu of payment which decreased 12.7%.

 

Provisions for loan losses, net of recoveries totaled Ch$399,277 million in 2015 and increased 12.5% compared to the amount of provisions recorded in 2014. Provision for loan losses totaled Ch$454,462 million in 2015 compared to Ch$403,069 million in 2014 and increased 12.8%.

 

Provisions established for the Bank’s consumer loans increased by 27.8% to Ch$230,811 million in 2015 compared to 2014. This rise was mainly due to the release of consumer provisions of Ch$26,563 million during the second half of 2014 as a result of a re-calibration of the allowances model for consumer loans. Excluding this effect in 2014, consumer loan loss provisions grew 11.4%. This rise was mainly due to: (i) consumer loan growth, which reached 5.9% year over year in 2015 compared to 2014, and (ii) greater charge-offs of consumer loans assessed on a group basis. In light of lower economic growth, the Bank restricted renegotiations of consumer loans for customers presenting payment difficulties and this resulted in higher charge-offs.

 

Provision expense in commercial lending decreased 3.1% in 2015 compared to 2014. During the second half of 2014, and as a response to the ongoing improvement of the allowances models for loans, the Bank updated its allowances model for commercial loans analyzed on a group basis. This resulted in the recognition of Ch$45,141 million in provisions for our commercial loan book in 2014. Excluding this impact, provisions for commercial loans grew 24.6% in the period being analyzed. This rise was mainly due to higher provisions in Global corporate banking as the Bank downgraded various corporate clients affected by the slower economic environment, but which have not yet entered non-performing status. On the other hand, improvements in asset quality of middle-market and SME customers in the retail banking segment led to an improvement in commercial NPLs and impaired loans. The total NPL ratio in commercial loans decreased from 3.0% in 2014 to 2.6% in 2015 mainly due to improvements in asset quality of the middle-market customers and SMEs in the retail banking segment. The impaired commercial loan ratio reached 7.1% in 2015 compared to 7.2% at year-end 2014 due to improvements in asset quality among SME clients in retail banking.

 

Provisions for mortgage loans increased 48.1% in 2015 compared to 2014. This rise was mainly due to: (i) mortgage loan growth, which increased 17.8% in the period being analyzed, and (ii) greater charge-offs of mortgage loans. In light of lower economic growth, the Bank has been restricting the renegotiations of mortgage loans for customers presenting payment difficulties and this resulted in higher charge-offs. This is also leading to higher recoveries, which in the case of mortgage loans, increased 27.7% in 2015 compared to 2014. The Bank also focused mortgage loan growth on higher income earners that in general are less risky. As a result of the change in the loan mix and the higher charge-offs, mortgage loan asset quality improved in 2015 compared to 2014. Mortgage loan asset quality improved in 2015 compared to 2014. The non-performing ratio for mortgage loans declined from 2.7% in 2014 to 2.1% in 2015. The impaired mortgage loans ratio also improved from 5.6% in 2014 to 5.1% in 2015.

 

Additionally, the lower economic growth in 2015 resulted in a rise in charge-off of loans analyzed on an individual basis that totaled Ch$12,955 million in 2015 and rose 19.8% compared to 2014.

 

Recoveries on loans previously charged-off increased 15.5% in 2015 compared to 2014 (see “Provision for loan losses” in the table above). This was due to higher recoveries of charged-off commercial and residential mortgage loans mainly due to improved recovery efforts, especially in the Middle-market segment. As the Bank has improved the asset quality in consumer lending, the growth rate of recoveries has also diminished.

 

As a result of the factors mentioned above, net operating profit decreased 4.8% in 2015 compared to 2014 and totaled Ch$1,245,494 million.

 

Operating expenses increased 5.3% compared to 2014. The efficiency ratio was 43.8% in 2015 compared to 41.1% in 2014. The 14.2% increase in personnel salaries and expenses was mainly due to an increase in personnel compensation, higher severance payments and greater costs related to benefits included in the Bank’s collective bargaining agreement. Severance payments increased 222.4% to Ch$34,051 million. The Bank in 2015 executed a

 

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program to eliminate high level management positions in order to mitigate cost growth which entailed greater severance payments. In March 2014, a new collective bargaining agreement was signed with the main unions, which became effective on October 1, 2014, and which will expire on December 31, 2018. This resulted in an increase in certain benefits related to the Bank’s health insurance fund and other benefits.

 

Administrative expenses increased 7.5% in the year ended December 31, 2015 compared to the corresponding period in 2014. The increase in administrative expenses was mainly due to the 14.3% increase in maintenance, repair of property, plant and equipment, which totaled Ch$20,002 million. In 2015, the Bank continued to refurbish branches, open new Santander Select branches, expand the number of Middle-market centers and close Santander Banefe branches and other payment centers.

 

Impairment charges totaled Ch$21 million in 2015 compared to Ch$36,664 million in 2014. In 2014, the Bank initiated a plan to transform its business and operating model with a better focus on the client. In 2014, the Bank evaluated a number of applications that were in use or in development and tested them for impairment. Following the testing, in accordance with IAS 36, the Bank has recognized an impairment of Ch$36,556 million in 2014 due to the abandonment of unnecessary systems.

 

Depreciation and amortization expense increased 21.4% in 2015 compared to 2014 and totaled Ch$53,614 million. This rise was mainly due to the increase in depreciation of equipment that reached Ch$18,417 million in 2015 compared to Ch$12,331 million in 2014. This is in line with the greater investments in hardware and other equipment as the Bank modernizes its branch network and systems.

 

Other operating expenses were Ch$58,729 million in 2015, a 0.4% decrease compared to 2014. In 2015, customer service expenses, which are related to our phone banking service, decreased 60.6% due to cost restructurings. Additionally in 2015, the Bank had less expenses related to adopting chip technology on cards. These lower other operating expenses were offset by greater provisions for assets received in lieu of payment.

 

Total income tax expense in 2015 totaled Ch$76,395 million a 49.6% increase compared to 2014. This rise was mainly due to the higher effective tax rate paid by the Bank, which in 2015 reached 14.5% compared to 8.1% in 2014. The higher effective tax rate was mainly due to the higher statutory corporate tax rate which increased from 21% in 2014 to 22.5% in 2015. In 2015, the Bank also recognized lower credits from deferred tax assets that totaled Ch$10,600 million in 2015 compared to Ch$39,262 million in 2014. Finally, the lower CPI inflation rate in 2015 compared to 2014 also resulted in higher income tax expense since the Bank, for Chilean tax purposes, must re-value its capital each year for the variation in CPI inflation.

 

Net interest income

 

   Year ended December 31,  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$, except percentages)
Retail banking    931,105    873,026    833,139    6.7%   4.8%
Middle-market    244,960    229,812    200,675    6.6%   14.5%
Total commercial banking    1,176,065    1,102,838    1,033,814    6.6%   6.7%
Global corporate banking    95,105    85,553    71,992    11.2%   18.8%
Total reporting segments    1,271,170    1,188,391    1,105,806    7.0%   7.5%
Other (1)    10,196    66,815    211,298    (84.7%)   (68.4%)
Net interest income    1,281,366    1,255,206    1,317,104    2.1%   (4.7%)
Average interest-earning assets    29,671,311    28,523,005    26,759,696    4.0%   6.6%
Average non-interest-bearing demand deposits    5,753,622    5,719,889    5,386,272    0.6%   6.2%
Net interest margin (2)    4.32%   4.40%   4.92%          
Average shareholders’ equity and average non-interest-bearing demand deposits to total average interest-earning assets    29.0%   29.9%   30.2%          

 

 
(1)Consists mainly of net interest income from the Financial Management Division and the cost of funding our fixed income trading portfolio. Each segment obtains funding from its clients. Any surplus deposits are transferred to the Financial Management Division, which in turn makes such excess available to other areas that need funding. The Financial Management Division also sells the funds it obtains in the institutional funding market at a transfer price equal to the market price of the funds. This segment also includes intra-segment income and activities not assigned to a given segment or product line.

 

(2)Net interest margin is net interest income divided by average interest-earning assets.

 

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For the years ended December 31, 2016 and 2015. Our net interest income totaled Ch$1,281,366 million in the year ended December 31, 2016, an increase of 2.1% from Ch$1,255,206 million in 2015. Average interest earning assets increased 4.0% in the same period, driven mainly by lending in the Retail banking and Middle-market segments. While interest income from our reporting segments grew 7.0% during 2016 , net interest margin in 2016 decreased to 4.3% compared to 4.4% in 2015 due to the lower UF inflation in 2016. Because the Bank has more interest earning assets indexed to the UF than interest bearing liabilities, the lower inflation rate in 2016 compared to 2015 caused our average nominal interest rate earned on interest earning assets indexed to the UF to decrease from 7.6% in 2015 to 6.6% in 2016.

 

The average nominal interest rate for interest earning assets denominated in pesos increased from 9.6% in 2015 to 9.9% in 2016, while the average nominal rate for interest bearing liabilities denominated in pesos also increased from 4.4% in 2015 to 4.7% in 2016.

 

Average nominal interest rate earned on interest earning assets  2016  2015  2014
Ch$    9.9%   9.6%   10.3%
UF    6.6%   7.6%   9.3%
Foreign currencies    2.1%   1.8%   1.5%
Total    7.2%   7.3%   8.3%

 

The average rate paid on our interest bearing liabilities decreased to 3.9% in 2016 from 4.0% in 2015. This was mainly due to a lower rate paid on UF denominated liabilities as a result of the lower UF inflation in the year, which decreased to 5.6% in 2016 compared to 7.2% in 2015. This partially offset the negative impact of inflation on the interest earning assets.

 

Average nominal interest rate paid on interest bearing liabilities  2016  2015  2014
Ch$    4.7%   4.4%   6.0%
UF    5.6%   7.2%   8.4%
Foreign currencies    1.1%   1.3%   0.7%
Total    3.9%   4.0%   4.7%

 

The changes in net interest income by segment in 2016 as compared to 2015 were as follows:

 

·Net interest income from Retail banking increased 6.7%, mainly as a result of the 9.2% increase in loan volumes in this segment. The Bank focused growth in the high end of this segment in order to focus on margins net of risks, especially considering that in 2016 economic growth continued to slow. As a result, the highest growing loan product was residential mortgage loans that have a lower yield compared to other retail loans.

 

·Net interest income from the Middle-market segment increased 6.6% in 2016, mainly as a result of stable loan growth of 6.5% in this segment. Loan growth has been more selective, focusing on the potential return net of risk with a focus on non-lending products which are positive for margin growth, such as the spread between the rate on deposits and the Central Bank rate.

 

·The focus for Global corporate banking was on growth of non-lending products especially cash management which generates a higher return than lending in this segment. This led to an increase in net interest income of 11.2% in 2016 despite a 2.6% decrease in loan volumes.

 

·Other net interest income consists mainly of net interest income from the Bank’s ALCO, which includes the available-for-sale investment portfolio, deposits in the Central Bank, the financial cost of supporting our cash position and investment portfolio for trading, the interest income from which is recognized as net income from financial operations and not interest income. The result of the Bank’s inflation gap is also included in this line. The net interest income included as “other” decreased from a gain of Ch$66,815 million in 2015 to a gain of Ch$10,196 million in 2016. This was due to the lower inflation rate in 2016 and lower interest income from the Bank’s liquidity position as well as the gradual introduction of Basel III liquidity requirements, which led the Bank to take more investments with higher liquidity and shorter maturities that have a lower yield.

 

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The following table shows our balances of loans and accounts receivable from customers and interbank loans by segment at the dates indicated.

 

   At December 31,  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$, except percentages)
Retail banking    18,604,936    17,034,707    15,191,808    9.2%   12.1%
Middle-market    6,396,376    6,006,282    5,443,983    6.5%   10.3%
Global corporate banking    2,121,513    2,178,643    2,201,913    (2.6%)   (1.1%)
Other (1)    83,606    81,125    54,945    3.1%   47.6%
Total loans    27,206,431    25,300,757    22,892,649    7.5%   10.5%

 

 
(1)Includes interbank loans.

 

For the years ended December 31, 2015 and 2014. Our net interest income totaled Ch$1,255,206 million in the year ended December 31, 2015, a decrease of 4.7% from Ch$1,317,104 million in 2014. Average interest earning assets increased 6.6% in the same period, driven mainly by lending in the Retail banking and Middle-market segments. Net interest margin in 2015 was 4.40% compared to 4.92% in 2014. Net interest margins were negatively affected by the decrease of the average nominal rate we earned on our interest earning assets. This was mainly due to a decrease in the UF inflation rate in 2015 compared to 2014, which in turn lowered the average nominal rate earned on UF denominated interest earning assets. This impact is more relevant than the decrease in funding cost of liabilities linked to the UF since the Bank has more assets than liabilities linked to the UF. We also earned a lower nominal rate on our peso-denominated interest earning assets. This was mainly due to loan growth focused in lower yielding, but less risky loans. This was reflected in the decrease in the average nominal interest rate earned on our peso denominated consumer loans that decreased from 17.2% in 2014 to 14.0% in 2015.

 

The average rate paid on our interest bearing liabilities decreased from 4.7% in 2014 to 4.0% in 2015. This was mainly due to a lower rate paid on UF denominated liabilities as a result of the lower UF inflation in the year. As a result, the average nominal rate paid on interest bearing liabilities denominated in UF decreased to 7.2% in 2015 compared to 8.4% in 2014. At the same time and despite rising short-term interest rates, the average nominal rate paid on peso denominated interest bearing liabilities also decreased from 6.0% in 2014 to 4.4% in 2015, reflecting positive management of time deposits costs with our clients.

 

The changes in net interest income by segment in 2015 as compared to 2014 were as follows:

 

·Net interest income from Retail banking increased 4.8%, mainly as a result of the 12.1% increase in loan volumes in this segment. The Bank focused growth in the high end of this segment in order to focus on margins net of risks, especially considering that in 2015 economic growth slowed. As a result, the highest growing loan product was residential mortgage loans that have a lower yield compared to consumer loans. At the same time, the focus on high income earners also resulted in a reduction of the rate earned on consumer loans.

 

·Net interest income from the Middle-market segment increased 14.5% in 2015, mainly as a result of the 10.3% increase in loans in this segment. This segment was of significant strategic focus in 2015 as the Bank increased business volumes in this segment both in lending and non-lending services.

 

·Net interest income from Global corporate banking increased 18.8% in 2015 despite a 1.1% decrease in loan volumes. Loan yields in this segment improved as alternative sources of funds for Chilean corporates, especially from foreign sources, became more expensive. This segment also saw an improvement in cash management services that improved the funding mix.

 

·Other net interest income consists mainly of net interest income from the available-for-sale investment portfolio and deposits in the Central Bank and the financial cost of supporting our cash position and investment portfolio for trading, the interest income from which is recognized as net income from financial operations and not interest income. The result of the Bank’s inflation gap is also included in this line. The net interest income included as “other” totaled a gain of Ch$66,815million in 2015 compared to a gain of Ch$211,298 million in 2014. The gain in 2015 can be explained by the lower UF inflation in 2015 compared to the previous period and the greater UF gap in 2014. The lower variation of the UF gap resulted in Ch$99,280 million less net interest income (See “Item 5A—Impact of Inflation”). Other net

 

 

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interest income was also negatively affected by lower net interest income from the Bank’s liquidity position, especially the portion denominated in U.S. dollars. This was mainly due to the low interest rate environment observed globally.

 

Fee and commission income

 

For the years ended December 31, 2016 and 2015. Net fees and commission income increased 7.1% to Ch$254,424 million in the twelve-month period ended December 31, 2016 compared to the same period in 2015. In 2016, the Bank continued to experience positive client base and product growth that drove fee growth in various products. Internally, we measure the quantity of products that a client uses and identify them as a loyal customer when they meet certain internal criteria for their segment. For example, loyal individual customers use four products and have a minimum profitability level and a minimum usage indicator. For SMEs and Middle-market customers, cross-selling is differentiated by client size using a point system that depends on the number of products, usage of products and income net of risk. According to this measurement, the number of loyal high-income clients increased 6.5% and the number of loyal SMEs and middle-market clients increased by 13.8% during 2016

 

The following table sets forth certain components of our income from services (net of fees paid to third parties directly connected to providing those services, principally fees relating to credit card processing and ATM network administration) in the years ended December 31, 2016, 2015 and 2014.

 

   Year ended December 31,  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Credit, debit and ATM cards    52,057    46,066    43,161    13.0%   6.7%
Collections    31,376    30,399    35,355    3.2%   (14.0%)
Insurance brokerage    40,882    39,252    34,695    4.2%   13.1%
Letters of credit    35,911    35,276    32,403    1.8%   8.9%
Checking accounts    31,540    30,291    29,031    4.1%   4.3%
Custody and brokerage services    8,358    8,685    8,307    (3.8%)   4.6%
Lines of credit    5,754    6,597    7,015    (12.8%)   (6.0%)
Others    48,546    41,061    37,316    18.2%   10.0%
Total fees and commission income, net    254,424    237,627    227,283    7.1%   4.6%

 

Fees from credit, debit and ATM cards increased by 13.0% in 2016, reflecting the positive growth of the usage of the Bank’s credit and debit cards. Active credit cards totaled 2,002,998 as of November 2016, the latest market data available, and increased 3.3% compared to the same period in 2015. In the second half of 2015, our contract with Redbank, an ATM services provider, was renegotiated, which led to higher interbank fees charged for ATM usage for the second half of 2015 and the year 2016.

 

Fees from collections increased by 3.2% in 2016 compared to 2015 due to a growth in loan volumes, particularly in mortgage loans. This line item includes, among other items, fees collected on behalf of insurance companies for fire and earthquake insurance that are mandatory with mortgage loans.

 

Insurance brokerage fees increased 4.2% due to higher sales volume from cross-selling of insurance products to customers.

 

Fees from letters of credit and other contingent operations increased 1.8% in 2016. This increase was mainly due to growth of our international and foreign trade financing businesses with clients.

 

Fees from checking accounts increased 4.1% in 2016 compared to 2015. This was mainly due to a rise in the Bank’s checking account base. The amount of retail banking clients with a checking account rose 4.3% in 2016, totaling 844,971. Combined with this an increase in corporate cash management services also boosted fee growth in this product.

 

Brokerage and custody fees decreased 3.8% in 2016 as compared to 2015 due to weak trading volumes in local equity market during 2016.

 

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Fees from lines of credit decreased 12.8% as there was a switch from clients using credit lines to credit cards and other facilities offered by online banking.

 

The rise in other fee income of 18.2% in 2016 compared to 2015 was mainly due to higher fees from the brokerage of asset management services. In December 2013, our Asset Management business was sold. The Bank is no longer in the asset management business, but serves as an exclusive broker for Santander Asset Management, the acquirer of our asset management business. In 2016, asset management brokerage fees totaled Ch$38,244 million and increased 5.7% compared to 2015. Other fees also include fees from our Global corporate banking segment. The positive growth of our client loyalty in this segment led to higher advisory fees in global transactional banking.

 

The following table sets forth, for the periods indicated our fee income broken down by segment and sub-segment for the periods indicated:

 

   Year ended December 31,  % Change  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Retail banking   196,845    190,380    175,007    3.4%   8.8%
Middle-market   30,851    28,537    27,055    8.1%   5.5%
Global corporate banking   25,077    15,231    22,338    64.6%   (31.8%)
Other   1,651    3,479    2,883    (52.5%)   20.7%
Total fees and commission income, net   254,424    237,627    227,283    7.1%   4.6%

 

Fees from Retail banking increased 3.4% in 2016 compared to 2015. Since mid-2013, the Bank has been executing a profound overhaul of its Client Relationship Management (CRM) systems, client service and other changes to its commercial team front-office functions, which has continued to increase product sales and usage. This has led to high fee growth among retail bank clients, especially cards, insurance brokerage, brokerage of asset management products and checking accounts. Total retail clients reached 3.58 million at year-end 2016 and total retail clients with a checking account increased 4.3% to 844,971. Loyal retail clients increased 7.7% to 600,132 by year-end 2016.

 

The 8.1% increase in fees from the Middle-market segment was mainly due to the positive expansion of business volumes in this segment from greater client loyalty and product usage.

 

Fees from the Global corporate banking segment increased 64.6% in 2016 compared to 2015. In 2016, the Bank won an important share of the investment banking, cash management and advisory services for the large projects being developed in Chile.

 

Fees in Other decreased 52.5% from Ch$3,479 million in 2015 to Ch$1,651 million in 2016 due to distributing more fee and commission income among segments.

 

For the years ended December 31, 2015 and 2014. Net fees and commission income increased 4.6% to Ch$237,627 million in the twelve-month period ended December 31, 2015 compared to the same period in 2014. In 2015, the Bank continued to experience positive client base and product growth that drove fee growth in various products.

 

Fees from credit, debit and ATM cards increased by 6.7% in 2015, reflecting the positive growth of the usage of the Bank’s credit and debit cards. Active credit cards totaled 1,936,697 as of October 2015, the latest market data available and increased 3.1% compared to the same period in 2014.

 

Fees from collections decreased by 14.0% in 2015 compared to 2014. In 2015, we once again auctioned to the lowest bidder the mandatory insurance products that are sold with mortgage loans. This negatively impacted collection fees where this income is recognized.

 

Insurance brokerage fees increased 13.1% as business volumes recovered in line with a recovery in client and product growth.

 

Fees from letters of credit and other contingent operations increased 8.9% in 2015. This increase was mainly due to positive performance of our international and foreign trade financing businesses with clients and also due to the depreciation of the peso against the U.S. dollar since this business is mainly transacted in foreign currency.

 

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Fees from checking accounts increased 4.3% in 2015 compared to 2014. This was mainly due to a rise in the Bank’s checking account base. According to the latest data published by the SBIF as of December 2015, the Bank’s checking accounts totaled 852,492 compared to 815,182 in 2014 or a growth of 5.5%. Higher checking account balances both in retail banking as well as an increase in corporate cash management services also boosted fee growth in this product.

 

Brokerage and custody fees increased 4.6% in 2015 as compared to 2014. Despite lack luster performance of local equity markets, which hurt brokerage activity, the depreciation of the peso against the dollar positively affected brokerage and custody fees. The Bank also saw an increase in custody services with corporate clients.

 

Fees from lines of credit decreased 6.0% in 2015 compared to 2014. Lower spending on behalf of individuals resulted in less usage of lines of credit attached to checking accounts. At the same time, as the Bank continued to de-risk its retail loan book, it reduced its exposure of lines of credit among low income earners.

 

Fees from our asset management business totaled Ch$0 in 2015 and 2014. In December 2013, our Asset Management business was sold. In 2014 and 2015, the Bank continued to broker asset management products for Santander Asset Management. These brokerage fees are included as other income from fees.

 

The rise in other fee income of 10.0% in 2015 compared to 2014 was mainly due to higher fees from the brokerage of asset management services. As mentioned in the paragraph above, the Bank is no longer in the asset management business, but serves as an exclusive broker for Santander Asset Management, the acquirer of our asset management business. In 2015, asset management brokerage fees totaled Ch$36,182 million and increased 16.8% compared to 2014. The positive growth of our client base among high income earners led to higher brokerage fees of asset management products.

 

Fees from Retail banking increased 8.8% in 2015 compared to 2014. Since mid-2013, the Bank has been executing a profound overhaul of its Client Relationship Management (CRM) systems, client service and other changes to its commercial team front-office functions, which has continued to increase product sales and usage. This has led to high fee growth among retail bank clients, especially cards, insurance brokerage, brokerage of asset management products and checking accounts. Total retail clients reached 3.38 million at year-end 2015 and increased 1.6%. Total retail clients with a checking account increased 6.4% to 692,359 and loyal retail clients (a new internal measure that considers the amount of products a client has, uses and their profitability) increased 4.8% to 519,889 by year-end 2015.

 

The 5.5% increase in fees from the Middle-market segment was mainly due to the positive expansion of business volumes in this segment, which led to greater product usage.

 

Fees from the Global corporate banking segment decreased 31.8% in 2015 compared to 2014. In 2015, this segment saw a reduction in investment banking activities such as bond issuances and financial advisory, mainly due to the slower economic growth.

 

Financial transactions, net

 

The following table sets forth information regarding our income (loss) from financial transactions for the years ended December 31, 2016, 2015 and 2014.

 

   Year ended December 31,  % Change  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Net income from financial operations    (367,034)   (457,897)   (159,647)   19.8%   (186.8%)
Foreign exchange profit (loss), net    507,392    603,396    272,212    (15.9%)   121.7%
Total financial transactions, net    140,358    145,499    112,565    (3.5%)   29.3%

 

For the years ended December 31, 2016 and 2015. Total financial transactions, net, which is the sum of net income from financial operations and foreign exchange profit (loss), totaled Ch$140,358 million in the year ended December 31, 2016, a decrease of 3.5% compared to the same period in 2015. These results include the results of our Treasury Division’s trading business and financial transactions with customers, as well as the results of our Financial Management Division.

 

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Internal Bank policy does not allow significant foreign currency mismatches and requires that the results included in Total financial transactions, net include not only the market-to-market of our foreign currency spot position, but also the results of the derivatives used to hedge currency risk. The mark-to-market of our spot position is included in the line item Foreign exchange profit (loss), net. This line item also includes the effect of those derivatives accounted for under hedge accounting rules. The derivatives used to hedge foreign currency risk but which are classified as trading are included in the line item Net income from financial operations. For more details regarding our management and exposure to foreign currency risk, see “Item 11. Quantitative and Qualitative Disclosures About Market Risk—E. Market Risks—Market risk management— Market risk – local and foreign financial management.”

 

The results from net income (loss) from financial operations totaled a loss of Ch$367,034 million in 2016 compared to a loss of Ch$457,897 million in 2015.

 

   Year ended December 31,  % Change  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Derivatives classified as trading    (395,209)   (503,981)   (224,015)   21.6%   (125.0%)
Trading investments    18,229    21,505    45,952    (15.2%)   (53.2%)
Sale of loans    4,190    863    6,070    385.5%   (85.8%)
Available-for-sale instruments sales    14,598    23,655    6,934    (38.3%)   241.1%
Other results    (8,842)   61    5,412    (14,595.1%)   (98.9%)
Net income (loss) from financial operations    (367,034)   (457,897)   (159,647)   19.8%   186.8%

 

The lower loss from financial operations in 2016 compared to 2015 was mainly due to:

 

(i)Lesser losses in the sub-item derivatives classified as trading. In 2016, the average yearly exchange rate depreciated 3.5% compared to 14.8% in 2015. Movements in foreign currency affect this line item because it includes the valuation adjustments of our derivatives classified as trading. The Bank’s spot foreign currency position includes all assets and liabilities in foreign currency and assets and liabilities in Ch$ linked to U.S.$ that are not derivatives. Internal policy prohibits us from opening a large exposure in foreign currency, but we usually have more liabilities in foreign currency (mainly U.S.$) in our spot position than assets due to our long-term funding in foreign currency and deposits denominated in foreign currencies from Chilean exporters. This net foreign currency liability spot position is hedged using different instruments. We use derivatives classified as trading, mainly forwards and cross-currency swaps, to hedge the net foreign currency spot position between short-term assets and liabilities. On average, the Bank has more short-term assets, such as U.S. dollars invested in overnight, than short-term deposits in U.S. dollars. The average exchange rate depreciated 3.5% in 2016, producing a loss in derivatives classified as trading. This loss was lower than in 2015, since the average depreciation rate was lower in 2016 against 2015.

 

(ii)The 15.2% lower gain from trading investments was mainly due to the lower UF inflation rate in 2016 compared to 2015. In this line item the mark-to-market and interest income of the trading fixed income portfolio are recognized. In 2016, the lower UF inflation decreased interest from this portfolio, which is mainly comprised of Central Bank instruments denominated in UF.

 

(iii)The results from our available-for-sale portfolio decreased 38.3% in 2016 compared to 2015. The results for 2015 were very high due to gains realized when interest rates fell abruptly in the first quarter of 2015; this situation was not repeated in 2016.

 

(iv)The loss in other results of Ch$8,842 million in 2016 was due to the effect of depreciation in the average exchange rate on the partial repurchase of senior bonds during the year. See Note 18 – issued debt instruments and other financial liabilities – b) Senior bonds in the Audited Consolidated Financial Statements.

 

The net result from foreign exchange transactions totaled a gain of Ch$507,392 million in 2016 compared to Ch$603,396 million in 2015.

 

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   Year ended December 31,  % Change  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Net profit or loss from foreign currency exchange differences    116,117    (197,875)   (370,282)   158.7%   46.6%
Hedge-accounting derivatives    399,875    777,254    621,767    (48.6%)   25.0%
Translation gains and losses over  assets and liabilities indexed to foreign currencies, net    (8,600)   24,017    20,727    (135.8%)   15.9%
Net results from foreign exchange profit (loss)    507,392    603,396    272,212    (15.9%)   121.7%

 

Included in these results is the sub-item Net profit or loss from foreign currency exchange differences which totaled a gain of Ch$116,117 million in 2016 compared to a loss of Ch$197,875 million in 2015. This result includes the mark-to-market of the Bank’s spot position and results from our client foreign currency business, such as currency transactions and market making. The lower rate of average depreciation of the peso in 2016 compared to 2015 and the increase in client currency transactions resulted in a higher result in this sub-item compared to 2015.

 

Results from the sub-item hedge-accounting derivative that are used to hedge the foreign currency risk of our long-term foreign currency funding. These are mainly cross-currency swaps that are accounted under hedge accounting rules. These derivatives produced a gain of Ch$399,875 million in 2016 attributable to the average depreciation of the peso in the year. This gain was lower than in 2015 due to the lower rate of depreciation in 2016 compared to 2015.

 

Finally, the Bank has some assets and liabilities that are in Chilean pesos, but indexed to foreign currency. This position produced a translation loss in 2016 of Ch$8,600 million. This exposure is also hedged.

 

In order to more easily compare the results from financial transactions, net, we present the following table that separates the results by lines of business for 2016, 2015 and 2014.

 

   Year ended December 31,  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Santander Global Connect (1)    62,404    60,995    50,740    2.3%   20.2%
Market-making with clients    27,382    22,850    33,097    19.8%   (31.0%)
Client treasury services    89,786    83,845    83,837    7.1%   %
Sale of loans and charged-off loans    4,190    863    6,070    3 85.5%   (85.8%)
Proprietary trading    (94)   (567)   (1,113)   83.5%   49.0%
Financial Management Division and others (2)    46,475    61,358    23,771    (24.3%)   158.1%
Non-client treasury income (loss)    50,572    61,654    28,728    (18.0%)   114.6%
Total financial transactions, net    140,358    145,499    112,565    (3.5%)   29.3%

 

 
(1)Santander Global Connect is the Bank’s commercial platform for selling treasury products to its clients.

 

(2)The Financial Management Division manages the structural interest rate risk, the structural position in inflation-indexed assets and liabilities, capital requirements and liquidity levels. The aim of the Financial Management Division is to provide stability and continuity in our net interest income from commercial activities, and to ensure that we comply with internal and regulatory limits regarding liquidity, regulatory capital, reserve requirements and market risk.

 

Client treasury services totaled Ch$89,786 million, a gain of 7.1% compared to 2015. The results from Santander Global Connect and market-making mainly include the results from the sale of derivatives, foreign exchange and fixed income instruments to our client base. In 2016, the results from Santander Global Connect increased 2.3%. The depreciation of the peso and high market volatility led to a larger demand for hedging from our Corporate and Middle-market clients, driving this income line. The results from market-making with client services increased 19.8% in 2015, mainly due to a growth in business volumes of tailor-made treasury services and cash management sold to specific corporate clients. These results may vary year-to-year as some large operations with corporate clients may not be repeated in subsequent years.

 

The results from non-client treasury income decreased 18.0% and totaled a gain of Ch$50,572 million in 2016 compared to Ch$61,654 million in 2015. These results include the income from sale of loans, including charged-off loans, proprietary trading and the results from our Financial Management Division.

 

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The results from the sale of loans increased to Ch$4,190 million in 2016. The results from proprietary trading totaled a loss of Ch$94 million. Since year-end 2012, the Bank no longer has a proprietary trading area and these results are from residual positions that are being closed.

 

In 2016, income from the Bank’s Financial Management Division decreased 24.3% to Ch$46,475 million. This department manages the structural interest rate risk, the structural position in inflation-indexed assets and liabilities, capital requirements and liquidity levels. The aim of the Financial Management Division is to provide stability and continuity in our net interest income from commercial activities, and to ensure that we comply with internal and regulatory limits regarding liquidity, regulatory capital, reserve requirements and market risk. This decrease in results was mainly due to lower realized gains from our available-for-sale portfolio. The results from our available-for-sale portfolio decreased 38.3% in 2016 compared to 2015 and totaled Ch$14,598 million due to the significant decrease in long-term interest rates in the first quarter of 2015. The results from Financial Management Division also include the offset of the foreign currency exposure hedging on provision expenses for loans denominated in U.S. dollars.

 

For the years ended December 31, 2015 and 2014. Total financial transactions, net, which is the sum of net income from financial operations and foreign exchange profit (loss), totaled Ch$145,499 million in the year ended December 31, 2015, an increase of 29.3% compared to the same period in 2014. These results include the results of our Treasury Division’s trading business and financial transactions with customers, as well as the results of our Financial Management Division.

 

Net income from financial operations was a loss of Ch$457,897 million in 2015 compared to a loss of Ch$159,647 million in 2014.

 

The higher loss from financial operations in 2015 compared to 2014 was mainly due to:

 

(i)Higher losses from derivatives classified as trading. In 2015, the average yearly exchange rate depreciated 14.8%. Movements in foreign currency affect this line item because it includes the valuation adjustments of our derivatives classified as trading. The Bank’s spot position includes all assets and liabilities in foreign currency and assets and liabilities in Ch$ linked to U.S.$ that are not derivatives. Internal policy prohibits us from opening a large exposure in foreign currency, but we usually have more liabilities in foreign currency (mainly U.S.$) than assets in our spot position due to our long-term funding in foreign currency and deposits denominated in foreign currencies from Chilean exporters. This net foreign currency liability spot position is hedged using different instruments. Our long-term foreign currency funding is hedged with cross-currency swaps that are matched and are accounted under hedge accounting rules. Therefore, the liability and the corresponding hedge are recognized in foreign exchange profits, described below and not in this line item. Excluding this part of our funding in foreign currency, we are left with the foreign currency deposits and other short-term foreign currency funding mechanisms, which are smaller than the foreign currency assets, mainly cash. This difference is hedged with derivatives that are accounted as trading derivatives and since the size of our cash position in U.S. dollars (see Note 4a of our Audited Consolidated Financial Statements) increased, the amount of derivatives hedging this position also rose and the loss from derivatives classified as trading rose. For more details, see “Item 11. Quantitative and Qualitative Disclosures About Market Risk—E. Market Risks—Market risk management— Market risk – local and foreign financial management.”

 

(ii)The 53.2% lower gain from trading investments was mainly due to the lower UF inflation rate in 2015 compared to 2014. In this line item the mark-to-market and interest income of the trading fixed income portfolio are recognized. In 2015, the lower UF inflation decreased interest from this portfolio. This explains the 53.2% increase in results from the trading portfolio compared to 2014, which totaled Ch$21,505 million.

 

(iii)The results from our available-for-sale portfolio increased 241.1% in 2015 compared to 2014. This was mainly due to higher realized gains from our available-for-sale fixed income portfolio, especially in the first quarter of 2015 when long-term interest rates declined sharply.

 

The net result from foreign exchange transactions totaled a gain of Ch$603,396 million in 2015 compared to Ch$272,212 million in 2014.

 

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Included in these results is the sub-item Net profit or loss from foreign currency exchange differences which totaled a loss of Ch$197,875 million in 2015. Since the Bank, in its spot position has more liabilities than asset in foreign currency, the depreciation of the peso in 2015 resulted in a net loss in this sub-item.

 

Included in the net results from foreign exchange profit (loss) are the results from hedge-accounting derivative that are used to hedge the foreign currency risk of our long-term foreign currency funding. These are mainly cross-currency swaps that are accounted under hedge accounting rules. These derivatives produced a gain of Ch$777,254 million in 2015.

 

Finally, the Bank has assets and liabilities that are in Chilean pesos, but indexed to foreign currency. In this case, we have more asset than liabilities linked to foreign currency and when the peso depreciates this produces a translation gain which in 2015 totaled Ch$24,017 million. This exposure is also hedged.

 

For more details, see “Item 11. Quantitative and Qualitative Disclosures About Market Risk—E. Market Risks—Market risk management— Market risk – local and foreign financial management.”

 

Client treasury services totaled Ch$83,845 million and were flat compared to 2014. The results from Santander Global Connect and market-making mainly include the results from the sale of derivatives, foreign exchange and fixed income instruments to our client base. In 2015, the results from Santander Global Connect increased 20.2%. The depreciation of the peso and higher market volatility led to a larger demand for hedging from our Corporate and Middle-market clients, driving this income line. The results from market-making with client services decreased 31.0% in 2014, mainly due to lower business volumes of tailor-made treasury services sold to specific corporate clients. These results may vary year-to-year as some large operations with corporate clients may not be repeated in subsequent years.

 

The results from non-client treasury income increased 114.6% and totaled a gain of Ch$61,654 million in 2015 compared to Ch$28,728 million in 2014. These results include the income from sale of loans, including charged-off loans, proprietary trading and the results from our Financial Management Division.

 

The results from the sale of loans decreased 85.8% to Ch$863 million in 2015. The results from proprietary trading totaled a loss of Ch$567 million. The Bank since year-end 2012, no longer has a proprietary trading area and these results are from residual positions that are being closed.

 

In 2015, income from the Bank’s Financial Management Division increased 158.1% to Ch$61,358 million. This department manages the structural interest rate risk, the structural position in inflation-indexed assets and liabilities, capital requirements and liquidity levels. The aim of the Financial Management Division is to provide stability and continuity in our net interest income from commercial activities, and to ensure that we comply with internal and regulatory limits regarding liquidity, regulatory capital, reserve requirements and market risk. This higher result was mainly due to larger realized gains from our available-for-sale portfolio. The results from our available-for-sale portfolio increased 241.1% in 2015 compared to 2014 and totaled Ch$23,655 million. This higher gain arose from the decline in long-term interest rates, especially in the first quarter of 2015. The results from Financial Management Division also include the offset of the foreign currency impact on provision expenses in foreign currency. As the peso depreciated against the U.S. dollar, the provision expenses in pesos for dollar denominated loans increased. This exchange rate exposure is hedged and the offsetting gain is recognized here.

 

Other operating income

 

   Year ended December 31,  % Change  % Change
   2016  2015  2014  2016/2015  2015/2014
   (In millions of Ch$)
Income from assets received in lieu of payment    1,663    2,455    2,811    (32.3%)   (12.7%)
Net results from sale of investment in other companies        617        —%    —% 
Operational leases (as lessor)    519    708    805    (26.7%)   (12.0%)
Gain on sale of Bank property, plant and equipment    2,017    381    687    429.4%   (44.5%)
Compensation from insurance companies due to damages    1,530    435    661    251.7%   (34.2%)
Other    698    1,843    1,581    (62.1%)   16.6%
Sub-total other income    4,764    3,367    3,734    41.5%   (9.8%)
Total other operating income    6,427    6,439    6,545    (0.2%)   (1.6%)

 

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For the years ended December 31, 2016 and 2015. Total other operating income fell by 0.2% in 2016 compared to 2015 and totaled a gain of Ch$6,427 million mainly due to less income from assets received in lieu of payment partially offset by a larger gain from the sale of property as a result of the consolidation of our branch network. Also during 2016, there was a greater gain from the compensation from insurance companies due to damages claimed from natural disasters such as earthquakes.

 

For the years ended December 31, 2015 and 2014. Total other operating income fell 1.6% in 2015 compared to 2014 and totaled a gain of Ch$6,439 million. Other operating income was negatively affected by lower gains from income received from assets in lieu of payment, lower income from operational leases and less payments from insurance coverage for earthquake damages.

 

Provision for loan losses

 

The following table sets forth, for the periods indicated, certain information relating to our provision for loan losses.

 

   Year ended December 31,  % Change  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Provision for loan losses    (409,159)   (454,462)   (403,069)   (10.0%)   12.8%
Charge-off of loans analyzed on an individual basis    (11,222)   (12,955)   (10,811)   (13.4%)   19.8%
Recoveries on loans previously charged-off    78,298    68,140    58,977    14.9%   15.5%
Provision for loan losses, net    (342,083)   (399,277)   (354,903)   (14.3%)   12.5%
Year end loans (1)    27,206,431    25,300,757    22,892,649    7.5%   10.5%
Non-performing loans (2)    564,131    643,468    644,327    (12.3%)   (0.1%)
Impaired loans (3)    1,615,441    1,669,340    1,617,251    (3.2%)   3.2%
Allowance for loan losses (4)    790,605    762,301    684,317    3.7%   11.4%
Impaired loans / Year end loans (5)    5.94%   6.60%   7.06%          
Non-performing loans / Year end loans (2)    2.07%   2.54%   2.81%          
Allowances for loan losses / Total loans    2.91%   3.01%   2.99%          
Coverage ratio non-performing loans (5)    140.15%   118.47%   106.21%          

 

 
(1)Loans and accounts receivable from customers, including Ch$272,807 million in 2016, Ch$10,877 million in 2015 and Ch$11,943 million in 2014 in interbank loans.

 

(2)Non-performing loans include the aggregate unpaid principal and accrued but unpaid interest on all loans with at least one installment at least 90 days past-due.

 

(3)Impaired loans include: (a) for loans individually evaluated for impairment: (i) the carrying amount of all loans to clients that are rated C1 through C4, D1 and D2 and (ii) the carrying amount of all loans to an individual client with at least one non-performing loan (which is not a residential mortgage loan past due less than 90 days), regardless of category; and (b) for loans collectively evaluated for impairment, the carrying amount of all loans to a client, when at least one loan to that client is not performing or has been renegotiated. See “Note 9—Loans and Accounts Receivables from Customers—(a) Loans and accounts receivables from customers” in the Audited Consolidated Financial Statements.

 

(4)Allowance for loan losses for loans and accounts receivable from customers, including Ch$4,135 million in 2016, Ch$1,166 million in 2015 and Ch$1 million in 2014 in allowance for loan losses for interbank loans.

 

(5)Calculated as allowance for loan losses divided by non-performing loans.

 

For the years ended December 31, 2016 and 2015. Provisions for loan losses, net of recoveries totaled Ch$342,083 million in 2015 and decreased 14.3% compared to the amount of provisions recorded in 2015.

 

Provision for loan losses, which includes the full amount of provisions recognized as a result of loan growth and change in risk classification as well as the net result of provisions and charge-offs of loans analyzed on a group basis, totaled Ch$409,159 million in 2016 compared to Ch$454,462 million in 2015 and decreased 10.0%. The following table breaks down provision for loans losses by loan product for the years ended December 31, 2016, 2015 and 2014.

 

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            % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Interbank loans    (2,969)   (1,165)   494    154.8%   %
Commercial loans    (137,242)   (197,247)   (203,454)   (30.4%)   (3.1%)
Mortgage loans    (16,646)   (27,168)   (18,346)   (38.7%)   48.1%
Consumer loans    (249,754)   (230,811)   (180,666)   8.2%   27.8%
Contingent loans    (2,548)   1,929    (1,097)   (232.1%)   (275.8%)
Total(1)    (409,159)   (454,462)   (403,069)   (10.0%)   12.8%

 

 
(1)Includes the full amount of provisions recognized as a result of loan growth and change in risk classification as well as the net result of provisions and charge-offs of loans analyzed on a group basis

 

In general, there was a decrease in the provision expense for commercial loans due to improving asset quality. Non-performing loans as a percentage of the loan portfolio decreased from 2.5% in 2015 to 2.1% in 2016 and the non-performing loans coverage ratio increased from 118.5% to 140.2%. This environment also led to a decrease in the loans charged-off during 2016 to Ch$11,222 million.

 

The provision expense for loan loss for commercial loans decreased from Ch$197,247 million in 2015 to Ch$137,242 million in 2016. This was mainly due to an improvement in asset quality in commercial loans. The non-performing loan ratio of commercial loans reached 2.3% in 2016 compared to 2.6% in 2015. This improvement in asset quality was due to two factors. First, the NPL ratio among small to middle-sized entities in retail banking decreased from 6.8% in 2015 to 5.8% in 2016. Second, there was an improvement in asset quality among loans evaluated on an individual basis, which resulted in a provision expense of Ch$17,819 million in 2016 compared to an expense of Ch$78,354 million in 2015. This was due to (i) a 2.6% decrease in loan volumes in global corporate banking, (ii) an unusually high provision expense in 2015 for specific corporate clients that were downgraded and (iii) an increase in 2016 in the number of clients that either improved their risk status or paid their loans.

 

Provisions for mortgage loans decreased by 38.7% from Ch$27,168 million in 2015 compared to Ch$16,646 million in 2016. During 2016, the Bank lowered its exposure to the lower end of the market and lowered the loan-to-value of residential mortgages at origination, which led to an improvement in mortgage loan asset quality and in April 2016 the mortgage loan allowance model was recalibrated resulting in a decrease in mortgage loan allowance of approximately Ch$3,500 million. The Bank also focused mortgage loan growth on higher income earners with less risk and, as a result, mortgage loans for high income earners grew 10.3% in 2016. The non-performing ratio for mortgage loans decreased from 2.1% in 2015 to 1.7% in 2016 and the impaired mortgage loans ratio also improved from 5.1% in 2015 to 4.6% in 2016.

 

The provision expense for consumer loans increased 8.2% during 2016, primarily attributable to growth of 7.1% in the loan portfolio in 2016. During 2016, the Bank lowered its exposure to the lower end of the consumer market and restricted renegotiations for consumer clients presenting payment difficulties, which led to an increase in charge-offs in 2016 and improvements in consumer loan asset quality. This was partially offset by recoveries from loans previously charged-off that increased from Ch$35,565 million in 2015 to Ch$41,072 million in 2016. The consumer non-performing loans ratio was 2.2% in 2016 compared to 2.7% in 2015 and the impaired consumer loan ratio decreased from 8.9% in 2015 to 6.5% in 2016.

 

Recoveries on loans previously charged-off increased 14.9% in 2016 compared to 2015. This was due to higher recoveries from charged-off consumer and residential mortgage loans mainly due to improved recovery efforts.

 

For a description of the provisions related to our residential mortgage loans and commercial loans analyzed on a group basis, please see “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information—Classification of Loan Portfolio—Classification of Loan Portfolio—Loans analyzed on a group basis—Allowances for residential mortgage loans” and “—Loans analyzed on a group basis—Small and mid-sized commercial loans.”

 

Additionally, the provisions for interbank loans increased in 2016 to Ch$2,969 million, mainly due to the growth in the loan portfolio. In 2016, the Bank granted loans to Chinese banks due to Chilean foreign trade with China. See “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information-Classification of Loan Portfolio—Foreign Assets and loans.” The contingent loans in 2016 registered a provision expense of Ch$2,548 million in 2016 compared to a release of Ch$1,929 million in 2015, due to an increase in preapproval of available credit lines.

 

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The following table shows recoveries of loans previously charged-off by type of loan.

 

  

Year ended December 31, 

 

% Change 

 

% Change 

  

2016 

 

2015 

 

2014 

 

2016/2015 

 

2015/2014 

   (in millions of Ch$)
Recovery of loans previously charged-off                         
Consumer loans    41,072    35,565    36,908    15.5%   (3.6%)
Residential mortgage loans    10,041    6,543    5,122    53.5%   27.7%
Commercial loans    27,185    26,032    16,947    4.4%   53.6%
Total recoveries    78,298    68,140    58,977    14.9%   15.5%

 

In some instances, we will sell a portfolio of charged-off loans to a third party. Gain (loss) on these charged-off loans is recognized as net income from financial transactions as disclosed in “Note 27—Profit and Loss from Financial Operations” of our Audited Consolidated Financial Statements. The following table sets forth information about our sale of charged-off loans for the year ended December 31, 2016, 2015 and 2014.

 

  

Year ended December 31, 

 

% Change 

 

% Change 

  

2016 

 

2015 

 

2014 

 

2016/2015 

 

2015/2014 

   (in millions of Ch$)
Gains (losses) on sale of loans previously charged-off    2,720    (58)   4,809    —%    —% 

 

The following table sets forth, for the periods indicated, our net provision expense broken down by business segment:

 

  

Year ended December 31, 

 

% Change 

 

% Change 

  

2016 

 

2015 

 

2014 

 

2016/2015 

 

2015/2014 

   (in millions of Ch$)
Retail banking    (323,888)   (332,657)   (325,621)   (2.6%)   2.2%
Middle-market    (26,748)   (26,147)   (22,034)   2.3%   18.7%
Global corporate banking    7,579    (28,426)   1,924    (126.7%)   %
Other    974    (12,047)   (9,172)   (108.1%)   31.3%
Total provisions, net    (342,083)   (399,277)   (354,903)   (14.3%)   12.5%

 

Net provisions expense from retail banking decreased 2.6% in 2016 compared to 2015. This is in line with our strategy of focusing on higher income clients, net of risk for loans for individuals and SMEs, which has led to better asset quality in the loan portfolio.

 

Net provision expense from the Middle-market segment was stable in 2016, increasing 2.3% compared to 2015 due to an increase of 6.5% in the loan portfolio.

 

Net provision expense from Global corporate banking totaled a release of provisions of Ch$7,579 million, a 126.7% decrease from 2015 due to the significant increase of provisions in 2015 for specific clients that were downgraded and that in 2016 either improved their risk status or paid their loans.

 

Total provisions, net included in Others reached a gain of Ch$974 million compared to the loss of Ch$12,047 million. In Other provision expense, we mainly include the impact of the fluctuation of the exchange rate on our provision expense. Of our total loan book, 12.1% is in foreign currency, mainly in U.S. dollars and consisting of short-term foreign trade loans. When the peso depreciates, the amount of provisions set aside for these loans translated to local currency rises. In 2016 the average depreciation of the peso was 3.5%, considerably less than the depreciation in 2015 of 14.8% .This impact has a corresponding hedge recognized in the results from financial transactions and for this reason it is not assigned to any reporting segment.

 

We believe that our loan loss allowances are currently adequate for all known and estimated incurred losses.

 

For the years ended December 31, 2015 and 2014. Provisions for loan losses, net of recoveries totaled Ch$399,277 million in 2015 and increased 12.5% compared to the amount of provisions recorded in 2014.

 

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Provision for loan losses, which includes the full amount of provisions recognized as a result of loan growth and change in risk classification as well as the net result of provisions and charge-offs of loans analyzed on a group basis, totaled Ch$454,462 million in 2015 compared to Ch$403,069 million in 2014 and increased 12.8%.

 

Provisions established for the Bank’s consumer loans increased by 27.8% to Ch$230,811 million in 2015 compared to 2014. During the second half of 2014, and as a response to the ongoing improvement of the allowances models for loans, the Bank updated its allowances model for consumer loans. The models were calibrated with the aim of improving the prediction of client behavior and maintaining statistical and management standards. Part of these improvements consisted of the advancement of the models’ governance allowing technical and decisional approvals at different points of the approval process, more robust statistical processes and more historical information, allowing stronger parameters of the Probability of Non-Performance (PNP) and the Severity (SEV) involved in the provision calculation. These changes in 2014 resulted in the release of consumer provisions of Ch$26,563 million in 2014. As this is a change in estimation, this improvement was recognized under the "Provisions for loan losses" in the Consolidated Statement of Income for the year in accordance with IAS 8. See “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information-Classification of Loan Portfolio— Classification of Loan Portfolio-Loans analyzed on a group basis—Allowances for consumer loans.”

 

Excluding this effect in 2014, consumer loan loss provisions grew 11.4%. This rise was mainly due to: (i) consumer loan growth, which reached 5.9% year over year in 2015 compared to 2014, and (ii) greater charge-offs of consumer loans assessed on a group basis. In light of lower economic growth, the Bank restricted renegotiations of consumer loans for customers presenting payment difficulties and this resulted in higher charge-offs. As a result of this policy, the consumer non-performing loans ratio reached 2.7% in 2015 compared to 2.5% in 2014 as more clients became non-performing. Overall asset quality trends, measured according to the impaired consumer loan ratio, remained healthy in 2015. The impaired consumer loan ratio decreased from 9.3% in 2014 to 8.9% in 2015 as growth in the consumer loan book was focused on high income earners that are usually less risky.

 

Provision expense in commercial lending decreased 3.1% in 2015 compared to 2014. During the second half of 2014, and as a response to the ongoing improvement of the allowances models for loans, the Bank updated its allowances model for commercial loans analyzed on a group basis. The models were calibrated with the aim of improving the prediction of client behavior and maintaining statistical and management standards. Part of these improvements consisted of the advancement of the models’ governance allowing technical and decisional approvals at different points of the approval process, more robust techniques of statistical processes and more historical information, allowing stronger parameters of the Probability of Non-Performance (PNP) and the Severity (SEV) involved in the provision calculation. These changes resulted in an increase in commercial provisions of Ch$45,141 million. As this is a change in estimation, this impact was recognized under the "Provisions for loan losses" in the Consolidated Statement of Income for the year in accordance with IAS 8.

  

Excluding this impact, provisions for commercial loans grew 24.6% in the period being analyzed. This rise was mainly due to higher provisions in Global corporate banking as the Bank downgraded various corporate clients affected by the slower economic environment, but which have not yet entered non-performing status. On the other hand, asset quality in commercial loans in retail banking improved throughout 2015, as the Bank focused growth on less risky commercial retail customers. The NPL ratio in commercial loans decreased from 3.0% in 2014 to 2.6% in 2015 mainly due to improvements in asset quality in retail banking. The impaired commercial loan ratio reached 7.1% in 2015 compared to 7.2% at year-end 2014.

  

Provisions for mortgage loans increased 48.1% in 2015 compared to 2014. This rise was mainly due to: (i) mortgage loan growth, which increased 17.8% in the period being analyzed, and (ii) greater charge-offs of mortgage loans. In light of lower economic growth, the Bank has been restricting the renegotiations of mortgage loans for customers presenting some payment difficulties and this resulted in higher charge-offs. The Bank also focused mortgage loan growth on higher income earners that in general are less risky. As a result of the change in the loan mix and the higher charge-offs, mortgage loan asset quality improved in 2015 compared to 2014. The non-performing ratio for mortgage loans declined from 2.7% in 2014 to 2.1% in 2015. The impaired mortgage loans ratio also improved from 5.6% in 2014 to 5.1% in 2015.

 

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For a description of the provisions related to our residential mortgage loans and commercial loans analyzed on a group basis, please see “Item 5. Operating and Financial Review and Prospects—C. Selected Statistical Information—Classification of Loan Portfolio—Classification of Loan Portfolio—Loans analyzed on a group basis—Allowances for residential mortgage loans” and “—Loans analyzed on a group basis—Small and mid-sized commercial loans.”

 

Additionally, the lower economic growth in 2015 resulted in a rise in charge-off of loans analyzed on an individual basis that totaled Ch$12,955 million in 2015 and rose 19.8% compared to 2014.

 

Recoveries on loans previously charged-off increased 15.5% in 2015 compared to 2014. This was due to higher recoveries of charged-off commercial and residential mortgage loans mainly due to improved recovery efforts, especially in the Middle-market segment. As the Bank has improved the asset quality in consumer lending, the growth rate of recoveries has also diminished.

 

In some instances, we will sell a portfolio of charged-off loans to a third party. Gain (loss) on these charged-off loans is recognized as net income from financial transactions as disclosed in “Note 27—Profit and Loss from Financial Operations” of our Audited Consolidated Financial Statements.

 

Net provisions expense from retail banking increased 2.2% in 2015 compared to 2014. Excluding the net impact of Ch$18,578 million as a result of modifications made to the provisioning models for loans assessed on a group basis done in 2014, provision expense in retail banking increased 8.3%. This rise was mainly due to: (i) retail loan growth that totaled 12.1% in 2015 compared to 2014, and (ii) greater charge-offs. The Bank, in light of slower economic growth, restricted renegotiations of retail loans, which resulted in a greater amount of loans being charged-off.

 

Net provision expense from in the Middle-market segment increased 18.7% compared to 2014. In 2015, the Bank performed various downgrades of specific clients mainly in the salmon industry.

 

Net provision expense from Global corporate banking totaled a loss of Ch$28,426 million compared to net reversal of Ch$1,924 million in 2014. In 2015, the Bank downgraded specific clients in the non-bank financial sectors and a client in the agro-industrial sector due to company specific weaknesses.

 

Total provisions, net included in Others reached Ch$12,047 million compared to the Ch$9,172 million. In Other provision expense we include the impact of the fluctuation of the exchange rate on our provision expense. Of our total loan book, 13.3% is in foreign currency, mainly in dollars and consisting of short-term foreign trade loans. When the peso depreciates, as was the case in 2015 and 2014, the amount of provisions set aside for these loans translated to local currency rises. This impact has a corresponding hedge recognized in the results from financial transactions and for this reason it is not assigned to any reporting segment.

 

We believe that our loan loss allowances are currently adequate for all known and estimated incurred losses.

 

Operating expenses

 

The following table sets forth information regarding our operating expenses in the years ended December 31, 2016, 2015 and 2014.

 

   Year ended December 31,  % Change  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Personnel salaries and expenses    (395,133)   (387,063)   (338,888)   2.1%   14.2%
Administrative expenses    (226,413)   (220,531)   (205,149)   2.7%   7.5%
Depreciation and amortization    (65,359)   (53,614)   (44,172)   21.9%   21.4%
Impairment    (234)   (21)   (36,664)   1,014.3%   (99.9%)
Other operating expenses    (68,902)   (58,729)   (58,946)   17.3%   (0.4%)
Total operating expenses    (756,041)   (719,958)   (683,819)   5.0%   5.3%
Efficiency ratio(1)    44.9%   43.8%   41.1%          

 

 
(1)The efficiency ratio is the ratio of total operating expenses to total operating income. Total operating income consists of net interest income, fee income, financial transactions, net and other operating income.

 

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For the years ended December 31, 2016 and 2015. Operating expenses in the year ended December 31, 2016 decreased 5.0% compared to the corresponding period in 2015. The efficiency ratio was 44.9% in 2016, 43.8% in 2015 and 41.1% in 2014.

 

The 2.1% increase in personnel salaries and expenses was mainly due to an increase in personnel compensation and greater costs related to benefits included in the Bank’s collective bargaining agreement. In 2016, CPI inflation was 2.7% and all salaries are indexed to inflation pursuant to the collective bargaining agreement. This was offset by the 3.1% reduction in headcount to 11,354 employees in December 2016, in line with the Bank’s strategy of reducing mid-upper level management levels and the sales force.

 

Administrative expenses increased 2.7% in the year ended December 31, 2016 compared to the corresponding period in 2015, mainly due to IT and communication expenses that increased from Ch$28,420 million in 2015 to Ch$37,351 million in 2016 as part of technological innovation to maintain and develop the Bank’s digital platform, which will allow the Bank to consolidate the branches and create efficiencies in the long term.

 

In 2016, the Bank began to transform the branch network, adopting two main formats (i) a multi-segment approach with smaller branches that are multi-segment with dedicated spaces for the different business segments (Select, SME Advance, Banefe, etc.) and: (ii) our Work Café spaces that are high tech / high touch branches with no human tellers or back offices.

 

   Year ended December 31,  % Change
   2016  2015  2016/2015
Traditional branches    274    276    (0.7%)
Middle-market centers    8    8    %
Santander Select    53    53    %
Banefe and other payment centers    88    134    (34.4%)
Total branches    434    471    (7.9%)

 

Depreciation and amortization expense increased 21.9% in 2016 compared to 2015 and totaled Ch$65,359 million. This expense is in line with the greater investments in hardware and other equipment that the Bank has made as it modernizes its branch network and systems. This has also led to an increase in impairment charges to Ch$234 million in 2016 compared to Ch$21 million in 2015 mainly related to our ATM network.

 

Other operating expenses were Ch$68,902 million in 2016, a 17.3% increase compared to 2015. In April 2016, the Bank made changes to the management structure in line with the strategy of reducing mid-upper management levels, incurring a one-off expense of Ch$10,789 million due to severance payments .. See “Note 33—Other operating income and expenses” to our Audited Consolidated Financial Statements for more detail on Other operating expenses.

 

The following table sets forth, for the periods indicated, our personnel salaries, administrative and depreciation and amortization expenses broken down by business segment. These amounts exclude impairment and other operating expenses.

 

   Year ended December 31,  % Change  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Retail banking   (529,909)   (533,086)   (479,954)   (0.6%)   11.1%
Middle-market   (83,412)   (77,261)   (66,321)   8.0%   16.5%
Global corporate banking   (53,935)   (49,533)   (44,195)   8.9%   12.1%
Other   (19,649)   (1,328)   2,261    1379.6%   %
Total personnel, administrative expenses, depreciation and amortization (1)   (686,905)   (661,208)   (588,209)   3.9%   12.4%

 

 
(1)Excludes impairment and other operating expenses.

 

By business segment, the 3.9% increase in costs excluding impairment and other operating expenses in 2016 compared to the corresponding period in 2015 was mainly due to the 0.6% decrease in costs incurred in retail banking. In 2016, retail banking costs decreased mainly as a result of lower headcount partially offset by greater expenses related to the investment in better digital banking services. Costs in the Middle-market segment grew 8.0%

 

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in 2016 compared to 2015 and 8.9% in the Global corporate banking segment in line with business growth in this segment, especially in transactional banking and cash management services that are intense in data processing.

 

For the years ended December 31, 2015 and 2014. Operating expenses in the year ended December 31, 2015 increased 5.3% compared to the corresponding period in 2014. The efficiency ratio was 43.8% in 2015, 41.1% in 2014 and 40.2% in 2013.

 

The 14.2% increase in personnel salaries and expenses was mainly due to an increase in personnel compensation, higher severance payments and greater costs related to benefits included in the Bank’s collective bargaining agreement. The 9.5% increase in personnel compensation, which totaled Ch$233,707 million in 2015, was mainly due to: (i) growth in total headcount of 2.1% to 11,723 people, (ii) the impact of the Bank’s meritocracy policies and (iii) the impact of CPI inflation on wages. In 2015, CPI inflation was 4.4% and all salaries are indexed to inflation per collective bargaining agreement. Severance payments increased 222.4% to Ch$34,051 million. The Bank in 2015 executed a program to eliminate high level management positions in order to mitigate cost growth which entailed greater severance payments. In March 2014, a new collective bargaining agreement was signed with the main unions, which became effective on October 1, 2014, and which will expire on December 31, 2018. This resulted in an increase in certain benefits related to the Bank’s health insurance fund and other benefits.

 

Administrative expenses increased 7.5% in the year ended December 31, 2015 compared to the corresponding period in 2014. The increase in administrative expenses was mainly due to the 14.3% increase in maintenance, repair of property, plant and equipment, which totaled Ch$20,002 million. In 2015, the Bank continued to refurbish branches, open new Santander Select branches, expand the number of Middle-market centers and close Santander Banefe branches and other payment centers.

 

The Bank’s total Outsourced service expenses increased 21.8% in 2015 compared to 2014 and totaled Ch$39,286 million. The Bank outsources various functions especially data processing and IT services. These increased as a result of the depreciation of the peso against the Euro, since several of the firms that provide the Bank with IT services are in Spain. Imbedded in the Bank results from financial transactions, net is an offsetting result, since this exposure to foreign currency is hedged. Finally the Bank marketing expenses rose 12.6% to Ch$18,483 million as the Bank promoted more intensively various new products and was a sponsor for the Copa America tournament held in Chile in 2015.

 

Impairment charges totaled Ch$21 million in 2015 compared to Ch$36,664 million in 2014. In 2014, the Bank initiated a plan to transform its business and operating model with a better focus on the client. In 2014, the Bank evaluated a number of applications that were in use or in development and tested them for impairment. Following the testing, in accordance with IAS 36, the Bank has recognized an impairment of Ch$36,556 million in 2014 due to the abandonment of unnecessary systems.

 

Depreciation and amortization expense increased 21.4% in 2015 compared to 2014 and totaled Ch$53,614 million. This rise was mainly due to the increase in depreciation of equipment that reached Ch$18,417 million in 2015 compared to Ch$12,331 million in 2014. This is in line with the greater investments in hardware and other equipment as the Bank modernizes its branch network and systems.

 

Other operating expenses were Ch$58,729 million in 2015, a 0.4% decrease compared to 2014. In 2015, customer service expenses, which are related to our phone banking service, decreased 60.6% due to cost restructurings. Additionally in 2015, the Bank had less expenses related to adopting chip technology on cards. These lower other operating expenses were offset by greater provisions for assets received in lieu of payment. See “Note 33—Other operating income and expenses” to our Audited Consolidated Financial Statements for more detail on Other operating expenses.

 

By business segment, the 12.4% increase in costs excluding impairment and other operating expenses in 2015 compared to the corresponding period in 2014 was mainly due to the 11.1% increase in costs incurred in retail banking. In 2015, the Bank continued with its strategy of shifting its strategic focus away from retail clients attended in the Santander Banefe branch network and more towards high income earners and small and mid-sized enterprises. This implied additional costs mainly in our distribution network and technology. Costs in the Middle-market segment grew 16.5% in 2015 compared to 2014 as this segment was a growth priority during the year, increasing in terms of size of balance sheet and headcount. Finally, costs in Global corporate banking rose 12.1% in line with business growth in this segment, especially in transactional banking and cash management services that are intense

 

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in data processing. All segments costs were also affected by the depreciation of the peso against the euro in 2015, which has a negative impact on IT costs denominated in that currency.

 

Income tax

 

   Year ended December 31,  % Change  % Change
   2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Net income before tax    587,463    528,124    626,940    11.2%   (15.8%)
Income tax expense    (109,031)   (76,395)   (51,050)   42.7%   49.6%
Effective tax rate(1)    18.6%   14.5%   8.1%          

 

 
(1)The effective tax rate is the income tax expense divided by net income before tax.

 

For the years ended December 31, 2016 and 2015. Total income tax expense by the Bank in 2016 totaled Ch$109,031 million, a 42.7% increase compared to 2015. The Bank paid an effective tax rate of 18.6% in 2016 compared to 14.5% in 2015. The higher effective tax rate was mainly due to:

 

(i)the statutory corporate tax rate increased from 22.5% in 2015 to 24.0% in 2016. In 2017, the statutory corporate tax rate will rise to 25.5% in 2017 and 27.0% in 2018;

 

(ii)income tax expenses includes non-cash income of Ch$86 million in 2016 from the re-adjustments made to the Bank’s deferred tax asset base following passage of the new tax law compared to an income of Ch$10,600 million in 2015. This gain arises from the difference between the Bank’s accounting and tax books regarding how provisions and charge-offs are recognized. When the statutory rates were modified, the Bank’s net deferred tax assets increased as the future tax rates used to calculate this asset were gradually increased from 20.0% to 27.0%;

 

(iii)the lower CPI inflation rate in 2016 compared to 2015 also resulted in lower losses for the revaluation of capital for inflation. The Bank, in its Chilean tax book accounting, must re-measure its capital each year for the variation in CPI inflation. See “Note 14—Current and Deferred Taxes” of the Audited Consolidated Financial Statements for more detail on income tax expense.

 

For the years ended December 31, 2015 and 2014. Total income tax expense by the Bank in 2015 totaled Ch$76,395 million, a 49.6% increase compared to 2014. The Bank paid an effective tax rate of 14.5% in 2015 compared to 8.1% in 2014. The higher effective tax rate was mainly due to:

 

(i)the statutory corporate tax rate increased from 21.0% in 2014 to 22.5% in 2015. In 2016, the statutory corporate tax rate rose to 24.0% in 2016 and will rise to 25.5% in 2017 and 27.0% in 2018;

 

(ii)income tax expenses in included non-cash income of Ch$10,600 million in 2015 from the re-adjustments made to the Bank’s deferred tax asset base following passage of the new tax law compared to Ch$39,262 million in 2014. The Bank has more deferred tax assets than liabilities. This gain arises from the difference between the Bank’s accounting and tax books regarding how provisions and charge-offs are recognized. When the statutory rates were modified, the Bank’s net deferred tax assets increased as the future tax rates used to calculate this asset were gradually increased from 20.0% to 27.0%;

 

(iii)the lower CPI inflation rate in 2015 compared to 2014 also resulted in lower permanent differences since the Bank, for Chilean tax purposes, must re-value its capital each year for the variation in CPI inflation. See “Note 14—Current and Deferred Taxes” of the Audited Consolidated Financial Statements for more detail on income tax expense.

 

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B.Liquidity and Capital Resources

 

Sources of Liquidity

 

Santander-Chile’s liquidity depends upon its (i) capital, (ii) reserves and (iii) financial investments, including investments in government securities. To cover any liquidity shortfalls and to augment its liquidity position, Santander-Chile has established lines of credit with foreign and domestic banks and also has access to Central Bank borrowings.

 

The following table sets forth our contractual obligations and commercial commitments by time remaining to maturity. As of the date of the filing of this Annual Report, the Bank does not have significant purchase obligations. As of December 31, 2016, the scheduled maturities of our contractual obligations and of other commercial commitments, including accrued interest, were as follows:

 

  Demand Up to 1 month Between 1 and 3 months Between 3 and 12 months Subtotal up to 1 year Between 1 and 3 years Between 3 and 5 years More than 5 years Subtotal after 1 year Total
As of December 31, 2016 (in millions of Ch$)
Obligations under repurchase agreements

212,437

212,437 

212,437 

Checking accounts, time deposits and other time liabilities (1)

7,949,315

6,105,767

4,193,906

2,537,299

 20,786,287

118,101

13,913

61,196

193,210

20,979,497 

Financial derivatives contracts  92,335  122,565  263,893  478,793 494,539 346,948  971,881 1,813,368  2,292,161
Interbank borrowings  4,557  373,423  115,769  1,154,063  1,647,812  233,542  35,014  268,556  1,916,368
Issue debt instruments  —  43,141  185,425  922,705  1,151,271 1,168,117 1,444,593  3,562,391 6,175,101  7,326,372
Other financial liabilities (2)  153,049  1,461  1,161 2,817  158,488  58,641  7,766  15,121  81,528 240,016
Subtotal 8,106,921  6,828,564  4,618,826  4,880,777  24,435,088  2,072,940  1,848,234  4,610,589  8,531,763  32,966,851 
Contractual interest payments (3)  2,273  56,121  170,861  537,941  767,196 1,762,884 987,370 2,750,254  3,517,450
Total 8,109,194 6,884,685 4,789,687 5,418,718 25,202,284 3,835,824 1,848,234 5,597,959  11,282,017 36,484,301

 

 
(1)Includes demand deposits and other demand liabilities, cash items in process of being cleared and time deposits and other time liabilities.

 

(2)Mainly includes amounts owed to credit card processors and to the Chilean Production Development Corporation (Corporación de Fomento de la Producción de Chile), the state development agency.

 

(3)The table above includes future cash interest payments. For variable rate obligations, we assume the same rate as the last rate known. Various of the payment obligations in the table above are variable debt instruments, since they are denominated in UF, for which we have estimated a long-term inflation rate equal to 3%, which is at the center of the Central Bank’s long-term inflation target. No exclusions requiring further explanation have been made in this table.

 

Operational Leases

 

Certain bank premises and equipment are leased under various operating leases. Future minimum rental commitments as of December 31, 2016 under non-cancelable leases are as follows:

 

 

As of
December 31, 2016 

  (in millions of Ch$)
Due within 1 year 26,455
Due after 1 year but within 2 years 24,903
Due after 2 years but within 3 years 20,582
Due after 3 years but within 4 years 17,321
Due after 4 years but within 5 years 14,569
Due after 5 years 53,694
Total 157,524

 

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Other Commercial Commitments

 

As of December 31, 2016, the scheduled maturities of other commercial commitments, including accrued interest, were as follows:

 

Other Commercial Commitments  Up to 1 month  Between 1 and 3 months  Between 3 and 12 months  Between 1 and 5 years  More than 5 years  Total
   (in millions of Ch$)
Guarantees    79,457    175,437    739,170    592,017    151,435    1,737,516 
Confirmed foreign letters of credit    12,247    8,125    8,505    28,809        57,686 
Letters of credit issued    36,662    82,342    39,768    27        158,799 
Pledges and other commercial commitments    9,916    11,591    39,811    63,731        125,049 
Total other commercial commitments    138,282    277,495    827,254    684,584    151,435    2,079,050 

 

Risk-Weighted Assets and Regulatory Capital

 

We currently have regulatory capital in excess of the minimum requirement under the current Chilean regulations. According to the General Banking Law, a bank is required to have regulatory capital of at least 8.0% of its risk-weighted assets, net of required loan loss allowances, and paid-in capital and reserves (i.e., core capital) of at least 3.0% of its total assets, net of required loan loss allowances. For these purposes, the regulatory capital of a bank is the sum of: (1) the bank’s core capital; (2) subordinated bonds issued by the bank valued at their placement price for an amount up to 50.0% of its core capital, provided that the value of the bonds is required to be decreased by 20.0% for each year that elapses during the period commencing six years prior to their maturity; and (3) its voluntary allowances for loan losses, for an amount of up to 1.25% of its risk-weighted assets. Santander-Chile does not have goodwill, but if it did, this value would be required to be deducted from regulatory capital. When calculating risk weighted assets, we also include off-balance sheet contingent loans. The merger of Old Santander Chile and Santiago on August 1, 2002 required a special regulatory pre-approval of the SBIF, which was granted on May 16, 2002. The resolution granting this pre-approval imposed a regulatory capital to risk weighted assets ratio of 12.0% for the merged bank. This requirement was reduced to 11.0% by the SBIF effective January 1, 2005. For purposes of weighing the risk of a bank’s assets, the General Banking Law considers five different categories of assets, based on the nature of the issuer, the availability of funds, and the nature of the assets and the existence of collateral securing such assets.

 

The following table sets forth our consolidated and risk-weighted assets and regulatory capital as of December 31, 2016 and 2015 as required by the SBIF.

 

  

Consolidated assets as of 

 

Risk-weighted assets(1

  

December 31, 2016 

 

December 31, 2015 

 

December 31, 2016 

 

December 31, 2015 

   (Ch$ million)
Asset Balance (Net of allowances)            
Cash and deposits in bank    2,279,389    2,064,806         
Unsettled transactions    495,283    724,521    80,623    80,447 
Trading investments    396,987    324,271    24,709    57,796 
Investments under resale agreements    6,736    2,463    6,736    493 
Financial derivative contracts(2)    1,285,157    1,425,450    943,727    1,158,218 
Interbank loans    272,635    10,861    80,200    1,505 
Loans and accounts receivables from customers    26,113,485    24,535,201    22,655,553    21,480,044 
Available-for-sale investments    3,388,906    2,044,411    263,016    222,784 
Investments in other companies    23,780    20,309    23,780    20,309 
Intangibles assets    58,085    51,137    58,085    51,137 
Property, plant and equipment    257,379    240,659    257,379    240,659 
Current taxes                 
Deferred taxes    372,699    331,714    37,270    33,171 
Other assets    840,499    1,097,826    585,739    603,503 
Off-balance sheet assets                    
Contingent loans    3,922,023    4,516,319    2,221,018    2,507,530 
Total    39,713,043    37,389,948    27,237,835    26,457,596 

 

 

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         Ratio
   December 31, 2016  December 31, 2015  December 31, 2016  December 31, 2015
      (Ch$ million)    %    % 
 Core capital(3)     2,868,706    2,734,699    7.22    7.31 
 Regulatory capital(4)     3,657,707    3,538,216    13.43    13.37 

 

 
(1)As required by local regulations.

 

(2)Derivatives are shown as required by Chapter 12-1 RAN of Chilean Bank GAAP guidelines

 

(3)As a percentage of total assets.

 

(4)As a percentage of risk weighted assets (BIS ratio).

 

Financial Investments

 

Financial assets are classified into the following specified categories: financial assets trading investments at fair value through profit or loss (FVTPL), “held to maturity” investments, “available-for-sale investments” (AFS) financial assets and “loans and accounts receivable from customers.” The classification depends on the nature and purpose of the financial assets and is determined at the time of initial recognition. All regular way purchases or sales of financial assets are recognized and derecognized on a trade date basis. Regular way purchases or sales are purchases or sales of financial assets that require delivery of assets within the time frame established by regulation or convention in the marketplace.

 

Effective interest method

 

The effective interest method is a method of calculating the amortized cost of a debt instrument and of allocating interest income over the relevant period. The effective interest rate is the rate that exactly discounts estimated future cash receipts (including all fees and points paid or received that form an integral part of the effective interest rate, transaction costs and other premiums or discounts) through the expected life of the debt instrument, or, where appropriate, a shorter period, to the net carrying amount on initial recognition.

 

Income is recognized on an effective interest basis for debt instruments other than those financial assets classified as at fair value through profit or loss.

 

Financial assets at FVTPL — Trading investments

 

Financial assets are classified as at FVTPL when the financial asset is either held for trading or it is designated as at fair value through profit or loss.

 

A financial asset is classified as held for trading if:

 

·it has been acquired principally for the purpose of selling it in the near term; or

 

·on initial recognition it is part of a portfolio of identified financial instruments that the Bank manages together and has a recent actual pattern of short-term profit-taking; or

 

·it is a derivative that is not designated and effective as a hedging instrument.

 

A financial asset other than a financial asset held for trading may be designated as at FVTPL upon initial recognition if:

 

·such designation eliminates or significantly reduces a measurement or recognition inconsistency that would otherwise arise; or

 

·the financial asset forms part of a group of financial assets or financial liabilities or both, which is managed and its performance is evaluated on a fair value basis, in accordance with the Bank's documented risk management or investment strategy, and information about the grouping is provided internally on that basis; or

 

·it forms part of a contract containing one or more embedded derivatives, and IAS 39 permits the entire combined contract to be designated as at FVTPL.

 

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Financial assets at FVTPL are stated at fair value, with any gains or losses arising on remeasurement recognized in profit or loss. The net gain or loss recognized in profit or loss incorporates any dividend or interest earned on the financial asset and is included in the ‘net income (expense) from financial operations' line item

 

Held to maturity investments

 

Held-to-maturity investments are non-derivative financial assets with fixed or determinable payments and fixed maturity dates that the Bank has the positive intent and ability to hold to maturity. Subsequent to initial recognition, held-to-maturity investments are measured at amortized cost using the effective interest method less any impairment.

 

Available-for-sale investments (AFS investments)

 

AFS investments are non-derivatives that are either designated as AFS or are not classified as (a) loans and accounts receivable from customers, (b) held-to-maturity investments or (c) financial assets at fair value through profit or loss (trading investments).

 

Financial instruments held by the Bank that are traded in an active market are classified as AFS and are stated at fair value at the end of each reporting period. The Bank also has investments in financial instruments that are not traded in an active market but that are also classified as AFS investments and stated at fair value at the end of each reporting period (because the directors consider that fair value can be reliably measured). Changes in the carrying amount of AFS monetary financial assets relating to changes in foreign currency rates, interest income calculated using the effective interest method and dividends on AFS equity investments are recognized in profit or loss. Other changes in the carrying amount of available-for-sale investments are recognized in other comprehensive income and accumulated under the heading of Valuation Adjustment. When the investment is disposed of or is determined to be impaired, the cumulative gain or loss previously accumulated in the investments revaluation reserve is reclassified to profit or loss.

 

Dividends on AFS equity instruments are recognized in profit or loss when the Bank's right to receive the dividends is established.

 

The fair value of AFS monetary financial assets denominated in a foreign currency is determined in that foreign currency and translated as the described in f) above. The foreign exchange gains and losses that are recognized in profit or loss are determined based on the amortized cost of the monetary asset.

 

AFS equity investments that do not have a quoted market price in an active market and whose fair value cannot be reliably measured and derivatives that are linked to and must be settled by delivery of such unquoted equity investments are measured at cost less any identified impairment losses at the end of each reporting period.

 

Detail regarding the financial investments discussed above is presented below.

 

a) Trading

 

    As of December 31,  
    2016    2015    2014 
    (in millions of Ch$)  
Central Bank and Government Securities               
Chilean Central Bank bonds    158,686    159,767    270,004 
Chilean Central Bank notes             
Other Chilean Central Bank and government securities    237,325    123,468    461,340 
Subtotal    396,011    283,235    731,344 
Other Chilean Securities               
Time deposits in Chilean financial institutions             
Mortgage bonds of Chilean financial institutions             
Chilean financial institutions bonds             
Chilean corporate bonds    976    37,630    36,339 
Other Chilean securities             
Subtotal    976    37,630    36,339 
Foreign securities               
Foreign Financial Securities             
Other foreign financial instruments             
Subtotal             
Investments in mutual funds             
Funds managed by related entities        3,406    7,132 
Subtotal        3,406    7,132 
                
Total    396,987    324,271    774,815 

 

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b) Available-for-sale

 

   As of December 31,
   2016  2015  2014
   (in millions of Ch$)
Central Bank and Government Securities         
Chilean Central Bank bonds    468,386    687,292    381,117 
Chilean Central Bank notes    1,222,283        384 
Other Chilean Central Bank and government securities    52,805    145,603    353,419 
Subtotal    1,743.474    832,895    734,920 
Other Chilean Securities               
Time deposits in Chilean financial institutions    893,000    712,859    590,382 
Mortgage bonds of Chilean financial institutions    25,488    29,025    31,693 
Chilean financial institution bonds             
Chilean corporate bonds             
Other Chilean securities             
Subtotal    918,488    741,884    622,075 
Foreign Financial Securities               
Central Bank and Government Foreign Securities    387,146         
Other Foreign financial securities    339,798    469,632    294,603 
Subtotal    726,944    469,632    294,603 
Total    3,388,906    2,044,411    1,651,598 

 

c) Held-to-maturity

 

No financial investments were classified as held-to-maturity as of December 31, 2016, 2015 and 2014.

 

The following table sets forth an analysis of our investments as of December 31, 2016 by remaining maturity and the weighted average nominal rates of such investments.

 

   Within one year  After one year but within five years   Weighted average Nominal Rate   After five years but within ten years  Weighted average Nominal Rate  After ten years  After ten years  Weighted average Nominal Rate  Total  Weighted average Nominal Rate
   (in millions of Ch$, except rates)
Trading                              
Central Bank and Government Securities                              
Central Bank bonds    44,461    1.7    93,313    0.3    20,880    0.4    32    1.5    158,686    0.7 
Central Bank notes                                         
Central Bank and government securities    140,079    1.1    88,453    2.6    8,739    0.3    54    2.8    237,325    1.6 
Subtotal    184,540         181,766         29,619         86         396,011      
Other Chilean Securities                                                  
Time deposits in Chilean financial institutions                                         
Mortgage bonds of Chilean financial institutions                                         
Chilean financial institutions bonds                                         
Chilean corporate bonds            420    2.4    556    1.5            976    1.9 
Other Chilean securities                                         
Subtotal             420         556                  976      
Investment in mutual funds                                                  
Mutual funds administered by related parties                                         
Subtotal                                         
Total    184,540         182,186         30,175         86         396,987      
                                                   

 

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   Within one year  Weighted average Nominal Rate  After one year but within five years  Weighted average Nominal Rate  After five years but within ten years  Weighted average Nominal Rate  After ten years  Weighted average Nominal Rate  Total  Weighted average Nominal Rate
   (in millions of Ch$, except rates)
Available-for-sale                              
Central Bank and Government Securities                                                  
Central Bank bonds    11,046    1.3    373,786    4.2    83,555    4.2            468,386    4.1 
Central Bank notes    1,222,283                                1,222,283     
Central Bank and government securities    13,707    1.2    686    4.1    38,412    4.4            52,805    3.5 
Subtotal    1,247,036         374,472         121,966                  1,743,474      
Other Chilean Securities                                                  
Time deposits in Chilean financial institutions    893,000    0.4    0                        893,000    0.4 
Mortgage bonds of Chilean financial institutions    47    3.9    1,287    3.7    12,083    3.8    12,071    3.5    25,488    3.7 
Chilean financial institutions bonds                                         
Chilean corporate bonds                                         
Other Chilean securities                                         
Subtotal    893,047         1,287         12,083         12,071         918,488      
Other financial securities                                                  
Central Bank and Government Foreign Securities    6,658    0.7            380,488    1.5            387,146    1.5 
Other Foreign financial securities            42,081    2.3    297,717    3.1            339,798    3.0 
Subtotal    6,658         42,081         678,205                  726,944      
Total    2,146,742         417,840         812,255         12,071         3,388,906      

 

Working Capital

 

As a bank, we satisfy our working capital needs through general funding, the majority of which derives from deposits and other borrowings from the public. (See “Item 5. Operating and Financial Review and Prospects—B. Liquidity and Capital Resources—Deposits and Other Borrowings”). In our opinion, our working capital is sufficient for our present needs.

 

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Liquidity Management

 

Liquidity management seeks to ensure that, even under adverse conditions, we have access to the funds necessary to cover client needs, maturing liabilities and capital requirements. Liquidity risk arises in the general funding for our financing, trading and investment activities. It includes the risk of unexpected increases in the cost of funding the portfolio of assets at appropriate maturities and rates, the risk of being unable to liquidate a position in a timely manner at a reasonable price and the risk that we will be required to repay liabilities earlier than anticipated.

 

The following table sets forth the balance of our liquidity portfolio managed by our Financial Management Division in the manner in which it is presented to the Asset and Liability Committee (ALCO) and the Board. The ALCO has determined that our liquidity portfolio must be comprised of cash plus assets that can be readily convertible into cash either through the Central Bank window, overnight deposits or instruments or the local secondary market. The management of the Bank’s liquidity portfolio is performed by the Financial Management Division under rules determined by the ALCO.

 

   December 31, 2016  December 31, 2015
   Ch$ million
Balance as of:      
Financial investments for trading    396,987    324,271 
Available-for-sale investments    3,388,906    2,044,411 
Encumbered assets (net) (1)    (205,703)   (77,647)
Net cash (2)    16,259    (315,415)
Net interbank deposits (3)    1,335,017    1,683,208 
Total liquidity portfolio    4,931,466    3,658,829 

 

 
(1)Assets encumbered through repurchase agreements are deducted from the liquidity portfolio

 

(2)Total cash minus reserve requirement of the Central Bank

 

(3)Includes overnight deposits in the Central Bank, domestic banks and foreign banks

 

   December 31, 2016  December 31, 2015
   Ch$ million
Average balance as of:      
Financial investments for trading    277,775    405,352 
Available-for-sale investments    2,455,220    1,902,050 
Encumbered assets (net) (1)    (90,460)   (74,664)
Net cash (2)    (202,771)   (244,186)
Net interbank deposits (3)    1,263,768    1,197,325 
Total liquidity portfolio    3,703,533    3,185,876 

 

 
(1)Assets encumbered through repurchase agreements are deducted from the liquidity portfolio

 

(2)Total cash minus reserve requirement of the Central Bank

 

(3)Includes overnight deposits in the Central Bank, domestic banks and foreign banks

 

Our general policy is to maintain liquidity adequate to ensure our ability to honor withdrawals of deposits, make repayments of other liabilities at maturity, extend loans and meet our own working capital needs. Our minimum amount of liquidity is determined by the statutory reserve requirements of the Central Bank. Deposits are subject to a statutory reserve requirement of 9.0% for demand deposits and 3.6% for Chilean peso-, UF- and foreign currency denominated time deposits with a term of less than a year. See “Item 4. Information on the Company—B. Business Overview—Competition—Regulation and Supervision.” The Central Bank has statutory authority to increase these percentages to up to 40.0% for demand deposits and up to 20.0% for time deposits. In addition, a 100.0% special reserve (reserva técnica) applies to demand deposits, deposits in checking accounts, other demand deposits received or obligations payable on sight and incurred in the ordinary course of business, other than deposits unconditionally payable immediately. This special reserve requirement applies to the amount by which the total of such deposits exceeds 2.5 times the amount of a bank’s regulatory capital. Interbank loans are deemed to have a maturity of more than 30 days, even if payable within the following 10 days.

 

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The Central Bank also requires us to comply with the following liquidity limits:

 

·The sum of the liabilities with a maturity of less than 30 days may not exceed the sum of the assets with a maturity of less than 30 days by an amount greater than our Shareholders’ equity. This limit must be calculated in local currency and foreign currencies together as one gap. At December 31, 2016 the percentage of (i) our liabilities with a maturity of less than 30 days in excess of our assets with a maturity of less than 30 days to (ii) our capital and reserves was 15.0%, thus resulting in our compliance.

 

·The sum of the liabilities in foreign currency with a maturity of less than 30 days may not exceed the sum of the assets in foreign currency with a maturity of less than 30 days by more than an amount greater than our Shareholders’ equity. At December 31, 2016 the percentage of (i) our liabilities with a maturity of less than 30 days in foreign currency in excess of our assets in foreign currency with a maturity of less than 30 days to (ii) our capital and reserves was 0%, as the Bank had more foreign currency assets than liabilities for the calculation of this limit.

 

·The sum of the liabilities with a maturity of less than 90 days may not exceed the sum of the assets with a maturity of less than 90 days by more than 2 times our Shareholders’ equity. This limit must be calculated in local currency and foreign currencies together as one gap. At December 31, 2016the percentage of (i) our liabilities with a maturity of less than 90 days in excess of our assets with a maturity of less than 90 days to (ii) our capital and reserves was 37.0%, thus resulting in our compliance.

 

We have set other liquidity limits and ratios that minimize liquidity risk. See “Item 11. Quantitative and Qualitative Disclosures About Market Risk.”

 

Cash Flow

 

The tables below set forth our main sources of cash. The subsidiaries are not an important source of cash flow for us and therefore have no impact on our ability to meet our cash obligations. No legal or economic restrictions exist on the ability of subsidiaries to transfer funds to us in the form of loans or cash dividends as long as these subsidiaries abide by the regulations of the Ley General de Bancos and the Ley de Sociedad Anónimas regarding loans to related parties and minimum dividend payments. See our Consolidated Statements of Cash Flows in our Audited Consolidated Financial Statements for a detailed breakdown of the Bank’s cash flow.

 

   Year ended December 31,
   2016  2015  2014
   Millions of Ch$
Net cash provided by (used in) operating activities    736,154    687,796    282,423 

 

Our operating activities generated cash of Ch$736,154 million in 2016. The consumption of cash due to the expansion of our loans book and financial investments was offset by the cash provided from our funding activities, especially the issuance of bonds. Senior bonds provided cash of Ch$3,537,855 million in 2016 compared to Ch$878,389 million in 2015, partially offset by an increase in redemptions during the year. The higher amount of fees and interest received also boosted cash from operating activities.

 

Our operating activities generated cash of Ch$687,796 million in 2015. The consumption of cash due to loan growth and interest paid was more than offset by growth of deposits and interest and fee income received. Cash flow provided by total deposits was Ch$2,513,690 million in 2015 compared to Ch$1,466,272 million in 2014. Our operating activities generated cash of Ch$282,423 million in 2014. The consumption of cash due to loan growth and the expansion of our financial investments was more than offset by growth of deposits and other liabilities, but at a slower pace than in 2015.

 

 

Year ended December 31, 

 

2016 

2015 

2014 

  Millions of Ch$
Net cash (used in) provided by investment activities (90,200) (92,865) (92,666)
         

 

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In 2016, the Bank’s investment activities consumed cash in an amount of Ch$90,200 million. This was mainly due to purchases of property, plant and equipment and the acquisition of shares in connection with investments in affiliates. For more information please see Note 1 b) of our Audited Consolidated Financial Statements.

 

In 2015, the Bank’s investment activities consumed cash in an amount of Ch$92,865 million. This was mainly due to the purchases of property, plant and equipment and the acquisition of intangibles. In 2014, the Bank’s investment activities consumed cash in an amount of Ch$92,666 million. This was also mainly due to the purchases of property, plant and equipment and the acquisition of intangibles.

 

   Year ended December 31,
   2016  2015  2014
   Millions of Ch$
Net cash used in financing activities    (336,659)   (330,199)   (265,156)

 

In 2016, 2015 and 2014, the net cash used in financing activities can be explained by the Bank’s annual dividend payment each year.

 

Deposits and Other Borrowings

 

The following table sets forth our average balance of liabilities for the years ended December 31, 2016, 2015 and 2014, in each case together with the related average nominal interest rates paid thereon.

 

   2016  2015  2014
   Average Balance  % of Total Average Liabilities  Average Nominal Rate  Average Balance  % of Total Average Liabilities  Average Nominal Rate  Average Balance  % of Total Average Liabilities  Average Nominal Rate
   (in millions of Ch$, except percentages)
Interest-bearing liabilities                           
Savings accounts    116,339    0.3%   2.5%   114,330    0.3%   3.4%   108,185    0.3%   5.0%
Time deposits    13,620,848    38.6%   3.3%   12,685,504    36.7%   3.2%   11,952,994    36.5%   3.4%
Central Bank borrowings    871        3.4%   4,891        1.0%   6,906        0.2%
Repurchase agreements    121,875    0.3%   2.4%   228,050    0.7%   3.1%   413,263    1.3%   2.0%
Mortgage finance bonds    52,414    0.1%   8.1%   63,061    0.2%   10.2%   81,805    0.2%   11.9%
Other interest bearing liabilities    7,856,201    22.3%   5.0%   7,500,408    21.7%   5.5%   6,865,084    21.0%   6.9%
Subtotal interest-bearing liabilities    21,768,547    61.8%   3.7%   20,596,244    59.6%   4.0%   19,428,237    59.4%   4.6%
                                              
Non-interest bearing liabilities                                             
Non-interest bearing deposits    5,753,622    16.3%        5,719,889    16.6%        5,386,272    16.5%     
Derivatives    2,724,994    7.7%        2,958,942    8.6%        2,719,386    8.3%     
Other non-interest bearing liabilities    2,156,015    6.1%        2,454,037    7.1%        2,501,651    7.6%     
Shareholders’ equity    2,840,843    8.1%        2,816,116    8.2%        2,689,037    8.2%     
Subtotal non-interest bearing liabilities    13,475,473    38.2%        13,948,984    40.4%        13,296,346    40.6%     
Total liabilities    35,244,021    100.0%        34,545,228    100.0%        32,724,583    100.0%     

 

Our most important source of funding is our deposits. Average time deposits plus non-interest bearing demand deposits represented 54.9% of our average total liabilities and shareholders’ equity in 2016. Our current funding strategy is to continue to utilize all sources of funding in accordance with their costs, their availability and our general asset and liability management strategy. Special emphasis is being placed on lengthening the maturities of funding with institutional clients, diversifying our bond holder base and broadening our core deposit funding. We believe that broadening our deposit base by increasing the number of account holders has created a more stable funding source.

 

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Composition of Deposits

 

The following table sets forth the composition of our deposits and similar commitments at December 31, 2016, 2015, 2014, 2013 and 2012.

 

   2016  2015  2014  2013  2012
   (in millions of Ch$)
Demand deposits and other demand obligations               
Current accounts    6,144,688    5,875,992    5,131,130    4,403,526    4,006,143 
Other deposits and demand accounts    564,966    577,077    554,785    569,395    455,315 
Other demand obligations    829,661    903,052    794,582    647,842    508,561 
Subtotals    7,539,315    7,356,121    6,480,497    5,620,763    4,970,019 
Time deposits and other time deposits                         
Time deposits    13,031,319    12,065,697    10,303,167    9,567,855    9,008,902 
Time saving accounts    116,451    113,562    107,599    104,143    101,702 
Other time deposits    3,939    3,508    3,174    3,274    1,609 
Subtotals    13,151,709    12,182,767    10,413,940    9,675,272    9,112,213 
Total deposits and other commitments    20,691,024    19,538,888    16,894,437    15,296,035    14,082,232 

 

Maturity of Interest Bearing Deposits

 

The following table sets forth information regarding the currency and maturity of our interest bearing deposits as of December 31, 2016, expressed in percentages of our total deposits in each currency category. UF-denominated deposits are similar to peso-denominated deposits in all respects, except that the principal is readjusted periodically based on variations in the Chilean consumer price index.

 

   Ch$  UF  Foreign Currencies  Total
Demand deposits    0.02%   0.13%   0.01%   0.03%
Savings accounts    0.02%   7.78%   %   0.89%
Time deposits:                    
Maturing within 3 months    79.54%   49.92%   95.04%   78.26%
Maturing after 3 but within 6 months    12.60%   12.70%   4.28%   11.52%
Maturing after 6 but within 12 months    6.83%   23.31%   0.44%   7.84%
Maturing after 12 months    0.99%   6.16%   0.23%   1.47%
Total time deposits    99.97%   92.09%   99.99%   99.08%
Total deposits    100.00%   100.00%   100.00%   100.00%

 

The following table sets forth information regarding the maturity of our outstanding time deposits in excess of U.S.$100,000 as of December 31, 2016.

 

   Ch$  UF  Foreign Currencies  Total
   (in millions of Ch$)
Time deposits:            
Maturing within 3 months    7,910,465    736,896    1,644,819    10,292,180 
Maturing after 3 but within 6 months    1,253,336    187,509    74,088    1,514,933 
Maturing after 6 but within 12 months    679,209    344,110    7,550    1,030,869 
Maturing after 12 months    98,497    90,890    3,950    193,337 
Total time deposits    9,941,507    1,359,405    1,730,407    13,031,319 

 

Short-term Borrowings

 

The principal categories of our short-term borrowings are repurchase agreements and interbank borrowings. The table below presents the amounts outstanding at each year-end indicated and the weighted-average nominal interest rate for each such year by type of short-term borrowing.

 

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   2016  2015  2014
   Balance  Weighted-Average Nominal Interest Rate  Balance  Weighted-Average Nominal Interest Rate  Balance  Weighted-Average Nominal Interest Rate
   (in millions of Ch$, except percentages)
Obligations arising from repurchase agreements    212,437    2.3%   143,689    0.3%   392,126    0.2%
Obligations with the Central Bank    7    0.5%   4    0.5%   94    0.5%
Loans from domestic financial institutions    365,436    0.0%           66,006    0.2%
Foreign obligations    1,647,805    1.4%   868,593    0.4%   717,416    0.2%
Total short-term borrowings    2,225,685    1.2%   1,012,286    0.7%   1,175,642    0.2%

 

The following table shows the average balance and the average nominal rate for each short-term borrowing category for the years indicated.

 

   2016  2015  2014
   Average Balance  Average Nominal Interest Rate  Average Balance  Average Nominal Interest Rate  Average Balance  Average Nominal Interest Rate
   (in millions of Ch$, except percentages)
Obligations arising from repurchase agreements    121,875    2.4%   228,050    3.1%   413,263    2.0%
Obligations with the Central Bank    871    3.4%   4,891    1.0%   6,906    0.2%
Loans from domestic financial institutions    114,882    4.2%   88,296    0.6%   100,513    4.9%
Foreign obligations    1,435,395    1.1%   1,038,686    0.8%   1,508,559    1.3%
Total short-term borrowings    1,680,300    1.4%   1,359,923    1.1%   2,029,241    1.6%

 

The following table presents the maximum month-end balances of our principal sources of short-term borrowings during the years indicated.

 

   Maximum 2016 Month-End Balance  Maximum 2015 Month-End Balance  Maximum 2014 Month-End Balance
   (in millions of Ch$)
Obligations arising from repurchase agreements    212,437    388,735    392,126 
Obligations with the Central Bank    22    85    205 
Loans from domestic financial institutions    365,436    205,069    206,530 
Foreign obligations    1,787,746    1,387,403    1,809,514 
Total short-term borrowings    2,365,641    1,981,292    2,408,375 

 

Total Borrowings

 

   As of December 31, 2016
   Long-term  Short-term       Total
   (in millions of Ch$)
Central Bank credit lines for renegotiations of loans (a)        7    7 
Obligations under repurchase agreements        212,437    212,437 
Mortgage finance bonds (b)    35,015    11,236    46,251 
Senior bonds (c)    5,280,561    1,135,713    6,416,274 
Mortgage bonds(d)    99,864    4,318    104,182 
Subordinated bonds(e)    759,661    4    759,665 
Borrowings from domestic financial institutions        356,436    356,436 
Foreign borrowings(f)    1,025,404    525,521    1,550,925 
Other obligations(g)    81,528    158,488    240,016 
Total borrowings    7,282,033    2,404,160    9,686,193 

 

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   As of December 31, 2015
   Long-term  Short-term
   (in millions of Ch$)
Central Bank credit lines for renegotiations of loans (a)        4    4 
Obligations under repurchase agreements        143,689    143,689 
Mortgage finance bonds (b)    57,314    5,544    62,858 
Senior bonds (c)    4,245,624    796,012    5,041,636 
Mortgage bonds(d)    103,519    4,063    107,582 
Subordinated bonds(e)    738,436    6,583    745,019 
Borrowings from domestic financial institutions             
Foreign borrowings(f)    438,977    868,593    1,307,570 
Other obligations(g)    84,355    136,172    220,527 
Total borrowings    5,668,225    1,960,660    7,628,885 

 

   As of December 31, 2014
   Long-term  Short-term
   (in millions of Ch$)
Central Bank credit lines for renegotiations of loans (a)        94    94 
Obligations under repurchase agreements        392,126    392,126 
Mortgage finance bonds (b)    74,948    6,561    81,509 
Senior bonds (c)    3,701,885    1,166,602    4,868,487 
Mortgage bonds(d)    105,422    3,778    109,200 
Subordinated bonds(e)    715,465    10,451    725,916 
Borrowings from domestic financial institutions        66,006    66,006 
Foreign borrowings(f)    448,085    717,416    1,165,501 
Other obligations(g)    84,576    120,549    205,125 
Total borrowings    5,130,381    2,483,583    7,613,964 
                

 

(a) Credit lines for renegotiations of loans

 

Central Bank borrowings include credit lines for the renegotiations of loans and other Central Bank borrowings. The maturities of the outstanding amounts due are as follows:

 

   As of December 31, 2016  As of December 31, 2015
   (in millions of Ch$)
Due within 1 year    7    4 
Total    7    4 

 

(b)       Mortgage finance bonds

 

These bonds are used to finance mortgage loans. Their principal amounts are amortized on a quarterly basis. The range of maturities of these bonds is between five and twenty years. Loans are indexed to UF and pay a yearly interest rate.

 

   As of December 31, 2016
    (in millions of Ch$) 
Due within 1 year    11,236 
Due after 1 year but within 2 years    8,673 
Due after 2 years but within 3 years    6,928 
Due after 3 years but within 4 years    6,246 
Due after 4 years but within 5 years    5,278 
Due after 5 years    7,890 
Total mortgage finance bonds    46,251 

 

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(c)       Senior bonds

 

The following table sets forth, at the dates indicated, our issued senior bonds. The bonds are denominated principally in UFs or U.S. dollars, and are principally used to fund assets with similar durations.

 

 

As of December 31, 

 

2016 

2015 

2014 

  (in millions of Ch$)
Senior Bonds in UF 3,588,373 2,179,643 1,797,438
Senior Bonds in U.S.$ 909,354 1,625,150 2,191,347
Senior Bonds in CHF 568,549 535,448 443,186
Senior Bonds in Ch$ 1,037,515 475,075 236,025
Senior Bonds in CNY 60,890
Current bonds in AUD 179,426 62,066 62,472
Santander bonds in JPY 72,167 164,254 138,019
Total senior bonds 6,416,274 5,041,636 4,868,487
         

The maturities of these bonds are as follows:

 

   As of December 31, 2016
    (in millions of Ch$) 
Due within 1 year    1,135,713 
Due after 1 year but within 2 years    321,509 
Due after 2 years but within 3 years    816,919 
Due after 3 years but within 4 years    663,289 
Due after 4 years but within 5 years    754,768 
Due after 5 years    2,724,076 
Total bonds    6,416,274 

 

In 2016, the Bank issued bonds for UF62,000,000; CLP590,000,000,000; CHF125,000,000; JPY3,000,000,000; USD215,000,000 and EUR104,000,000 detailed as follows:

 

Series Currency Amount Term Issuance rate Series approval date Series maximum amount Maturity date
R1 UF 15,000,000 5.5 2.50% 01-09-2015 15,000,000 01-03-2021
R2 UF 10,000,000 7.5 2.60% 01-09-2015 10,000,000 01-03-2023
R3 UF 10,000,000 10.5 3.00% 01-09-2015 10,000,000 01-03-2026
R5 UF 7,000,000 7.0 2.55% 01-12-2015 7,000,000 01-12-2022
R6 UF 7,000,000 9.0 2.65% 01-12-2015 7,000,000 01-12-2024
P9 UF 3,000,000 10.5 2.60% 01-03-2015 5,000,000 01-09-2025
T2 UF 5,000,000 4.5 2.25% 01-02-2016 5,000,000 01-08-2020
T5 UF 5,000,000 6.0 2.40% 01-02-2016 5,000,000 01-02-2022
Total UF 62,000,000          
R4 CLP 100,000,000,000 5.5 5.50% 01-09-2015 100,000,000,000 01-03-2021
P4 CLP 50,000,000,000 5.0 4.80% 01-03-2015 150,000,000,000 01-03-2020
SD CLP 140,000,000,000 5.0 5.50% 01-06-2014 200,000,000,000 01-06-2019
SC CLP 200,000,000,000 10.0 5.95% 01-06-2014 200,000,000,000 01-06-2024
P3 CLP 50,000,000,000 7.0 5.50% 01-01-2015   50,000,000,000 01-01-2022
P1 CLP 50,000,000,000 10.0 5.80% 01-01-2015   50,000,000,000 01-01-2025
Total CLP 590,000,000,000          
JPY JPY 3,000,000,000 5.0 0.115% 22-06-2016 3,000,000,000 29-06-2021
Total JPY 3,000,000,000          
DN USD 10,000,000 5.0 Libor-USD 3M+1.05% 02-06-2016   10,000,000 09-06-2021
DN USD 10,000,000 5.0 Libor-USD 3M+1.22% 08-06-2016   10,000,000 17-06-2021
DN USD 10,000,000 5.0 Libor-USD 3M+1.20% 01-08-2016   10,000,000 16-08-2021
DN USD 185,000,000 5.0 Libor-USD 3M+1.20% 10-11-2016 185,000,000 28-11-2021
Total USD 215,000,000          
EUR EUR 54,000,000 12.0 1.307% 05-08-2016   54,000,000 17-08-2028
EUR EUR 20,000,000 8.0 0.80% 04-08-2016   20,000,000 19-08-2024
EUR EUR 30,000,000 3.0 0.25% 09-12-2016   30,000,000 20-12-2019
Total EUR 104,000,000          
CHF CHF   125,000,000 8.5  0.35% 14-11-2016  125,000,000 30-05-2025
Total CHF 125,000,000          

 

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(d)       Mortgage bonds

 

These bonds are used to finance mortgage loans with certain characteristics such as loan-to-value ratios below 80.0% and a debt servicing ratio of the client lower than 20.0%. All outstanding mortgage bonds are UF denominated.

 

The maturities of our mortgage bonds are as follows:

 

   As of December 31,
   2016  2015
   Ch$mn  Ch$mn
       
Due within 1 year    4,318    4,063 
Due after 1 year but within 2 years    6,932    6,522 
Due after 2 year but within 3 years    7,156    6,733 
Due after 3 year but within 4 years    7,386    6,951 
Due after 4 year but within 5 years    7,626    7,175 
Due after 5 years    70,764    76,138 
Total mortgage bonds    104,182    107,582 
           

During 2016, the Bank has not placed any mortgage bonds.

 

(e)       Subordinated bonds

 

The following table sets forth, at the dates indicated, the balances of our subordinated bonds. The following table sets forth, at the dates indicated, our issued subordinated bonds. The bonds are denominated principally in UFs or U.S. dollars, and are principally used to fund the Bank’s mortgage portfolio and are considered to be a part of our regulatory capital.

 

   As of December 31,
   2016  2015  2014
   (in millions of Ch$)
Subordinated bonds denominated in U.S.$            3 
Subordinated bonds linked to the Ch$    4    6     
Subordinated bonds linked to the UF    759,661    745,013    725,913 
Total subordinated bonds    759,665    745,019    725,916 

 

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The maturities of these bonds, which are considered long-term, are as follows.

 

   As of December 31, 2016
   (in millions of Ch$)
Due within 1 year    4 
Due after 1 year but within 2 years     
Due after 2 years but within 3 years     
Due after 3 years but within 4 years     
Due after 4 years but within 5 years     
Due after 5 years    759,661 
Total subordinated bonds    759,665 

 

During 2016, the Bank did not issue subordinated bonds.

 

(f)       Foreign borrowings

 

These are short-term and long-term borrowings from foreign banks used to fund our foreign trade business. The maturities of these borrowings are as follows.

 

 

As of December 31, 2016 

  (in millions of Ch$)
Due within 1 year 525,521
Due after 1 year but within 2 years 725,315
Due after 2 years but within 3 years 186,352
Due after 3 years but within 4 years 80,473
Due after 5 years 33,264
Total loans from foreign financial institutions 1,550,925

 

(g)       Other obligations

 

Other obligations are summarized as follows:

 

 

As of December 31, 2016 

  Ch$ millions
Long term obligations  
Due after 1 years but within 2 years 33,777
Due after 2 years but within 3 years 24,863
Due after 3 years but within 4 years 5,794
Due after 4 years but within 5 years 1,973
Due after 5 years 15,121
Long-term financial obligations subtotals 81,528
Short term obligations:  
Amounts due to credit card operators 151,620
Acceptance of letters of credit 2,069
Other long-term financial obligations, short-term portion 4,799
Short-term financial obligations subtotals 158,488
Other financial obligations totals 240,016

 

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Other Off-Balance Sheet Arrangements and Commitments

 

In the normal course of our business, we are party to transactions with off-balance sheet risk. These transactions expose us to credit risk in addition to amounts recognized in the consolidated financial statements. The most important off-balance sheet item is contingent loans. Contingent loans consist of guarantees granted by us in Ch$, UF and foreign currencies (principally U.S.$), unused letters of credit and commitments to extend credit such as overdraft protection and credit card lines of credit. Such commitments are agreements to lend to a customer at a future date, subject to the customer compliance with the contractual terms. Since a substantial portion of these commitments is expected to expire without being drawn upon, the total amount of commitments does not necessarily represent our actual future cash requirements. We use the same credit policies in making commitments to extend credit as we do for granting loans, therefore, in the opinion of our management, our outstanding commitments represent normal credit risk.

 

The following table presents the Bank’s outstanding contingent loans as of December 31, 2016, 2015 and 2014:

 

   As of December 31,
   2016  2015  2014
   (in millions of Ch$)
Issued and documented letters of credit    158,800    179,042    205,920 
Confirmed foreign letters of credit    57,686    70,434    75,813 
Documented guarantees    1,752,610    1,684,847    1,481,154 
Other guarantees    125,050    163,955    262,169 
Subtotals    2,094,146    2,098,278    2,025,056 
Lines of credit with immediate availability    7,548,820    6,806,745    5,699,573 
Other irrevocable obligation    260,266    82,328    109,520 
Totals    9,903,232    8,987,351    7,834,149 

 

Asset and Liability Management

 

Please refer to “Item 11. Quantitative and Qualitative Disclosures about Market Risk” for information regarding our policies with respect to asset and liability management.

 

Capital Expenditures

 

The following table reflects capital expenditures in each of the three years ended December 31, 2016, 2015 and 2014:

 

   Year Ended December 31,
   2016  2015  2014
   (in millions of Ch$)
Land and Buildings    26,567    27,781    24,957 
Machinery, Systems and Equipment    30,965    29,282    22,785 
Furniture, Vehicles, Other(1)    4,823    8,048    11,346 
Total    62,355    65,111    59,088 

 

 
(1)Includes assets ceded under operating leases.

 

The decrease in capital expenditures in 2016 was mainly due to a reduction in the branch network.

 

C.Selected Statistical Information

 

The following information is included for analytical purposes and should be read in conjunction with our Audited Consolidated Financial Statements, as well as the discussion in this “Item 5. Item 5. Operating and Financial Review and Prospects.” The UF is linked to, and is adjusted daily to reflect changes in, the previous month’s Chilean consumer price index. See “Item 5. Operating and Financial Review and Prospects—A. Operating Results—Impact of Inflation.”

 

 

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Average Balances, Income Earned from Interest-Earning Assets and Interest Paid on Interest-Bearing Liabilities

 

The average balances for interest-earning assets and interest-bearing liabilities, including interest and readjustments received and paid, have been calculated on the basis of daily balances for us on an unconsolidated basis. Such average balances are presented in Chilean pesos, UFs and in foreign currencies (principally U.S. dollars). Figures from our subsidiaries have been calculated on the basis of monthly balances. The average balances of our subsidiaries, except Santander S.A. Agente de Valores, have not been categorized by currency. As such it is not possible to calculate average balances by currency for such subsidiaries on the basis of daily, weekly or monthly balances.

 

The nominal interest rate has been calculated by dividing the amount of interest and principal changes in the UF index (gain or loss) during the period by the related average balance, both amounts expressed in constant pesos.

 

Foreign exchange gains or losses on foreign currency-denominated assets and liabilities are not included in interest income or expense. Similarly, interest on the available-for-sale investment portfolio does not include trading or mark-to-market gains or losses on these investments. Interest is not recognized on non-performing loans. Non-performing loans that are past-due for 90 days or less have been included in each of the various categories of loans, and therefore affect the various averages. Non-performing loans consist of loans as to which either principal or interest is past-due (i.e., non-accrual loans) and restructured loans earning no interest.

 

Included in interbank deposits are checking accounts maintained in the Central Bank and foreign banks. Such assets have a distorting effect on the average interest rate earned on total interest-earning assets because currently balances maintained in Chilean peso amounts do not earn interest, and the only balances held in a foreign currency that earn interest are those maintained in U.S. dollars, but those only earn interest on the amounts that are legally required to be held for liquidity purposes. Additionally, this account includes interest earned by overnight investments. Consequently, the average interest earned on such assets is comparatively low. We maintain these deposits in these accounts to comply with statutory requirements and to facilitate international business, rather than to earn income.

 

The following tables show, by currency of denomination, average balances and, where applicable, interest amounts and real rates for our assets and liabilities for the years ended December 31, 2016, 2015 and 2014.

 

   For the year ended December 31,
    2016        2015         2014    
  

Average Balance 

 

Interest Earned 

 

Average Nominal Rate 

 

Average Balance 

 

Interest Earned 

 

Average Nominal Rate 

 

Average Balance 

 

Interest Earned 

 

Average Nominal Rate 

Assets                     
Interest earning assets                                             
Deposits in Central Bank                                             
Ch$    341,040    5,396    1.6%        283,376         7,246    2.6%   477,977   8,728  1.8%
UF            —%                      —%         —%
Foreign currency            —%                      —%         —%
Total    341,040    5,396    1.6%        283,376         7,246    2.6%   477,977   8,728  1.8%
Financial investments                                              
Ch$    1,553,848    78,410    5.0%        1,323,540         29,488    2.2%   1,339,117   40,701  3.0%
UF    108,646    4,727    4.4%        139,394         9,583    6.9%   295,570   38,906  13.2%
Foreign currency    1,106,205    14,452    1.3%        1,054,110         10,784    1.0%   1,368,089   6,047  0.4%
Total    2,768,699    97,589    3.5%        2,517,044         49,855    2.0%   3,002,776   85,654  2.8%
Commercial Loans                                             
Ch$    5,848,483    532,675    9.1%        5,679,661         502,137    8.8%   5,658,176   474,537  8.4%
UF    4,786,383    329,402    6.9%        4,466,365         352,466    7.9%   4,077,560   381,244  9.3%
Foreign currency    3,254,913    87,735    2.7%        3,388,381         78,552    2.3%   2,874,210   67,140  2.3%
Total    13,889,779    949,812    6.8%        13,534,407         933,155    6.9%   12,609,946   922,921  7.3%
Consumer loans                                             
Ch$    3,858,386    542,597    14.1%        3,711,552         520,553    14.0%   3,502,026   600,869  17.2%
UF    21,015    1,821    8.7%        80,848         8,229    10.2%   91,668   11,191  12.2%
Foreign currency    39,458        —%         34,370             —%    27,606     —%
Total    3,918,859    544,418    13.9%        3,826,770         528,782    13.8%   3,621,300   612,060  16.9%
Mortgage loans                                             
Ch$    15,180    964    6.4%        17,291         1,312    7.6%   23,758   4,918  20.7%
UF    8,234,264    535,128    6.5%        7,695,618         564,579    7.3%   6,535,989   591,446  9.0%
Foreign currency            —%                      —%         —%
Total    8,249,444    536,092    6.5%        7,712,909         565,891    7.3%   6,559,747   596,364  9.0%

 

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   For the year ended December 31,
    2016        2015         2014    
  

Average Balance 

 

Interest Earned 

 

Average Nominal Rate 

 

Average Balance 

 

Interest Earned 

 

Average Nominal Rate 

 

Average Balance 

 

Interest Earned 

 

Average Nominal Rate 

Interbank loans                                             
Ch$    8,291    295    3.6%        2,271         364    16.0%   4,356   139  3.2%
UF            —%                      —%         —%
Foreign currency    2        —%         3,327         11    0.3%   1     —%
Total    8,293    295    3.6%        5,598         375    6.7%   4,357   139  3.2%
Investment Agreements to resell                                             
Ch$    1,388    1,208    87.0%        204         105    51.5%   4,074   793  19.5%
UF        302    —%                  23    —%       95  —%
Foreign currency        4    —%                      —%         —%
Total    1,388    1,514    87.0%        204         128    51.5%   4,074   888  19.5%
Threshold(1)                                             
Ch$    57,859    242    0.4%        29,895         62    0.2%   31     —%
UF    4        —%                      —%         —%
Foreign currency    435,946    1,762    0.4%        612,802         494    0.1%   479,488   264  0.1%
Total    493,809    2,004    0.4%        642,697         556    0.1%   479,519   264  0.1%
Total interest earning assets                                             
Ch$    11,684,475    1,161,787    9.9%        11,047,790         1,061,267    9.6%   11,009,515   1,130,685  10.3%
UF    13,150,312    871,380    6.6%        12,382,225         934,880    7.6%   11,000,787   1,022,882  9.3%
Foreign currency    4,836,524    103,953    2.1%        5,092,990         89,841    1.8%   4,749,394   73,451  1.5%
Total    29,671,311    2,137,120    7.2%        28,523,005         2,085,988    7.3%   26,759,696   2,227,018  8.3%
                                              
                                              
Non-interest earning assets                                             
Cash                                             
Ch$    686,449                   715,484                   677,003 
UF                                           
Foreign currency    98,052                   98,936                   78,195 
Total    784,501                   814,420                   755,198 
Allowance for loan losses                                             
Ch$    (833,455)                  (805,244)                  (722,660)
UF                                           
Foreign currency    (106)                  (15)                   
Total    (833,561)                  (805,259)                  (722,660)
Fixed assets                                             
Ch$    220,919                   222,083                   202,902 
UF                                           
Foreign currency                                           
Total    220,919                   222,083                   202,902 
Derivatives                                             
Ch$    2,940,584                   3,300,507                   2,910,369 
UF                                           
Foreign currency                                           
Total    2,940,584                   3,300,507                   2,910,369 
Financial Investment (Trading)                                             
Ch$    177,617                   141,784                   114,875 
UF    122,113                   195,203                   600,005 
Foreign currency    32,496                   21,828                   7 
Total    332,226                   358,815                   714,887 
Other assets                                             
Ch$    1,246,306                   1,215,289                   1,065,307 
UF    69,335                   69,534                   71,241 
Foreign currency    812,400                   846,834                   967,643 
Total    2,128,041                   2,131,657                   2,104,191 
Total non-interest earning assets                                             
Ch$    4,438,420                   4,789,903                   4,247,703 
UF    191,448                   264,737                   671,363 
Foreign currency    942,842                   967,583                   1,045,821 
Total    5,572,710                   6,022,223                   5,964,887 
Total assets                                             
Ch$    16,122,895    1,161,787              15,837,693         1,061,266         15,257,218   1,130,685
UF    13,341,760    871,380              12,646,962         934,881         11,672,150   1,022,882
Foreign currency    5,779,366    103,953              6,060,573         89,841         5,795,215   73,451
Total    35,244,021    2,137,120              34,545,228         2,085,988         32,724,583   2,227,018
Liabilities And Share-Holders’ Equity                                             
Interest bearing liabilities                                             
Savings accounts                                             
Ch$    1,503    4    0.3%   1,413         5         0.4%   1,213   3  0.2%
UF    114,836    2,949    2.6%   112,917         3,937         3.5%   106,972   5,461  5.1%
Foreign currency            —%                      —%         —%
Total    116,339    2,953    2.5%   114,330         3,942         3.4%   108,185   5,464  5.0%

 

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   For the year ended December 31,
    2016        2015         2014    
  

Average Balance 

 

Interest Earned 

 

Average Nominal Rate 

 

Average Balance 

 

Interest Earned 

 

Average Nominal Rate 

 

Average Balance 

 

Interest Earned 

 

Average Nominal Rate 

Time deposits                                             
Ch$    9,545,050    387,566    4.1%   9,260,339         334,259         3.6%   7,891,805   307,868  3.9%
UF    1,299,866    54,320    4.2%   965,138         63,857         6.6%   1,345,965   93,624  7.0%
Foreign currency    2,775,932    9,873    0.4%   2,460,027         5,303         0.2%   2,715,224   8,443  0.3%
Total    13,620,848    451,759    3.3%   12,685,504         403,419         3.2%   11,952,994   409,935  3.4%
Central bank borrowings                                             
Ch$    858    29    3.4%   4,869         46         1.0%   6,815   5  0.1%
UF    14    1    3.9%   22         2         9.1%   91   9  9.9%
Foreign currency            —%                      —%         —%
Total    871    29    3.4%   4,891         48         1.0%   6,906   14  0.2%
Repurchase Agreements                                             
Ch$    108,902    2,812    2.6%   220,849         6,954         3.1%   400,673   8,267  2.1%
UF            —%             1         —%         —%
Foreign currency    12,973    58    0.4%   7,201         22         0.3%   12,590   27  0.2%
Total    121,875    2,870    2.4%   228,050         6,977         3.1%   413,263   8,294  2.0%
Mortgage finance bonds                                             
Ch$            —%                      —%         —%
UF    52,414    4,258    8.1%   63,061         6,420         10.2%   81,805   9,698  11.9%
Foreign currency            —%                      —%         —%
Total    52,414    4,258    8.1%   63,061         6,420         10.2%   81,805   9,698  11.9%
Other interest bearing liabilities                                             
Ch$    857,325    100,810    11.8%   677,014         109,455         16.2%   409,021   203,374  49.7%
UF    3,903,076    238,721    6.1%   3,020,987         227,384         7.5%   2,538,094   234,284  9.2%
Foreign currency    3,095,800    54,356    1.8%   3,802,407         73,137         1.9%   3,917,969   38,851  1.0%
Total    7,856,201    393,886    5.0%   7,500,408         409,976         5.5%   6,865,084   476,509  6.9%
Total interest bearing liabilities                                             
Ch$    10,513,637    491,220    4.7%   10,164,484         450,719         4.4%   8,709,527   519,517  6.0%
UF    5,370,205    300,249    5.6%   4,162,125         301,601         7.2%   4,072,927   343,076  8.4%
Foreign currency    5,884,705    64,286    1.1%   6,269,635         78,462         1.3%   6,645,783   47,321  0.7%
Total    21,768,547    855,755    3.9%   20,596,244         830,782         4.0%   19,428,237   909,914  4.7%
                                              
Non interest bearing liabilities                                             
Non interest bearing demand deposits                                             
Ch$    5,633,226              5,617,012                        5,282,135 
UF    39,075              35,163                        35,333 
Foreign currency    81,321              67,714                        68,804 
Total    5,753,622              5,719,889                        5,386,272 
Derivatives                                             
Ch$    2,724,994              2,958,942                        2,719,386 
UF                                           
Foreign currency                                           
Total    2,724,994              2,958,942                        2,719,386 
Other non-interest bearing liabilities                                             
Ch$    884,290              896,466                        762,367 
UF    339,168              410,866                        398,108 
Foreign currency    932,557              1,146,705                        1,341,176 
Total    2,156,015              2,454,037                        2,501,651 
Shareholders’ equity                                             
Ch$    2,840,846              2,816,116                        2,689,037 
UF                                           
Foreign currency    (4)                                      
Total    2,840,843              2,816,116                        2,689,037 
Total non-interest bearing liabilities and shareholders’ equity                                             
Ch$    12,083,356              12,288,536                        11,452,925 
UF    378,243              446,029                        433,441 
Foreign currency    1,013,875              1,214,419                        1,409,980 
Total    13,475,473              13,948,984                        13,296,346 
Total Liabilities and Share-Holders’ Equity                                             
Ch$    22,596,993    491,220         22,453,020         450,719              20,162,452   519,517
UF    5,748,447    300,249         4,608,154         301,601              4,506,368   343,076
Foreign currency    6,898,580    64,286         7,484,054         78,462              8,055,763   47,321
Total    35,244,021    855,755         34,545,228         830,782              32,724,583   909,914

 

 

(1)       Threshold is the asset generated when we post collateral for a derivative with a counterparty that has negative mark-to-market for us. Some CSD agreements permit this collateral to generate interest at the overnight rate and this is the source of interest income associated with this asset.

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Changes in Net Interest Revenue and Interest Expense: Volume and Rate Analysis

 

The following table allocates, by currency of denomination, changes in our net interest revenue and interest expense between changes in the average volume of interest-earning assets and interest-bearing liabilities and changes in their respective nominal interest rates for 2016 compared to 2015 and 2015 compared to 2014. Volume and rate variances have been calculated based on movements in average balances over the period and changes in nominal interest rates on average interest-earning assets and average interest-bearing liabilities.

 

   Increase (Decrease) from 2015 to 2016
Due to Changes in
  Increase (Decrease) from 2014 to 2015
Due to Changes in
   Volume  Rate  Net Change from 2015 to 2016  Volume  Rate  Net Change from 2014 to 2015
Assets                  
Interest earning assets                              
Deposits in Central Bank                              
Ch$    (413)   (1,437)   (1,850)   (4,199)   2,718    (1,482)
UF                         
Foreign currency                         
Subtotal    (413)   (1,437)   (1,850)   (4,199)   2,718    (1,482)
Financial investments                              
Ch$    5,103    43,819    48,992    (474)   (10,739)   (11,213)
UF    (2,230)   (2,626)   (4,856)   (20,539)   (8,784)   (29,323)
Foreign currency    622    3,046    3,668    (1,174)   5,911    4,737 
Subtotal    3,495    44,239    47,734    (22,186)   (13,613)   (35,799)
Commercial loans                              
Ch$    14,002    16,537    30,539    2,031    25,568    27,599 
UF    25,822    (48,887)   (23,065)   36,353    (65,130)   (28,777)
Foreign currency    (2,833)   12,016    9,183    11,412        11,412 
Subtotal    36,991    (20,334)   16,657    49,790    (39,562)   (10,234)
Consumer loans                              
Ch$    18,560    3,484    22,044    34,986    (115,302)   (80,316)
UF    (6,093)   (315)   (6,408)   (1,331)   (1,631)   (2,962)
Foreign currency                         
Subtotal    12,467    3,169    15,636    33,655    (116,933)   (83,278)
Mortgage loans                              
Ch$    (163)   (185)   (348)   (1,340)   (2,266)   (3,606)
UF    43,613    73,064    (29,451)   105,976    (132,843)   (26,867)
Foreign currency                         
Subtotal    43,450    (73,249)   (29,799)   104,637    (135,110)   (30,473)
Interbank loans                              
Ch$    1,024    (1,093)   (69)   (67)   292    225 
UF                         
Foreign currency        (11)   (11)       11    11 
Subtotal    1,024    (1,104)   (80)   (67)   303    236 
Investment under agreement to resell                              
Ch$    610    493    1,103    (753)   65    (688)
UF                         
Foreign currency                         
Subtotal    610    493    1,103    (753)   65    (688)
Threshold                              
Ch$    59    121    180        62    62 
UF                         
Foreign currency    (198)   1,466    1,268    230        230 
Subtotal    (139)   1,587    1,448    230    62    292 

 

  

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   Increase (Decrease) from 2015 to 2016
Due to Changes in
  Increase (Decrease) from 2014 to 2015
Due to Changes in
   Volume  Rate  Net Change from 2015 to 2016  Volume  Rate  Net Change from 2014 to 2015
Total interest earnings assets                              
Ch$    38,782    61,739    100,521    30,185    (99,603)   (69,419)
UF    61,112    (124,892)   (63,780)   120,459    (208,388)   (87,929)
Foreign currency    (2,409)   16,517    14,108    10,468    5,922    16,390 
Total    97,485    (46,636)   50,849    161,112    (302,070)   (140,958)
Liabilities and Shareholders’ Equity                              
Interest bearing liabilities                              
Savings accounts                              
Ch$        (1)   (1)       2    2 
UF    69    (1,057)   (988)   307    (1,831)   (1,524)
Foreign currency                         
Subtotal    69    (1,058)   (989)   307    (1,830)   (1,522)
Time deposits                              
Ch$    9,424    43,883    53,307    55,039    (28,648)   26,391 
UF    23,140    (32,677)   (9,537)   (26,002)   (3,766)   (29,768)
Foreign currency    467    4,103    4,570    (745)   (2,395)   (3,140)
Subtotal    33,032    15,308    48,340    28,292    (34,809)   (6,517)
Central bank borrowings                              
Ch$    (35   18    (17)   (2)   43    41 
UF    (1)       (1)   (7)       (7)
Foreign currency                         
Subtotal    (36)   18   (18)   (9)   43    34 
Repurchase agreements                              
Ch$    3,580    (562)   (4,142)   (3,163)   1,850    (1,313)
UF                    1    1 
Foreign currency    21    15    36    (15)   10    (5)
Subtotal    (3,560)   (546)   (4,106)   (3,178)   1,861    (1,317)
Mortgage finance bonds                              
Ch$                         
UF    (1,074)   (1,088)   (2,162)   (2,214)   (1,064)   (3,278)
Foreign currency                         
Subtotal    (1,074)   (1,088)   (2,162)   (2,214)   (1,064)   (3,278)
Other interest bearing liabilities                              
Ch$    29,669    (38,314)   (8,645)   133,636    (227,555)   (93,919)
UF    65,141    (53,804)   11,337    44,230    (51,130)   (6,900)
Foreign currency    (15,262)   (3,519)   (18,781)   (1,198)   35,484    34,286 
Subtotal    79,547    (95,637)   (16,090)   176,668    (243,201)   (66,533)
Total interest bearing liabilities                              
Ch$    35,478    5,024    40,502    185,510    (254,308)   (68,798)
UF    87,275    (88,626)   (1,351)   16,314    (57,790)   (41,476)
Foreign currency    (14,774)   599    (14,175)   (1,958)   33,099    31,141 
Total    107,979    (83,004)   24,975    199,866    (278,999)   (79,133)

 

 

Interest-Earning Assets: Net Interest Margin

 

The following table analyzes, by currency of denomination, the levels of average interest-earning assets and net interest earned by Santander-Chile, and illustrates the comparative net interest margins obtained, for each of the years indicated in the table.

 

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   Year ended December 31,
   2016  2015  2014
   (in millions of Ch$)
Total average interest-earning assets         
Ch$    11,684,475    11,047,790    11,009,515 
UF    13,150,312    12,382,225    11,000,787 
Foreign currencies    4,836,524    5,092,990    4,749,384 
Total    29,671,311    28,523,005    26,759,696 
Net interest earned (1)               
Ch$    670,567    610,548    611,168 
UF    571,131    633,279    679,806 
Foreign currencies    39,667    11,379    26,130 
Total    1,281,365    1,255,206    1,317,104 
Net interest margin (2)               
Ch$    5.74%   5.53%   5.55%
UF    4.34%   5.11%   6.18%
Foreign currencies    0.82%   0.22%   0.55%
Total    4.32%   4.40%   4.92%

 

 
(1)Net interest earned is defined as interest revenue earned less interest expense incurred.

 

(2)Net interest margin is defined as net interest earned divided by total average interest-earning assets.

 

Return on Equity and Assets; Dividend Payout

 

The following table presents certain information and selected financial ratios for Santander-Chile for the years indicated.

 

   Year ended December 31,
Ch$ million  2016  2015  2014
Net income    478,432    451,729    575,910 
Net income attributable to shareholders    476,067    448,466    569,910 
Average total assets    35,244,021    34,545,228    32,724,583 
Average equity    2,840,843    2,816,116    2,689,037 
Net income as a percentage of:               
Average total assets    1.4%   1.3%   1.8%
Average equity    16.8%   16.0%   21.4%
Average equity as a percentage of:               
Average total assets    8.1%   8.2%   8.2%
Cash dividend (1)    330,646    336,659    330,198 
Dividend payout ratio, based on net income attributable to shareholders (1)    69.0%   75.0%   58.0%

 

 
(1)Cash dividends for each year are declared and approved by shareholders at the annual shareholders’ meeting in the following the year.

 

Dividends declared at the annual shareholders’ meeting of each year correspond to the Bank’s earnings of the previous year. The following table presents dividends declared and paid by us in nominal terms in the past four years:

 

Year  Dividend
Ch$ millions (1)
  Dividend
U.S.$ millions (2)
  Per share Ch$/share (3)  Per ADS U.S.$/ADS (4)  % over earnings (5)  % over earnings (6)
2013    232,780    493.1    1.24    1.05    60    65 
2014    265,156    476.0    1.41    1.01    60    60 
2015    330,198    540.4    1.75    1.15    60    58 
2016    336,659    503.7    1.79    1.07    75    75 
2017(7)   330,646    496.5    1.75    1.05    70    69 

 

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(1)Millions of nominal pesos.

 

(2)Millions of U.S.$ using the observed exchange rate of the day the dividend was approved at the annual shareholders’ meeting, except for 2017 when the exchange rate used is Ch$666.00.

 

(3)Calculated on the basis of 188,446 million shares.

 

(4)Dividend in U.S.$ million divided by the number of ADS, which was calculated on the basis of 1,039 shares per ADS for 2012. For 2013, 2014, 2015 and 2016, it is calculated on the basis of 400 shares per ADS.

 

(5)Calculated by dividing dividend paid in the year by net income attributable to the equity holders of the Bank for the previous year under Chilean Bank GAAP.

 

(6)Calculated by dividing dividend paid in the year by net income attributable to the equity holders of the Bank for the previous year under IFRS.

 

(7)Dividend proposed by the Board for shareholders’ approval on April 26, 2017.

 

Loan Portfolio

 

The following table analyzes our loans by product type. Except where otherwise specified, all loan amounts stated below are before deduction for loan loss allowances. Total loans reflect our loan portfolio, including principal amounts of past due loan and substandard loans. Any collateral provided generally consists of a mortgage on real estate, a pledge of marketable securities, a letter of credit or cash. The existence and amount of collateral generally vary from loan to loan.

 

   As of December 31,
   2016  2015  2014  2013  2012
   (in millions of Ch$)
Commercial Loans:               
Commercial loans    9,853,657    8,985,452    8,324,949    7,797,682    7,316,417 
Foreign trade loans    1,829,904    2,152,570    1,786,232    1,840,334    1,270,423 
Checking account debtors    179,468    234,723    266,231    279,657    205,355 
Factoring transactions    296,751    275,647    327,841    316,114    322,242 
Leasing transactions    1,485,123    1,534,192    1,489,384    1,349,814    1,277,555 
Other loans and accounts receivable    222,562    143,775    135,663    118,651    97,029 
Subtotal    13,867,465    13,326,359    12,330,300    11,702,252    10,489,021 
                          
Mortgage loans:                         
Mortgage finance bond backed loans    32,579    134,105    116,150    72,297    92,204 
Mortgage mutual loans    119,934    44,028    57,356    71,833    46,105 
Other mortgage mutual loans    8,466,843    7,634,717    6,458,525    5,481,682    5,133,272 
Subtotal    8,619,356    7,812,850    6,632,031    5,625,812    5,271,581 
                          
Consumer loans:                         
Installment consumer loans    2,722,365    2,469,646    2,320,775    2,168,121    1,857,657 
Credit card loans    1,448,118    1,434,609    1,362,587    1,235,881    1,054,473 
Consumer leasing contracts    5,117    5,460    5,270    3,451    3,688 
Other consumer loans    271,203    240,956    229,743    199,795    199,659 
Subtotal    4,446,803    4,150,671    3,918,375    3,607,248    3,115,477 
                          
Subtotal Loans to customers    26,933,624    25,289,880    22,880,706    20,935,312    18,876,079 
                          
Interbank loans    272,807    10,877    11,943    125,449    90,573 
                          
Total    27,206,431    25,300,757    22,892,649    21,060,761    18,966,652 

 

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The loan categories are as follows:

 

Commercial loans

 

Commercial loans are long-term and short-term loans, including checking overdraft lines for companies, granted in Chilean pesos, inflation linked, U.S.$ linked or denominated in U.S.$. The interest on these loans is fixed or variable and is used primarily to finance working capital or investments. General commercial loans also include factoring operations.

 

Foreign trade loans are fixed rate, short-term loans made in foreign currencies (principally U.S.$) to finance imports and exports.

 

Checking account debtors mainly include mortgage loans (fixed and variable rate) that are inflation-indexed long-term loans with monthly payments of principal and interest secured by a real property mortgage. These loans can be endorsed to a third party.

 

Factoring transactions mainly include short-term loans to companies with a fixed monthly nominal rate backed by a company invoice.

 

Leasing transactions are agreements for the financial leasing of capital equipment and other property.

 

Other loans and accounts receivable loans include other loans and accounts payable.

 

Mortgage loans

 

Mortgage mutual loans mainly include mortgage loans (fixed and variable rate) that are inflation-indexed long-term loans with monthly payments of principal and interest secured by a real property mortgage. These are financed by issuing mortgage bonds.

 

Mortgage finance bond backed loans are inflation-indexed, fixed or variable rate, long-term loans with monthly payments of principal and interest secured by a real property mortgage that are financed with mortgage finance bonds. At the time of approval, these types of mortgage loans cannot be more than 75.0% of the lower of the purchase price or the appraised value of the mortgaged property or such loan will be classified as a commercial loan. Mortgage bonds are our general obligations, and we are liable for all principal and accrued interest on such bonds. In addition, if the issuer of a mortgage finance bond becomes insolvent, the General Banking Law’s liquidation procedures provide that these types of mortgage loans with their corresponding mortgage bonds shall be auctioned as a unit and the acquirer must continue paying the mortgage finance bonds under the same conditions as the original issuer.

 

Other mortgage mutual loans mainly include mortgage loans (fixed and variable rate) that are inflation-indexed long-term loans with monthly payments of principal and interest secured by a real property mortgage. These are financed by our general borrowings.

 

Consumer loans

 

Installment consumer loans are loans to individuals, granted in Chilean pesos, generally on a fixed rate nominal basis, to finance the purchase of consumer goods or to pay for services.

 

Consumer loans through lines of credit are checking overdraft lines to individuals, granted in Chilean pesos, generally on a fixed rate nominal basis and linked to an individual’s checking account.

 

Credit card loans include credit card balances subject to nominal fixed rate interest charges.

 

Consumer leasing contracts are agreements for the financial leasing of automobiles and other property to individuals.

 

Other loans and accounts receivable from customers include draft lines for individuals.

 

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Non-client loans

 

Interbank loans are fixed rate, short-term loans to financial institutions that operate in Chile.

 

Maturity and Interest Rate Sensitivity of Loans

 

The following table sets forth an analysis by type and time remaining to maturity of our loans as of December 31, 2016.

 

   Due in 1 year or less  Due after 1 year through 5 years  Due after 5 years  Total balance as of December 31, 2016
   (in millions of Ch$)
General commercial loans    4,922,702    3,372,234    2,284,443    10,579,379 
Foreign trade loans    1,649,995    122,712    19,597    1,792,304 
Leasing contracts    322,670    720,315    445,445    1,488,430 
Other outstanding loans    7,352            7,352 
Subtotal commercial loans    6,902,719    4,215,261    2,749,485    13,867,465 
Residential loans backed by mortgage bonds    9,002    22,248    5,869    37,119 
Other residential mortgage loans    457,192    1,605,301    6,519,744    8,582,237 
Subtotal residential mortgage loans    466,194    1,627,549    6,525,613    8,619,356 
Consumer loans    2,338,603    2,003,601    104,599    4,446,803 
Subtotal    9,707,516    7,846,411    9,379,697    26,933,624 
Interbank loans    272,807            272,807 
Total loans    9,980,323    7,846,411    9,379,697    27,206,431 

 

The following tables present the total amount of loans due after one year that have fixed and variable interest rates as of December 31, 2016. See also “Item 5. Operating and Financial Review and Prospects—A. Operating Results—Interest Rates.”

 

   As of December 31, 2016
   (in millions of Ch$)
Variable Rate   
Ch$    659 
UF    641,771 
Foreign currencies     
Subtotal    642,431 
Fixed Rate     
Ch$    4,310,394 
UF    11,434,514 
Foreign currencies    838,768 
Subtotal    16,583,676 
Total    17,226,107 

 

 Loans by Economic Activity

 

The following table sets forth, at the dates indicated, an analysis of our client loan portfolio based on the borrower’s principal economic activity and geographic distribution. Loans to individuals for business purposes are allocated to their economic activity.

 

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Domestic loans (*) as of December 31, 

 

Foreign interbank loans (**) as of December 31, 

  

2016 

 

2015 

 

2014 

 

2013 

 

2012 

 

2016 

 

2015 

 

2014 

 

2013 

 

2012 

   (in millions of Ch$)  (in millions of Ch$)
Commercial loans                              
Manufacturing   1,180,886    1,171,830    1,126,268    1,216,914    1,014,777                     
Mining   340,554    510,467    428,847    464,865    292,217                     
Electricity, gas and water   442,936    454,456    567,548    222,110    337,269                     
Agriculture and livestock   1,096,659    1,019,922    871,247    806,092    770,558                     
Forestry   96,806    96,069    98,039    183,716    120,002                     
Fishing   296,592    344,496    256,818    265,917    188,803                     
Transport   787,510    876,329    758,339    721,931    511,407                     
Communications   196,934    160,135    167,004    249,499    179,544                     
Construction   1,792,485    1,462,535    1,365,841    1,337,791    1,130,194                     
Commerce   3,120,400    3,050,663    2,773,410    2,578,979    2,396,428    272,733    10,827    11,899    125,383    90,546 
Services   482,900    483,516    469,141    447,861    400,716                     
Other   4,032,877    3,695,991    3,447,842    3,206,643    3,147,133                     
Subtotals   13,867,539    13,326,409    12,330,344    11,702,318    10,489,048    272,733    10,827    11,899    125,383    90,546 
Mortgage loans   8,619,356    7,812,850    6,632,031    5,625,812    5,271,581                     
Consumer loans   4,446,803    4,150,671    3,918,375    3,607,248    3,115,477                     
Total   26,933,698    25,289,930    22,880,750    20,935,378    18,876,106    272,733    10,827    11,899    125,383    90,546 
                                                   
                                                   

 

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Total loans as of December 31, 

 

% of total loans as of December 31, 

  

2016 

 

2015 

 

2014 

 

2013 

 

2012 

 

2016 

 

2015 

 

2014 

 

2013 

 

2012 

   (in millions of Ch$)  (in millions of Ch$)
Commercial loans                              
Manufacturing   1,180,886    1,171,830    1,126,268    1,216,914    1,014,777    4.34%   4.63%   4.92%   5.78%   5.35%
Mining   340,554    510,467    428,847    464,865    292,217    1.25%   2.02%   1.87%   2.21%   1.54%
Electricity, gas and water   442,936    454,456    567,548    222,110    337,269    1.63%   1.80%   2.48%   1.05%   1.78%
Agriculture and livestock   1,096,659    1,019,922    871,247    806,092    770,558    4.03%   4.03%   3.81%   3.83%   4.06%
Forestry   96,806    96,069    98,039    183,716    120,002    0.36%   0.38%   0.43%   0.87%   0.63%
Fishing   296,592    344,496    256,818    265,917    188,803    1.09%   1.36%   1.12%   1.26%   1.00%
Transport   787,510    876,329    758,339    721,931    511,407    2.89%   3.46%   3.31%   3.43%   2.70%
Communications   196,934    160,135    167,004    249,499    179,544    0.72%   0.63%   0.73%   1.18%   0.95%
Construction   1,792,485    1,462,535    1,365,841    1,337,791    1,130,194    6.59%   5.78%   5.97%   6.35%   5.96%
Commerce   3,393,133    3,061,490    2,773,410    2,704,362    2,486,974    12.47%   12.10%   12.17%   12.84%   13.11%
Services   482,900    483,516    469,141    447,861    400,716    1.77%   1.91%   2.05%   2.13%   2.11%
Other   4,032,877    3,695,991    3,447,842    3,206,643    3,147,133    14.84%   14.61%   15.06%   15.23%   16.59%
Subtotals   14,140,272    13,337,236    12,330,344    11,827,701    10,579,594    51.98%   52.71%   53.92%   56.16%   55.78%
Mortgage loans   8,619,356    7,812,850    6,632,031    5,625,812    5,271,581    31.68%   30.88%   28.99%   26.71%   27.79%
Consumer loans   4,446,803    4,150,671    3,918,375    3,607,248    3,115,477    16.34%   16.41%   17.17%   17.13%   16.43%
Total   27,206,431    25,300,757    22,880,750    21,060,761    18,966,652    100.00%   100.00%   100.00%   100.00%   100.00%

 

(*)Includes domestic interbank loans for Ch$74 million as of December 31, 2016 (Ch$50 million as of December 31, 2015), see Note 8 of the Audited Consolidated Financial Statements.

 

(**)Includes foreign interbank loans for Ch$272,733 million as of December 31, 2016 (Ch$10,827 million as of December 31, 2015), see Note 8 of the Audited Consolidated Financial Statements.

 

 

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Foreign Assets and Loans

 

Santander-Chile’s Asset and Liability Committee, or ALCO, is responsible for determining the maximum foreign country exposure the Bank is permitted to have. The ALCO has determined that the total foreign country exposure cannot be greater than 1-time regulatory capital. To determine this, each country is classified using a ranking system from 1 to 6 based on the definition promulgated by the SBIF, in which the main consideration is the international rating of each country. The ALCO has also set a higher limit if the foreign exposure is to related parties. As of December 31, 2016, the Bank’s foreign exposure, including the estimate of counterparty risk in our derivatives portfolio, was U.S.$3,121 million, or 5.9% of our assets. For more information please see Note 37 of our Audited Consolidated Financial Statements.

 

Below, there are additional details regarding our exposure to countries in category 2 and 3, the riskiest categories we have exposure to as of December 31, 2016, considering fair value of derivative instruments. In this category China is the largest exposure and is also broke down below. We do not have sovereign exposure to Italy.

 

Country 

Classification (1) 

Derivative Instruments (adjusted to market) 

Deposits 

Loans 

Financial Investments USD Mn 

Total Exposure USD Mn 

   

USD Mn 

USD Mn 

USD Mn 

   
Colombia 2 0.82 0.19 1.01
Italy 2 8.77 8.77
China 2 348.99 348.99
México 2 0.09 0.32 0.41
Panamá 2 0.69 0.69
Perú 2 2.82 2.82
Uruguay 2 0.68 0.68
Other 3 1.32 1.32
Total   5.65 8.86 350.18 364.69

 

 
(1)Corresponds to country’s classification established in Chapter B-6 of the Compendium of Accounting Standards issued by the SBIF.

 

Our exposure to Grupo Santander is as follows:

 

Counterpart  Country  Classification  Derivative instruments (market adjusted) USD Mn  Deposits USD Mn  Loans
USD Mn
  Financial Investments USD Mn  Total Exposure USD Mn
Banco Santander Spain*   Spain    1        280.9            280.9 

 

 

*      We have included our exposure to Santander branches in New York and Hong Kong as exposure to Spain.

 

The total amount of this exposure to derivative instruments must be compensated daily with collateral and, therefore, there is no credit exposure.

 

Furthermore, is additional detail regarding our exposure to the United States, which is the only country with more than 1% of exposure over total assets. Below we detail exposure to assets in the USA as of December 31, 2016, considering fair value of derivative instruments.

 

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Country 

Classification (1) 

  Derivative Instruments (adjusted to market)
USD Mn
  Deposits
USD Mn
  Loans
USD Mn
  Financial Investments USD Mn  Total Exposure USD Mn
 USA    1    211.7    1,487.2        581.3    2,280.2 

 

 
(1)Corresponds to country’s classification established in Chapter B-6 of the Compendium of Accounting Standards issued by the SBIF.

 

As of December 31, 2016, we had no applicable sovereign exposure, no unfunded exposure, no credit default protection and no current developments.

 

Classification of Loan Portfolio

 

Credit Risk Governance

 

The Risk Division, our credit analysis and risk management group, is largely independent of our Commercial Division. Risk evaluation teams interact regularly with our clients. For larger transactions, risk teams in our headquarters work directly with clients when evaluating credit risks and preparing credit applications. Various credit approval committees, all of which include Risk Division and Commercial Division personnel, must verify that the appropriate qualitative and quantitative parameters are met by each applicant. Each committee’s powers are defined by our Board of Directors.

 

Santander-Chile’s governance rules establish an Integral Risk Committee. This committee is responsible for revising and following all risks that may affect us, including reputational risk, allowing for an integral risk management. This committee serves as the governing body through which the Board supervises all risk functions. It also evaluates the reasonability of the systems for measurement and control of risks. This Committee includes the Vice Chairman of the Board and five Board members.

 

The Board has delegated the duty of credit risk management to the Integral Risk Committee, as well as to the Bank’s risk departments, whose roles are summarized below:

 

·Formulate credit policies by consulting with the business units, meeting requirements of guarantees, credit evaluation, risk rating and submitting reports, documentation and legal procedures in compliance with the regulatory, legal and internal requirements of the Bank.

 

·Establish the structure to approve and renew credit requests. The Bank structures credit risks by assigning limits to the concentration of credit risk in terms of individual debtor, debtor group, industry segment and country. Approval levels are assigned to the corresponding officials of the business unit (commercial, consumer, SMEs) to be exercised by that level of management. In addition, those limits are continually revised. Teams in charge of risk evaluation at the branch level interact on a regular basis with customers; however, for larger credit requests, the risk team from the head office and the Executive Risk Committee works directly with customers to assess credit risks and prepare risk requests.

 

·Limit concentrations of exposure to customers or counterparties in geographic areas or industries (for accounts receivable or loans), and by issuer, credit rating and liquidity.

 

·Develop and maintain the Bank’s credit risk classifications for the purpose of classifying risks according to the degree of exposure to financial loss that is exhibited by the respective financial instruments, with the aim of focusing risk management specifically on the associated risks.

 

·Revise and evaluate credit risk. Management’s risk divisions are largely independent of the Bank’s commercial division and evaluate all credit risks in excess of the specified limits prior to loan approvals for customers or prior to the acquisition of specific investments. Credit renewal and reviews are subject to similar processes.

 

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The following diagram illustrates the governance of our credit risk division including the committees with approval power:

 

 

  

 

(1)       Includes various approval committees for the Middle Market and high net worth clients.

 

Role of Santander Spain’s Global Risk Department: Credit Risk

 

In matters regarding Credit Risk, Santander Spain’s Global Risk Department has the following role:

 

·All credit risks greater than U.S.$40 million (U.S.$60 million for financial institutions), after being approved locally, are reviewed by Santander Spain. This additional review ensures that no global exposure limit is being breached.

 

·In standardized risks, the consumer and mortgage scoring models are developed locally but are reviewed and approved by Santander Spain’s Global Risk Department.

 

·For each scoring model, a monthly Risk Report is prepared, which is reviewed locally and is also sent to Santander Spain’s Global Risk Department. This report includes the evolution of basic credit risk parameters such as: loan amounts, non-performance, charge-offs and provisions.

 

·Monthly, the Controller of the Risk Department sends a report to Santander Spain’s Global Risk Department covering all the main indicators regarding credit risk and the evolution of credit risk as compared to the budgeted levels.

 

Credit Approval: Loans approved on an individual basis

 

In preparing a credit proposal for a corporate client whose loans are approved on an individual basis, Santander-Chile’s personnel verifies such parameters as debt servicing capacity (typically including projected cash flows), the company’s financial history and projections for the economic sector in which it operates. The Risk Division is closely involved in this process, and prepares the credit application for the client. All proposals contain an analysis of the client’s strengths and weaknesses, a rating and a recommendation. Credit limits are determined not on the basis of outstanding balances of individual clients, but on the direct and indirect credit risk of entire financial groups. For example, a corporation will be evaluated together with its subsidiaries and affiliates.

 

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Credit Approval: Loans approved on a group basis

 

The majority of loans to individuals and small and mid-sized companies are approved by the Standardized Risk Area through an automated credit scoring system. This system is decentralized, automated and based on multiple parameters, including demographic and information regarding credit behavior from external sources and the SBIF.

 

Classification of Loan Portfolio

 

Loans are divided into: (i) consumer loans (including loans granted to individuals for the purpose of financing the acquisition of consumer goods or payment of services); (ii) residential mortgage loans (including loans granted to individuals for the acquisition, construction or repair of residential real estate, in which the value of the property covers at least 100% of the amount of the loan); and (iii) commercial loans (including all loans other than consumer loans and residential mortgage loans). The models and methods used to classify our loan portfolio and establish credit loss allowances must follow the following guiding principles, which have been approved by our Board of Directors.

 

Loans analyzed on an individual basis

 

For loans that are greater than Ch$150 million (U.S.$225,000), the Bank uses internal models to assign a risk category level to each borrower and its respective loans. We consider the following risk factors: industry or sector of the borrower, the borrower’s competitive position in its markets, owners or managers of the borrower, the borrower’s financial situation, the borrower’s payment capacity and the borrower’s payment behavior to calculate the estimated incurred loan loss. Through these categories, we differentiate the normal loan portfolio from the impaired one.

 

These are our categories:

 

1.Debtors may be classified in risk categories A1, A2, A3 or B (if they are current on their payment obligations and show no sign of deterioration in their credit quality). B is different from the A categories by a certain history of late payments. The A categories are distinguished by different PNPs (as defined below).

 

2.Debtors classified as C1, C2, C3, C4, D1 or D2 include debtors whose loans with us have been charged-off or administered by our Recovery Unit, or classified as Precontenciosos (PRECO or deteriorated).

 

For loans classified as A1, A2, A3 and B, we assign a specific provision level on an individual basis to each borrower and, therefore, the amount of loan loss allowance is determined on a case by case basis.

 

Estimated Incurred Loan Loss = Loan Loss Allowance

 

The estimated incurred loss is obtained by multiplying all risk factors defined in the following equation:

 

EIL= EXP x PNP x SEV

 

·EIL = Estimated Incurred Loan Loss. The estimated incurred loan loss is how much could be lost in the event a debtor does not perform the obligations under the loan.

 

·EXP = Exposure. This corresponds to the value of commercial loans.

 

·PNP = Probability of Non-Performance. This variable, expressed as a percentage, indicates the probability that a debtor will default. This percentage is associated with the internal rating that we give to each debtor, which is determined by analyzing such parameters as debt servicing capacity.

 

·SEV = Severity. This is the effective loss rate given default for debtors in the same segment, which is determined statistically based on the historical effective losses for us for each segment.

 

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Every year, models together with PNP and SEV assumptions, are tested by the Bank’s Credit Risk Department, to ensure that they are appropriate at each reporting date so as to make sure any difference between the estimated incurred losses and real losses is reduced.

 

These tests focus on the validation of the sufficiency of the Bank’s allowances, and consist of comparisons between actual write-offs to allowances established by the model, and the coverage of the total allowance to actual write-offs in the most current periods. Individual loan classification and improvements to any customer classification are also presented for approval to our Risk Committee.

 

Our internal policy requires us to update appraisals of the fair value of collateral every 24 months, which policy does not vary by loan product. The appraisal is required to be performed within a shorter period if market conditions in general or conditions in a specific sector or with respect to certain customers indicate that the fair value of the collateral may have changed and any updated fair value of the collateral is factored into our allowance for loan loss calculations. A change in fair value of the collateral may change the risk category or profile of a customer which could result in lower or higher allowance for loan losses.

 

In accordance with such policy, every year we update appraisals of fair value of collateral before the end of the 24 month period for certain customers and such updated appraisals are considered in the calculation of the allowance for loan losses. The number of updated appraisals performed in 2013 was 113, in 2014 was 98, in 2015 was 43 and in 2016 was 142, and such updated appraisals were performed mainly because of changes in customer conditions (renegotiation deterioration of financial situation increase in credit line).

 

For loans classified in the C and D categories, loan loss allowances are based mainly on the fair value of the collateral, adjusted for an estimate cost to sell, that each of these loans have. Allowance percentage for each category is then based on the fair value of the collateral, or the expected future cash flow from the loan for each individually evaluated non-performing loans. As of December 31, 2016, loans classified in the C and D risk categories had the following associated loan loss allowance levels:

 

Classification   Allowance
C1   2%
C2   10%
C3   25%
C4   40%
D1   65%
D2   90%

 

Loans analyzed on a group basis

 

The Bank uses the concept of estimated incurred loss to quantify the allowances levels over loan analyzed on a group basis. Incurred loss is the expected provision expense that will appear one year away from the balance date of the transaction’s credit risk, considering the counterpart risk and the collateral associated to each transaction.

 

Following the Bank’s definition, the Bank uses group evaluation to approach transactions that have similar credit risk features, which indicate the debtor’s payment capacity of the entire debt, capital and interests, pursuant to the contract’s terms. In addition, this allows us to assess a high number of transactions with low individual amounts, whether they belong to individuals or small sized companies. Therefore, debtors and loans with similar features are grouped together and each group has a risk level assigned to it. These models are meant to be used mainly to analyze loans granted to individuals (including consumer loans, credit lines, mortgage loans and commercial loans) and commercial loans to SMEs.

 

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Allowances are established using these models, taking into account the historical impairment and other known circumstances at the time of evaluation. After this, a historical loss rate is assigned to each portfolio profile constituting each segment. The method for assigning a profile is established based on a statistical building method, establishing a relation through a logistic regression various variables, such as payment behavior in the Bank, payment behavior outside the Bank, various socio-demographic data, among others, and a response variable that determines a client’s risk level, which in this case is 90 days of non-performance. Afterwards, common profiles are established related to a logical order and with differentiate default rates, applying the real historical loss the Bank has had with that portfolio.

 

Our models for loans analyzed on a group basis (consumer loans, residential mortgage loans and small-and-mid-sized commercial loans) are monitored on a monthly basis with respect to predictability and stability, using indices that seek to capture the underlying need to update the models for current loss trends. Therefore, the periods of historical net charge-offs used in the allowance model may be more than a year old as we only update the historical net charge-offs only when our assessment of predictability and stability indicators determine it is necessary.

 

The different risk categories are constructed and updated periodically based on the payment behavior of the client’s profile to which they belong, as well as his or her socio-demographic characteristics. Therefore, when a customer has past due balance or has missed some payments, the outcome is that the customer will move to a different segment with a higher loss rate, therefore capturing current trends for each risk profile.

 

Once the customers have been classified, the loan loss allowance is the product of three factors: Exposure (EXP), Probability of Non-Performance (PNP) and Severity (SEV).

 

EXP = Exposure. This corresponds to the value of commercial loans.

 

PNP = Probability of Non-Performing. This variable, expressed as a percentage, indicates the probability that a debtor will default. This percentage is associated with the internal score that we give to each debtor, which is determined by analyzing such parameters as debt servicing capacity (including, usually, projected cash flows), the company’s financial history, the solvency and capacity of shareholders and management, and projections for the economic sector in which it operates. The internal rating can be different from ratings obtained from external third parties.

 

SEV = Severity. This is the effective loss rate given default for debtors in the same segment, which is determined statistically based on the historical effective losses for us for each segment.

 

PNP and SEV are reviewed and updated every three years. Every year, models together with PNP and SEV assumptions, are tested by the Bank’s Credit Risk Department, to ensure that they are appropriate at each reporting date so as to make sure any difference between the estimated incurred losses and real losses is reduced.

 

Our models for loans analyzed on a group basis (consumer loans, residential mortgage loans and small-and-mid- sized commercial loans) are monitored on a monthly basis with respect to predictability and stability, using indicators that seek to capture the underlying need to update the models for current loss trends. Therefore, the periods of historical net charge-offs used in the allowance model may be more than a year old as we only update the historical net charge-offs when our assessment of predictability and stability indicators determine it is necessary.

 

Allowances for consumer loans

 

The estimated incurred loss rates for consumer loans correspond to charge-offs net of recoveries. The methodology establishes the period in which the estimated incurred loss for each risk profile emerges. Once the loss has been considered to have been incurred, the estimated incurred loss rates are applied to the corresponding risk profile to obtain the net charge-off level associated with this period. The loss rates applied to each risk profile are based only on the historical net charge-off data for that specific profile within one of the four groups of consumer loans. No other statistical or other information other than net charge-offs is used to determine the loss rates.

 

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During the second half of 2014, and as a response to the ongoing improvement of the allowances models for loans, the Bank updated its allowances model for consumer loans. The model was calibrated with the aim of improving the prediction of client behavior and maintaining statistical and management standards. Part of these improvements consisted of implementing more robust techniques of statistical processes and more historical information, resulting in stronger parameters for the Probability of Non-Performance (PNP) and the Severity (SEV) involved in the provision calculation. These changes resulted in the release of consumer provisions of Ch$26,563 million in 2014. As this is a change in estimation, the impact of this improvement was recognized under the "Provisions for loan losses" in the Consolidated Statement of Income for the year in accordance with IAS 8. The most important improvement was the development of a separate model for our Santander Select customers, which are higher income clients. This is in line with the Bank’s strategy of reducing exposure to the low-end of the consumer market and growing in less risky segments.

 

The following diagrams set forth the allowances required by our current models for consumer loans:

 

 

 

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Santander (excluding Santander Banefe):

 

Bank (ex-Banefe) Loan type Allowance Level(1) (Loss rate)
             
Consumer Performing New clients Existing clients Santander Select    
0.33%-19.40% 0.08%-15.55% 0.04%-7.46%    
           
Renegotiated consumer loans which were less than 90 days past due at the time of renegotiation (2) 6.49%-32.09%    
           
Renegotiated consumer loans which were more than 90 days past due at the time of renegotiation (2) 44.05%-100%    
           
Non-performing Days Past Due New Clients Existing Clients Select Previously Renegotiated
90-120 35.93% 35.93% 35.93% 44.05%
120-150 44.11% 44.11% 44.11% 50.38%
150-180 52.77% 52.77% 52.77% 57.48%
>180 Charged-off

 

 
(1)Percentage of loans outstanding.

 

(2)This category relates only to loans which were renegotiated and were less than 90 days past due at the time of renegotiation, migrating from such category as they reached 90 days past due since renegotiation.

 

Santander Banefe:

 

Santander Banefe Loan type Allowance Level(1) (Loss rate)
             
Consumer Performing New clients Existing clients      
1.17%-27.87% 0.16%-16.34%      
           
Renegotiated consumer loans which were less than 90 days past due at the time of renegotiation (2) 9.72%-34.37%    
           
Renegotiated consumer loans which were more than 90 days past due at the time of renegotiation (2) 45.47%-100%    
           
Non-performing consumer Days Past Due New Clients Existing Clients Previously Renegotiated  
90-120 31.50% 31.50% 45.47%  
120-150 35.78% 35.78% 51.57%  
150-180 42.46% 42.46% 60.90%  
>180 Charged-off  

 

 
(1)Percentage of loans outstanding

 

(2)This category relates only to loans which were renegotiated and were less than 90 days past due at the time of renegotiation, migrating from such category as they reached 90 days past due since renegotiation.

 

 

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There are two renegotiated categories in our consumer loan portfolio:

 

1.Renegotiated Consumer which were less than 90 days past due at the time of renegotiation. The allowance for loan loss percentages (or loss rates) are assigned based on eight different risk profiles which are determined based on demographic and payment behavior variables.

 

2.Renegotiated Consumer which were more than 90 days past due at the time of renegotiation The loss rates are assigned based on four different risk profiles which are determined based on the number of days overdue at the time of renegotiation:

 

Profile 1: 180 or more days past due 

Profile 2: between 150 and 180 days past due 

Profile 3: between 120 and 150 days past due 

Profile 4: between 90 and 120 days past due

 

Allowances for residential mortgage loans

 

Our provision methodology for residential mortgage loans takes into consideration different factors in order to group customers with less the 90 days past due into different risk profiles. First we segregate our clients according to internal categories based on income and restructurings. For each of these categories additional factors are considered in order to develop risk profiles within each risk category, including payment behavior, non-performance less than 90 days, collateral levels, renegotiation history with the Bank, and historical amounts of net charge-offs, among others. The risk categories are such that when a customer’s payment behavior deteriorates, the outcome is that the customer will move to a different risk category with a higher loss rate, therefore capturing the current status of the customer. In April 2016, the risk profiles were recalibrated and separated into four groups based on loans to value, resulting in a decrease in mortgage loan allowance of approximately Ch$3,500 million.

 

Previously residential mortgage loans with more than 90 days past due balances were assigned an average loss rate of around 12%. With the recalibration in April 2016, mortgage loans with more than 90 days past due balances are assigned a loss rate depending on the loan to value. We determined that 90 days is appropriate, since our historical analysis of customers’ behavior has shown that after 90 days, customers are likely to default on their obligations, and that, over succeeding periods, the loss incurred does not increase given the high fair value of collateral percentage to loan amount required under our credit policies for this type of loan. Also, we note that the Chilean economy’s stability over the last few years has not resulted in other than insignificant fluctuations in collateral fair values on residential mortgage loan properties. When the customer becomes current in its payments, such customer will migrate to a better profile.

 

 

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The following table sets forth the required loan loss allowance for residential mortgage loans:

 

Bank (incl-Banefe) Loan type Allowance Level(1) (Loss rate)
             
Residential mortgage Performing Bank (excl Banefe and Select) Banefe Santander Select    
0.00%-8.30% 0.04%-8.65% 0.00%-4.90%    
           
Renegotiated mortgage loans which were less than 90 days past due at the time of renegotiation (2) 0.32%-12.06%    
           
Renegotiated mortgage  loans which were more than 90 days past due at the time of renegotiation (2) 5.72%-20.81%    
           
Non-performing mortgage Loan to Value        
0-60 5.72%      
60-80 8.31%      
80-90 11.60%      
>90 20.81%      

 

 
(1)Percentage of loans outstanding

 

(2)This category relates only to loans which were renegotiated and were less than 90 days past due at the time of renegotiation, migrating from such category as they reached 90 days past due since renegotiation.

 

Small- and mid-sized commercial loans

 

To determine the estimated incurred loss for individuals (natural persons), small- and mid-sized commercial loans collectively evaluated for impairment, we mainly analyze the payment behavior of clients, particularly the payment behavior of clients with payments that are 90 days or more past-due, clients with other weaknesses, such as early non-performance (i.e., payments that are past-due, though by less than 90 days), clients with modified loans and clients with renegotiated loans, as well as success in recovery against these clients. We also consider whether the loan has underlying mortgage collateral.

 

The risk categories are such that when a customer has a past-due balance or has missed some payments, the outcome is that the customer will move to a different risk category with a higher loss rate, therefore capturing current trends of the customer and, in the aggregate, current trends in the market.

 

During the second half of 2014, and as a response to the ongoing improvement of the allowances models for loans, the Bank updated its allowances model for commercial loans. The model was calibrated with the aim of improving the prediction of client behavior and maintaining statistical and management standards. Part of these improvements consisted of implementing more robust statistical processes and more historical information, resulting in stronger parameters for the Probability of Non-Performance (PNP) and the Severity (SEV) involved in the provision calculation. These changes resulted in an increase in commercial provisions of Ch$45,141 million in 2014. Considering this impact and the reversal of Ch$26,563 million in the consumer loan provisioning model, the net increase of these improvements (Ch$18,578 million) was recognized under the “Provisions for loan losses” in the Consolidated Statement of Income for the year in accordance with IAS 8.

 

 

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In order to calculate the estimated incurred loan loss for all commercial loans collectively evaluated for impairment, the Bank sub-divided the portfolio in the following way:

 

Loan type Allowance Level(1) (Loss rate)  
Commercial loans analyzed on a group basis Performing Commercial loan to individuals w/o mortgage collateral Commercial loan to individuals with mortgage collateral Small Enterprise Mid-sized  Enterprise    
3.72%-46.76% 0.02%-7.89% 0.20%-21.82% 0.11%-16.92    
             
Renegotiated commercial loans which were less than 90 days past due at the time of renegotiation (2) 5.22%-19.54%    
             
Renegotiated commercial loans which were more than 90 days past due at the time of renegotiation (2) Days Past Due when renegotiated Commercial loan to individuals w/o mortgage collateral Commercial loan to individuals with mortgage collateral Small Enterprise Mid-sized  Enterprise  
90-179 50.76% 16.29% 30.07% 24.32%  
180-359 51.89% 23.90% 44.00% 37.64%  
360-719 56.04% 31.46% 50.27% 47.09%  
>720 57.54% 36.69% 53.86% 52.63%  
             
Non-performing consumer Days Past Due Commercial loan to individuals w/o mortgage collateral Commercial loan to individuals with mortgage collateral Small Enterprise Mid-sized  Enterprise Previously renegotiated
90-179 50.76% 16.29% 30.07% 24.32% 24.32%
180-359 51.89% 23.90% 44.00% 37.64% 37.64%
360-719 56.04% 31.46% 50.27% 47.09% 47.09%
>720 57.54% 36.69% 53.86% 52.63% 52.63%
                 

 

 
(1)Percentage of loans outstanding

 

(2)This category relates only to loans which were renegotiated and were less than 90 days past due at the time of renegotiation, migrating from such category as they reached 90 days past due since renegotiation.

 

 

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Analysis of Santander-Chile’s Loan Classification

 

The following tables provide statistical data regarding the classification of our loans analyzed on an individual basis as of December 31, 2016, 2015 and 2014.

 

  

As of December 31, 

  

2016 

 

2015 

 

2014 

Category 

 

Individual 

 

Percentage 

 

Allowance 

 

Percentage 

 

Individual 

 

Percentage 

 

Allowance 

 

Percentage 

 

Individual 

 

Percentage 

 

Allowance 

 

Percentage 

   Ch$mn  %  Ch$mn  %  Ch$mn  %  Ch$mn  %  Ch$mn  %  Ch$mn  %
Individualized business                                    
A1   1,599,311    5.88    923    0.12    2,073,792    8.20    1,210    0.17    1,911,035    8.35    998    0.15 
A2   6,437,930    23.67    23,757    3.00    5,898,065    23.32    17,353    2.28    5,564,372    24.30    16,334    2.39 
A3   2,030,867    7.47    29,668    3.75    1,599,234    6.32    25,145    3.30    1,334,042    5.83    19,630    2.87 
B   538,909    1.98    40,545    5.13    504,937    1.99    37,157    4.87    398,611    1.74    29,189    4.27 
C1   121,893    0.45    2,176    0.28    81,767    0.32    1,635    0.21    79,148    0.35    1,583    0.23 
C2   51,034    0.19    4,555    0.58    48,569    0.19    4,857    0.64    66,267    0.29    6,627    0.97 
C3   49,901    0.18    11,136    1.41    37,663    0.15    9,416    1.24    16,742    0.07    4,185    0.61 
C4   64,118    0.24    22,894    2.90    69,952    0.28    27,981    3.67    33,074    0.14    13,229    1.93 
D1   73,462    0.27    42,625    5.39    76,157    0.30    49,503    6.49    59,585    0.26    38,730    5.66 
D2   89,857    0.33    72,192    9.13    92,682    0.36    83,414    10.94    94,832    0.41    85,348    12.47 
Total   11,057,282    40.66    250,471    31.69    10,482,818    41.43    257,671    33.81    9,557,708    41.74    215,853    31.55 

 

Classification of Loan Portfolio Based on the Borrower’s Payment Performance

 

Non-performing loans include the aggregate principal and accrued but unpaid interest of any loan with one installment that is at least 90 days past-due, and do not accrue interest.

 

Impaired loans include: (a) for loans individually evaluated for impairment: (i) the carrying amount of all loans to clients that are rated C1 through C4, D1 and D2 and (ii) the carrying amount of all loans to an individual client with at least one non-performing loan (which is not a residential mortgage loan past due less than 90 days), regardless of category; and (b) for loans collectively evaluated for impairment, the carrying amount of all loans to a client, when at least one loan to that client is not performing or has been renegotiated. See “Note 9—Loans and Accounts Receivables from Customers” of the Audited Consolidated Financial Statements. Renegotiated loans, on which payments are not past-due, are not ordinarily classified as non-performing loans, but do not accrue interest.

 

Charge-offs

 

As a general rule, charge-offs should be done when all collection efforts have been exhausted. These charge-offs consist of derecognition from the Consolidated Statements of Financial Position of the corresponding loans operations in its entirety, and, therefore, include portions not past-due of a loan in the case of installments loans or leasing operations (no partial charge-offs exists). Subsequent payments obtained from charged-off loans will be recognized in the Consolidated Statement of Income as a recovery of loans previously charged-off. Loan and accounts receivable charge-offs are recorded for overdue, past due, and current installments based on the time periods expired since reaching overdue status, as described below:

 

Type of contract 

Term 

Consumer loans with or without collateral 6 months
Other transactions without collateral 24 months
Commercial loans with collateral 36 months
Mortgage loans 48 months
Consumer leasing 6 months
Other non-mortgage leasing transactions 12 months
Mortgage leasing (household and business) 36 months

 

Any payment agreement of an already charged-off loan will not give rise to income-as long as the operation is still in an impaired status-and the effective payments received are accounted for as a recovery from loans previously charged-off. In general, legal collection proceedings are commenced with respect to consumer loans once they are past-due for at least 90 days and, with respect to mortgage loans, once they are past-due for at least 120 days. Legal collection proceedings are always commenced within one year of such loans becoming past-due, unless we determine that the size of the past-due amount does not warrant such proceedings. In addition, the majority of our

 

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commercial loans are short-term, with single payments at maturity. Past-due loans are required to be covered by individual loan loss reserves equivalent to 100.0% of any unsecured portion thereof.

 

The following table sets forth all of our non-performing loans and impaired loans as of December 31, 2016, 2015, 2014, 2013 and 2012.

 

   2016  2015  2014  2013  2012
   (in millions of Ch$, except percentages)
Non-performing loans (1)    564,131    643,468    644,327    613,301    597,767 
Impaired loans (2)    1,615,441    1,669,340    1,617,251    1,477,701    1,338,137 
Allowance for loan losses (3)    790,605    762,301    684,317    614,933    550,048 
Total loans (4)    27,206,431    25,300,757    22,892,649    21,060,761    18,966,652 
Allowance for loan losses / loans    2.89%   3.01%   2.99%   2.92%   2.90%
Non-performing loans as a percentage of total loans    2.07%   2.54%   2.81%   2.91%   3.15%
Loan loss allowance as a percentage of non-performing loans    140.15%   118.47%   106.21%   100.27%   92.02%

 

 
(1)Non-performing loans include the aggregate principal and accrued but unpaid interest of any loan with one installment that is at least 90 days past-due, and do not accrue interest.

 

(2)Impaired loans include: (a) for loans individually evaluated for impairment: (i) the carrying amount of all loans to clients that are rated C1 through C4, D1 and D2 and (ii) the carrying amount of all loans to an individual client with at least one non-performing loan (which is not a residential mortgage loan past due less than 90 days), regardless of category; and (b) for loans collectively evaluated for impairment, the carrying amount of all loans to a client, when at least one loan to that client is not performing or has been renegotiated. See “Note 9—Loans and Accounts Receivables from Customers” of the Audited Consolidated Financial Statements. Renegotiated loans, on which payments are not past-due, are not ordinarily classified as non-performing loans, but do not accrue interest.

 

(3)Includes allowance for interbank loans.

 

(4)Includes interbank loans.

 

We suspend the accrual of interest and readjustments on all past-due loans. Interest revenue and expense are recorded on an accrual basis using the effective interest method. However, when a loan is past-due by 90 days or more, when an obligation originated from a refinancing or renegotiation or when the Bank believes that the debtor poses a high risk of default, the interest pertaining to these is not recorded directly in the Consolidated Statement of Income unless it has been actually received. See “Note 1—Summary of Significant Accounting Principles—(h) Valuation of financial assets and liabilities and recognition of fair value changes” and “Note 25—Interest and Adjustments” of the Audited Consolidated Financial Statements. These interest and adjustments balances are generally referred to as “suspended” and are recorded in suspense accounts which are not part of the Consolidated Statements of Financial Position. Instead, they are reported as part of the complementary information thereto. See “Note 25—Interest and Adjustments” of the Audited Consolidated Financial Statements. This interest is recognized as income, when collected, and as a reversal of the related impairment losses.

 

The Bank ceases accruing interest on the basis of contractual terms on the principal amount of any asset that is classified as an impaired asset. Thereafter, the Bank recognizes as interest income the accretion of the net present value of the written down amount of the loan due to the passage of time based on the original effective interest rate of the loan. On the other hand, any collected interest for any assets classified as impaired are accounted for on a cash basis.

 

At the period end, the detail of income from suspended interest is as follows:

 

   Year ended December 31,
   2016  2015  2014  2013  2012
Suspended interest
   Ch$ million                     
Commercial loans    22,089    23,310    24,753    21,645    20,595 
Mortgage loans    5,271    13,268    12,454    8,484    8,844 
Consumer loans    9,559    6,224    6,336    6,753    8,742 
Totals    36,919    42,802    43,543    36,882    38,181 

 

 

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Analysis of Impaired and Non-Performing Loans

 

The following table analyzes our impaired loans. Impaired loans include: (i) all loans to a single client that are evaluated on a group basis, including performing loans, that have a loan classified as non-performing, (ii) all renegotiated consumer loans and (iii) all commercial loans at risk of default. See “Note 9—Loans and Accounts Receivables from Customers—(a) Loans and accounts receivable from customers” in the Audited Consolidated Financial Statements.

 

   2016  2015  2014  2013  2012
   (Ch$ million)
Total loans    27,206,431    25,300,757    22,892,649    21,060,761    18,966,652 
Allowance for loan losses    790,605    762,301    684,317    614,933    550,048 
Impaired loans(1)    1,615,441    1,669,340    1,617,251    1,477,701    1,338,137 
Impaired loans as a percentage of total loans    5.94%   6.60%   7.06%   7.02%   7.06%
Amounts non-performing    564,131    643,468    644,327    613,301    597,767 
To the extent secured(2)    298,537    283,731    296,899    295,503    306,782 
To the extent unsecured    265,594    359,737    347,428    317,798    290,985 
Amounts non-performing as a percentage of total loans    2.07%   2.54%   2.81%   2.91%   3.15%
To the extent secured(2)    1.10%   1.12%   1.30%   1.40%   1.62%
To the extent unsecured    0.98%   1.42%   1.52%   1.51%   1.53%
Loans loss allowances as a percentage of:                         
Total loans    2.91%   3.01%   2.99%   2.92%   2.90%
Total amounts non-performing    140.15%   118.47%   106.21%   100.27%   92.02%
Total amounts non-performing-unsecured    297.67%   211.91%   196.97%   193.50%   189.03%

 

 
(1)Impaired loans include: (a) for loans individually evaluated for impairment: (i) the carrying amount of all loans to clients that are rated C1 through C4, D1 and D2 and (ii) the carrying amount of all loans to an individual client with at least one non-performing loan (which is not a residential mortgage loan past due less than 90 days), regardless of category; and (b) for loans collectively evaluated for impairment, the carrying amount of all loans to a client, when at least one loan to that client is not performing or has been renegotiated. See “Note 9—Loans and Accounts Receivables from Customers” in the Audited Consolidated Financial Statements. Renegotiated loans, on which payments are not past-due, are not ordinarily classified as non-performing loans, but do not accrue interest.

 

(2)Security generally consists of mortgages on real estate, pledges of marketable securities, letters of credit or cash.

 

A break-down of the loans included in the previous table which have been classified as impaired, including renegotiated loans, is as follows:

 

As of December 31, 2016
Impaired loans  Commercial  Residential mortgage  Consumer  Total
   (in millions of Ch$)
Non-performing loans    316,838    147,572    99,721    564,131 
Commercial loans at risk of default (1)    439,707            439,707 
Other impaired loans consisting mainly of renegotiated loans (2)    172,624    250,116    188,863    611,603 
Total    929,169    397,688    288,584    1,615,441 

 

 

As of December 31, 2015


Impaired loans
   

Commercial

    

Residential mortgage 

    

Consumer 

    

Total 

 
    (in millions of Ch$) 
Non-performing loans    346,868    183,133    113,467    643,468 
Commercial loans at risk of default (1)    486,685            486,685 
Other impaired loans consisting mainly of renegotiated loans (2)    108,330    213,014    217,843    539,187 
Total    941,883    396,147    331,310    1,669,340 

 

In particular, in 2016 we renegotiated with cajas de compensación with regard to our commercial portfolio and saw an increase in renegotiations with our clients with mortgage loans. However compared to our total mortgage loans, this proportion decreased from 5.1% in 2015 to 4.6% in 2016. Our consumer loans showed signs of improvement with less renegotiated loans and non-performing loans.

 

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As of December 31, 2014
Impaired loans  Commercial  Residential mortgage  Consumer  Total
   (in millions of Ch$)
Non-performing loans    367,791    179,417    97,119    644,327 
Commercial loans at risk of default (1)    420,038            420,038 
Other impaired loans consisting mainly of renegotiated loans (2)    95,335    191,186    266,365    552,886 
Total    883,164    370,603    363,484    1,617,251 

 

As of December 31, 2013
Impaired loans  Commercial  Residential mortgage  Consumer  Total
   (in millions of Ch$)
Non-performing loans    364,890    155,688    92,723    613,301 
Commercial loans at risk of default (1)    317,534            317,534 
Other impaired loans consisting mainly of renegotiated loans (2)    122,464    167,713    256,689    546,866 
Total    804,888    323,401    349,412    1,477,701 
                     
As of December 31, 2012
Impaired loans  Commercial  Residential mortgage  Consumer  Total
   (in millions of Ch$)
Non-performing loans    320,461    159,802    117,504    597,767 
Commercial loans at risk of default (1)    298,868            298,868 
Other impaired loans consisting mainly of renegotiated loans (2)    96,793    69,228    275,481    441,502 
Total    716,122    229,030    392,985    1,338,137 
                     
 
(1)Total loans to a debtor, whose allowance level is determined on an individual basis with a risk of defaulting.

 

(2)Renegotiated loans for loans whose loan loss allowance is analyzed on a group basis.

 

Renegotiated Loans

 

In certain instances, we renegotiate loans that have one or more principal or interest payments past-due. The type of concession we most often afford when renegotiating a loan is a reduction in interest payment or, on rare occasions, forgiveness of principal. We estimate that less than 0.5% of renegotiated loans relate to the forgiveness of principal, and the remaining 99.5% relates to reduction of interest payments. Any amount of principal forgiven is charged off directly to income as of the date the loan is renegotiated, if not already covered by an allowance for loan loss. Renegotiated loans, on which payments are not past-due, are not ordinarily classified as non-performing, but do not accrue interest, and they are considered to be impaired for the life of the loan, both for disclosure purposes and in our determination of our allowances for loan losses, and never moved out of renegotiated status. The effects of the amount of interest to be accrued were not material to “Loans and receivables from customers, net” on our Consolidated Statement of Financial Position.

 

 

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The following table shows the success rate, for the periods indicated, for renegotiated consumer and residential mortgage loans. The success rate for consumer loans is defined for each reported period as: (i) the total amount of loans renegotiated in that period minus the amount of such renegotiated loans that are classified as non-performing loans as of December 31, 2015 or 2016, as applicable, minus the amount of such renegotiated loans that have been charged off as of December 31, 2015 or 2016, as applicable, divided by (ii) the total amount of such renegotiated loans. The success rate for residential mortgage loans is defined for each reported period as: (i) the total amount of loans renegotiated in that period minus the amount of such renegotiated loans that are classified as non-performing loans as of December 31, 2015 or 2016, as applicable, divided by (ii) the total amount of such renegotiated loans. A charge-off of a residential mortgage loan is not generally included in measuring the success rate of mortgage renegotiations since the period to charge-off a mortgage loan is 48 months after an installment is past-due.

 

Period of renegotiation 

Success rate
Consumer Loans 

Success rate
Residential mortgage loans 

1Q 2015 55.3% 80.2%
2Q 2015 57.2% 79.3%
3Q 2015 49.9% 82.0%
4Q 2015 64.8% 88.3%
1Q 2016 71.9% 87.3%
2Q 2016 77.3% 91.7%
3Q 2016 95.8% 95.6%
4Q 2016 99.6% 99.6%

 

From time to time, we modify loans that are not classified as non-performing if a client is confronting a financial difficulty, such as unemployment or another temporary situation. These loans are not classified as renegotiated for disclosure purposes, but are considered as renegotiated for our provisioning models. The following table provides information regarding loans collectively evaluated for impairment that are classified as “modified:”

 

Modified loans(1) (Ch$mn)  2016  2015  2014
Commercial loans collectively evaluated for impairment    117,002    156,055    169,725 
Residential mortgage loans    157,239    223,645    228,856 
Consumer loans    214,344    178,244    243,441 
Total modified loans    488,585    557,944    642,022 

 

 
(1)Modified loans include loans collectively evaluated for impairment that were not classified as non-performing in which certain concessions were made to the client. The main type of concession given by the Bank is a reduction of interest, with forgiveness of principal occurring on rare occasions.

 

The modified loans included in the table above represent the full balance of all modified loans regardless of the date of modification. When a loan is marked as modified, we do not remove it from this status until paid in full. Our provisioning models currently consider a modified loan to be renegotiated for the life of the loan. Modified loans are included in the same pool of loans together with renegotiated loans for the life of the loans.

 

Analysis of Loan Loss Allowances

 

The following table provides the details of the roll-forwards in 2016, 2015, 2014, 2013 and 2012 of our allowance for loan losses, including decrease of allowances due to charge-offs, allowances established, allowances released, gross provision expense and opening and closing balance:

 

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Commercial loans 

 

Mortgage loans 

 

Consumer loans 

 

Interbank loan 

   

Activity during 2016 

 

Individual 

 

Group 

 

Group 

 

Group 

    

Total 

  (in millions of Ch$)   
Balances as of December 31, 2015    256,505    174,696    62,427    267,507    1,166    762,301 
Allowances established (1)    61,002    133,855    50,892    280,544    3,052    529,345 
Allowances released (2)    (43,183)   (14,432)   (34,246)   (30,790)   (83)   (122,734)
Released allowances by charge-off (3)    (54,924)   (104,868)   (10,911)   (207,604)       (378,307)
Balances as of December 31, 2016    219,400    189,251    68,162    309,657    4,135    790,605 

 

  

Commercial loans 

 

Mortgage loans 

 

Consumer loans 

 

Interbank loan 

   

Activity during 2015 

 

Individual 

 

Group 

 

Group 

 

Group 

    

Total 

   (in millions of Ch$)   
Balances as of December 31, 2014    215,852    165,697    48,744    254,023    1    684,317 
Allowances established (1)    124,968    136,778    34,373    248,937    1,357    546,413 
Allowances released (2)    (46,614)   (17,885)   (7,205)   (18,126)   (192)   (90,022)
Released allowances by charge-off (3)    (37,701)   (109,894)   (13,485)   (217,327)       (378,407)
Balances as of December 31, 2015    256,505    174,696    62,427    267,507    1,166    762,301 

 

   Commercial loans  Mortgage loans  Consumer loans  Interbank loan   
Activity during 2014  Individual  Group  Group  Group     Total
    (in millions of Ch$)      
Balance as of December 31, 2013    206,377    100,170    43,306    264,585    495    614,933 
Allowances established (1)    52,240    174,244    24,907    218,941    60    470,392 
Allowances released (2)    (15,903)   (7,127)   (6,561)   (38,275)   (554)   (68,420)
Released allowances by charge-off (3)    (26,862)   (101,590)   (12,908)   (191,228)       (322,588)
Balances as of December 31, 2014    215,852    165,697    48,744    254,023    1    684,317 

 

   Commercial loans  Mortgage loans  Consumer loans  Interbank loan   
Activity during 2013  Individual  Group  Group  Group     Total
   (in millions of Ch$)   
Balance as of December 31, 2012    154,702    95,938    35,990    263,259    159    550,048 
Allowances established (1)    92,008    98,715    42,487    258,446    455    492,111 
Allowances released (2)    (22,014)   (11,151)   (9,216)   (35,482)   (119)   (77,982)
Released allowances by charge-off (3)    (18,319)   (83,332)   (25,955)   (221,638)       (349,244)
Balances as of December 31, 2013    206,377    100,170    43,306    264,585    495    614,933 

 

   Commercial loans  Mortgage loans  Consumer loans  Interbank loan   
Activity during 2012  Individual  Group  Group  Group     Total
   (in millions of Ch$   
Balances as of December 31, 2011    112,687    97,115    35,633    243,022    11    488,468 
Allowances established (1)    83,742    83,181    25,314    318,565    548    511,350 
Allowances released (2)    (20,716)   (16,624)   (7,449)   (38,471)   (400)   (83,660)
Charge-off released allowances (3)    (21,011)   (67,734)   (17,508)   (259,857)       (366,110)
Balances as of December 31, 2012    154,702    95,938    35,990    263,259    159    550,048 

  

 
(1)Represents gross allowances made in respect of increased risk of loss during the period and loan growth.

 

(2)Represents the gross amount of loan loss allowances released during the year as a consequence of reduction in the level of risk existing in the loan portfolio, including as a result of improvement in the credit risk classification of borrowers and loans paid.

 

(3)Represents the gross amount of loan loss allowances removed due to charge-off.

 

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The following table shows recoveries by type of loan:

 

   Year ended December 31,
   2016  2015  2014  2013  2012
   (in millions of Ch$)
Recovery of loans previously charged-off               
Consumer loans    41,072    35,565    36,908    36,004    22,015 
Residential mortgage loans    10,041    6,543    5,122    4,735    2,305 
Commercial loans    27,185    26,032    16,947    14,545    8,695 
Total recoveries    78,298    68,140    58,977    55,284    33,015 

Allocation of the Loan Loss Allowances

 

The following tables set forth, as of December 31 of each of the five years listed below, the proportions of our required loan loss allowances that were attributable to our commercial, consumer and residential mortgage loans at each such date.

 

 

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As of December 31, 2016 

 

As of December 31, 2015 

 

As of December 31, 2014 

  

Total Allowance 

 

Allowance amount as a percentage of loans in category 

 

Allowance amount as a percentage of total loans 

 

Allowance amount as a percentage of total allowances 

 

Total Allowance 

 

Allowance amount as a percentage of loans in category 

 

Allowance amount as a percentage of total loans 

 

Allowance amount as a percentage of total allowances 

 

Total Allowance 

 

Allowance amount as a percentage of loans in category 

 

Allowance amount as a percentage of total loans 

 

Allowance amount as a percentage of total allowances 

    Ch$ million   Ch$ million        Ch$ million
Commercial loans                                                            
Commercial loans   308,166    3.1%   1.1%   39.0%   305,465    3.4%   1.2%   40.1%   269,185    3.2%   1.2%   39.3%
Foreign trade loans   57,820    3.2%   0.2%   7.3%   67,104    3.1%   0.3%   8.8%   56,800    3.2%   0.2%   8.3%
Checking accounts debtors   9,648    5.4%       1.2%   9,869    4.2%       1.3%   10,009    3.8%       1.4%
Factoring transactions   5,407    1.8%       0.7%   5,955    2.2%       0.8%   4,868    1.5%       0.7%
Leasing transactions   23,139    1.6%   0.1%   2.9%   25,437    1.7%   0.1%   3.3%   23,734    1.6%   0.1%   3.5%
Other loans and accounts receivable   25,262    11.4%   0.1%   3.2%   17,371    12.1%   0.1%   2.3%   16,953    12.5%   0.1%   2.5%
Subtotals   429,442    3.1%   1.6%   54.3%   431,201    3.2%   1.7%   56.6%   381,549    3.1%   1.6%   55.7%
Residential mortgage loans                                                            
Loans with mortgage finance bonds   16                336    0.8%           353    0.6%       0.1%
Mortgage mutual loans   190    0.2%           848    0.6%       0.1%   552    0.5%       0.1%
Other mortgage mutual loans   56,803    0.7%   0.2%   7.2%   61,243    0.8%   0.2%   8.0%   47,839    0.7%   0.2%   7.0%
Subtotals   57,009    0.7%   0.2%   7.2%   62,427    0.8%   0.2%   8.1%   48,744    0.7%   0.2%   7.2%
Consumer loans                                                            
Installment consumer loans   249,545    9.2%   0.9%   31.6%   215,914    8.7%   0.9%   28.3%   201,931    8.7%   0.9%   29.5%
Credit card balances   41,063    2.8%   0.2%   5.2%   43,159    3.0%   0.2%   5.7%   44,050    3.2%   0.2%   6.4%
Consumer leasing contracts   72    1.4%           79    1.4%           80    1.5%        
Other consumer loans   9,339    3.4%       1.2%   8,355    3.5%       1.1%   7,962    3.5%       1.2%
Subtotals   300,019    6.7%   1.1%   37.9%   267,507    6.4%   1.1%   35.1%   254,023    6.5%   1.1%   37.1%
Totals loans to clients   786,470    2.9%   2.9%   99.5%   761,135    3.0%   3.0%   99.8%   648,316    3.11%   2.9%   100.0%
Interbank loans   4,135    1.5%       0.5%   1,166    10.7%       0.2%   1             
Totals   790,605    2.9%   2.9%   100.0%   762,301    3.0%   3.0%   100.0%   648,317    3.0%   2.9%   100.0%

 

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As of December 31, 2013 

 

As of December 31, 2012 

  

Total
Allowance 

 

Allowance amount
as a percentage of loans in category 

 

Allowance amount
as a percentage of total loans 

 

Allowance amount
as a percentage of total allowances 

 

Total
Allowance 

 

Allowance amount
as a percentage of loans in category 

 

Allowance amount
as a percentage of total loans 

 

Allowance amount
as a percentage of total allowances 

    Ch$ million                   Ch$ million                
Commercial loans                                        
Commercial loans    208,619    2.7%   1.0%   33.9%   199,841    2.7%   1.1%   36.3%
Foreign trade loans    53,005    2.9%   0.3%   8.6%   18,535    1.5%   0.1%   3.4%
Draft loans    8,376    3.0%       1.3%   3,033    1.5%       0.6%
Factoring transactions    5,054    1.6%       0.8%   3,683    1.1%       0.7%
Leasing transactions    19,177    1.4%   0.1%   3.1%   23,426    1.8%   0.1%   4.3%
Other loans and accounts receivable    12,316    10.4%   0.1%   2.0%   2,122    2.2%       0.4%
Subtotals    306,547    2.6%   1.5%   49.7%   250,640    2.4%   1.3%   45.7%
Residential mortgage loans                                         
Loans with letters of credit    470    0.7%       0.1%   493    0.5%       0.1%
Mortgage mutual loans    380    0.5%       0.1%   936    2.0%       0.2%
Other mortgage mutual loans    42,456    0.8%   0.2%   6.9%   34,561    0.7%   0.2%   6.3%
Subtotals    43,306    0.8%   0.2%   7.1%   35,990    0.7%   0.2%   6.6%
Consumer loans                                         
Installment consumer loans    221,723    10.2%   1.1%   36.1%   218,474    11.8%   1.2%   39.7%
Credit card balances    37,300    3.0%   0.2%   6.1%   38,719    3.7%   0.2%   7.0%
Consumer leasing contracts    68    2.0%           160    4.3%        
Other consumer loans    5,494    2.7%       0.9%   5,906    3.0%       1.0%
Subtotals    264,585    7.3%   1.3%   43.1%   263,259    8.5%   1.4%   47.7%
Totals loans to clients    614,438    2.9%   3.0%   99.9%   549,889    2.9%   2.9%   100.0%
Interbank    495    0.4%       0.1%   159    0.2%        
Totals    614,933    2.9%   3.0%   100.0%   550,048    2.9%   2.9%   100.0%

 

Based on information available regarding our borrowers, we believe that our loan loss allowances are sufficient to cover known potential losses and losses inherent in a loan portfolio of the size and nature of our loan portfolio.

 

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ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES

 

A.       Directors and Senior Management

 

Directors

 

We are managed by our Board of Directors, which, in accordance with our by-laws, consists of 11 directors and two alternates who are elected at our ordinary shareholders’ meetings. Except as noted below, the current members of the Board of Directors were elected by the shareholders in the ordinary shareholders’ meeting held on April 26, 2014. Members of the Board of Directors are elected for three-year terms. The term of the current Board members expires in April of 2017. On October 27, 2016, the SBIF authorized a reduction in the number of Board members from 11 to nine. This reduction and the corresponding amendment to Article 14 of the by-laws was approved by the shareholders at an Extraordinary Shareholders’ Meeting held on January 9, 2017 and will enter into force on the date of the Bank’s next Ordinary Shareholders’ Meeting, which will take place on April 26, 2017. The current principal and alternate directors will remain in office until such date.

 

Cumulative voting is permitted for the election of directors. The Board of Directors may appoint replacements to fill any vacancies that occur during periods between elections. If any member of the Board of Directors resigns before his or her term has ended, and no other alternate director is available to take the position at the next annual ordinary shareholders’ meeting a new replacing member will be elected. Our executive officers are appointed by the Board of Directors and hold office at its discretion. Scheduled meetings of the Board of Directors are held monthly. Extraordinary meetings can be held when called in one of three ways: by the Chairman of the Board of Directors, by three directors with the consent of the Chairman of the Board of Directors or by the majority of directors. None of the members of our Board of Directors has a service contract which entitles any Director to any benefits upon termination of employment with Santander-Chile.

 

Our current directors are as follows:

 

Directors Position Committees Term Expires
Vittorio Corbo Lioi President Asset and Liability Committee (President) Apr-17
Human Resources Committee (President)
Market Committee (President)
Strategy Committee (President)
Oscar von Chrismar Carvajal First Vice President Asset and Liability Committee (First Vice President) Apr-17
Human Resources Committee
Market Committee (First Vice President)
Integral Risk Committee (President)
Strategy Committee
Roberto Méndez Torres Second Vice President Integral Risk Committee (Second Vice President) Apr-17
Strategy Committee (Vice President)
Juan Pedro Santa Maria Perez Director Analysis and Resolution Committee (President) Apr-17
Integral Risk Committee (First Vice President)
Marco Colodro Hadjes Director Audit Committee (President) Apr-17
Asset and Liability Committee
Market Committee
Mauricio Larraín Garcés Director Audit Committee (Vice President and Financial Expert) Apr-17
Human Resources Committee (First Vice President)

 

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Roberto Zahler Mayanz Director Asset and Liability Committee (Second Vice President) Apr-17
Integral Risk Committee
Market Committee (Second Vice President)
Lucía Santa Cruz Sutil Director Strategy Committee Apr-17
Orlando Poblete Iturrate Director Audit Committee (Second Vice President) Apr-17
Andreu Plaza Director   Apr-17
Ana Dorrego Director   Apr-17
Blanca Bustamante Bravo Alternate Director Human Resources Committee Apr-17
Raimundo Monge Zegers Alternate Director Integral Risk Committee Apr-17
Strategy Committee (Secretary)
Asset and Liability Committee
Analysis and Resolution Committee (First Vice President)

 

Vittorio Corbo Lioi has been the President of the Board since April 2014. He is one of Chile's leading economists. From 2003 to 2007, Mr. Corbo was the President of Chile's Central Bank. Since the end of his tenure there, Mr. Corbo has been a Senior Research Associate at the Centro de Estudios Públicos (CEP), a local think tank. Mr. Corbo is also member of the boards of Banco Santander Mexico, CCU Chile and an economic consultant to several large corporations in Chile and abroad. He served in senior managerial positions at the World Bank in Washington, DC (1984-1991) and has been a professor of economics in Canada, the USA and Chile. Between 1991 and 1995, Mr. Corbo was an economic advisor to the Bank, and a member of its Board of Directors between 1995 and 2003. Between 2011 and 2014, he was a board member of Banco Santander SA in Spain. Mr. Corbo is the President of the Asset and Liability Committee, the Market Committee, the Strategy Committee and the Human Resources Committee. Mr. Corbo holds a commercial engineering degree (with highest distinction) from the Universidad de Chile and a Ph.D. in economics from MIT.

 

Oscar von Chrismar Carvajal became Vice President of the Board on January 1, 2010, after having served as the Chief Executive Officer of Santander-Chile since August 2003. Mr. Von Chrismar is First Vice President of the Asset and Liability Committee, the Market Committee and the Integral Risk Committee. He is also a member of the Human Resources Committee and the Strategy Committee. Prior to assuming the Chief Executive officer post, he was the Manager of Global Banking. Prior to the merger, he was the former Chief Executive Officer of Old Santander-Chile since September 1997, after being General Manager of Banco Santander-Peru since September 1995. Mr. von Chrismar is also a board member of Banco Santander Argentina and Banco Santander Peru. He is also the President of Santander Consumer Chile S.A. Prior to that, Mr. von Chrismar was the manager of the Finance Division of Santander-Chile, a position that he had held since joining Santander-Chile in 1990. Mr. von Chrismar holds an Engineering degree from the Universidad de Santiago de Chile.

 

Roberto Méndez Torres is Second Vice President of the Board. He is a former member of the Board of Old Santander-Chile, to which he was appointed in 1996. He is Second Vice President of the Integral Risk Committee and the Strategy Committee. He is a professor of Economics at Universidad Católica de Chile. He has been Advisor to Grupo Santander-Chile since 1989. Mr. Méndez is President and Director of Adimark Chile Gfk and on the Board of the Chilean and German Chamber of Commerce. He is also a Director of Enex S.A. and President of Universia Chile S.A. Mr. Méndez is also a member of the Council of Paz Ciudadana and was a former President of ICARE. He graduated with a degree in Business Administration from Universidad Católica de Chile, and holds an MBA and a Ph.D. from the Graduate School of Business at Stanford University.

 

Juan Pedro Santa María Pérez became a Director on July 24, 2012 after having served as Corporate Legal Director for Grupo Santander Chile and Legal Counsel for Santander-Chile. Mr. Santa María is President of the Analysis and Resolution Committee and First Vice President of the Integral Risk Committee. Mr. Santa María joined Santander-Chile in 2002, after the merger with Banco Santiago. Previous to that he was Legal Counsel for Banco Santiago and Banco O’Higgins. He has also been President of the Legal Committee of the Asociación de

 

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Bancos e Instituciones Financieras de Chile for over 20 years and President Pro-Tempore of the Financial Law Committee of the Federación Latinoamericana de Bancos (FELABAN). Mr. Santa María holds a degree in Law from the Pontificia Universidad Católica de Chile.

 

Marco Colodro Hadjes became a Director on April 19, 2005. Mr. Colodro is President of the Audit Committee and is a member of the Asset and Liability Committee and the Market Committee. He is a director of the Board of Telefónica Chile and a former director of Codelco. He is the former chairman of TVN (National Television Network) and the former vice chairman of Banco del Estado de Chile (State Bank of Chile). Prior to that, he was Foreign Trade Director at the Central Bank of Chile. Mr. Colodro holds a degree in Economics from the Universidad de Chile, and has done post-graduate studies at the École Pratique des Hautes Etudes of the University of Paris.

 

Mauricio Larraín Garcés became a Director in April 2014. Previously, he was President of the Board of Santander-Chile for more than two decades. He is Vice President and Financial Expert of the Audit Committee. He is also First Vice President of the Human Resources Committee. He is a member of the board of the Institute for Religious Works (IOR) in the Vatican City State. Mr. Larraín began working at Santander-Chile in 1989. Previously, he was Deputy Superintendent of Banks, Manager of External Debt at the Central Bank of Chile, and Senior Finance Specialist at the World Bank, in Washington D.C. He holds law degrees from the Pontifical Catholic University of Chile and from Harvard University.

 

Roberto Zahler became a Director in 2002. He is Second Vice President of the Asset and Liability Committee and the Market Committee. He is also a member of the Integral Risk Committee. Currently, he is President of the consultancy firm Zahler & Co. and serves as a consultant for the World Bank, IADB, IMF and BIS. He has been a member of the High Level Consulting Group to the IADB President, of LASFRC (Latin-American Shadow Financial Regulatory Committee) and of the Emerging Market Economies Eminent Persons Group (EMEEPG). He was President of the Board of Siemens-Chile and Director of Air Liquide-Chile and of Banco Santiago. He was also a visiting professor at the IMF’s Research Department. Between 1991 and 1996, he was President of the Central Bank of Chile and Vice President from 1989 to 1991. Prior to that he served as Chief Regional Adviser in Monetary and Financial Policy of the UN Economic Commission for Latin America and the Caribbean and was Lecturer and Researcher at the University of Chile’s School of Economics. Mr. Zahler has provided technical assistance to the central banks and finance ministries of Indonesia, Kosovo and most countries in Latin America. Mr. Zahler holds a degree in Economics from the Universidad de Chile and a Masters in Economics from the University of Chicago.

 

Lucía Santa Cruz Sutil became a Director on August 19, 2003. Ms. Santa Cruz is a member of the Strategy Committee. Ms. Santa Cruz holds a degree in History from King’s College, London University and an M.Phil. in History from Oxford University and holds a Doctor Honoris Causa degree from King’s College. She is a Member of the Board of the Universidad Adolfo Ibañez. Ms. Santa Cruz is also Second Vice President of Universia Chile S.A. She is Vice President of the Board of Compañía de Seguros Generales y de Vida La Chilena Consolidada,(Zurich) and member of the Advisory Board of Nestle Chile She sits on the board of non-profit cultural organizations and is also a member of the Self-Regulation Committee for Insurance Companies in Chile. She is a Member of the Academy of Social, Political and Moral Sciences of the Institute of Chile.

 

Orlando Poblete Iturrate became a Director on April 25, 2015. He is the Second Vice President of the Audit Committee. He previously became an Alternate Director on April 22, 2014. Since 1991 Mr. Poblete has been a professor at the Universidad Los Andes. Between 1997 and 2004, he was Dean of the Law School and since 2014 he has been Chancellor of the university. He is also a partner at the law firm Orlando Poblete & Company. He is an arbitrator of the Centro de Arbitraje y Mediación de la Cámara de Comercio de Santiago. Between 2012 and 2014, he was Chairman of Clínica Universidad de los Andes and is currently Member of the Board of the University of the Andes. He has also been a Professor of Law at the University of Chile. Mr. Poblete is a lawyer from the University of Chile and has masters from the same university.

 

Andreu Plaza became a Director in March 2016. Mr. Plaza was appointed as senior executive vice president of T&O Division in Santander Group on January 2015. He is Santander’s Chief Technology Officer and a member of the management committee. Mr. Plaza joined the Group in 2012 as the technology and operations director for the retail and business banking segments in Santander UK.  He has been a senior executive vice president and member of the Management Committee of Caixa Catalunya since 1998 and has also been a member of the boards of Servired and Aula Escola Europea.  He has a graduate in Mathematics from the Universitat Autónoma de Barcelona. He also has various Master’s degrees in Finance and Banking from Stanford University, Insead, The Wharton School and ESADE.

 

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Ana Dorrego became a Director in March 2016. She has been working at the Santander Group in the Financial Planning and Corporate Development department for the last 11 years, coordinating the Group planning processes. In this role, she has also been involved in following up on the different Santander Group units and projects. She is a board member of Santander Securities Services, S.A. She has also participated in acquisition, sales and integration projects during her time with the Group (ABN, SEB, US, Banesto, Spanish Cajas and Banif Portugal among others) and spent two years as e-business development director for the Santander Group. Prior to joining the Santander Group, she was a corporate clients relationship manager and commercial director of transactional banking at Bankinter. Ms. Dorrego holds a degree in Business Administration from the University Pontificia de Comillas ICAI-ICADE, a degree in General Management from IESE and Master’s degrees in Business Administration from Deusto University – Bilbao, Spain, and Adolfo Ibañez, Miami/Chile.

 

Blanca Bustamante Bravo became an Alternate Director on April 28, 2015. She is also a member of the Human Resources Committee. In 1998, she joined Viña Concha y Toro as Head of Investor Relations with the responsibility to present business strategy and achievements of the company to the financial community, a position held until 2010. In parallel, in May 2001, she became Assistant Manager of Corporate Communications. In 2011, she became responsible for relations with the community in order to focus the efforts of the company in projects that create value for the community and the environment in which it operates. Since 2013, she is a director in the Center for Research & Innovation for Concha y Toro which focus is to develop technology and knowledge transfer to the industry. She holds a degree in business from Universidad Católica de Chile.

 

Raimundo Monge Zegers became an Alternate Director on April 29, 2003. Mr. Monge is Corporate Director of Strategic Planning for Grupo Santander-Chile and is CEO of Santander Chile Holding S.A. He is First Vice President of the Analysis and Resolution Committee. He is also currently a member of the Asset and Liability Committee, the Integral Risk Committee and Secretary of the Strategy Committee. He is also President of Santander Inversiones S.A., Santander S.A. Sociedad Securitizadora and Santander Factoring S.A. He is a Director of Teatinos Siglo XXI Inversiones S.A. and Bansa Santander S.A. Mr. Monge has a degree in business from the Universidad Católica de Chile and an MBA from the University of California, Los Angeles.

 

 

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Senior Management

 

Our senior managers are as follows:

 

Senior Manager 

Position 

Date Appointed 

Claudio Melandri Chief Executive Officer Jan-10
Miguel Mata Deputy General Manager Apr-16
Matias Sanchez Director of Retail Banking Mar-16
Fred Meller Director of Global Corporate Banking Jan-11
Jose Manuel Manzano Director of Middle-Market Apr-16
Emiliano Muratore Chief Financial Officer Apr-16
Guillermo Sabater Financial Controller Nov-15
Franco Rizza Director of Risk Feb-14
Ricardo Bartel Director of Technology and Operations Oct-14
María Eugenia de la Fuente Director of Human Resources Jun-15
Sergio Avila Director of Administration and Costs Mar-15
Felipe Contreras Chief Accounting Officer Oct-08
Carlos Volante Manager Clients and Service Quality Jan-14
Cristian Florence General Counsel Sep-12
Ricardo Martinez Director of Internal Audit Sep-13

 

Claudio Melandri became the Chief Executive Officer of Santander-Chile in January 2010 after being our Retail Banking Manager since February 21, 2008. He started his career at Santander-Chile in 1990 becoming a regional branch manager and manager of Santander-Chile’s branch network. He was also a Vice President at Banco Santander Venezuela from 2005 to 2007. In 2007, he was appointed Corporate Director of Human Resources of Banco Santander-Chile. He is also President of Santander Chile Holding S.A. and First Vice President of Universia Chile S.A. Mr. Melandri has a Business Degree from the Universidad Tecnológica Metropolitana in Chile and holds a Master’s degree in Business Administration from the Universidad Adolfo Ibañez.

 

Miguel Mata became the Deputy General Manager for Santander-Chile on April 2016. Previously, between 2011 and 2016, he was the Chief Financial Officer for Santander-Chile. Prior to that, he served in several staff positions related to business strategy. Mr. Mata joined Santander-Chile in 2002 when Santander-Chile merged with Banco Santiago. Previously he was the Financial Controller of Banco Santiago. Mr. Mata is also a Director of Santander Consumer Chile S.A., Teatinos Siglo XXI Inversiones S.A. and Santander Chile Holding S.A. He has been working in the banking industry since 1990, when he joined Banco O’Higgins, one of the predecessors to Banco Santiago. Mr. Mata holds a degree in Engineering from Universidad Católica de Chile.

 

Matias Sanchez became Director of Retail Banking in March 2016. He previously was the manager of Corporations and Institutions between 2013 and 2016. He joined Banco Santander in 1997 and had different roles there, including agent, Regional Manager, Deputy General Manager in Retail and General Manager in Retail Banking. Mr. Sanchez holds a Master’s degree in Business Administration from the Instituto de Empresa in Spain and various other post graduate degrees.

 

Fred Meller became Manager of Global Banking & Market in January 2011. Prior to that he was Manager of Market Making for Europe and UK for Santander Spain. Previously, he served as Treasurer for Santander-Chile since 2008. He was also General Manager of Santander Agente de Valores and Director of Deposito Central de Valores Chile. Mr. Meller is also President of Santander S.A. Corredores de Bolsa. Mr. Meller holds a degree in Business Administration from Universidad Central de Chile.

 

José Manuel Manzano became Director of our Middle-market banking segment on April 1, 2016. Prior to that he was Manager of Personnel, Organization and Cost of Banco Santander Chile since September 2013. Prior to that he was Corporate Director of Risk since July 2007, and Corporate Director of Human Resources for Santander-Chile since October 31, 2002. Previously, he served as Manager of Human Resources for Old Santander-Chile since 1999. He was also General Manager of Santander Fund Management and Managing Director of Bancassurance. He is also a Director of Teatinos Siglo XXI Inversiones S.A., Santander Chile Holding S.A., Santander Asset Management S.A. and Santander Factoring S.A. Mr. Manzano holds an MBA and a degree in Business from Universidad Católica de Chile.

 

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Emiliano Muratore became the Chief Financial Officer for Santander-Chile in April 2016. Before becoming Chief Financial Officer, he spent eight years as the head of the ALM division. Prior to joining Santander Chile in 2006, Mr. Muratore worked at Santander’s headquarters in Madrid for 4 years and, before that, at Santander’s unit in Argentina for 4 years. He is also a Director of Santander Chile Holding S.A. and Santander Factoring S.A. Mr. Muratore has a degree in business from Universidad Católica Argentina in Buenos Aires and a postgraduate degree in finance from Universidad de San Andrés in Buenos Aires. Currently, he is chairman of the Finance Committee at Chile’s Banking Association.

 

Guillermo Sabater was appointed Financial Controller of Santander-Chile in November 2015 and has been working for Santander Spain and its affiliates for 23 years. Between 2009 and 2015, he was Executive Vice President of Santander in the US and CFO and Controller of Sovereign Bank and Santander Holdings USA. Before that, he was the financial controller of Banco Santander Chile, between 2006 and 2009. He also served for three years between 2003-2006 as controller of the Consumer Finance Division in Madrid, Spain. Mr. Sabater also served as an internal auditor during his first ten years at the company, He has a degree in Economics and Business Administration from the University College of Financial Studies at the University Complutense de Madrid and a completed the Program in Executive Development at the Institute of Business and various courses and participation in institutions such as Babson College and Boston University.

 

Franco Rizza became Director of Risk in February 2014. Previously, he was director of Global Collections & Recoveries in the Madrid headquarters, covering all countries where the Group has commercial banking activities outside Spain. Between 2010 and 2013 he was the Chief Risk Officer of Banco Santander Risk in Uruguay. He joined the Group in 1989 in Argentina, where he held various positions, including Regional Manager, Product Manager and Retail Credit Risk Manager. He is also a Director of Santander Consumer Chile S.A. He has completed studies in Business and Risk Management in Argentina and Spain

 

Ricardo Bartel became the Director of Technology and operation in October 2014. His also Director of Isban Chile S.A. Prior to working at the Bank he held various positions at CCU including CFO between 1990 and 2005. He was also CFO at Madeco form 2005-2006. Between 2007 and 2008 he was Commercial Manager of Viña San Pedro. Following that he was CEO of Empresas Relsa S.A. and CEO of Laboratorio Mayer between 2011 and 2013. Mr. Bartel has a Civil Engineer degree from Universidad Católica de Chile with an MBA from the same university.

 

María Eugenia de la Fuente became Director of Human Resources in June 2015. Prior to working for the Bank, Ms. de la Fuente held different posts in strategic planning and human resources. From 2010 to 2013, she was Undersecretary to the Chief of Staff of President Piñera. From 2013 to 2015, she was Managing Director of Transparency and Client Services for Corpbanca and Chief Executive Officer of BZD Consultores. Ms. de la Fuente has a degree in business from the Universidad de Chile and a Master’s degree in tax planning from the Universidad Adolfo Ibañez.

 

Sergio Avila is Director of Administration and Costs. He has worked at Banco Santander Chile for 19 years in Asset Management, Corporate Finance, Retail banking, Middle-market and Risks. Mr. Avila is also Director of Santander S.A. Sociedad Securitizadora. Mr. Avila has a BS and MS in Civil Engineering Degree from the Universidad Católica.

 

Felipe Contreras was named Chief Accounting Officer of Santander-Chile in October 2008. He has worked for 14 years in our Accounting Department, most recently as Manager of the Consolidation and Reporting Departments, overseeing our Chilean, U.S. and Spanish GAAP reporting requirements. He is also General Manager of Gesban Santander Servicios Profesionales Contables Ltda. Mr. Contreras is a Public Accountant from the University of Santiago and is currently a candidate to a Masters in Advanced Finance from the Universidad Adolfo Ibáñez.

 

Carlos Volante became manager Customers and Quality of Banco Santander in January 2014. Joined the Santander Group in 1990, holding various responsibilities within the organization, including manager of the Branch Network, general manager of the Administrator of Mutual Funds , Mortgage manager, Product Manager and Monitoring Commercial Banking. He was also Executive Vice President of Commercial Banking at Banco de Venezuela Grupo Santander. Between 2012 and 2013 he was general manager of the Company Corona Commercial Credit Group. Carlos Volante is an accountant auditor from the University of Talca and attended the DPA and an MBA from the Universidad Adolfo Ibáñez and participates in the PADE program at the Universidad de los Andes.

 

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Cristian Florence is our General Counsel, a position he has held since September 2012. Prior to that he served as Chief Lawyer at Santander-Chile. Mr. Florence joined Santander-Chile in 2002 when Santander-Chile merged with Banco Santiago. He started working in the banking industry in 1991, when he joined Centrobanco, a predecessor of Banco O’Higgins and Banco Santiago serving at several positions in the law departments. Mr. Florence is also a Director of Administrador Financiero de Transantiago S.A. and Santander Asset Management S.A. Administradora General de Fondos. He has a degree in Law from the Universidad Gabriela Mistral and a Master of Laws (LLM) from the same university.

 

Ricardo Martinez is the Corporate Director of Internal Auditing, a position he has held since September 1, 2013. He has worked for Grupo Santander since 1998 in different position in Internal Audit Division, including the Internal Director of Accounting, Audit Manager of Insurance and Asset Management and head auditor of Financial Risks. Mr. Martinez has a degree in Economic Sciences and Business from the Universidad Complutense of Madrid and a Master’s in Business from the CIFF of the Universidad de Alcalá de Henares.

 

B.       Compensation

 

For the year ended December 31, 2016, the aggregate amount of compensation paid by us to all of our directors, executive officers and management members was Ch$37,328 million (U.S.$56.1 million). For the year ended December 31, 2016, the aggregate amount of compensation paid by us to all of our directors was Ch$1,269 million (U.S.$1.9 million), in monthly stipends. At our annual shareholder meeting held on April 26, 2016, shareholders were asked to approve a monthly stipend per director of UF 230 (U.S.$9,099), UF 460 (U.S.$18,198) for the Chairman of the Board and UF 345 (U.S.$13,649) for the Vice-Chairman of the Board. This amount will be increased by UF 30 per month (U.S.$1,187) if a Board member is named to one or more committees of the Board. The additional amount will be UF 60 (U.S.$2,374) for the President of a committee and UF 45 (U.S.$1,780) for the Vice President of a committee. Shareholders were also asked to approve the Audit Committee 2015 remuneration for its members. The remuneration is a 33% additional compensation over the monthly stipend received by a regular board member, or UF 77 (U.S.$3,046), totaling a monthly stipend of UF 307 (U.S.$12,145). This remuneration is in line with the new Chilean corporate governance law. In addition, we pay certain directors professional service fees for the consulting services that they render to us in their fields of expertise. For the year ended December 31, 2016, payments to our directors for consulting fees totaled Ch$703 million (U.S.$1.1 million).

 

Santander-Chile and its affiliates have designed variable-compensation plans for their employees, based on performance targets and objectives, the achievement of which are evaluated and paid on a quarterly and/or annual basis.

 

Share-based compensation (settled in cash)

 

In accordance with IFRS 2, equity instruments settled in cash are allocated to executives of the Bank and its Subsidiaries as a form of compensation for their services. The Bank measures the services received and the cash obligation at fair value at the end of each reporting period and on the settlement date, recognizing any change in fair value in the income statement for the period. For the years ended December 31, 2016, 2015 and 2014, share-based compensation amounted to Ch$331 million, Ch$66 million and Ch$310 million.

 

Pension Plans:

 

The Bank has an additional benefit available to its principal executives, consisting of a pension plan. The purpose of the pension plan is to endow the executives with funds for a better supplementary pension upon their retirement. For this purpose, the Bank will match the voluntary contributions made by the beneficiaries for their future pensions with an equivalent contribution. The executives will be entitled to receive this benefit only when they fulfill the following conditions:

 

a.Aimed at the Bank’s management.

 

b.The general requisite to apply for this benefit is that the employee must be carrying out his/her duties when turning 60 years old.

 

c.The Bank will create a pension fund, with life insurance, for each beneficiary in the plan. Periodic contributions into this fund are made by the manager and matched by the Bank.

 

d.The Bank will be responsible for granting the benefits directly.

 

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If the working relationship between the manager and the respective company ends, before s/he fulfills the abovementioned requirements, s/he will have no rights under this benefit plan. In the event of the executive’s death or total or partial disability, s/he will be entitled to receive this benefit. The Bank will make contributions to this benefit plan on the basis of mixed collective insurance policies whose beneficiary is the Bank. The life insurance company with whom such policies are executed is not an entity linked or related to the Bank or any other Santander Group company. Plan Assets owned by the Bank at the end of 2016 totaled Ch$6,612 million (Ch$6,945 million in 2015).The amount of the defined benefit plans has been quantified by the Bank, based on the following criteria:

 

Calculation method:

 

Use of the projected unit credit method which considers each working year as generating an additional amount of rights over benefits and values each unit separately. It is calculated based primarily on fund contributions, as well as other factors such as the legal annual pension limit, seniority, age and yearly income for each unit valued individually.

 

Actuarial hypothesis assumptions:

 

Actuarial assumptions with respect to demographic and financial variables are non-biased and mutually compatible with each other. The most significant actuarial hypotheses considered in the calculations were:

 

   Plans  
post-employment
  Plans
post-employment
   2016  2015
       
Mortality chart    RV-2014/CB-2014    RV-2009 
Termination of contract rates    5.0%   5.0%
Impairment chart    PDT 1985    PDT 1985 

 

Assets related to the pension fund contributed by the Bank into the Seguros Euroamérica insurance company with respect to defined benefit plans are presented as net of associated commitments. Activity for post-employment benefits is as follows:

 

   As of December 31,
   2016  2015
   Ch$mn
Plan assets    6,612    6,945 
Commitments for defined-benefit plans           
For active personnel    (4,975)   (5,070)
Incurred by inactive personnel         
Minus:          
Unrealized actuarial (gain) losses         
Balances at year end    1,637    1,875 

 

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Year’s cash flow for post-employment benefits is as follows:

 

   For the years ended December 31,
   2016  2015  2014
   Ch$mn
          
a) Fair value of plan assets         
Opening balance    6,945    6,495    5,171 
Expected yield of insurance contracts    335    432    446 
Employer contributions    886    18    878 
Actuarial (gain) losses             
Premiums paid             
Benefits paid   (1,554)        
Fair value of plan assets at year end    6,612    6,945    6,495 
b) Present value of obligations               
Present value of obligations opening balance    (5,070)   (4,639)   (3,244)
Net incorporation of Group companies             
Service cost    150    (431)   (1,395)
Interest cost             
Curtailment/settlement effect             
Benefits paid             
Past service cost             
Actuarial (gain) losses            
Other   (55)        
Present value of obligations at year end    (4,975)   (5,070)   (4,639)
Net balance at year end    1,637    1,875    1,856 

 

Plan expected profit:

 

 

As of December 31, 

 

2016 

2015 

2014 

Type of expected yield from the plan’s assets UF + 2.50% annual UF + 2.50% annual UF + 2.50% annual
Type of yield expected from the reimbursement rights UF + 2.50% annual UF + 2.50% annual UF + 2.50% annual

 

Plan associated expenses:

 

   For the years ended December 31,
   2016  2015  2014
   (in millions of Ch$)
          
Current period service expenses    (150)   431    1,395 
Interest cost             
Expected yield from plan’s assets    (335)   (432)   (446)
Expected yield of insurance contracts linked to the Plan:             
Extraordinary allocations             
Actuarial (gain)/ losses recorded in the period             
Past service cost             
Other             
Total    (485)   (1)   949 

 

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C.     Board Practices

 

Audit Committee

 

Board member 

Position in Committee 

Marco Colodro President
Mauricio Larraín Garcés First Vice President and Financial Expert
Orlando Poblete Second Vice President

 

The Audit Committee (Comité de Directores y Auditoría) is comprised of three members of the Board of Directors. The Committee Secretary is Juan Pedro Santa María. The Chief Executive Officer, General Auditor and other persons from the Bank can be invited to the meetings if necessary and are present on specific matters. This Committee’s primary responsibility is to support the Board of Directors in the continuous improvement of our system of internal controls, which includes reviewing the work of both the independent registered public accounting firm and the Internal Audit Department. The committee is also responsible for analyzing observations made by regulatory entities of the Chilean financial system about us and for recommending measures to be taken by our management in response. The external auditors are recommended by this committee to our Board of Directors and appointed by our shareholders at the annual shareholders’ meeting.

 

This committee is also responsible for:

 

·Presenting to the Board of Directors a list of candidates for the selection of an external auditor.

 

·Presenting to the Board of Directors a list of candidates for the selection of rating agencies.

 

·Overseeing and analyzing the results of the external audit and the internal reviews.

 

·Coordinating the activities of internal auditing with the external auditors’ review.

 

·Overseeing and coordinating the Bank’s operational risk policies.

 

·Analyzing the interim and year-end financial statements and reporting the results to the Board of Directors.

 

·Analyzing the external auditors’ reports and their content, procedures and scope.

 

·Analyzing the rating agencies’ reports and their content, procedures and scope.

 

·Obtaining information regarding the effectiveness and reliability of the internal control systems and procedures.

 

·Analyzing the information systems performance, and its sufficiency, reliability and use in connection with decision-making processes.

 

·Obtaining information regarding compliance with the company’s policies regarding the due observance of laws, regulations and internal rules to which the company is subject.

 

·Investigating suspicious and fraudulent activities (including conflicts).

 

·Analyzing the reports of the inspection visits, instructions and presentations of the SBIF.

 

·Obtaining information, analyzing and verifying the company’s compliance with the annual audit program prepared by the internal audit department.

 

·Informing the Board of Directors of accounting changes and their effects.

 

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Integral Risk Committee

 

Board member 

Position in Committee 

Oscar von Chrismar President
Juan Pedro Santa María First Vice President
Roberto Méndez Second Vice President
Raimundo Monge Member
Roberto Zahler Member

 

The Integral Risk Committee is responsible for reviewing and monitoring all risks that may affect us, including reputational risk, allowing for integral risk management. This committee serves as the governing body through which the Board supervises all risk functions and defines risk appetite levels. The committee also evaluates the adequacy of our systems for measurement and control of risks. This Committee includes the Vice President of the Board and five Board members.

 

Asset and Liability Committee (ALCO)

 

The ALCO includes the President of the Board and four additional members of the Board, the Deputy Chief Executive Officer, the Chief Financial Officer, the Corporate Financial Controller, the Manager of the Financial Management Division, the Manager of Market Risk, the Manager of the Treasury Division, and other senior members of management. The ALCO meets monthly. All limits reviewed by the ALCO are measured and prepared by the Market Risk Department. The non-Board members of the ALCO meet weekly to review liquidity, funding, capital and market risk related matters.

 

Board member 

Position in Committee 

Vittorio Corbo President
Oscar von Chrismar First Vice President
Roberto Zahler Second Vice President
Marco Colodro Member
Raimundo Monge Member

 

The main functions of the ALCO are:

 

·Making the most important decisions regarding inflation risk and exposure, interest rate risk, funding, capital and liquidity levels.

 

·Review of the evolution of the most relevant local and international markets and monetary policies.

 

Analysis and Prevention of Money Laundering Committee

 

Board member 

Position in Committee 

Juan Pedro Santa María President
Raimundo Monge First Vice President

 

This Committee defines and controls the policies regarding anti-money laundering and financing of terrorism in line with Chilean law and Grupo Santander’s governance. In addition to Mr. Santa María and Raimundo Monge, members of senior management from the legal, risk and compliance departments, among others, are also a part of this committee. This committee also interacts with government agencies involved in the analysis and prevention of money laundering and financing of terrorism.

 

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Market Committee

 

The Market Committee includes the Vice President of the Board, three additional members of the Board, the Chief Executive Officer, the Deputy Chief Executive Officer, the Director of Global Corporate Banking, the Chief Financial Officer, the Manager of the Treasury Division, the Manager of the Financial Management Division, the Manager of Market Risk, the Financial Controller and other senior members of management.

 

Board member 

Position in Committee 

Vittorio Corbo President
Oscar von Chrismar Vice President
Roberto Zahler Second Vice President
Marco Colodro Member

 

The Market Committee is responsible for:

 

·Establishing a strategy for the Bank’s trading portfolio and risk appetite.

 

·Net exposure to foreign currency

 

·Establishing the Bank’s policies, procedures and limits with respect to its trading portfolio. The Bank’s Market Risk Department measures all risks and limits and reports these to the Market Committee.

 

·Reviewing the evolution of the most relevant local and international markets and monetary policies.

 

Strategy Committee

 

Board member 

Position in Committee 

Vittorio Corbo President
Roberto Méndez Vice President
Oscar von Chrismar Member
Lucía Santa Cruz Member
Raimundo Monge Secretary

 

The Strategy Committee is in charge of our strategic planning process and follow-up, as well as the identification of broad business opportunities and threats. The Strategy Committee is comprised of the President of the Board and four additional Board members.

 

Human Resources Committee

 

Board member 

Position in Committee 

Vittorio Corbo President
Mauricio Larraín Vice President
Oscar Von-Chrismar Member
Blanca Bustamante Member

 

The Human Resources Committee is led by the President of the Board and three additional Board members, the Chief Executive Officer, the Deputy Chief Executive Officer, the Director of Human Resources and other senior managers. The Human Resources Committee dictates guidelines on management and general human resources policies, including incentive, selection, promotion and training policies.

 

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D.    Employees

 

As of December 31, 2016, on a consolidated basis, we had 11,354 employees, 10,865 of whom were bank employees, 86 of whom were employees of our subsidiaries and 656 were employees of entities controlled by the Bank through other considerations. We have traditionally enjoyed good relations with our employees and their unions. Of the total headcount of us and our subsidiaries, 8,192 or 72.2% were unionized. In May 2014, a new collective bargaining agreement was signed with the main unions, which went into effect on January 1, 2014 and which expires on December 31, 2018, though it may be renegotiated ahead of schedule with the consent of management and the union. We generally apply the terms of our collective bargaining agreement to unionized and non-unionized employees. The following chart summarizes the number of employees employed by the bank.

 

Employees 

As of
December 31, 2016 

Executives 710
Professionals 5,878
Administrative 4,766
Total 11,354

 

E.     Share Ownership

 

No director or executive officer owns more than 1% of the shares of Santander-Chile. As of December 31, 2016, the following directors and executives held shares in Santander-Chile:

 

Directors 

Shares 

Mauricio Larraín Garcés 568

 

Santander-Chile currently does not have any arrangements for involving employees in its capital and there is no systematic arrangement for grant of options or shares or securities of Santander-Chile to them. In accordance with IFRS 2, equity instruments settled in cash are allocated to executives of the Bank and its Subsidiaries as a form of compensation for their services. See “Item 6—Directors, Senior Management and Employees—Compensation” for more details.

 

ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS

 

A.    Major Shareholders

 

Santander Spain controls Santander-Chile through its holdings in Teatinos Siglo XXI Inversiones S.A. and Santander Chile Holding S.A., which are controlled subsidiaries. Santander Spain has control over 67.18% of our shares and actual participation, excluding non-controlling shareholders that participate in Santander Chile Holding, S.A. of 67.06%.

 

Shareholder  Number of Shares  Percentage
Santander Chile Holding S.A.    66,822,519,695    35.46%
Teatinos Siglo XXI Inversiones S.A.    59,770,481,573    31.72%

 

Santander Spain is in a position to cause the election of a majority of the members of Santander-Chile’s Board of Directors, to determine its dividend and other policies and to determine substantially all matters to be decided by a vote of shareholders. Santander Spain holds ordinary shares to which no special voting rights are attached. Each share represents one vote and there are no shareholders with different voting rights.

 

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The number of outstanding shares of Santander-Chile (of which there is only one class, being ordinary shares) at December 31, 2016, was 188,446,126,794 shares, without par value. Santander-Chile’s shares are listed for trading on the Chilean Stock Exchanges and on the NYSE in connection with the registration of ADRs. The market capitalization of Santander-Chile at December 31, 2016 on the Chilean stock exchange was Ch$7,021,503 million and U.S.$10,303 million on the NYSE. At December 31, 2016, Santander-Chile had 11,592 holders of its ordinary shares registered in Chile, including The Bank of New York Mellon as Depositary (the “Depositary”) of Santander-Chile’s ADS Program. Other than the information disclosed in this section, there are no arrangements to the knowledge of Santander-Chile that can result in a change of control of Santander-Chile. As of December 31, 2016, there were a total of 25 ADR holders on record. Since some of these ADRs are held by nominees, the number of record holders may not be representative of the number of beneficial holders.

 

B.       Related Party Transactions

 

The Chilean Companies Law requires that our transactions with related parties be on a market basis, that is, on similar terms to those customarily prevailing in the market. We are required to compare the terms of any such transaction to those prevailing in the market at the date the transaction is to be entered into. Directors of companies that violate this provision are liable for losses resulting from such violations.

 

In addition, under the Chilean Companies Law, a company may not enter into a transaction with related parties unless (i) such transaction has received the prior approval of the company’s Board of Directors and (ii) the terms of such transaction are consistent with the terms of transactions of a similar type prevailing in the market. If it is not possible to make this determination, the board may appoint two independent evaluators. The evaluators’ final conclusions must be made available to shareholders and directors for a period of 20 business days, during which shareholders representing 5% or more of the issued voting shares may request the board to call a shareholders’ meeting to resolve the matter, with the agreement of two thirds of the issued voting shares required for approval. For purposes of this regulation, the law considers the amount of a proposed transaction to be material if (1) it exceeds 1% of the company’s net worth (provided that it also exceeds 20,000UF) or (2) it exceeds 20,000 UF.

 

All resolutions approving such transactions must be reported to the company’s shareholders at the annual shareholders’ meeting. Violations of this provision may result in administrative or civil liability to the corporation, the shareholders and/or third parties who suffer losses as a result of such violation.

 

Loans granted to related parties

 

In addition to subsidiaries and associated entities, the Bank’s “related parties” include the “key personnel” of the Bank’s executive staff (members of the Bank’s Board of Directors and the Senior Managers of Santander-Chile and its subsidiaries, together with their close relatives), as well as the entities over which the key personnel could exert significant influence or control.

 

 

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he Bank also considers the companies that are part of the Santander Group worldwide as related parties, given that all of them have a common parent, i.e., Santander Spain. The table below shows loans and accounts receivable and contingent loans with related parties. For more information, see “Note 34—Transactions with Related Parties” in our Audited Consolidated Financial Statements appearing elsewhere in this Annual Report:

 

   As of December 31,
   2016  2015  2014
   Companies of the Group  Associated companies  Key personnel  Other  Companies of the Group  Associated companies  Key personnel  Other  Companies of the Group  Associated companies  Key personnel  Other
   Ch$mn  Ch$mn  Ch$mn  Ch$mn  Ch$mn  Ch$mn  Ch$mn  Ch$mn  Ch$mn  Ch$mn  Ch$mn  Ch$mn
                                     
Commercial loans   81,687    533    4,595    7,100    77,388    565    5,841    1,963    51,647    9,614    4,348    8,743 
Mortgage loans           18,046                20,559                19,941     
Consumer loans           3,783                2,274                2,798     
Loans and accounts receivables   81,687    533    26,424    7,100    77,388    565    28,674    1,963    51,647    9,614    27,087    8,743 
Allowance for loan losses   (209)   (35)   (87)   (34)   (213)   (190)   (62)   (20)   (139)   (10)   (46)   (18)
Net loans   81,478    498    26,337    7,066    77,175    375    28,612    1,943    51,508    9,604    27,041    8,725 
Guarantees   434,414        23,636    5,486    499,803        25,493    1,632    409,339        23,896    1,289 
Contingent loans                                                            
Personal guarantees                                                
Letters of credit   27,268                29,275                16,000            11 
Guarantees   437,101                510,309            2    432,802            762 
Contingent loans   464,369                539,584            2    448,802            773 
Allowance for contingent loans   (5)               (11)               (12)            
Net contingent loans   464,364                539,573            2    448,790            773 

 

Loans (a) were made in the ordinary course of business, (b) were made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with unrelated persons, and (c) did not involve more than the normal collection risk.

 

 

 

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Under the Chilean General Banking Law, Chilean banks are subject to certain lending limits, including the following:

 

·a bank may not extend to any person or legal entity (or group of related entities), directly or indirectly, unsecured loans in an amount that exceeds 5.0% of the bank’s regulatory capital, or secured loans in an amount that exceeds 25.0% of its regulatory capital. In the case of foreign export trade finance, this 5.0% ceiling is raised to: 10.0% for unsecured financing, 30.0% for secured financing. This ceiling is raised to 15.0% for loans granted to finance public works under the concessions system contemplated in the Decree with Force of Law 164 of 1991, of the Ministry of Public Works, provided that either the loan is secured on the concession, or the loan is granted as part of a loan syndication;

 

·a bank may not grant loans bearing more favorable terms than those generally offered by banks in the same community to any entity (or group of related entities) that is directly or indirectly related to its owners or management;

 

·a bank may not extend loans to another bank in an aggregate amount exceeding 30.0% of its regulatory capital;

 

·a bank may not directly or indirectly grant a loan, the purpose of which is to allow the borrower to acquire shares in the lending bank;

 

·a bank may not lend, directly or indirectly, to a Director or any other person who has the power to act on behalf of the bank, or to certain related parties; and

 

·a bank may not grant loans to individuals or legal entities involved in the ownership or management of the bank, whether directly or indirectly (including holders of 1.0% or more of its shares), on more favorable terms than those generally offered to non-related parties. Loans may not be extended to senior executives and to companies in which such individuals have a participation of 5.0% or more of the equity or net earnings in such companies. The aggregate amount of loans to related parties may not exceed a bank’s regulatory capital.

 

We are not aware of any loans to any related parties exceeding the above lending limits.

 

The largest related party loan, which matures on July 30, 2018 and has an annual rate of U.S.$ + 0.0%, by the Bank is to Banco Santander Spain S.A., corresponds to a performance bond (boleta de garantía) and had an amount outstanding of U.S.$28 million, which was guaranteeing a corporate foreign trade loan. As this operation is a contingent loan, the Bank charges a fee which was 0.25% per quarter.

 

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The table below shows all other assets and liabilities with related parties:

 

   As of December 31,
   2016  2015  2014
   Companies of the Group  Associated companies  Key personnel  Other  Companies of the Group  Associated companies  Key personnel  Other  Companies of the Group  Associated companies  Key personnel  Other
   (in millions of Ch$)
                                     
Assets                                    
Cash and deposits in banks    187,701                23,578                193,377             
Trading investments                                                 
Obligations under repurchase agreements                                                 
Financial derivative contracts    742,851    33,433            771,774    24,773            995,468             
Available-for-sale investments                                                 
Other assets    4,711    67,454            3,218    19,101            2,776             
Liabilities                                                            
Deposits and other demand liabilities    6,988    7,141    2,883    630    9,987    8,535    2,454    1,373    5,061    1,168    2,403    4,602 
Obligations under repurchase agreements    56,167                12,006                47,010             
Time deposits and other time liabilities    1,545,771    621    2,365    1,984    1,360,572    234    2,728    898    269,381    2,320    81,079    81,079 
Financial derivative contracts    954,575    54,691            1,323,996    23,326            1,395,507             
Issued debt instruments    484,548                398,565                336,323             
Other financial liabilities    8,970                2,409                846             
Other liabilities    446    44,329            376    19,541            771             

 

 

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Other transactions with related parties

 

During the years ended December 31, 2016, 2015, and 2014, the Bank had the following significant income (expenses) from services provided to (by) related parties:

 

  

For the years ended December 31, 

  

2016 

 

2015 

 

2014 

  

Companies of the Group 

 

Associated Companies 

 

Key personnel 

 

Other 

 

Companies of the Group 

 

Associated companies 

 

Key personnel 

 

Other 

 

Companies of the Group 

 

Associated Companies 

 

Key personnel 

 

Other 

   (in millions of Ch$)
Interest income and inflation-indexation adjustments   (39,279)   40    1,164    115    (10,986)       1,664    116    (11,130)   25    1,963    (2,509)
Fee and commission income and expenses   38,167    45    204    20    35,955    77    208    39    30,591    84    230    167 
Net income (expense) from financial operations and net foreign exchange gain (loss) (*)   (343,963)   (48,373)   (88)   2    (321,985)   (16,845)   15    6    (315,918)       20    (10,051)
Other operating income and expenses   931    (2,239)           955    (1,027)           1,158             
Key personnel compensation and expenses           (37,328)               (39,323)               (31,361)    
Administrative and other expenses   (35,554)   (43,115)           (30,591)   (41,691)           (30,342)   (33,961)        
Total   (379,698)   (93,642)   (36,048)   137    (326,652)   (59,486)   (37,436)   161    (325,641)   (33,852)   (29,148)   (12,393)

 

 
(*)Primarily relates to derivative contracts used to financially cover exchange risk of assets and liabilities that cover positions of the Bank and its subsidiaries.

 

Only transactions with related parties equal to or greater than UF 5,000 (Ch$132 million) are included individually in the table above. Transactions with related parties between UF 1,000 and up to UF 5,000 are included in other transactions with related parties. All transactions were conducted at arm’s length.

 

 

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C.Interests of Experts and Counsel

 

Not applicable.

 

ITEM 8. FINANCIAL INFORMATION

 

A.Consolidated Statements and Other Financial Information

 

Financial Information

 

See “Item 18. Financial Statements.”

 

Legal Proceedings

 

We are subject to certain claims and are party to certain legal and arbitration proceedings in the normal course of our business, including claims for alleged operational errors. We do not believe that the liabilities related to such claims and proceedings are likely to have, in the aggregate, a material adverse effect on our consolidated financial condition or results of operations. For the year ended December 31, 2016, the Disclosure Committee of Santander-Chile has defined a significant legal proceeding as that implying an estimated incurred loss greater than 0.18% of the average of pre-tax net income in the last three years. As of December 31, 2016, this cut-off totaled Ch$1,027 million (U.S.$1.5 million). As of December 31, 2016, there were no legal proceedings exceeding that amount. There are no material proceedings in which any of our directors, any members of our senior management, or any of our affiliates is either a party adverse to us or our subsidiaries or has a material interest adverse to us or our subsidiaries.

 

Upon the recommendation of our legal advisors, we estimate that our aggregate liability if all legal proceedings were determined adversely to us could result in significant losses not estimated by us. As of the date of the Audited Consolidated Financial Statements, the Bank and its affiliates were subject to certain legal actions in the normal course of their business. As of December 31, 2016, the Bank and its subsidiaries have provisions for these legal actions of Ch$1,194 million and Ch$48 million, respectively (Ch$1,803 million and Ch$118 million as of December 31, 2015), which are included in “Provisions” in the Audited Consolidated Statements of Financial Position as provisions for contingencies.

 

Dividends and dividend policy

 

See “Item 3. Key Information—A. Selected Financial Data—Dividends.”

 

B.Significant Changes

 

None.

 

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ITEM 9. THE OFFER AND LISTING

 

A.Historical Trading Information

 

The table below shows, for the periods indicated, the annual, quarterly and monthly high and low closing prices (in nominal Chilean pesos) of the shares of our common stock on the Santiago Stock Exchange and the annual, quarterly and monthly high and low closing prices (in U.S. dollars) as reported by the NYSE.

 

   Santiago Stock Exchange  NYSE
   Common Stock  ADS
   High  Low  High  Low
   (Ch$ per share)  (U.S.$ per ADS)
Annual Price History            
2012    41.01    31.40    33.96    26.10 
2013    36.23    27.62    30.59    21.38 
2014    37.32    26.81    26.91    19.19 
2015    34.77    29.52    22.61    17.38 
2016    38.05    29.10    23.48    15.98 
Quarterly Price History                     
2015                     
1st Quarter     33.98    29.52    21.71    19.02 
2nd Quarter     34.77    31.71    22.61    20.02 
3rd Quarter     34.51    31.44    21.04    17.88 
4th Quarter     33.96    30.33    20.23    17.38 
2016                     
1st Quarter     33.47    29.10    19.74    15.98 
2nd Quarter     33.89    30.84    20.24    17.99 
3rd Quarter     36.47    31.62    22.51    19.18 
4th Quarter     38.05    34.09    23.48    20.52 
Monthly Price History                     
Oct-16     36.55    34.09    22.85    20.52 
Nov-16     38.05    36.50    23.00    21.66 
Dec-16     38.05    35.45    23.48    21.07 
Jan-17     37.19    35.11    22.21    21.59 
Feb-17     35.76    34.65    22.15    21.36 
Mar-17 (through March 22, 2017)     40.02    36.88    24.11    22.41 
                      
B.Plan of Distribution

 

Not applicable

 

C.Nature of Trading Market

 

Nature of Trading Market

 

Shares of our common stock are traded on the Chilean Stock Exchanges. Each ADS represents 400 shares of common stock. ADRs have been issued pursuant to the amended and restated deposit agreement dated as of August 4, 2015. As of December 31, 2016, 87,002,334 ADSs were outstanding (equivalent to 34,800,933,671 shares of common stock or 18.47% of the total number of issued shares of common stock).

 

D.Selling Shareholders

 

Not applicable.

 

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E.Dilution

 

Not applicable.

 

F.Expenses of the Issue

 

Not applicable.

 

ITEM 10. ADDITIONAL INFORMATION

 

A.Share Capital

 

Not applicable.

 

B.Memorandum and Articles of Association

 

The legal predecessor of Santander-Chile was Banco Santiago (Santiago). Santiago was incorporated by public deed dated September 7, 1977 granted at the Notary Office of Alfredo Astaburuaga Gálvez. Santiago received its permission to incorporate and function as a bank by Resolution No. 118 of the SBIF on October 27, 1977. The Bank’s by-laws were approved by Resolution No. 103 of the SBIF on September 22, 1977. In January 1997, Santiago merged with Banco O’Higgins’ with Santiago as the surviving entity. In 1999, Santiago became a controlled subsidiary of Santander Spain. On January 9, 2017 in an Extraordinary Shareholder Meeting, the shareholders’ approved an amendment of the Bank’s Articles of Incorporation.

 

Our official name is Banco Santander-Chile and Banco Santander and Santander can also be used (formerly: Banco Santander Santiago, Santander Santiago could also be used, but these names were eliminated in the new Articles of Incorporation).

 

The Bank has a single series of capital stock, which amounts to Ch$891,302,881,691, divided into 188,446,126,794 registered shares with no par value. The capital stock is fully subscribed for, deposited, and paid up. Each share represents one vote and there are no special classes of shares with different rights. Our by-laws do not include any condition that is more significant than required by law to change the right of shareholders.

 

Shareholder rights in a Chilean bank that is also an open stock (public) corporation are governed by (1) the corporation’s estatutos, which effectively serve the purpose of both the articles or certificate of incorporation and the by-laws of a company incorporated in the United States, (2) the General Banking Law and (3) to the extent not inconsistent with the General Banking Law, by the provisions of Chilean Companies Law applicable to open stock corporations, except for certain provisions that are expressly excluded. Article 137 of the Chilean Companies Law provides that all provisions of the Chilean Companies Law take precedence over any contrary provision in a corporation’s estatutos. Both the Chilean Companies Law and our estatutos provide that legal actions by shareholders against us (or our officers or directors) to enforce their rights as shareholders or by one shareholder against another in their capacity as such are to be brought in Chile in arbitration proceedings, notwithstanding the plaintiff’s right to submit the action to the ordinary courts of Chile.

 

The Chilean securities markets are principally regulated by the Superintendency of Securities and Insurance under the Chilean Securities Market Law and the Chilean Companies Law. In the case of banks, compliance with these laws is supervised by the SBIF. These two laws provide for disclosure requirements, restrictions on insider trading and price manipulation and protection of non-controlling investors. The Chilean Securities Market Law sets forth requirements relating to public offerings, stock exchanges and brokers, and outlines disclosure requirements for companies that issue publicly offered securities. The Chilean Companies Law sets forth the rules and requirements for establishing open stock corporations while eliminating government supervision of closed (closely-held) corporations. Open stock (public) corporations are those with 500 or more shareholders, or companies in which 100 or more shareholders own at least 10.0% of the subscribed capital (excluding those whose individual holdings exceed 10.0%), and all other companies that are registered in the Securities Registry of the Superintendency of Securities and Insurance.

 

Santander-Chile is a bank providing a broad range of commercial and retail banking services, as well as a variety of financial services. Our objects and purposes can be found in Article 4 of our by-laws.

 

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Board of Directors and Managers

 

Currently, the Board of Directors has 11 regular members and two alternate members, elected by shareholder vote at Ordinary Shareholders’ Meetings. The directors may be either shareholders or non-shareholders of the Company. There is no age limit for directors. On October 27, 2016, the SBIF authorized a reduction in the number of Board members from 11 to nine. This reduction and the corresponding amendment to Article 14 of the by-laws was approved by the shareholders at an Extraordinary Shareholders’ Meeting held on January 9, 2017 and will enter into force on the date of the Bank’s next Ordinary Shareholders’ Meeting, which will take place on April 26, 2017. The current principal and alternate directors will remain in office until such date. The directors may be shareholders or persons who are not members of the company.

 

The directors shall hold office for three years and may be indefinitely re-elected, and their terms of office shall be renewed in their entirety at the conclusion of each term of office. If the Ordinary Shareholders’ Meeting at which periodic elections of directors occur is not held at the stipulated time for any reason, the incumbency of those who have completed their terms shall be understood to be extended until their replacements are appointed, and the Board shall be obligated to summon a Shareholders’ Meeting to make said appointments within thirty days.

 

The directors shall be compensated for their service. The amount of their compensation shall be fixed annually at the Ordinary Shareholders’ Meeting. Such compensation shall be in addition to any salaries, fees, travel expenses, representation expenses, payments due as delegates of the Board, or other stipends in money, kind, or royalties of any class, whether assigned to particular directors at the Ordinary Shareholders’ Meeting or by Board approval, for specific functions or work above and beyond their obligations as directors which have been entrusted to them precisely at the Ordinary Shareholders’ Meeting or by the Board. A detailed and separate record of these special compensations must be made in the Annual Report, indicating the full name of each director who has received them.

 

Without prejudice to other legal disqualifications or conflicts of interest, the following persons cannot serve as directors: (a) a person who has been convicted or is on trial for crimes penalized with a principal or accessory penalty of temporary suspension or permanent disqualification to hold public positions or offices; (b) a debtor subject to a pending insolvency procedure for liquidation, (c) legislators; (d) directors or employees of any other financial institution; (e) employees of the Office of the President of the Republic or employees or officials of the Treasury or of the Services, Fiscal or Semi-Fiscal Institutions, Autonomous Agencies, State-Owned Enterprises, and generally all the Public Services created by law, as well as those of companies, partnerships, or public or private entities to which the State or its companies, partnerships, or centralized or decentralized institutions have contributed the majority capital or a proportion equal thereto, or have a similar representation or participation, provided that the limitation prescribed in this letter (e) shall not apply to persons who hold teaching positions; and (f) Bank employees.

 

In the elections of directors, each shareholder shall have one vote per share held or represented, and may cast all such votes in favor a single candidate or distribute them as deemed convenient; those who receive the largest number of votes in an election shall be proclaimed as elected, until the number of persons to be elected is reached. Elections of principal and alternate directors must be held separately. To proceed to a vote, the Chairman and the Secretary, jointly with the persons who have previously been designated at the Ordinary Shareholders’ Meeting to sign the minutes thereof, must make a documentary record of the votes which are cast through voice vote by the shareholders present, according to the list of attendance. However, any shareholder shall be entitled to vote on a ballot signed by him, stating whether he signs on his own behalf or as a proxy. In any event, to facilitate the casting or speed of a vote, the Chairman of the Bank or the Superintendency, if applicable, may order an alternative procedure or permit either a voice vote or a ballot vote, or any other procedure stipulated as adequate for the purpose. In counting the results, the Chairman shall read out the votes cast aloud so that all the persons present can count the votes themselves and the truthfulness of the result can be verified. The Secretary shall add up the votes and the Chairman shall announce the candidates that receive the largest majorities and proclaim them thereby elected, until the number of persons to be elected is reached. The Secretary shall place the document reflecting the vote count, signed by the persons responsible for taking note of the votes cast, as well as the ballots delivered by the shareholders who did not vote by voice, in an envelope which shall be closed and sealed with the corporate seal, and shall be kept on file at the Bank for at least two years.

 

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Every election to the Board, or every change to the composition of the Board, must be recorded in a public deed executed before a Notary, published in a Santiago newspaper, and reported to the SBIF by sending an authorized copy of the respective public deed. The appointments of the General Manager and Assistant Deputy Manager must likewise be reported and converted into a public deed.

 

Vacancies that arise when a director ceases to be able to perform his or her duties, either because he becomes subject to any conflict of interest, limitation, or legal disqualification or because he is subject to a pending insolvency procedure for liquidation, or due to impossibility of serving, unjustified absence, death, resignation, or for another legal cause, shall be filled in the following manner: (a) vacancies of principal directors by alternate directors; and (b) in case of vacancies of alternate directors because of the application or circumstances not provided for in letter (a) above, or vacancies of principal directors which could not be filled as provided for in this letter because the alternate directors have become principal directors, the appropriate replacements shall be appointed at the first Ordinary Shareholders’ Meeting to be held. The directors so designated shall remain in office until the next Ordinary Shareholders’ Meeting, at which the definitive appointments shall be made for the time remaining to complete the replaced directors’ terms.

 

The alternate directors may always take part in a Board meetings and have the right to speak at any such meeting. However, they shall have the right to vote only when they replace a principal director.

 

The Board shall separately elect a Chairman, a First Vice Chairman, and a Second Vice Chairman from among its members at the first meeting held after the Shareholders’ Meeting has appointed it or at its first meeting held after the persons in question have ceased to hold the position for any reason. In case of a tie vote, the person who chairs the meeting shall have the tie-breaking vote.

 

The Board meetings shall be held at the company’s domicile unless the directors unanimously resolve to hold a particular session at a different location or all the directors participate in any such meeting held at a different location. The Board shall meet in ordinary session at least once a month, on the days and at the times the Board designates, and additionally, in extraordinary sessions from time to time when summoned by the Chairman at his or her own initiative or at the request of three or more directors, following the Chairman’s determination of the need for a meeting, unless it is requested by an absolute majority of the incumbent directors, in which case the meeting must necessarily be held without the need for a prior determination. Only the topics specifically stated in the notice of meeting may be addressed at extraordinary meetings, unless all the incumbent directors are present and they unanimously agree otherwise. Summonses to extraordinary meetings shall be made in accordance with and in the form prescribed by law.

 

The quorum for Board meetings shall be the absolute majority of the number of directors entitled to vote as prescribed in our by-laws. Resolutions shall be adopted by the absolute majority of the directors present who are entitled to vote. In case of a tie vote, the person who chairs the meeting shall have the tie-breaking vote. Directors who, though not present, are in simultaneous and permanent communication through technological means which have been authorized by the SBIF shall be understood to participate in the meetings.

 

Directors who have an interest in a business dealing, legal act, contract, or operation or transaction not specifically of a banking nature, or as representatives of another person, must inform the other directors thereof. The respective resolutions shall be approved by the Board and must be in accordance with conditions of equity similar to those customarily prevailing in the market; they shall be disclosed at the next Ordinary Shareholders’ Meeting by the person who chairs such meeting.

 

A record of the Board’s deliberations and resolutions shall be made in a special minute book to be kept by the Secretary. The minutes must be consecutively numbered, with one numbering sequence assigned to ordinary meetings and another to extraordinary meetings, and they must be signed by the directors who took part in the meeting and the Secretary or the person who performs his or her functions. A director who believes certain minutes contain inaccuracies or omissions is entitled to record his or her reservations prior to signing them. Resolutions may be carried out without the need to approve the minutes at a subsequent meeting. If any of the persons present dies, refuses to sign the minutes, or is prevented from doing so for any reason, a record of said impediment shall be made at the foot thereof.

 

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The directors shall be personally responsible or liable for all the legal acts they execute in the performance of their functions. A director who wishes to avoid responsibility or liability for any legal act or resolution of the Board must make a record of his or her opposition in the minutes and the Chairman shall be informed thereof at the next Ordinary Shareholders’ Meeting.

 

The Board shall represent the Bank judicially and extra-judicially and for the pursuit of its corporate purpose, which need not be demonstrated to third parties in any manner; it shall be vested with all the authorities and powers of administration that the law or the by-laws do not define as pertaining exclusively to Shareholders’ Meetings, without the need to confer any special power of attorney whatsoever, even for legal acts or contracts for which the laws so require. The foregoing does not impair the Bank’s judicial representation by the General Manager. The Board may delegate part of its powers to the General Manager, to one or more managers, assistant managers, or attorneys of the Bank, to a director, or to a committee of Directors, as well as to other persons for specific purposes.

 

The Board shall designate three Directors from among its members to serve on a committee of Directors which shall be governed by the provisions of article 50 bis of the Corporations Act.

 

The Chairman/President

 

The Chairman of the Board shall likewise be the president of the company and the chairman of the Shareholders’ Meetings. He shall have the following obligations and authorities, in addition to those prescribed in the pertinent legal and regulatory provisions, in our by-laws, or by the Board: (a) chair the Board and Shareholders’ Meetings; (b) enforce strict compliance with the by-laws, the Board’s resolutions, and the resolutions of the Shareholders’ Meetings; (c) summon the Board meetings; and (d) sign the annual reports and the resolutions and communications of the Board and the Shareholders’ Meetings. In the absence or temporary impediment of the Chairman/President, the First Vice Chairman/First Vice President shall act in his or her stead, and in the latter’s absence, the Second Vice Chairman/Second Vice President shall act, or finally, the person designated by the Board from among its members or the shareholder designated at the Shareholders’ Meeting, as the case may be. Replacement is an internal company procedure that shall not require any formality, and it shall not be necessary to demonstrate its validity to third parties in order to assure the validity of the replacement’s actions; the sole fact of its occurrence suffices to make said actions effective.

 

Meetings and Voting Rights

 

The shareholders shall meet in Ordinary or Extraordinary Shareholders’ Meetings held in Santiago. The resolutions adopted at a validly summoned and convened Shareholders’ Meeting, in conformity with the by-laws, shall be binding on all of the shareholders.

 

The Ordinary Shareholders’ Meetings shall be held annually on the dates determined by the Board within the first four months following the date of the annual balance sheet. There shall be an Extraordinary Shareholders’ Meeting whenever the company’s needs so require. The meetings shall be summoned by the Board at its own initiative or at the request of shareholders representing at least 10% of the issued shares having a legal right to vote. If in this circumstance, the Board, and through it the Chairman, refuses to issue a summons, the Superintendent of Banks and Financial Institutions may be requested to do so.

 

The summons to a Shareholders’ Meeting shall be given through a prominent notice to be published three times on different days in the Santiago newspaper which has been chosen at the Ordinary Shareholders’ Meeting, and in the absence of agreement or in the event of a suspension or disappearance of the designated newspaper’s circulation, in the Official Journal, at the time, in the form, and under the conditions stipulated by the Regulations of the Corporations Act. Summonses to Extraordinary Shareholders’ Meetings shall state the topics which will be submitted to them. The summons to a meeting shall likewise be announced through a letter sent to the shareholders a minimum of fifteen days in advance of the date set for the meeting, which must contain a reference to the topics to be addressed at it. Failure to send said letter shall not invalidate the summons, without prejudice to legal liabilities. On a date no later than that of the first notice of a summons for an Ordinary Shareholders’ Meeting, each shareholder must be sent a copy of the Bank’s Annual Report and Balance Sheet, including the auditors’ opinion and its respective notes.

 

A Shareholders’ Meetings shall convene upon reaching a quorum, which shall be established by the presence of as many shareholders as represent, directly or by proxy, at least an absolute majority of the issued voting shares. If said quorum is not satisfied, a new summons shall be given, for a meeting which must be scheduled to be held in the

 

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manner prescribed in our by-laws, indicating that it is a second summons and scheduling the new meeting to be held within the forty five days subsequent to the date scheduled for the meeting that was not held due to a lack of quorum. A meeting called by a second summons shall lawfully convene with the number of issued voting shares present or represented thereat.

 

In the absence of a special rule, a Shareholders’ Meeting resolution shall be adopted by an absolute majority of the voting shares present or represented.

 

The Ordinary Shareholders’ Meetings have the following responsibilities: (a) deliberate and resolve on the Annual Report and Balance Sheet which must be submitted by the Board; (b) annually designate an external auditing firm in conformity with the provisions of law to report on the balance sheet and comply with the legal requirements; (c) elect the members of the Board when appropriate pursuant to our by-laws; (d) resolve the distribution of the liquid profits or earnings for each fiscal year, and at the Board’s request, order the distribution of a dividend to the shareholders as of the end of each fiscal year, as prescribed in the by-laws; and (e) in general, deliberate and pass resolutions on any other topic of corporate interest which is not reserved to an Extraordinary Shareholders’ Meeting. The revocation of all the Board members elected by the shareholders and the designation of their replacements may be resolved at an Ordinary or Extraordinary Shareholders’ Meeting, but any individual or collective revocation of one or more Board members would accordingly be invalid.

 

The Extraordinary Shareholders’ Meetings are reserved for certain topics indicated by law or by our by-laws. Resolutions on the topics indicated in the notice of meeting may be adopted at Extraordinary Shareholders’ Meetings.

 

The shareholders may have themselves represented at Meetings by another person, whether a shareholder or not, as is stipulated in the Corporations Act.

 

A record of the deliberations and resolutions at any Shareholders’ Meeting shall be made in a special minute book to be kept by the Secretary, if any, or in his or her absence by the Bank’s General Manager. The minutes shall be signed by the Chairman or the person who performs his or her functions, by the Secretary and three shareholders elected by the Meeting, or by all the persons present if they number fewer than three. In the event of death, refusal, or impediment to signing the minutes on the part of any of the persons who must do so, a record of the impediment shall be made at the foot thereof. An extract of the minutes shall be made to record what happened at the meeting, and an official copy of the following data shall necessarily be made: the names of the shareholders present and the number of shares owned or represented by each of them (a brief summary of any objections may be omitted if it is attached to the same page or roll of attendance), a list of the proposals submitted for discussion and the results of the votes taken, and the list of the shareholders who voted for or against. Solely by the unanimous consent of the persons present may a record of any event occurring at the meeting that is related to the company’s interests be deleted from the minutes.

 

The persons present at any Shareholders’ Meetings shall sign a roll of attendance on which they shall indicate the number of shares the signatory holds, the number of shares he represents, and the name of the shareholder he represents.

 

In general, Chilean law does not require a Chilean open stock corporation to provide the level and type of information that U.S. securities laws require a reporting company to provide to its shareholders in connection with a solicitation of proxies. However, shareholders are entitled to examine the books of the bank within the 15-day period before the ordinary annual meeting. In addition to these requirements, we regularly provide, and management currently intends to continue to provide, together with the notice of shareholders’ meeting, a proposal for the final annual dividend.

 

Annual Report, Balance Sheet, and Distribution of Profits

 

A Balance Sheet shall be drawn up as of the thirty first day of December of each year, to be submitted to the Ordinary Shareholders’ Meeting for its consideration, jointly with the Annual Report. The Balance Sheet and Statement of Income shall be published in conformity with the currently applicable legal and regulatory provisions. The approval or rejection of such financial statements is entirely within our shareholders’ discretion. If our shareholders reject our financial statements, our Board of Directors must submit new financial statements not later than 60 days from the date of such rejection. If our shareholders reject our new financial statements, our entire Board of Directors is deemed removed from office and a new Board of Directors is elected at the same meeting. Directors who individually approved such rejected financial statements are disqualified for re-election for the ensuing period.

 

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The profits attributable to shareholders reflected in the Balance Sheet shall be applied preferentially to absorb prior-year losses. The balance which is earned shall be allocated as may be resolved by the Shareholders’ Meeting, at the Board’s recommendation, to: (a) an increase of the effective capital, the formation of a fund for future capitalizations or dividends, or other special reserve funds; these uses shall receive the amounts the Meeting deems convenient, in conformity with the limits and obligations prescribed by law; and (b) the distribution of dividends to the shareholders in proportion to their shareholdings.

 

Under the Chilean Corporations Law, Chilean companies are generally required to distribute at least 30.0% of their earnings as dividends. No dividends of a bank above the legal minimum can be distributed if doing so would result in the bank exceeding its ratio of risk-weighted assets to regulatory capital or total assets.

 

Dividends that are declared but not paid by the date set for payment at the time of declaration are adjusted from the date set for payment to the date such dividends are actually paid, and they accrue interest.

 

We may declare a dividend in cash or in shares. When a share dividend is declared above the legal minimum (which minimum must be paid in cash), our shareholders must be given the option to elect to receive cash. Our ADS holders may, in the absence of an effective registration statement under the Securities Act or an available exemption from the registration requirement thereunder, effectively be required to receive a dividend in cash. See “Item 10. B.—Memorandum and Articles of Association—Preemptive Rights and Increases of Share Capital.” A dividend entitlement lapses after 5 years and the funds go to the Chilean Treasury.

 

Liquidation and Appraisal Rights

 

The Bank may be dissolved and liquidated if it is so resolved at an Extraordinary Shareholders’ Meeting, with the favorable vote of at least two thirds of the issued voting shares, and approved by the Superintendent of Banks and Financial Institutions.

 

Once the voluntary dissolution to which the preceding article refers has been resolved, the Shareholders’ Meeting at which it is resolved shall appoint a committee of three shareholders to proceed to the company’s liquidation. The liquidating committee so created shall act with the powers and obligations which the by-laws confer on the Board, and it shall keep the shareholders informed of the liquidation’s progress, shall summon Ordinary Shareholders’ Meetings on the dates scheduled for them, being authorized to likewise summon Extraordinary Shareholders’ Meetings. In all other respects the provisions of the Commercial Code, the applicable provisions of the Corporations Act, and the corporate regulations which govern the company shall be followed. In accordance with the General Banking Law, our shareholders do not have appraisal rights.

 

Arbitration

 

Any difficulty which may arise between the Bank and any of the shareholders or directors, or between such persons, in connection with the application of the by-laws or the recognition of the existence, nonexistence, validity, nullity, construction, performance or breach, dissolution, liquidation, or any other cause shall be submitted to resolution by two arbitrators at law and in equity, who shall rule without subsequent appeal, one of whom shall be appointed by each party. If they cannot reach agreement, the parties shall appoint a third arbitrator to resolve the discord. If there is no agreement for the third arbitrator’s appointment, the two previously appointed arbitrators shall make the designation. If either party refuses to participate in the appointment of arbitrators or, after they have been appointed, there is no agreement on the ruling and neither the parties nor the arbitrators have designated the third arbitrator to resolve the discord, the designation of said arbitrator, if any, or of the third participant in discord, shall be made by the Ordinary Court of Justice, and the person so designated must necessarily be one who has held or currently holds the position of attorney and member of the Honorable Supreme Court.

 

Capitalization

 

Under Chilean law, the shareholders of a company, acting at an extraordinary shareholders’ meeting, have the power to authorize an increase in such company’s capital. When an investor subscribes for issued shares, the shares are registered in such investor’s name, even if not paid for, and the investor is treated as a shareholder for all purposes except with regard to receipt of dividends and the return of capital, provided that the shareholders may, by

 

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amending the by-laws, also grant the right to receive dividends or distributions of capital. The investor becomes eligible to receive dividends and returns of capital once it has paid for the shares (if it has paid for only a portion of such shares, it is entitled to reserve a corresponding pro-rata portion of the dividends declared and/or returns of capital with respect to such shares unless the company’s by-laws provide otherwise). If an investor does not pay for shares for which it has subscribed on or prior to the date agreed upon for payment, the company is entitled under Chilean law to auction the shares on the stock exchange and collect the difference, if any, between the subscription price and the auction proceeds. However, until such shares are sold at auction, the subscriber continues to exercise all the rights of a shareholder (except the right to receive dividends and return of capital).

 

Article 22 of the Chilean Corporations Law states that the purchaser of shares of a company implicitly accepts its by-laws and any agreements adopted at shareholders’ meetings.

 

Registrations and Transfers

 

We act as our own registrar and transfer agent, as is customary among Chilean companies. In the case of jointly owned shares, an attorney-in-fact must be appointed to represent the joint owners in dealings with us.

 

Ownership Restrictions

 

Under Article 12 of the Chilean Securities Market Law and the regulations of the SBIF, shareholders of open stock corporations are required to report the following to the Superintendency of Securities and Insurance and the Chilean Stock Exchanges:

 

·any direct or indirect acquisition or sale of shares that results in the holder’s acquiring or disposing, directly or indirectly, 10.0% or more of an open stock corporation’s share capital; and

 

·any direct or indirect acquisition or sale of shares or options to buy or sell shares, in any amount, if made by a holder of 10.0% or more of an open stock corporation’s capital or if made by a director, liquidator, main officer, general manager or manager of such corporation.

 

In addition, majority shareholders must include in their report whether their purpose is to acquire control of the company or if they are making a financial investment. A beneficial owner of ADSs representing 10.0% or more of our share capital will be subject to these reporting requirements under Chilean law.

 

Under Article 54 of the Chilean Securities Market Law and the regulations of the Superintendency of Securities and Insurance, persons or entities intending to acquire control, directly or indirectly, of an open stock corporation, regardless of the acquisition vehicle or procedure, and including acquisitions made through direct subscriptions or private transactions, are also required to inform the public of such acquisition at least 10 business days before the date on which the transaction is to be completed, but in any case, as soon as negotiations regarding the change of control begin (i.e., when information and documents concerning the target are delivered to the potential acquirer) through a filing with the Superintendency of Securities and Insurance, the stock exchanges and the companies controlled by and that control the target and through a notice published in two Chilean newspapers, which notice must disclose, among other information, the person or entity purchasing or selling and the price and conditions of any negotiations.

 

Prior to such publication, a written communication to such effect must be sent to the target corporation, to the controlling corporation, to the corporations controlled by the target corporation, to the Superintendency of Securities and Insurance, and to the Chilean stock exchanges on which the securities are listed.

 

In addition to the foregoing, Article 54A of the Chilean Securities Market Law requires that within two business days of the completion of the transactions pursuant to which a person has acquired control of a publicly traded company, a notice shall be published in the same newspapers in which the notice referred to above was published and notices shall be sent to the same persons mentioned in the preceding paragraphs.

 

The provisions of the aforementioned articles do not apply whenever the acquisition is being made through a tender or exchange offer.

 

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Title XXV of the Chilean Securities Market Law on tender offers and the regulations of the Superintendency of Securities and Insurance provide that the following transactions must be carried out through a tender offer:

 

·an offer which allows a person to take control of a publicly traded company, unless (i) the shares are being sold by a controlling shareholder of such company at a price in cash which is not substantially higher than the market price and the shares of such company are actively traded on a stock exchange and (ii) those shares are acquired (a) through a capital increase, (b) as a consequence of a merger, (c) by inheritance or (d) through a forced sale; and

 

·an offer for a controlling percentage of the shares of a listed company if such person intends to take control of the parent company (whether listed or not) of such listed company, to the extent that the listed company represents 75.0% or more of the consolidated net worth of the parent company.

 

In addition, Article 69bis of the Companies Law requires that whenever a controlling shareholder acquires two thirds of the voting shares of a listed company, such controlling shareholder must offer to purchase the remaining shares from the non-controlling shareholders in a tender offer.

 

Article 200 of the Chilean Securities Market Law prohibits any shareholder that has taken control of a publicly traded company to acquire, for a period of 12 months from the date of the transaction in which it gained control of the publicly traded company, a number of shares equal to or greater than 3.0% of the outstanding issued shares of the target without making a tender offer at a price per share not lower than the price paid at the time of taking control. Should the acquisition from the other shareholders of the company be made on a stock exchange and on a pro rata basis, the controlling shareholder may purchase a higher percentage of shares, if so permitted by the regulations of the stock exchange.

 

Title XV of the Chilean Securities Market Law sets forth the basis to determine what constitutes a controlling power, a direct holding and a related party. The Chilean Securities Market Law defines control as the power of a person or group of persons acting (either directly or through other entities or persons) pursuant to a joint action agreement, to direct the majority of the votes at the shareholders’ meetings of the corporation, to elect the majority of members of its Board of Directors, or to influence the management of the corporation significantly. Significant influence is deemed to exist in respect of the person or group of persons with an agreement to act jointly that holds, directly or indirectly, at least 25.0% of the voting share capital, unless:

 

·another person or group of persons acting pursuant to joint action agreement, directly or indirectly, controls a stake equal to or greater than the percentage controlled by such person or group of persons;

 

·the person or group does not control, directly or indirectly, more than 40.0% of the voting share capital and the percentage controlled is lower than the sum of the shares held by other shareholders holding more than 5.0% of the share capital (either directly or pursuant to a joint action agreement); or

 

·in cases where the Superintendency of Securities and Insurance has ruled otherwise, based on the distribution or atomization of the overall shareholding.

 

According to the Chilean Securities Market Law, a joint action agreement is an agreement among two or more parties which, directly or indirectly, own shares in a corporation at the same time and whereby they agree to participate with the same interest in the management of the corporation or in taking control of the same. The law presumes that such an agreement exists between:

 

·a principal and its agents;

 

·spouses and relatives within certain degrees of kinship;

 

·entities within the same business group; and

 

·an entity and its controller or any of the members of the controller.

 

Likewise, the Superintendency of Securities and Insurance may determine that a joint action agreement exists between two or more entities considering, among other things, the number of companies in which they participate

 

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and the frequency with which they vote identically in the election of directors, appointment of managers and other resolutions passed at extraordinary shareholders’ meetings.

 

According to Article 96 of the Chilean Securities Market Law, a business group is a group of entities with such ties in their ownership, management or credit liabilities that it may be assumed that the economic and financial action of such members is directed by, or subordinated to, the joint interests of the group, or that there are common credit risks in the credits granted to, or in the acquisition of securities issued by, them. According to the Chilean Securities Market Law, the following entities are part of the same business group:

 

·a company and its controller;

 

·all the companies with a common controller together with that controller;

 

·all the entities that the Superintendency of Securities and Insurance declares to be part of the business group due to one or more of the following reasons:

 

·a substantial part of the assets of the company is involved in the business group, whether as investments in securities, equity rights, loans or guaranties;

 

·the company has a significant level of indebtedness and the business group has a material participation as a lender or guarantor;

 

·any member of a group of controlling entities of a company mentioned in the first two bullets above and there are grounds to include it in the business group; or

 

·the company is controlled by a member of a group of controlling entities and there are grounds to include it in the business group.

 

Article 36 of the General Banking Law states that as a matter of public policy, no person or company may acquire, directly or indirectly, more than 10.0% of the shares of a bank without the prior authorization of the SBIF, which may not be unreasonably withheld. The prohibition would also apply to beneficial owners of ADSs. In the absence of such authorization, any person or group of persons acting in concert would not be permitted to exercise voting rights with respect to the shares or ADSs acquired. In determining whether or not to issue such an authorization, the SBIF considers a number of factors enumerated in the General Banking Law, including the financial stability of the purchasing party.

 

According to Article 35bis of the General Banking Law, the prior authorization of the SBIF is required for:

 

·the merger of two or more banks;

 

·the acquisition of all or a substantial portion of a banks’ assets and liabilities by another bank;

 

·the control by the same person, or controlling group, of two or more banks; or

 

·a substantial increase in the existing control of a bank by a controlling shareholder of that bank.

 

This prior authorization is only required when the acquiring bank or the resulting group of banks would own a significant market share in loans, defined by the SBIF to be more than 15.0% of all loans in the Chilean banking system. The intended purchase, merger or expansion may be denied by the SBIF; or, if the acquiring bank or resulting group would own a market share in loans determined to be more than 20.0% of all loans in the Chilean banking system, the purchase, merger, or expansion may be conditioned on one or more of the following:

 

·the bank or banks maintaining regulatory capital higher than 8.0% and up to 14.0% of risk-weighted assets;

 

·the technical reserve established in Article 65 of the General Banking Law being applicable when deposits exceed one and a half times the resulting bank’s paid-in capital and reserves; or

 

·the margin for interbank loans be reduced to 20.0% of the resulting bank’s regulatory capital.

 

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If the acquiring bank or resulting group would own a market share in loans determined by the SBIF to be more than 15.0% but less than 20.0%, the authorization will be conditioned on the bank or banks maintaining a regulatory capital not lower than 10.0% of their risks weighted assets for the period specified by the SBIF, which may not be less than one year. The calculation of the risk weighted assets is based on a five category risk classification system applied to a bank’s assets that is based on the Basel Committee recommendations.

 

According to the General Banking Law, a bank may not grant loans to related parties on terms more favorable than those generally offered to non-related parties. Article 84 No. 2 of the General Banking Law and the regulations issued by the SBIF creates the presumption that natural persons who are holders of shares and who beneficially own more than 1.0% of the shares are related to the bank and imposes certain restrictions on the amounts and terms of loans made by banks to related parties. This presumption would also apply to beneficial owners of ADSs representing more than 1.0% of the shares. Finally, according to the regulations of the SBIF, Chilean banks that issue ADSs are required to inform the SBIF if any person, directly or indirectly, acquires ADSs representing 5.0% or more of the total amount of shares of capital stock issued by such bank.

 

Article 16bis of the General Banking Law provides that the individuals or legal entities that, individually or with other people, directly control a bank and who individually own more than 10.0% of its shares must send to the SBIF reliable information on their financial situation in the form and in the opportunity set forth in Resolution No. 3,156 of the SBIF.

 

There are no limitations for non-resident or foreign shareholders to hold or exercise voting rights on the securities.

 

Preemptive Rights and Increases of Share Capital

 

The Chilean Corporations Law provides that whenever a Chilean company issues new shares for cash, it must offer its existing shareholders the right to purchase a number of shares sufficient to maintain their existing ownership percentages in the company. According to our by-laws, options for subscription of capital increases must be offered on a preemptive basis to the shareholders, in proportion to the number of shares each shareholder owns, and the released shares which are issued shall be distributed in the same proportion.

 

Pursuant to this requirement, preemptive rights in connection with any future issue of shares will be offered by us to the Depositary as the registered owner of the shares underlying the ADRs. However, the Depositary will not be able to make such preemptive rights available to holders of ADSs unless a registration statement under the Securities Act is effective with respect to the underlying shares or an exemption from the registration requirements thereunder is available.

 

We intend to evaluate, at the time of any preemptive rights offering, the practicality under Chilean law and Central Bank regulations in effect at the time of making such rights available to our ADS holders, as well as the costs and potential liabilities associated with registration of such rights and the related shares of common stock under the Securities Act, and the indirect benefits to us of thereby enabling the exercise by all or certain holders of ADSs of their preemptive rights and any other factors we consider appropriate at the time, and then to make a decision as to whether to file such registration statement. We cannot assure you that any registration statement would be filed. If we do not file a registration statement and no exemption from the registration requirements under the Securities Act is available, the Depositary will sell such holders’ preemptive rights and distribute the proceeds thereof if a premium can be recognized over the cost of such sale. In the event that the Depositary is not able, or determines that it is not feasible, to sell such rights at a premium over the cost of any such sale, all or certain holders of ADSs may receive no value for such rights. Non-U.S. holders of ADSs may be able to exercise their preemptive rights regardless of whether a registration statement is filed. The inability of all or certain holders of ADSs to exercise preemptive rights in respect of shares of common stock underlying such ADSs could result in such holders not maintaining their percentage ownership of the common stock following such preemptive rights offering unless such holder made additional market purchases of ADSs or shares of common stock.

 

Under Chilean law, preemptive rights are exercisable or freely transferable by shareholders during a period that cannot be less than 30 days following the grant of such rights. During such period, and for an additional 30-day period thereafter, a Chilean corporation is not permitted to offer any unsubscribed shares for sale to third parties on terms which are more favorable than those offered to its shareholders. At the end of such additional 30-day period, a Chilean open stock corporation is authorized to sell unsubscribed shares to third parties on any terms, provided they

 

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are sold on a Chilean stock exchange. Unsubscribed shares that are not sold on a Chilean stock exchange can be sold to third parties only on terms no more favorable for the purchaser than those offered to shareholders.

 

C.       Material Contracts

 

During the past two years, we were not a party to any material contract outside the ordinary course of business.

 

D.       Exchange Controls

 

The Central Bank is responsible for, among other things, monetary policies and exchange controls in Chile. Appropriate registration of a foreign investment in Chile grants the investor access to the Formal Exchange Market. See “Item 3. Key Information—A. Selected Financial Data—Exchange Rates.” Foreign investments can be registered with the Foreign Investment Committee under Decree Law No. 600 or can be registered with the Central Bank under the Central Bank Act. The Central Bank Act is an organic constitutional law requiring a “special majority” vote of the Chilean Congress to be amended. Since April 18, 2001, all exchange controls in Chile have been eliminated.

 

Previously, Chilean law mandated that holders of shares of Chilean companies that were not residents of Chile register as foreign investors under one of the foreign investment regimes contemplated by Chilean law in order to receive dividends, sale proceeds or other amounts with respect to their shares remitted outside Chile through the Formal Exchange Market. Under the Foreign Investment Contract (as defined herein), the Depositary, on behalf of ADS holders, is granted access to the Formal Exchange Market to convert cash dividends from Chilean pesos to U.S. dollars and to pay such U.S. dollars to ADS holders outside Chile, net of taxes, and no separate registration by ADR holders is required. As of April 19, 2001, the Central Bank deregulated the Exchange Market, eliminating the need to obtain approval from the Central Bank in order to remit dividends, but at the same time eliminating the possibility of guaranteeing access to the Formal Exchange Market. However, this did not affect the current Foreign Investment Contract, which was signed prior to April 19, 2001, and which still permits access to the Formal Exchange Market based on the prior approval of the Central Bank. Therefore the holders of ADRs of Santander-Chile are still subject to the Foreign Investment Contract, including its clauses referring to the prior exchange rules including the now extinct Chapter XXVI of the Compendium.

 

E. Taxation

 

The following discussion summarizes certain Chilean tax and United States federal income tax consequences to beneficial owners arising from the ownership and disposition of our common stock or ADSs. The summary does not purport to be a comprehensive description of all potential Chilean and United States federal income tax considerations that may be relevant to a decision to own or dispose of our common stock or ADSs and is not intended as tax advice to any particular investor. This summary does not describe any tax consequences arising under the laws of any state, locality or other taxing jurisdiction other than Chile and the United States. There is currently no income tax treaty between the United States and Chile. However, the U.S. government and the government of Chile signed on February 4, 2010 the Proposed Income Tax Treaty between the United States of America and the Republic of Chile (the “Proposed U.S.-Chile Treaty”), which is now subject to ratification by the U.S. Senate and Chilean Congress. If the Proposed U.S.-Chile Treaty becomes effective, U.S. investors should consult their tax advisers as to the applicability of the treaty in their particular circumstances.

 

Material Tax Consequences of Owning Shares of Our Common Stock or ADSs

 

Chilean Taxation

 

The following is a summary of certain Chilean tax consequences of the ownership and disposition of shares of our common stock or of ADSs evidenced by ADRs by Foreign Holders (as defined herein). The summary does not purport to be a comprehensive description of all of the tax considerations that may be relevant to a decision to own or dispose shares of our common stock or ADSs and does not purport to address the tax consequences applicable to all categories of investors, some of whom may be subject to special rules. Holders of shares of our common stock or ADSs are advised to consult their tax advisers concerning the Chilean and other tax consequences of the ownership and disposition of shares of our common stock or of ADSs evidenced by ADRs.

 

The description of Chilean tax laws set forth below is based on Chilean laws in force as of the date of this Annual Report and can be subject to any changes in such laws occurring after the date of this Annual Report. These

 

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changes can be made on a retroactive basis, but may not be used retroactively against taxpayers who acted in good faith relying on regulations or interpretations that were in force at that moment.

 

For purposes of this summary, the term “Foreign Holder” means either (1) in the case of an individual, a person who is not resident or domiciled in Chile; or (2) in the case of a legal entity, a legal entity that is not organized under the laws of Chile, unless the shares of our common stock or ADSs are assigned to a branch or a permanent establishment of such entity in Chile. For purposes of Chilean taxation, (a) an individual holder is resident in Chile if he or she has remained in Chile for more than six months in one calendar year, or a total of more than six months in two consecutive fiscal years, and (b) an individual is domiciled in Chile if he or she resides in Chile with the actual or presumptive intent of staying in Chile (intention that can be evidenced by circumstances such as the acceptance of an employment in Chile or the relocation to Chile of his or her family).

 

The Income Tax Law provides that a Foreign Holder is subject to income taxes on his or her Chilean-sourced income. For these purposes, Chilean source income means earnings from activities performed within Chilean territory or from sale, disposition or other transactions in connection with assets or goods located in Chile. Indirect sale regulations may also attribute sourced Chilean income.

 

Taxation of Dividends

 

Cash dividends paid by us with respect to shares of our common stock held by a Foreign Holder, including shares represented by ADSs, will be subject to a 35% Chilean Withholding Tax, which is withheld and paid over by us (the “Withholding Tax”). If we have paid Corporate Income Tax (the “First Category Tax”) on the income from which the dividend is paid, a credit for the First Category Tax effectively reduces the rate of Withholding Tax. When a credit is available, the Withholding Tax is computed by applying the 35% rate to the pre-tax amount needed to fund the dividend and then subtracting from the tentative withholding tax so determined the amount of First Category Tax actually paid on the pre-tax income. For determining the pre-tax amount of the dividend, the First Category Tax credit will depend on the amounts accumulated in the Accumulated Credit Balance (SAC), at the date of withdrawal or distribution.

 

The effective rate of Withholding Tax to be imposed on dividends paid by us will vary depending upon the amount of First Category Tax paid by us on the earnings underlying the dividends. The statutory rate for the First Category Tax attributed to earnings generated during the years 2008, 2009 and 2010 was 17.0%. For years 2011, 2012 and 2013, it was 20.0%, for 2014 it was 21.0%, for 2015 it was 22.5% and for 2016 it was 24.0%. For the current year, the statutory rate for the First Category Tax for our company is 25.5%. The example below illustrates the effective Chilean Withholding Tax burden on a cash dividend received by a Foreign Holder, assuming a Withholding Tax rate of 35.0%, a statutory First Category Tax rate of 25.5% and a distribution of all of the net proceeds available after payment of the First Category Tax.

 

Taxable income  U.S.$100
First Category Tax (25.5% of U.S.$100)    (25.5)
Net proceeds available    74.5 
Dividend payment    74.5 
Withholding Tax (35.0% of the sum of the dividend (U.S.$74.5) and the available First Category Tax credit (U.S.$25.5)    35.0 
First Category Tax credit    (25.5)
Payable Withholding Tax    9.5 
Net dividend received    

65 (74.5-9.5)

 
Effective dividend withholding tax rate   12.8%
  (9.5/74.5)

 

Dividend distributions made in kind would be subject to the same Chilean tax rules as cash dividends. Stock dividends received by the Foreign Holder are not subject to Chilean taxation. The distributions of preemptive rights relating to shares of common stock will not be subject to Chilean taxation. If the Proposed U.S.-Chile Treaty becomes effective, U.S. investors should consult their tax advisers as to the applicability of the treaty in their particular circumstances.

 

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Taxation of Capital Gains

 

Gain realized on the sale, exchange or other disposition by a Foreign Holder of ADSs will not be subject to Chilean taxation, provided that such sale or disposition occurs outside Chile or that it is performed under the rules of Title XXIV of the Chilean Securities Market Law, as amended by Law No. 19,601, dated January 18, 1999. The deposit and withdrawal of shares of common stock in exchange for ADSs will not be subject to any Chilean taxes.

 

Gain recognized on a sale or exchange of shares of common stock (as distinguished from sales or exchanges of ADSs representing such shares of common stock) by a Foreign Holder will be subject both to First Category Tax (currently imposed at a rate of 25.5%) and Withholding Tax (the first can be used as credit against the second) if (1) the Foreign Holder has held such shares of common stock for less than one year since exchanging ADSs for the shares of common stock, (2) the Foreign Holder acquired and disposed of the shares of common stock in the ordinary course of its business or as a regular trader of stock or (3) the sale is made to a company in which the Foreign Holder holds an interest. In certain other cases where the Foreign Holder of shares of common stock has some connection with Chile, gain on the disposition of shares of common stock will be subject only to First Category Tax as a single tax (currently imposed at a rate of 25.5%).

 

The sale of shares of common stock by a Foreign Holder to an individual or entity non-resident or domiciled in Chile is subject to a provisional withholding. Such a provisional withholding will be equal to (i) 10.0% of the total amount to remit, without any deduction, paid to, credited to or putted at the disposal of the Foreign Holder unless the gain subject to taxation can be determined, in which case the withholding will be equal to a 35.0% on the gain. For income tax purposes, the capital gain shall be the difference between the sales price and the acquisition cost of the stock. The tax basis of shares of common stock received in exchange for ADSs will be the acquisition value of such shares. The valuation procedure set forth in the deposit agreement, which values shares of common stock that are being exchanged at the highest price at which they trade on the Santiago Stock Exchange on the date of the exchange, generally will determine the acquisition value for this purpose. Consequently, the conversion of ADSs into shares of common stock and sale of such shares of common stock for the value established under the deposit agreement will not generate a capital gain subject to taxation in Chile.

 

In the case where ADSs were exchanged for shares and the subsequent sale of the shares is made on a day that is different than the date on which the exchange is recorded, capital gains subject to taxation in Chile may be generated. On October 1, 1999, the Chilean Internal Revenue Service issued Ruling N°3,708 whereby it allowed Chilean issuers of ADSs to amend the Deposit Agreements in which they are parties in order to include a clause that states that, in the case that the exchanged shares are sold by the ADSs’ holder on a Chilean Stock Exchange, either on the same day on which the exchange is recorded in the shareholders’ registry of the issuer or within the two prior business days to such date, the acquisition price of such exchanged shares shall be the price registered in the invoice issued by the stock broker that participated in the sale transaction. Consequently, as we have included this clause in the form of ADRs attached to the deposit agreement, the capital gain that may be generated if the shares received in exchange for ADSs were sold within two days prior to the date on which the exchange is recorded will not be subject to taxation.

 

The distribution and exercise of preemptive rights relating to the shares of common stock will not be subject to Chilean taxation. Cash amounts received in exchange for the shares or assignment of preemptive rights relating to the shares will be subject to both the First Category Tax and the Withholding Tax (the former being creditable against the latter to the extent described above).

 

In certain cases and provided certain requirements are met, capital gains realized on the sale of actively traded stock of Chilean public companies may be exempt from Chilean income taxes. Our stock is currently considered an actively traded stock in the Santiago Stock Exchange, and Foreign Holders of the stock may qualify for an income tax exemption. Foreign Holders are urged to consult with their own tax advisers to determine whether an exemption applies to them.

 

If the Proposed U.S.-Chile Treaty becomes effective, it may further restrict the amount of Chilean tax, if any, imposed on gains derived from the sale or exchange of shares of common stock by U.S. residents eligible for the benefits of the treaty. If the Proposed Tax Treaty becomes effective, U.S. investors should consult their tax advisers as to the applicability of the treaty in their particular circumstances.

 

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Other Chilean Taxes

 

No Chilean inheritance, donation or succession taxes apply to the transfer or disposition of the ADSs by a Foreign Holder, but such taxes generally will apply to the transfer at death or by donation of shares of our common stock by a Foreign Holder. No Chilean stamp, issue, registration or similar taxes or duties apply to Foreign Holders of shares or ADSs.

 

Withholding Tax Certificates

 

Upon request, we will provide to Foreign Holders appropriate documentation evidencing the payment of Withholding Taxes. For further information, the investor should contact: Robert Moreno, robert.moreno@santander.cl. Dividends payable to holders of ADSs are net of foreign currency conversion expenses of the Depositary and will be subject to the Withholding Tax currently at the rate of 35% (subject to credits in certain cases as described above). 

 

Impact of Chilean Tax Reform

 

On September 29, 2014, the Law No. 20,780 containing the Tax Reform was published in the Official Gazette. The Tax Reform introduced significant changes to the Chilean taxation system and strengthened the powers of the Chilean Tax Authority to control and prevent tax avoidance. The Tax Reform contemplates, among other reforms, changes to the Corporate Tax regime to create two different tax regimes: the Attributed Income Regime (Sistema de Renta Atribuida) and the Semi-Integrated Regime (Sistema Parcialmente Integrado).

 

On February 8, 2016, Law No. 20,899 (that simplifies the taxation systems introduced by the Tax Reform Law) was published, which introduced changes that are intended to simplify certain provisions of the Tax Reform. The amendments applied the Semi-Integrated Regime (Sistema Parcialmente Integrado) to corporations, limited joint-stock companies and any other entity with at least one non-final taxpayer owner. In addition, the amendments limited the Attributed Income Regime (Sistema de Renta Atribuida) to use by individuals, personal holding companies with limited liability, communities, non-residents that have any kind of permanent establishment in Chile and limited liability companies. Certain taxpayers in the Attributed Income Regime can opt into the Semi-Integrated regime.

 

Under the Attributed Income Regime, shareholders will be taxed on an accrual basis. The regime imposes a First Category Tax of 25% imposed at the level of the operating entity, plus a global complementary tax at progressive rates for resident individuals or an additional withholding income tax (withholding tax) of 35% for nonresident shareholders (the First Category Tax being 100% creditable), resulting in an overall income tax charge of 35% for nonresidents. Under this regime, profits would be required to be attributed to the owners, irrespective of whether a distribution actually is made.

 

Under the Semi-integrated Regime, shareholders would be taxed on a cash basis (when profits are distributed). The regime imposes a First Category Tax of 25.5% for 2017 (and 27.0% as from 2018) at the level of the operating entity, plus a global complementary tax at progressive rates for resident individuals or an additional withholding income tax (Withholding Tax) of 35.0% for nonresident shareholders. The First Category Tax still would be creditable against the 35.0% Withholding Tax under that regime, but 35.0% of the credit shall be paid to the Treasury, so, in practice, only 65.0% of the First Category Tax would be creditable. Thus, taxpayers would pay for the ability to defer shareholder taxation until profits actually are distributed with a higher overall income tax rate than under the Attributed Income Regime.

 

However, the Tax Reform (as supplemented by Law No. 20,899 that simplifies the taxation systems introduced by the Tax Reform Law) considered that investors from countries with which Chile has signed a Double Tax Treaty, a convention for the avoidance of double taxation and the prevention of fiscal evasion, as of January 1, 2017 would be entitled to use the 100.0% of the First Category Tax credit, even if at that time the agreement was not yet in force. Under such circumstances, the full tax credit would be applicable until December 31, 2019 if at that time the relevant Double Tax Treaty had not yet entered into force. Thus, investors from such treaty countries would enjoy the advantage of deferring shareholder taxation until profits were distributed, and yet retain the benefit of the overall 35.0% income tax charge.

 

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For banking enterprises, the default regime is the Semi-integrated Regime.

 

Year 

Rate 

2014 21.0%
2015 22.5%
2016 24.0%
2017 25.0% (Attributed Income Regime) /
  25.5% (Semi-Integrated Regime)
2018 25.0% (Attributed Income Regime) /
  27.0% (Semi-Integrated Regime)

 

U.S. Federal Income Tax Considerations

 

The following is a discussion of material U.S. federal income tax consequences of owning and disposing of shares of our common stock or ADSs to U.S. holders described below, but it does not purport to be a comprehensive description of all of the tax considerations that may be relevant to a particular person’s decision to hold such common stock or ADSs. The discussion applies only if you are a U.S. holder holding shares of our common stock or ADSs as capital assets for U.S. federal income tax purposes. It does not address all aspects of U.S. federal income taxation that may be relevant to you in light of your particular circumstances, including the alternative minimum tax and the Medicare contribution tax, nor does it describe all tax consequences that may be relevant to U.S. holders subject to special rules, such as:

 

·certain financial institutions;

 

·insurance companies;

 

·dealers and traders in securities who use a mark-to-market method of tax accounting;

 

·persons holding shares or ADSs as part of a hedge, “straddle,” conversion transaction, integrated transaction or similar transaction;

 

·persons whose functional currency for U.S. federal income tax purposes is not the U.S. dollar;

 

·partnerships or other entities classified as partnerships for U.S. federal income tax purposes;

 

·tax-exempt entities, including “individual retirement accounts” or “Roth IRAs”;

 

·persons holding shares of our common stock or ADSs that own or are deemed to own ten percent or more of our voting stock;

 

·persons who acquired shares of our common stock or ADSs pursuant to the exercise of any employee stock option plan or otherwise as compensation; or

 

·persons whose shares or ADSs are held in connection with a trade or business conducted outside the United States.

 

If an entity that is classified as a partnership for U.S. federal income tax purposes owns shares of our common stock or ADSs, the U.S. federal income tax treatment of a partner will generally depend on the status of the partner and upon the activities of the partnership. Partnerships owning shares of our common stock or ADSs and partners in such partnerships should consult their tax advisers as to the particular U.S. federal income tax consequences of owning and disposing of the shares of our common stock or ADSs.

 

This discussion is based on the Internal Revenue Code of 1986, as amended (the “Code”), administrative pronouncements, judicial decisions and final, temporary and proposed Treasury regulations, all as of the date hereof. These laws are subject to change, possibly on a retroactive basis. It is also based in part on representations by the Depositary and assumes that each obligation under the deposit agreement and any related agreement will be performed in accordance with its terms. In addition, this discussion does not address U.S. state, local and non-U.S. tax consequences. Please consult your tax advisers concerning the U.S. federal, state, local and non-U.S. tax consequences of owning and disposing of shares or ADSs in your particular circumstances.

 

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As used herein, a “U.S. holder” is a person that for U.S. federal income tax purposes is a beneficial owner of shares of our common stock or ADSs and is:

 

·a citizen or individual resident of the United States;

 

·a corporation, or other entity taxable as a corporation, created or organized in or under the laws of the United States, a state thereof or the District of Columbia; or

 

·an estate or trust the income of which is subject to U.S. federal income taxation regardless of its source.

 

In general, if you own ADSs, you will be treated as the owner of the underlying shares represented by those ADSs for U.S. federal income tax purposes. Accordingly, no gain or loss will be recognized if you exchange ADSs for the underlying shares represented by those ADSs.

 

The U.S. Treasury has expressed concerns that parties to whom American Depositary Shares are released prior to delivery of shares to the Depositary (“pre-release”) or intermediaries in the chain of ownership between U.S. holders of American Depositary Shares and the issuer of the security underlying the American Depositary Shares may be taking actions that are inconsistent with the claiming of foreign tax credits for holders of American Depositary Shares. These actions would also be inconsistent with the claiming of the favorable tax rates, described below, applicable to dividends received by certain non-corporate holders. Accordingly, the creditability of Chilean taxes and the availability of the favorable tax rates for dividends received by certain non-corporate holders, each described below, could be affected by actions that may be taken by such parties or intermediaries.

 

This discussion assumes that we are not, and will not become, a passive foreign investment company, as described below.

 

Taxation of Distributions

 

Distributions paid on shares of our common stock or ADSs, other than certain pro rata distributions of common shares or rights, will be treated as dividends to the extent paid out of our current or accumulated earnings and profits (as determined under U.S. federal income tax principles). Because we do not maintain calculations of our earnings and profits under U.S. federal income tax principles, it is expected that distributions generally will be reported to U.S. holders as dividends. Subject to applicable limitations and the discussion above regarding concerns expressed by the U.S. Treasury, certain dividends paid by “qualified foreign corporations” to certain non-corporate U.S. holders may be taxable at rates applicable to long-term capital gains. A foreign corporation is treated as a qualified foreign corporation with respect to dividends paid on stock that is readily tradable on a securities market in the United States, such as the NYSE where our ADSs are traded. You should consult your tax advisers to determine whether the favorable rates may apply to dividends you receive and whether you are subject to any special rules that limit your ability to be taxed at the favorable rates. The amount of the dividend will include any amounts withheld by us or our paying agent in respect of Chilean taxes at the effective rate (after credit for First Category Taxes) as described above under “ — Material Tax Consequences of Owning Shares of Our Common Stock or ADSs—Taxation of Dividends.” You should consult with your tax adviser to determine the amount considered withheld with respect to a distribution if you are subject to the Attributed Income Regime for Chilean tax purposes starting in 2017, as described above under “—Material Tax Consequences of Owning Shares of Our Common Stock or ADSs—Impact of Chilean Tax Reform.” The amount of the dividend will be treated as foreign-source dividend income to you and will not be eligible for the dividends-received deduction generally allowed to U.S. corporations under the Code.

 

Dividends will be included in your income on the date of your (or in the case of ADSs, the Depositary’s) receipt of the dividend. The amount of any dividend income paid in Chilean pesos will be the U.S. dollar amount calculated by reference to the exchange rate in effect on the date of receipt regardless of whether the payment is in fact converted into U.S. dollars. If the dividend is converted into U.S. dollars on the date of receipt, you should not be required to recognize foreign currency gain or loss in respect of the dividend income. You may have foreign currency gain or loss if the dividend is converted into U.S. dollars after the date of receipt.

 

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Subject to applicable limitations that may vary depending upon your circumstances and the discussion above regarding concerns expressed by the U.S. Treasury, Chilean taxes withheld from cash dividends on shares of our common stock or ADSs, reduced by the credit for any First Category Tax, as described above under “—Chilean Taxation,” generally will be creditable against your U.S. federal income tax liability. Starting in 2017, if you are subject to the Attributed Income Regime, as described above under “—Material Tax Consequences of Owning Shares of Our Common Stock or ADSs—Impact of Chilean Tax Reform,” amounts paid by you or withheld by us, reduced by the credit for any First Category Tax, may be creditable for U.S. tax purposes. If creditable, it is uncertain whether such tax would be creditable in the year the Chilean tax is imposed, irrespective of whether a distribution is actually made. You should consult your tax adviser concerning the creditability and timing issues pertaining to such tax. If, however, the Proposed U.S.-Chile Treaty becomes effective, any Chilean income taxes withheld from dividends on shares or ADSs in excess of the rate provided by the treaty will not be creditable by a U.S. holder who is eligible for the benefits of the treaty. The rules governing foreign tax credits are complex and you should consult your tax advisers to determine whether you are subject to any special rules that limit your ability to make effective use of foreign tax credits. Instead of claiming a credit, you may, at your election, deduct such Chilean taxes in computing your taxable income, subject to generally applicable limitations under U.S. law. An election to deduct foreign taxes instead of claiming foreign tax credits must apply to all foreign taxes paid or accrued in the taxable year.

 

Sale or Other Disposition of Shares or ADSs

 

For U.S. federal income tax purposes, gain or loss you realize on the sale or other disposition of shares of our common stock or ADSs generally will be capital gain or loss, and will be long-term capital gain or loss if you held the shares of our common stock or ADSs for more than one year. The amount of your gain or loss will be equal to the difference between your tax basis in the shares of our common stock or ADSs disposed of and the amount realized on the disposition, in each case as determined in U.S. dollars. If a Chilean tax is withheld on the sale or disposition of the shares of our common stock or ADSs, your amount realized will include the gross amount of the proceeds of such sale or disposition before deduction of the Chilean tax. See “—Chilean Taxation—Taxation of Capital Gains” for a description of when a disposition may be subject to taxation by Chile. Such gain or loss generally will be U.S.-source gain or loss for foreign tax credit purposes. Consequently, you may not be able to credit any Chilean tax imposed on the disposition of shares of our common stock or ADSs against your taxable income unless you have other foreign-source income in the appropriate foreign tax credit category. If the Proposed U.S.-Chile Treaty becomes effective, however, a U.S. holder who is eligible for the benefits of the treaty and whose gain from the sale of shares is not exempt from Chilean tax under such treaty may elect to treat disposition gain that is subject to Chilean tax as foreign-source gain and claim a credit in respect of the tax. You should consult your tax advisers as to whether the Chilean tax on gains may be creditable against your U.S. federal income tax on foreign-source income from other sources. Alternatively, instead of claiming a credit, you may elect to deduct otherwise creditable taxes in computing your income, subject to generally applicable limitations under U.S. law. An election to deduct foreign taxes instead of claiming foreign tax credits must apply to all foreign taxes paid or accrued in the taxable year.

 

Passive Foreign Investment Company Rules

 

Based on proposed Treasury regulations (the “Proposed Regulations”), which are proposed to be effective for taxable years beginning after December 31, 1994, we believe that we were not a “passive foreign investment company” (a “PFIC”) for U.S. federal income tax purposes for the year ended December 31, 2016. However, since the Proposed Regulations may not be finalized in their current form and since PFIC status depends upon the composition of a company’s income and assets and the market value of its assets (including, among others, less than 25 percent owned equity investments) from time to time, there can be no assurance that we will not be a PFIC for any taxable year. If we were a PFIC for any taxable year during which you held an ADS or a share of our common stock, certain adverse tax consequences could apply to you.

 

If we were a PFIC for any taxable year during which you held shares of our common stock or ADSs, gain recognized by you on a sale or other disposition (including certain pledges) of a share of our common stock or an ADS would generally be allocated ratably over your holding period for the share of our common stock or ADS. The amounts allocated to the taxable year of the sale or other disposition and to any year before we became a PFIC would be taxed as ordinary income. The amount allocated to each other taxable year would be subject to tax at the highest rate in effect for individuals or corporations, as appropriate, for that taxable year, and an interest charge would be imposed on the resulting tax liability for that taxable year. Similar rules would apply to any distribution in

 

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respect of shares of our common stock or ADSs that exceeds 125% of the average of the annual distributions on shares of our common stock or ADSs received by you during the preceding three years or your holding period, whichever is shorter. Certain elections may be available that would result in alternative treatments of the shares of our common stock or ADSs (including, with respect to our ADSs, a mark-to-market election). In addition, if we were a PFIC for a taxable year in which we pay a dividend or the prior taxable year, the favorable rates discussed above with respect to dividends paid to non-corporate holders would not apply.

 

If we were to be treated as a PFIC in any taxable year, a U.S. holder may be required to file reports with the Internal Revenue Service containing such information as the Treasury Department may require.

 

Information Reporting and Backup Withholding

 

Payment of dividends and sales proceeds that are made within the United States or through certain U.S.-related financial intermediaries generally are subject to information reporting and may be subject to backup withholding, unless you are a corporation or other exempt recipient or in the case of backup withholding, you provide a correct taxpayer identification number and certify that you are not subject to backup withholding.

 

The amount of any backup withholding from a payment to you will be allowed as a credit against your U.S. federal income tax liability and may entitle you to a refund, provided that the required information is timely furnished to the Internal Revenue Service.

 

Certain U.S. holders may be required to report information relating to stock of a non-U.S. person, subject to certain exceptions (including an exception for stock held in custodial accounts maintained by a U.S. financial institution). You should consult your tax advisers regarding any reporting obligations you may have with respect to shares of our common stock or ADSs.

 

F.Dividends and Paying Agents

 

Not applicable.

 

G.Statement by Experts

 

Not applicable.

 

H.Documents on Display

 

The documents concerning us which are referred to in this Annual Report may be inspected at our offices at Bandera 140, 20th floor, Santiago, Chile. We are subject to the information reporting requirements of the Exchange Act, except that, as a foreign issuer, we are not subject to the proxy rules or the short-swing profit and disclosure rules of the Exchange Act. In accordance with these statutory requirements, we file or furnish reports and other information with the SEC. Reports and other information filed or furnished by us with the SEC may be inspected and copied at the public reference facilities maintained by the SEC at Room 1024, 450 Fifth Street, N.W., Washington, D.C. 20549. Copies of such material may be obtained by mail from the Public Reference Section of the SEC, 450 Fifth Street, N.W., Washington, D.C. 20549, at prescribed rates. You may obtain information on the operation of the Public Reference Section by calling the SEC at 1-800-732-0330. The SEC maintains a website on the Internet at http://www.sec.gov that contains reports and information statements and other information regarding us. The reports and information statements and other information about us can be downloaded from the SEC’s website and can also be inspected and copied at the offices of the NYSE, Inc., 20 Broad Street, New York, New York 10005.

 

I.Subsidiary Information

 

Not applicable.

 

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ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Introduction

 

The principal types of risk inherent in Santander-Chile’s business are market, liquidity, operational and credit risks. The effectiveness with which we are able to manage the balance between risk and reward is a significant factor in our ability to generate long term, stable earnings growth. Toward that end, our Board and senior management places great emphasis on risk management.

 

A.Integral Risk Committee

 

The Integral Risk Committee of the Board is responsible for reviewing and monitoring all risks that may affect us, including reputation risk, allowing for an integral risk management. This committee serves as the governing body through which the Board supervises risk in general. It also evaluates the reasonability of the systems for measurement and control of risks.

 

·Credit risk

·Market risk

·Operational risk

·Solvency risk (BIS)

·Legal risks

·Compliance risks

·Reputational risks

 

This Committee includes the Vice Chairman of the Board and five Board members. This committee also includes the CEO, the Director of Risk and other senior level executives from the commercial side of our business: The Board members of this committee are:

 

Board member 

Position in Committee 

Oscar von Chrismar Chairman
Juan Pedro Santa María First Vice Chairman
Roberto Méndez Second Vice Chairman
Roberto Zahler Member
Raimundo Monge Member

 

B.Audit Committee

 

Board member 

Position in Committee 

Marco Colodro Chairman
Mauricio Larrain First Vice Chairman and Financial Expert
Orlando Poblete Second Vice Chairman

 

The Audit Committee (Comité de Directores y Auditoría) is comprised of three members of the Board of Directors. The Committee Secretary is Juan Pedro Santa María. The Chief Executive Officer, General Auditor and other persons from the Bank can be invited to the meetings if necessary and are present on specific matters. This Committee’s primary responsibility is to support the Board of Directors in the continuous improvement of our system of internal controls, which includes reviewing the work of both the external auditors and the Internal Audit Department. The committee is also responsible for analyzing observations made by regulatory entities of the Chilean financial system about us and for recommending measures to be taken by our management in response. The external auditors are recommended by this committee to our Board of Directors and appointed by our shareholders at the annual shareholders’ meeting.

 

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C.Asset and Liability Committee

 

The ALCO includes the Chairman of the Board and five additional members of the Board, the Chief Executive Officer, the Corporate Financial Controller, the Manager of the Financial Management Division, the Manager of Market Risk, the Manager of the Treasury Division, and other senior members of management. The ALCO meets monthly. All limits reviewed by the ALCO are measured and prepared by the Market Risk Department. The non-Board members of the ALCO meet weekly to review liquidity, funding, capital and market risk related matters.

 

    Board member 

                               Position in Committee 

  Vittorio Corbo Chairman  
  Mauricio Larraín Vice-Chairman  
  Oscar von Chrismar Second Vice-Chairman  
  Marco Colodro Member  
  Roberto Zahler Member  
  Raimundo Monge Member  
         

 

The main functions of the ALCO are:

 

·Making the most important decisions regarding our exposure to inflation, interest rate risk, funding, capital and liquidity levels. The main limits set and monitored by the ALCO (and measured by the Market Risk Department) are:

 

Risk

 

Measure

 

Interest rates Sensitivity Capital
Sensitivity NIM
Liquidity Regulatory limit 30 Days
Regulatory limit 90 Days
Liquidity coverage ratio
Net stable funding ratio
Structural liquidity limit
Capital Core capital ratio
BIS ratio
BIS ratio with market risk
BIS ratio with market and operational risk
Foreign exposures Intergroup exposure: Derivatives, deposits, loans
Foreign assets: Derivatives, Deposits, Loans
   
·Review of the Bank’s inflation gap.

 

·Review of the evolution of the most relevant local and international markets and monetary policies.

 

D.Market Committee

 

The Market Committee includes the Vice-Chairman of the Board, three additional members of the Board, the Chief Executive Officer, the Manager of Global Banking and Markets, the Manager of the Treasury Division, the Manager of the Financial Management Division, the Manager of Market Risk, the Financial Controller and other senior members of management.

 

Board member 

Position in Committee 

Vittorio Corbo Chairman
Oscar von Chrismar Vice-Chairman
Roberto Zahler Second Vice-Chairman
Marco Colodro Member

 

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The Market Committee is responsible for:

 

·Establishing a strategy for the Bank’s trading investment portfolio.

 

·Establishing the Bank’s policies, procedures and limits with respect to its trading portfolio. The Bank’s Market Risk Department measures all risks and limits and reports these to the Market Committee.

 

·Reviewing the net foreign exchange exposure and limit

 

·Reviewing the evolution of the most relevant local and international markets and monetary policies.

 

E. Risk Department

 

All issues regarding risk in the Bank are the responsibility of the Bank’s Risk Department. The Risk Department reports to the CEO but has full independence, and no risk decisions can be made without its approval. Below is an organizational chart of the Risk Department:

 

1.Credit risk

 

See “Item 5—Selected Statistical Information—Classification of Loan Portfolio for a complete description of credit risk management.

 

2.Non-financial risks

 

All issues regarding operational risks in the Bank fall under the Non-Financial Risk Department that reports to the Risk Department. Below is an organization chart of this department.

 

 

 

All operational risks are measured in this Department and reported simultaneously to local management and the Board through various channels.

 

 

 

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Cyber-security and data security plans

 

Throughout 2016, the Bank maintained its focus on cyber-security risks, and implemented additional preventative measures to be prepared for any attack of this kind. The Bank has evolved its internal cyber-security model to reflect international standards, incorporating concepts which can be used to assess the degree of maturity in deployment. Based on this new assessment model, individual in-situ analyses have been carried out to identify deficiencies and steps to remedy any such deficiencies have been identified in our cyber-security defense plans.

 

The Bank’s organizational and governance structure for the management and control of cyber-security risk has also been strengthened. Specific committees have been set up and cyber-security metrics have been included in the Bank’s risk appetite. Embedded in the Bank’s Technology and Operations division is the Technology and Operations Risk Department, which is the front line of defense against cyber-security threats and data security. In addition, the Non-Financial Risk Department through the Technological Risk area enforces the policies and controls that the different areas must follow regarding technology and cyber-security risks. Both areas coordinate through the various operational risk committees shown in the diagram above.

 

Finally, the intelligence and analysis function has also been reinforced by contracting bank threat monitoring service, and progress has been made in the incident registration, notification and escalation mechanisms for internal reporting and reporting to supervisors. In addition, observation and analytical assessment of the events in the sector and in other industries enables us to update and adapt our models for emerging threats. We also coordinate with Santander Spain’s headquarters and units in other countries regarding strategy, best practices and communicating of experiences.

 

Role of Santander Spain’s Global Risk Division: Operational Risk

 

In matters regarding operational risk, Santander Spain’s Global Risk Department’s role is to define certain global policies, guidelines and procedures regarding operational risk. The Corporate Operational Risk Committee is the main body in which the different units of Santander discuss and review the major operational risk events and policies.

 

3.Market Risks

 

This section describes the market risks that we are exposed to, the tools and methodology used to control these risks, the portfolios over which these market risk methods were applied and quantitative disclosure that demonstrate the level of exposure to market risk that we are assuming. This section also discloses the derivative instruments that we use to hedge exposures and offer to our clients.

 

Market risk is the risk of losses due to unexpected changes in interest rates, foreign exchange rates, inflation rates and other rates or prices. We are exposed to market risk mainly as a result of the following activities:

 

·trading in financial instruments, which exposes us to interest rate and foreign exchange rate risk;

 

·engaging in banking activities, which subjects us to interest rate risk, since a change in interest rates affected gross interest income, gross interest expense and customer behavior;

 

·engaging in banking activities, which exposes us to inflation rate risk, since a change in expected inflation affects gross interest income, gross interest expense and customer behavior;

 

·trading in the local equity market, which subjects us to potential losses caused by fluctuations of the stock market; and

 

·investing in assets whose returns or accounts are denominated in currencies other than the Chilean peso, which subjects us to foreign exchange risk between the Chilean peso and such other currencies.

 

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The main decisions that relate to market risk for the Bank and the limits regarding market risk are made in the Asset and Liability Committee and the Market Committee. The measurement and oversight of market risks is performed by the Market Risk Department. Below is a list of the main reports produced by the Market Risk Department and who they are addressed to:

 

Report 

Unit 

Objective 

Addressed to: 

Periodicity 

Daily Global Report Market risks Give a global vision of the market, positions, risks, sensitivity, vision and alerts of the trading and non-trading positions Market Risk (local and global), Senior Management, Internal Auditors Daily
Stress Test Market risks Stress test report over the Bank's trading and ALCO books Market Risk (local and global), Senior Management, Internal Auditors Monthly
Sensitivity Analysis Market risks Sensitivity analysis of the ALCO book Market Risk (local and global), Senior Management, Internal Auditors Daily
Fixed income positions Market risks Fixed income positions and general information Market Risk (local and global), Senior Management, Internal Auditors Daily
Interest rate gap Market risks Interest rate gap sensitivity and limit levels Market Risk (local and global), Senior Management, Internal Auditors Monthly
Liquidity gap Market risks Liquidity levels and limits Market Risk (local and global), Senior Management, Internal Auditors Monthly
Market report Market risks Main market indicators and evolution Market Risk (local and global), Senior Management, Internal Auditors Daily
VaR Market risks VaR position and limits - Market risk (local and global) and Senior Management Daily
Trading Portfolio Limits Market risks Trading book evolution, instruments and limits Market Risk (local and global), Senior Management, Internal Auditors Daily
Largest depositors Market risks Largest 20 and largest 50 depositors - Market risk (local and global) and Senior Management Weekly
Follow-up report Market risks Summary of Market risk information for Senior Management Market Risk (local and global), Senior Management (local and global), Internal Auditors Monthly
Liquidity stress-test Market risks Liquidity stress test simulation Market Risk (local and global), Senior Management, Internal Auditors Quarterly
Interest rate risk Market risks Interest rate risk report, limits and estimates of results from interest rate risk - Market risk (local and global), Manager of Global banking and markets, Manager of Treasury, Manager of Market Making and Prop Trading Daily
Backtesting Market risks Backtesting of VaR estimates to actual results Market Risk (local and global), Senior Management, Internal Auditors Weekly
PNL Treasury Market risks Treasury income statement - Market risk (local and global), Manager of Global banking and markets, Manager of Treasury, Manager of Market Making and Prop Trading Daily

 

Santander-Chile’s governance rules have established the existence of two high-level committees that, among other things, function to monitor and control market risks: the Asset and Liability Committee and the Market Committee.

 

Role of Santander Spain’s Global Risk Division: Market Risk

 

In matters regarding Market Risk, the role of Santander Spain’s Global Risk Department is to define certain global policies, guidelines and procedures regarding market risk. The information produced by our local Market Risk Department is standardized for the whole group in order to facilitate a consolidation of risks being taken on a global basis. They review daily the consumption of limits and provide valuable input on the evolution of markets, especially regarding the Eurozone.

 

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4.Market Risk: Quantitative Disclosure

 

Impact of inflation

 

Our assets and liabilities are denominated in Chilean pesos, Unidades de Fomento (UF) and foreign currencies. The Bank no longer recognizes inflation accounting and has eliminated price-level restatement in line with IFRS, but inflation impacts our results of operations as some loan, deposit and other liabilities are contracted in UF. The UF is revalued in monthly cycles. Each day in the period beginning on the tenth day of the current month through the ninth day of the succeeding month, the nominal peso value of the UF is indexed up (or down in the event of deflation) in order to reflect a proportionate amount of the change in the Chilean Consumer Price Index during the prior calendar month. One UF equaled Ch$26,347.98 at December 31, 2016, Ch$25,629.09 at December 31, 2015, and Ch$24,627.10 at December 31, 2014. High levels of inflation in Chile could adversely affect the Chilean economy and could have an adverse effect on our business, financial condition and results of operations. Negative inflation rates also negatively impact our results. Inflation measured as the annual variation of the UF was 2.8% in 2016, 4.1% in 2015 and 5.7% in 2014. There can be no assurance that Chilean inflation will not change significantly from the current level. Although we currently benefit from moderate levels of inflation, due to the current structure of our assets and liabilities (i.e., a significant portion of our loans are indexed to the inflation rate, but there are no corresponding features in deposits or other funding sources that would increase the size of our funding base), there can be no assurance that our business, financial condition and result of operations in the future will not be adversely affected by changing levels of inflation. In summary:

 

·UF-denominated assets and liabilities. The effect of any changes in the nominal peso value of our UF-denominated interest earning assets and interest bearing liabilities is reflected in our results of operations as an increase (or decrease, in the event of deflation) in interest income and expense, respectively. Our net interest income will be positively affected by an inflationary environment to the extent that our average UF-denominated interest earning assets exceed our average UF-denominated interest bearing liabilities. Our net interest income will be positively affected by deflation in any period in which our average UF-denominated interest bearing liabilities exceed our average UF-denominated interest earning assets. Our net interest income will be negatively affected in a deflationary environment if our average UF-denominated interest earning assets exceed our average UF-denominated interest bearing liabilities.

 

·Inflation and interest rate hedge. A key component of our asset and liability policy is the management of interest rate risk. The Bank’s assets generally have a longer maturity than our liabilities. As the Bank’s mortgage portfolio grows, the maturity gap tends to rise as these loans, which are contracted in UF, have a longer maturity than the average maturity of our funding base. As most of our long term financial instruments and mortgage loans are contracted in UF and most of our deposits are in nominal pesos, the rise in mortgage lending increases the Bank’s exposure to inflation and to interest rate risk. The size of this gap is limited by internal and regulatory guidelines in order to avoid excessive potential losses due to strong shifts in interest rates. In order to keep this duration gap below regulatory limits, the Bank issues long term bonds denominated in UF or interest rate swaps. The financial cost of the bonds and the efficient part of these hedges is recorded as net interest income. In 2016, the loss from the swaps taken in order to hedge mainly for inflation and interest rate risk and included in net interest income totaled a loss of Ch$42,420 million compared to a loss of Ch$107,867 million in 2015 and a loss of Ch$130,254 million in 2014. The average gap between our interest earnings assets and total liabilities linked to the inflation, including hedging was Ch$4,534,665 million in 2016, Ch$3,507,250 million in 2015 and Ch$4,193,701 million in 2014.

 

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·The financial impact of the gap between our interest earning assets and liabilities denominated in UFs including hedges was Ch$133,702 million in 2016, Ch$130,666 million in 2015 and Ch$229,946 million in 2014. The 2.3% rise in the results from our UF gap was due to the higher gap in 2016 compared to 2015, which was partially offset by the lower UF inflation rate in 2016 compared to 2015.

 

   As of December 31,  % Change  % Change
Impact of inflation on net interest income  2016  2015  2014  2016/2015  2015/2014
   (in millions of Ch$)
Results from UF GAP (1)    133,702    130,666    229,946    2.3%   (43.2%)
Annual  UF inflation    2.8%   4.1%   5.7%          

 

 
(1)UF GAP is net interest income from asset and liabilities denominated in UFs and include the results from hedging the size of this gap via interest rate swaps.

 

·Peso-denominated assets and liabilities. Interest rates prevailing in Chile during any period primarily reflect the inflation rate during the period and the expectations of future inflation. The sensitivity of our peso-denominated interest earning assets and interest bearing liabilities to changes to such prevailing rates varies. See “Item 5. Operating and Financial Review and Prospects—A. Operating Results—Interest Rates.” We maintain a substantial amount of non-interest bearing peso-denominated demand deposits. Because such deposits are not sensitive to inflation, any decline in the rate of inflation would adversely affect our net interest margin on inflation indexed assets funded with such deposits, and any increase in the rate of inflation would increase the net interest margin on such assets. The ratio of the average of such demand deposits and average shareholder’s equity to average interest-earning assets was 29.0%, 29.9%, and 30.2% for the years ended December 31, 2016, 2015, and 2014, respectively.

 

Interest rate sensitivity

 

Interest rates earned and paid on our assets and liabilities reflect, to a certain degree, inflation, expectations regarding inflation, changes in short term interest rates set by the Central Bank and movements in long term real rates. The Central Bank manages short term interest rates based on its objectives of balancing low inflation and economic growth. Because our liabilities are generally re-priced sooner than our assets, changes in the rate of inflation or short term rates in the economy are reflected in the rates of interest paid by us on our liabilities before such changes are reflected in the rates of interest earned by us on our assets. Therefore, when short term interest rates fall, our net interest margin is positively impacted, but when short term rates increase, our interest margin is negatively affected. At the same time, our net interest margin tends to be adversely affected in the short term by a decrease in inflation rates since generally our UF-denominated assets exceed our UF-denominated liabilities. (See “Item 5. Operating and Financial Review and Prospects—A. Operating Results—Impact of Inflation—Peso-denominated assets and liabilities”). An increase in long term rates has a positive effect on our net interest margin, because our interest earning assets generally have longer terms than our interest bearing liabilities. In addition, because our peso-denominated liabilities have relatively short re-pricing periods, they are generally more responsive to changes in inflation or short term rates than our UF-denominated liabilities. As a result, during periods when current inflation or expected inflation exceeds the previous period’s inflation, customers often switch funds from UF-denominated deposits to peso-denominated deposits, which generally bear higher interest rates, thereby adversely affecting our net interest margin.

 

 

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As of December 31, 2016, the breakdown of maturities of assets and liabilities is as follows:

 

As of December 31, 2016 

Demand 

 

Up to 1 month 

 

Between 1 and 3 months 

 

Between 3 and 12 months 

 

Subtotal up to 1 year 

 

Between 1 and 5 years 

 

More than 5 years 

 

Subtotal More than 1 year 

 

Total 

Assets                           
Cash and deposits in banks   2,279,389                2,279,389                2,279,389 
Cash items in process of collection   495,283                495,283                495,283 
Trading investments       52,443    13,252    118,845    184,540    182,186    30,261    212,447    396,987 
Investments under resale agreements       6,736            6,736                6,736 
Financial derivative contracts       82,243    120,653    292,801    495,697    888,927    1,116,158    2,005,085    2,500,782 
Interbank loans (*)       12,859    135,756    124,143    272,758    44    5    49    272,807 
Loans and accounts receivables from customers (**)   717,306    2,393,216    2,108,001    4,488,993    9,707,516    7,846,411    9,379,697    17,226,108    26,933,624 
Available-for-sale investments       1,581,682    250,222    314,842    2,146,746    417,950    824,210    1,242,160    3,388,906 
Guarantee deposits (threshold)   396,289                396,289                396,289 
Total assets   3,888,267    4,129,179    2,627,884    5,339,624    15,984,954    9,335,518    11,350,331    20,685,849    36,670,803 
Liabilities                                             
Deposits and other demand liabilities   7,539,315                7,539,315                7,539,315 
Cash items in process of being cleared   288,473                288,473                288,473 
Obligations under repurchase agreements       212,437            212,437                212,437 
Time deposits and other time liabilities   121,527    6,105,767    4,193,906    2,537,299    12,958,499    132,014    61,196    193,210    13,151,709 
Financial derivative contracts       92,335    122,565    263,893    478,793    841,487    971,881    1,813,368    2,292,161 
Interbank borrowings   4,557    373,423    115,769    1,154,063    1,647,812    268,556        268,556    1,916,368 
Issued debt instruments       43,141    185,425    922,705    1,151,271    2,612,710    3,562,391    6,175,101    7,326,372 
Other financial liabilities   153,049    1,461    1,161    2,817    158,488    66,407    15,121    81,528    240,016 
Guarantees received (threshold)   480,926                480,926                480,926 
Total liabilities   8,587,847    6,828,564    4,618,826    4,880,777    24,916,014    3,921,174    4,610,589    8,531,762    33,447,777 

 

 
(*)Interbank loans are presented on a gross basis. The amount of allowance is Ch$4,135 million.

 

(**)Loans and accounts receivables from customers are presented on a gross basis. Provisions amounts according to type of loan are detailed as follows: Commercial loans Ch$429,442 million, Mortgage loans Ch$57,009 million, and Consumer loans Ch$300,019 million.

 

 

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The following table sets forth our average daily balance of liabilities for the years ended December 31, 2016, 2015 and 2014, in each case together with the related average nominal interest rates paid thereon.

 

  

2016 

 

2015 

 

2014 

  

Average Balance 

 

% of Total Average Liabilities 

 

Average Nominal Rate 

 

Average Balance 

 

% of Total Average Liabilities 

 

Average Nominal Rate 

 

Average Balance 

 

% of Total Average Liabilities 

 

Average Nominal Rate 

   (in millions of Ch$, except percentages)
Interest-bearing liabilities                           
Savings accounts    116,339    0.3%   2.5%   114,330    0.3%   3.4%   108,185    0.3%   5.0%
Time deposits    13,620,848    38.6%   3.3%   12,685,504    36.7%   3.2%   11,952,994    36.6%   3.4%
Central Bank borrowings    871    0.0%   3.4%   4,891    —%    1.0%   6,906    0.0%   0.2%
Repurchase agreements    121,875    0.3%   2.4%   228,050    0.7%   3.1%   413,263    1.3%   2.0%
Mortgage finance bonds    52,414    0.1%   8.1%   63,061    0.2%   10.2%   81,805    0.2%   11.9%
Other interest bearing liabilities    7,856,201    22.3%   5.0%   7,500,408    21.7%   5.5%   6,865,084    21.0%   6.9%
Subtotal interest-bearing liabilities    21,768,547    61.8%   3.7%   20,596,244    59.6%   4.0%   19,428,237    59.4%   4.6%
                                              
Non-interest bearing liabilities                                             
Non-interest bearing deposits    5,753,622    16.3%        5,719,889    16.6%        5,386,272    16.5%     
Derivatives    2,724,994    7.7%        2,958,942    8.6%        2,719,386    8.3%     
Other non-interest bearing liabilities    2,156,015    6.1%        2,454,037    7.1%        2,501,651    7.6%     
Shareholders’ equity    2,840,843    8.1%        2,816,116    8.2%        2,689,037    8.2%     
Subtotal non-interest bearing liabilities    13,475,473    38.2%        13,948,984    40.4%        13,296,346    40.6%     
Total liabilities    35,244,021    100.0%        34,545,228    100.0%        32,724,383    100.0%     

 

Foreign exchange fluctuations

 

The Chilean government’s economic policies and any future changes in the value of the Chilean peso against the U.S. dollar could adversely affect our financial condition and results of operations. The Chilean peso has been subject to significant devaluation in the past and may be subject to significant fluctuations in the future. The Central Bank exchange rate appreciated 5.7% in 2016 and depreciated 16.5% in 2015. See “Item 3. Key Information—A. Selected Financial Data—Exchange Rates.”

 

A significant portion of our assets and liabilities are denominated in foreign currencies, principally the U.S. dollar, and we historically have maintained, and may continue to maintain, material gaps between the balances of such assets and liabilities. Because such assets and liabilities, as well as interest earned or paid on such assets and liabilities, and gains and losses realized upon the sale of such assets, are translated to Chilean pesos in preparing our financial statements, our reported income is affected by changes in the value of the Chilean peso relative to foreign currencies (principally the U.S. dollar).

 

Our current strategy is not to maintain a significant difference between the balances of our assets and liabilities in foreign currencies. In 2016, 2015 and 2014, the Bank’s spot position in foreign currency held more liabilities than assets in foreign currencies, mainly U.S. dollars as a result of an ample supply of U.S.$ deposits from companies that receive export revenues, foreign correspondent bank loans and bonds issued abroad. This difference is usually hedged using forwards and cross-currency swaps. In general, the Bank is not permitted, due to guidelines set by the ALCO and the Market Committee, to open a meaningful gap in foreign currency. Therefore, all foreign currency risk is included in the trading portfolio and is measured using VaR. The average VAR of our foreign currency position was U.S.$1.91 million in 2016. The translation gain or loss over assets and liabilities (excluding derivatives held for trading) is included as foreign exchange transactions in the income statement. The translation and mark-to-market of foreign currency derivatives held for trading is recognized as a gain or loss in the net results from mark-to-market and trading.

 

As of December 31, 2016, the net difference between assets and liabilities in foreign currency was a net asset position of U.S.105.4 million. The average gap, be it a net asset or liability position in foreign currency, in 2016 was U.S.$121.6 million or 0.2% of our total assets. Both figures include derivatives used to hedge foreign currency risk. Below is a graph that illustrates the net daily foreign currency position in 2016.

 

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We also set an absolute limit on the size of Santander-Chile’s consolidated net foreign currency trading position, which is equivalent to the maximum differential allowed between assets and liabilities in foreign currencies, including hedging of this gap. The limit on the size of the net foreign currency position is determined by the Market Committee and is calculated and monitored by the Market Risk Department. At December 31, 2016, this was equal to U.S.$350 million. This limit in various other currencies is as follows:

 

Currency 

Limit (in millions of U.S.$) 

U.S. dollars 350
Euros 100
Yen 23
Real 15
Mexican peso 15
Colombian peso 15
Other European currencies 15
Other Latin American currencies 15
Other currencies 15
Total Limit 350

 

Liquidity risk management

 

The Financial Management Division receives information from all the business units on the liquidity profile of their financial assets and liabilities, as well as breakdowns of other projected cash flows stemming from future businesses. On the basis of that information, the Financial Management Division maintains a portfolio of liquid short–term assets, comprised mainly of liquid investments, loans and advances to other banks, to make sure the Bank has sufficient liquidity. The business units’ liquidity needs are met through short–term transfers from the Financial Management Division to cover any short–term fluctuations and long–term financing to address all the structural liquidity requirements.

 

The Bank monitors its liquidity position every day, determining the future flows of its outlays and revenues. In addition, stress tests are performed at the close of each month, for which a variety of scenarios encompassing both normal market conditions and conditions of market fluctuation are used. The liquidity policy and procedures are subject to review and approval by the Bank’s Board. Periodic reports are generated by the Market Risk Department, providing a breakdown of the liquidity position of the Bank and its subsidiaries, including any exceptions and the corrective measures adopted, which are regularly submitted to the ALCO for review.

 

 

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The Bank relies on demand deposits from Retail, Middle-Market and Corporates, obligations to banks, debt instruments, and time deposits as its main sources of funding. Although most obligations to banks, debt instruments and time deposits mature in over a year, customer (retail) and institutional deposits tend to have shorter maturities and a large proportion of them are payable within 90 days. The short–term nature of these deposits increases the Bank’s liquidity risk, and hence, the Bank actively manages this risk by continual supervision of the market trends and price management.

 

Liquidity risk management seeks to ensure that, even under adverse conditions, we have access to the funds necessary to cover client needs, maturing liabilities and capital requirements. Liquidity risk arises in the general funding for our financing, trading and investment activities. It includes the risk of unexpected increases in the cost of funding the portfolio of assets at appropriate maturities and rates, the risk of being unable to liquidate a position in a timely manner at a reasonable price and the risk that we will be required to repay liabilities earlier than anticipated. The following table sets forth the balance of our liquidity portfolio managed by our Financial Management Division in the manner in which it is presented to the Asset and Liability Committee (ALCO) and the Board. The ALCO has determined that our liquidity portfolio must be comprised of cash plus assets that can be readily convertible into cash either through the Chilean Central Bank window, overnight deposits or instruments or the local secondary market. The management of the Bank’s liquidity portfolio is performed by the Financial Management Division under rules determined by the ALCO.

 

   December 31, 2016  December 31, 2015
   Ch$ million
Balance as of:      
Financial investments for trading    396,987    324,271 
Available-for-sale investments    3,388,906    2,044,411 
Encumbered assets (net) (1)    (205,703)   (77,647)
Net cash (2)    16,259    (315,415)
Net interbank deposits (3)    1,335,017    1,683,208 
Total liquidity portfolio    4,931,466    3,658,829 

 

   December 31, 2016  December 31, 2015
   Ch$ million
Average balance as of:      
Financial investments for trading    277,775    405,352 
Available-for-sale investments    2,455,220    1,902,050 
Encumbered assets (net) (1)    (90,460)   (74,664)
Net cash (2)    (202,771)   (244,186)
Net interbank deposits (3)    1,263,768    1,197,325 
Total liquidity portfolio    3,703,533    3,185,876 

 

 
(1)Assets encumbered through repurchase agreements are deducted from the liquidity portfolio

 

(2)Total cash minus reserve requirement of the Central Bank

 

(3)Includes overnight deposits in the Central Bank, domestic banks and foreign banks

 

The Central Bank also requires us to comply with the following liquidity limits:

 

·The sum of the liabilities with a maturity of less than 30 days may not exceed the sum of the assets with a maturity of less than 30 days by an amount greater than our capital. This limit must be calculated in local currency and foreign currencies together as one gap. At December 31, 2016 the percentage of (i) our liabilities with a maturity of less than 30 days in excess of our assets with a maturity of less than 30 days to (ii) our capital and reserves was 15.0%, thus resulting in our compliance.

 

·The sum of the liabilities in foreign currency with a maturity of less than 30 days may not exceed the sum of the assets in foreign currency with a maturity of less than 30 days by more than an amount greater than our capital. At December 31, 2016 the percentage of (i) our liabilities with a maturity of less than 30 days in foreign currency in excess of our assets in foreign currency with a maturity of less than 30 days to (ii) our capital and reserves was 0%, as the Bank had more foreign currency assets than liabilities for the calculation of this limit.

 

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·The sum of the liabilities with a maturity of less than 90 days may not exceed the sum of the assets with a maturity of less than 90 days by more than 2 times our capital. This limit must be calculated in local currency and foreign currencies together as one gap. At December 31, 2016 the percentage of (i) our liabilities with a maturity of less than 90 days in excess of our assets with a maturity of less than 90 days to (ii) our capital and reserves was 37.0%, thus resulting in our compliance.

 

New liquidity requirements in line with BIS III

 

The SBIF and the Chilean Central Bank published new liquidity corporate governance standards and ratios that must be implemented and calculated by all banks. These will eventually replace the current regulatory limits imposed by the SBIF and the Central Bank described above. These new liquidity standards are in line with those established in BIS III. The most important liquidity ratios that will eventually be adopted by Chilean banks are:

 

·Liquid assets. The Bank’s must inform the liquid assets according to BIS III liquid levels. As of December 31, 2016 the breakdown of the Bank’s liquid assets by levels was the following:

 

 

December 31, 2016 

  Ch$ million
Balance as of:  
Cash and cash equivalent 1,337,208
Level 1 liquid assets (1) 2,676,995
Level 2 liquid assets (2) 19,004
Total liquid assets 4,033,207

 

 

(1)       Includes instruments issued by the Central Bank of Chile or other central banks with a AAA rating, instruments issued by the Chilean government or other sovereign with a AAA rating and instruments issued by development banks with a AAA rating.

 

(2)       Includes instruments issued by governments, central banks and development banks of foreign countries with a risk rating of A- to AA+ and mortgage bonds issued by Chilean banks that are acceptable at the Chilean Central Bank’s repo window.

 

·Liquidity coverage ratio (LCR), which measures the percentage of Liquid Assets over Net Cash Outflows. As of December 31, 2016 this was 185.1%.

 

·Net Stable Funding Ratio (NSFR) which will measure a bank’s stable funding sources over required stables needs both concepts also defined in the new regulations. As of December 31, 2016 this was 96.3%.

 

The Central Bank and the SBIF are still making adjustments to the methodology for calculating these ratios and the initial limits banks must meet in order to comply with these new ratios have not been published yet. For this reason, and even though the Bank has advanced liquidity management models, we cannot assure that the implementation of these models will not have a material effect on our business and that the figures presented above may change.

 

Market risk management

 

The Bank’s internal management of market risk is based chiefly on the procedures and standards of Santander Spain, which are in turn based on analysis of management in three principal components:

 

·trading portfolio;

 

·local financial management portfolio; and

 

·foreign financial management portfolio.

 

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The trading portfolio is comprised chiefly of investments valued at fair market value and free of any restriction on their immediate sale, which are often bought and sold by the Bank with the intention of selling them in the short term to benefit from short–term price fluctuations. The trading portfolio also includes the Bank’s exposure to foreign currency. The financial management portfolios include all the financial investments not considered to be part of trading portfolio.

 

Market risk – management of trading portfolio

 

The Bank applies VaR methodologies to measure the market risk of its trading portfolio. The Bank has a consolidated commercial position comprised of fixed–income investments and foreign currency trading. This portfolio is comprised mostly of Central Bank of Chile bonds, mortgage bonds, locally issued, low–risk corporate bonds and foreign currencies, mainly U.S. dollars. At the end of each year, the trading portfolio included no stock portfolio investments.

 

For the Bank, the VaR estimate is made under the historical simulation methodology, which consists of observing the behavior of the profits and losses that would have occurred in the current portfolio if the market conditions for a given historical period had been in force, in order to infer the maximum loss on the basis of that information, with a given degree of confidence. The methodology has the advantage of precisely reflecting the historical distribution of the market variables and not requiring any assumptions regarding the distribution of specific probabilities. All the VaR measures are intended to determine the distribution function for a change in the value of a given portfolio, and once that distribution is known, to calculate the percentile related to the necessary degree of confidence, which will be equal to the value at risk by virtue of those parameters. As calculated by the Bank, the VaR is an estimate of the maximum expected loss of market value for a given portfolio over a 1–day horizon, with a 99.00% confidence level. It is the maximum 1–day loss that the Bank could expect to experience in a given portfolio, with a 99.00% confidence level. In other words, it is the loss that the Bank would expect to experience only 1.0% of the time. The VaR provides a single estimate of market risk which is not comparable from one market risk to another. Returns are calculated through the use of a 2–year time window or at least 520 data points obtained since the last reference date for calculation of the VaR going backward in time.

 

We do not calculate three separate VaRs. We calculate a single VaR for the entire trading portfolio, which in addition is segregated by risk type. The VaR software performs a historical simulation and calculates a Profit and Loss Statement (P&L) for 520 data points (days) for each risk factor (fixed income, foreign currency and variable income.) The P&L of each risk factor is added together and a consolidated VaR is calculated with 520 points or days of data. At the same time a VaR is calculated for each risk factor based on the individual P&L calculated for each individual risk factor . Furthermore, a weighted VaR is calculated in the manner described above, but which gives a greater weighting to the 30 most recent data points. The larger of the two VaRs is the one that is reported. In 2016, 2015 and 2014, we used the same VaR model and there has been no change in methodology or assumptions for subsequent periods.

 

The Bank uses the VaR estimates to provide a warning when the statistically estimated incurred losses in its trading portfolio would exceed prudent levels, and hence, there are certain predetermined limits.

 

Limitations of the VaR model

 

When applying a calculation methodology, no assumptions are made regarding the probability distribution of the changes in the risk factors; the historically observed changes are used for the risk factors on which each position in the portfolio will be valued.

 

It is necessary to define a valuation function fj(xi) for each instrument j, preferably the same one used to calculate the market value and income of the daily position. This valuation function will be applied in each scenario to generate simulated prices for all the instruments in each scenario.

 

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In addition, the VaR methodology is subject to the following limitations:

 

·Changes in market rates and prices may not be independent and identically distributed random variables, and may not have a normal distribution; In particular, the assumption of normal distribution may underestimate the probability of extreme market movements;

 

·The historical data used by the Bank may not provide the best estimate of the joint distribution of changes in the risk factors in the future, and any modification of the data may be inadequate; In particular, the use of historical data may fail to capture the risk of potential extreme and adverse market fluctuations, regardless of the time period used;

 

·A 1–day time horizon may not fully capture the market risk positions which cannot be liquidated or covered in a single day; It would not be possible to liquidate or cover all the positions in a single day;

 

·The VaR is calculated at the close of business, but trading positions may change substantially in the course of the trading day;

 

·The use of a 99% degree of confidence does not take account of, or make any statement about, the losses that could occur outside of that degree of confidence; and

 

·A model such as the VaR does not capture all the complex effects of the risk factors over the value of the positions or portfolios, and accordingly, it could underestimate potential losses.

 

 

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At no time in 2016, 2015 and 2014 did the Bank exceed the VaR limits in respect of the three components which comprise the trading portfolio: fixed–income investments, variable–income investments and foreign currency investments. We perform back-testing daily and generally find that trading losses exceed our VaR estimate approximately one out of every 100 trading days. At the same time, we set a limit to the maximum VaR that we are willing to accept over our trading portfolio. In 2016, the Bank remained within the maximum limit it had set for VaR, including those instances in which the actual VaR exceeded the estimate.

 

The high, low, and average levels for each component and each year below were as follows:

 

Consolidated 

2016 

2015 

2014 

  (in millions of U.S.$)
VaR:      
High 3.95 3.61 3.77
Low 1.08 0.62 1.06
Average 2.25 1.38 1.91
Fixed–income investments:      
High 2.71 3.13 3.99
Low 0.55 0.61 1.06
Average 1.33 1.23 1.78
Variable–income investments:      
High 0.03 0.19 0.15
Low 0.00 0.00 0.00
Average 0.00 0.00 0.00
Foreign currency investments:      
High 3.83 3.43 2.39
Low 0.61 0.04 0.06
Average 1.91 0.64 0.58

 

Market risk – local and foreign financial management

 

The Bank’s financial management portfolio includes most of the Bank’s non–trading assets and liabilities, including the credit/loan portfolio. For these portfolios, investment and financing decisions are strongly influenced by the Bank’s commercial strategies.

 

The Bank uses a sensitivity analysis to measure the market risk of local and foreign currency (not included in the trading portfolio). The Bank performs a simulation of scenarios, which will be calculated as the difference between the present value of the flows in the chosen scenario (a curve with a parallel movement of 100 bp in all its segments) and their value in the base scenario (current market). All the inflation–indexed local currency (UF) positions are adjusted by a sensitivity factor of 0.57, which represents a 57 basis point change in the rate curve for the real rates and a 100 basis point change for the nominal rates. The same scenario is performed for the net foreign currency positions and the interest rates in U.S. dollars. The Bank has also established limits in regard to the maximum loss which these interest rate movements could impose on the capital and net financial income budgeted for the year.

 

Limitations of the sensitivity models

 

The most important assumption is the use of a 100 basis point change in the yield curve (57 basis points for the real rates). The Bank uses a 100 basis point change because sudden changes of that magnitude are considered realistic. The Santander Spain Global Risk Department has established comparable limits by country, to be able to compare, monitor and consolidate the market risk by country in a realistic and orderly way. In addition, the sensitivity simulation methodology should be interpreted with consideration for the following limitations:

 

·The simulation of scenarios assumes that the volumes remain in the Bank’s Consolidated General Balance Sheet and are always renewed at maturity, thereby omitting the fact that certain credit risk and prepayment considerations may affect the maturity of certain positions.

 

·This model assumes an identical change along the entire length of the yield curve and takes no account of the different movements for different maturities.

 

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·The model takes no account of the sensitivity of volumes which results from interest rate changes.

 

·The limits to losses of budgeted financial income are calculated on the basis of the financial income foreseen for the year, which may not be actually earned, meaning that the real percentage of financial income at risk may be higher than the expected one.

 

Market Risk – Financial management portfolio – December 31, 2016, 2015 and 2014

 

   2016  2015  2014
   Effect on net interest income  Effect on equity  Effect on net interest income  Effect on equity  Effect on net interest income  Effect on equity
Financial management portfolio – local currency (in millions of Ch$)                  
Loss limit    48,000    175,000    32,500    150,000    38,150    192,660 
High    30,853    146,208    29,721    103,091    27,707    112,133 
Low    21,978    108,249    13,882    72,104    16,904    77,231 
Average    26,119    120,159    22,695    88,394    21,077    92,809 
Financial management portfolio – foreign currency (in millions of U.S.$)                              
Loss limit    30.0    75.0    30.0    70.0    40.0    70.0 
High    14.0    35.0    9.0    15.0    16.0    39.0 
Low    6.0    13.0        5.0        10.0 
Average    10.0    26.0    2.0    12.0    10.0    28.0 
Financial management portfolio – consolidated (in millions of Ch$)                              
Loss limit    48,000    175,000    34,500    150,000    40,650    172,390 
High    31,764    145,566    29,232    102,002    27,949    112,364 
Low    23,088    107,959    14,129    70,741    17,441    77,848 
Average    27,390    119,632    22,390    87,095    21,404    93,245 

 

Market risk –Regulatory method

 

The following table illustrates our market risk exposure according to the Chilean regulatory method, as of December 31, 2016. This information is sent to the SBIF on a quarterly basis. Our maximum exposure to long-term interest rate fluctuations is set at 35% of regulatory capital and is approved by the Board of Directors.

 

Regulatory Market Risk 

As of December 31, 2016 

  (Ch$ million)
Market risk of trading portfolio (EMR)  
Interest rate risk of trading portfolio 153,513
Foreign currency risk of trading portfolio 1,811
Risk from interest rate options 59,362
Risk from foreign currency options 35
Total market risk of trading portfolio 214,721
10% x Risk-weighted assets 2,751,200
Subtotal 2,965,921
Limit = Regulatory Capital 3,635,426
Available margin 669,505
Non-trading portfolio market risk  
Short-term interest rate risk 79,029
Inflation risk 94,661
Long-term interest rate risk 884,774
Total market risk of non-trading portfolio 1,058,464
Regulatory limit of exposure to short-term interest rate and inflation risk  
Short-term exposure to interest rate risk 79,029
Exposure to inflation risk 94,661
Limit: 22% of (net interest income + net fee income sensitive to interest rates) 280,565
Available margin 106,875
Regulatory limit of exposure to long-term interest rate risk  
Long-term exposure to interest rate risk 884,774
35% of regulatory capital 1,272,399
Available margin 387,625

 

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Derivative activities

 

At December 31, 2016, 2015 and 2014, derivatives are valued at market price on the balance sheet and the net unrealized gain (loss) on derivatives is classified as a separate line item on the income statement. Notional amounts are not recorded on the balance sheet. Banks must mark to market derivatives. A derivative financial instrument held for trading purposes must be marked to market and the unrealized gain or loss recognized in the income statement. The SBIF recognizes three kinds of hedge accounting: (i) cash flow hedges, (ii) fair value hedges and (iii) hedging of foreign investments.

 

·When a cash flow hedge exists, the fair value movements on the part of the hedging instrument that is effective are recognized in equity. Any ineffective portion of the fair value movement on the hedging instrument is recognized in the income statement.

 

·When a fair value hedge exists, the fair value movements on the hedging instrument and the corresponding fair value movements on the hedged item are recognized in the income statement. Hedged items in the balance sheet are presented at their market value.

 

·When a hedge of foreign investment exposure exists (i.e. investment in a foreign branch), the fair value movements on the part of the hedging instrument that is effective are recognized in equity. Any ineffective portion of the fair value movement on the hedging instrument is recognized in the income statement.

 

In order to reduce the credit risk in its derivative contracts, the Bank has entered into Credit Support Annex (CSA) agreements with the majority of its counterparties, which include obligations to post daily cash collateral. The majority of the agreements include an obligation to post collateral with a threshold amount of zero. In the table below we identify those contracts with CSA and breakdown the fair value of our derivative portfolio by collateral threshold requirements for 2016 and 2015.

 

Fair value of derivative contracts  2016  2015
   Asset  Liabilities  Asset  Liability
             
Derivative contracts with zero threshold collateral amount in CSA    2,134,917    1,986,345    2,613,217    2,410,696 
Derivative contracts with threshold collateral amounts in CSA that are greater than zero    233,945    238,450    388,677    311,056 
Derivative contracts without CSA agreements    131,920    67,366    204,032    140,854 
Total    2,500,782    2,292,161    3,205,926    2,862,606 

 

We classify some of our derivative financial instruments as being held for trading, due to the guidelines from the SBIF. We enter into derivative contracts with some clients who seek hedging instruments. However, substantially all of our derivatives are not actually used for speculative purposes or trading. We also use derivatives to hedge our exposure to foreign exchange, interest rate and inflation risks. We had the following derivative financial instruments portfolio as of December 31, 2016, 2015 and 2014:

 

 

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   As of December 31, 2016
   Notional amounts  Fair Value
   Up to 3 months  More than 3 months to one year  More than one year  Assets  Liabilities
   (Ch$ million)
Fair value hedge derivative instruments               
Interest rate swaps    74,086    514,454    1,402,870    38,977    211 
Cross currency swaps    424,086    505,902    1,239,490    32,640    32,868 
Subtotal    498,172    1,020,356    2,642,360    71,617    33,079 
Cash Flow hedge derivative instruments                         
Currency forwards    915,879    639,939        10,216    3,441 
Cross currency swaps    897,480    2,613,706    4,260,194    43,591    68,894 
Subtotal    1,813,359    3,253,645    4,260,194    53,807    72,335 
Derivative instruments for trading                         
Currency forwards    15,840,731    11,240,251    3,358,765    185,618    209,955 
Interest rate swaps    6,889,665    12,512,285    49,747,459    627,047    526,695 
Cross currency swaps    3,966,443    7,589,201    53,148,109    1,562,068    1,449,549 
Call currency options    73,943    20,994    2,664    521    5 
Call interest rate options                     
Put currency options    52,143    7,892    2,664    104    542 
Subtotal    26,822,925    31,370,623    106,259,661    2,375,358    2,186,746 
Total    29,134,456    35,644,624    113,162,215    2,500,782    2,292,161 

 

 

 

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   As of December 31, 2015
   Notional amounts  Fair Value
   Up to 3 months  More than 3 months to one year  More than one year  Assets  Liabilities
   (Ch$ million)
Fair value hedge derivative instruments               
Interest rate swaps    327,955    1,184,795    630,970    5,480    6,364 
Cross currency swaps    9,441    30,040    1,842,421    181,557    1,483 
Subtotal    337,396    1,214,835    2,473,391    187,037    7,847 
Cash Flow hedge derivative instruments                         
Interest rate swaps                     
Cross currency swaps    7,281,184    4,445,006    2,720,520    273,291    69,716 
Subtotal    7,281,184    4,445,006    2,720,520    273,291    69,716 
Derivative instruments for trading                         
Currency forwards    18,731,575    13,328,727    3,459,386    341,236    318,416 
Interest rate swaps    7,272,523    15,677,393    56,140,894    533,416    540,011 
Cross currency swaps    5,881,627    5,898,094    44,921,355    1,826,977    1,883,185 
Call currency options    49,067    60,380    477,057    42,325    41,451 
Call interest rate options            264,473    1,148    1,253 
Put currency options    48,958    52,682        422    684 
Other Derivatives    125,258            74    43 
Subtotal    32,109,008    35,017,276    105,263,165    2,745,598    2,785,043 
Total    39,727,588    40,677,117    110,457,076    3,205,926    2,862,606 

 

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   As of December 31, 2014
   Notional amount  Fair value
   Up to 3 months  More than 3 months to 1 year  More than 1 year  Assets  Liabilities
   Ch$mn
Fair value hedge derivatives               
Interest rate swaps    97,812    846,168    668,166    9,821    2,540 
Cross currency swaps        193,704    694,852    110,448    7,997 
Subtotal    97,812    1,039,872    1,363,018    120,269    10,537 
Cash flow hedge derivatives                         
Interest rate swaps                     
Cross currency swaps    11,329    850,555    1,727,283    131,880    21,996 
Subtotal    11,329    850,555    1,727,283    131,880    21,996 
Trading derivatives                         
Currency forwards    8,740,802    20,156,612    2,155,381    342,726    277,789 
Interest rate swaps    1,675,560    16,147,587    37,838,280    518,392    485,798 
Cross currency swaps    524,274    4,395,731    19,028,968    1,609,197    1,761,196 
Call currency options    160,560    89,701        1,587    2,597 
Call interest rate options            103,474    795    633 
Put currency options    153,999    157,757    34,491    2,575    485 
Other derivatives    258,425            142    353 
Subtotal    11,513,620    40,947,388    59,160,594    2,475,414    2,528,851 
Total    11,622,761    42,837,815    62,250,895    2,727,563    2,561,384 
                          

 

 

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ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES

 

A.Debt Securities

 

Not applicable.

 

B.Warrants and Right

 

Not applicable.

 

C.Other Securities

 

Not applicable.

 

D.American Depositary Shares

 

Our Depositary is The Bank of New York Mellon, with its principal executive office located at One Wall Street, New York, N.Y. 10286.

 

Each ADS represents the right to receive 400 shares of Common Stock without par value.

 

Persons depositing or withdrawing shares or ADS holders must pay:
$5.00 (or less) per 100 ADSs

Issuance of ADSs, including issuances resulting from a distribution of shares or rights or other property

 

Cancellation of ADSs for the purpose of withdrawal, including if the Deposit Agreement terminates

$.05 (or less) per ADS (or a portion thereof) Any cash distribution to ADS holders
A fee equivalent to the fee that would be payable if securities distributed to you had been deposited with the Depositary Distribution of securities distributed to holders of deposited securities (including rights) that are distributed by the Depositary to ADS holders
$.05 (or less) per ADS (or a portion thereof) per calendar year Depositary services
Registration and transfer fees Transfer and registration of shares on our share register to or from the name of the Depositary or its agent when you deposit or withdraw shares
Expenses of the Depositary

Cable (including SWIFT), telex and facsimile transmissions (when expressly provided in the Deposit Agreement)

 

Converting foreign currency to U.S. dollars

Taxes and other governmental charges the Depositary or the custodian has to pay on any ADSs or shares underlying ADSs, such as  stock transfer taxes, stamp duty or withholding taxes

As necessary

 

Any other charges incurred by the Depositary or its agents for servicing the shares or other deposited securities As necessary

 

The Depositary may collect any of its fees by deducting those fees from any cash distributions payable to owners, or by selling a portion of distributable property to pay the fees.  The Depositary may also collect its annual fee for Depositary services and its fees for any other charges incurred by deducting those fees from any cash distributions or by directly billing ADS holders.

 

 

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The Depositary may convert currency itself or through any of its affiliates and, in those cases, acts as principal for its own account and not as agent, advisor, broker or fiduciary on behalf of any other person and earns revenue, including, without limitation, transaction spreads, that it will retain for its own account.  The revenue is based on, among other things, the difference between the exchange rate assigned to the currency conversion made under the Deposit Agreement and the rate that the Depositary or its affiliate receives when buying or selling foreign currency for its own account.  The Depositary makes no representation that the exchange rate used or obtained in any currency conversion under the Deposit Agreement will be the most favorable rate that could be obtained at the time or that the method by which that rate will be determined will be the most favorable to ADS holders, subject to the Depositary’s obligations under the Deposit Agreement.  The methodology used to determine exchange rates used in currency conversions is available upon request.

 

In performing its duties under the Deposit Agreement, the Depositary may use brokers, dealers, foreign currency dealers or other service providers that are owned by or affiliated with the Depositary and that may earn or share fees, spreads or commissions.

 

Direct and Indirect Payments

 

The Depositary has agreed to make payments to us to reimburse us for costs and expenses generally arising out of establishment and maintenance of the ADS program, waive fees and expenses for services provided to us by the Depositary or share revenue from the fees collected from ADS holders from time to time. Under certain circumstances, including termination of the program, we are required to repay to the Depositary amounts reimbursed in prior periods.

 

The reimbursements include direct payments (legal and accounting fees incurred in connection with preparation of Form 20-F and ongoing SEC compliance and listing requirements, listing fees, investor relations expenses, advertising and public relations expenses and fees payable to service providers for the distribution of hard copy materials to beneficial ADR holders in the Depositary Trust Company, such as information related to shareholders’ meetings and related voting instruction cards); and indirect payments (third-party expenses paid directly and fees waived).

 

In 2016, the Depositary made direct payments and reimbursements to us in the gross amount of U.S. 947,793 for expenses related to investor relations of which 30% was withheld for tax purposes in the U.S.

 

 

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PART II

 

ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES

 

Not applicable.

 

ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS

 

Not applicable.

 

ITEM 15. CONTROLS AND PROCEDURES

 

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

 

As of December 31, 2016, the Bank, under the supervision and with the participation of the Bank’s management, including its Disclosure Committee, the Chief Executive Officer, the Chief Financial Officer and the Financial Controller, performed an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act). There are, as described below, inherent limitations to the effectiveness of any control system, including disclosure controls and procedures. Accordingly, even effective disclosure controls and procedures can provide only reasonable assurance of achieving their control objectives.

 

Based on such evaluation, the Bank’s Disclosure Committee, the Chief Executive Officer, the Chief Financial Officer and the Financial Controller concluded that the Bank’s disclosure controls and procedures were effective in ensuring that information relating to the Bank, including its consolidated subsidiaries, required to be disclosed in the reports it files under the Exchange Act is (1) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and (2) accumulated and communicated to the Bank’s management, including its Disclosure Committee and principal financial officers as appropriate to allow timely decisions regarding required disclosure.

 

Management’s Report on Internal Control Over Financial Reporting

 

The Bank’s management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) under the Exchange Act. The Bank’s internal control over financial reporting is a process designed by, or under the supervision of, the Bank’s principal executive and principal financial officers and effected by the Bank’s Board of Directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with IFRS-IASB and includes those policies and procedures that:

 

·Pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Bank;

 

·Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with IFRS-IASB, and that our receipts and expenditures are being made only in accordance with authorizations of the Bank’s management and directors; and

 

·Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the financial statements.

 

Because of its inherent limitations, internal control over financial reporting, no matter how well designed may not prevent or detect misstatements, due to the possibility that a control can be circumvented or overridden or that misstatements due to error or fraud may occur that are not detected. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

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We have adapted our internal control over financial reporting to international standards and comply with the guidelines set by the Committee of Sponsoring Organizations of the Treadway Commission in its Internal Control―Integrated Framework (2013). The general framework assigns to management specific responsibilities regarding the structure and effectiveness of the processes related directly and indirectly with the production of consolidated financial statements, as well as the controls needed to mitigate the risks inherent in these processes.

 

Under the supervision and with the participation of the Bank’s management, including the Disclosure Committee, the Chief Executive Officer, the Chief Financial Officer and the Financial Controller, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the criteria established in Internal Control—Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”).

 

Based on this assessment, our management concluded that, as of December 31, 2016, our internal control over financial reporting was effective based on those criteria.

 

Changes in Internal Control Over Financial Reporting

 

There has been no change in the Bank’s internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) that occurred during the period covered by this Annual Report that has materially affected, or is reasonably likely to materially affect, internal control over financial reporting.

 

Our internal control over financial reporting as of December 31, 2016 has been audited by an independent registered public accounting firm, as stated in its report, which follows below.

 

Report of Independent Registered Public Accounting Firm

 

For the report of PricewaterhouseCoopers Consultores, Auditores y Compañía, independent registered public accounting firm, dated March 24, 2017, on the effectiveness of our internal control over financial reporting as of December 31, 2016, see page F-2 of our Audited Consolidated Financial Statements. 

 

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ITEM 16. [RESERVED]

 

ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT

 

Our Board of Directors has determined that one of the members of our Audit Committee, Mauricio Larraín, meets the requirements of an “audit committee financial expert” in accordance with SEC rules and regulations, in that he has an understanding of IFRS-IASB and financial statements, the ability to assess the general application of IFRS-IASB in connection with the accounting for estimates, accruals and reserves, experience analyzing and evaluating financial statements that present a breadth and level of complexity of accounting issues that are generally comparable to the breadth and complexity of issues that can reasonably be expected to be raised by our consolidated financial statements, an understanding of internal controls over financial reporting, and an understanding of audit committee functions. All four members of our Audit Committee have experience overseeing and assessing the performance of Santander-Chile and its consolidated subsidiaries and our external auditors with respect to the preparation, auditing and evaluation of our consolidated financial statements.

 

All three members of our Audit Committee are considered to be independent according to applicable NYSE criteria.

 

ITEM 16B. CODE OF ETHICS

 

The Bank has adopted a code of ethics that is applicable to all of the Bank’s employees and a copy is included as an exhibit hereto. We will provide to any person without charge, upon request, a copy of our code of ethics. Please email accionistas@santander.cl to request a copy. Our code of ethics is available on our website, which does not form part of this Annual Report on Form 20-F, at www.santander.cl under the heading “Información Corporativa”. http://www.santander.cl/accionistas/pdf/otros_documentos/codigo_general_de_conducta_banco-santander.pdf

 

ITEM 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES

 

Amounts paid to the auditors for statutory audit and other services were as follows:

 

   2016  2015
   (in millions of Ch$)
Audit Fees      
- Statutory audit    402    509 
- Audit-related regulatory reporting    248    245 
- Other audit-related fees    14    63 
Tax Fees          
- Compliance         
- Advisory Services        264 
Total    664    1,081 

 

Statutory audit: Consists of fees billed for professional services rendered in connection with the audit of our consolidated financial statements that are provided by PricewaterhouseCoopers Consultores, Auditores y Compañía Limitada in 2016 and Deloitte Auditores y Consultores Limitada in 2015 in connection with statutory and regulatory filings or engagements, and attest services.

 

Audit-related regulatory reporting: Consists of fees billed for assurance and related services that were specifically related to the performance of the audit and review of our filings under the Securities Act.

 

Tax fees: Consist of fees billed for related services that were specifically related to tax related matters such as assuring the Bank was in compliance with tax laws and other tax advisory services.

 

The Audit Committee is required to pre-approve the audit and non-audit services performed by the Bank auditors in order to assure that the provision of such services do not impair the audit firm’s independence.

 

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In the first months of each year the Audit Committee proposes to the Board the appointment of the independent auditor. As a matter of policy, at that time, the Audit Committee pre-approves the audit and audit related services that the appointed auditors will be required to carry out during the year to comply with the applicable regulation. These services will be included in the corresponding audit contracts of the Bank with its principal auditing firm.

 

In addition, under such policy, non-recurring audit or audit-related services and all non-audit services provided by the Bank principal auditing firm or other auditing firms are subject to case-by-case approval by the Audit Committee.

 

The Chief Accounting Officer is in charge of managing the process and must report monthly to the Audit Committee detailing all services to be provided by auditors, and others requiring individual approval.

 

All services provided by the Bank principal auditing firm in 2016 detailed in the table above were approved by the Audit and Compliance Committee.

 

ITEM 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES

 

Not applicable.

 

ITEM 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS

 

In 2016, neither Santander-Chile nor any of its affiliates purchased any of Santander-Chile’s equity securities.

 

ITEM 16F. CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT

 

Not applicable.

 

ITEM 16G. CORPORATE GOVERNANCE

 

Summary Comparison of Corporate Governance Standards and NYSE Listed Company Standards

 

Our corporate governance standards, dictated by Chilean corporate law, differ from the standards followed by U.S. companies under the New York Stock Exchange (NYSE) listing standards in a number of ways. Consequently, you will not have the same protections afforded to shareholders of companies that are subject to all NYSE corporate governance requirements. The following is a non-exhaustive summary of a few key differences:

 

·Whether a company’s executive officers may serve as its directors – the NYSE standards do not prohibit a U.S. company’s executive officer from also serving as a director, whereas our corporate governance standards prohibits this.

 

·Whether the shareholders must be given an opportunity to vote on equity-compensation plans – the NYSE standards require that shareholders be allowed to vote on all equity compensation plans of a U.S. company, whereas our corporate governance standards only require that shareholders be allowed to vote on director compensation.

 

·The adoption and disclosure of corporate governance guidelines – the NYSE standards require all U.S. companies listed on the NYSE to adopt the NYSE corporate governance guidelines, whereas we follow the corporate governance guidelines established under Chilean law.

 

As more than 50% of our voting power is held by another company, Santander Spain, we would be permitted to elect for certain exemptions under NYSE corporate governance standards if we were a U.S. company. Specifically, as a U.S. company, we could elect to be exempted from the requirements (i) that we have a majority of independent directors (as defined by the NYSE), (ii) that we have a nominating/corporate governance committee meeting certain conditions, and (iii) that we have a compensation committee meeting certain requirements. Because we would not be required to follow these standards if we were a U.S. company, we have not summarized the differences, if any, between these provisions and our own corporate governance procedures.

 

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Summary of Corporate Governance Standards

 

For a summary of our Board’s corporate governance practices please see “Item 6C—Board Practices,” which describes in detail the governing standards of the board committees. Santander-Chile has also adopted diverse measures to promote good corporate governance. Among the measures adopted are:

 

·Board of Directors mainly composed of professionals not related to Santander Spain, our parent company.

 

·All personnel must subscribe to a code of ethics and good conduct. Those who interact directly with the capital markets must also subscribe to an additional code of conduct.

 

·Segregation of functions in order to assure adequate management of risks. Commercial areas separated from back office areas. Risk management independent of commercial areas. Main credit decisions taken in committees.

 

·Internal Auditing Area clearly independent from the Administration.

 

·The Bank also has an Internal Compliance Division that oversees the fulfillment of the Bank’s codes of conduct.

 

Santander-Chile has a commitment to transparency. This includes:

 

·Equal treatment for all shareholders: one share equals to one vote.

 

·Monthly publication of the Bank’s results by the SBIF.

 

·Quarterly report of a detailed analysis of Bank results published by us at least 30 days after the close of each interim quarter and 40 days after close of the full year.

 

·Quarterly conference call open to the public.

 

·All information relevant to the public available immediately on the web page www.santander.cl.

 

·Ample and periodic coverage of the Bank by international and local stock analysts.

 

·The Bank has five credit risk ratings by five independent rating agencies, domestic and international.

 

In addition, our corporate governance practices reflect the Santander Spain corporate governance framework described below.

 

In December 2012, primarily in response to the requirements of the European Banking Authority, our controlling shareholder, Santander Spain, adopted a corporate governance framework (Marco de Gobierno Interno del Grupo Santander). The purpose of the framework is to organize and standardize the corporate governance practices of Santander Spain and its most significant subsidiaries, including us, in order to enhance the ability of Santander Spain to manage the risks arising from its operations around the world.

 

The three pillars of the framework are (i) an organizational model based on functions subject to internal governance, (ii) terms of reference according to which Santander Spain exercises control and oversight over its subsidiaries and participates in specific decisions at the subsidiary level and (iii) corporate models establishing common guidelines for the management and control of Santander Spain’s subsidiaries, subject to local autonomy considerations. In general, the framework purports to implement organizational and procedural changes rather than mandating particular substantive outcomes. However, in some cases, and subject to the limitations set forth in the framework, the framework states that Santander Spain may require that its subsidiaries make substantive changes or take specific actions. The framework enables Santander Spain to participate in the decision-making processes of its subsidiaries by requiring its approval of certain decisions that may have a significant impact on the Santander Group as a whole due to their significance or potential risk, such as decisions relating to mergers and acquisitions, capital structure, dividends and risk appetite, among other things. The framework also requires that a single person at each subsidiary be in charge of each function subject to internal governance and gives Santander Spain the authority to participate in the appointment, evaluation and compensation of each such person.

 

By its own terms, the framework as a whole is premised on the legal and financial autonomy of the subsidiaries and does not empower Santander Spain to supplant its subsidiaries’ decision-making processes. Moreover, each of the three pillars of the framework is explicitly made subject to local legal requirements. Our Board of Directors

 

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approved the adoption of this corporate governance framework in April 2013, subject to certain overarching principles:

 

·the precedence of applicable laws and regulations and orders of competent authorities over the framework to the extent they are in conflict; and

 

·the disclosure of the adoption of the corporate governance framework to the public and to our employees and subsidiaries.

 

As a result of the precedence given to local legal requirements in the framework itself and in our Board of Directors’ adopting resolutions, we do not expect that the adoption of the corporate governance framework will affect our ability to comply with applicable corporate governance regulations, including SEC and NYSE rules applicable to foreign private issuers. For example, although one provision of the framework states that we must obtain Santander Spain’s approval for our audit plan and that Santander Spain may request additional audits at its discretion, to the extent that this provision of the framework would prevent our Audit Committee from fulfilling any of the requirements of applicable SEC or NYSE rules (including, for example, the audit committee’s obligation to be directly responsible for the appointment, compensation, retention and oversight of the work of any registered public accounting firm engaged for the purpose of preparing an audit report), we understand that this provision would be limited so as not to conflict with such requirements due to the precedence given to local legal requirements in the framework and our adopting resolutions. Similarly, we understand that the authorities given to Santander Spain under the framework to approve certain decisions by us and to approve the compensation of certain persons in charge of functions subject to internal governance are limited by the framework and the adopting resolutions so as not to limit the ability of members of our Audit Committee to make independent decisions or take independent actions as required by the audit committee independence requirements of applicable SEC and NYSE rules.

 

ITEM 16H. MINE SAFETY DISCLOSURE

 

Not applicable.

 

 

 

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PART III

 

ITEM 17. FINANCIAL STATEMENTS

 

We have responded to Item 18 in lieu of this Item.

 

ITEM 18. FINANCIAL STATEMENTS

 

Reference is made to Item 19 for a list of all financial statements filed as part of this Annual Report.

 

ITEM 19. EXHIBITS

 

a) Index to Financial Statements

 

Report of PricewaterhouseCoopers Consultores, Auditores y Compañía Limitada, independent registered public accounting firm F-2
   
Report of Deloitte Auditores y Consultores Limitada, independent registered public accounting firm F-3
   
Audited Consolidated Financial Statements  
   
Consolidated Statements of Financial Position as of December 31, 2016 and 2015 F-5
   
Consolidated Statements of Income for each of the three years in the period ended December 31, 2016, 2015 and 2014

F-6

 

Consolidated Statements of Other Comprehensive Income for each of the three years in the period ended December 31, 2016, 2015 and 2014

F-7

 

Consolidated Statements of Changes in Equity for each of the three years in the period ended December 31, 2016, 2015 and 2014

F-8

 

Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 2016, 2015 and 2014

F-10

 

Notes to consolidated financial statements F-12

 

b) Index to Exhibits

 

Exhibit
Number
Description
1A.1 Restated Articles of Incorporation of Santander-Chile (Spanish Version) (incorporated by reference to our Registration Statement on Form F-4 (Registration No. 333-100975) filed with the Commission on December 12, 2002).
1A.2 Restated Articles of Incorporation of Santander-Chile (English Version) (incorporated by reference to our Registration Statement on Form F-4 (Registration No. 333-100975) filed with the Commission on December 12, 2002).
1B Amended and Restated By-Laws (estatutos) of Santander-Chile (English Version) (incorporated by reference to our Report on Form 6-K (File No. 001-14554) filed with the Commission on March 15, 2017).
2A.1 Form of Amended and Restated Deposit Agreement among Banco Santander-Chile, The Bank of New York Mellon (as depositary) and Owners and Holders of American Depositary Shares (incorporated by reference to our Registration Statement on Form F-6 (Registration No. 333-205890) filed with the Commission on July 27, 2015).

 

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Exhibit
Number
Description
2A.2 English translation of the Foreign Investment Contract among Banco Santander Chile, JPMorgan Chase Bank, N.A. and the Central Bank of Chile relating to the foreign exchange treatment of an investment in ADSs. (incorporated by reference to Banco Santander-Chile’s Annual Report for the fiscal year ended December 31, 2015 (File No. 1-14554) filed with the Commission on May 2, 2016).
2A.3 English translation of the Assignment of Rights under the Foreign Investment Contract from JPMorgan Chase Bank, N.A. to The Bank of New York Mellon. (incorporated by reference to Banco Santander-Chile’s Annual Report for the fiscal year ended December 31, 2015 (File No. 1-14554) filed with the Commission on May 2, 2016).
2A.4 Copy of the Central Bank Chapter XXVI Regulations Related to the Acquisition of Shares in Chilean Corporations and the Issuance of Instrument on Foreign Stock Exchanges or under Other Terms and Conditions of Issue (accompanied by an English translation) (incorporated by reference to Old Santander-Chile’s Annual Report for the fiscal year ended December 31, 1996 (File No. 1-13448) filed with the Commission on June 30, 1997).
2B.1 Agreement for the Issuance of Bonds dated November 26, 1996 between Old Santander-Chile and Banco Security (accompanied by an English translation) (incorporated by reference to Old Santander-Chile’s Annual Report for the fiscal year ended December 31, 1996 (File No. 1-13448) filed with the Commission on June 30, 1997).
2B.2 Indenture dated December 9, 2004 between Santander-Chile and Deutsche Bank Trust Company Americas, as trustee, providing for issuance of securities in series (incorporated by reference to Banco Santiago’s Annual Report on Form 20-F for the fiscal year ended December 31, 2005 (File No. 1-4554) filed with the Commission on April 12, 2006).
2B.3 Indenture dated March 16, 2001, as amended on May 30, 2003, October 22, 2004, May 3, 2005, and September 20, 2005 between Santander-Chile and Banco de Chile, as trustee, relating to issuance of UF14 million senior notes (copy to be furnished upon request).
8.1 List of Subsidiaries.
12.1 Section 302 Certification by the Chief Executive Officer.
12.2 Section 302 Certification by the Chief Financial Officer.
12.3 Section 302 Certification by the Financial Controller.
13.1 Section 906 Certification.

 

We will furnish to the Securities and Exchange Commission, upon request, copies of any unfiled instruments that define the rights of holders of long-term debt of Banco Santander-Chile.

 

 

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SIGNATURES

 

The registrant hereby certifies that it meets all of the requirements for filing on Form 20-F and that it has duly caused and authorized the undersigned to sign this Annual Report on its behalf.

 

BANCO SANTANDER-CHILE
 
 
  /s/ Cristian Florence
Name: Cristian Florence
Title: General Counsel

 

 

 

Date: March 24, 2017

 

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CONSOLIDATED FINANCIAL

STATEMENTS 2016 

Banco Santander Chile

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Table of Contents 

CONTENT

 

 

Consolidated Financial Statements  
   
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION F-5
CONSOLIDATED STATEMENTS OF INCOME F-6
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME F-7
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY F-8
CONSOLIDATED STATEMENTS OF CASH FLOW F-10
   
   
Notes to the Consolidated Financial Statements  
   
NOTE 01  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES F-12
NOTE 02  SIGNIFICANT EVENTS F-40
NOTE 03  REPORTING SEGMENTS F-44
NOTE 04  CASH AND CASH EQUIVALENTS F-48
NOTE 05  TRADING INVESTMENTS F-49
NOTE 06  INVESTMENTS UNDER RESALE AGREEMENTS AND OBLIGATIONS UNDER REPURCHASE AGREEMENTS F-50
NOTE 07  DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGE ACCOUNTING F-53
NOTE 08  INTERBANK LOANS F-60
NOTE 09  LOANS AND ACCOUNTS RECEIVABLE FROM CUSTOMERS F-61
NOTE 10  AVAILABLE FOR SALE INVESTMENTS F-70
NOTE 11  INVESTMENTS IN ASSOCIATES AND OTHER COMPANIES F-74
NOTE 12  INTANGIBLE ASSETS F-76
NOTE 13  PROPERTY, PLANT, AND EQUIPMENT F-78
NOTE 14 CURRENT AND DEFERRED TAXES F-81
NOTE 15  OTHER ASSETS F-84
NOTE 16  TIME DEPOSITS AND OTHER TIME LIABILITIES F-85
NOTE 17  INTERBANK BORROWINGS F-86
NOTE 18  ISSUED DEBT INSTRUMENTS AND OTHER FINANCIAL LIABILITIES F-89
NOTE 19  MATURITY OF ASSETS AND LIABILITIES F-95
NOTE 20  PROVISIONS F-97
NOTE 21  OTHER LIABILITIES F-98
NOTE 22  CONTINGENCIES AND COMMITMENTS F-98
NOTE 23  EQUITY F-100
NOTE 24  NON-CONTROLLING INTEREST F-104
NOTE 25  INTEREST INCOME F-108
NOTE 26  FEES AND COMMISSIONS F-110
NOTE 27  NET INCOME (EXPENSE) FROM FINANCIAL OPERATIONS F-111
NOTE 28  NET FOREIGN EXCHANGE GAIN (LOSS) F-111
NOTE 29  PROVISION FOR LOAN LOSSES F-112
NOTE 30  PERSONNEL SALARIES AND EXPENSES F-113
NOTE 31  ADMINISTRATIVE EXPENSES F-114
NOTE 32  DEPRECIATION, AMORTIZATION, AND IMPAIRMENT F-115
NOTE 33  OTHER OPERATING INCOME AND EXPENSES F-115
NOTE 34  TRANSACTIONS WITH RELATED PARTIES F-117
NOTE 35  PENSION PLANS F-123
NOTE 36  FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES F-126
NOTE 37  RISK MANAGEMENT F-134
NOTE 38  SUBSEQUENT EVENTS F-157

 

 

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Report of Independent Registered Public Accounting Firm

 

To the Board of Directors and Shareholders of Banco Santander Chile

 

In our opinion, the accompanying consolidated statement of financial position as of December 31, 2016 and the related consolidated statements of income, comprehensive income, cash flows and changes in equity for the year then ended, present fairly, in all material respects, the financial position of Banco Santander Chile and its subsidiaries at December 31, 2016, and the results of their operations and their cash flows for the year then ended in conformity with International Financial Reporting Standards as issued by the International Accounting Standards Board. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company´s management is responsible for these financial statements, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in Management´s Report on Internal Control over Financial Reporting appearing under Item 15 of this annual report. Our responsibility is to express opinions on these financial statements and on the Company´s internal control over financial reporting based on our integrated audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audit of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinions.

 

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

 

F-2 

Table of Contents 

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

/s/ PricewaterhouseCoopers Consultores, Auditores y Compañía Limitada 

PricewaterhouseCoopers Consultores, Auditores y Compañía Limitada

 

Santiago, Chile 

March 24, 2017

 

 

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Deloitte

Auditores y Consultores Limitada

Rosario Norte 407

Rut: 80.276.200-3

Las Condes, Santiago

Chile

Fono: (56) 227 297 000

Fax: (56) 223 749 177

deloittechile@deloitte.com

www.deloitte.cl

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

To the Board of Directors and Shareholders of

Banco Santander Chile

 

We have audited the accompanying consolidated statement of financial position of Banco Santander Chile and subsidiaries (the “Bank”) as of December 31, 2015 and the related consolidated statements of income, comprehensive income, changes in equity, and cash flows for each of the two years in the period ended December 31, 2015. These financial statements are the responsibility of the Bank´s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States of America). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements.  An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Banco Santander Chile and subsidiaries as of December 31, 2015 and the results of their operations and their cash flows for each of the two years in the period ended December 31, 2015 in conformity with International Financial Reporting Standards as issued by the International Accounting Standards Board (“IFRS-IASB”).

 

 

/s/ Deloitte Auditores y Consultores Limitada

 

Santiago, Chile 

May 1, 2016

 

 

 

Deloitte® se refiere a Deloitte Touche Tohmatsu Limited una compañía privada limitada por garantía, de Reino Unido, y a su red de firmas miembro, cada una de las cuales es una entidad legal separada e independiente. Por favor, vea en www.deloitte.com/cl/acercade la descripción detallada de la estructura legal de Deloitte Touche Tohmatsu Limited y sus firmas miembro.

 

Deloitte Touche Tohmatsu Limited es una compañía privada limitada por garantía constituida en Inglaterra & Gales bajo el número 07271800, y su domicilio registrado: Hill House, 1 Little New Street, London, EC4A 3TR, Reino Unido. 

 

 

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Banco Santander Chile and Subsidiaries

CONSOLIDATED STATEMENTS OF FINANCIAL POSITION

 

  As of December 31,
        2016   2015
  NOTE     MCh$   MCh$
             
ASSETS            
  Cash and deposits in banks 4     2,279,389   2,064,806
  Cash items in process of collection 4     495,283   724,521
  Trading investments 5     396,987   324,271
  Investments under resale agreements 6     6,736   2,463
  Financial derivative contracts 7     2,500,782   3,205,926
  Interbank loans, net 8     268,672   9,711
  Loans and accounts receivable from customers, net 9     26,147,154   24,528,745
  Available for sale investments 10     3,388,906   2,044,411
  Investments in associates and other companies 11     23,780   20,309
  Intangible assets 12     58,085   51,137
  Property, plant, and equipment 13     257,379   240,659
  Deferred taxes 14     359,600   320,527
  Other assets 15     847,272   1,100,174
TOTAL ASSETS       37,030,025   34,637,660
             
LIABILITIES            
  Deposits and other demand  liabilities 16     7,539,315   7,356,121
  Cash items in process of being cleared 4     288,473   462,157
  Obligations under repurchase agreements 6     212,437   143,689
  Time deposits and other time liabilities 16     13,151,709   12,182,767
  Financial derivative contracts 7     2,292,161   2,862,606
  Interbank borrowings 17     1,916,368   1,307,574
  Issued debt instruments 18     7,326,372   5,957,095
  Other financial liabilities 18     240,016   220,527
  Current taxes 14     29,294   17,796
  Deferred taxes 14     7,686   3,906
  Provisions 20     292,210   274,998
  Other liabilities 21     795,785   1,045,869
TOTAL LIABILITIES       34,091,826   31,835,105
             
EQUITY            
               
  Attributable to the equity holders of the Bank:       2,908,858   2,772,374
  Capital 23     891,303   891,303
  Reserves 23     1,640,112   1,527,893
  Valuation adjustments 23     6,640   1,288
  Retained earnings       370,803   351,890
    Retained earnings from prior years       37,551   37,963
    Income for the year       476,067   448,466
    Minus:  Provision for mandatory dividends 23     (142,815)   (134,539)
  Non-controlling interest 24     29,341   30,181
TOTAL EQUITY       2,938,199   2,802,555
             
TOTAL LIABILITIES AND EQUITY       37,030,025   34,637,660

 

 

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Banco Santander Chile and Subsidiaries

CONSOLIDATED STATEMENTS OF INCOME

For the years ended

 

    December 31,
        2016   2015   2014
  NOTE     MCh$   MCh$   MCh$
                 
OPERATING INCOME                
                 
Interest income 25     2,137,044   2,085,988   2,227,018
Interest expense 25     (855,678)   (830,782)   (909,914)
                 
         Net interest income       1,281,366   1,255,206   1,317,104
                 
Fee and commission income 26     431,184   402,900   366,729
Fee and commission expense 26     (176,760)   (165,273)   (139,446)
                 
         Net fee and commission income       254,424   237,627   227,283
                 
Net expense from financial operations 27     (367,034)   (457,897)   (159,647)
Net foreign exchange gain 28     507,392   603,396   272,212
Other operating income 33     6,427   6,439   6,545
                 
         Net operating profit before provision for loan losses       1,682,575   1,644,771   1,663,497
                 
Provision for loan losses 29     (342,083)   (399,277)   (354,903)
                   
NET OPERATING PROFIT       1,340,492   1,245,494   1,308,594
                 
Personnel salaries and expenses 30     (395,133)   (387,063)   (338,888)
Administrative expenses 31     (226,413)   (220,531)   (205,149)
Depreciation and amortization 32     (65,359)   (53,614)   (44,172)
Impairment of property, plant, and equipment 32     (234)   (21)   (36,664)
Other operating expenses 33     (68,902)   (58,729)   (58,946)
                 
         Total operating expenses       (756,041)   (719,958)   (683,819)
                 
OPERATING INCOME       584,451   525,536   624,775
                 
Income from investments in associates and other companies 11     3,012   2,588   2,165
                 
          Income before tax       587,463   528,124   626,940
                 
Income tax expense 14     (109,031)   (76,395)   (51,050)
                 
NET INCOME FOR THE YEAR       478,432   451,729   575,890
                 
Attributable to:                
Equity holders of the Bank       476,067   448,466   569,910
Non-controlling interest 24     2,365   3,263   5,980

Earnings per share attributable to

 

Equity holders of the Bank :

 

               
Basic earnings 23     2,526   2,380   3,024
Diluted earnings 23     2,526   2,380   3,024
                   

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Banco Santander Chile and Subsidiaries

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

For the years ended

 

    December 31,
        2016   2015   2014
  NOTE     MCh$   MCh$   MCh$
                 
NET INCOME FOR THE YEAR       478,432   451,729   575,890
                 
OTHER COMPREHENSIVE INCOME ITEMS WHICH MAY BE                
RECLASSIFIED SUBSEQUENTLY TO PROFIT OR LOSS                
                 
   Available for sale investments 10     14,468   (28,777)   20,844
   Cash flow hedge 23     (6,338)   (2,099)   18,982
                 

Other comprehensive income items which may be reclassified subsequently to profit or loss, before tax

      8,130   (30,876)   39,826
                 
Income tax related to items which may be reclassified subsequently to profit or loss 14     (1,976)   6,462   (8,289)
                 
Other comprehensive income items which may be reclassified subsequently to profit or loss, net of tax       6,154   (24,414)   31,537
TOTAL COMPREHENSIVE INCOME FOR THE YEAR       484,586   427,315   607,427
                 
    Attributable to:                
      Equity holders of the Bank       481,419   424,154   601,474
      Non-controlling interests 24     3,167   3,161   5,953

 

 

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Banco Santander Chile and Subsidiaries

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

For the years ended December 31, 2016, 2015 and 2014

 

    RESERVES VALUATION ADJUSTMENTS RETAINED EARNINGS      
  Capital Reserves and other retained earnings Effects of merger of companies under common control Available for sale investments Cash flow hedge

Income

tax effects

Retained earnings of prior years Income for the year Provision for mandatory dividends Total attributable to equity holders of the Bank Non-controlling interest Total Equity
  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
Equity as of December 31, 2013 891,303 1,133,215 (2,224) 802 (8,257) 1,491 18,016 442,294 (132,688) 2,343,952 28,504 2,372,456
Distribution of income from previous period - - - - - - 442,294 (442,294) - - - -
Equity as of January 1, 2014 891,303 1,133,215 (2,224) 802 (8,257) 1,491 460,310 - (132,688) 2,343,952 28,504 2,372,456
Increase or decrease of capital and reserves - - - - - - - - - - (1,374) (1,374)
Dividends distributions/ withdrawals made - - - - - - (265,156) - 132,688 (132,468) - (132,468)
Transfer of retained earnings to reserves - 176,770 - - - - (176,770) - - - - -
Provision for mandatory dividends - - - - - - - - (170,973) (170,973) - (170,973)
Subtotal - 176,770 - - - - (441,926) - (38,285) (303,441) (1,374) (304,815)
Other comprehensive income - - - 20,878 18,982 (8,296) - - - 31,564 (27) 31,537
Income for the year - - - - - - - 569,910 - 569,910 5,980 575,890
Subtotal - - - 20,878 18,982 (8,296) - 569,910 - 601,474 5,953 607,427
Equity as of December 31, 2014 891,303 1,309,985 (2,224) 21,680 10,725 (6,805) 18,384 569,910 (170,973) 2,641,985 33,083 2,675,068
Distribution of income from previous period - - - - - - 569,910 (569,910) - - - -
Equity as of January 1, 2015 891,303 1,309,985 (2,224) 21,680 10,725 (6,805) 588,294 - (170,973) 2,641,985 33,083 2,675,068
Dividends distributions/ withdrawals made - - - - - - (330,199) - 170,973 (159,226) - (159,226)
Transfer of retained earnings to reserves - 220,132 - - - - (220,132) - - - (6,063) (6,063)
Provision for mandatory dividends - - - - - - - - (134,539) (134,539) - (134,539)
Subtotal - 220,132 - - - - (550,331) - 36,434 (293,765) (6,063) (299,828)
Other comprehensive income - - - (28,645) (2,099) 6,432 - - - (24,312) (102) (24,414)
Income for the year - - - - - - - 448,466 - 448,466 3,263 451,729
Subtotal - - - (28,645) (2,099) 6,432 - 448,466 - 424,154 3,161 427,315
Equity as of December 31, 2015 891,303 1,530,117 (2,224) (6,965) 8,626 (373) 37,963 448,466 (134,539) 2,772,374 30,181 2,802,555
Distribution of income from previous period - - - - - - 448,466 (448,466) - - - -
Equity as of January 1, 2016 891,303 1,530,117 (2,224) (6,965) 8,626 (373) 486,429 - (134,539) 2,772,374 30,181 2,802,555
Dividends distributions/ withdrawals made - - - - - - (336,659) - 134,539 (202,120) (4,008) (206,128)
Transfer of retained earnings to reserves - 112,219 - - - - (112,219) - - - - -
Provision for mandatory dividends - - - - - - - - (142,815) (142,815) - (142,815)
Subtotal - 112,219 - - - - (448,878) - (8,276) (344,935) (4,008) (348,943)
Other comprehensive income - - - 13,414 (6,338) (1,724) - - - 5,352 803 6,155
Income for the year - - - - - - - 476,067 - 476,067 2,365 478,432
Subtotal - - - 13,414 (6,338) (1,724) - 476,067 - 481,419 3,168 484,587
Equity as of December 31, 2016 891,303 1,642,336 (2,224) 6,449 2,288 (2,097) 37,551 476,067 (142,815) 2,908,858 29,341 2,938,199

 

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Banco Santander Chile and Subsidiaries

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

For the years ended December 31, 2016, 2015 and 2014

 

Period Total attributable to equity holders of the Bank  

Allocated to

reserves

  Allocated to dividends  

Percentage

distributed

 

Number of

shares

 

Dividend per share

(in pesos)

  MCh$   MCh$   MCh$   %        
                       
Year 2015 (Shareholders Meeting April  2016) 448,878   112,219   336,659   75   188,446,126,794   1.787
                       
Year 2014 (Shareholders Meeting April  2015) 550,331   220,132   330,199   60   188,446,126,794   1.752

 

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Banco Santander Chile and Subsidiaries

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the years ended

 

        December 31,      
        2016   2015   2014
  NOTE     MCh$   MCh$   MCh$
                 
A - CASH FLOWS FROM OPERATING ACTIVITIES                
NET INCOME FOR THE YEAR       478,432   451,729      575,890
Debits (credits) to income that do not represent cash flows       (1,082,975)   (927,591)   (1,022,091)
Depreciation and amortization 32     65,359   53,614        44,127
Impairment of property, plant, and equipment 32     234   21        36,664
Provision for loan losses 29     420,381   467,417     413,880
Mark to market of trading investments       (2,682)   (3,001)   (11,285)
Income from investments in associates and other companies 11     (3,012)   (2,588)   (2,165)
Net gain on sale of assets received in lieu of payment 33     (1,663)   (2,455)   (2,811)
Provision on assets received in lieu of payment 33     9,246   7,803     1,577
Net gain on sale of property, plant and equipment 33     (2,017)   (381)   (687)
Net interest income 25     (1,281,366)   (1,255,206)   (1,317,104)
Net fee and commission income 26     (254,424)   (237,627)   (227,283)
Debits (credits) to income that do not represent cash flows       4,238   90,484      115,240
Changes  in deferred taxes 14     (37,269)   (45,672)   (72,244)
Increase/decrease in operating assets and liabilities       1,340,697   1,163,658   728,624
(Increase) of loans and accounts receivables from customers, net       (1,643,744)   (2,083,854)   (1,674,156)
(Increase) decrease of financial investments       (1,417,211)   (57,731)   (437,853)
Decrease (increase) due to resale agreements (assets)       (4,273)   2,463        17,469
Decrease (increase) of interbank loans       (261,744)   (1,057)      113,477
Decrease of assets received or awarded in lieu of payment       18,238   4,157     4,431
Increase of debits in customers checking accounts       268,695   744,863      727,604
Increase of time deposits and other time liabilities       968,942   1,768,827      738,668
Increase (decrease) of obligations with domestic banks       365,436   (66,006)        65,506
Increase of other demand liabilities or time obligations       (85,502)   130,763      132,130
Increase (decrease) of obligations with foreign banks       243,355   142,069   (516,156)
(Decrease) of obligations with Central Bank of Chile       3   (90)   (126)
(Decrease) increase of obligations under repurchase agreements       68,748   (248,437)      183,154
Increase (decrease) in other financial liabilities       19,489   15,402   15,344
Net increase of other assets and liabilities       259,900   (1,286,057)       (805,865)
Redemption of letters of credit       (16,606)   (26,720)   (29,668)
Mortgage bond issuance       -   -        36,941
Senior bond issuances       3,537,855   878,389   1,196,273
Redemption of mortgage bonds and payments of interest       (5,492)   (5,343)   (4,195)
Redemption of senior bonds and payments of interest       (2,499,271)   (231,972)   (574,507)
Redemption of subordinated bonds and payments of interest       (12,128)   (10,397)   (8,886)
Interest received       2,137,044   2,093,028   2,235,437
Interest paid       (855,678)   (836,544)   (913,800)
Dividends received from investments in other companies 11     217   278        119
Fees and commissions received 26     431,184   402,900   366,729
Fees and commissions paid 26     (176,760)   (165,273)   (139,446)
Total cash flow provided by (used in) operating activities       736,154   687,796   282,423
                       

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Banco Santander Chile and Subsidiaries

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the years ended

 

       December 31,
          2016   2015   2014  
  NOTE       MCh$   MCh$   MCh$  
                     
B - CASH FLOWS FROM INVESTMENT ACTIVITIES:                    
Purchases of property, plant, and equipment 13       (62,356)   (65,111)   (59,088)  
Sales of property, plant, and equipment 13       560   121        172  
Purchases of investments in associates and other companies 11       (1,123)   (302)   (6,313)  
Purchases of intangible assets 12       (27,281)   (27,573)   (27,437)  
Total cash flow (used in) provided by investment activities         (90,200)   (92,865)   (92,666)  
                     
C - CASH FLOW FROM FINANCING ACTIVITIES:                    
From shareholders’ financing activities         (336,659)   (330,199)   (265,156)  
Dividends paid         (336,659)   (330,199)   (265,156)  

Total cash flow used in financing activities

        (336,659)   (330,199)   (265,156)  
                     
D – NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS DURING THE YEAR         309,295   264,732   (75,399)  
                     
E – EFFECTS OF FOREIGN EXCHANGE RATE FLUCTUATIONS         (150,266)   203,436        34,893  
                     
F - INITIAL BALANCE OF CASH AND CASH EQUIVALENTS         2,327,170   1,859,002   1,899,508  
                     
FINAL BALANCE OF CASH AND CASH EQUIVALENTS 4       2,486,199   2,327,170   1,859,002  

 

 

      December 31,  
Reconciliation of provisions for the Consolidated Statement of Cash Flow for the year ended       2016   2015   2014
        MCh$   MCh$   MCh$
                 
Provision for loan losses for cash flow purposes 29     420,381   467,417   413,880
Recovery of loans previously charged off 29     (78,298)   (68,140)    (58,977)
Provision for loan losses – net       342,083   399,277   354,903
                   

 

 

 

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

CORPORATE INFORMATION

 

Banco Santander Chile (formerly Banco Santiago) is a banking corporation (limited company) operating under the laws of the Republic of Chile, headquartered at Bandera N°140, Santiago. The corporation provides a broad range of general banking services to its customers, ranging from individuals to major corporations. Banco Santander Chile and its subsidiaries (collectively referred to herein as the “Bank” or “Banco Santander Chile”) offers commercial and consumer banking services, including (but not limited to) factoring, collection, leasing, securities and insurance brokering, mutual and investment fund management, and investment banking.

 

Banco Santander Spain controls Banco Santander-Chile through its holdings in Teatinos Siglo XXI Inversiones Ltda. and Santander-Chile Holding S.A., which are controlled subsidiaries of Banco Santander Spain. As of December 31, 2016 Banco Santander Spain owns or controls directly and indirectly 99.5% of Santander-Chile Holding S.A. and 100% of Teatinos Siglo XXI Inversiones Ltda. This gives Banco Santander Spain control over 67.18% of the Bank’s shares.

 

a)      Basis of preparation

 

These Consolidated Financial Statements have been prepared in accordance with International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB) (hereinafter referred to as IFRS).

 

For purposes of these financial statements we use certain terms and conventions. References to “US$”, “U.S. dollars” and “dollars” are to United States dollars, references to “EUR” are to European Economic Community Euro, references to “CNY” are to Chinese Yuan, references to “CHF” are to Swiss franc, references to “Chilean pesos”, “pesos” or “Ch$” are to Chilean pesos, and references to “UF” are to Unidades de Fomento. The UF is an inflation-indexed Chilean monetary unit with a value in Chilean pesos that changes daily to reflect changes in the official Consumer Price Index (“CPI”) of the Instituto Nacional de Estadísticas (the Chilean National Institute of Statistics) for the previous month.

 

The UF is revalued in monthly cycles. Each day in the period beginning on the tenth day of the current month through the ninth day of the succeeding month, the nominal peso value of the UF is indexed up (or down in the event of deflation) in order to reflect a proportionate amount of the change in the Chilean Consumer Price Index during the prior calendar month. One UF is equaled to Ch$26,347.98 as of December 31, 2016 and Ch$25,629.09 as of December 31, 2015. In 2016, UF inflation was 2.7% compared to 4.4% in 2015. The effect of any changes in the nominal peso value of our UF-denominated interest earning assets and interest bearing liabilities is reflected in our results of operations as an increase (or decrease, in the event of deflation) in interest income and expense, respectively.

 

The Notes to the Consolidated Financial Statements contain additional information to support the figures submitted in the Consolidated Statement of Financial Position, Consolidated Statement of Income, Consolidated Statement of Comprehensive Income, Consolidated Statement of Changes in Equity and Consolidated Statement of Cash Flows for the period.

 

b)      Basis of preparation for the Consolidated Financial Statements

 

The Consolidated Financial Statements as of December 31, 2015 and 2014 and for the years ended December 31, 2016, 2015 and 2014, incorporate the financial statements of the entities over which the Bank has control (including structured entities); and includes the adjustments, reclassifications and eliminations needed to comply with the accounting and valuation criteria established by IFRS. Control is achieved when the Bank:

 

I.has power over the investee;

 

II.is exposed, or has rights, to variable returns from its involvement with the investee; and

 

III.has the ability to use its power to affect its returns.

 

The Bank reassesses whether or not it controls an investee if facts and circumstances indicate that there are changes to one or more of the three elements of control listed above.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

When the Bank has less than a majority of the voting rights of an investee, it has power over the investee when the voting rights are sufficient to give it the practical ability to direct the relevant activities over the investee unilaterally. The Bank considers all relevant facts and circumstances in assessing whether or not the Bank’s voting rights in an investee are sufficient to give it power, including:

 

·the size of the Bank’s holding of voting rights relative to the size and dispersion of holdings of the other vote holders;

 

·potential voting rights held by the Bank, other vote holders or other parties;

 

·rights arising from other agreements; and

 

·any additional facts and circumstances that indicate that the Bank has, or does not have, the current ability to direct the relevant activities at the time that decisions need to be made, including voting patterns at previous shareholders’ meetings.

 

Consolidation of a subsidiary begins when the Bank obtains control over the subsidiary and ceases when the Bank loses control over the subsidiary. Specifically, income and expenses of a subsidiary acquired or disposed of during the year are included in the Consolidated Statement of Income and in the Consolidated Statement of Comprehensive Income from the date the Bank gains control until the date when the Bank ceases to control the subsidiary.

 

Profit or loss and each component of other comprehensive income are attributed to the owners of the Bank and to the non-controlling interests. Total comprehensive income of subsidiaries is attributed to the owners of the Bank and to the non-controlling interests even if this results in the non-controlling interests having a deficit in certain circumstances.

 

When necessary, adjustments are made to the financial statements of the subsidiaries to ensure their accounting policies are consistent with the Bank’s accounting policies.

 

All intragroup assets, liabilities, equity, income, expenses and cash flows relating to transactions between consolidated entities are eliminated in full on consolidation.

 

Changes in the consolidated entities ownership interests in subsidiaries that do not result in a loss of control over the subsidiaries are accounted for as equity transactions. The carrying values of the Bank’s equity and the non-controlling interests’ equity are adjusted to reflect the changes to their relative interests in the subsidiaries. Any difference between the amount by which the non-controlling interests are adjusted and the fair value of the consideration paid or received is recognized directly in equity and attributed to owners of the Bank.

 

In addition, third parties’ shares in the Bank’s consolidated equity are presented as “Non-controlling interests” in the Consolidated Statement of Changes in Equity. Their share in the income for the year is presented as “Attributable to non-controlling interest” in the Consolidated Statement of Income.

 

The following companies are considered entities controlled by the Bank and are therefore within the scope of consolidation:

 

i.Entities controlled by the Bank through participation in equity

 

Name of the Subsidiary     Percent ownership share
    As of December 31,
  Place of Incorporation and
operation
2016   2015   2014
  Direct Indirect Total   Direct Indirect Total   Direct Indirect Total
Main Activity % % % % % %   % % %
                           
Santander Corredora de Seguros Limitada Insurance brokerage Santiago, Chile 99.75 0.01 99.76   99.75 0.01 99.76   99.75 0.01 99.76
Santander Corredores de Bolsa Limitada(*) Financial instruments brokerage Santiago, Chile 50.59 0.41 51.00   50.59 0.41 51.00   50.59 0.41 51.00
Santander Agente de Valores Limitada Securities brokerage Santiago, Chile 99.03 - 99.03   99.03 - 99.03   99.03 - 99.03
Santander S.A. Sociedad Securitizadora Purchase of credits and issuance of debt instruments Santiago, Chile 99.64 - 99.64   99.64 - 99.64   99.64 - 99.64
Santander Servicios de Recaudación y Pagos Limitada (**) Support society, making and receiving payment Santiago, Chile - - -   - - -   99.90 0.1 100.00

 

(*) On June 19, 2015, Santander Corredores de Bolsa Limitada, our stock broker company has changed its corporate structure to limited liability company. This situation was informed to SVS through an “essential fact” in accordance with the Law 18.045 articles 9° and 10°, and General Regulation (NCG) N°16 and N°30.

(**) From May 1, 2014, this entity was absorbed by the Bank, previous authorization obtained from the SBIF on March 26, 2014.

 

The detail of non-controlling participation on all the remaining subsidiaries can be seen in Note 24– Non-controlling interest.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

ii. Entities controlled by the Bank through other considerations

 

The following companies have been consolidated based on the determination that the Bank has control as previously defined above and in accordance with IFRS 10, Consolidated Financial Statements:

 

-Santander Gestión de Recaudación y Cobranza Limitada (collection services)

 

-Bansa Santander S.A. (management of repossessed assets and leasing of properties)

 

During 2015 Multinegocios S.A. (management of sales force), Servicios Administrativos y Financieros Limitada (management of sales force) and Multiservicios de Negocios Limitada (call center) have ceased rendering sales services to the Bank and the Bank no longer controls their relevant activities. Therefore as of June 30, 2015 these entities have been excluded from the consolidation perimeter.

 

As of August 1, 2014, Servicios de Cobranza Fiscalex Limitada was absorbed by Santander Gestión de Recaudación y Cobranza Limitada.

 

iii. Associates

 

An associate is an entity over which the Bank has significant influence. Significant influence, in this case, is defined as the power to participate in the financial and operating policy decisions of the investee but is not control or joint control over those policies. An investment in an associate is accounted for using the equity method from the date on which the investee becomes an associate.

 

The following companies are considered “Associates” in which the Bank accounts for its participation using the equity method:

 

        Percentage of  ownership share  
      As of December 31,  
    Place of
Incorporation and

operation
2016   2015   2014  
Associates Main activity %   %   %  
Redbanc S.A. ATM services Santiago, Chile 33.43   33.43   33.43  
Transbank S.A. Debit and credit card services Santiago, Chile 25.00   25.00   25.00  
Centro de Compensación Automatizado Electronic fund transfer and compensation services Santiago, Chile 33.33   33.33   33.33  
Sociedad Interbancaria de Depósito de Valores S.A. Delivery of securities on public offer Santiago, Chile 29.29   29.29   29.28  
Cámara Compensación de Alto Valor S.A. Payments clearing Santiago, Chile 14.93   14.23   14.14  
Administrador Financiero del Transantiago S.A. Administration of boarding passes to public transportation Santiago, Chile 20.00   20.00   20.00  
Sociedad Nexus S.A. Credit card processor Santiago, Chile 12.90   12.90   12.90  
Servicios de Infraestructura de Mercado OTC S.A. Administration of the infrastructure for the financial market of derivative instruments Santiago, Chile 12.07   11.11   11.11  
                   

 

In the case of Sociedad Nexus S.A. and Cámara Compensación de Pagos Alto Valor S.A., Banco Santander Chile has a representative on the Board of Directors. As per the definition of associates, the Bank has concluded that it exerts significant influence over those entities.

 

During the last quarter of 2016, Banco Penta ceded to Banco Santander Chile a portion of its share in the companies "Sociedad Operadora de la Cámara de Compensación de pagos de Alto Valor S.A." and "Servicios de Infraestructura de Mercado OTC S.A.", wherewith the Bank's share has increased to 14.93% and 12.07% respectively.

 

As of the ended of the third quarter of 2016, Deutsche Bank ceded to Banco Santander Chile a portion of its share in the companies "Sociedad Operadora de la Cámara de Compensación de pagos de Alto Valor S.A." and "Servicios de Infraestructura de Mercado OTC S.A.", wherewith the Bank's share has increased to 14.84% and 11.93% respectively.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

At the Extraordinary Shareholders meeting held in April 21, 2016, Transbank S.A. agreed to increase its capital by capitalizing the accumulated profits, through the issuance of shares redeemed for payment, and the placement of shares of payment for $4,000 million approximately. Banco Santander Chile participated proportionally to its participation (25%), reason why it subscribed and paid shares for approximately $1,000 million. Previously, Transbank agreed a capital increase at an Extraordinary Shareholders' Meeting held in April 2015, Banco Santander subscribed that agreement, maintaining its ownership.

 

In October 2015, HSBC Bank Chile sold its ownership share in Camara de Compensación de Pagos de Alto Valor S.A. to Banco Santander Chile, increasing our participation to 14.23%.

 

c)   Non-controlling interest

 

Non-controlling interest represents the portion of net income and net assets which the Bank does not own, either directly or indirectly. It is presented as “Attributable to non-controlling interest” separately in the Consolidated Statement of Income, and separately from shareholders’ equity in the Consolidated Statement of Financial Position.

 

In the case of entities controlled by the Bank through other considerations, income and equity are presented in full as non-controlling interest, since the Bank controls them, but does not have any ownership expressed as a percentage.

 

d)   Reporting segments

 

Operating segments with similar economic characteristics often exhibit similar long-term financial performance. Two or more segments can be combined only if aggregation is consistent with International Financial Reporting Standard 8 “Operating Segments” (IFRS 8) and the segments have similar economic characteristics and are similar in each of the following respects:

 

i.the nature of the products and services;

 

ii.the nature of the production processes;

 

iii.the type or class of customers that use their products and services;

 

iv.the methods used to distribute their products or services; and

 

v.if applicable, the nature of the regulatory environment, for example, banking, insurance, or public utilities.

 

The Bank reports separately on each operating segment that exceeds any of the following quantitative thresholds:

 

i.its reported revenue, from both external customers and intersegment sales or transfers, is 10% or more of the combined internal and external revenue of all the operating segments.

 

ii.the absolute amount of its reported profit or loss is 10% or more of the greater in absolute amount of: (i) the combined reported profit of all the operating segments that did not report a loss; (ii) the combined reported loss of all the operating segments that reported a loss.

 

iii.its assets represent 10% or more of the combined assets of all the operating segments.

 

Operating segments that do not meet any of the quantitative threshold may be treated as segments to be reported, in which case the information must be disclosed separately if management believes it could be useful for the users of the Consolidated Financial Statements.

 

Information about other business activities of the operating segments not separately reported is combined and disclosed in the “Other segments” category.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

According to the information presented, the Bank’s segments were determined under the following definitions: An operating segment is a component of an entity:

 

i.that engages in business activities from which it may earn revenues and incur expenses (including revenues and expenses from transactions with other components of the same entity);

 

ii.whose operating results are regularly reviewed by the entity’s chief executive officer, who makes decisions about resources allocated to the segment and assess its performance; and

 

iii.for which discrete financial information is available.

 

e)      Functional and presentation currency

 

According to International Accounting Standard (IAS) 21 “The Effects of Changes in Foreign Exchange Rates”, the Chilean peso, which is the currency of the primary economic environment in which the Bank operates and the currency which influences its costs and revenue structure, has been defined as the Bank’s functional and presentation currency.

 

Accordingly, all balances and transactions denominated in currencies other than the Chilean Peso are treated as “foreign currency”.

 

The Bank maintains its accounting records and prepares its financial statements in Chilean pesos. The US dollar amounts disclosed in the accompanying financial statements are presented solely for the convenience of the reader as of December 31, 2016 using the observed exchange rate of Ch$666.00 per US$1.00. Such translations should not be construed as representations that the (local currency) amounts represent, or have been or could be converted into, United States dollars at that or any other rate.

 

f)       Foreign currency transactions

 

The Bank makes transactions in amounts denominated in foreign currencies, mainly the U.S. dollar. Assets and liabilities denominated in foreign currencies, held by the Bank are translated to Chilean pesos based on the market rate published by Reuters at 1:30 p.m. representative of the month end reported; the rate used was Ch$666.00 per US$1 as of December 31, 2016 (Ch$707.80 per US$1 as of December, 2015).

 

The amounts of net foreign exchange gains and losses includes recognition of the effects that exchange rate variations have on assets and liabilities denominated in foreign currencies and the profits and losses on foreign exchange spot and forward transactions undertaken by the Bank.

 

g)      Definitions and classification of financial instruments

 

i.Definitions

 

A “financial instrument” is any contract that gives rise to a financial asset of one entity, and a financial liability or equity instrument of another entity.

 

An “equity instrument” is a legal transaction that evidences a residual interest in the assets of an entity deducting all of its liabilities.

 

A “financial derivative” is a financial instrument whose value changes in response to the changes in an observable market variable (such as an interest rate, a foreign exchange rate, a financial instrument’s price, or a market index, including credit ratings), whose initial investment is very small compared with other financial instruments having a similar response to changes in market factors, and which is generally settled at a future date.

 

“Hybrid financial instruments” are contracts that simultaneously include a non-derivative host contract together with a financial derivative, known as an embedded derivative, which is not separately transferable and has the effect that some of the cash flows of the hybrid contract vary in a way similar to a stand-alone derivative.

 

ii.Classification of financial assets for measurement purposes

 

Financial assets are classified into the following specified categories: financial assets trading investments at fair value through profit or loss (FVTPL), ‘held to maturity investments’, ‘available for sale investments (AFS)’ financial assets and ‘loans and accounts receivable from customers'. The classification depends on the nature and purpose of the financial assets and is determined at the time of initial recognition. All regular way purchases or sales of financial asset are recognized and derecognized on a trade basis.

 

F-16 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

Regular way purchases or sales of financial assets require delivery of the asset within the time frame established by regulation or convention in the marketplace.

 

Financial assets are initially recognized at fair value plus, in the case of financial assets not at fair value through profit or loss, transaction costs that are directly attributable to the acquisition or issue.

 

Effective interest method

 

The effective interest method is a method of calculating the amortised cost of a debt instrument and of allocating interest income over the relevant period. The effective interest rate is the rate that exactly discounts estimated future cash receipts (including all fees and points paid or received that form an integral part of the effective interest rate, transaction costs and other premiums or discounts) through the expected life of the debt instrument, or, where appropriate, a shorter period, to the net carrying amount on initial recognition.

 

Income is recognised on an effective interest basis for loans and accounts receivables other than those financial assets classified as at fair value through profit or loss.

 

Financial assets FVTPL - Trading investments

 

Financial assets are classified as FVTPL when the financial asset is either held for trading or it is designated as at fair value through profit or loss.

 

A financial asset is classified as held for trading if:

 

  · it has been acquired principally for the purpose of selling it in the near term; or
  · on initial recognition it is part of a portfolio of identified financial instruments that the Bank manages together and has a recent actual pattern of short-term profit-taking; or
  · it is a derivative that is not designated and effective as a hedging instrument.

A financial asset other than a financial asset held for trading may be designated as FVTPL upon initial recognition if:

 

  · such designation eliminates or significantly reduces a measurement or recognition inconsistency that would otherwise arise; or
  · the financial asset forms part of a group of financial assets or financial liabilities or both, which is managed and its performance is evaluated on a fair value basis, in accordance with the Bank's documented risk management or investment strategy, and information about the grouping is provided internally on that basis; or
  · it forms part of a contract containing one or more embedded derivatives, and IAS 39 permits the entire combined contract to be designated as FVTPL.

 

Financial assets FVTPL are stated at fair value, with any gains or losses arising on remeasurement recognised in profit or loss. The net gain or loss recognised in profit or loss incorporates any dividend or interest earned on the financial asset and is included in the ‘net income (expense) from financial operations' line item.

 

Held to maturity investments

 

Held-to-maturity investments are non-derivative financial assets with fixed or determinable payments and fixed maturity dates that the Bank has the positive intent and ability to hold to maturity. Subsequent to initial recognition, held-to-maturity investments are measured at amortised cost using the effective interest method less any impairment.

 

Available for sale investments (AFS investments)

 

AFS investments are non-derivatives that are either designated as AFS or are not classified as (a) loans and accounts receivable from customers, (b) held-to-maturity investments or (c) financial assets at fair value through profit or loss (trading investments).

 

F-17 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

Financial instruments held by the Bank that are traded in an active market are classified as AFS and are stated at fair value at the end of each reporting period. The Bank also has investments in financial instruments that are not traded in an active market but that are also classified as AFS investments and stated at fair value at the end of each reporting period (because the Bank considers that fair value can be reliably measured). Changes in the carrying amount of AFS monetary financial assets relating to changes in foreign currency rates, interest income calculated using the effective interest method and dividends on AFS equity investments are recognised in profit or loss. Other changes in the carrying amount of available for sale investments are recognised in other comprehensive income and accumulated under the heading of “Valuation Adjustment”. When the investment is disposed of or is determined to be impaired, the cumulative gain or loss previously accumulated in the investments revaluation reserve is reclassified to profit or loss.

 

Dividends on AFS equity instruments are recognised in profit or loss when the Bank's right to receive the dividends is established.

 

The fair value of AFS monetary financial assets denominated in a foreign currency is determined in that foreign currency and translated as the described in f) above. The foreign exchange gains and losses that are recognised in profit or loss are determined based on the amortised cost of the monetary asset.

 

Loans and accounts receivable from customers

 

Loans and accounts receivable from customers are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. Loans and accounts receivables from customers (including loans and accounts receivable from customers and interbank loans) are measured at amortised cost using the effective interest method, less any impairment.

 

Interest income is recognised by applying the effective interest rate, except for short-term receivables when the effect of discounting is immaterial.

 

iii.Classification of financial assets for presentation purposes

 

For presentation purposes, the financial assets are classified by their nature into the following line items in the Consolidated Financial Statements:

 

-Cash and deposits in banks: this line includes cash balances, checking accounts and on-demand deposits with the Central Bank of Chile and other domestic and foreign financial institutions. Amounts invested as overnight deposits are included in this item.

 

-Cash items in process of collection: this item represents domestic transactions in the process of transfer through a central domestic clearinghouse or international transactions which may be delayed in settlement due to timing differences, etc.

 

-Trading investments: this item includes financial instruments held-for-trading and investments in mutual funds which must be adjusted to their fair value in the same way as instruments acquired for trading.

 

-Investments under resale agreements: includes balances of financial instruments purchased under resale agreement.

 

-Financial derivative contracts: financial derivative contracts with positive fair values are presented in this item. It includes both independent contracts as well as derivatives that should and can be separated from a host contract, whether they are for trading or accounted for as derivatives held for hedging, as shown in Note 7 to the Consolidated Financial Statements.

 

·Trading derivatives: includes the fair value of derivatives which do not qualify for hedge accounting, including embedded derivatives separated from hybrid financial instruments.

 

·Hedging derivatives: includes the fair value of derivatives designated as being in a hedging relationship, including the embedded derivatives separated from the hybrid financial instruments.

 

-Interbank loans: this item includes the balances of transactions with domestic and foreign banks, including the Central Bank of Chile, other than those reflected in certain other financial asset classifications listed above.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

-Loans and accounts receivables from customers: these loans are non-derivative financial assets for which fixed or determined amounts are charged, that are not listed on an active market and which the Bank does not intend to sell immediately or in the short term. When the Bank is the lessor in a lease, and it substantially transfers the risks and rewards incidental to the leased asset, the transaction is presented in loans and accounts receivable from customers while the leased asset is derecognized in the Bank´s statement of financial position.

 

-Investment instruments: are classified into two categories: held-to-maturity investments, and available-for-sale investments. The held-to-maturity investment classification includes only those instruments for which the Bank has the ability and intent to hold to maturity. The remaining investments are treated as available for sale.

 

iv.Classification of financial liabilities for measurement purposes

 

Financial liabilities are classified as either financial liabilities FVTPL or other financial liabilities.

 

Financial liabilities FVTPL

 

Financial liabilities are classified as FVTPL when the financial liability is either held for trading or it is designated as FVTPL.

 

A financial liability is classified as held for trading if:

 

  · it has been incurred principally for the purpose of repurchasing it in the near term; or
  · on initial recognition it is part of a portfolio of identified financial instruments that the Bank manages together and has a recent actual pattern of short-term profit-taking; or
  · it is a derivative that is not designated and effective as a hedging instrument.

 

A financial liability other than a financial liability held for trading may be designated as FVTPL upon initial recognition if:

 

  · such designation eliminates or significantly reduces a measurement or recognition inconsistency that would otherwise arise; or
  · the financial liability forms part of a group of financial assets or financial liabilities or both, which is managed and its performance is evaluated on a fair value basis, in accordance with the Bank's documented risk management or investment strategy, and information about the grouping is provided internally on that basis; or
  · it forms part of a contract containing one or more embedded derivatives, and IAS 39 permits the entire combined contract to be designated as FVTPL.

 

Financial liabilities FVTPL are stated at fair value, with any gains or losses arising on remeasurement recognised in profit or loss. The net gain or loss recognised in profit or loss incorporates any interest paid on the financial liability and is included in the ‘net income (expense) from financial operations' line item.

 

Other financial liabilities

 

Other financial liabilities (including borrowings and trade and other payables) are initially recorded at fair value and subsequently measured at amortised cost using the effective interest method.

 

The effective interest method is a method of calculating the amortised cost of a financial liability and of allocating interest expense over the relevant period. The effective interest rate is the rate that exactly discounts estimated future cash payments (including all fees and points paid or received that form an integral part of the effective interest rate, transaction costs and other premiums or discounts) through the expected life of the financial liability, or (where appropriate) a shorter period, to the net carrying amount on initial recognition.

 

v.Classification of financial liabilities for presentation purposes

 

The financial liabilities are classified by their nature into the following line items in the consolidated statements of financial position:

 

-Deposits and other on- demand liabilities: this includes all on-demand obligations except for term savings accounts, which are not considered on-demand instruments in view of their special characteristics. Obligations whose payment may be required during the period are deemed to be on-demand obligations. Operations which become callable the day after the closing date are not treated as on-demand obligations.

 

F-19 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

-Cash items in process of being cleared: this represents domestic transactions in the process of transfer through a central domestic clearing house or international transactions which may be delayed in settlement due to timing differences, etc.

 

-Obligations under repurchase agreements: this includes the balances of sales of financial instruments under securities repurchase and loan agreements. The Bank does not record as own portfolio instruments acquired under repurchase agreements.

 

-Time deposits and other time liabilities: this shows the balances of deposit transactions in which a term at the end of which they become callable has been stipulated.

 

-Financial derivative contracts: this includes financial derivative contracts with negative fair values (i.e. a liability of the Bank), whether they are for trading or for hedge accounting, as set forth in Note 7.

 

·Trading derivatives: includes the fair value of derivatives which do not qualify for hedge accounting, including embedded derivatives separated from hybrid financial instruments.

 

·Hedging derivatives: includes the fair value of derivatives designated as being in a hedging relationship, including the embedded derivatives separated from the hybrid financial instruments.

 

-Interbank borrowings: this includes obligations due to other domestic banks, foreign banks, or the Central Bank of Chile, other than those reflected in certain other financial liability classifications listed above.

 

-Issued debt instruments: there are three types of instruments issued by the Bank: Obligations under letters of credit, Subordinated bonds and Senior bonds placed in the local and foreign market.

 

-Other financial liabilities: this item includes credit obligations to persons other than domestic banks, foreign banks, or the Central Bank of Chile, for financing purposes or operations in the normal course of business.

 

h)      Valuation of financial instruments and recognition of fair value changes

 

In general, financial assets and liabilities are initially recognized at fair value which, in the absence of evidence to the contrary, is deemed to be the transaction price. Financial instruments, other than those measured at fair value through profit or loss, are initially recognized at fair value plus transaction costs. Subsequently, and at the end of each reporting period, financial instruments are measured pursuant to the following criteria:

 

i.Valuation of financial instruments

 

Financial assets are measured according to their fair value, gross of any transaction costs that may be incurred in the course of a sale, except for credit investments and held to maturity investments.

 

According to IFRS 13 Fair Value Measurement (effective date from January 1, 2013), “fair value” is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction in the principal (or most advantageous) market at the measurement date under current market conditions (i.e. an exit price) regardless of whether that price is directly observable or estimated using another valuation technique. When measuring fair value an entity shall take into account the characteristics of the asset or liability if market participants would take those characteristics into account when pricing the asset or liability at the measurement date.

 

The fair value measurement assumes that the transaction to sell the asset or transfer the liability takes place either: (a) in the principal market for the asset or liability, or (b) in the absence of a principal market, the most advantageous market for the asset or liability. Even when there is no observable market to provide pricing information in connection with the sale of an asset or the transfer of a liability at the measurement date, the fair value measurement shall assume that the transaction takes place, considered from the perspective of a potential market participant who intends to maximize value associated with the asset or liability.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

When using valuation techniques, the Bank shall maximize the use of relevant observable inputs and minimize the use of unobservable inputs as available. If an asset or a liability measured at fair value has a bid price and an ask price, the price within the bid-ask spread that is most representative of fair value in the circumstances shall be used to measure fair value regardless of where the input is categorized within the fair value hierarchy (i.e. Level 1, 2 or 3). IFRS 13 establishes a fair value hierarchy that categorizes into three levels the inputs to valuation techniques used to measure fair value. The fair value hierarchy gives the highest priority to quoted prices (unadjusted) in active markets for identical assets or liabilities (Level 1 inputs) and the lowest priority to unobservable inputs (Level 3 inputs).

 

All derivatives are recorded in the Consolidated Statements of Financial Position at the fair value previously described. This value is compared to the valuation as at the trade date. If the fair value is subsequently measured positive, this is recorded as an asset. If the fair value is subsequently measured negative, this is recorded as a liability. The fair value on the trade date is deemed, in the absence of evidence to the contrary, to be the transaction price. The changes in the fair value of derivatives from the trade date are recorded in “Net income (expense) from financial operations” in the Consolidated Statement of Income.

 

Specifically, the fair value of financial derivatives included in the portfolios of financial assets or liabilities held for trading is deemed to be their daily quoted price. If, for exceptional reasons, the quoted price cannot be determined on a given date, the fair value is determined using similar methods to those used to measure over the counter (OTC) derivatives. The fair value of OTC derivatives is the sum of the future cash flows resulting from the instrument, discounted to present value at the date of valuation (“present value” or “theoretical close”) using valuation techniques commonly used by the financial markets: “net present value” (NPV) and option pricing models, among other methods. Also, within the fair value of derivatives are included Credit Valuation Adjustment (CVA) and Debit Valuation Adjustment (DVA), all with the objective that the fair value of each instrument includes the credit risk of its counterparty and Bank´s own risk. The Credit valuation adjustment (CVA) is a valuation adjustment to OTC derivatives as a result of the risk associated with the credit exposure assumed by each counterparty. The CVA is calculated taking into account potential exposure to each counterparty in each future period. The debit valuation adjustment (DVA) is a valuation adjustment similar to the CVA but, in this case, it arises as a result of the Bank’s own risk assumed by its counterparties in OTC derivatives. As of December 31, 2016, CVA and DVA amounts to MCh$17,004 and MCh$15,002, respectively.

 

“Loans and accounts receivable from customers” and Held-to-maturity instrument portfolio are measured at amortized cost using the effective interest method. Amortized cost is the acquisition cost of a financial asset or liability, plus or minus, as appropriate, prepayments of principal and the cumulative amortization (recorded in the consolidated income statement) of the difference between the initial cost and the maturity amount as calculated under the effective interest method. For financial assets, amortized cost also includes any reductions for impairment or uncollectibility. For loans and accounts receivable designated as hedged items in fair value hedges, the changes in their fair value related to the risk or risks being hedged are recorded in “Net income (expense) from financial operations”.

 

The “effective interest rate” is the discount rate that exactly matches the initial amount of a financial instrument to all its estimated cash flows over its remaining life. For fixed-rate financial instruments, the effective interest rate incorporates the contractual interest rate established on the acquisition date plus, where applicable, the fees and transaction costs that are a part of the financial return are included. For floating-rate financial instruments, the effective interest rate matches the current rate of return until the date of the next review of interest rates.

 

Equity instruments whose fair value cannot be determined in a sufficiently objective manner and financial derivatives, whose underlying is an equity instrument that are settled by delivery of those instruments, are measured at acquisition cost adjusted for any related impairment loss.

 

The amounts at which the financial assets are recorded represent the Bank’s maximum exposure to credit risk as at the reporting date. The Bank has also received collateral and other credit enhancements to mitigate its exposure to credit risk, which consist mainly of mortgage guarantees, equity instruments and personal securities, assets under leasing agreements, assets acquired under repurchase agreements, securities loans and derivatives.

 

ii.Valuation techniques

 

Financial instruments at fair value, determined on the basis of price quotations in active markets, include government debt securities, private sector debt securities, equity shares, short positions, and fixed-income securities issued.

 

In cases where price quotations cannot be observed in available markets, the Bank’s management determines a best estimate of the price that the market would set using its own internal models. In most cases, these models use data based on observable market parameters as significant inputs however for some valuations of financial instruments, significant inputs are unobservable in the market. To determine a value for those instruments, various techniques are employed to make these estimates, including the extrapolation of observable market data.

F-21 

Table of Contents 

 

NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

The most reliable evidence of the fair value of a financial instrument on initial recognition usually is the transaction price, however due to lack of availability of market information, the value of the instrument may be derived from other market transactions performed with the same or similar instruments or may be measured by using a valuation technique in which the variables used include only observable market data, mainly interest rates.

 

The main techniques used as of December 31, 2016 and 2015 by the Bank’s internal models to determine the fair value of the financial instruments are as follows:

 

i.In the valuation of financial instruments permitting static hedging (mainly forwards and swaps), the present value method is used. Estimated future cash flows are discounted using the interest rate curves of the related currencies. The interest rate curves are generally observable market data.

 

ii.In the valuation of financial instruments requiring dynamic hedging (mainly structured options and other structured instruments), the Black-Scholes model is normally used. Where appropriate, observable market inputs are used to obtain factors such as the bid-offer spread, exchange rates, volatility, correlation indexes and market liquidity.

 

iii.In the valuation of certain financial instruments exposed to interest rate risk, such as interest rate futures, caps and floors, the present value method (futures) and the Black-Scholes model (plain vanilla options) are used. The main inputs used in these models are observable market data, including the related interest rate curves, volatilities, correlations and exchange rates.

 

The fair value of the financial instruments calculated by the aforementioned internal models considers contractual terms and observable market data, which include interest rates, credit risk, exchange rates, quoted market price of shares, volatility and prepayments, among others. The Bank’s management considers that its valuation models are not significantly subjective, since these methodologies can be adjusted and evaluated, as appropriate, through the internal calculation of fair value and the subsequent comparison with the related actively traded price.

 

iii.Hedging transactions

 

The Bank uses financial derivatives for the following purposes:

 

i.to sell to customers who request these instruments in the management of their market and credit risks;

 

ii.to use these derivatives in the management of the risks of the Bank entities’ own positions and assets and liabilities (“hedging derivatives”), and

 

iii.to obtain profits from changes in the price of these derivatives (trading derivatives).

 

All financial derivatives that are not held for hedging purposes are accounted for as trading derivatives.

 

A derivative qualifies for hedge accounting if all the following conditions are met:

 

1.The derivative hedges one of the following three types of exposure:

 

a.Changes in the value of assets and liabilities due to fluctuations, among others, in the interest rate and/or exchange rate to which the position or balance to be hedged is subject (“fair value hedge”);

 

b.Changes in the estimated cash flows arising from financial assets and liabilities, and highly probable forecasted transactions (“cash flow hedge”);

 

c.     The net investment in a foreign operation (“hedge of a net investment in a foreign operation”).

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

2.It is effective in offsetting exposure inherent in the hedged item or position throughout the expected term of the hedge, which means that:

 

a.At the date of arrangement the hedge is expected, under normal conditions, to be highly effective (“prospective effectiveness”).

 

b.There is sufficient evidence that the hedge was actually effective during the life of the hedged item or position (“retrospective effectiveness”).

 

3.There must be adequate documentation evidencing the specific designation of the financial derivative to hedge certain balances or transactions and how this effective hedge was expected to be achieved and measured, provided that this is consistent with the Bank’s management of own risks.

 

The changes in the value of financial instruments qualifying for hedge accounting are recorded as follows:

 

a.For fair value hedges, the gains or losses arising on both hedging instruments and the hedged items (attributable to the type of risk being hedged) are included as “Net income (expense) from financial operations” in the Consolidated Statement of Income.

 

b.For fair value hedges of interest rate risk on a portfolio of financial instruments, gains or losses that arise in measuring hedging instruments and other gains or losses due to changes in fair value of the underlying hedged item (attributable to the hedged risk) are recorded in the Consolidated Statement of Income under “Net income (expense ) from financial operations”.

 

c.For cash flow hedges, the change in fair value of the hedging instrument is included as “Cash flow hedge” in “Other comprehensive income”, until the hedged transaction occurs, thereafter being reclassified to the Consolidated Statement of Income, unless the hedged transaction results in the recognition of non–financial assets or liabilities, in which case it is included in the cost of the non-financial asset or liability.

 

d.The differences in valuation of the hedging instrument corresponding to the ineffective portion of the cash flow hedging transactions are recorded directly in the Consolidated Statement of Income under “Net income (expense) from financial operations”.

 

If a derivative designated as a hedging instrument no longer meets the requirements described above due to expiration, ineffectiveness or for any other reason, hedge accounting treatment is discontinued. When “fair value hedging” is discontinued, the fair value adjustments to the carrying amount of the hedged item arising from the hedged risk are amortized to gain or loss from that date, where applicable.

 

When cash flow hedges are discontinued, any cumulative gain or loss of the hedging instrument recognized under “Other comprehensive income” (from the period when the hedge was effective) remains recorded in equity until the hedged transaction occurs, at which time it is recorded in the Consolidated Statement of Income, unless the transaction is no longer expected to occur, in which case any cumulative gain or loss is recorded immediately in the Consolidated Statement of Income.

 

iv.Derivatives embedded in hybrid financial instruments

 

Derivatives embedded in other financial instruments or in other hybrid contracts are accounted for separately as derivatives if 1) their risks and characteristics are not closely related to the host contracts, 2) a separate instrument with the same terms as the embedded derivative would meet the definition of a derivative, and 3) provided that the hybrid contracts are not classified as “Trading investments” or as other financial assets (liabilities) at fair value through profit or loss.

 

v.Offsetting of financial instruments

 

Financial asset and liability balances are offset, i.e., reported in the Consolidated Statements of Financial Position at their net amount, only if there is a legally enforceable right to offset the recorded amounts and the Bank intends either to settle them on a net basis or to realize the asset and settle the liability simultaneously.

 

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

vi.Derecognition of financial assets and liabilities

 

The accounting treatment of transfers of financial assets is determined by the extent and the manner in which the risks and rewards associated with the transferred assets are transferred to third parties:

 

i.If the Bank transfers substantially all the risks and rewards of ownership to third parties, as in the case of unconditional sales of financial assets, sales under repurchase agreements at fair value at the date of repurchase, sales of financial assets with a purchased call option or written put option deeply out of the money, utilization of assets in which the transferor does not retain subordinated debt nor grants any credit enhancement to the new holders, and other similar cases, the transferred financial asset is derecognized from the Consolidated Statement of Financial Position and any rights or obligations retained or created in the transfer are simultaneously recorded.

 

ii.If the Bank retains substantially all the risks and rewards of ownership associated with the transferred financial asset, as in the case of sales of financial assets under repurchase agreements at a fixed price or at the sale price plus interest, securities lending agreements under which the borrower undertakes to return the same or similar assets, and other similar cases, the transferred financial asset is not derecognized from the Consolidated Statement of Financial Position and continues to be measured by the same criteria as those used before the transfer. However, the following items are recorded:

 

- An associated financial liability for an amount equal to the consideration received; this liability is subsequently measured at amortized cost.

- Both the income from the transferred (but not removed) financial asset as well as any expenses incurred due to the new financial liability.

 

If the Bank neither transfers nor substantially retains all the risks and rewards of ownership associated with the transferred financial asset—as in the case of sales of financial assets with a purchased call option or written put option that is not deeply in or out of the money, securitization of assets in which the transferor retains a subordinated debt or other type of credit enhancement for a portion of the transferred asset, and other similar cases—the following distinction is made:

 

a.If the transferor does not retain control of the transferred financial asset: the asset is derecognized from the Consolidated Statement of Financial Position and any rights or obligations retained or created in the transfer are recognized.
b.If the transferor retains control of the transferred financial asset: it continues to be recognized in the Consolidated Statement of Financial Position for an amount equal to its exposure to changes in value and a financial liability associated with the transferred financial asset is recorded. The net carrying amount of the transferred asset and the associated liability is the amortized cost of the rights and obligations retained, if the transferred asset is measured at amortized cost, or the fair value of the rights and obligations retained, if the transferred asset is measured at fair value.

 

Accordingly, financial assets are only derecognized from the Consolidated Statement of Financial Position when the rights over the cash flows they generate have terminated or when all the inherent risks and rewards of ownership have been substantially transferred to third parties. Similarly, financial liabilities are only derecognized from the Consolidated Statement of Financial Position when the obligations specified in the contract are discharged or cancelled or the contract has matured.

 

i)Recognizing income and expenses

 

The most significant criteria used by the Bank to recognize its revenues and expenses are summarized as follows:

 

i.Interest revenue, interest expense, and similar items

 

Interest revenue and expense are recorded on an accrual basis using the effective interest method.

 

ii.Commissions, fees, and similar items

 

Fee and commission income and expenses are recognized in the Consolidated Statement of Income using criteria that vary according to their nature. The main criteria are:

 

-Fee and commission income and expenses on financial assets and liabilities are recognized when they are earned.

-Those arising from transactions or services that are performed over a period of time are recognized over the life of these transactions or services.
-Those relating to services provided in a single transaction are recognized when the single transaction is performed.

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

iii.Loan arrangement fees

 

Fees that arise as a result of the origination of a loan, mainly application and analysis-related fees, are deferred and charged to the Consolidated Statement of Income over the term of the loan.

 

j)      Impairment

 

i.Financial assets:

 

A financial asset, other than that at fair value through profit and loss, is evaluated on each financial statement filing date to determine whether objective evidence of impairment exists.

 

A financial asset or group of financial assets will be impaired if, and only if, objective evidence of impairment exists as a result of one or more events that occurred after initial recognition of the asset (“event causing the loss”), and this event or events causing the loss have an impact on the estimated future cash flows of a financial asset or group of financial assets.

 

An impairment loss relating to financial assets recorded at amortized cost is calculated as the difference between the recorded amount of the asset and the present value of estimated future cash flows, discounted at the financial asset’s original effective interest rate.

 

Individually significant financial assets are individually tested to determine their impairment. The remaining financial assets are evaluated collectively in groups that share similar credit risk characteristics.

 

All impairment losses are recorded in income. Any impairment loss relating to a financial asset available for sale previously recorded in equity is transferred to profit or loss.

 

The reversal of an impairment loss occurs only if it can be objectively related to an event occurring after the initial impairment loss was recorded. The reversal of an impairment loss shall not exceed the carrying amount that would have been determined if no impairment loss has been recognized for the asset in prior years. The reversal is recorded in income with the exception of available for sale equity financial assets, in which case it is recorded in other comprehensive income.

 

ii. Non-financial assets:

 

The Bank’s non-financial assets, are reviewed at the reporting date to determine whether they show signs of impairment (i.e. its carrying amount exceeds its recoverable amount). If any such evidence exists, the recoverable amount of the asset is estimated, in order to determine the extent of the impairment loss.

 

Recoverable amount is the higher of fair value less costs to sell and value in use. In assessing value in use, the estimated future cash flows are discounted to their present value using a pre-tax discount rate that reflects current market assessments of the time value of money and the risks specific to the asset for which the estimates of future cash flows have not been adjusted.

 

If the recoverable amount of an asset is estimated to be less than its carrying amount, the carrying amount of the asset is reduced to its recoverable amount. An impairment loss is recognized immediately in profit or loss.

 

In connection with other assets, impairment losses recorded in prior periods are assessed at each reporting date to determine whether the loss has decreased and should be reversed. The increased carrying amount of an asset other than goodwill attributable to a reversal of an impairment loss shall not exceed the carrying amount that would have been determined (net of amortization or depreciation) had no impairment loss been recognized for the asset in prior years. Goodwill impairment is not reversed.

 

k)  Property, plant, and equipment

 

This category includes the amount of buildings, land, furniture, vehicles, computer hardware and other fixtures owned by the consolidated entities or acquired under finance leases. Assets are classified according to their use as follows:

 

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

i.       Property, plant and equipment for own use

 

Property, plant and equipment for own use includes but is not limited to tangible assets received by the consolidated entities in full or partial satisfaction of financial assets representing accounts receivable from third parties which are intended to be held for continuing own use and tangible assets acquired under finance leases. These assets are presented at acquisition cost less the related accumulated depreciation and, if applicable, any impairment losses (when net carrying amount was higher than recoverable amount).

 

Depreciation is calculated using the straight line method over the acquisition cost of assets less their residual value, assuming that the land on which buildings and other structures stand has an indefinite life and, therefore, is not subject to depreciation.

 

The Bank applies the following useful lives for the tangible assets that comprise its assets:

 

ITEM  

Useful life

(Months) 

     
Land   -
Paintings and works of art   -
Carpets and curtains   36
Computers and hardware   36
Vehicles   36
IT systems and software   36
ATMs   60
Other machines and equipment   60
Office furniture   60
Telephone and communication systems   60
Security systems     60
Rights over telephone lines   60
Air conditioning systems   84
Other installations   120
Buildings   1,200
     

 

The consolidated entities assess at each reporting date whether there is any indication that the carrying amount of any tangible asset exceeds its recoverable amount. If this is the case, the carrying amount of the asset is reduced to its recoverable amount and future depreciation charges are adjusted in accordance with the revised carrying amount and to the new remaining useful life.

 

The estimated useful lives of the items of property, plant and equipment held for own use are reviewed at the end of each reporting period to detect significant changes. If changes are detected, the useful lives of the assets are adjusted by correcting the depreciation charge to be recorded in the Consolidated Statement of Income in future years on the basis of the new useful lives.

 

Maintenance expenses relating to tangible assets held for own use are recorded as an expense in the period in which they are incurred.

 

ii.      Assets leased out under operating leases

 

The criteria used to record the acquisition cost of assets leased out under operating leases, to calculate their depreciation and their respective estimated useful lives, and to record the impairment losses thereof, are consistent with those described in relation to property, plant and equipment held for own use.

 

l)      Leasing

 

i.      Finance leases

 

Finance leases are leases that substantially transfer all the risks and rewards incidental to ownership of the leased asset to the lessee.

 

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

When the consolidated entities act as the lessor of an asset, the sum of the present value of the lease payments receivable from the lessee, including the exercise price of the lessee’s purchase option at the end of the lease term, which is equivalent to one additional lease payment and so is reasonably certain to be exercised, is recognized as lending to third parties and is therefore included under “Loans and accounts receivable from customers” in the Consolidated Statement of Financial Position.

 

When the consolidated entities act as lessees, they show the cost of the leased assets in the Consolidated Statement of Financial Position based on the nature of the leased asset, and simultaneously record a liability for the same amount (which is the lower of the fair value of the leased asset and the sum of the present value of the lease payments payable to the lessor plus, if appropriate, the exercise of the purchase option). The depreciation policy for these assets is consistent with that for property, plant and equipment for own use.

 

In both cases, the finance income and finance expenses arising from these contracts are credited and debited, respectively, to “Interest income” and “Interest expense” in the Consolidated Statement of Income so as to achieve a constant rate of return over the lease term.

 

ii.      Operating leases

 

In operating leases, ownership of the leased asset and substantially all the risks and rewards incidental thereto remain with the lessor.

 

When the consolidated entities act as the lessor, they present the acquisition cost of the leased assets under "Property, plant and equipment”. The depreciation policy for these assets is consistent with that for similar items of property, plant and equipment held for own use and revenues from operating leases is recorded on a straight line basis under “Other operating income” in the Consolidated Statement of Income.

 

When the consolidated entities act as the lessees, the lease expenses, including any incentives granted by the lessor, are charged on a straight line basis to “Administrative expenses” in the Consolidated Statement of Income.

 

iii.     Sale and leaseback transactions

 

For sale at fair value and operating leasebacks, the profit or loss generated is recorded at the time of sale except in the case of excess of proceeds over fair value, which difference is amortized over the period of use of the asset. In the case of finance leasebacks, the profit or loss generated is amortized over the lease term.

 

m)   Intangible assets

 

Intangible assets are identified as non-monetary assets (separately identifiable from other assets) without physical substance which arise as a result of legal or contractual rights or it is separable. The Bank recognizes an intangible asset, whether purchased or self-created (at cost), when the cost of the asset can be measured reliably and it is probable that the future economic benefits that are attributable to the asset will flow to the Bank.

 

Intangible assets are recorded initially at acquisition or production cost and are subsequently measured at cost less any accumulated amortization and any accumulated impairment losses.

 

Internally developed computer software is recorded as an intangible asset if, among other requirements (basically the Bank’s ability to use or sell it), it can be identified and its ability to generate future economic benefits can be demonstrated.

 

Intangible assets are amortized on a straight-line basis over their estimated useful life; which has been defined as 36 months.

 

Expenditure on research activities is recorded as an expense in the year in which it is incurred and cannot be subsequently capitalized.

 

n)     Cash and cash equivalents

 

For the preparation of the cash flow statement, the indirect method was used, starting with the Bank’s consolidated pre-tax income and incorporating non-cash transactions, as well as income and expenses associated with cash flows, which are classified as operating, investment or financing activities.

 

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

For the preparation of the cash flow statement, the following items are considered:

 

i.Cash flows: Inflows and outflows of cash and cash equivalents, such as deposits with the Central Bank of Chile, deposits in domestic banks, and deposits in foreign banks.

 

ii.Operating activities: Principal revenue-producing activities performed by banks and other activities that cannot be classified as investing or financing activities.

 

iii.Investing activities: The acquisition and disposal of long-term assets and other investments not included in cash and cash equivalents.

 

iv.Financing Activities: Activities that result in changes in the size and composition of the equity and liabilities that are not operating activities.

 

o)Allowances for loan losses

 

The Bank has established allowances to cover incurred losses on loans and account receivables from customers in accordance with its internal models and risk assessment as approved by the Board of Directors.

 

The Bank performs an assessment of the risk associated with loans and accounts receivable from customers to determine their allowance for loan losses as described below:

 

- Individual assessment – represents cases where the Bank assesses a debtor as individually significant, or when he/she cannot be classified within a group of financial assets with similar credit risk characteristics, due to their size, complexity or level of exposure.

 

- Group assessment - a group assessment is relevant for analyzing a large number of operations with small individual balances from individuals or small companies. The Bank groups debtors with similar credit risk characteristics giving to each group a default probability and recovery rate based on a historical analysis.

 

The Bank models determine allowances and provisions for loan losses according to the type of portfolio or operations. Loans and accounts receivables from customers are divided into three categories:

 

i.Commercial loans,
ii.Mortgage loans, and
iii.Consumer loans.

 

The models used to determine credit risk allowances are described as follows:

 

I. Allowances for individual assessment

 

An individual assessment of commercial debtors is necessary in the case of companies which, due to their size, complexity or level of exposure regarding the entity, must be known and analyzed in detail.

 

For the purposes of establishing its provisions, the Bank assigns a risk category to each debtor, their loans and contingent loans. The risk factors considered are: industry or economic sector of the borrower, owners or managers of the borrower, their financial situation and payment capacity, and payment behavior.

 

The Bank’s risk categories are as follows:

 

1. Debtors may be classified in risk categories A1, A2, A3 or B (if they are current on their payment obligations and show no sign of deterioration in their credit quality). B is different from the A categories by a certain history of late payments. The A and B categories are distinguished by different PNPs (as defined below).

 

2. Debtors classified as C1, C2, C3, C4, D1 or D2 include debtors whose loans with us have been charged off or administered by our Recovery Unit, or classified as Precontenciosos (PRECO or deteriorated).

 

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

For loans classified as A1, A2, A3 and B, we assign a specific provision level on an individual basis to each borrower and, therefore, the amount of loan loss allowance is determined on a case by case basis.

 

Estimated Incurred Loan Loss = Loan Loss Allowance.

 

The estimated incurred loss is obtained by multiplying all risk factors defined in the following equation:

 

EIL= EXP x PNP x SEV

 

EIL = Estimated Incurred Loan Loss. The estimated incurred loan loss is how much could be lost in the event a debtor does not perform the obligations under the loan.

 

EXP = Exposure. This corresponds to the value of commercial loans.

 

PNP = Probability of Non-Performance. This variable, expressed as a percentage, indicates the probability that a debtor will default. This percentage is associated with the internal rating that we give to each debtor, which is determined by analyzing such parameters as debt servicing capacity (including, usually, projected cash flows), the company’s financial history, the solvency and capacity of shareholders and management, and projections for the economic sector in which it operates.

 

SEV = Severity. This is the effective loss rate given default for debtors in the same segment, which is determined statistically based on the historical effective losses for each segment.

 

Every year, models together with PNP and SEV assumptions, are tested by the Bank’s Credit Risk Department, to ensure that they are appropriate at each reporting date so as to make sure any difference between the estimated incurred losses and actual losses is reduced.

 

These tests focus on the validation of the sufficiency of the Bank’s allowances, and consist of comparisons between actual write-offs to allowances established by the model, and the coverage of the total allowance to actual write-offs in the most current periods. Individual loan classification and improvements to any customer classification are also presented for approval to our Risk Committee.

 

For loans classified in the C and D categories, loan loss allowances are based mainly on the fair value of the collateral, adjusted for an estimated cost to sell, that each of these loans have. Allowance percentage for each category is then based on the fair value of the collateral, or the expected future cash flow from the loan for each individually evaluated non-performing loans.

 

II. Allowances for group assessments

 

The Bank uses the concept of estimation of incurred loss to quantify the allowances levels over the group-evaluated portfolios, considering the risk and the guarantees associated with each transaction.

 

Following the Bank’s definition, the Bank uses group evaluation to approach transactions that have similar credit risk features, which indicate the debtor’s payment capacity over the entire debt, principal and interests, pursuant to the contract’s terms. In addition, this allows us to assess a high number of transactions with low individual amounts, whether they belong to individuals or SMEs (small and medium sized companies). Therefore, debtors and loans with similar features are grouped together and each group has a risk level assigned to it.

 

These models are meant to be used mainly to analyze loans granted to individuals (including consumer loans, credit lines, mortgage loans and commercial loans) and commercial loans to small to middle-sized entities (SMEs).

 

Allowances are established using these models, taking into account the historical Impairment and other known circumstances at the time of evaluation. After this, a historical loss rate is assigned to each portfolio profile constituting each evaluated group.

 

Allowances for group-evaluated loans are established based on the credit risk of the profile to which the loan belongs. The method for assigning a profile is established based on statistical building method, establishing a relation through logistic regression of various variables, such as payment behavior in the Bank, payment behavior outside the Bank, various sociodemographic data, among others, and a response variable that determines a client’s risk level, which in this case is 90 days of non-performance (the chosen features are relevant when calculating future cash flows per group of assets). Afterwards, common profiles are established and with differentiated default rates, applying the real historical loss the Bank has had with that portfolio.

 

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

The different risk categories are constructed and updated periodically based on the payment behavior of the client’s profile to which they belong, as well as his or her sociodemographic characteristics. Therefore, when a customer has past due balance or has missed some payments, the outcome is that the customer will move to a different segment with a higher loss rate, therefore capturing current trends for each risk profile.

 

Allowance quantification, once the customers have been classified, is the product of three factors: exposure (EXP), Probability of Non-Performance (PNP) and Severity (SEV), the same equation used for individual assessment mentioned above.

 

The estimated incurred loss rates for group-evaluated loans correspond to charge-offs net of recoveries. The methodology establishes the period in which the estimated incurred loss for each risk profile emerges. Once the loss has been considered to have been incurred, the estimated incurred loss rates are applied to the corresponding risk profile to obtain the net charge-off level associated with this period. The loss rates applied to each risk profile are based only on the historical net charge-off data for that specific profile within one of the four groups of loans (consumer loans, credit lines, mortgage loans and commercial loans). No other statistical or other information other than net charge-offs is used to determine the loss rates.

 

To determine the estimated incurred loss for commercial and mortgage loans collectively evaluated for impairment, we mainly analyze the payment behavior of clients, particularly the payment behavior of clients with payments that are more than 90 days overdue, clients with other weaknesses, such as early non performance (i.e., payments that are past-due, though by less than 90 days), clients with modified loans and clients with renegotiated loans, as well as success in recovery against these clients. We also take into account whether the loan is supported by collateral.

 

In connection with mortgage loans, historical net charge-offs are considered in the model to calculate loss rates for loans collectively evaluated for impairment. The risk categories are such that when a customer has a past-due balance or has missed some payments, the outcome is that the customer will move to a different risk category with a higher loss rate, therefore capturing current trends of the customer and, when aggregate, current trends in the market.

 

Our models for loans analyzed on a group basis (consumer loans, residential mortgage loans and small-and-mid- sized commercial loans) are monitored on a monthly basis with respect to predictability and stability, using indicators that seek to capture the underlying need to update the models for current loss trends. Therefore, the periods of historical net charge-offs used in the allowance model may be more than a year old as we only update the historical net charge-offs when our assessment of predictability and stability indicators determine it is necessary.

 

During the second semester of 2014, and as a response to the ongoing improvement of the allowances models for loans, the Bank recalibrated its allowances model for consumer loans and commercial loans. The models were recalibrated with the aim of improving the prediction of client behavior and maintaining statistical and management standards. Part of these improvements consisted of the advancement of the models’ governance allowing technical and defined approvals at different points of the approval process, better statistical techniques and the use of the entire extent of historical information, allowing more clarified definition of the Probability of Non-Performance (PNP) and the Severity (SEV) involved in the provision calculation. This model improvement resulted in the release of consumer provisions of Ch$26,563 million and an increase in commercial provisions of Ch$45,141 million. As this is a change in estimation, the net increase of these improvements (Ch$18,578 million) was recognized under the "Provisions for loan losses" in the Consolidated Statement of Income for the year in accordance with IAS 8 Accounting policies, changes in Accounting Estimates and Errors.

 

III.   Charge-offs

 

As a general rule, charge-offs should be done when all collection efforts have been exhausted. These charge-offs consist of derecognition from the Consolidated Statement of Financial Position of the corresponding loans operations in its entirety, and, therefore, include portions not past-due of a loan in the case of installments loans or leasing operations (no partial charge-offs exist).

 

Subsequent payments obtained from charged-off loans will be recognized in the Consolidated Statement of Income as a recovery of loans previously charged-off.

 

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SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

Loan and accounts receivable charge-offs are recorded for overdue and current installments based on the time periods expired since reaching overdue status, as described below:

 

Type of loan   Term
     
Consumer loans with or without collateral   6 months
Other transactions without collateral   24 months
Commercial loans with collateral   36 months
Mortgage loans   48 months
Consumer leasing   6 months
Other non-mortgage leasing transactions   12 months
Mortgage leasing (household and business)   36 months

 

IV.    Recovery of loans previously charged off and accounts receivable from customers

 

Any payment agreement of an already charged-off loan will not give rise to income—as long as the operation is still in an impaired status—and the effective payments received are accounted for as a recovery from loans previously charged-off.

 

Recovery of previously charged-off loans and accounts receivable from customers, are recorded in the Consolidated Statement of Income as a deduction from provisions for loan losses.

 

In accordance with our charge-off policy described in iii) above, we may subsequently recover a portion of the amount charged-off (at 100%). The allowance for loan losses on our collectively evaluated loans incorporates an expected recovery rate based on historical information. At the time we charge-off the carrying amount of any loans which have been collectively evaluated for impairment, the allowance for loan losses on collectively evaluated loans is replenished to reflect incurred losses based on statistical models developed in compliance with IAS 39 on the remaining pool of loans. The amounts required for replenishment are recorded in the financial statements as provision established.

 

p)     Provisions, contingent assets, and contingent liabilities

 

Provisions are liabilities of uncertain timing or amount. Provisions are recognized in the Consolidated Statements of Financial Position when the Bank:

 

i.has a present obligation (legal or constructive) as a result of past events, and

 

ii.it is probable that an outflow of resources will be required to settle these obligations and the amount of these resources can be reliably measured.

 

Contingent assets or contingent liabilities are any potential rights or obligations arising from past events whose existence will be confirmed only by the occurrence or non-occurrence if one or more uncertain future events that are not wholly within control of the Bank.

 

The Consolidated Statement of Financial Position and annual accounts reflect all significant provisions for which it is estimated that it is probable an outflow of resources will be required to meet the obligation where the probability of having to meet the obligation is more likely than not. Provisions are quantified using the best available information on the consequences of the event giving rise to them and are reviewed and adjusted at the end of each year. Provisions must specify the liabilities for which they were originally recognized. Partial or total reversals are recognized when such liabilities cease to exist or are reduced.

 

Provisions are classified according to the obligation covered as follows:

 

-Provision for employee salaries and expenses
-Provision for mandatory dividends
-Provision for contingent credit risks
-Provisions for contingencies

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

q)     Deferred income taxes and other deferred taxes

 

The Bank records, when appropriate, deferred tax assets and liabilities for the estimated future tax effects attributable to differences between the carrying amount of assets and liabilities and their tax bases. The measurement of deferred tax assets and liabilities is based on the tax rate, in accordance with the applicable tax laws, using the tax rate that applies to the period when the deferred asset and liability will be settled. The future effects of changes in tax legislation or tax rates are recorded in deferred taxes beginning on the date on which the law is enacted or substantially enacted.

 

r)     Use of estimates

 

The preparation of the financial statements requires the Bank’s management to make estimates and assumptions that affect the application of the accounting policies and the reported balances of assets, liabilities, revenues and expenses. Actual results may differ from these estimates.

 

In certain cases, International Financial Reporting Standards (IFRS) require that assets or liabilities be recorded or disclosed at their fair values. The fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When available, quoted market prices in active markets have been used as the basis for measurement. When quoted market prices in active markets are not available, the Bank has estimated such values based on the best information available, including the use of modeling and other valuation techniques.

 

The Bank has established allowances to cover incurred losses to estimate allowances. These allowances must be regularly reviewed taking into consideration factors such as changes in the nature and volume of the loan portfolio, trends in forecasted portfolio quality, credit quality and economic conditions that may adversely affect the borrowers’ ability to pay. Increases in the allowances for loan losses are reflected as “Provision for loan losses” in the Consolidated Statement of Income. Loans are charged-off when the Bank’s management determines that a loan or a portion thereof is impaired. Charge-offs are recorded as a reduction of the allowance for loan losses.

 

The relevant estimates and assumptions made to calculate provisions are regularly reviewed by the Bank’s Management to quantify certain assets, liabilities, revenues, expenses, and commitments.

 

These estimates, made on the basis of the best available information, mainly refer to:

 

-Allowances for loan losses (Notes 8, 9 and 29)
-Impairment losses of certain assets (Notes 7, 8, 9, 10, and 32)
-The useful lives of tangible and intangible assets (Notes 12, 13 and 32)
-The fair value of assets and liabilities (Notes 5, 6, 7, 10 and 36)
-Commitments and contingencies (Note 22)
-Current and deferred taxes (Note 14)

 

s)      Non-current assets held for sale (in “Other Assets”)

 

Non-current assets (or a group holding assets and liabilities for disposal) expected to be recovered mainly through the sale of these items rather than through the continued use, are classified as held for sale. Immediately prior to this classification, assets (or elements of a disposable group) are re-measured in accordance with the Bank’s policies. The assets (or disposal group) are measured at the lower of carrying amount and fair value less cost to sell.

 

Assets received or awarded in lieu of payment

 

Assets received or awarded in lieu of payment of loans and accounts receivable from clients are recognized at their fair value (as determined by an independent appraisal). A price is agreed upon by the parties through negotiation or, when the parties do not reach an agreement, at the amount at which the Bank is awarded those assets at a judicial auction. In the both cases, an independent appraisal is performed. The excess of the outstanding loan balance over the fair value is charged to net income for the period, under “Provision for loan losses”. Any excess of the fair value over the outstanding loan balance, less costs to sell of the collateral, is returned to the client. These assets are subsequently adjusted to their net realizable value less cost to sale (assuming a forced sale). The difference between the carrying value of the asset and the estimated fair value less costs to sell is charged to net income for the period, under “Other operating expenses”. The result obtained in the sale of the asset is subsequently recorded under “Other operating income”.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

Independent appraisals are obtained at least every 18 months and fair values are adjusted accordingly. No adjustments have been made between appraisals with respect to the period covered by these financial statements considering the stability of the real estate market in Chile during past years and expected stability of the real estate market in the coming years.

 

At least once a year, the Bank performs the necessary analysis to update the “cost to sale” of assets received or awarded in lieu of payments. According to the Bank’s survey, as of December 31, 2016 the average cost to sale was estimated at 5.1% of the appraisal value (5.0% as of December 31, 2015).

 

t)      Earnings per share

 

Basic earnings per share are determined by dividing the net income attributable to the equity holders of the Bank for the reported period by the weighted average number of shares outstanding during the reported period.

 

Diluted earnings per share are determined in the same way as basic earnings, but the weighted average number of outstanding shares is adjusted to take into consideration the potential diluting effect of stock options, warrants, and convertible debt.

 

As of December 31, 2016 and 2015 the Bank did not have any instruments that generated dilution.

 

u)     Temporary acquisition (assignment) of assets and liabilities

 

Purchases or sales of financial assets under non-optional repurchase agreements at a fixed price are recorded in the Consolidated Statements of Financial Position based on the nature of the debtor (creditor) under “Deposits in the Central Bank of Chile,” “Deposits in financial institutions” or “Loans and accounts receivable from customers” (“Central Bank of Chile deposits,” “Deposits from financial institutions” or “Customer deposits”), in Note 6.

 

Differences between the purchase and sale prices are recorded as financial interest over the term of the contract.

 

v)     Provision for mandatory dividends

 

As of December 31, 2016 and 2015 the Bank recorded a provision for mandatory dividends. This provision is made pursuant to Article 79 of the Corporations Act, which is in accordance with the Bank’s internal policy, pursuant to which at least 30% of net income for the period is distributed, except in the case of a contrary resolution adopted at the respective shareholders’ meeting by unanimous vote of the outstanding shares. This provision is recorded, as a deducting item, under the “Retained earnings – provision for mandatory dividends” line of the Consolidated Statement of Changes in Equity with offset to Provisions.

 

w)    Employee benefits

 

i.Post-employment benefits – Defined Benefit Plan:

 

According to current collective labor agreements and other agreements, the Bank has an additional benefit available to its principal executives, consisting of a pension plan whose purpose is to endow them with funds for a better supplementary pension upon their retirement.

 

Features of the Plan:

 

The main features of the Post-Employment Benefits Plan promoted by the Banco Santander Chile are:

 

a.Aimed at the Bank’s management.
b.The general requirement to apply for this benefit is that the employee must be carrying out his/her duties when turning 60 years old.
c.The Bank will create a pension fund, with life insurance, for each beneficiary in the plan. Periodic contributions into this fund are made by the manager and matched by the Bank.
d.The Bank will be responsible for granting the benefits directly.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

To determine the present value of the defined benefit obligation and the current service cost, the method of projected unit credit is used.

 

Components of defined benefit cost include:

 

-current service cost and any past service cost, which are recognized in profit or loss for the period;

-net interest on the liability (asset) for net defined benefit, which is recognized in profit or loss for the period;

-new liability (asset) remeasurements for net defined benefit include:

(a) actuarial gains and losses;

(b) the difference between the actual return on plan assets and the interest on plan assets included in the net interest component and;

(c) changes in the effect of the asset ceiling.

 

The liability (asset) for net defined benefit is the deficit or surplus, determined as the difference between the present value of the defined benefit obligation less the fair value of plan assets.

 

Plan assets comprise the pension fund taken out by the Group with a third party that is not a related party. These assets are held by an entity legally separated from the Bank and exist solely to pay benefits to employees.

 

The Bank recognizes the present service cost and the net interest of the Personnel salaries and expenses on the Consolidated Statement of Income.

 

The post-employment benefits liability, recognized in the Consolidated Statement of Financial Position represents the deficit or surplus in the defined benefit plans of the Bank. Any surplus resulting from the calculation is limited to the present value of any economic benefits available in the form of refunds from the plan or reductions in future contributions.

 

When employees leave the plan before meeting the requirements to be eligible for the benefit, contributions made ​​by the Bank are reduced.

 

ii.       Cash-settled share based compensation

 

The Bank allocates cash-settled share based compensation to executives of the Bank and its Subsidiaries in accordance with IFRS 2. The Bank measures the services received and the obligation incurred at fair value. Until the obligation is settled, the Bank determines the fair value at the end of each reporting period, as well as at the date of settlement, recognizing any change in fair value in the income statement of the period.

 

x)     Application of new and revised International Financial Reporting Standards

 

i. New and revised standards effective in current year

 

The following new and revised IFRS have been adopted in these financial statements:

 

Accounting for Acquisitions of interests in Joint Operations (Amendments to IFRS 11) - issued on May 6, 2014 the IASB has issued “Accounting for Acquisitions of Interests in Joint Operations (amendments to IFRS 11)”, the amendments clarify the accounting for acquisitions of an interest in a joint operation when the operation constitutes a business.

 

Amends IFRS 11 Joint Arrangements to require an acquirer of an interest in a joint operation in which the activity constitutes a business (as defined in IFRS 3 Business Combinations) to:

 

·apply all of the business combinations accounting principles in IFRS 3 and other IFRSs, except for those principles that conflict with the guidance in IFRS 11;
·disclose the information required by IFRS 3 and other IFRSs for business combinations.

 

The amendments are effective for annual periods beginning on or after 1 January 2016. Earlier application is permitted but corresponding disclosures are required. The amendments apply prospectively. The implementation of this amendment did not have material impact on the consolidated financial statement of the Bank.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

Clarification of Acceptable Methods of Depreciation and Amortization (Amendments to IAS 16 and IAS 38) - issued on May 12, 2014 the IASB has published “Clarification of Acceptable Methods of depreciation and amortization (amendments to IAS 16 and IAS 38)”.The amendments provide additional guidance on how the depreciation or amortization of property, plant and equipment and intangible assets should be calculated. They are effective for annual periods beginning on or after 1 January 2016, with earlier application being permitted. The implementation of this amendment did not have material impact on the consolidated financial statement of the Bank.

 

Equity Method in Separate Financial Statements (Amendments to IAS 27) - issued on August 12, 2014, the IASB has published “Equity Method in Separate Financial Statements (Amendments to IAS 27)”. The amendments reinstate the equity method as an accounting option for investments in subsidiaries, joint ventures and associates in an entity's separate financial statements. The amendments allow an entity to account for investments in subsidiaries, joint ventures and associates in its separate financial statements:

 

·at cost, in accordance with IFRS 9 Financial Instruments (or IAS 39 Financial Instruments: Recognition and Measurement for entities that have not yet adopted IFRS 9), or

·using the equity method as described in IAS 28 Investments in Associates and Joint Ventures.

 

The accounting option must be applied by category of investments. In addition to the amendments to IAS 27, there are consequential amendments to IAS 28 to avoid a potential conflict with IFRS 10 Consolidated Financial Statements and to IFRS 1 First-time Adoption of International Financial Reporting Standards. The accounting option must be applied by category of investments. In addition to the amendments to IAS 27, there are consequential amendments to IAS 28 to avoid a potential conflict with IFRS 10 Consolidated Financial Statements and to IFRS 1 First-time Adoption of International Financial Reporting Standards. The amendments are effective for annual periods beginning on or after 1 January 2016. Earlier application is permitted.

 

The amendments are to be applied retrospectively in accordance with IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors. The implementation of this amendment did not have material impact on the consolidated financial statement of the Bank.

 

Disclosure initiative (Amendments to IAS 1) - issued on December 18, 2014 the IASB added an initiative on disclosure to its work program in 2013 to complement the work being done in the Conceptual Framework project. The initiative is made up of a number of smaller projects that aim at exploring opportunities to see how presentation and disclosure principles and requirements in existing Standards can be improved. They are effective for annual periods beginning on or after 1 January 2016, with earlier application being permitted. The implementation of this amendment did not have material impact on the consolidated financial statement of the Bank.

 

Investment Entities: Applying the Consolidation Exception (Amendments to IFRS 10, IFRS 12 and IAS 28) - issued on December 18, 2014 the IASB has published 'Investment Entities: Applying the Consolidation Exception, Amendments to IFRS 10 Consolidated Financial Statements, IFRS 12 Disclosure of Interests in Other Entities and IAS 28 Investments in Associates and Joint Ventures (2011) to address issues that have arisen in the context of applying the consolidation exception for investment entities. They are effective for annual periods beginning on or after 1 January 2016, with earlier application being permitted. The implementation of this amendment did not have material impact on the consolidated financial statement of the Bank.

 

Annual Improvements 2012-2014 Cycle

 

IFRS 5 Non-current Assets Held for Sale and Discontinued Operations, Changes in methods of disposal - Adds specific guidance in IFRS 5 for cases in which an entity reclassify an asset from held for sale to held for distribution or vice versa and cases in which held-for-distribution accounting is discontinued.

 

IFRS 7 Financial Instruments: Disclosures (with consequential amendments to IFRS 1), Servicing contracts - Adds additional guidance to clarify whether a servicing contract is continuing involvement in a transferred asset for the purpose of determining the disclosures required.

 

IAS 19 Employee Benefits, Discount rate – Clarifies that the high quality corporate bonds used in estimating the discount rate for postemployment benefits should be denominated in the same currency as the benefits to be paid (thus, the depth of the market for high quality corporate bonds should be assessed at currency level).

 

IAS 34 Interim Financial Reporting, Disclosure of information “elsewhere in the interim financial report” - Clarifies the meaning of 'elsewhere in the interim report' and requires a cross-reference.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

The improvements are effective for annual periods beginning on or after 1 July 2016, with earlier application being permitted. The implementation of this amendment did not have material impact on the consolidated financial statement of the Bank

 

ii. New and revised IFRS issued but not effective

 

IFRS 9 Financial Instruments (2014) (IFRS 9) - IFRS 9 (2014) – In July 2014, the International Accounting Standards Board (IASB) approved IFRS 9 to replace IAS 39 ‘Financial Instruments: Recognition and Measurement’ .

 

IFRS 9 sets out the requirements for recognition and measurement of financial instruments. The main new developments of the standard are discussed below.

 

Classification and measurement of financial assets and financial liabilities: Under IFRS 9, financial assets are classified on the basis of the business model within which they are held and their contractual cash flow characteristics. These factors determine whether the financial assets are measured at amortised cost, fair value through other comprehensive income or fair value through profit or loss. For many financial assets, the classification and measurement outcomes will be similar to IAS 39. However, under IFRS 9, embedded derivatives are not separated from host financial assets and equity securities are measured at fair value either through profit or loss or, in certain circumstances, an irrevocable election may be made to present fair value movements in other comprehensive income. The requirements for the classification and measurement of financial liabilities were carried forward unchanged from IAS 39, however, the requirements relating to the fair value option for financial liabilities were changed to address own credit risk and, in particular, the presentation of gains and losses within other comprehensive income.

 

Impairment: IFRS 9 introduces fundamental changes to the impairment of financial assets measured at amortised cost or at fair value through other comprehensive income, lease receivables and certain commitments to extend credit and financial guarantee contracts. It is no longer necessary for losses to be incurred before credit losses are recognised. Instead, under IFRS 9, an entity always accounts for expected credit losses (ECLs), and any changes in those ECLs. The ECL approach must reflect both current and forecast changes in macroeconomic data over a horizon that extends from 12 months to the remaining life of the asset if a borrower’s credit risk is deemed to have deteriorated significantly at the reporting date compared to the origination date. The estimate of ECLs, should reflect an unbiased and probability-weighted amount that is determined by evaluating a range of possible outcomes and considering reasonable and supportable information at the reporting date. Similar to the current incurred credit loss provisioning approach, management will exercise judgment as to whether additional adjustments are required in order to adequately reflect possible events or current conditions that could affect credit risk.

 

For financial assets, an ECL is the current value of the difference between the contractual cash flows owed to the entity according to the contract and the cash flows which the entity expects to receive. For undrawn loan commitments, an ECL is the current value of the difference between the contractual cash flows owed to the entity and the cash flows which the entity expects to receive if the loan is drawn.

 

An assessment of each facilities’ credit risk profile will determine whether they are to be allocated to one of three stages:

 

-  Stage 1: when it is deemed there has been no significant increase in credit risk since initial recognition, a loss allowance equal to a 12-month ECL – i.e. the proportion of lifetime expected losses resulting from possible default events within the next 12-months - will be applied;

 

- Stage 2: when it is deemed there has been a significant increase in credit risk since initial recognition, but no credit impairment has materialised, a loss allowance equal to the lifetime ECL – i.e. lifetime expected loss resulting from all possible defaults throughout the residual life of a facility – will be applied; and

 

- Stage 3: when the facility is considered credit impaired, a loss allowance equal to the lifetime ECL will be applied. Similar to incurred losses under IAS 39, objective evidence of credit impairment is required.

 

The assessment of whether a significant increase in credit risk has occurred since initial recognition involves the application of both quantitative measures and qualitative factors, requires management judgment and is a key aspect of the IFRS 9 methodology.

 

Hedge accounting: The general hedge accounting requirements align more closely with risk management practices and establish a more principle-based approach thereby allowing hedge accounting to be applied to a wider variety of hedging instruments and risks. Macro hedge accounting is being dealt with as a separate project. Until such time as that project is complete, and to remove any potential conflict between any existing macro hedge accounting undertaken under IAS 39 and the new general hedge accounting requirements of IFRS 9, entities can choose to continue to apply the existing hedge accounting requirements in IAS 39.

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

The Bank has established a work stream with the aim of adapting its processes to the new classification standards for financial instruments, accounting of hedges and estimating credit risk impairment. Accordingly, the Bank is working towards defining an objective internal model and analyzing all the changes which are needed to adapt accounting classifications and credit risk impairment estimation models in force in each unit to the previous definitions. The governance structure currently implemented complies with the requirements set out in the new standards. The Bank during this exercise, has successfully completed the design phase of the implementation plan. The major milestones achieved include the identification of technological needs have been identified as well as the necessary adaptations to the existing control environment.

 

The Bank is currently in the development and implementation phase of the models and requirements defined. The objective of the Bank at these stages is to develop an operational model adapted to the requirements of IFRS 9 and ensure the definition of functional requirements At the IT environment, an efficient implementation, optimizing its resources as well as the designs elaborated in the previous stages.

 

Once the implementation phase is completed, the Bank will test the effective performance of the model through several simulations and ensuring that the transition to the new operating model meets the objectives established in the previous phases. This last stage includes the parallel execution of the provisions calculation.

 

IFRS 15, Revenue from Contracts with Customers - issued on May 28, 2014, the IASB has published its new standard, IFRS 15 Revenue from contracts with customers. At the same time, the Financial Accounting Standards Board (FASB) has published its equivalent revenue standard, ASU 2014-09. The new standard provides a single, principles based five-step model to be applied to all contracts with customers, i) identify the contract with the customer, ii) identify the performance obligations in the contract, iii) determine the transaction price, iv) allocate the transaction price to the performance obligations in the contracts, v) recognize revenue when (or as) the entity satisfies a performance obligation.

 

IFRS 15 must be applied in an entity’s first annual IFRS financial statements for periods beginning on or after 1 January 2018. Application of the Standard is mandatory and early adoption is permitted. An entity that chooses to apply IFRS 15 earlier than 1 January 2018 must disclose this fact. The Bank’s management is assessing the potential impact of the adoption of this standard on the consolidated financial statements of the Bank.

 

Sale or Contributions of Assets between an Investor and its Associate or Joint Venture (Amendments to IFRS 10 and IAS 28) - Issued on September 11, 2014, the IASB has published 'Sale or Contribution of Assets between an Investor and its Associate or Joint Venture (Amendments to IFRS 10 and IAS 28)'. The amendments address a conflict between the requirements of IAS 28

 

'Investments in Associates and Joint Ventures' and IFRS 10 'Consolidated Financial Statements' and clarify the treatment of the sale or contribution of assets from an investor to its associate or joint venture, as follows:

 

·require full recognition in the investor's financial statements of gains and losses arising on the sale or contribution of assets that constitute a business (as defined in IFRS 3 Business Combinations);

 

·require the partial recognition of gains and losses where the assets do not constitute a business, i.e. a gain or loss is recognized only to the extent of the unrelated investors’ interests in that associate or joint venture.

 

On December 17, 2015 the IASB has published final amendments to “Sale or Contribution of Assets between an Investor and its Associate or Joint Venture”. The amendments defer the effective date of the September 2014 amendments to these standards indefinitely until the research project on the equity method has been concluded. The Bank’s management has considered that these amendments will not have material impact on the consolidated financial statements of the Bank.

 

IFRS 16 Leases – issued on January 13, 2016, the IASB has published its new standard for leases, which replaces IAS 17 Leases, IFRIC 4 Determining whether an arrangement contains a lease, SIC15 Operating leases and SIC27 Evaluating the substance of transactions involving the legal form of a lease. IFRS 16 introduces a single lessee accounting model and requires a lessee to recognise assets and liabilities for all leases with a term of more than 12 months, unless the underlying asset is of low value. A lessee is required to recognise a right-of-use asset representing its right to use the underlying leased asset and a lease liability representing its obligation to make lease payment. Lessor accounting however remains largely unchanged and the distinction between operating and finance leases is retained.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

IFRS 16 is effective for periods beginning on or after January 1, 2019, with earlier adoption permitted if IFRS 15 “Revenue from Contracts with Customer” has also been applied. The Bank has initially determined the operating lease contract inventory (lessee) and beginning its review to determine the potential impact it will have on the consolidated financial statement of the Bank.

 

Recognition of Deferred Tax Assets for Unrealized Losses (Amendments to IAS 12)- On January 19, 2016, the IASB published final amendments to IAS 12 “Income Taxes”. The amendments clarify the following aspects:

 

·Unrealized losses on debt instruments measured at fair value and measured at cost for tax purposes give rise to a deductible temporary difference regardless of whether the debt instrument’s holder expects to recover the carrying amount of the debt instrument by sale or by use.

·The carrying amount of an asset does not limit the estimation of probable future taxable profits.

·Estimated for future taxable profits exclude tax deductions resulting from the reversal of deductible temporary differences.

·An entity asses a deferred tax asset in combination with other deferred tax assets. Where tax law restricts the utilization of tax losses, an entity would assess a deferred tax asset in combination with other deferred tax assets of the same type.

 

The amendments are effective for annual periods beginning on or after January 1, 2017. Earlier application is permitted. The Bank’s management has considered that these amendments will not have material impact on the consolidated financial statements of the Bank.

 

Disclosure Initiative (Amendments to IAS 7)- The amendments are part of the IASB’s Disclosure initiative project and introduce additional disclosure requirements intended to address investors’ concerns that financial statements do not currently enable them to understand the entity’s cash flows; particularly in respect of the management of financing activities. The amendments require disclosure of information enabling users of financial statements to evaluate changes in liabilities arising from financial activities. Although there is no specific format required to comply with the new requirements, the amendments include illustrative examples to show how an entity can meet the objective of these amendments.

 

The amendments are effective for annual periods beginning on or after January 1, 2017. Earlier application is permitted. The Bank’s management has considered that these amendments will not have material impact on the consolidated financial statements of the Bank.

 

Clarifications to IFRS 15 Revenue from Contracts with Customers- The amendments were published on April 12, 2016 and do not change the underlying principles of the Standard. They just clarify and provide alternatives for the transition. The amendment clarifies identification of performance obligations, determination of principal and agent licenses.

 

These modifications are applicable from January 1, 2018, with early application permitted. Management is assessing the potential impact of applying this standard.

 

Amendments to IFRS 2 Classification and measurement of share-based payment transactions – These amendments were published June 20, 2016, to address issues with:

 

·The accounting of share- based payment transactions paid in cash that include a performance condition

·The classification of share-based transactions

·Accounting for modifications of share-based payment transactions from cash-settled to equity-settled.

 

This standard is applicable from January 1, 2018, with early application permitted. Management is assessing the potential impact of applying this standard.

 

Amendments to IFRS 4: Applying IFRS 9 Financial Instruments with IFRS 4 Insurance Contracts- The amendments are intended to address concerns about the different effective dates of IFRS 9 and the forthcoming new insurance contracts standard (expected as IFRS 17 within the next six months). The amendments provide two options for entities that issue insurance contracts within the scope of IFRS 4:

 

-an option that permits entities to reclassify, from profit or loss to other comprehensive income, some of the income or expenses arising from designated financial assets (the "overlay approach");

-an optional temporary exemption from applying IFRS 9 for entities whose predominant activity is issuing contracts within the scope of IFRS 4 (the "deferral approach"). An entity would apply the overlay approach retrospectively to qualifying financial assets when it first applies IFRS 9 while an entity would apply the deferral approach for annual periods beginning on or after January 1, 2018. Management has assessed that the implementation of these modifications will not have a material impact on the Unaudited Consolidated Interim Financial Statements of the Bank.

 

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NOTE 01

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, continued

 

IFRIC 22 Foreign Currency Transactions and Advance Consideration – This interpretations issued on December 8, 2016, clarifies the accounting for transactions that include the receipt or payment of advance consideration in a foreign currency.

 

The Interpretation covers foreign currency transactions when an entity recognises a non-monetary asset or non-monetary liability arising from the payment or receipt of advance consideration before the entity recognises the related asset, expense or income. It does not apply when an entity measures the related asset, expense or income on initial recognition at fair value or at the fair value of the consideration received or paid at a date other than the date of initial recognition of the non-monetary asset or non-monetary liability. Also, the Interpretation need not be applied to income taxes, insurance contracts or reinsurance contracts.

 

Consensus

 

The date of the transaction, for the purpose of determining the exchange rate, is the date of initial recognition of the non-monetary prepayment asset or deferred income liability.

 

If there are multiple payments or receipts in advance, a date of transaction is established for each payment or receipt.

 

IFRIC 22 is effective for annual reporting periods beginning on or after 1 January 2018. Earlier application is permitted. The Bank’s management has considered that these amendments will not have material impact on the consolidated financial statements of the Bank.

 

Annual Improvement 2014-2016

 

IFRS 1 First time adoption of IFRS - Deletion of short-term exemptions for first-time adopters.

 

IFRS 12 Disclosure of Interests in Other Entities - Clarification of the scope of the Standard.

 

IAS 28 Investments in Associates and Joint Ventures - Measuring an associate or joint venture at fair value.

 

The amendments to IFRS 1 and IAS 28 are effective for annual periods beginning on or after 1 January 2018, the amendment to IFRS 12 for annual periods beginning on or after 1 January 2017. The Bank’s management has considered that these amendments will not have material impact on the consolidated financial statements of the Bank.

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NOTE 02

SIGNIFICANT EVENTS

 

As of December 31, 2016, the following significant events have occurred and affected the Bank`s operations and Consolidated Financial Statements.

 

a) The Board

 

In the Ordinary Board Meeting of Banco Santander Chile held on March 15, 2016, Mr. Víctor Arbulú Crousillat resigned as director. In view of his resignation and the vacancy left by Mr. Lisandro Serrano, at the Ordinary Board Meeting held on October 20, 2015, the Board appointed Mr. Andreu Plaza López and Mrs. Ana Dorrego de Carlos. Finally, it is reported that Mr. Mauricio Larraín Garcés has been designated as a member of the Directors and Audit Committee in replacement of Mr. Víctor Arbulú Crousillat.

 

In the Ordinary Board Meeting dated April 26, 2016, the appointment of directors, Mr. Andreu Plaza López and Mrs. Ana Dorrego de Carlos, have been ratified, and they have been appointed titular directors at the Ordinary Session of the Board of Directors held on October 20, 2015.

 

b) Use of Profits and Distribution of Dividends

 

The Shareholders’ Meeting of Banco Santander Chile held on April 26, 2016, was chaired by Mr. Vittorio Corbo Lioi (President), Mr. Oscar Vön Chrismar Carvajal (First Vice-President), Mr. Roberto Méndez Torres (Second Vice-Chairman), Mr. Marco Colodro Hadjes, Mr. Lucia Cruz, Mr. Ana Dorrego de Carlos, Mauricio Larraín Garcés, Juan Pedro Santa Maria, Orlando Poblete Iturrate, Andreu Plaza López and Blanca Bustamante Bravo. In addition, the General Manager Mr. Claudio Melandri Hinojosa and the Manager of Strategic Planning Mr. Raimundo Monge. attended the meeting.

 

According to the information presented in aforementioned meeting, 2015 net income (designated in the financial statements as “Income attributable to equity holders of the Bank”) amounted to Ch$448,878 million, according to local regulations. The Board approved the distribution of 75% of such net income, yielding a Ch$1.786 dividend per share, payable starting on April 29, 2016. Also, it was approved that the remaining 25% of the profits will be retained in the Bank’s reserves.

 

c) Appointment of External Auditors

 

In the Ordinary General Shareholders' Meeting indicated above, it was agreed to appoint PricewaterhouseCoopers Consultores, Auditores y Compañía Limitada, as external auditors of the Bank and its affiliates for the 2016 fiscal year.

 

d) Capital increase of Transbank S.A.

 

In the Extraordinary Shareholders' Meeting of Transbank S.A. held on April 21, 2016, it was agreed to increase the capital of the company by capitalizing the accumulated profits, through the issuance of shares redeemed for payment, and placement of payment shares for approximately $4,000 million. Banco Santander Chile participated proportionally to its participation (25%), reason why it subscribed and paid shares for approximately $1 million.

 

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NOTE 02

SIGNIFICANT EVENTS, continued

 

e) Issuance of bonds - at December 31, 2016

 

In the year ended December 31, 2016 the Bank has issued senior bonds in the amount of UF 96,000,000, CLP 100,000,000,000, USD 215,000,000, JPY 3,000,000,000, EUR 104,000,000 and CHF 125,000,000. Debt issuance information is included in Note 18.

 

e.1) Senior bonds

 

Series Currency Amount Term
(annual)
Issuance rate (annual)

Issuance

date

Maturity

date

T1 UF 7,000,000 4.0 2.20% 02-01-2016 02-01-2020
T2 UF 5,000,000 4.5 2.25% 02-01-2016 08-01-2020
T3 UF 5,000,000 5.0 2.30% 02-01-2016 12-01-2020
T4 UF 8,000,000 5.5 2.35% 02-01-2016 08-01-2021
T5 UF 5,000,000 6.0 2.40% 02-01-2016 02-01-2022
T6 UF 5,000,000 6.5 2.45% 02-01-2016 08-01-2022
T7 UF 5,000,000 7.0 2.50% 02-01-2016 02-01-2023
T8 UF 8,000,000 7.5 2.55% 02-01-2016 08-01-2023
T9 UF 5,000,000 8.0 2.60% 02-01-2016 02-01-2024
T10 UF 5,000,000 8.5 2.60% 02-01-2016 08-01-2024
T11 UF 5,000,000 9.0 2.65% 02-01-2016 02-01-2025
T12 UF 5,000,000 9.5 2.70% 02-01-2016 08-01-2025
T13 UF 5,000,000 10.0 2.75% 02-01-2016 02-01-2026
T14 UF 18,000,000 11.0 2.80% 02-01-2016 02-01-2027
T15 UF 5,000,000 12.5 3.00% 02-01-2016 08-01-2028
Total UF 96,000,000        
T16 CLP 100,000,000,000 5.5 5,20% 02-01-2016 08-01-2021
Total CLP 100,000,000,000        
DN USD 10,000,000 5.0 Libor-USD 3M+1.05% 06-02-2016 06-09,2021
DN USD 10,000,000 5.0 Libor-USD 3M+1.22% 06-08-2016 06-17-2021
DN USD 10,000,000 5.0 Libor-USD 3M+1.20% 08-01-2016 08-16-2021
DN USD 185,000,000 5.0 Libor-USD 3M+1.20% 11-10-2016 11-28-2021
Total USD 215,000,000        
JPY JPY 3,000,000,000 5.0 0.115% 06-22-2016 06-29-2021
Total JPY 3,000,000,000        
EUR EUR 20,000,000 8.0 0.80% 08-04-2016 08-19-2024
EUR EUR 54,000,000 12.0 1.307% 08-05-2016 08-17-2028
EUR EUR 30,000,000 3.0 0.25% 12-09-2016 12-20-2019
Total EUR 104,000,000        
CHF CHF 125,000,000 8.5 0.35% 11-14-2016 05-30-2025
Total CHF 125,000,000        

 

e.2) Subordinated bonds

 

As at December 31, 2016 the Bank had not issued subordinated bonds in this financial year.

 

e.3) Mortgage bonds

 

As at December 31, 2016 the Bank had not issued mortgages bonds in this financial year.

 

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NOTE 02

SIGNIFICANT EVENTS, continued

 

e.4)       Repurchase of bonds

 

The Bank has conducted the following repurchase of bonds as of December 31, 2016:

 

Date   Series Amount
01-13-2016   Senior bond USD        600,000
01-27-2016   Senior bond USD        960,000
03-08-2016   Senior bond USD 481,853,000
03-08-2016   Senior bond USD 140,104,000
05-10-2016   Senior bond USD   10,000,000
11-29-2016   Senior bond USD     6,895,000

 

As of December 31, 2015, the following significant events have occurred and affected the Bank`s operations and Consolidated Financial Statements.

 

a) The Board

 

In the Ordinary Board Meeting of Banco Santander Chile held on April 28, 2015, Orlando Poblete Iturrate was confirmed as a Director, having been previously appointed Alternate Director in the Ordinary Board Meeting on April 22, 2014 and replacing Carlos Olivos Marchant as Director since September 23, 2014. Also, Blanca Bustamante Bravo was appointed as Alternate Director.

 

In the Ordinary Board Meeting dated November 17, 2015 the Board appointed the director Orlando Poblete Iturrate as a member of the Audit Committee of Directors, replacing Lisandro Serrano Spoerer who had resigned in the Ordinary Board Meeting held on October 20, 2015.

 

b) Use of Profits and Distribution of Dividends

 

The Shareholders’ Meeting of Banco Santander Chile held on April 28, 2015, was chaired by Mr. Vittorio Corbo Lioi (Chairman), and attended by Roberto Méndez Torres (Second Vice President), the Directors: Marco Colodro Hadjes, Lucía Santa Cruz Sutil, Juan Pedro Santa María Pérez, Lisandro Serrano Spoerer, Roberto Zahler Mayanz and Orlando Poblete Iturrate. Also, the CEO Claudio Melandri Hinojosa and CAO Felipe Contreras Fajardo attended the meeting.

 

According to the information presented in aforementioned meeting, 2014 net income (designated in the financial statements as “Income attributable to equity holders of the Bank”) amounted to Ch$550,331 million. The Board approved the distribution of 60% of such net income, yielding a Ch$1.752 dividend per share, payable starting on April 29, 2015. Also, it was approved that the remaining 40% of the profits will be retained in the Bank’s reserves.

 

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NOTE 02

SIGNIFICANT EVENTS, continued

 

c) Issuance of bonds - at December 31, 2015

 

In the year ended December 31, 2015 the Bank has issued senior bonds in the amount of CLP 500,000,000,000 UF 14,000,000 CHF 150,000,000, and JPY 1,200,000,000. Debt issuance information is included in Note 18.

 

c.1) Senior bonds

 

Series Currency Amount Term Issuance rate

Issuance

date

Maturity
date
P1 CLP 50,000,000,000 10 years 5.80% per annum simple 01-01-2015 01-01-2025
P2 CLP 100,000,000,000 5 years 5.20% per annum simple 01-01-2015 01-01-2020
P3 CLP 50,000,000,000 7 years 5.50% per annum simple 01-01-2015 01-01-2022
P4 CLP 150,000,000,000 5 years 4.80% per annum simple 03-01-2015 03-01-2020
P5 CLP 150,000,000,000 6 years 5.30% per annum simple 03-01-2015 03-01-2022
Total CLP 500,000,000,000        
P6 UF 3,000,000 5 years 2.25% per annum simple 03-01-2015 03-01-2020
P7 UF 3,000,000 7.5 years 2.40% per annum simple 03-01-2015 09-01-2022
P8 UF 3,000,000 5.5 years 2.25% per annum simple 03-01-2015 09-01-2020
P9 UF 5,000,000 10.5 years 2.60% per annum simple 03-01-2015 09-01-2025
Total UF 14,000,000        
CHF fixed bond CHF 150,000,000 7 years 0.38% quarterly 04-19-2015 10-19-2022
Total CHF 150,000,000        
JPY current bond JPY 1,200,000,000 5 years 0.42% biannually 12-17-2015 12-17-2020
Total JPY 1,200,000,000        

 

c.2) Subordinated bonds

 

As at December 31, 2015 the Bank had not issued subordinated bonds in this financial year.

 

c.3)       Repurchase of bonds

 

The Bank has conducted the following repurchase of bonds as of December 31, 2015:

 

Date   Series Amount
       
12-01-2015   Senior bond USD 19,000,000

 

c.4)       Mortgage bonds at December 31, 2015

 

As of December 31, 2015 the Bank has issued the following bonds:

 

Series Currency Amount Term Issuance rate

Issuance

date

Maturity
date
AC       CLP 100,000,000,000 10 years 5,50% per annum simple 01-01-2015 01-01-2025
Total       CLP 100,000,000,000        

 

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NOTE 03

REPORTING SEGMENTS

 

The Bank manages and measures the performance of its operations by business segments. The information disclosed in this note is not necessarily comparable to that of other financial institutions, since it is based on management’s internal information system by segment.

 

Inter-segment transactions are conducted under normal arm’s length commercial terms and conditions. Each segment’s assets, liabilities, and income include items directly attributable to the segment to which they can be allocated on a reasonable basis.

 

Due to changes aimed at allocating customers to those segments best capable of servicing them, and streamlining processes, the Bank has modified its internal structure during 2015. This change in composition of the segments resulted in the following:

 

-Commissions paid in “Net fee and commission income “were reassigned among segments to more appropriately reflect the distributions in accordance with the management of each segment;

-The effects of changes in foreign exchange rates of provisions were reallocated to the line item “Other”, to more appropriately reflect the effects directly attributable to the respective segments;

-The improvement of the allocation of interest costs at time of placement of the loan.

 

Under IFRS 8, the Bank has aggregated operating segments with similar economic characteristics according to the aggregation criteria specified in the standard. A reporting segment consists of clients that are offered differentiated but, considering how their performance is measured, are homogenous services based on IFRS 8 aggregation criteria, thus they form part of the same reporting segment. Overall, this aggregation has no significant impact on the understanding of the nature and effects of the Bank’s business activities and the economic environment.

 

The Bank has the reportable segments noted below:

 

Retail Banking

 

Consists of individuals and small to middle-sized entities (SMEs) with annual income less than Ch$2,000 million. This segment gives customers a variety of services, including consumer loans, credit cards, auto loans, commercial loans, foreign exchange, mortgage loans, debit cards, checking accounts, savings products, mutual funds, stockbrokerage, and insurance brokerage. Additionally the SME clients are offered government-guaranteed loans, leasing and factoring.

 

Middle-market

 

This segment is made up of companies and large corporations with annual sales exceeding Ch$2,000 million. It serves institutions such as universities, government entities, local and regional governments and companies engaged in the real estate industry who carry out projects to sell properties to third parties and annual sales exceeding Ch$800 million with no upper limit. The companies within this segment have access to many products including commercial loans, leasing, factoring, foreign trade, credit cards, mortgage loans, checking accounts, transactional services, treasury services, financial consulting, savings products, mutual funds, and insurance brokerage. Also companies in the real estate industry are offered specialized services to finance projects, chiefly residential, with the aim of expanding sales of mortgage loans.

 

Global Corporate Banking

 

This segment consists of foreign and domestic multinational companies with sales over Ch$10,000 million. The companies within this segment have access to many products including commercial loans, leasing, factoring, foreign trade, credit cards, mortgage loans, checking accounts, transactional services, treasury services, financial consulting, investments, savings products, mutual funds and insurance brokerage.

 

This segment also consists of a Treasury Division which provides sophisticated financial products, mainly to companies in the Middle-market and Global Corporate Banking segments. These include products such as short-term financing and fund raising, brokerage services, derivatives, securitization, and other tailor-made products. The Treasury area may act as brokers to transactions and also manages the Bank’s investment portfolio.

 

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NOTE 03

REPORTING SEGMENTS, continued

 

Corporate Activities (“Other”)

 

This segment mainly includes the results of our Financial Management Division, which develops global management functions, including managing inflation rate risk, foreign currency gaps, interest rate risk and liquidity risk. Liquidity risk is managed mainly through wholesale deposits, debt issuances and the Bank’s available for sale portfolio. This segment also manages capital allocation by unit. These activities usually result in a negative contribution to income.

 

In addition, this segment encompasses all the intra-segment income and all the activities not assigned to a given segment or product with customers.

 

The segments’ accounting policies are those described in the summary of accounting policies. The Bank earns most of its income in the form of interest income, fee and commission income and income from financial operations. To evaluate a segment’s financial performance and make decisions regarding the resources to be assigned to segments, the Chief Operating Decision Maker (CODM) bases his assessment on the segment's interest income, fee and commission income, and expenses.

 

Below are the tables showing the Bank’s results by reporting segment for the years ended December 31, 2016, 2015 and 2014 in addition to the corresponding balances of loans and accounts receivable from customers:

 

    As of December 31, 2016
 

Loans and accounts receivable from customers

(1)

Net interest income Net fee and commission income

Financial transactions, net

(2)

Provision for loan losses

Support expenses

(3)

Segment`s
net contribution
  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
               
Retail Banking 18,604,936 931,105 196,845 21,141 (323,888) (529,909) 295,294
Middle-market 6,396,376 244,960 30,851 19,577 (26,748) (83,412) 185,228
Commercial Banking 25,001,312 1,176,065 227,696 40,718 (350,636) (613,321) 480,522
               
Global Corporate Banking 2,121,513 95,105 25,077 55,927 7,579 (53,935) 129,753
Other 83,606 10,196 1,651 43,713 974 (19,649) 36,885
               
Total 27,206,431 1,281,366 254,424 140,358 (342,083) (686,905) 647,160
               
Other operating income         6,427
Other operating expenses and impairment         (69,136)
Income from investments in associates and other companies         3,012
Income tax expense         (109,031)
Net income for the year         478,432
                 

(1) Corresponds to loans and accounts receivable from customers, without deducting their allowances for loan losses.

(2) Corresponds to the sum of the net income from financial operations and the foreign exchange profit or loss.

(3) Corresponds to the sum of personnel salaries and expenses, administrative expenses, depreciation and amortization.

 

F-45 

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NOTE 03

REPORTING SEGMENTS, continued

 

    As of December 31, 2015
 

Loans and accounts receivable from customers

(1)

Net interest income Net fee and commission income Financial transactions, net (2) Provision for loan losses

Support expenses

(3)

Segment`s
net contribution
  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
               
Retail Banking 17,034,707 873,026 190,380 16,245 (332,657) (533,086) 213,908
Middle-market 6,006,282 229,812 28,537 17,897 (26,147) (77,261) 172,838
Commercial Banking 23,040,989 1,102,838 218,917 34,142 (358,804) (610,347) 386,746
               
Global Corporate Banking 2,178,643 85,553 15,231 50,327 (28,426) (49,533) 73,152
Other 81,125 66,815 3,479 61,030 (12,047) (1,328) 117,949
               
Total 25,300,757 1,255,206 237,627 145,499 (399,277) (661,208) 577,847
               
Other operating income         6,439
Other operating expenses and impairment         (58,750)
Income from investments in associates and other companies         2,588
Income tax expense         (76,395)
Net income for the year         451,729

 

(1) Corresponds to loans and accounts receivable from customers, without deducting their allowances for loan losses.

(2) Corresponds to the sum of the net income from financial operations and the foreign exchange profit or loss.

(3) Corresponds to the sum of personnel salaries and expenses, administrative expenses, depreciation and amortization.

 

F-46 

Table of Contents 

 

NOTE 03 

REPORTING SEGMENTS, continued

 

    As of December 31, 2014
 

Loans and accounts receivable from customers

(1) 

Net interest income Net fee and commission income Financial transactions, net (2) Provision for loan losses

Support expenses

(3)

Segment`s
net contribution
  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
               
Retail Banking 15,191,808 833,139 175,007 18,458 (325,621) (479,954) 221,029
Middle-market 5,443,983 200,675 27,055 16,342 (22,034) (66,321) 155,717
Commercial Banking 20,635,791 1,033,814 202,062 34,800 (347,655) (546,275) 376,746
               
Global Corporate Banking 2,201,913 71,992 22,338 42,186 1,924 (44,195) 94,245
Other 54,945 211,298 2,883 35,579 (9,172) 2,261 242,849
               
Total 22,892,649 1,317,104 227,283 112,565 (354,903) (588,209) 713,840
               
Other operating income         6,545
Other operating expenses and impairment         (95,610)
Income from investments in associates and other companies         2,165
Income tax expense         (51,050)
Net income for the year         575,890

 

(1) Corresponds to loans and accounts receivable from customers, without deducting their allowances for loan losses.

(2) Corresponds to the sum of the net income from financial operations and the foreign exchange profit or loss.

(3) Corresponds to the sum of personnel salaries and expenses, administrative expenses, depreciation and amortization.

 

F-47 

Table of Contents 

 

NOTE 04

CASH AND CASH EQUIVALENTS

 

a)      The detail of the balances included under cash and cash equivalents is as follows:

 

    As of December 31,
    2016   2015
    MCh$   MCh$
         
Cash and deposits in banks        
  Cash   570,317   632,435
  Deposits in the Central Bank of Chile   507,275   184,510
  Deposits in domestic banks   1,440   192
  Deposits in foreign banks     1,200,357   1,247,669
Subtotals – Cash and deposits in banks   2,279,389   2,064,806
         
  Cash in process of collection, net   206,810   262,364
           
Cash and cash equivalents   2,486,199   2,327,170
             

 

The balance of funds held in cash and at the Central Bank of Chile reflects the monthly average that the Bank must maintain in accordance with the regulations governing minimum reserves although the balance can be withdrawn on demand.

 

b)     Cash in process of collection and in process of being cleared:

 

Cash items in process of collection and in process of being cleared represent domestic transactions which have not been processed through the central domestic clearinghouse or international transactions which may be delayed in settlement due to timing differences. These transactions were as follows:

 

    As of December 31,
    2016   2015
    MCh$   MCh$
         
Assets        
  Documents held by other banks (documents to be cleared)   200,109   296,634
  Funds receivable   295,174   427,887
Subtotal   495,283   724,521
Liabilities        
  Funds payable   288,473   462,157
  Subtotal   288,473   462,157
           
Cash in process of collection, net   206,810   262,364

 

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Table of Contents 

 

NOTE 05

TRADING INVESTMENTS

 

The detail of instruments deemed as financial trading investments is as follows:

 

    As of December 31,
    2016   2015
    MCh$   MCh$
         
Chilean Central Bank and Government securities        
  Chilean Central Bank Bonds   158,686   159,767
  Chilean Central Bank Notes   -   -
  Other Chilean Central Bank and Government securities   237,325   123,468
Subtotal   396,011   283,235
         
Other Chilean securities        
  Time deposits in Chilean financial institutions   -   -
  Mortgage finance bonds of Chilean financial institutions   -   -
  Chilean financial institution bonds   -   -
  Chilean corporate bonds   976   37,630
  Other Chilean securities   -   -
Subtotal   976   37,630
           
Foreign financial securities        
  Foreign Central Banks and Government securities   -   -
  Other foreign financial instruments   -   -
Subtotal   -   -
         
Investments in mutual funds        
  Funds managed by related entities   -   3,406
  Funds managed by others   -   -
Subtotal   -   3,406
         
Total   396,987   324,271

 

As of December 31, 2016 and 2015, there were no trading investments sold under contracts to resell to clients and financial institutions.

 

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NOTE 06

INVESTMENTS UNDER RESALE AGREEMENTS AND OBLIGATIONS UNDER REPURCHASE AGREEMENTS

 

a)Rights arising from resale agreements

 

The Bank purchases financial instruments agreeing to resell them at a future date. As of December 31, 2016 and 2015, rights associated with instruments acquired under contracts to resell are as follows:

 

  As of December 31,
  2016   2015
  From 1 day and less than 3 months

More than 3

months and

less than

1 year

More than 1 year Total   From 1 day and less than 3 months

More than 3 months and

less than

1 year

More than 1 year Total
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
                   

Securities from the Chilean Government and the Chilean Central Bank

                 
Chilean Central Bank Bonds 3,260 - - 3,260   1,978 - - 1,978
Chilean Central Bank Notes - - - -   2 - - 2

Other securities from the Government and the Chilean Central Bank

3,476 - - 3,476   483 - - 483
Subtotal 6,736 - - 6,736   2,463 - - 2,463
                   
Total 6,736 - - 6,736   2,463 - - 2,463

 

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NOTE 06

INVESTMENTS UNDER RESALE AGREEMENTS AND OBLIGATIONS UNDER REPURCHASE AGREEMENTS, continued

 

b)      Obligations arising from repurchase agreements

 

The Bank raises funds by selling financial instruments and committing itself to buy them back at future dates, plus interest at a predetermined rate. As of December 31, 2016 and 2015, obligations related to instruments sold under repurchase agreements are as follows:

 

  As of December 31,
  2016   2015
 

From 1 day

to less than

3 months

More than 3

months and

less than

1 year

More than

1 year

Total  

From 1 day

to less than

3 months

More than 3

months and

less than

1 year

More than

1 year

Total
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
                   

Securities from Chilean Government and the Chilean Central Bank

                 
Chilean Central Bank Bonds - - - -   64,337 - - 64,337
Chilean Central Bank Notes 155,044 - - 155,044   22 - - 22
Other securities from the Government and the Chilean Central Bank - - - -   11,006 - - 11,006
Subtotal 155,044 - - 155,044   75,365 - - 75,365

Instruments from other domestic institutions:

                 
Time deposits in Chilean financial institutions 56,898 495 - 57,393   68,324 - - 68,324
Subtotal 56,898 495 - 57,393   68,324 - - 68,324
                   
Total 211,942 495 - 212,437   143,689 - - 143,689

 

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NOTE 06

INVESTMENTS UNDER RESALE AGREEMENTS AND OBLIGATIONS UNDER REPURCHASE AGREEMENTS, continued

 

c) Below is the detail by portfolio of collateral associated with repurchase agreements as of December 31, 2016 and 2015, valued at fair value:

 

  As of December 31,
  2016   2015
 

Available

for sale

portfolio

Trading

portfolio

Total    

Available

for sale

portfolio

Trading portfolio Total   
  MCh$ MCh$ MCh$   MCh$ MCh$ MCh$
               
Chilean Central Bank and Government securities:            
Chilean Central Bank Bonds - - -   62,350 - 62,350
Chilean Central Bank Notes 155,044 - 155,044   20 - 20

Other securities from the Government and the Chilean Central Bank

- - -   10,531 - 10,531
Subtotal 155,044 - 155,044   72,901 - 72,901
Other Chilean securities:              
Time deposits in Chilean financial institutions 57,393 - 57,393   68,321 - 68,321
Subtotal 57,393 - 57,393   68,321 - 68,321
               
Total 212,437 - 212,437   141,222 - 141,222

 

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NOTE 07

DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGE ACCOUNTING

 

a)As of December 31, 2016 and 2015 the Bank holds the following portfolio of derivative instruments:

 

  As of December 31, 2016
  Notional amount   Fair value
 

Up to 3

Months

More than 3

months to

1 year

More than

1 year

Total   Assets Liabilities
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$
               
Fair value hedge derivatives                
Interest rate swaps 74,086 514,454 1,402,870 1,991,410   38,977 211
Cross currency swaps 424,086 505,902 1,239,490 2,169,478   32,640 32,868
Subtotal 498,172 1,020,356 2,642,360 4,160,888   71,617 33,079
               
Cash flow hedge derivatives              
Currency forwards 915,879 639,939 - 1,555,818   10,216 3,441
Cross currency swaps 897,480 2,613,706 4,260,194 7,771,380   43,591 68,894
Subtotal 1,813,359 3,253,645 4,260,194 9,327,198   53,807 72,335
               
Trading derivatives              
Currency forwards 15,840,731 11,240,251 3,358,765 30,439,747   185,618 209,955
Interest rate swaps 6,889,665 12,512,285 49,747,459 69,149,409   627,047 526,695
Cross currency swaps 3,966,443 7,589,201 53,148,109 64,703,753   1,562,068 1,449,550
Call currency options 73,943 20,994 2,664 97,601   521 5
Call interest rate options - - - - - -
Put currency options 52,143 7,892 2,664 62,699   104 542
Other derivatives - - - -   - -
Subtotal 26,822,925 31,370,623 106,259,661 164,453,209   2,375,358 2,186,747
               
Total 29,134,456 35,644,624 113,162,215 177,941,295   2,500,782 2,292,161

 

 

 

  As of December 31, 2015
  Notional amount   Fair value
 

Up to 3

months

More than 3

months to

1 year

More than

1 year

Total   Assets Liabilities
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$
               
Fair value hedge derivatives                
Interest rate swaps 327,955 1,184,795 630,970 2,143,720   5,480 6,364
Cross currency swaps 9,441 30,040 1,842,421 1,881,902   181,557 1,483
Subtotal 337,396 1,214,835 2,473,391 4,025,622   187,037 7,847
               
Cash flow hedge derivatives              
Currency forwards - - - -   - -
Cross currency swaps 7,281,184 4,445,006 2,720,520 14,446,710   273,291 69,716
Subtotal 7,281,184 4,445,006 2,720,520 14,446,710   273,291 69,716
               
Trading derivatives              
Currency forwards 18,731,575 13,328,727 3,459,386 35,519,688   341,236 318,416
Interest rate swaps 7,272,523 15,677,393 56,140,894 79,090,810   533,416 540,011
Cross currency swaps 5,881,627 5,898,094 44,921,355 56,701,076   1,826,977 1,883,185
Call currency options 49,067 60,380 477,057 586,504   42,325 41,451
Call interest rate options - - 264,473 264,473 1,148 1,253
Put currency options 48,958 52,682 - 101,640   422 684
Other derivatives 125,258 - - 125,258   74 43
Subtotal 32,109,008 35,017,276 105,263,165 172,389,449   2,745,598 2,785,043
               
Total 39,727,588 40,677,117 110,457,076 190,861,781   3,205,926 2,862,606

 

F-53 

Table of Contents 

 

NOTE 07

DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGE ACCOUNTING, continued

 

b)Hedge accounting

 

Fair value hedge:

 

The Bank uses cross-currency swaps and interest rate swaps to hedge its exposure to changes in fair value of hedged items attributable to interest rates. The aforementioned hedging instruments change the effective cost of long-term issuances from a fixed interest rate to a variable interest rate.

 

Below is a detail of the hedged elements and hedge instruments under fair value hedges as of December 31, 2016 and 2015, classified by term to maturity:

 

  As of December 31, 2016
  Within 1 year Between 1 and 3 years Between 3 and 6 years Over 6 years Total
  MCh$ MCh$ MCh$ MCh$ MCh$
           
Hedged item            
Available for sale investments          
   Yankee bonds - - 6,660 56,610 63,270
   Mortgage financing bonds - - 5,651 - 5,651
   Treasury bonds (BTP) - - 33,300 366,300 399,600
   Central bank bonds (BCP) - - - - -
Time deposits and other time liabilities          
   Time deposits 993,659 - - - 993,659
Issued debt instruments          
   Senior bonds 524,869 652,046 1,000,905 520,888 2,698,708
Total 1,518,528 652,046 1,046,516 943,798 4,160,888
Hedging instrument          
   Cross currency swaps 929,988 437,046 531,556 270,888 2,169,478
   Interest rate swaps 588,540 215,000 514,960 672,910 1,991,410
Total 1,518,528 652,046 1,046,516 943,798 4,160,888

 

 

 

  As of December 31, 2015
  Within 1 year Between 1 and 3 years Between 3 and 6 years Over 6 years Total
  MCh$ MCh$ MCh$ MCh$ MCh$
           
Hedged item          
Available for sale investments          
   Yankee bonds - - - 92,106 92,106
   Mortgage financing bonds - - - 6,460 6,460
   Treasury bonds (BTP) - - - - -
   Central bank bonds (BCP) - - - - -
Time deposits and other time liabilities          
Time deposits 1,542,789 65,000 - - 1,607,789
Issued debt instruments          
   Senior bonds 9,442 573,960 867,865 868,000 2,319,267
Total 1,552,231 638,960 867,865 966,566 4,025,622
Hedging instrument          
   Cross currency swaps 39,481 548,960 567,865 725,596 1,881,902
   Interest rate swaps 1,512,750 90,000 300,000 240,970 2,143,720
Total 1,552,231 638,960 867,865 966,566 4,025,622

 

F-54 

Table of Contents 

 

NOTE 07

DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGE ACCOUNTING, continued

 

Cash flow hedges

 

The Bank uses cross currency swaps to hedge the risk from variability of cash flows attributable to changes in the interest rates of bonds and interbank loans at a variable rate. To cover the inflation risk in some items, both forwards as well as currency swaps are used.

 

Below is the notional amount of the hedged items as of December 31, 2016 and 2015, and the period when the cash flows will be generated:

 

  As of December 31, 2016

Within 1

year

Between 1 and 3

years

Between 3 and 6

years

Over 6

years

Total
  MCh$ MCh$ MCh$ MCh$ MCh$
Hedged item            
Loans and accounts receivables from customers          
   Mortgage loans 1,083,972 312,546 900,746 956,803 3,254,067
Commercial loans 972,360 - - - 972,360
Available for sale investments          
   Yankee bond - - 126,140 406,881 533,021
   Chilean Central Bank bonds 20,754 - - - 20,754
   Time deposits 26,196 - - - 26,196
Time deposits and other time liabilities          
   Time deposits 285,090 - - - 285,090
Issued debt instruments          
   Senior bonds (variable rate) 854,414 399,451 285,355 - 1,539,220
   Senior bonds (fixed rate) 140,765 108,409 243,121 105,600 597,895
Interbank borrowings          
   Interbank loans 1,683,453 415,142 - - 2,098,595
Total 5,067,004 1,235,548 1,555,362 1,469,284 9,327,198
Hedging instrument          
Cross currency swaps 3,511,186 1,235,548 1,555,362 1,469,284 7,771,380
Currency forwards 1,555,818 - - - 1,555,818
Total 5,067,004 1,235,548 1,555,362 1,469,284 9,327,198

 

 

 

  As of December 31, 2015
 

Within 1 

year

Between 1 and 3

years

Between 3 and 6

years

Over 6

years

Total
  MCh$ MCh$ MCh$ MCh$ MCh$
Hedged item            
Loans and accounts receivables from customers          
   Mortgage loans 8,098,639 157,462 158,649 - 8,414,750
Commercial loans 564,800 - - - 564,800
Available for sale investments          
   Yankee bond - - 80,078 585,386 665,464
   Chilean Central Bank bonds 123,962 20,467 - - 144,429
   Time deposits 50,023 - - - 50,023
Time deposits and other time liabilities          
   Time deposits - - - - -
Issued debt instruments          
   Senior bonds (variable rate) 963,829 1,176,383 - - 2,140,212
   Senior bonds (fixed rate) - - 14,036 202,562 216,598
Interbank borrowings          
   Interbank loans 1,924,937 325,497 - - 2,250,434
Total 11,726,190 1,679,809 252,763 787,948 14,446,710
Hedging instrument          
Cross currency swaps 11,726,190 1,679,809 252,763 787,948 14,446,710
Currency forwards - - - - -
Total 11,726,190 1,679,809 252,763 787,948 14,446,710

 

F-55 

Table of Contents 

 

NOTE 07

DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGE ACCOUNTING, continued

 

Below is an estimate of the periods in which flows are expected to be produced:

 

b.1) Forecasted cash flows for interest rate risk:

 

  As of December 31, 2016

Within 1

year

Between 1 and 3 years Between 3 and 6 years

Over 6

years

Total
  MCh$ MCh$ MCh$ MCh$ MCh$
Hedged item          
Inflows 159,439 83,193 32,647 3,748 279,027
Outflows (72,631) (45,857) (18,040) - (136,528)
Net flows 86,808 37,336 14,607 3,748 142,499
           
Hedging instrument          
Inflows 72,631 45,857 18,040 - 136,528
Outflows (*) (159,439) (83,193) (32,647) (3,748) (279,027)
Net flows (86,808) (37,336) (14,607) (3,748) (142,499)

 

(*)Only includes cash flow forecast portion of the hedge instruments used to cover interest rate risk.

 

  As of December 31, 2015
 

Within 1

year

Between 1 and 3 years Between 3 and 6 years

Over 6

years

Total
  MCh$ MCh$ MCh$ MCh$ MCh$
Hedged item          
Inflows 69,477 23,003 9,466 4,661 106,607
Outflows (40,521) (25,018) (6,216) (650) (72,405)
Net flows 28,956 (2,015) 3,250 4,011 34,202
           
Hedging instrument          
Inflows 40,521 25,018 6,216 650 72,405
Outflows (*) (69,477) (23,003) (9,466) (4,661) (106,607)
Net flows (28,956) 2,015 (3,250) (4,011) (34,202)

 

(*)Only includes cash flow forecast portion of the hedge instruments used to cover interest rate risk.

 

F-56 

Table of Contents 

 

NOTE 07

DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGE ACCOUNTING, continued

 

b.2) Forecasted cash flows for inflation risk:

 

  As of December 31, 2016

Within

1 year

Between 1 and 3

years

Between 3 and 6 years

Over 6

years

Total
  MCh$ MCh$ MCh$ MCh$ MCh$
Hedged item          
Inflows 22,586 11,896 56,107 115,753 206,342
Outflows (4,900) - - - (4,900)
Net flows 17,686 11,896 56,107 115,753 201,442
           
Hedging instrument          
Inflows 4,900 - - - 4,900
Outflows (22,586) (11,896) (56,107) (115,753) (206,342)
Net flows (17,686) (11,896) (56,107) (115,753) (201,442)

 

 

  As of December 31, 2015
 

Within

1 year

Between 1 and 3  

years

Between 3 and 6 years

Over 6

years

Total
  MCh$ MCh$ MCh$ MCh$ MCh$
Hedged item          
Inflows 147,374 10,554 - - 157,928
Outflows - - - - -
Net flows 147,374 10,554 - - 157,928
           
Hedging instrument          
Inflows - - - - -
Outflows (147,374) (10,554) - - (157,928)
Net flows (147,374) (10,554) - - (157,928)

 

F-57 

Table of Contents 

 

NOTE 07

DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGE ACCOUNTING, continued

 

b.3) Forecasted cash flows for exchange rate risk:

 

As of December 31, 2016 and 2015 the Bank has no forecasted cash flows for exchange rate risk.

 

c)The accumulated effect of the mark to market adjustment of cash flow hedges produced by hedge instruments used in hedged cash flow was recorded in the Consolidated Statement of Changes in Equity, specifically within Other comprehensive income, as of December 31, 2016 and 2015, is as follows:

 

    As of December 31,
Hedged item   2016   2015
    MCh$   MCh$
         
Interbank loans   (6,019)   2,700
Time deposits and other time liabilities   (294)   -
Issued debt instruments   (8,169)   2,462
Available for sale investments   12,833   573
Loans and accounts receivable from customers   3,937   2,891
Net flows   2,288   8,626



 

Since the inflows and outflows for both the hedged element and the hedging instrument mirror each other, the hedges are nearly 100% effective, which means that the fluctuations of fair value attributable to risk components are almost completely offset.

 

During the year, the Bank did not have any cash flow hedges of forecast transactions.

 

F-58 

Table of Contents 

 

NOTE 07

DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGE ACCOUNTING, continued

 

d)Below is a presentation of income generated by cash flow hedges amount that were reclassified from other comprehensive income to income for the year:

 

  For the years ended December 31,  
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Bond hedging derivatives (77)   6   (16)
Interbank loans hedging derivatives -   -   446
           
Cash flow hedge net income (77)   6   430

 

See Note 23 - Equity, letter e)

 

e)Net investment hedges in foreign operations:

 

As of December 31, 2016 and 2015, the Bank does not have any foreign net investment hedges in its hedge accounting portfolio.

 

F-59 

Table of Contents 

 

NOTE 08

INTERBANK LOANS

 

a)As of December 31, 2016 and 2015, balances of “Interbank loans” are as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Domestic banks      
Interbank loans 23   14
Other domestic bank loans 51   36
       
Foreign Interbank Loans      
Interbank loans – Foreign 272,733   10,827
Provisions and impairment for foreign bank loans (4,135)   (1,166)
       
Total 268,672   9,711

 

b)The amount in each period for provisions and impairment of interbank loans is shown below:

 

  As of December 31,
  2016   2015
Domestic banks

Foreign

banks

Total   Domestic banks Foreign banks Total
MCh$ MCh$ MCh$   MCh$ MCh$ MCh$
               
Balance as of January 1 - 1,166 1,166   - 1 1
Provisions established 1 3,051 3,052   141 1,216 1,357
Provisions released (1) (82) (83)   (141) (51) (192)
Total - 4,135 4,135   - 1,166 1,166

 

F-60 

Table of Contents 

 

NOTE 09

LOANS AND ACCOUNTS RECEIVABLE FROM CUSTOMERS

 

a)Loans and accounts receivable from customers

 

As of December 31, 2016 and 2015, the composition of the loan portfolio is as follows:

 

As of December 31, 2016

 

Assets before allowances   Allowances established  

Normal

portfolio

Impaired

portfolio

Total   Individual allowances Group allowances Total  

Assets

net balance

MCh$ MCh$ MCh$   MCh$ MCh$ MCh$   MCh$
                   
Commercial loans                  
Commercial loans   9,160,982 692,675 9,853,657   159,463 148,703 308,166   9,545,491
Foreign trade loans   1,750,196 79,708 1,829,904   56,919 901 57,820   1,772,084
Checking accounts debtors 166,073 13,395 179,468   2,794 6,854 9,648   169,820
Factoring transactions 291,112 5,639 296,751   4,787 620 5,407   291,344
Leasing transactions 1,376,972 108,151 1,485,123   17,593 5,546 23,139   1,461,984
Other loans and account receivable 193,589 28,973 222,562   4,780 20,482 25,262   197,300
Subtotal 12,938,924 928,541 13,867,465   246,336 183,106 429,442   13,438,023
                   
Mortgage loans                  
Loans with mortgage finance bonds 31,368 1,211 32,579   - 16 16   32,563
Endorsable mortgage mutual loans   115,400 4,534 119,934   - 190 190   119,744
Other mortgage mutual loans   8,074,900 391,943 8,466,843   - 56,803 56,803   8,410,040
Subtotal 8,221,668 397,688 8,619,356   - 57,009 57,009   8,562,347
                   
Consumer loans                  
Installment consumer loans 2,468,692 253,673 2,722,365   - 249,545 249,545   2,472,820
Credit card balances 1,418,409 29,709 1,448,118   - 41,063 41,063   1,407,055
Leasing transactions 5,062 55 5,117   - 72 72   5,045
Other consumer loans   266,056 5,147 271,203   - 9,339 9,339   261,864
Subtotal 4,158,219 288,584 4,446,803   - 300,019 300,019   4,146,784
                   
Total 25,318,811 1,614,813 26,933,624   246,336 540,134 786,470  

26,147,154

                     

 

F-61 

Table of Contents 

 

NOTE 09

LOANS AND ACCOUNTS RECEIVABLE FROM CUSTOMERS, continued

 

As of December 31, 2015

 

Assets before allowances   Allowances established  

Normal  

portfolio

Impaired 

portfolio

Total   Individual allowances Group allowances Total  

Assets

net balance

MCh$ MCh$ MCh$   MCh$ MCh$ MCh$   MCh$
                   
Commercial loans                  
Commercial loans   8,262,693 722,759 8,985,452   159,635 145,830 305,465   8,679,987
Foreign trade loans   2,077,598 74,972 2,152,570   65,631 1,473 67,104   2,085,466
Checking accounts debtors 221,796 12,927 234,723   2,665 7,204 9,869   224,854
Factoring transactions 270,272 5,375 275,647   5,194 761 5,955   269,692
Leasing transactions 1,430,470 103,722 1,534,192   18,810 6,627 25,437   1,508,755
Other loans and account receivable 121,647 22,128 143,775   4,570 12,801 17,371   126,404
Subtotal 12,384,476 941,883 13,326,359   256,505 174,696 431,201   12,895,158
                   
Mortgage loans                  
Loans with mortgage finance bonds 42,263 1,765 44,028   - 336 336   43,692
Endorsable mortgage mutual loans   131,118 2,987 134,105   - 848 848   133,257
Other mortgage mutual loans   7,243,322 391,395 7,634,717   - 61,243 61,243   7,573,474
Subtotal 7,416,703 396,147 7,812,850   - 62,427 62,427   7,750,423
                   
Consumer loans                  
Installment consumer loans 2,167,378 302,268 2,469,646   - 215,914 215,914   2,253,732
Credit card balances 1,410,036 24,573 1,434,609   - 43,159 43,159   1,391,450
Leasing transactions 5,383 77 5,460   - 79 79   5,381
Other consumer loans   236,564 4,392 240,956   - 8,355 8,355   232,601
Subtotal 3,819,361 331,310 4,150,671   - 267,507 267,507   3,883,164
                   
Total 23,620,540 1,669,340 25,289,880   256,505 504,630 761,135

24,528,745 

                     

F-62 

Table of Contents 

 

NOTE 09

LOANS AND ACCOUNTS RECEIVABLE FROM CUSTOMERS, continued

 

b)Portfolio characteristics:

 

As of December 31, 2016 and 2015 the portfolio before allowances is as follows, by customer’s economic activity:

 

  Domestic loans (*)   Foreign interbank loans   Total loans   Distribution percentage
  As of December 31   As of December 31,   As of December 31,   As of December 31,
  2016 2015   2016 2015   2016 2015   2016 2015
  MCh$ MCh$   MCh$ MCh$   MCh$ MCh$   % %
Commercial loans                      
Manufacturing 1,180,886 1,171,830   - -   1,180,886 1,171,830   4.34 4.63
Mining 340,554 510,467   - -   340,554 510,467   1.25 2.02
Electricity, gas, and water 442,936 454,456   - -   442,936 454,456   1.63 1.80
Agriculture and livestock 1,096,659 1,019,922   - -   1,096,659 1,019,922   4.03 4.03
Forest 96,806 96,069   - -   96,806 96,069   0.36 0.38
Fishing 296,592 344,496   - -   296,592 344,496   1.09 1.36
Transport 787,510 876,329   - -   787,510 876,329   2.89 3.46
Communications 196,934 160,135   - -   196,934 160,135   0.72 0.63
Construction 1,792,485 1,462,535   - -   1,792,485 1,462,535   6.59 5.78
Commerce 3,120,400 3,050,663   272,733 10,827   3,393,133 3,061,490   12.47 12.10
Services 482,900 483,516   - -   482,900 483,516   1.77 1.91
Other 4,032,877 3,695,991   - -   4,032,877 3,695,991   14.84 14.61
                       
Subtotal 13,867,539 13,326,409   272,733 10,827   14,140,272 13,337,236   51.98 52.71
                       
Mortgage loans 8,619,356 7,812,850   - -   8,619,356 7,812,850   31.68 30.88
                       
Consumer loans 4,446,803 4,150,671   - -   4,446,803 4,150,671   16.34 16.41
                       
Total 26,933,698 25,289,930   272,733 10,827   27,206,431 25,300,757   100.00 100.00

 

(*)Includes domestic interbank loans for Ch$74 million as of December 31, 2016 (Ch$50 million as of December 31, 2015), see Note 8.

 

F-63 

Table of Contents 

 

NOTE 09

LOANS AND ACCOUNTS RECEIVABLE FROM CUSTOMERS, continued

 

c)     Impaired Portfolio

 

i)     As of December 31, 2016 and 2015, the impaired portfolio is as follows:

 

 

As of December 31, 

  2016   2015
  Commercial   Mortgage   Consumer   Total   Commercial   Mortgage   Consumer   Total
  MCh$   MCh$   MCh$   MCh$   MCh$   MCh$   MCh$   MCh$
Individual impaired portfolio 439,707       439,707   486,685       486,685
Non-performing loans (1) (collectively evaluated) 316,838   147,572   99,721   564,131   346,868   183,133   113,467   643,468
Other impaired portfolio 172,624   250,116   188,863   611,603   108,330   213,014   217,843   539,187
Total 929,169   397,688   288,584   1,615,441   941,883   396,147   331,310   1,669,340

 

(1) Non-performing loans include the aggregate unpaid principal and accrued but unpaid interest on all loans with at least one installment at least 90 days past-due.

 

ii) The impaired portfolio with or without guarantee as of December 31, 2016 and 2015 is as follows:

 

 

As of December 31,

 
  2016   2015
  Commercial   Mortgage   Consumer   Total   Commercial   Mortgage   Consumer   Total
  MCh$   MCh$   MCh$   MCh$   MCh$   MCh$   MCh$   MCh$
Secured debt 519,821   357,320   35,134   912,275   410,700   362,326   42,244   815,270
Unsecured debt 409,348   40,368   253,450   703,166   531,183   33,821   289,066   854,070
Total 929,169   397,688   288,584   1,615,441   941,883   396,147   331,310   1,669,340
                                 

 

iii) The portfolio of non-performing loans with or without guarantee, as of December 31, 2016 and 2015 is as follows:

 

 

As of December 31,

  2016   2015  
  Commercial   Mortgage   Consumer   Total   Commercial   Mortgage   Consumer   Total  
  MCh$   MCh$   MCh$   MCh$   MCh$   MCh$   MCh$   MCh$  
Secured debt 159,965   129,632   8,940   298,537   115,733   158,854   9,144   283,731  
Unsecured debt 156,873   17,940   90,781   265,594   231,135   24,279   104,323   359,737  
Total 316,838   147,572   99,721   564,131   346,868   183,133   113,467   643,468  

 

 

F-64 

Table of Contents 

 

NOTE 09

LOANS AND ACCOUNTS RECEIVABLE FROM CUSTOMERS, continued

 

d)Allowances

 

The changes in allowance balances during 2016 and 2015 are as follows:

 

Activity during 2016

Commercial

loans

Mortgage

loans

Consumer

loans

Total
  Individual Group Group Group
  MCh$ MCh$ MCh$ MCh$ MCh$
           
Balance as of January 1, 2016 256,505 174,696    62,427 267,507 761,135
Allowances established (1) 61,002 133,855 50,892 280,544 526,293
Allowances released (2) (43,183) (14,432) (34,246) (30,790) (122,651)
Allowances released due to charge-off (3) (54,924) (104,868) (10,911) (207,604) (378,307)
Balances as of December 31, 2016 219,400 189,251 68,162 309,657 786,470

 

 

Activity during 2015

Commercial

loans

Mortgage

loans

Consumer

loans

Total
  Individual Group Group Group
  MCh$ MCh$ MCh$ MCh$ MCh$
           
Balance as of January 1, 2015 215,852 165,697    48,744 254,023 684,316
Allowances established (1) 124,968 136,778 34,373 248,937 545,056
Allowances released (2) (46,614) (17,885) (7,205) (18,126) (89,830)
Allowances released due to charge-off (3) (37,701) (109,894) (13,485) (217,327) (378,407)
Balances as of December 31, 2015 256,505 174,696 62,427 267,507 761,135

 

(1)Represents gross allowances made in respect of increased risk of loss during the period and loan growth.

(2)Represents the gross amount of loan loss allowances released during the year as a consequence of reduction in the level of risk existing in the loan portfolio, including as a result of improvement in the credit risk classification of borrowers and loans paid.

(3)Represents the gross amount of loan loss allowances removed due to charge-off.

 

F-65 

Table of Contents 

 

NOTE 09

LOANS AND ACCOUNTS RECEIVABLE FROM CUSTOMERS, continued

 

e)Recoveries by type of loan

 

  For the years ended December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Commercial loans  27,185    26,032   16,947
Consumer loans  41,072    35,565   36,908
Residential mortgage loans  10,041    6,543   5,122
Total 78,298   68,140   58,977

 

Recoveries of loans previously charged off are recognized as income in the line item “Provision for loans losses”. We only recognize as a recovery interest and/or principal paid in cash in connection with a loan that has already been charged-off in its entirety. Such recoveries do not have an impact on our allowance for loan losses as these recoveries are for loans that have been already charged-off and recognized as a loss in our income statement and are no longer on-balance sheet.

 

f)Allowances established on customer and interbank loans

 

The following chart shows the balance of allowances established, associated with credits granted to customers and banks:

 

  As of December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Customers loans 354,367   371,489   296,257
Interbank loans 3,052   1,357   60
Total

357,419 

 

372,846

296,317

 

 

F-66 

Table of Contents 

 

NOTE 09

LOANS AND ACCOUNTS RECEIVABLE FROM CUSTOMERS, continued

 

g) Portfolio by its impaired and non-impaired status.

 

  As of December 31, 2016
  Non-impaired Impaired Portfolio total
  Commercial Mortgage Consumer

Total non

impaired

Commercial Mortgage Consumer

Total

impaired

Commercial Mortgage Consumer

Total

portfolio 

  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
                         
Current portfolio 12,765,961 7,944,260 3,957,566 24,667,787 463,176 133,816 100,670 697,662 13,229,137 8,078,076 4,058,236 25,365,449
Overdue for 1-29 days 97,302 69,227 113,031 279,560 35,777 12,984 32,536 81,297 133,079 82,211 145,567 360,857
Overdue for 30-89 days 75,033 208,181 87,622 370,836 118,461 105,804 70,920 295,185 193,494 313,985 158,542 666,021
Overdue for 90 days or more - - - - 311,755 145,084 84,458 541,297 311,755 145,084 84,458 541,297
                         
Total portfolio before allowances 12,938,296 8,221,668 4,158,219 25,318,183 929,169 397,688 288,584 1,615,441 13,867,465 8,619,356 4,446,803 26,933,624
                         
Overdue loans (less than 90 days) presented as portfolio percentage 1.33% 3.37% 4.83% 2.57% 16.60% 29.87% 35.85% 23.31% 2.35% 4.60% 6.84% 3.81%
                         
Overdue loans (90 days or more) presented as portfolio percentage. - - - - 33.55% 36.48% 29.27% 33.51% 2.25% 1.68% 1.90% 2.01%

 

 

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Table of Contents 

 

NOTE 09

LOANS AND ACCOUNTS RECEIVABLE FROM CUSTOMERS, continued

 

  As of December 31, 2015
  Non-impaired Impaired Portfolio total
  Commercial Mortgage Consumer

Total non

impaired

Commercial Mortgage Consumer

Total

impaired

Commercial Mortgage Consumer

Total

portfolio

  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
                         
Current portfolio 12,207,967 7,125,404 3,617,676 22,951,047 441,308 146,909 134,700 722,917 12,649,275 7,272,313 3,752,376 23,673,964
Overdue for 1-29 days 98,692 80,621 120,912 300,225 61,626 11,990 45,280 118,896 160,318 92,611 166,192 419,121
Overdue for 30-89 days 77,817 210,678 80,773 369,268 108,743 61,962 59,754 230,459 186,560 272,640 140,527 599,727
Overdue for 90 days or more - - - - 330,206 175,286 91,576 597,068 330,206 175,286 91,576 597,068
                         
Total portfolio before allowances 12,384,476 7,416,703 3,819,361 23,620,540 941,883 396,147 331,310 1,669,340 13,326,359 7,812,850 4,150,671 25,289,880
                         
Overdue loans (less than 90 days) presented as portfolio percentage 1.43% 3.93% 5.28% 2.83% 18.09% 18.67% 31.70% 20.93% 2.60% 4.68% 7.39% 4.03%
                         
Overdue loans (90 days or more) presented as portfolio percentage. - - - - 35.06% 44.25% 27.64% 35.77% 2.48% 2.24% 2.21% 2.36%

 

F-68 

Table of Contents 

 

NOTE 09

LOANS AND ACCOUNTS RECEIVABLE FROM CUSTOMERS, continued

 

Reconciliation of overdue loans with non-performing loans

 

  As of December 31, 2016
  Commercial   Mortgage   Consumer   Total
  MCh$   MCh$   MCh$    
               
Overdue loans  311,755    145,084    84,458    541,297
Loans with not overdue but classified as non-performing loans  5,083    2,488    15,263    22,834
Total  316,838    147,572    99,721   564,131

 

 

  As of December 31, 2015
  Commercial   Mortgage   Consumer   Total
  MCh$   MCh$   MCh$    
               
Overdue loans  330,206    175,286    91,576    597,068
Loans with not overdue but classified as non-performing loans  16,662    7,847    21,891    46,400

Total

 346,868    183,133    113,467   643,468

  

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NOTE 10 

AVAILABLE FOR SALE INVESTMENTS

 

As of December 31, 2016 and 2015, detail of instruments deemed as available for sale investments is as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Chilean central bank and government securities      
Chilean central bank bonds 468,386   687,292
Chilean central bank notes                 1,222,283   -
Other Chilean central bank and government securities 52,805   145,603
Subtotal          1,743.474   832,895
Other Chilean securities      
Time deposits in Chilean financial institutions          893,000   712,859
Mortgage finance bonds of Chilean financial institutions           25,488   29,025
Subtotal          918,488   741,884
Foreign financial securities      
Foreign Central Banks and Government securities                  387,146    -
Other foreign financial securities          339,798   469,632
Subtotal          726,944   469,632
       
Total       3,388,906   2,044,411

 

As of December 31, 2016 and 2015, the line item Chilean central bank and government securities item includes securities sold under repurchase agreements to clients and financial institutions for Ch$155,044 and Ch$72,901 million, respectively.

 

As of December 31, 2016 and 2015, the line item Other Chilean securities includes securities sold to customers and financial institutions under repurchase agreements totaling Ch$57,393 and Ch$68,321 million, respectively.

 

As of December 31, 2016 available for sale investments included a cumulative net unrealized income of Ch$7,375 million, recorded as a “Valuation adjustment” in Other comprehensive income, distributed between Ch$6,449 million attributable to the equity holders of the Bank and Ch$926 million attributable to non-controlling interest.

 

As of December 31, 2015 available for sale investments included a cumulative net unrealized loss of Ch$7,093 million, recorded as a “Valuation adjustment” in Other comprehensive income, distributed between Ch$6,965 million attributable to the equity holders of the Bank and Ch$128 million attributable to non-controlling interest.

 

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NOTE 10

AVAILABLE FOR SALE INVESTMENTS, continued

 

Gross profits and losses realized on the sale of available for sale investments as of December 31, 2016, 2015 and 2014, are as follows:

 

  For the years ended December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Sale of available for sale investments generating realized profits 6,522,549   2,627,490   2,064,836
Realized profits 12,333   22,473   6,079
Sale of available for sale investments generating realized losses 346,906   346,450   92,620
Realized losses 132   72   64

 

The Bank evaluated those instruments with unrealized losses as of December 31, 2016 and 2015 and concluded they were not impaired. This review consisted of evaluating the economic reasons for any declines, the credit ratings of the securities’ issuers, and the Bank’s intention and ability to hold the securities until the unrealized loss is recovered. Based on this analysis, the Bank believes that there were no significant or prolonged declines nor changes in credit risk which would cause impairment in its investment portfolio, since most of the decline in fair value of these instruments was caused by market conditions which the Bank considers to be temporary. All of the instruments that have unrealized losses as of December 31, 2016 and 2015, were not in a continuous unrealized loss position for more than one year.

 

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NOTE 10

AVAILABLE FOR SALE INVESTMENTS, continued

 

The following charts show the available for sale investments cumulative unrealized profit and loss, as of December 31, 2016 and 2015:

 

As of December 31, 2016:

 

  Less than 12 months   More than 12 months   Total
  Acquisition cost Fair value

Unrealized

profit

Unrealized loss   Acquisition cost Fair value

Unrealized

profit

Unrealized loss   Acquisition cost Fair value

Unrealized 

profit

Unrealized loss
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
                             
Chilean central bank and government securities                            
Chilean central bank Bonds 461,793 468,386 6,612 (19)   - - - -   461,793 468,386 6,612 (19)
Chilean central bank Notes 1,222,263 1,222,283 23 (3)   - - - -   1,222,263 1,222,283 23 (3)
Other Chilean central bank and government securities 52,411 52,805 394 -   - - - -   52,411 52,805 394 -
Subtotal 1,736,467 1,743,474 7,029 (22)   - - - -   1,736,467 1,743,474 7,029 (22)
                             
Other Chilean securities                            
Time deposits in Chilean financial institutions 892,956 893,000 108 (64)   - - - -   892,956 893,000 108 (64)
Mortgage finance bonds of Chilean financial institutions 25,021 25,488 469 (2)   - - - -   25,021 25,488 469 (2)
Chilean financial institution bonds - - - -   - - - -   - - - -
Chilean corporate bonds - - - -   - - - -   - - - -
Other Chilean securities - - - -   - - - -   - - - -
Subtotal 917,977 918,488 577 (66)   - - - -   917,977 918,488 577 (66)
                             
Foreign financial securities                            
Foreign central banks and government securities 387,077 387,146 69 -   - - - -   387,077 387,146 69 -
Other foreign financial securities 340,010 339,798 655 (867)   - - - -   340,010 339,798 655 (867)
Subtotal 727,087 726,944 724 (867)   - - - -   727,087 726,944 724 (867)
                             
Total 3,381,531 3,388,906 8,330 (955)   - - - -   3,381,531 3,388,906 8,330 (955)

 

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NOTE 10

AVAILABLE FOR SALE INVESTMENTS, continued

 

As of December 31, 2015:

 

  Less than 12 months   More than 12 months   Total
  Acquisition cost Fair value

Unrealized

profit

Unrealized loss   Acquisition cost Fair value

Unrealized

profit

Unrealized loss   Acquisition cost Fair value

Unrealized

profit

Unrealized loss
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
                             
Chilean central bank and government securities                            
Chilean central bank Bonds 692,559 687,292 280 (5,547)   - - - -   692,559 687,292 280 (5,547)
Chilean central bank notes - - - -   - - - -   - - - -
Other Chilean central bank and government securities 145,778 145,603 541 (716)   - - - -   145,778 145,603 541 (716)
Subtotal 838,337 832,895 821 (6,263)   - - - -   838,337 832,895 821 (6,263)
                             
Other Chilean securities                            
Time deposits in Chilean financial institutions 713,172 712,859 44 (357)   - - - -   713,172 712,859 44 (357)
Mortgage finance bonds of Chilean financial institutions 28,726 29,025 325 (26)   - - - -   28,726 29,025 325 (26)
Chilean financial institution bonds - - - -   - - - -   - - - -
Chilean corporate bonds - - - -   - - - -   - - - -
Other Chilean securities - - - -   - - - -   - - - -
Subtotals 741,898 741,884 369 (383)   - - - -   741,898 741,884 369 (383)
                             
Foreign financial securities                            
Foreign central banks and government securities - - - -   - - - -   - - - -
Other foreign financial securities 471,269 469,632 1,577 (3,214)   - - - -   471,269 469,632 1,577 (3,214)
Subtotal 471,269 469,632 1,577 (3,214)   - - - -   471,269 469,632 1,577 (3,214)
                             
Total 2,051,504 2,044,411 2,767 (9,860)   - - - -   2,051,504 2,044,411 2,767 (9,860)

 

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NOTE 11

INVESTMENTS IN ASSOCIATES AND OTHER COMPANIES

 

a)Investments in associates and other, are shown in the following table:

 

          Investment
 

Ownership interest

As of December 31

Investment value

As of December 31,

 

Profit and loss

As of December 31,

 

2016

MCh$ 

2015

MCh$

2014

MCh$ 

2016

MCh$

2015 

MCh$

 

2016

MCh$

2015

MCh$ 

2014

MCh$

Company                    
Redbanc S.A. 33.43 33.43 33.43            2,184 1,876   373          215          211
Transbank S.A. (1) 25.00 25.00 25.00          12,510        10,201          1,302 1,256 1,022
Centro de Compensación Automatizado 33.33 33.33 33.33   1,353         1,105             248 212 220
Sociedad Interbancaria de Depósito de Valores S.A. 29.29 29.29 29.29              938             794             195 213 170
Cámara de Compensación de Alto Valor S.A. (2 & 3) 14.93 14.23 14.14               866             768               98          127          107
Administrador Financiero del Transantiago S.A. 20.00 20.00 20.00   2,781 2,552             230          323          282
Sociedad Nexus S.A. 12.90 12.90 12.90   1,469 1,290             247         225         195
Servicios de Infraestructura de Mercado OTC S.A. (4) 12,07 11.11 11.11   1,378         1,138   132 (115) (172)
Subtotal         23,479 19,724   2,825       2,456       2,035
Shares or rights in other companies (*)                    
Bladex         136  136   26  25  20
Stock Exchanges                     157  417   161  107  110
Others         8  32   - - -
Total         23,780 20,309   3,012 2,588 2,165
                         

(*) Investments in associates and other companies do not have market prices.

 

(1)A capital increase was agreed in the Transbank’s Extraordinary Shareholders’ Meeting held in April 2016. Banco Santander participated in proportion to its ownership share (25%).

 

(2)In October 2015, HSBC Bank Chile sold its participation in Sociedad Operadora de la Cámara de Compensación de Pagos de Alto Valor S.A to Banco Santander. This transaction increased the Bank’s participation to 14.23%. See Note 1.

 

(3)During the third quarter of 2016, a transaction took place through which Banco Penta ceded to Banco Santander a portion of its interest in the companies "Sociedad Operadora de la Cámara de Compensación de pagos de Alto Valor SA" and "Servicios de Market Infrastructure OTC SA "with which the Bank's participation has increased to 14.84% and 11.93% respectively.

 

(4)During the last quarter of 2016 a transaction was carried out through which Banco Penta ceded to Banco Santander a portion of its interest in the companies "Sociedad Operadora de la Cámara de Compensación de pagos de Alto Valor SA" and "Servicios de Market Infrastructure OTC SA "with which the Bank's share has increased to 14.93% and 12.07% respectively.

 

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NOTE 11

INVESTMENTS IN ASSOCIATES AND OTHER COMPANIES, continued

 

b)          Summary of financial information of associates as of and for the years ended December 31, 2016, 2015 and 2014.

 

As of December 31,  
  2016   2015   2014
        Net income         Net income         Net income
Assets Liabilities Equity Assets Liabilities Equity   Assets Liabilities Equity
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
                             
Centro de Compensación Automatizado 5,508 1,523 3,241 744   5,148 1,897 2,616 635   3,731 1,117 1,953 661
Redbanc S.A. 19,927 13,505 5,307 1,115   20,296 14,877 4,777 642   19,215 14,246 4,336 633
Transbank S.A. 710,475 660,957 44,309 5,209   601,627 561,325 35,278 5,024   535,507 501,330 30,088 4,089
Sociedad Interbancaria de Depósito de Valores S.A. 3,204 103 2,435 666   2,714 58 2,093 563   2,715 314 1,863 538
Sociedad Nexus S.A. 30,038 19,229 8,898 1,911   23,153 13,682 7,730 1,741   14,438 6,185 6,745 1,508
Servicios de Infraestructura de Mercado OTC S.A. 29,258 18,258 9,906 1,094   17,631 7,800 10,869 (1,038)   12,001 1,094 12,603 (1,696)
Administrador Financiero del Transantiago S.A. 54,253  40,345  12,758  1,150    42,518  29,760  11,145  1,613    70,302 59,157 9,737 1,408
Cámara de Compensación de Alto Valor S.A. 6,099 627 4,815 657   5,730 775 4,066 889   5,278 636 3,901 741
Total 858,762 754,547 91,669 12,546   718,817 630,174 78,574 10,069   663,187 584,079 71,226 7,882

 

c) Restrictions over the ability of associated companies to transfer funds to investors.

 

There are no significant restrictions regarding the capacity of associates to transfer funds, whether in cash dividends, refund of loans, or advance payments to the Bank.

 

d) Activity with respect to investments in other companies during 2016, 2015 and 2014 is as follows:

 

  As of December 31,
  2016 2015   2014
  MCh$ MCh$   MCh$
         
Opening balance as of January 1, 20,309 17,914   9,681
Acquisition of investments (*) 1,123 302   6,313
Sale of investments - -   -
Participation in income 3,012 2,588   2,165
Dividends received (217) (278)   (119)
Other equity adjustments (447) (217)   (126)
         
Total 23,780 20,309   17,914

 

(*)See reference (1) of part a) of this note.

 

F-75 

Table of Contents 

 

NOTE 12

INTANGIBLE ASSETS

 

a)    As of December 31, 2016 and 2015, the composition of intangible assets is as follows:

 

        As of December 31, 2016
 

Years of

useful

life

Average remaining useful life

Net opening balance as of

January 1, 2016

Gross balance Accumulated amortization Net balance
      MCh$ MCh$ MCh$ MCh$
             
Licenses 3 2 2,060 10,932 (9,276) 1,656
Software development 3 2 49,077 286,781 (230,352) 56,429
             
Total     51,137 297,713 (239,628) 58,085

 

 

        As of December 31, 2015
 

Years of

useful

life

Average remaining useful life

Net opening balance as of

January 1, 2015

Gross balance Accumulated amortization Net balance
      MCh$ MCh$ MCh$ MCh$
             
Licenses 3 2 2,006 10,932 (8,872) 2,060
Software development 3 2 38,977 259,500 (210,423) 49,077
             
Total     40,983 270,432 (219,295) 51,137

 

b)The changes in the value of intangible assets during the periods ended December 31, 2016 and December 31, 2015 is as follows:

 

b.1) Gross balance

 

Gross balances Licenses Software development Total
  MCh$ MCh$ MCh$
       
Balances as of January 1, 2016 10,932 259,500 270,432
Acquisitions - 27,281 27,281
Disposals and impairment - - -
Other - - -
Balances as of December 31, 2016 10,932 286,781 297,713
       
Balances as of January 1, 2015 10,441 232,418 242,859
Acquisitions 491 27,082 27,573
Disposals and impairment - - -
Other - - -
Balances as of December 31, 2015 10,932 259,500 270,432

 

F-76 

Table of Contents 

 

NOTE 12

INTANGIBLE ASSETS, continued

 

b.2) Accumulated amortization

 


Accumulated amortization
Licenses Software development Total
  MCh$ MCh$ MCh$
       
Balances as of January 1, 2016 (8,872) (210,423) (219,295)
Year’s amortization (404) (19,929) (20,333)
Other changes - - -
Balances as of December 31, 2016 (9,276) (230,352) (239,628)
       
Balances as of January 1, 2015 (8,435) (193,441) (201,876)
Year’s amortization (437) (16,982) (17,419)
Other changes - - -
Balances as of December 31, 2015 (8,872) (210,423) (219,295)

 

c)The Bank has no restriction on intangible assets as of December 31, 2016 and 2015. Additionally, the intangibles assets have not been pledged as guarantee for fulfillment of financial liabilities. Also, the Bank has no debt related to Intangible assets as of those dates.

 

F-77 

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NOTE 13

PROPERTY, PLANT, AND EQUIPMENT

 

a)   As of December 31, 2016 and 2015, the composition of property, plant, and equipment balances are composed as follows:

 

    As of December 31, 2016
 

Net opening balance as of

January 1, 2016

Gross

balance

Accumulated depreciation

Net

balance

  MCh$ MCh$ MCh$ MCh$
         
Land and buildings 158,434 264,016 (94,207) 169,809
Equipment 59,908 168,124 (101,618) 66,506
Ceded under operating leases 4,238 4,888 (658) 4,230
Other 18,079 55,973 (39,139) 16,834
Total 240,659 493,001 (235,622) 257,379

 

 

    As of December 31, 2015
 

Net opening balance as of

January 1, 2015

Gross

balance

Accumulated depreciation

Net

balance

  MCh$ MCh$ MCh$ MCh$
         
Land and buildings 142,596 237,449 (79,015) 158,434
Equipment 49,100 137,621 (77,713) 59,908
Ceded under operating leases 4,250 4,888 (650) 4,238
Other 15,615 51,482 (33,403) 18,079
Total

211,561

431,440 (190,781) 240,659

 

 

b)The changes in the value of property, plant, and equipment as of December 31, 2016 and 2015 is as follows:

 

b.1) Gross balance

 

2016 Land and buildings Equipment Ceded under operating leases Other Total
  MCh$ MCh$ MCh$ MCh$ MCh$
           
Balances as of January 1, 2016 237,449 137,621 4,888 51,482 431,440
Additions 26,567 30,965 - 4,823 62,355
Disposals - (228) - (332) (560)
Impairment due to damage - (234) - - (234)
Other - - - - -
Balances as of December 31, 2016 264,016 168,124 4,888 55,973 493,001

F-78 

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NOTE 13

PROPERTY, PLANT, AND EQUIPMENT, continued

 

2015 Land and buildings Equipment Ceded under operating leases Other Total
  MCh$ MCh$ MCh$ MCh$ MCh$
           
Balances as of January 1, 2015 209,668 108,416 4,888 43,499 366,471
Additions 27,781 29,282 - 8,048 65,111
Disposals - (56) - (65) (121)
Impairment due to damage - (21) - - (21)
Other - - - - -
Balances as of December 31, 2015 237,449 137,621 4,888 51,482 431,440

 

b.2) Accumulated depreciation

 

2016 Land and buildings Equipment Ceded under operating leases Other Total
  MCh$ MCh$ MCh$ MCh$ MCh$
           
Balances as of January 1, 2016 (79,015) (77,713) (650) (33,403) (190,781)
Depreciation charges in the period (15,192) (23,976) (8) (5,849) (45,025)
Sales and disposals in the period - 71 - 113 184
Transfers - - - - -
Other - - - - -
Balances as of December 31, 2016 (94,207) (101,618) (658) (39,139) (235,622)

 

2015 Land and buildings Equipment Ceded under operating leases Other Total
  MCh$ MCh$ MCh$ MCh$ MCh$
           
Balances as of January 1, 2015 (67,073) (59,316) (638) (27,883) (154,910)
Depreciation charges in the period (11,966) (18,417) (12) (5,800) (36,195)
Sales and disposals in the period 24 20 - 280 324
Transfers - - - - -
Other - - - - -
Balances as of December 31, 2015 (79,015) (77,713) (650) (33,403) (190,781)

 

F-79 

Table of Contents 

 

NOTE 13

PROPERTY, PLANT, AND EQUIPMENT, continued

 

c)  Operational leases – lessor

 

As of December 31, 2016 and 2015, the future minimum lease cash inflows under non-cancellable operating leases are as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Due within 1 year               506   465
Due after 1 year but within 2 years 1,029   1,057
Due after 2 years but within 3 years 502   465
Due after 3 years but within 4 years 473   462
Due after 4 years but within 5 years 344   440
Due after 5 years 2,067   2,322
       
Total 4,921   5,211

 

 

d)Operational leases – lessee

 

Certain Bank’s premises and equipment are leased under various operating leases. Future minimum rental payments under non-cancellable leases are as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Due within 1 year 26,455   22,303
Due after 1 year but within 2 years 24,903   20,862
Due after 2 year but within 3 years 20,582   19,499
Due after 3 years but within 4 years 17,321   17,215
Due after 4 years but within 5 years 14,569   14,154
Due after 5 years 53,694   55,561
       
Total 157,524   149,594

 

e)As of December 31, 2016 and 2015, the Bank has no financial leases which cannot be unilaterally rescinded.

 

f)The Bank has no restriction on property, plant and equipment as of December 31, 2016 and 2015. Additionally, the property, plant and equipment have not been provided as guarantees of financial liabilities. The Bank has no debt in connection with property, plant and equipment.

 

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NOTE 14 

CURRENT AND DEFERRED TAXES

 

a)   Current taxes

 

As of December 31, 2016 and 2015, the Bank recognizes taxes payable (recoverable), which is determined based on the currently applicable tax legislation. This amount is recorded net of recoverable taxes, and is shown as follows:

 

  As of December 31,  
  2016   2015
  MCh$   MCh$
       
Summary of current tax liabilities (assets)      
Current tax (assets) -   -
Current tax liabilities 29,294   17,796
       
Total tax payable (recoverable) 29,294   17,796
       
(Assets) liabilities current taxes detail (net)      
Income tax, tax rate(*) 145,963   121,775
Minus:      
Provisional monthly payments (113,700)   (96,319)
Credit for training expenses   (1,972)   (1,851)
Land taxes leasing -   (3,853)
Grant credits (1,079)   (1,326)
Other 82   (630)
       
Total tax payable (recoverable) 29,294   17,796
         

(*)The tax rate is 24.0% for 2016 and 22.5% for 2015.

 

b)   Effect on income

 

The effect of tax expense on income for the years ended December 31, 2016 and 2015 is comprised of the following items:

 

    As of December 31,
    2016   2015 2014
    MCh$   MCh$ MCh$
           
Income tax expense          
Current tax   145,963   121,775 122,150
           
Credits (debits) for deferred taxes          
Origination and reversal of temporary differences   (37,269)   (45,672) (72,244)
Subtotals   108,694   76,103 49,906
Tax for rejected expenses (Article No.21)   336   340 746
Other   1   (48) 398
Net charges for income tax expense   109,031   76,395 51,050

 

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NOTE 14

CURRENT AND DEFERRED TAXES, continued:

 

c)   Effective tax rate reconciliation

 

The reconciliation between the income tax rate and the effective rate applied in determining tax expenses as of December 31, 2016, 2015 and 2014, is as follows:

 

    For the year ended December 31,
  2016   2015   2014
 

Tax

rate

  Amount  

Tax

rate

  Amount   Tax      
    rate   Amount  
  %   MCh$   %   MCh$   %   MCh$  
                         
Tax calculated over profit before tax 24.00   140,991   22.50   118,828   21.00   131,657  
Price level restatement for tax purposes (5.49)   (32,256)   (5.42)   (28,630)   (6.18)   (38,724)  
Single penalty tax (rejected expenses) 0.06   336   0.06   340   0.12   746  
Effect of tax reform changes on deferred tax 0.01   86   (2.01)   (10,600)   (6.26)   (39,262)  
Real estate taxes 0.00   -   (0.73)   (3,853)   (0.54)   (3,357)  
Other (0.02)   (126)   0.06   310   -   (10)  
Effective rates and expenses for income tax 18.56   109,031   14.46   76,395   8.14   51,050  

 

d)   Effect of deferred taxes on comprehensive income

 

Below is a summary of the separate effect of deferred tax on other comprehensive income, showing the asset and liability balances, for the years ended December 31, 2016 and 2015:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Deferred tax assets      
  Available for sale investments 3,266   1,751
  Cash flow hedges -   (155)
Total deferred tax assets recognized through other comprehensive income 3,266   1,596
       
Deferred tax liabilities      
  Available for sale investments (5,036)   (155)
  Cash flow hedges (549)   (1,785)
Total deferred tax liabilities recognized through other comprehensive income (5,585)   (1,940)
       
Net deferred tax balances in equity (2,319)   (344)
       
Deferred taxes in equity attributable to equity holders of the Bank (2,097)   (373)
Deferred tax in equity attributable to non-controlling interests (222)   29

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NOTE 14

CURRENT AND DEFERRED TAXES, continued

 

e)       Effect of deferred taxes on income

 

As of December 31, 2016 and 2015, the Bank has recorded effects for deferred taxes in the financial statements.

 

Below are the effects of deferred taxes on assets, liabilities and income:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
Deferred tax assets      
Interests and adjustments 9,473   10,962
Non-recurring charge-offs 9,891   7,839
Assets received in lieu of payment 2,999   1,686
Property, plant and equipment 4,570   5,408
Allowance for loan losses 163,456   139,777
Provision for expenses 67,073   47,218
Derivatives -   7,481
Leased assets 71,834   69,244
Subsidiaries tax losses 9,467   7,705
Valuation of investments -   9,800
Other 17,571   11,811
Total deferred tax assets

356,334 

 

318,931

       
Deferred tax liabilities      
Valuation of investments (1,802)   -
Depreciation -   (355)
Other (299)   (1,611)
Total deferred tax liabilities (2,101)   (1,966)

 

f)       Summary of deferred tax assets and liabilities

 

Below is a summary of the deferred taxes impact on equity and income.

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Deferred tax assets      
Recognized through other comprehensive income 3,266   1,596
Recognized through profit or loss 356,334   318,931
Total deferred tax assets 359,600   320,527
       
Deferred tax liabilities      
Recognized through other comprehensive income (5,585)   (1,940)
Recognized through profit or loss (2.101)   (1.966)
Total deferred tax liabilities (7.686)   (3.906)

 

F-83 

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NOTE 15

OTHER ASSETS

 

Other assets item includes the following:

 

      As of December 31,
      2016   2015
      MCh$   MCh$
           
Assets for leasing (1)   44,840   35,519
           
Assets received or awarded in lieu of payment        
  Assets received in lieu of payment   26,598   15,892
  Assets awarded at judicial sale   26,895   14,938
  Provision on assets received in lieu of payment or awarded   (7,558)   (5,873)
  Subtotal   45,935   24,957
           
Other assets        
  Guarantee deposits (margin accounts) (2)   396,289   649,325
  Gold investments   446   443
  VAT credit   8,941   9,468
  Income tax recoverable   22,244   35,925
  Prepaid expenses   148,288                192,894
  Assets recovered from leasing for sale   6,040   2,214
  Pension plan assets   1,637   1,875
  Accounts and notes receivable   56,624   36,566

Notes receivable through brokerage and simultaneous transactions 

  60,632   52,798
  Other receivable assets   15,082   11,379
  Other assets (3)   40,274   46,811
  Subtotal   756,497   1,039,698
           
  Total   847,272     1,100,174
             
(1)Assets available to be granted under the financial leasing agreements.

(2)Guarantee deposits (margin accounts) correspond to collaterals associated with derivative financial contracts to mitigate the counterparty credit risk and are mainly established in cash. These guarantees operate when mark to market of derivative financial instruments exceed the levels of threshold agreed in the contracts, which could result the Bank deliver or receive collateral.

(3)Other assets mainly include settlement of derivatives and other financial transactions.

 

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NOTE 16

TIME DEPOSITS AND OTHER TIME LIABILITIES

 

As of December 31, 2016 and 2015, the composition of the line item time deposits and other liabilities is as follows:

 

    As of December 31,
    2016   2015
    MCh$   MCh$
         
Deposits and other demand liabilities        
Checking accounts   6,144,688   5,875,992
Other deposits and demand accounts   564,966   577,077
Other demand liabilities   829,661   903,052
         
Total   7,539,315                     7,356,121
         
Time deposits and other time liabilities        
Time deposits   13,031,319   12,065,697
Time savings account   116,451   113,562
Other time liabilities   3,939   3,508
         
Total   13,151,709   12,182,767

 

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Table of Contents 

 

NOTE 17 

INTERBANK BORROWINGS

 

As of December 31, 2016 and 2015 the line item Interbank borrowings is as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
Loans from financial institutions and the Central Bank of Chile      
Other obligations with Central Bank of Chile 7   4
Subtotal 7   4
Loans from domestic financial institutions 365,436   -
Loans from foreign financial institutions      
Mizuho Corporate Bank 411,753   260,042
Sumitomo Mitsui Banking Corporation 233,060   169,906
Bank of America 213,200   70,890
Citibank N.A. - New York 183,193   272,572
Wells Fargo Bank N.A. – New York 113,631   106,328
Standard Chartered Bank - New York 99,943   141,738
The Bank of New York Mellon 82,594   52,393
The Bank of Nova Scotia 39,967   60,206
Barclays Bank PLC London 33,279   35,391
HSBC Bank Plc Ny 33,214   -
NTT Docomo Inc. 33,149   35,133
Zurcher Kantonal Bank 20,021   21,257
European Investment Bank 13,980   14,808
Banco Santander – Hong Kong 6,165   5,106
Banque Bruxelles Lambert S.A. 5,797   -
Banque Cantonale Vaudoise 5,714   -
Banco Santander – Brasil S.A. 5,175   7,619
Standard Chartered Bank 1,931   1,464
China Construcción Bank 1,044   585
Hong Kong and Shanghai Banking 889   -
Bank of Tokio Mitsubishi 430   474
Thai Military Bank Public Comp 425   -
Bank of Communications 393   -
Shinhan Bank 354   200
Denizbank A.S. 347   -
Agricultural Bank of China 327   -
Banco Santander – Madrid 322   112
Kookmin Bank 317   -
Bank of China 311   1,174
Banca Monte dei Paschi di Siena 309   123
Unicrédito Italiano - New York 302   863
Keb Hana Bank 301   -
State Bank of India 289   -
Taipei Bank 260   214
ING Bank N.V. - Vienna 228   303
First Union National Bank 226   290
Westpac Banking Corporation 226   -
BNP Paribas S.A. 218   435
Shanghai Pudong Development 205   167
Bank of Montreal 201   -
Bank of Taiwan 183   28
Citibank N.A. Turkiye Merkez S. 158   -
Woori Bank 153   75
Banque Generale Du Luxembourg 138   -
Cassa Di Risparmio Di Parma E 132   -
Oriental Bank Of Commerce 132   -
Kotak Mahindra Bank Limited 129   -
Banco Do Brasil S.A.           120   -
Banco Bradesco S.A. 113   177
Habib Bank Limited             105   37
Caixabank S.A.                 93   -
Canara Bank                    91   -
Hua Nan Commercial Bank Ltd. 83   130
Development Bank Of Singapore 80   -
Casa Di Risparmo De Padova E.R. 76   85
Hanvit Bank 76   61
HSBC France (formerly Hsbc Ccf) 74   -
Yapi Ve Kredi Bankasi A.S.     73   -
Banco General S A              62   -
Banco De Crédito Del Perú 58   67
Banco Popular Espanol S.A.    56   59
Bank Of East Asia, Limited, The 54   -

 

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NOTE 17

INTERBANK BORROWINGS, continued

 

  As of December 31
  2016   2015
  MCh$   MCh$
Loans from foreign financial institutions      
J.P. Morgan Chase Bank N.A. - New York 49   80
Banco Commerzbank              47   -
Hsbc Bank Canada               47   -
Finans Bank A.S. 46   101
Bangkok Bank Public Company Li 42   -
United Bank Of India           39   -
Banco Bolivariano C.A.         38   -
Banco Bilbao Vizcaya Argentaria 34   144
Hsbc Bank Brasil S.A.  - Banco 34   -
Banca Delle Marche Spa         31   -
Banca Popolare Di Vicenza Scpa 31   68
Bancolombia S.A.               31   -
Bayerische Hypo- Und Vereinsba 27   -
Banca Popolare Dell'Emilia Rom 26   -
Metropolitan Bank Limited      26   -
Banco Itau 25   -
Icici Bank Limited             25   -
China Merchants Bank           22   -
Australia And New Zealand Bank 21   -
Banca Lombarda E Piemontese S. 21   -
Hsbc Bank Middle East          21   -
Cassa Di Risparmio In Bologna 20   -
Export-Import Bank Of Thailand 20   -
Chang Hwa Commercial Bank Ltd. 17   28
Fifth Third Bank 15   123
Bank Of China Guangdong Branch 14   -
Hdfc Bank Limited              13   -
Fortis Bank S.A./N.V. Brussels 12   -
Union Bank Of India            10   -
Intesa Sanpaolo Spa            7   -
Deutsche Bank Sociedad Anonima 6   -
Banco Popolare Soc Coop        5   -
Industrial Bank Of Korea       5   -
Banca Commerciale Italiana S.P. -   280
Banca Nazionale Del Lavoro S.P. -   30
Banco De Occidente -   162
Banco De Sabadell S.A. -   147
Banco Del Pichincha -   124
Banco Do Brasil S.A. – London -   496
Banco Espirito Santo S.A. -   142
Banco Interamericano De Finanzas -   21
Banco Itau - Paraguay S.A.       -   135
Banco Surinvest S.A. -   96
Bank Mandiri (Persero) -   60
BBVA Banco Francés S.A. -   21
Caixa D'Estalvis i Pensions -   243
China Guangfa Bank Co. Ltd. -   103
Citibank El Cairo -   57
Citic Industrial Bank -   71
Commerzbank A.G. - Frankfurt -   175
Corporación Andina De Fomento -   14,162
Danske Bank -   113
Deutsche Bank A.G.- New York -   573
Hang Seng Bank Ltd. -   26
Kasikorn Bank Public Co. Ltd. -   79
Kfw Ipex Bank Gmbh -   -
Korea Exchange Bank -   83
Nordea Bank Danmark -   34
Punjab National Bank -   26
State Bank Of India -   25
Taiwan Business Bank -   64
The Toronto Dominion Bank – Toronto -   21
Turk Ekonomi Bank A.S. -   29
U.S. Bank -   37
Wachovia Bank N.A.- Miami -   26,668
Otros 4,169   2,211
       
Subtotal 1,550,925   1,307,570
Total 1,916,368   1,307,574
             

 

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NOTE 17

INTERBANK BORROWINGS, continued

 

a)Obligations with Central Bank of Chile

 

Debts to the Central Bank of Chile include credit lines for renegotiation of loans and other borrowings. These credit lines were provided by the Central Bank of Chile for renegotiation of loans due to the need to refinance debt as a result of the economic recession and crisis of the banking system in the early 1980s.

 

The outstanding amounts owed to the Central Bank of Chile under these credit lines are as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Totals Line of credit for renegotiation with Central Bank of Chile 7   4
       

 

b)Loans from domestic financial institutions

 

These obligations’ maturities are as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Due within 1 year 365,436   -
Due within 1 and 2 year -   -
Due within 2 and 3 year -   -
Due within 3 and 4 year -   -
Due after 5 years -   -
       
Total loans from domestic financial institutions 365.436   .

 

c)Foreign obligations

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Due within 1 year 525,521   868,593
Due within 1 and 2 year 725,315   352,345
Due within 2 and 3 year 186,352   35,390
Due within 3 and 4 year 80,473   35,133
Due after 5 years 33,264   16,109
       
Total loans from foreign financial institutions 1,550,925   1,307,570

 

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NOTE 18

ISSUED DEBT INSTRUMENTS AND OTHER FINANCIAL LIABILITIES

 

As of December 31, 2016 and 2015, composition of this item is as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Other financial liabilities      
Obligations to public sector 61,490   63,921
Other domestic obligations 175,028   152,247
Foreign obligations 3,498   4,359
Subtotals 240,016   220,527
Issued debt instruments      
Mortgage finance bonds 46,251   62,858
Senior bonds 6,416,274   5,041,636
Mortgage bond 104,182   107,582
Subordinated bonds 759,665   745,019
Subtotals 7,326,372   5,957,095
       
Total 7,566,388   6,177,622

 

Debts classified as current are either demand obligations or will mature in one year or less. All other debts are classified as non-current. The Bank’s debts, both current and non-current, are summarized below:

 

  As of December 31, 2016
  Current   Non-current Total
  MCh$   MCh$ MCh$
         
Mortgage finance bonds 11,236   35,015 46,251
Senior bonds 1,135,713   5,280,561 6,416,274
Mortgage bond 4,318   99,864 104,182
Subordinated bonds 4   759,661 759,665
Issued debt instruments              1,151,271   6,175,101 7,326,372
         
Other financial liabilities 158,488   81,528 240,016
         
Total 1,309,759   6,256,629 7,566,388

F-89 

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NOTE 18

ISSUED DEBT INSTRUMENTS AND OTHER FINANCIAL LIABILITIES, continued

 

  As of December 31, 2015
  Current   Non-current Total
  MCh$   MCh$ MCh$
         
Mortgage finance bonds 5,544   57,314 62,858
Senior bonds 796,012   4,245,624 5,041,636
Mortgage bond 4,063   103,519 107,582
Subordinated bonds 6,583   738,436 745,019
Issued debt instruments 812,202   5,144,893 5,957,095
         
Other financial liabilities 136,172   84,355 220,527
         
Total 948,374   5,229,248 6,177,622

 

a)Mortgage finance bonds

 

These bonds are used to finance mortgage loans. Their principal amounts are amortized on a quarterly basis. The range of maturities of these bonds is between five and twenty years. Loans are indexed to UF and create a yearly interest yield of 5.53% as of December 31, 2016 (5.95% as of December 31, 2015).

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Due within 1 year 11,236   5,544
Due after 1 year but within 2 years 8,673   6,237
Due after 2 year but within 3 years 6,928   8,000
Due after 3 year but within 4 years 6,246   5,211
Due after 4 year but within 5 years 5,278   5,005
Due after 5 years 7,890   32,861
Total mortgage bonds 46,251   62,858

 

b)Senior bonds

 

The following table shows senior bonds by currency:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Santander bonds in UF 3,588,373   2,179,643
Santander bonds in USD 909,354   1,625,150
Santander bonds in CHF 568,549   535,448
Santander bonds in Ch$ 1,037,515   475,075
Santander bonds in AUD 60,890   62,066
Current bonds in  JPY 179,426   164,254
Santander bonds in EUR 72,167   -
Total senior bonds 6,416,274   5,041,636

 

F-90 

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NOTE 18

ISSUED DEBT INSTRUMENTS AND OTHER FINANCIAL LIABILITIES, continued

 

i.Placement of senior bonds:

 

In 2016, the Bank issued bonds for UF 62,000,000; CLP 590,000,000,000; JPY 3,000,000,000; USD 215,000,000; EUR 104,000,000; and CHF 125,000,000 detailed as follows:

 

Series Currency Amount Term Issuance rate Series approval date Series maximum amount Maturity date
R1 UF 15,000,000 5.5 2.50% 09-01-2015 15,000,000 03-01-2021
R2 UF 10,000,000 7.5 2.60% 09-01-2015 10,000,000 03-01-2023
R3 UF 10,000,000 10.5 3.00% 09-01-2015 10,000,000 03-01-2026
R5 UF 7,000,000 7.0 2.55% 09-01-2015 7,000,000 12-01-2022
R6 UF 7,000,000 9.0 2.65% 12-01-2015 7,000,000 12-01-2024
P9 UF 3,000,000 10.5 2.60% 03-01-2015 5,000,000 09-01-2025
T2 UF 5,000,000 4.5 2.25% 02-01-2016 5,000,000 08-01-2020
T5 UF 5,000,000 6.0 2.40% 02-01-2016 5,000,000 02-01-2022
Total UF 62,000,000          
R4 CLP 100,000,000,000 5.5 5.50% 09-01-2015 100,000,000,000 03-01-2021
P4 CLP 50,000,000,000 5.0 4.80% 03-01-2015 150,000,000,000 03-01-2020
SD CLP 140,000,000,000 5.0 5.50% 06-01-2014 200,000,000,000 06-01-2019
SC CLP 200,000,000,000 10.0 5.95% 06-01-2014 200,000,000,000 06-01-2024
P3 CLP 50,000,000,000 7.0 5.50% 01-01-2015 50,000,000,000 01-01-2022
P1 CLP 50,000,000,000 10.0 5.80% 01-01-2015 50,000,000,000 01-01-2025
Total CLP 590,000,000,000          
JPY JPY 3,000,000,000 5.0 0.115% 06-22-2016 3,000,000,000 06-29-2021
Total JPY 3,000,000,000          
DN USD 10,000,000 5.0

Libor-USD

3M+1.05%

06-02-2016 10,000,000 06-09-2021
DN USD 10,000,000 5.0

Libor-USD

3M+1.22%

06-08-2016 10,000,000 06-17-2021
DN USD 10,000,000 5.0

Libor-USD

3M+1.20%

08-01-2016 10,000,000 08-16-2021
DN USD 185,000,000 5.0

Libor-USD

3M+1.20%

11-10-2016 185,000,000 11-28-2021
Total USD 215,000,000          
EUR EUR 54,000,000 12.0 1.307% 08-05-2016 54,000,000 08-17-2028
EUR EUR 20,000,000 8.0 0.80% 08-04-2016 20,000,000 08-19-2024
EUR EUR 30,000,000 3.0 0.25% 12-09-2016 30,000,000 12-20-2019
Total EUR 104,000,000          
CHF CHF   125,000,000 8.5  0.35% 11-14-2016  125,000,000 05-30-2025
Total CHF 125,000,000          

 

F-91 

Table of Contents 

 

NOTE 18

ISSUED DEBT INSTRUMENTS AND OTHER FINANCIAL LIABILITIES, continued

 

During 2016, the Bank performed a partial repurchase of the following bond:

 

  Date   Type Amount
         
  01-13-2016    Senior USD         600,000
  01-27-2016    Senior USD         960,000
  03-08-2016    Senior USD   418,853,000
  03-08-2016    Senior USD   140,104,000
  05-10-2016    Senior USD     10,000,000
  11-29-2016    Senior USD       6,895,000

 

In 2015, the Bank issued bonds for UF 22,000,000; CLP 200,000,000,000; CHF 150,000,000; and JPY 1,200,000,000 detailed as follows:

 

Series Currency Amount Term Issuance rate Series approval date Series maximum amount Maturity date
SG Series UF 3,000,000 12 years 3.30% per annum simple 11-01-2014 UF 3,000,000 11-01-2025
SF Series UF 3,000,000 5 years 3.00% per annum simple 11-01-2014 UF 3,000,000 04-01-2020
SB Series UF 2,000,000 5 years 2.65% per annum simple 07-01-2014 UF 2,000,000 07-01-2019
BSTDP6 Series UF 3,000,000 5 years 2.25% per annum simple 03-01-2015 UF 3,000,000 03-01-2020
BSTDP7 Series UF 3,000,000 8 years 2.40% per annum simple 03-01-2015 UF 3,000,000 09-01-2022
BSTDP8 Series UF 3,000,000 6 years 2.25% per annum simple 03-01-2015 UF 3,000,000 09-01-2020
BSTDP9 Series UF 2,000,000 6 years 2.60% per annum simple 03-01-2015 UF 5,000,000 09-01-2025
BSTDSA0714 Series UF 3,000,000 10 years 3.00% per annum simple 07-01-2014 UF 5,000,000 07-01-2024
UF Total UF 22,000,000          
BSTDP2 Series CLP 100,000,000,000 5 years 5.20% per annum simple 01-01-2015 CLP 100,000,000,000 03-01-2020
BSTDP4 Series CLP 100,000,000,000 5 years 4.80% per annum simple 03-01-2015 CLP 150,000,000,000 03-01-2020
CLP Total CLP 200,000,000,000          
CHF fixed rate bond CHF 150,000,000 7 years 0.38%  quarterly 05-19-2015 CHF 150,000,000 05-19-2022
CHF Total CHF 150,000,000          
JPY Current Bond JPY 1,200,000,000 5 years 0.42% biannually 12-17-2015 JPY 1,200,000,000 17-12-2020
JPY Total JPY 1,200,000,000          

 

During 2015, the Bank repurchased senior bonds for USD 19, 000,000.

 

ii.Nominal bonds to be placed:

 

Asof December 31, 2016, there are no outstanding amounts of bonds, not previously authorized, to be placed.

 

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NOTE 18

ISSUED DEBT INSTRUMENTS AND OTHER FINANCIAL LIABILITIES, continued

 

iii.The maturities of senior bonds are as follows:

 

  As of December 31,
  2016 2015
MCh$ MCh$
Due within 1 year 1,135,713   796,012
Due after 1 year but within 2 years 321,509   1,147,138
Due after 2 year but within 3 years 816,919   415,914
Due after 3 year but within 4 years 663,289   682,494
Due after 4 year but within 5 years 754,768   466,700
Due after 5 years 2,724,076   1,533,378
Total senior bonds 6,416,274   5,041,636

  

c)Mortgage bonds

 

Detail of mortgage bonds per currency is as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Mortgage bonds in UF 104,182   107,582
Total mortgage bonds 104,182   107,582

 

i.Allocation of mortgage bonds

 

During 2016 and 2015, the Bank has not placed any mortgage bonds.

 

ii.The maturities of Mortgage bond are as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Due within 1 year 4,318   4,063
Due after 1 year but within 2 years 6,932   6,522
Due after 2 year but within 3 years 7,156   6,733
Due after 3 year but within 4 years 7,386   6,951
Due after 4 year but within 5 years 7,626   7,175
Due after 5 years 70,764   76,138
Total Mortgage bonds 104,182   107,582

 

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NOTE 18

ISSUED DEBT INSTRUMENTS AND OTHER FINANCIAL LIABILITIES, continued

 

d)Subordinated bonds

 

Detail of the subordinated bonds per currency is as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Subordinated bonds denominated in CLP 4   6
Subordinated bonds denominated in UF 759,661   745,013
Total subordinated bonds 759,665   745,019

 

i.Allocation of subordinated bonds

 

During 2016 and 2015, the Bank has not placed any subordinated bonds. 

The maturities of subordinated bonds, are as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Due within 1 year      
Due after 1 year but within 2 years 4   6,583
Due after 2 year but within 3 years -   -
Due after 3 year but within 4 years -   -
Due after 4 year but within 5 years -   -
Due after 5 years 759,661   738,436
Total subordinated bonds 759,665   745,019

 

e)Other financial liabilities

 

The composition of other financial obligations, by maturity, is detailed below:

 

  As of December 31,
  2016   2015
MCh$   MCh$
       
Non-current portion:      
Due after 1 year but within 2 years 33,777   3,497
Due after 2 year but within 3 years 24,863   20,240
Due after 3 year but within 4 years 5,794   16,063
Due after 4 year but within 5 years 1,973   28,227
Due after 5 years 15,121   16,328
Non-current portion subtotal 81,528   84,355
       
Current portion:      
Amounts due to credit card operators 151,620   129,358
Acceptance of letters of credit 2,069   3,176
Other long-term financial obligations, short-term portion 4,799   3,638
Current portion subtotal 158,488   136,172
       
Total other financial liabilities                240,016   220,527

 

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NOTE 19

MATURITY OF FINANCIAL ASSETS AND LIABILITIES

 

As of December 31, 2016 and 2015, the detail of the maturities of assets and liabilities is as follows:

 

As of December 31, 2016 Demand

Up to

1 month

Between 1 and

3 months 

Between 3 and

12 months

Subtotal

up to 1 year 

Between 1 and

3 years

Between 3 and

5 years

More than

5 years

 

Subtotal

More than 1 year

Total
  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
                     
Financial assets                    
Cash and deposits in banks 2,279,389 - - - 2,279,389 - - - - 2,279,389
Cash items in process of collection 495,283 - - - 495,283 - - - - 495,283
Trading investments - 52,443 13,252 118,845 184,540 75,378 106,808 30,261 212,447 396,987
Investments under resale agreements - 6,736 - - 6,736 - - - - 6,736
Financial derivative contracts - 82,243 120,653 292,801 495,697 531,094 357,833 1,116,158 2,005,085 2,500,782
Interbank loans (*) - 12,859 135,756 124,143 272,758 44 - 5 49 272,807
Loans and accounts receivables from customers (**) 717,306 2,393,216 2,108,001 4,488,993 9,707,516 4,937,271 2,909,140 9,379,697 17,226,108 26,933,624
Available for sale investments - 1,581,682 250,222 314,842 2,146,746 37,974 379,976 824,210 1,242,160 3,388,906
Guarantee deposits (margin accounts) 396,289 - - - 396,289 - - - - 396,289
Total financial assets 3,888,267 4,129,179 2,627,884 5,339,624 15,984,954 5,581,761 3,753,757 11,350,331 20,685,849 36,670,803
                     
Financial liabilities                    
Deposits and other demand liabilities 7,539,315 - - - 7,539,315 - - - - 7,539,315
Cash items in process of being cleared 288,473 - - - 288,473 - - - - 288,473
Obligations under repurchase agreements - 212,437 - - 212,437 - - - - 212,437
Time deposits and other time liabilities 121,527 6,105,767 4,193,906 2,537,299 12,958,499 118,101 13,913 61,196 193,210 13,151,709
Financial derivative contracts - 92,335 122,565 263,893 478,793 494,539 346,948 971,881 1,813,368 2,292,161
Interbank borrowings 4,557 373,423 115,769 1,154,063 1,647,812 233,542 35,014 - 268,556 1,916,368
Issued debt instruments - 43,141 185,425 922,705 1,151,271 1,168,117 1,444,593 3,562,391 6,175,101 7,326,372
Other financial liabilities 153,049 1,461 1,161 2,817 158,488 58,641 7,766 15,121 81,528 240,016
Guarantees received (margin accounts) 480,926 - - - 480,926 - - - - 480,926
Total financial liabilities 8,587,847 6,828,564 4,618,826 4,880,777 24,916,014 2,072,940 1,848,234 4,610,589 8,531,763 33,447,777

 

(*)Interbank loans are presented on a gross basis. The amount of allowance is Ch$4,135 million.

(**)Loans and accounts receivables from customers are presented on a gross basis. Provisions amounts according to type of loan are detailed as follows: Commercial loans Ch$429,442 million, Mortgage loans Ch$57,009 million, and Consumer loans Ch$300,019 million.

 

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NOTE 19

MATURITY OF FINANCIAL ASSETS AND LIABILITIES, continued:

 

As of December 31, 2015 Demand

Up to

1 month

Between 1 and

3 months

Between 3 and 

12 months

Subtotal  

up to 1 year

Between 1 and

3 years

Between 3 and

5 years 

More than

5 years

Subtotal

More than 1 year

Total
  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
                     
Financial assets                    
Cash and deposits in banks 1,677,076 387,730 2,064,806 - - 2,064,806
Cash items in process of collection 724,521 -  724,521 - - 724,521
Trading investments 126,248 21,364 264 147,876 15,623 72,112 88,660 176,395 324,271
Investments under resale agreements 2,463 2,463 - - 2,463
Financial derivative contracts 158,843 213,335 407,854 780,032 798,557 393,309 1,234,028 2,425,894 3,205,926
Interbank loans (*) 9,371 1,506 10,877 - - 10,877
Loans and accounts receivables from customers (**) 664,164 2,401,995 2,178,424 4,027,990 9,272,573 4,746,876 2,751,926 8,518,505 16,017,307 25,289,880
Available for sale investments 480,801 72,217 243,241 796,259 48,651 469,004 730,497 1,248,152 2,044,411
Guarantee deposits (margin accounts) 649,325 649,325 - - 649,325
Total financial assets 3,724,457 3,558,080 2,486,846 4,679,349 14,448,732 5,609,707 3,686,351 10,571,690 19,867,748 34,316,480
                     
Financial liabilities                    
Deposits and other demand liabilities 7,356,121 7,356,121 - -  -  7,356,121
Cash items in process of being cleared 462,157 462,157 - - - 462,157
Obligations under repurchase agreements 143,689 143,689 - - 143,689
Time deposits and other time liabilities 114,341 5,707,940 3,210,947 2,853,761 11,886,989 231,272 7,661 56,845 295,778 12,182,767
Financial derivative contracts 126,643 190,409 380,158 697,210 679,133 337,598 1,148,665 2,165,396 2,862,606
Interbank borrowings 27,323 7,946 148,509 684,819 868,597 388,626 50,351 438,977 1,307,574
Issued debt instruments 1,953 440,500 155,821 213,928 812,202 1,590,546 1,173,536 2,380,811 5,144,893 5,957,095
Other financial liabilities 129,358 3,142 558 3,114 136,172 23,737 44,290 16,328 84,355 220,527
Guarantees received (margin accounts) 819,331 819,331 - - 819,331
Total financial liabilities 8,910,584 6,429,860 3,706,244 4,135,780 23,182,468 2,913,314 1,613,436 3,602,649 8,129,399 31,311,867

 

(*)Interbank loans are presented on a gross basis. The amount of allowance is Ch$1,166 million.

(**)Loans and accounts receivables from customers are presented on a gross basis. Provisions amounts according to type of loan are detailed as follows: Commercial loans Ch$431,201 million, Mortgage loans Ch$62,427 million, and Consumer loans Ch$267,507 million.

 

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NOTE 20

PROVISIONS

 

a)As of December 31, 2016 and 2015, the composition is as follows:

 

     As of December 31,
  2016   2015
  MCh$   MCh$
       
Provisions for personnel salaries and expenses 72,592   64,861
Provisions for mandatory dividends 142,815   134,539
Provisions for contingent loan risk 11,399   10,750
Provisions for contingencies associated with administrative claims and leasing contracts 65,404   64,848
Total 292,210   274,998

 

b)Below is the activity regarding provisions during the years ended December 31, 2016 and 2015.

 

 

Personnel salaries

and expenses

 Mandatory dividends Contingent loans  Contingencies Total
  MCh$ MCh$ MCh$ MCh$ MCh$
           
Balances as of January 1, 2016 64,861 134,539 10,750 64,848 274,998
Provisions established 80,298 142,815 9,789 85,492 318,394
Application of provisions (72,567) (134,539) - (135) (207,241)
Provisions released - - (9,140) (84,801) (93,941)
Reclassifications - - - - -
Other - - - - -
           
Balances as of December 31, 2016 72,592 142,815 11,399 65,404 292,210
           
Balances as of January 1, 2015 46,759 170,973 12,679 55,559 285,970
Provisions established 75,491 134,539 5,409 147,693 363,132
Application of provisions (56,878) (170,973) - (150,681) (378,532)
Provisions released - - (7,338) 12,277 4,939
Reclassifications - - - - -
Other (511) - - - (511)
           
Balances as of December 31, 2015 64,861 134,539 10,750 64,848 274,998

 

c)Provisions for personnel salaries and expenses:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Provision for seniority compensation 10,376   11,550
Provision for stock-based personnel benefits -   -
Provision for performance bonds 38,510   31,528
Provision for vacations 21,800   21,053
Provision for other personnel benefits 1,906   730
Total 72,592   64,861

 

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NOTE 21

OTHER LIABILITIES

 

The other liabilities line item is as follows:

 

    As of December 31,
    2016   2015
    MCh$   MCh$
         
Accounts and notes payable   154,159   129,547
Unearned income   509   514
Guarantees received (margin accounts) (1)   480,926   819,331
Notes payable through brokerage and simultaneous transactions   27,745   20,764
Other payable obligations (2)   80,100   40,828
Withheld VAT   1,964   1,656
Other liabilities (3)   50,382   33,229
         
Total   795,785   1,045,869

 

(1)Guarantee deposits (margin accounts) are collaterals associated to derivative financial contracts to mitigate the counterparty credit risk and are mainly established in cash. These guarantees operate when mark to market of derivative financial instruments exceed the levels of threshold agreed in the contracts, which could result the Bank deliver or receive collateral.

(2)Other payable obligations mainly relates to settlement of derivatives and other financial transactions derived from the operation of the Bank.

(3)Other liabilities: mainly include reimbursement of insurance commissions.

 

NOTE 22

CONTINGENCIES AND COMMITMENTS

 

a)Lawsuits and legal procedures

 

As of the issuance date of these financial statements, the Bank and its affiliates were subject to certain legal actions in the normal course of their business. As of December 31, 2016, the Banks and its subsidiaries have provisions for this item of Ch$1,194 million and Ch$48 million, respectively (Ch$1,803 million and Ch$118 million as of December 31, 2015) which is included in “Provisions” in the Consolidated Statement of Financial Position as provisions for contingencies.

 

b)Contingent loans

 

The following table shows the Bank’s contractual obligations to issue loans:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Letters of credit issued 158,800   179,042
Foreign letters of credit confirmed 57,686   70,434
Guarantees 1,752,610   1,684,847
Personal guarantees 125,050   163,955
Subtotal 2,094,146   2,098,278
Available on demand credit lines 7,548,820   6,806,745
Other irrevocable credit commitments 260,266   82,328
Total 9,903,232   8,987,351

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NOTE 22

CONTINGENCIES AND COMMITMENTS, continued

 

c)Held securities

 

The Bank holds securities in the normal course of its business as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
       
Third party operations      
Collections 163,303   162,619
Assets from third parties managed by the Bank and its affiliates   1,586,405   1,507,359
Subtotal 1,749,708   1,669,978
Custody of securities      
Securities held in custody 390,155   321,741
Securities held in custody deposited in other entity 687,610   561,612
Issued securities held in custody 18,768,572   18,246,386
Subtotal 19,846,337   19,129,739
Total 21,596,045   20,799,717

 

During 2016, the Bank classified the portfolios managed by private banking in “Assets from third parties managed by the Bank and its affiliates” (memo account). At the end of December 2016, the balance for this was Ch$1,586,370 million (Ch$1,507,305 million at December 31, 2015).

 

d)Guarantees

 

Banco Santander Chile has comprehensive officer fidelity insurance policy, No. 4356192, with the Chilena Consolidada de Seguros insurance company, for USD 5,000,000, which jointly covers both the Bank and its affiliates for the period from July 1, 2016 to June 30, 2017.

 

e)Contingent loans and liabilities

 

To satisfy its clients’ needs, the Bank took on several contingent loans and liabilities that are not be recognized in the Consolidated Financial Statement of Financial Position; these contain loan risks and they are, therefore, part of the Bank`s global risk.

 

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NOTE 23

EQUITY

 

a)Capital

 

As of December 31, 2016 and 2015 the Bank had 188,446,126,794 shares outstanding, all of which are subscribed for and paid in full, amounting to Ch$891,303 million. All shares have the same rights, and have no preferences or restrictions.

 

The activity with respect to shares during 2016, 2015 and 2014 was as follows:

 

 

SHARES

As of December 31,

  2016   2015   2014
           
Issued as of January 1 188,446,126,794   188,446,126,794   188,446,126,794
Issuance of paid shares -   -   -
Issuance of outstanding shares -   -   -
Stock options exercised -   -   -
Issued as of December 31, 188,446,126,794   188,446,126,794   188,446,126,794

 

As of December 31, 2016, 2015 and 2014 the Bank does not have any of its own shares in treasury, nor do any of the consolidated companies.

 

 

As of December 31, 2016 the shareholder composition was as follows:

 

Corporate Name or Shareholder's Name Shares ADRs (*) Total

% of

equity holding 

         
Santander Chile Holding S.A. 66,822,519,695 - 66,822,519,695 35.46
Teatinos Siglo XXI Inversiones Limitada 59,770,481,573 - 59,770,481,573 31.72
The Bank New York Mellon - 34,800,933,671 34,800,933,671 18.47
Banks on behalf of third parties 12,257,100,312 - 12,257,100,312 6.50
Pension funds (AFP) on behalf of third parties 6,990,857,997 - 6,990,857,997 3.71
Stock brokers on behalf of third parties 3,071,882,351 - 3,071,882,351 1.63
Other minority holders 4,732,351,195 - 4,732,351,195 2.51
Total 153,645,193,123 34,800,933,671 188,446,126,794 100.00
(*)American Depository Receipts (ADR) are certificates issued by a U.S. commercial bank to be traded on the U.S. securities markets.

 

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NOTE 23

EQUITY, continued

 

As of December 31, 2015 the shareholder composition was as follows:

 

Corporate Name or Shareholder's Name Shares ADRs (*) Total

% of

equity holding 

         
Santander Chile Holding S.A. 66,822,519,695 - 66,822,519,695 35.46
Teatinos Siglo XXI Inversiones Limitada 59,770,481,573 - 59,770,481,573 31.72
The Bank New York Mellon (1) - 32,516,063,671 32,516,063,671 17.25
Banks  on behalf of third parties 11,878,070,560 - 11,878,070,560 6.30
Pension funds (AFP) on behalf of third parties 8,887,560,424 - 8,887,560,424 4.72
Stock brokers on behalf of third parties 3,460,285,074 - 3,460,285,074 1.84
Other minority holders 5,111,145,797 - 5,111,145,797 2.71
Total 155,930,063,123 32,516,063,671 188,446,126,794 100.00
(*)American Depository Receipts (ADR) are certificates issued by a U.S. commercial bank to be traded on the U.S. securities markets.

 

(1) As of August 4, 2015, Banco Santander Chile signed a contract which appoints The Bank of New York Mellon as the commercial bank authorized to trade ADRs, replacing J.P. Morgan Chase Bank NA.

 

As of December 31, 2014 the shareholder composition was as follows:

 

Corporate Name or Shareholder's Name Shares ADRs (*) Total

% of

 

equity holding

 

         
Santander Chile Holding S.A. 66,822,519,695 - 66,822,519,695 35.46
Teatinos Siglo XXI Inversiones Limitada 59,770,481,573 - 59,770,481,573 31.72
J.P. Morgan Chase Bank - 31,370,004,471 31,370,004,471 16.65
Banks  on behalf of third parties 10,949,884,423 - 10,949,884,423 5.81
Pension funds (AFP) on behalf of third parties 10,082,508,540 - 10,082,508,540 5.35
Other minority holders 9,450,728,092 - 9,450,728,092 5.01
Total 157,076,122,323 31,370,004,471 188,446,126,794 100.00
(*)American Depository Receipts (ADR) are certificates issued by a U.S. commercial bank to be traded on the U.S. securities markets.

 

b)Reserves

 

In April 2016, due to the Shareholders’ Meeting, the Bank agreed to capitalized 25% of retained earnings from 2015 as reserves; which equals Ch$112,219 million (Ch$220,132 million in 2015).

 

c)Dividends

 

The distribution of dividends is detailed in the Consolidated Statement of Changes in Equity.

 

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NOTE 23

EQUITY, continued

 

d)As of December 31, the basic and diluted earnings per share were as follows:

 

  As of December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
           
a) Basic earnings per share          
Total attributable to the equity holders of the Bank 476,067   448,466   569,910
Weighted average number of outstanding shares 188,446,126,794   188,446,126,794   188,446,126,794
Basic earnings per share (in Ch$) 2,526   2,380   3.024
           
b) Diluted earnings per share 476,067   448,466   569,910
Total attributable to the equity holders of the Bank 188,446,126,794   188,446,126,794   188,446,126,794
Weighted average number of outstanding shares -   -   -
Adjusted number of shares 188,446,126,794   188,446,126,794   188,446,126,794
Diluted earnings per share (in Ch$) 2,526   2,380   3.024

 

As of December 31, 2016, 2015 and 2014 the Bank does not own instruments with dilutive effects.

 

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NOTE 23

EQUITY, continued

 

e) Other comprehensive income from available for sale investments and cash flow hedges:

 

    For the years ended December 31,
    2016   2015   2014
    MCh$   MCh$   MCh$
             
Available for sale investments            
As of January 1,   (7,093)   21,684   840
Gain (losses) on the re-measurement of available for sale investments, before tax   2,267   (51,178)   14,829
Reclassification from other comprehensive income to income for the year   12,201   22,401   6,015
Subtotals   14,468   (28,777)   20,844
Total   7,375   (7,093)   21,684
             
Cash flow hedges            
As of January 1,   8,626   10,725   (8,257)
Gains (losses) on the re-measurement of cash flow hedges, before tax   (6,261)   (2,105)   18,552
Reclassification adjustments on cash flow hedges, before tax   (77)   6   430
Amounts removed from equity and included in carrying amount of non-financial asset (liability) which acquisition or incurrence was hedged as a highly probable transaction   -   -   -
Subtotals   (6,338)   (2,099)   18,982
Total   2,288   8,626   10,725
             
Other comprehensive income, before taxes   9,663   1,533   32,409
             
Income tax related to other comprehensive income components            
Income tax relating to available for sale investments   (1,770)   1,596   (4,554)
Income tax relating to cash flow hedges   (549)   (1,940)   (2,252)
Total   (2,319)   (344)   (6,806)
             
Other comprehensive income, net of tax   7,344   1,189   25,603
Attributable to:            
Equity holders of the Bank   6,640   1,288   25,600
Non-controlling interest   704   (99)   3

 

The Bank expects that the results included in "Other comprehensive income" will be reclassified to profit or loss when the specific conditions have been met.

 

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NOTE 24

NON-CONTROLLING INTEREST

 

a)The non-controlling interest included in the equity and the income from the subsidiaries is summarized as follows:

 

        Other comprehensive income
As of December 31, 2016 Non-controlling Equity Income Available for sale investments Deferred tax Total other comprehensive income Comprehensive income
  % MCh$ MCh$  MCh$  MCh$  MCh$  MCh$
               
Subsidiaries:              
Santander Agente de Valores Limitada 0.97 492 116 - - - 116
Santander S.A. Sociedad Securitizadora 0.36 2 -    - - - -
Santander Corredores de Bolsa Limitada (1) 49.41 19,966 1,130 1,054 (252) 802 1,932
Santander Corredora de Seguros Limitada 0.25 164 7 - - - 7
Subtotal   20,624 1,253 1,054 (252) 802                 2.055
               
Entities controlled through other considerations:              
Bansa Santander S.A. 100.00 6,533 529 - - - 529

Santander Gestión de Recaudación y Cobranzas Limitada

100.00 2,184 583 - - - 583
Multinegocios S.A. (2) 100.00 - - - - - -
Servicios Administrativos y Financieros Limitada. (2) 100.00 - - - - - -
Multiservicios de Negocios Limitada. (2) 100.00 - - - - - -
Subtotal   8,717 1,112 - - - 1,112
               
Total   29,341 2,365 1,054 (252) 802 3,167

 

(1)Ex Santander S.A. Corredores de Bolsa, See Note 1.

(2) As of June 30, 2015, these entities have stopped rendering sales services for the Bank and therefore they have been excluded from the consolidation perimeter. See Note 1.

 

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NOTE 24

NON-CONTROLLING INTEREST, continued

 

        Other comprehensive income
As of December 31, 2015 Non-controlling Equity Income Available for sale investments Deferred tax Total other comprehensive income Comprehensive income
  % MCh$ MCh$  MCh$  MCh$  MCh$  MCh$
               
Subsidiaries:              
Santander Agente de Valores Limitada 0.97 652 98 (4) 1 (3) 95
Santander S.A. Sociedad Securitizadora 0.36 2 - - - - -
Santander Corredores de Bolsa Limitada (1) 49.41 21,765 816 (128) 29 (99) 717
Santander Corredora de Seguros Limitada 0.25 156  (5) - - - (5)
                                        Subtotal   22,575 909 (132) 30 (102) 807

Entities controlled through other considerations:

 

             
Bansa Santander S.A. 100 6,004 334 - - - 334

Santander Gestión de Recaudación y Cobranzas Limitada

 

100 1,602 564 - - - 564
Multinegocios S.A. (2) 100 - 310 - - - 310
Servicios Administrativos y Financieros Limitada. (2) 100 - 550 - - - 550
Multiservicios de Negocios Limitada. (2) 100 - 596 - - -                          596
Subtotal   7,606 2.354 - - -                 2,354
               
Total   30,181 3.263 (132) 30 (102) 3,161

 

(1) Ex Santander S.A. Corredores de Bolsa, See Note 1.

(2) As of June 30, 2015, these entities have stopped rendering sales services for the Bank and therefore they have been excluded from the consolidation perimeter. See Note 1.

 

 

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NOTE 24

NON-CONTROLLING INTEREST, continued

 

        Other comprehensive income
As of December 31, 2014 Non-controlling Equity Income Available for sale investments Deferred tax Total other comprehensive income Comprehensive income
  % MCh$ MCh$  MCh$  MCh$  MCh$  MCh$
               
Subsidiaries:              
Santander Agente de Valores Limitada 0.97 558 87 - - - 87
Santander S.A. Sociedad Securitizadora 0.36 2 - - - - -
Santander S.A. Corredores de Bolsa 49.41 20,928 1,239 (34) 7 (27) 1,212
Santander Corredora de Seguros Limitada 0.25 154 (4) - - - (4)
Subtotals   21,642 1,322 (34) 7 (27) 1,295
               
Entities controlled through other considerations:              
Bansa Santander S.A. 100.00 5,671 2,236 - - - 2,236

Santander Gestión de Recaudación y Cobranzas Limitada (1)

100.00 1,037 1,531 - - - 1,531
Multinegocios S.A. 100.00 730 253 - - - 253
Servicios Administrativos y Financieros Limitada 100.00 2,001 315 - - - 315
Servicios de Cobranzas Fiscalex Limitada (1) 100.00 - - - - - -
Multiservicios de Negocios Limitada 100.00 2,002 323 - - - 323
Subtotals   11,441 4,658 - - - 4,658
               
Total   33,083 5,980 (34) 7 (27) 5,953

 

(1)On August 01, 2014 the company Servicios de Cobranza Fiscalex Limitada was acquired by Santander Gestión de Recaudación y Cobranza Limitada.

 

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NOTE 24

NON-CONTROLLING INTERESTS, continued

 

b)The overview of the financial information of the subsidiaries included in the consolidation of the Bank that possess non-controlling interests is as follows, which does not include consolidation or conforming accounting policy adjustments:

 

  As of December 31,
  2016   2015   2014
       

Net

income

        Net income         Net
Assets Liabilities Capital   Assets Liabilities Capital   Assets Liabilities Capital income
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
Santander Corredora de Seguros Limitada 75,000 10,065 62,276 2,659   72,860 10,588 60,765 1,507   70,602 9,068 63,078 (1,544)
Santander Corredores de Bolsa Limitada 86,473 45,724

38,356

 

2,393   71,118 26,763 42,618 1,737   74,408 31,790 40,171 2,447
Santander Agente de Valores Limitada 54,486 3,666 38,851 11,969   131,305 64,049 57,554 9,702   339,787 282,233 48,556 8,998
Santander S.A. Sociedad Securitizadora 509 77 512 (80)   566 53 561 (48)   622 61 640 (79)
Santander Gestión de Recaudación y Cobranzas Ltda. 8,547 6,363 1,602 582   6,194 4,592 1,038 564   4,917 3,880 458 579
Multinegocios S.A. (management of sales force) (1) - - - -   - - - -   1,959 1,229 477 253
Servicios Administrativos y Financieros Limitada (management of sales force) (1) - - - -   - - - -   2,956 955 1,686 315
Servicio de Cobranza Fixcalex Ltda. - - - -   - - - -   - - - -
Multiservicios de Negocios Limitada (call center) (1) - - - -   - - - -   3,401 1,399 1,679 323
Bansa Santander S.A. 31,301 24,768 6,004 529   31,631 25,627 5,670 334   31,062 25,391 3,435 2,236
Total 256,316 90,663 147,601 18,052   313,674 131,672 168,206 13,796   529,714 356,006 160,180 13,528

 

(1) As of June 30, 2015, these entities have stopped rendering sales services for the Bank and therefore they have been excluded from the consolidation perimeter. See Note 1.

 

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NOTE 25

INTEREST INCOME

 

This item refers to interest earned in the period from the financial assets whose return, whether implicitly or explicitly, is determined by applying the effective interest rate method, regardless of the value at fair value, as well as the effect of hedge accounting (see c).

 

a)For the years ended December 31, 2016, 2015 and 2014 the income from interest, was attributable to the following items:

 

  For the years ended December 31,
  2016     2015   2014
  Interest Inflation adjustments Prepaid fees Total   Interest Inflation adjustments Prepaid fees Total   Interest Inflation adjustments Prepaid fees Total
Items MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
                             
Resale agreements 1,488 - - 1,488   1,075 - - 1,075   1,223 - - 1,223
Interbank loans 295 - - 295   375 - - 375   139 - - 139
Commercial loans 742,432 130,904 7,659 880,995   687,464 168,752 8,494 864,710   706,190 208,427 7,883 922,500
Mortgage loans 304,116 228,081 7,012 539,209   259,941 286,437 23,191 569,569   245,980 328,212 18,230 592,422
Consumer loans 604,152 660 4,318 609,130   586,385 3,418 3,706 593,509   603,804 5,108 3,205 612,117
Investment instruments 75,808 2,916 - 78,724   60,004 7,616 - 67,620   61,774 25,461 - 87,235
Other interest income 11,136 2,445  - 13,581   10,111 5,831  - 15,942   10,584 3,218 - 13,802
                             
Interest income less income from hedge accounting 1,739,427 365,006 18,989 2,123,422   1,605,355 472,054 35,391 2,112,800   1,629,694 570,426 29,318 2,229,438

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NOTE 25

INTEREST INCOME, continued

 

b)For the years ended December 31, 2016, 2015 and 2014, the expense from interest expense, excluding expense from hedge accounting, is as follows:

 

  For the years ended December 31,
  2016   2015   2014
  Interest Inflation adjustments Total   Interest Inflation adjustments Total   Interest Inflation adjustments   Total
Items MCh$ MCh$ MCh$   MCh$ MCh$ MCh$   MCh$ MCh$   MCh$
                         
Demand deposits (16,003)  (1,043) (17,046)    (13,875)  (1,343)  (15,218)    (6,189) (1,909)   (8,098)
Repurchase agreements (2,822) - (2,822)   (6,893) -  (6,893)   (7,052) -   (7,052)
Time deposits and liabilities (399,720) (38,946) (438,666)   (346,174) (47,370) (393,544)   (334,841) (74,384)   (409,225)
Interbank loans (19,803) - (19,803)   (14,998) (2) (15,000)   (19,015) (9)   (19,024)
Issued debt instruments (197,973) (105,452) (303,425)   (183,561) (113,029) (296,590)   (175,886) (137,460)   (313,346)
Other financial liabilities (3,008) (781) (3,789)   (3,070) (1,180) (4,250)   (3,131) (1,729)   (4,860)
Other interest expense (5,211) (8,874) (14,085)   (3,456) (14,776) (18,232)   (2,636) (17,839)   (20,475)
                         
Interest expense not including expenses from hedge accounting (644,540) (155,096) (799,636)   (572,027) (177,700) (749,727)   (548,750) (233,330)   (782,080)

 

c)For the years ended December 31, 2016, 2015 and 2014, the income and expense from interest is as follows:

 

  For the years ended December 31,
  2016   2015   2014
Items MCh$   MCh$   MCh$
           
Interest income less income from hedge accounting 2,123,422   2,112,800   2,229,438
Interest expense less expense from hedge accounting (799,636)   (749,727)   (782,080)
           
Net Interest income (expense) from hedge accounting 1,323,786   1,363,073   1,447,358
           
Hedge accounting (net) (42,420)   (107,867)   (130,254)
           
Total net interest income 1,281,366   1,255,206   1,317,104

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NOTE 26

FEES AND COMMISSIONS

 

This item includes the amount of fees earned and paid during the year, except for those which are an integral part of the financial instrument’s effective interest rate:

 

  For the years ended December 31,  
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Fee and commission income          
Fees and commissions for lines of credits and overdrafts 5,754   6,597   7,015
Fees and commissions for guarantees and letters of credit 35,911   35,276   32,403
Fees and commissions for card services 195,566   175,262   147,256
Fees and commissions for management of accounts 31,540   30,291   29,031
Fees and commissions for collections and payments 31,376   30,399   35,355
Fees and commissions for intermediation and management of securities 9,304   10,000   9,286
Insurance brokerage fees 40,882   39,252   34,695
Office banking 14,145   15,224   17,602
Fees for other services rendered 38,038   35,978   30,798 
Other fees earned 28,668    24,621   23,288 
Total 431,184    402,900   366,729 

 

 

  For the years ended December 31,  
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Fee and commission expense          
Compensation for card operation (143,509)   (129,196)   (104,095)
Fees and commissions for securities transactions (946)   (1,315)   (979)
Office banking (14,671)   (15,320)   (16,602)
Other fees (17,634)   (19,442)   (17,770)
Total (176,760)   (165,273)   (139,446)
           
Net fees and commissions income 254,424   237,627   227,283

 

The fees earned in transactions with letters of credit are presented in the Consolidated Statement of Income in the line item “Interest income”.

 

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NOTE 27

NET INCOME (EXPENSE) FROM FINANCIAL OPERATIONS

 

For the years ended December 31, 2016, 2015 and 2014, the detail of income (expense) from financial operations is as follows:

 

  For the years ended December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Income (expense)  from financial operations          
Trading derivatives (395,209)   (503,981)   (224,015)
Trading investments 18,229   21,505   45,952
Sale of loans and accounts receivables from customers          
     Current portfolio 1,469   921   1,261
     Charged-off portfolio 2,720   (58)   4,809
Available for sale investments 14,598   23,655   6,934
Repurchase of issued bonds (8,630)   (14)   5,198
Other income (expense) from financial operations (211)   75   214
Total income (expense) (367,034)   (457,897)   (159,647)

 

 

NOTE 28

NET FOREIGN EXCHANGE GAIN (LOSS)

 

Net foreign exchange income includes the income earned from foreign currency trading, differences arising from converting monetary items in a foreign currency to the functional currency, and those generated by non-monetary assets in a foreign currency at the time of their sale.

 

For the years ended December 31, 2016, 2015 and 2014 net foreign exchange income is as follows:

 

   For the years ended December 31,
  2016   2015 2014
  MCh$   MCh$   MCh$
           
Net foreign exchange gain (loss)          
Net profit (loss) from currency exchange differences 116,117   (197,875)   (370,282)
Hedging derivatives 399,875   777,254   621,767
Income from assets indexed to foreign currency (8,745)   25,421   22,404
Income from liabilities indexed to foreign currency 145   (1,404)   (1,677)
Total 507,392   603,396   272,212

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NOTE 29

PROVISIONS FOR LOAN LOSSES

 

a)For the years ended December 31, 2016, 2015 and 2014 activity for provisions for loan losses is as follows:

 

 

Loans and accounts receivable from customers 

  Total

For the year ended December 31, 2016

 

Interbank 

loans 

Individual 

Commercial

loans

Mortgage  

loans

Group

Consumer 

loans 

Group

Contingent 

loans 

Individual Group Individual Group
  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
Charged-off individually significant loans - (11,222) - - - - - (11,222)
Provisions established (3,052) (61,002) (133,855) (50,892) (280,544) (11,986) (2,909) (544,240)
Total provisions and charge-offs (3,052) (72,224) (133,855) (50,892) (280,544) (11,986) (2,909) (555.462)
Provisions released 83 43,183 14,432 34,246 30,790 6,963 5,384 135,081
Recovery of loans previously charged off - 11.142 16,043 10,041 41,072 - - 78,298
Net charge to income (2,969) 17,899 (103,380) (6,605) (208,682) (5,023) 2,475 (342,083)

 

 

Loans and accounts receivable from customers 

  Total

For the year ended December 31, 2015

 

Interbank 

loans

Individual

Commercial

loans

Mortgage  

loans

Group

Consumer

loans

Group

Contingent

loans

Individual Group Individual Group
  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
Charged-off individually significant loans - (12,955) - - - - - (12,955)
Provisions established (1,357) (124,968) (136,778) (34,373) (248,937) (2,808) (2,601) (551,822)
Total provisions and charge-offs (1,357) (137,923) (136,778) (34,373) (248,937) (2,808) (2,601) (564.777)
Provisions released 192 46,614 17,885 7,205 18,126 5,042 2,296 97,360
Recovery of loans previously charged off - 8.978 17,054 6,543 35,565 - - 68,140
Net charge to income (1,165) (82,331) (101,839) (20,625) (195,246) 2,234 (305) (399.277)

 

  Loans and accounts receivable from customers Total

For the year ended December 31, 2014

 

Interbank

loans 

Individual

Commercial

loans

Mortgage   

loans

Group

Consumer

loans

Group

Contingent 

loans

Individual Group Individual Group
  MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$ MCh$
Charged-off individually significant loans -    (10,811) - - - -   (10,811)
Provisions established (60) (52,240) (174,244) (24,907) (218,941) (8,305) (3,641) (482,338)
Total provisions and charge-offs (60) (63,051) (174,244) (24,907) (218,941) (8,305) (3,641) (493,149)
Provisions released 554 15,903 7,127 6,561 38,275 4,431 6,418 79,269
Recovery of loans previously charged off -    5,302 11,645 5,122 36,908 - - 58,977
Net charge to income 494 (41,846) (155,472) (13,224) (143,758) (3,874) 2,777 (354,903)

 

b)The detail of Charge-off of individually significant loans, is as follows:

 

    For the years ended December 31,
    2016 2015   2014
    MCh$ MCh$   MCh$
           
Charge-off of loans   47,605 50,656                 37,673
Provision applied   (36,383) (37,701)   (26,862)
Net charge offs of individually significant loans   11,222 12,955   10,811

 

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NOTE 30

PERSONNEL SALARIES AND EXPENSES

 

For the years ended December 31, 2016, 2015 and 2014, the composition of personnel salaries and expenses is as follows:

 

  For the years ended December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Personnel compensation 249,703   233,707   213,364
Bonuses or gratifications 77,649   78,260   77,145
Stock-based benefits 331   66   329
Seniority compensation: 26,263   34,012   10,551
Pension plans (150)   431   1,395
Training expenses 2,835   3,186   2,477
Day care and kindergarten 3,072   2,992   2,485
Health funds 4,777   4,474   4,082
Welfare funds 806   754   533
Other personnel expenses 29,847   29,181   26,527
Total 395,133   387,063   338,888

 

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NOTE 31

ADMINISTRATIVE EXPENSES

 

For the years ended December 31, 2016, 2015 and 2014, the composition of the item is as follows:

 

  For the years ended December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
           
General administrative expenses 138,974   127,826   125,271 
Maintenance and repair of property, plant and equipment 19,901   20,002   17,498
Office lease 28,098   27,472   28,348
Equipment lease 280   134   94
Insurance payments 3,842   3,656   3,302
Office supplies 5,747   6,232   4,567
IT and communication expenses 37,351   28,420   29,379
Heating, and other utilities 4,863   4,764   4,131
Security and valuables transport services 14,793   15,393   17,089
Representation and personnel travel expenses 5,440   4,590   4,173
Judicial and notarial expenses 952   2,103   2,192
Fees for technical reports and auditing 7,631   7,301   6,891
Other general administrative expenses 10,076   7,759   7,607
Outsourced services 55,757   60,913   51,504 
Data processing 36,068   39,286   32,253
Products sale -   226   1,502
Archive services 4,427   1,047   3,305
Valuation services 3,489   2,969   2,119
Outsourcing 5,404   7,275   5,608 
Other 6,369   10,110   6,717
Board expenses 1,371   1,465   1,314 
Marketing expenses 17,844   18,483   16,419 
Taxes, payroll taxes, and contributions 12,467   11,844   10,641 
Real estate taxes 1,435   1,813   1,415
Patents 1,618   1,589   1,525
Other taxes 93   3   15
Contributions to SBIF 9,321   8,439   7,686
Total 226,413    220,531    205,149 

 

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NOTE 32

DEPRECIATION, AMORTIZATION, AND IMPAIRMENT

 

Depreciation, amortization and impairment charges for the years ended December 31, 2016, 2015 and 2014, are detailed below:

 

  For the years ended December 31,  
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Depreciation and amortization          
Depreciation of property, plant, and equipment (45,025)   (36,195)   (27,571)
Amortization of Intangible assets (20,334)   (17,419)   (16,601)
Total depreciation and amortization (65,359)   (53,614)   (44,172)
Impairment of property, plant, and equipment (234)   (21)   (108)
Impairment of intangibles -   -   (36,556)
Total (65,593)   (53,635)   (80,836)

 

As of December 31, 2016, the equipment impairment totaled Ch$234 million to (Ch$21 million as of December 31, 2015 and Ch$108 million as of December 31, 2014), million, mainly due to damages to ATMs.

 

NOTE 33

OTHER OPERATING INCOME AND EXPENSES

 

a)Other operating income is comprised of the following components:

 

    For the years ended December 31,
    2016   2015   2014
    MCh$   MCh$   MCh$
             
Income from assets received in lieu of payment            
Income from sale of assets received in lieu of payment   1,663   2,455   2,811
Recovery of charge-offs and income from assets received in lieu of payment   -   -   -
Subtotal   1,663   2,455   2,811
Income from sale of investments in other companies            
Gain on sale of investments in other companies   -   617   -
Subtotal   -   617   -
Other income            
Leases   519   708   805
Income from sale of property, plant and equipment   2,017   381   687
Recovery of provisions for contingencies   -   -   315
Compensation from insurance companies due to damages   1,530   435   661
Other   698   1,843   1,266
Subtotal   4,764   3,367   3,734
             
Total   6,427   6,439   6,545

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NOTE 33

OTHER OPERATING INCOME AND EXPENSES, continued

 

b)Other operating expenses are detailed as follows:

 

  For the years ended December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
Allowances and expenses for assets received in lieu of payment          
Provision on assets received in lieu of payment 9,246   7,803   1,577
Expenses for maintenance of assets received in lieu of  payment 2,170   2,397   2,489
Subtotal 11,416   10,200   4,066
           
Credit card expenses 3,636   4,624   2,638
           
Customer services 3,734   3,919   9,940
           
Other expenses          
Operating charge-offs 6,146   5,359   6,153
Life insurance and general product insurance policies 18,393   11,225   8,919
Additional tax on expenses paid overseas 142   2,651   3,055
Provisions for contingencies 4,238   15,230   13,080
Expense for adopting chip technology on cards -   -   2,400
Other 21,197   5,521   8,695
Subtotal 50,116   39,986   42,302
           
Total 68,902   58,729   58,946

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NOTE 34

TRANSACTIONS WITH RELATED PARTIES

 

In addition to Affiliates and associated entities, the Bank’s “related parties” include its “key personnel” from the executive staff (members of the Bank’s Board of Directors and Managers of Banco Santander Chile and its affiliates, together with their close relatives), as well as the entities over which the key personnel could exercise significant influence or control.

 

The Bank also considers the companies that are part of the Santander Group worldwide as related parties, given that all of them have a common parent, i.e., Banco Santander S.A. (located in Spain).

 

Transactions between the Bank and its related parties are specified below. To facilitate comprehension, we have divided the information into four categories:

 

Santander Group Companies

 

This category includes all the companies that are controlled by the Santander Group around the world, and hence, it also includes the companies over which the Bank exercises any degree of control (Affiliates and special-purpose entities).

 

Associated companies

 

This category includes the entities over which the Bank, in accordance with section b) of Note 1 to these Financial Statements, exercises a significant degree of influence and which generally belong to the group of entities known as “business support companies.”

 

Key personnel

 

This category includes members of the Bank’s Board of Directors and managers of Banco Santander Chile and its affiliates, together with their close relatives.

 

Other

 

This category encompasses the related parties that are not included in the groups identified above and which are, in general, entities over which the key personnel could exercise significant influence or control.

 

The terms for transactions with related parties are equivalent to those which prevail in transactions made under market conditions or to which the corresponding considerations in kind have been attributed.

 

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NOTE 34

TRANSACTIONS WITH RELATED PARTIES, continued

 

a)Loans to related parties:

Below are loans and accounts receivable as well as contingent loans that correspond to related entities:

 

  As of December 31,
  2016   2015   2014
 

Companies

of the Group

Associated

companies

Key

personnel 

Other  

Companies

of the Group 

Associated 

companies

Key

personnel

Other  

Companies

of the Group

Associated 

companies 

Key

personnel

Other
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
                             
Loans and accounts receivable:                            
Commercial loans   81,687 533 4,595 7,100   77,388 565 5,841 1,963   51,647 9,614 4,348 8,743
Mortgage loans - 18,046  -    - 20,559  -    - - 19,941 -
Consumer loans - 3,783   - 2,274   - - 2,798 -
Loans and accounts receivable: 81,687 533 26,424 7,100   77,388 565 28,674 1,963   51,647 9,614 27,087 8,743
                             
Allowance for loan losses (209) (35) (87) (34)   (213) (190) (62) (20)   (139) (10) (46) (18)
Net loans 81,478 498 26,337 7,066   77,175 375 28,612 1,943   51,508 9,604 27,041 8,725
                             
Guarantees 434,141 23,636 5,486   499,803 25,493 1,632   409,339 - 23,896 1,289
                             
Contingent loans:                            
Personal guarantees  -  -      - - -  
Letters of credit 27,268 -    29,275   16,000 - - 11
Guarantees 437,101 -  -   510,309 2   432,802 - - 762
Contingent loans: 464,369 -  -   539,584 2   448,802 - - 773
                             
Allowance for contingent loans (5) -    (11)   (12) - - -
                             
Net contingent loans 464,364 -  -   539,573 2   448,790 - - 773

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NOTE 34

TRANSACTIONS WITH RELATED PARTIES, continued

 

Loan activity to related parties during 2016, 2015 and 2014 is shown below:

 

  As of December 31,  
  2016   2015   2014
  Companies of the Group Associated companies Key Personnel Other   Companies of the Group Associated companies Key Personnel Other Companies of the Group Associated companies Key Personnel Other
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
                             
Opening balances as of January 1, 616,968 565 28,675 1,966   500,449 9,614 27,087 9,516   250,293 618 21,644 61,130
Loans granted 122,729 203 8,580 6,808   276,383 7 8,991 4,113   338,784 9,108 11,651 17,585
Loans payments (193,189) (236) (10,832) (1,674)   (159,864) (9,056) (7,403) (11,663)   (88,628) (112) (6,208) (69,199)
                             
Total 546,508 532 26,423 7,100   616,968 565 28,675 1,966   500,449 9,614 27,087 9,516

 

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NOTE 34

TRANSACTIONS WITH RELATED PARTIES, continued

 

b)Assets and liabilities with related parties

 

  As of December 31,  
  2016   2015   2014
  Companies of the Group Associated companies Key personnel Other  

Companies

of the Group 

Associated companies

Key

personnel 

Other  

Companies

of the Group  

Associated companies

Key

personnel 

Other
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
                             
Assets                            
Cash and deposits in banks 187,701 - - -   23,578 - - -   193,377 - - -
Trading investments - - - -   - - - -   - - - -

Obligations under repurchase agreements Loans

- - - -   - - - -   - - - -
Financial derivative contracts 742,851 33,433 - -   771,774 24,773 - -   995,468 - - -
Available for sale investments - - - -   - - - -   - - - -
Other assets 4,711 67,454 - -   3,218 19,101 - -   2,776 - - -
                             
Liabilities                            
Deposits and other demand liabilities 6,988 7,141 2,883 630   9,987 8,535 2,454 1,373   5,061 1,168 2,403 4,602

Obligations under repurchase agreements Loans

56,167 - - -   12,006 - - -   47,010 - - -
Time deposits and other time liabilities 1,545,771 621 2,365 1,984   1,360,572 234 2,728 898   269,381 2,320 81,079 81,079
Financial derivative contracts 954,575 54,691 - -   1,323,996 23,326 - -   1,395,507 - - -
Issued debt instruments 484,548 - - -   398,565 - - -   336,323 - - -
Other financial liabilities 8,970 - - -   2,409 - - -   846 - - -
Other liabilities 446 44,329 - -   376 19,541 - -   771 - - -

 

 

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NOTE 34

TRANSACTIONS WITH RELATED PARTIES, continued

 

c)Income (expense) recorded due to transactions with related parties

 

  For the years ended December 31,
  2016   2015   2014
  Companies of the Group Associated Companies Key personnel Other   Companies of the Group Associated companies Key personnel Other   Companies of the Group Associated Companies Key personnel Other
  MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$   MCh$ MCh$ MCh$ MCh$
                             
Income (expense) recorded                            
Interest income and inflation-indexation adjustments (39,279) 40  1,164 115   (10,986)  -  1,664 116   (11,130) 25 1,963 (2,509)
Fee and commission income and expenses 38,167 45 204 20   35,955 77 208 39   30,591 84 230 167
Net income (expense) from financial operations and net foreign exchange gain (loss) (*) (343,963) (48,373)  (88) 2   (321,985) (16,845)  15 6   (315,918) - 20 (10,051)
Other operating income and expenses 931 (2,239)   -   -    955 (1,027)   -  -    1,158 - - -
Key personnel compensation and expenses  - (37,328)    -  (39,323) -    - - (31,361) -
Administrative and other expenses (35,554) (43,115)   (30,591) (41,691) -    (30,342) (33,961) - -
                             
Total (379,698) (93,642) (36,048) 137   (326,652) (59,486) (37,436) 161   (325,641) (33,852) (29,148) (12,393)

 

(*) Primarily relates to derivative contracts used to financially cover exchange risk of assets and liabilities that cover positions of the Bank and its subsidiaries.

 

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NOTE 34

TRANSACTIONS WITH RELATED PARTIES, continued

 

d)Payments to Board members and key management personnel

 

The compensation received by key management personnel, including Board members and all the executives holding manager positions shown in the “Personnel salaries and expenses” and/or “Administrative expenses” items of the Consolidated Statement of Income, corresponds to the following categories:

 

  For the years ended December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Personnel compensation 17,493   18,605   17,410
Board members’ salaries and expenses 1,269   1,374   1,235
Bonuses or gratifications 14,404   12,861   12,358
Compensation in stock 331   66   310
Training expenses 161   122   78
Seniority compensation 2,619   4,154   234
Health funds 285   314   288
Other personnel expenses 916   1,396   504
Pension plans (*) (150)   431   1,395
Total 37,328   39,323   33,812

 

(*)Some of the executives that qualified for this benefit left the Group for different reasons, without complying with the requirements to use the benefit, therefore the obligation amount decreased, which generated the reversal of provisions.

 

e)Composition of key personnel

 

As of December 31, 2016, 2015 and 2014, the composition of the Bank’s key personnel is as follows:

 

Position No. of executives
As of December 31,
  2016 2015 2014
       
Director 13 12 13
Division manager 17 16 18
Department manager 76 79 90
Manager 61 53 54
       
Total key personnel 167 160 175

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NOTE 35

PENSION PLANS

 

The Bank has an additional benefit available to its principal executives, consisting of a pension plan. The purpose of the pension plan is to endow the executives with funds for a better supplementary pension upon their retirement.

 

For this purpose, the Bank will match the voluntary contributions made by the beneficiaries for their future pensions with an equivalent contribution. The executives will be entitled to receive this benefit only when they fulfill the following conditions:

 

a.Aimed at the Bank’s management.

b.The general requisite to apply for this benefit is that the employee must be carrying out his/her duties when turning 60 years old.

 c.The Bank will create a pension fund, with life insurance, for each beneficiary in the plan. Periodic contributions into this fund are made by the manager and matched by the Bank.

d.The Bank will be responsible for granting the benefits directly.

 

If the working relationship between the manager and the respective company ends, before s/he fulfills the abovementioned requirements, s/he will have no rights under this benefit plan.

 

In the event of the executive’s death or total or partial disability, s/he will be entitled to receive this benefit.

 

The Bank will make contributions to this benefit plan on the basis of mixed collective insurance policies whose beneficiary is the Bank. The life insurance company with whom such policies are executed is not an entity linked or related to the Bank or any other Santander Group company.

 

Plan Assets owned by the Bank at the end of 2016 totaled Ch$6,612 million (Ch$6,945 million in 2015).

 

The amount of the defined benefit plans has been quantified by the Bank, based on the following criteria:

 

Calculation method:

 

Use of the projected unit credit method which considers each working year as generating an additional amount of rights over benefits and values each unit separately. It is calculated based primarily on fund contributions, as well as other factors such as the legal annual pension limit, seniority, age and yearly income for each unit valued individually.

 

Assets related to the pension fund contributed by the Bank into the Seguros Euroamérica insurance company with respect to defined benefit plans are presented as net of associated commitments.

 

Actuarial hypothesis assumptions:

 

Actuarial assumptions with respect to demographic and financial variables are non-biased and mutually compatible with each other. The most significant actuarial hypotheses considered in the calculations were:

 

 

Plans

post-employment

 

Plans

post-employment

  2016   2015
       
Mortality chart RV-2014/CB-2014   RV-2009
Termination of contract rates 5.0%   5.0%
Impairment chart PDT 1985   PDT 1985

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NOTE 35

PENSION PLANS, continued

 

Activity for post-employment benefits is as follows:

 

  As of December 31,
  2016   2015
  MCh$   MCh$
Plan assets 6,612   6,945
Commitments for defined-benefit plans      
For active personnel (4,975)   (5,070)
Incurred by inactive personnel -   -
Minus:      
Unrealized actuarial (gain) losses -   -
Balances at year end 1,637   1,875

 

Year’s cash flow for post-employment benefits is as follows:

 

  For the years ended December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
           
a) Fair value of plan assets          
Opening balance 6,945   6,495   5,171
Expected yield of insurance contracts 335   432   446
Employer contributions 886   18   878
Actuarial (gain) losses -   -   -
Premiums paid -   -   -
Benefits paid (1,554)   -   -
Fair value of plan assets at year end 6,612   6,945   6,495
b) Present value of obligations          
Present value of obligations opening balance (5,070)   (4,639)   (3,244)
Net incorporation of Group companies -   -   -
Service cost 150   (431)   (1,395)
Interest cost -   -   -
Curtailment/settlement effect -   -   -
Benefits paid -   -   -
Past service cost -   -   -
Actuarial (gain) losses -   -   -
Other (55)   -   -
    Present value of obligations at year end (4,975)   (5,070)   (4,639)
Net balance at year end 1,637   1,875   1,856

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NOTE 35

PENSION PLANS, continued

 

Plan expected profit:

 

  As of December 31,
  2016   2015   2014
           
Type of expected yield from the plan’s assets UF + 2.50% annual   UF + 2.50% annual   UF + 2.50% annual
Type of yield expected from the reimbursement rights UF + 2.50% annual   UF + 2.50% annual   UF + 2.50% annual

 

Plan associated expenses:

 

  For the years ended December 31,
  2016   2015   2014
  MCh$   MCh$   MCh$
           
Current period service expenses (150)   431   1,395
Interest cost -   -   -
Expected yield from plan’s assets (335)   (432)   (446)
Expected yield of insurance contracts linked to the Plan:          
Extraordinary allocations -   -   -
Actuarial (gain)/ losses recorded in the period -   -   -
Past service cost -   -   -
Other -   -   -
Total (485)   (1)   949

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NOTE 36

FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES

 

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The measurement of fair value assumes the sale transaction of an asset or the transference of the liability happens within the main asset or liability market, or the most advantageous market for the asset or liability.

 

For financial instruments with no available market prices, fair values have been estimated by using recent transactions in analogous instruments, and in the absence thereof, the present values or other valuation techniques based on mathematical valuation models sufficiently accepted by the international financial community. In the use of these models, consideration is given to the specific particularities of the asset or liability to be valued, and especially to the different kinds of risks associated with the asset or liability.

 

These techniques are significantly influenced by the assumptions used, including the discount rate, the estimates of future cash flows and prepayment expectations. Hence, the fair value estimated for an asset or liability may not coincide exactly with the price at which that asset or liability could be delivered or settled on the date of its valuation, and may not be justified in comparison with independent markets.

 

Except as detailed in the following table, the management consider that the carrying amounts of financial assets and financial liabilities recognised in the consolidated financial statements approximate their fair values.

 

Determination of fair value of financial instruments

 

Below is a comparison between the value at which the Bank’s financial assets and liabilities are recorded and their fair value as of December 31, 2016 and 2015:

 

  As of December 31,
  2016   2015
  Book value   Fair value   Book value   Fair value
  MCh$   MCh$   MCh$   MCh$
               
Assets              
Trading investments 396,987   396,987   324,271   324,271
Financial derivative contracts 2,500,782   2,500,782   3,205,926   3,205,926
Loans and accounts receivable from customers and interbank loans, net 26,415,826   29,976,931   24,538,456   26,676,836
Available for sale investments 3,388,906   3,388,906   2,044,411   2,044,411
Guarantee deposits (margin accounts) 396,289   396,289   649,325   649,325
               
Liabilities              
Deposits and interbank borrowings 22,607,392   22,833,009   20,846,462   21,167,077
Financial derivative contracts 2,292,161   2,292,161   2,862,606   2,862,606
Issued debt instruments and other financial liabilities 7,566,388   8,180,322   6,177,622   6,556,120
Guarantees received (margin accounts) 480,926   480,926   819,331   819,331

 

The fair value approximates the carrying amount of the following line items due to their short-term nature: cash and deposits-banks, cash items in process of collection and investments under resale or repurchase agreements.

 

In addition, the fair value estimates presented above do not attempt to estimate the value of the Bank’s profits generated by its business activity, nor its future activities, and accordingly, they do not represent the Bank’s value as a going concern. Below is a detail of the methods used to estimate the financial instruments’ fair value.

 

a)Trading investments and available for sale investment instruments

 

The estimated fair value of these financial instruments was established using market values or estimates from an available dealer, or quoted market prices of similar financial instruments. Investments are evaluated at recorded value since they are considered as having a fair value not significantly different from their recorded value. To estimate the fair value of debt investments or representative values in these lines of businesses, we take into consideration additional variables and elements, as long as they apply, including the estimate of prepayment rates and credit risk of issuers.

 

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NOTE 36

FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES, continued

 

b)Loans and accounts receivable from customers and interbank loans

 

Fair value of commercial, mortgage and consumer loans and credit cards is measured through a discounted cash flow (DCF) analysis. To do so, we use current market interest rates considering product, term, amount and similar loan quality. Fair value of loans with 90 days or more of delinquency are measured by means of the market value of the associated guarantee, minus the rate and term of expected payment. For variable rate loans whose interest rates change frequently (monthly or quarterly) and that are not subjected to any significant credit risk change, the estimated fair value is based on their book value.

 

c)Deposits

 

Disclosed fair value of deposits that do not bear interest and saving accounts is the amount payable at the reporting date and, therefore, equals the recorded amount. Fair value of time deposits is calculated through a discounted cash flow calculation that applies current interest rates from a monthly calendar of scheduled maturities in the market.

 

d)Short and long term issued debt instruments

 

The fair value of these financial instruments is calculated by using a discounted cash flow analysis based on the current incremental lending rates for similar types of loans having similar maturities.

 

e)Financial derivative contracts

 

The estimated fair value of financial derivative contracts is calculated using the prices quoted on the market for financial instruments having similar characteristics.

 

The fair value of interest rate swaps represents the estimated amount that the Bank determines as exit price in accordance with IFRS 13.

 

If there are no quoted prices from the market (either direct or indirect) for any derivative instrument, the respective fair value estimates have been calculated by using models and valuation techniques such as Black-Scholes, Hull, and Monte Carlo simulations, taking into consideration the relevant inputs/outputs such as volatility of options, observable correlations between underlying assets, counterparty credit risk, implicit price volatility, the velocity with which the volatility reverts to its average value, and the straight-line relationship (correlation) between the value of a market variable and its volatility, among others.

 

Measurement of fair value and hierarchy

 

IFRS 13 - Fair Value Measurement, provides a hierarchy of reasonable values which separates the inputs and/or valuation technique assumptions used to measure the fair value of financial instruments. The hierarchy reflects the significance of the inputs used in making the measurement. The three levels of the hierarchy of fair values are the following:

 

• Level 1: the inputs are quoted prices (unadjusted) on active markets for identical assets and liabilities that the Bank can access on the measurement date.

 

• Level 2: inputs other than the quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.

 

• Level 3: inputs are unobservable inputs for the asset or liability i.e. they are not based on observable market data.

 

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NOTE 36

FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES, continued

 

The hierarchy level within which the fair value measurement is categorized in its entirety is determined based on the lowest level of input that is significant to the fair value measurement in its entirety.

 

The best evidence of a financial instrument’s fair value at the initial time is the transaction price.

 

In cases where quoted market prices cannot be observed, Management makes its best estimate of the price that the market would set using its own internal models which in most cases use data based on observable market parameters as a significant input (Level 2) and, in very specific cases, significant inputs not observable in market data (Level 3). Various techniques are employed to make these estimates, including the extrapolation of observable market data.

 

Financial instruments at fair value and determined by quotations published in active markets (Level 1) include:

 

-Chilean Government and Department of Treasury bonds

-U.S. Treasury Bonds

 

Instruments which cannot be 100% observable in the market are valued according to other inputs observable in the market (Level 2).

 

The following financial instruments are classified under Level 2:

 

Type of

financial instrument 

Model 

used in valuation 

Description
ž Mortgage and private bonds Present Value of Cash Flows Model

Internal Rates of Return (“IRRs”) are provided by RiskAmerica, according to the following criterion:

If, at the valuation day, there are one or more valid transactions at the Santiago Stock Exchange for a given mnemonic, the reported rate is the weighted average amount of the observed rates.

In the case there are no valid transactions for a given mnemonic on the valuation day, the reported rate is the IRR base from a reference structure, plus a spread model based on historical spread for the same item or similar ones.

 

ž Time deposits Present Value of Cash Flows Model

IRRs are provided by RiskAmerica, according to the following criterion:

If, at the valuation day, there are one or more valid transactions at the Santiago Stock Exchange for a given mnemonic, the reported rate is the weighted average amount of the observed rates.

In the case there are no valid transactions for a given mnemonic on the valuation day, the reported rate is the IRR base from a reference structure, plus a spread model based on issuer curves.

 

ž  Constant Maturity Swaps (CMS), FX and Inflation Forward (Fwd) , Cross Currency Swaps (CCS), Interest Rate Swap (IRS) Present Value of Cash Flows Model

IRRs are provided by ICAP, GFI, Tradition, and Bloomberg according to this criterion:

With published market prices, a valuation curve is created by the bootstrapping method and is then used to value different derivative instruments.

 

ž FX Options Black-Scholes

Formula adjusted by the volatility simile (implicit volatility). Prices (volatility) are provided by BGC Partners, according to this criterion:

With published market prices, a volatility parameter is created by interpolation and then these volatilities are used to value options.

 

In limited occasions significant inputs not observable in market data are used (Level 3). To carry out this estimate, several techniques are used, including extrapolation of observable market data or a mix of observable data.

 

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NOTE 36

FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES, continued

 

The following financial instruments are classified under Level 3:

 

Type of 

financial instrument

Model 

used in valuation

Description of no observable inputs
ž  Caps/ Floors/ Swaptions Black Normal Model for Cap/Floors and Swaptions There is no observable input of implicit volatility.
ž  UF options Black – Scholes There is no observable input of implicit volatility.
ž  Cross currency swap with window Hull-White Hybrid HW model for rates and Brownian motion for FX There is no observable input of implicit volatility.
ž  CCS (special contracts) Implicit Forward Rate Agreement (FRA) Start Fwd unsupported by MUREX (platform) due to the UF forward estimate.
ž  Cross currency swap, Interest rate swap, Call money swap in Tasa Activa Bancaria (Active Bank Rate) TAB, Present Value of Cash Flows Model Validation obtained by using the interest curve and interpolating flow maturities, but TAB is not a directly observable variable and is not correlated to any market input.
ž  Bonds (in our case, low liquidity bonds) Present Value of Cash Flows Model Valued by using similar instrument prices plus a charge-off rate by liquidity.

 

 

The Bank does not believe that any change in unobservable inputs with respect to level 3 instruments would result in a significantly different fair value measurement.

 

The following table presents the assets and liabilities that are measured at fair value on a recurrent basis, as of December 31, 2016 and 2015:

 

  Fair value measurement
As of December 31, 2016   Level 1   Level 2   Level 3
  MCh$   MCh$   MCh$   MCh$
               
Assets              
Trading investments 396,987   396,011   976   -
Available for sale investments 3,388,906   2,471,439   916,808   659
Derivatives 2,500,782   -   2,461,407   39,375
Guarantee deposits (margin accounts) 396,289   396,289   -   -
Total 6,682,964   3,263,739   3,379,191   40,034
               
               
Liabilities              
Derivatives 2,292,161   -   2,292,118   43
Guarantees received (margin accounts) 480,926   480,926   -   -
Total 2,773,087   480,926   2,292,118   43
             

 

Fair value measurement
As of December 31, 2015   Level 1   Level 2   Level 3
  MCh$   MCh$   MCh$   MCh$
               
Assets              
Trading investments 324,271   283,236   41,035   -
Available for sale investments 2,044,411   1,287,589   756,056   766
Derivatives 3,205,926   -   3,166,779   39,147
Guarantee deposits (margin accounts) 649,325   649,325   -   -
Total 6,223,933   2,220,150   3,963,870   39,913
               
               
Liabilities              
Derivatives 2,862,606   -   2,862,606   -
Guarantees received (margin accounts) 819,331   819,331   -   -
Total 3,681,937   819,331   2,862,606   -
               

 

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NOTE 36 

FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES, continued

 

The following table presents assets or liabilities which are not measured at fair value in the statement of financial position but for which the fair value is disclosed, as of December 31, 2016 and 2015:

 

  Fair value measurement
As of December 31, 2016   Level 1   Level 2   Level 3
  MCh$   MCh$   MCh$   MCh$
Assets              
Loans and accounts receivable from customers and interbank loans, net 29,976,931   -   -   29,976,931
Total 29,976,931   -   -   29,976,931
Liabilities              
Deposits and interbank borrowings 22,833,009   -   22,833,009   -
Issued debt instruments and other financial liabilities 8,180,322   -   8,180,322   -
Total 31,013,331   -   31,013,331   -
           

 

 

  Fair value measurement
As of December 31, 2015   Level 1   Level 2   Level 3
  MCh$   MCh$   MCh$   MCh$
               
Assets              
Loans and accounts receivable from customers and interbank loans, net 26,676,836   -   -   26,676,836
Total 26,676,836   -   -   26,676,836
Liabilities              
Deposits and interbank borrowings 21,167,077   -   21,167,077   -
Issued debt instruments and other financial liabilities 6,556,120   -   6,556,120   -
Total 27,723,197   -   27,723,197   -
               

The fair values of others assets and other liabilities approximate their carrying values.

 

The methods and assumptions to estimate the fair value are defined below:

 

- Loans and amounts due from credit institutions and from customers – Fair value are estimated for groups of loans with similar characteristics. The fair value was measured by discounting estimated cash flow using the interest rate of new contracts. That is, the future cash flow of the current loan portfolio is estimated using the contractual rates, and then the new loans spread over the risk free interest rate are incorporated to the risk free yield curve in order to calculate the loan portfolio fair value. In terms of behavior assumptions, it is important to underline that a prepayment rate is applied to the loan portfolio, thus a more realistic future cash flow is achieved.

 

- Deposits and interbank borrowings – The fair value of deposits was calculated by discounting the difference between the cash flows on a contractual basis and current market rates for instruments with similar maturities. For variable-rate deposits, the carrying amount was considered to approximate fair value.

 

- Issued debt instruments and other financial liabilities – The fair value of long-term loans were estimated by cash flow discounted at the interest rate offered on the market with similar terms and maturities.

 

The valuation techniques used to estimate each level are defined in note 1.h.i)

 

There were no transfer between levels 1 and 2 for the year ended December 31, 2016 and 2015.

 

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NOTE 36

FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES, continued

 

The table below shows the effect, at December 31, 2016, on the fair value of the main financial instruments classified as Level 3 of a reasonable change in the assumptions used in the valuation. This effect was determined by a sensitivity analysis under a 1bp scenario, detailed in the following table:

 

Instrument Level 3 Valuation technique Main unobservable inputs

Impacts

(in MCh$)  

Sens. -1bp

Unfavourable scenario

Impacts  

(in MCh$)  

Sens. +1bp Favourable scenario

Derivatives Present Value method Curves on TAB indices (1) (12.30) 12.30
Available for sale investments Internal rate of return method BR UF (2) - -

 

(1)TAB: “Tasa Activa Bancaria” (Active Bank Rate). Average interest rates on 30, 90, 180 and 360 day deposits published by the Chilean Association of Banks and Financial Institutions (ABIF) in nominal currency (Chilean peso) and in real terms, adjusted for inflation (in Chilean unit of account (Unidad de Fomento - UF)).

 

(2)BR: “Bonos de Reconocimiento” (Recognition Bonds). The Recognition Bond is an instrument of money provided by the State of Chile to workers who joined the new pension system, which began operating since 1981.

 

The following table presents the Bank’s activity for assets and liabilities measured at fair value on a recurrent basis using unobserved significant entries (Level 3) as of December 31, 2016 and 2015:

 

  Assets   Liabilities
  MCh$   MCh$
       
As of January 1, 2016 39,913   -
       
Total realized and unrealized profits (losses)      
Included in statement of income 39,376   43
Included in other comprehensive income (108)   -
Purchases, issuances, and loans (net) -   -
       
As of December 31, 2016 79,181   43
       
Total profits or losses included in comprehensive income for 2016 that are attributable to change in unrealized profit (losses) related to assets or liabilities as of December 31, 2015 39,268   43
       

 

  Assets   Liabilities
  MCh$   MCh$
       
As of January 1, 2015 43,665   -
       
Total realized and unrealized profits (losses)      
Included in statement of income (3,634)   -
Included in other comprehensive income (118)   -
Purchases, issuances, and loans (net) -   -
       
As of December 31, 2015 39,913   -
       
Total profits or losses included in comprehensive income for 2015 that are attributable to change in unrealized profit (losses) related to assets or liabilities as of December 31, 2014 (3,752)   -
       

The realized and unrealized profits (losses) included in comprehensive income for 2016 and 2015, in the assets and liabilities measured at fair value on a recurrent basis through unobservable market data (Level 3) are recorded in the Statement of Comprehensive Income.

 

The potential effect as of December 31, 2016 and 2015 on the valuation of assets and liabilities valued at fair value on a recurrent basis through unobservable significant entries (level 3), generated by changes in the principal assumptions if other reasonably possible assumptions that are less or more favorable were used, is not considered by the Bank to be significant.

 

 

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NOTE 36

FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES, continued

 

The following tables show the financial instruments subject to compensation in accordance with IAS 32, for 2016 and 2015:

 

As of December 2016 

  Linked financial instruments, compensated in balance      
Financial instruments Gross amounts Compensated in balance Net amount presented in balance   Remains of unrelated and / or unencumbered financial instruments

Amount in Statements of Financial Position

 

 Assets Ch$ Million Ch$ Million Ch$ Million   Ch$ Million  
Financial derivative contracts 2,237,731 - 2,237,731  

263,051

2,500,782

Investments under resale agreements 6,736 - 6,736  

6,736

Loans and accounts receivable from customers, and Interbank loans, net - - -  

26,415,826

26,415,826

Total

2,244,467 - 2,244,467  

26,678,877

28,923,344

Liabilities            
Financial derivative contracts 2,100,955 - 2,100,955  

191,206

2,292,161

Investments under resale agreements 212,437 - 212,437  

-

212,437

Deposits and interbank borrowings - - -  

22,607,392

22,607,392

Total

2,313,392 - 2,313,392  

22,798,598

25,111,990

  

 

As of December 2016 
  Linked financial instruments, compensated in balance      
Financial instruments Gross amounts Compensated in balance Net amount presented in balance   Remains of unrelated and / or unencumbered financial instruments

Amount in Statements of Financial Position

 

 Assets Ch$ Million Ch$ Million Ch$ Million   Ch$ Million  
Financial derivative contracts 3,011,322 - 3,011,322  

194,604

3,205,926

Obligations under repurchase agreements 2,463 - 2,463  

-

2,463

Loans and accounts receivable from customers, and Interbank loans, net - - -  

24,538,456

24,538,456

Total

3,013,785 - 3,013,785  

24,733,060

27,746,845

Liabilities            
Financial derivative contracts 2,718,401 - 2,718,401  

144,205

2,862,606

Investments under resale agreements 143,689 - 143,689  

-

143,689

Deposits and interbank borrowings - - -  

20,846,462

20,846,462

Total 2,862,090 - 2,862,090   20,990,667 23,852,757

 

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NOTE 36

FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES, continued

 

The Bank, in order to reduce its credit exposure in its financial derivative operations, has entered into collateral contracts with its counterparties, in which it establishes the terms and conditions under which they operate. In terms collateral (received/delivered) operates when the net of the fair value of the financial instruments held exceed the thresholds defined in the respective contracts.

 

  As of December 31, 2016 As of December 31, 2015
Financial derivative contracts  Assets Liabilities   Assets Liabilities
  MM$ MM$   MM$ MM$
           

  Financial derivative contracts with collateral agreement threshold equal to zero

2,134,917 1,986,345   2,613,217 2,410,696

  Financial derivative contracts with non-zero threshold collateral agreement

233,945 238,450   388,677 311,056
  Financial derivative contracts without collateral agreement 131,920 67,366   204,032 140,854
  Total 2,500,782 2,292,161   3,205,926 2,862,606

 

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NOTE 37

RISK MANAGEMENT

 

Introduction and general description

 

The Bank, due to its activities with financial instruments is exposed to several types of risks. The main risks related to financial instruments that apply to the Bank are as follows:

 

-Market risk: rises from holding financial instruments whose value may be affected by fluctuations in market conditions, generally including the following types of risk:

 

a.Foreign exchange risk: this arises as a consequence of exchange rate fluctuations among currencies.

 

b.Interest rate risk: this arises as a consequence of fluctuations in market interest rates.

 

c.Price risk: this arises as a consequence of changes in market prices, either due to factors specific to the instrument itself or due to factors that affect all the instruments negotiated in the market.

 

d.Inflation risk: this arises as a consequence of changes in Chile’s inflation rate, whose effect would be mainly applicable to financial instruments denominated in UFs.

 

-Credit risk: this is the risk that one of the parties to a financial instrument fails to meet its contractual obligations for reasons of insolvency or inability of the individuals or legal entities in question to continue as a going concern, causing a financial loss to the other party.

 

-Liquidity risk: is the possibility that an entity may be unable to meet its payment commitments, or that in order to meet them, it may have to raise funds with onerous terms or risk damage to its image and reputation.

 

-Capital risk: this is the risk that the Bank may have an insufficient amount and/or quality of capital to meet the minimum regulatory requirement to operate as a bank, respond to market expectations regarding its creditworthiness, and support its business growth and any strategic possibilities that might arise, in accordance with its strategic plan.

 

This note includes information on the Bank’s exposure to these risks and on its objectives, policies, and processes involved in their measurement and management.

 

Risk management structure

 

The Board is responsible for the establishment and monitoring of the Bank’s risk management structure, for which purpose it has an on-line corporate governance system which incorporates international recommendations and trends, adapted to Chilean regulatory conditions and given it the ability to apply the most advanced practices in the markets in which the Bank operates.

 

The effectiveness with which we are able to manage the balance between risk and reward is a significant factor in our ability to generate long term, stable earnings growth. Toward that end, our Board and senior management places great emphasis on risk management.

 

A.Integral Risk Committee

 

The Integral Risk Committee of the Board is responsible for reviewing and monitoring all risks that may affect us, including reputation risk, allowing for an integral risk management. This committee serves as the governing body through which the Board supervises risk in general. It also evaluates the reasonability of the systems for measurement and control of risks.

 

·Credit risk

·Market risk

·Operational risk

·Solvency risk (BIS)

·Legal risks

·Compliance risks

·Reputational risks

 

This Committee includes the Vice Chairman of the Board and five Board members. This committee also includes the CEO, the Director of Risk and other senior level executives from the commercial side of our business.

 

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RISK MANAGEMENT, continued

 

B.Audit Committee

 

The Audit Committee (Comité de Directores y Auditoría) is comprised of three members of the Board of Directors. The Committee Secretary is the alternate director Juan Pedro Santa María. The General Counsel is the Committee Secretary. The Chief Executive Officer, General Auditor and other persons from the Bank can be invited to the meetings if necessary and are present on specific matters. This Committee’s primary responsibility is to support the Board of Directors in the continuous improvement of our system of internal controls, which includes reviewing the work of both the external auditors and the Internal Audit Department. The committee is also responsible for analyzing observations made by regulatory entities of the Chilean financial system about us and for recommending measures to be taken by our management in response. This committee also performs functions of a remuneration committee as established in Chilean Law, and reviews annually the salary and bonus programs for the executive officers of the Bank. The external auditors are recommended by this committee to our Board of Directors and appointed by our shareholders at the annual shareholders’ meeting.

 

C.Asset and Liability Committee

 

The ALCO includes the Chairman of the Board and five additional members of the Board, the Chief Executive Officer, the Corporate Financial Controller, the Manager of the Financial Management Division, the Manager of Market Risk, the Manager of the Treasury Division, and other senior members of management. The ALCO meets monthly. All limits reviewed by the ALCO are measured and prepared by the Market Risk Department. The non-Board members of the ALCO meet weekly to review liquidity, funding, capital and market risk related matters.

 

The main functions of the ALCO are:

 

·Making the most important decisions regarding our exposure to inflation, interest rate risk, funding, capital and liquidity levels. The main limits set and monitored by the ALCO (and measured by the Market Risk Department) are:

 

·Review of the Bank’s inflation gap.

 

·Review of the evolution of the most relevant local and international markets and monetary policies.

 

D.Market Committee

 

The Market Committee includes the Vice-Chairman of the Board, three additional members of the Board, the Chief Executive Officer, the Manager of Global Banking and Markets, the Manager of the Treasury Division, the Manager of the Financial Management Division, the Manager of Market Risk, the Financial Controller and other senior members of management.

 

The Market Committee is responsible for:

 

·Establishing a strategy for the Bank’s trading investment portfolio.

 

·Establishing the Bank’s policies, procedures and limits with respect to its trading portfolio. The Bank’s Market Risk Department measures all risks and limits and reports these to the Market Committee.

 

·Reviewing the net foreign exchange exposure and limit

 

·Reviewing the evolution of the most relevant local and international markets and monetary policies.

 

E.Risk Department

 

All issues regarding risk in the Bank are the responsibility of the Bank’s Risk Department. The Risk Department reports to the CEO but has full independence, and no risk decisions can be made without its approval.

 

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NOTE 37

RISK MANAGEMENT, continued

 

Credit risk

 

Credit risk is the risk that one of the parties to a financial instrument fails to meet its contractual obligations for reasons of insolvency or inability of the individuals or legal entities in question to continue as a going concern, causing a financial loss to the other party. The Bank consolidates all elements and components of credit risk exposure to manage credit risk (e.g. individual delinquency risk, inherent risk of a business line or segment, and/or geographical risk).

  

Credit Risk Governance

 

The Risk Division, our credit analysis and risk management group, is largely independent of our Commercial Division. Risk evaluation teams interact regularly with our clients. For larger transactions, risk teams in our headquarters work directly with clients when evaluating credit risks and preparing credit applications. Various credit approval committees, all of which include Risk Division and Commercial Division personnel, must verify that the appropriate qualitative and quantitative parameters are met by each applicant. Each committee’s powers are defined by our Board of Directors.

 

Santander-Chile’s governance rules have established the existence of the Integral Risk Committee. This committee is responsible for revising and following all risks that may affect us, including reputational risk, allowing for an integral risk management. This committee serves as the governing body through which the Board supervises all risk functions. It also evaluates the reasonability of the systems for measurement and control of risks. This Committee includes the Vice Chairman of the Board and five Board members.

 

The Board has delegated the duty of credit risk management to the Integral Risk Committee, as well as to the Bank’s risk departments, whose roles are summarized below:

 

·Formulation of credit policies, by consulting with the business units, meeting requirements of guarantees, credit evaluation, risk rating and submission of reports, documentation and legal procedures in compliance with the regulatory, legal and internal requirements of the Bank.

 

·Establish the structure to approve and renew credit requests. The Bank structures credit risks by assigning limits to the concentration of that risk in terms of individual debtors, debtor groups, industry segment and country. Approval levels are assigned to the correspondent officials of the business unit (commercial, consumer, SMEs) to be exercised by that level of management. In addition, those limits are revised constantly. Teams in charge of risk evaluation at the branch level interact on a regular basis with customers; however, for larger credit requests, the risk team from the head office and the Executive Risk Committee works directly with customers to assess credit risks and prepare risk requests.

 

·Limit concentrations of exposure to customers or counterparties in geographic areas or industries (for accounts receivable or loans), and by issuer, credit rating, and liquidity.

 

·Develop and maintain the Bank’s credit risk classifications for the purpose of classifying risks according to the degree of exposure to financial loss that is exhibited by the respective financial instruments, with the aim of focusing risk management specifically on the associated risks.

 

·Revise and evaluate credit risk. Management’s risk divisions are largely independent of the Bank’s commercial division and evaluate all credit risks in excess of the specified limits prior to loan approvals for customers or prior to the acquisition of specific investments. Credit renewal and reviews are subject to similar processes.

 

The following diagram illustrates the governance of our credit risk division including the committees with approval power:

 

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RISK MANAGEMENT, continued

 

 

Credit Approval: Loans approved on an individual basis

 

In preparing a credit proposal for a corporate client whose loans are approved on an individual basis, Santander-Chile’s personnel verifies such parameters as debt servicing capacity (typically including projected cash flows), the company’s financial history and projections for the economic sector in which it operates. The Risk Division is closely involved in this process, and prepares the credit application for the client. All proposals contain an analysis of the client’s strengths and weaknesses, a rating and a recommendation. Credit limits are determined not on the basis of outstanding balances of individual clients, but on the direct and indirect credit risk of entire financial groups. For example, a corporation will be evaluated together with its subsidiaries and affiliates.

 

Credit Approval: Loans approved on a group basis

 

The majority of loans to individuals and small and mid-sized companies are approved by the Standardized Risk Area through an automated credit scoring system. This system is decentralized, automated and based on multiple parameters, including demographic and information regarding credit behavior from external sources and the SBIF.

 

Loans analyzed on an individual basis

 

For loans that are greater than Ch$150 million (US$225,000), the Bank uses internal models to assign a risk category level to each borrower and its respective loans. We consider the following risk factors: industry or sector of the borrower, the borrower’s competitive position in its markets, owners or managers of the borrower, the borrower’s financial situation, the borrower’s payment capacity and the borrower’s payment behavior to calculate the estimated incurred loan loss. Through these categories, we differentiate the normal loan portfolio from the impaired one.

 

These are our categories:

 

1.Debtors may be classified in risk categories A1, A2, A3 or B (A is applicable if they are current on their payment obligations and show no sign of deterioration in their credit quality and B is different from the A categories by a certain history of late payments). The A categories are distinguished by different PNPs (as defined below).

 

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RISK MANAGEMENT, continued

 

2.Debtors classified as C1, C2, C3, C4, D1 or D2 include debtors whose loans with us have been charged off or administered by our Recovery Unit, or classified as Precontenciosos (PRECO or deteriorated).

 

For loans classified as A1, A2, A3 and B, we assign a specific provision level on an individual basis to each borrower and, therefore, the amount of loan loss allowance is determined on a case by case basis.

 

Estimated Incurred Loan Loss = Loan Loss Allowance

 

The estimated incurred loss is obtained by multiplying all risk factors defined in the following equation:

 

EIL= EXP x PNP x SEV

 

·EIL = Estimated Incurred Loan Loss. The estimated incurred loan loss is how much could be lost in the event a debtor does not perform the obligations under the loan.

·EXP = Exposure. This corresponds to the value of commercial loans.

·PNP = Probability of Non-Performance. This variable, expressed as a percentage, indicates the probability that a debtor will default. This percentage is associated with the internal rating that we give to each debtor, which is determined by analyzing such parameters as debt servicing capacity.

·SEV = Severity. This is the effective loss rate given default for debtors in the same segment, which is determined statistically based on the historical effective losses for us for each segment.

 

Every year, models together with PNP and SEV assumptions, are tested by the Bank’s Credit Risk Department, to ensure that they are appropriate at each reporting date so as to make sure any difference between the estimated incurred losses and real losses is reduced.

 

These tests focus on the validation of the sufficiency of the Bank’s allowances, and consist of comparisons between actual write-offs to allowances established by the model, and the coverage of the total allowance to actual write-offs in the most current periods. Individual loan classification and improvements to any customer classification are also presented for approval to our Risk Committee.

 

In accordance with such policy, every year we update appraisals of fair value of collateral before the end of the 24 month period for certain customers and such updated appraisals are considered in the calculation of the allowance for loan losses. The number of updated appraisals performed in 2013 was 113, in 2014 was 98, in 2015 was 43 and 2016 it was 142, and such updated appraisals were performed mainly because of changes in customer conditions (renegotiation deterioration of financial situation increase in credit line).

 

For loans classified in the C and D categories, loan loss allowances are based mainly on the fair value of the collateral, adjusted for an estimate cost to sell, that each of these loans have. Allowance percentage for each category is then based on the fair value of the collateral, or the expected future cash flow from the loan for each individually evaluated non-performing loans.

 

Loans analyzed on a group basis

 

The Bank uses the concept of estimated incurred loss to quantify the allowances levels over loan analyzed on a group basis. Incurred loss is the expected provision expense that will appear one year away from the balance date of the transaction’s credit risk, considering the counterpart risk and the collateral associated to each transaction.

 

Following the Bank’s definition, the Bank uses group evaluation to approach transactions that have similar credit risk features, which indicate the debtor’s payment capacity of the entire debt, capital and interests, pursuant to the contract’s terms. In addition, this allows us to assess a high number of transactions with low individual amounts, whether they belong to individuals or small sized companies. Therefore, debtors and loans with similar features are grouped together and each group has a risk level assigned to it. These models are meant to be used mainly to analyze loans granted to individuals (including consumer loans, credit lines, mortgage loans and commercial loans) and commercial loans to SMEs.

 

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NOTE 37

RISK MANAGEMENT, continued

 

Allowances are established using these models, taking into account the historical impairment and other known circumstances at the time of evaluation. After this, a historical loss rate is assigned to each portfolio profile constituting each segment. The method for assigning a profile is established based on a statistical building method, establishing a relation through a logistic regression various variables, such as payment behavior in the Bank, payment behavior outside the Bank, various socio-demographic data, among others, and a response variable that determines a client’s risk level, which in this case is 90 days of non-performance. Afterwards, common profiles are established related to a logical order and with differentiate default rates, applying the real historical loss the Bank has had with that portfolio.

 

Our models for loans analyzed on a group basis (consumer loans, residential mortgage loans and small-and-mid-sized commercial loans) are monitored on a monthly basis with respect to predictability and stability, using indices that seek to capture the underlying need to update the models for current loss trends. Therefore, the periods of historical net charge-offs used in the allowance model may be more than a year old as we only update the historical net charge-offs only when our assessment of predictability and stability indicators determine it is necessary.

 

The different risk categories are constructed and updated periodically based on the payment behavior of the client’s profile to which they belong, as well as his or her socio-demographic characteristics. Therefore, when a customer has past due balance or has missed some payments, the outcome is that the customer will move to a different segment with a higher loss rate, therefore capturing current trends for each risk profile.

 

Once the customers have been classified, the loan loss allowance is the product of three factors: Exposure (EXP), Probability of Non-Performance (PNP) and Severity (SEV).

 

EXP = Exposure. This corresponds to the value of commercial loans.

 

PNP = Probability of Non-Performing. This variable, expressed as a percentage, indicates the probability that a debtor will default. This percentage is associated with the internal score that we give to each debtor, which is determined by analyzing such parameters as debt servicing capacity (including, usually, projected cash flows), the company’s financial history, the solvency and capacity of shareholders and management, and projections for the economic sector in which it operates. The internal rating can be different from ratings obtained from external third parties.

 

SEV = Severity. This is the effective loss rate given default for debtors in the same segment, which is determined statistically based on the historical effective losses for us for each segment.

 

Every year, models together with PNP and SEV assumptions, are tested by the Bank’s Credit Risk Department, to ensure that they are appropriate at each reporting date so as to make sure any difference between the estimated incurred losses and real losses is reduced.

 

Allowances for consumer loans

 

The estimated incurred loss rates for consumer loans correspond to charge-offs net of recoveries. The methodology establishes the period in which the estimated incurred loss for each risk profile emerges. Once the loss has been considered to have been incurred, the estimated incurred loss rates are applied to the corresponding risk profile to obtain the net charge-off level associated with this period. The loss rates applied to each risk profile are based only on the historical net charge-off data for that specific profile within one of the four groups of consumer loans. No other statistical or other information other than net charge-offs is used to determine the loss rates.

 

The following diagrams set forth the allowances required by our current models for consumer loans:

 

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NOTE 37

RISK MANAGEMENT, continued

 

Santander:

 

Bank Loan type Allowance Level(1) (Loss rate)
             
Consumer Performing New clients Existing clients    
0.33% -19.40% 0.08%-15.55%    
           
Renegotiated consumer loans which were less than 90 days past due at the time of renegotiation (2) 6.49%-32.09%    
           
Renegotiated consumer loans which were more than 90 days past due at the time of renegotiation (2) 44.05%-100%    
           
Non-performing Days Past Due New Clients Existing Clients Previously Renegotiated
90-120 35.93% 35.93% 44.05%
120-150 44.11% 44.11% 50.38%
150-180 52.77% 52.77% 57.48%
>180 Charged-off

_______________

1.Percentage of loans outstanding

2.This category relates only to loans which were renegotiated and were less than 90 days past due at the time of renegotiation, migrating from such category as they reached 90 days past due since renegotiation.

 

There are two renegotiated categories in our consumer loan portfolio:

 

1.Renegotiated Consumer which were less than 90 days past due at the time of renegotiation. The allowance for loan loss percentages (or loss rates) are assigned based on eight different risk profiles which are determined based on demographic and payment behavior variables.

 

2.Renegotiated Consumer which were more than 90 days past due at the time of renegotiation. The loss rates are assigned based on four different risk profiles which are determined based on the number of days overdue at the time of renegotiation:

 

Profile1: 180 or more days past due

Profile2: between 150 and 180 days past due

Profile3: between 120 and 150 days past due

Profile4: between 90 and 120 days past due

 

Small- and mid-sized commercial loans

 

To determine the estimated incurred loss for individuals (natural persons), small- and mid-sized commercial loans collectively evaluated for impairment, we mainly analyze the payment behavior of clients, particularly the payment behavior of clients with payments that are 90 days or more past-due, clients with other weaknesses, such as early non-performance (i.e., payments that are past-due, though by less than 90 days), clients with modified loans and clients with renegotiated loans, as well as success in recovery against these clients. We also consider whether the loan has underlying mortgage collateral.

 

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The risk categories are such that when a customer has a past-due balance or has missed some payments, the outcome is that the customer will move to a different risk category with a higher loss rate, therefore capturing current trends of the customer and, in the aggregate, current trends in the market.

 

In order to calculate the estimated incurred loan loss for all commercial loans collectively evaluated for impairment, the Bank sub-divided the portfolio in the following way:

 

Loan type Allowance Level(1) (Loss rate)  
Commercial loans analyzed on a group basis Performing

Commercial

loan to individuals

w/o

mortgage collateral

Commercial

loan to

individuals

with mortgage

collateral

Small

Enterprise

Mid-sized  

Enterprise

   
3.72% -46.76% 0.02%-7.89% 0.20%-21.82% 0.11%-16.92    
             
Renegotiated commercial loans which were less than 90 days past due at the time of renegotiation (2) 5.22%-19.54%    
             
Renegotiated commercial loans which were more than 90 days past due at the time of renegotiation (2) Days Past Due when renegotiated Commercial loan to individuals w/o mortgage collateral Commercial loan to individuals with mortgage collateral Small Enterprise Mid-sized  Enterprise  
90-179 50.76% 16.29% 30.07% 24.32%  
180-359 51.89% 23.90% 44.00% 37.64%  
360-719 56.04% 31.46% 50.27% 47.09%  
>720 57.54% 36.69% 53.86% 52.63%  
             
Non-performing consumer Days Past Due Commercial loan to individuals w/o mortgage collateral Commercial loan to individuals with mortgage collateral Small Enterprise

Mid-sized  

Enterprise

Previously renegotiated
90-179 50.76% 16.29% 30.07% 24.32% 24.32%
180-359 51.89% 23.90% 44.00% 37.64% 37.64%
360-719 56.04% 31.46% 50.27% 47.09% 47.09%
>720 57.54% 36.69% 53.86% 52.63% 52.63%
                 

_______________

(1)Percentage of loans outstanding

(2)This category relates only to loans which were renegotiated and were less than 90 days past due at the time of renegotiation, migrating from such category as they reached 90 days past due since renegotiation.

 

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NOTE 37

RISK MANAGEMENT, continued

 

Allowances for residential mortgage loans

 

The provision methodology for residential mortgage loans takes into consideration different factors in order to group customers with less the 90 days past due into seven different risk profiles. Factors considered, in the first place, are whether the customer is a new customer or with prior history with the Bank. For each of these main categories additional factors are considered in order to develop risk profiles within each risk category, including payment behavior, non-performance less than 90 days, collateral levels, renegotiation history with the Bank, and historical amounts of net charge-offs, among others. The explanation for the initial segregation into three categories, existing, new customer, is as follows: an existing customer is a customer for which there is a broader level of information and history of payment behavior with the Bank, while for a new customer the Bank has no history of payment behavior and only information from the banking system and credit bureaus is available. The risk categories are such that when a customer’s payment behavior deteriorates, the outcome is that the customer will move to a different risk category with a higher loss rate, therefore capturing the current status of the customer.

 

Previous to 2016, mortgage loans with more than 90 days past due balances are assigned a loss rate of 11.01%. In 2016, mortgage loans more than 90 days past due balances are assigned a loss rate depending on the loan to value. We determined that 90 days is appropriate, since our historical analysis of customer’s behavior has shown that after 90 days, customers are likely to default on their obligations, and that, over succeeding periods, the loss incurred does not increase given the high fair value of collateral percentage to loan amount required under our credit policies for this type of loan. Also, we note that the Chilean economy’s stability over the last few years has not resulted in other than insignificant fluctuations in collateral fair values on residential mortgage loan properties.

 

The following table sets forth the required loan loss allowance for residential mortgage loans:

 

Bank Loan type Allowance Level(1) (Loss rate)
             
Residential mortgage Performing Bank (excl. Select)   Santander Select    
0.00%-8.30%   0.00%-4.90%    
           
Renegotiated mortgage loans which were less than 90 days past due at the time of renegotiation (2) 0.32%-12.06%    
           
Renegotiated mortgage  loans which were more than 90 days past due at the time of renegotiation (2) 5.72%-20.81%    
           
Non-performing mortgage Loan to Value        
0-60 5.72%      
60-80 8.31%      
80-90 11.60%      
>90 20.81%      

 

1.Percentage of loans outstanding

 

2.This category relates only to loans which were renegotiated and were less than 90 days past due at the time of renegotiation, migrating from such category as they reached 90 days past due since renegotiation.

 

 

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RISK MANAGEMENT, continued

 

The following table shows quality assets and its related provision, based on our internal scoring policy as of December 31, 2016 and 2015:

 

  As of December 31,
Category 2016   2015

Commercial

 Portfolio 

Individual   Percentage   Allowance   Percentage   Individual   Percentage   Allowance   Percentage
MCh$   %   MCh$   %   MCh$   %   MCh$   %
                               
A1 1,599,311   5.88%   923   0.12%   2,073,792   8.20%   1,210   0.17%
A2 6,437,930   23.67%   23,757   3.00%   5,898,065   23.32%   17,353   2.28%
A3 2,030,867   7.46%   29,668   3.75%   1,599,234   6.32%   25,145   3.30%
B 538,909   1.98%   40,545   5.13%   504,937   1.99%   37,157   4.87%
C1 121,893   0.45%   2,176   0.28%   81,767   0.32%   1,635   0.21%
C2 51,034   0.19%   4,555   0.58%   48,569   0.19%   4,857   0.64%
C3 49,901   0.18%   11,136   1.41%   37,663   0.15%   9,416   1.24%
C4 64,118   0.24%   22,894   2.90%   69,952   0.28%   27,981   3.67%
D1 73,462   0.27%   42,625   5.39%   76,157   0.30%   49,503   6.49%
D2 89,857   0.33%   72,192   9.13%   92,682   0.36%   83,414   10.94%
Subtotal 11,057,282   40.65%   250,471   31.69%   10,482,818   41.43%   257,671   33.81%
                               
  Group   Percentage   Allowance   Percentage   Group   Percentage   Allowance   Percentage
MCh$   %   MCh$   %   MCh$   %   MCh$   %
Commercial                              
Normal portfolio 2,741,858   10.08%   58,453   7.39%   2,483,258   9.81%   50,559   6.63%
Impaired portfolio  341,132   1.25%   124,653   15.76%    371,160   1.47%   124,137   16.28%
Subtotal 3,082,990   11.33%   183,106   23.15%   2,854,418   11.28%   174,696   22.91%
Mortgage                              
Normal portfolio 8,221,666   30.22%    23,699   3.00%   7,416,703   29.31%    19,133   2.51%
Impaired portfolio  397,688   1.46%   33,310   4.21%    396,147   1.57%   43,294   5.68%
Subtotal 8,619,354   31.68%   57,009   7.21%   7,812,850   30.88%   62,427   8.19%
Consumer                              
Normal portfolio 4,158,221   15.28%    147,979   18.72%   3,819,361   15.10%    118,006   15.48%
Impaired portfolio  288,584   1.06%   152,040   19.23%    331,310   1.31%   149,501   19.61%
Subtotal 4,446,805   16.34%   300,019   37.95%   4,150,671   16.41%   267,507   35.09%
Total 27,206,431   100.00%   790,605   100.00%   25,300,757   100.00%   762,301   100.00%

 

See Note 29 for more detail of the Bank’s impaired loans and the associated allowances. Also, see Note 19 for a detail of the maturity of the Bank’s financial assets.

 

Credit quality

 

The Bank determines the credit quality of financial assets using internal credit ratings. The rating process is linked to the Bank’s approval and monitoring processes and is carried out in accordance with risk categories established by current standards. Credit quality is continuously updated based on any favorable or unfavorable developments to customers or their environments, considering aspects such as commercial and payment behavior as well as financial information.

 

See credit quality of loans above.

 

In relation to the credit quality of the investment portfolio, local regulations specify that banks are able to hold only local and foreign fixed–income securities except in certain cases. Additionally, Banco Santander Chile has internal policies to ensure that only securities approved by the Market Risk department, which are stated in the documents “APS” – Products and underlying Approval, are acquired. The Credit Risk Department sets the exposure limits to those approved APSs . The APS is updated on daily basis.

 

As of December 31, 2016, 75.74% of our total investment portfolio correspond to securities issued by the Chilean Central Bank and US treasury notes.

 

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NOTE 37

RISK MANAGEMENT, continued

 

Maximum exposure to credit risk

 

Financial assets and off-balance sheet commitments

 

For financial assets recognised in the Consolidated Statement of Financial Position, maximum credit risk exposure equals their carrying value. Below is the distribution by financial asset and off-balance sheet commitments of the Bank’s maximum exposure to credit risk as of December 31, 2016 and 2015, without deduction of collateral, security interests or credit improvements received:

 

    As of December 31,
    2016   2015
    Amount of exposure   Amount of exposure
  Note MCh$   MCh$
         
Deposits in banks 4 1,709,071   1,432,371
Cash items in process of collection 4 495,283   724,521
Trading investments 5 396,987   324,271
Investments under resale agreements 6 6,736   2,463
Financial derivative contracts 7 2,500,782   3,205,926

Loans and accounts receivable from customers and interbank loans, net

8 and 9 26,415,826   24,538,456
Available for sale investments 10 3,388,906   2,044,411
         
Off-balance commitments:        
Letters of credit issued   158,800   178,461
Foreign letters of credit confirmed   57,686   70,417
Guarantees   1,752,610   1,673,580
Available credit lines   7,548,820   6,806,745
Personal guarantees   125,050   163,395
Other irrevocable credit commitments   260,266   82,161
Total   44,816,823   41,247,178

 

Foreign derivative contracts

 

As of December 31, 2016, the Bank’s foreign exposure -including counterparty risk in the derivative instruments’ portfolio- was USD 3,121 million or 5.86% of assets. In the table below, exposure to derivative instruments is calculated by using the equivalent credit risk; which equals the replacement carrying amount plus the maximum potential value, considering the cash collateral that minimizes exposure.

 

Below, there are additional details regarding our exposure to Colombia and Italy, since they are classified above 1 and where the below represents our majority of exposure to categories other than 1. Below we detail as of December 31, 2016, considering fair value of derivative instruments.

 

Country Classification

Derivative Instruments

(adjusted to market)

USD MCh$

Deposits

USD MCh$

Loans

USD MCh$

Financial investments

USD MCh$

Total

Exposure 

USD MCh$ 

Colombia 2 0.82 0.00 0.19 0.00 1.01
Italy 2 0.00 8.77 0.00 0.00 8.77
China 2 0.00 0.00 348.99 0.00 348.99
México 2 0.00 0.09 0.32 0.00 0.41
Panamá 2 0.69 0.00 0.00 0.00 0.69
Perú 2 2.82 0.00 0.00 0.00 2.82
Uruguay 2 0.00 0.00 0.68 0.00 0.68
Other 3 1.32 0.00 0.00 0.00 1.32
Total   5.65 8.86 350.18 0.00 364.69

 

The total amount of this exposure to derivative instruments must be compensated daily with collateral and, therefore, the net credit exposure is USD 0.00.

 

 

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RISK MANAGEMENT, continued

 

Our exposure to Spain within the group is as follows:

 

Counterpart Country Classification

Derivative instruments (market adjusted)

MUSD 

Deposits

MUSD

Loans

MUSD

Financial

Investments

MUSD

Exposure

Exposure

MUSD

Banco Santander España (*) Spain 1 0.00 280.92 - - 280.92

 

Security interests and credit improvements

 

The maximum exposure to credit risk is reduced in some cases by security interests, credit improvements, and other actions which mitigate the Bank’s exposure. Based on the foregoing, the creation of security interests are a necessary but not a sufficient condition for granting a loan; accordingly, the Bank’s acceptance of risks requires the verification of other variables and parameters, such as the ability to pay or generate funds in order to mitigate the risk being taken on.

 

The procedures used for the valuation of security interests utilize the prevailing market practices, which provide for the use of appraisals for mortgage securities, market prices for stock securities, fair value of the participating interest for investment funds, etc. All security interests received must be instrumented properly and registered on the relevant register, as well as have the approval of legal divisions of the Bank.

 

The risk management model includes assessing the existence of adequate and sufficient guarantees that allow recovering the credit when the debtor’s circumstances prevent them from fulfilling their obligations.

 

The Bank has classification tools that allow it to group the credit quality of transactions or customers. Additionally, the Bank has historical databases that keep this internally generated information to study how this probability varies. Classification tools vary according to the analyzed customer (commercial, consumer, SMEs, etc.).

 

Below is the detail of security interests, collateral, or credit improvements provided to the Bank as of December 31, 2016 and 2015.

 

  As of December 31,
  2016   2015
  MCh$   MCh$
Non-impaired financial assets:      
Properties/mortgages 17,560,550   16,849,296
Investments and others 2,326,396   2,287,128
Impaired financial assets:      
Properties/ mortgages 186,297   265,052
Investments and others 2,064   4,268
Total 20,075,307   19,405,744

 

Credit risk mitigation techniques

 

The Bank applies various methods of reducing credit risk, depending on the type of customer and product. As we shall see, some of these methods are specific to a particular type of transaction (e.g. real estate guarantees) while others apply to groups of transactions (e.g. netting and collateral arrangements).

 

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NOTE 37

RISK MANAGEMENT, continued

 

Collateral

 

Banco Santander controls the credit risk through the use of collateral in its operations. Each business unit is responsible for credit risk management and formalizes the use of collateral in its lending policies.

 

Banco Santander uses guarantees in order to increase their resilience in the subject to credit risk operations. The guarantees can be used fiduciary, real, legal structures with power mitigation and compensation agreements. The Bank periodically reviews its policy guarantees by technical parameters, normative and also its historical basis, to determine whether the guarantee is legally valid and enforceable.

 

Credit limits are continually monitored and changed in customer behavior function. Thus, the potential loss values represent a fraction of the amount available.

 

Collateral refers to the assets pledged by the customer or a third party to secure the performance of an obligation. Collateral may be:

 

·Financial: cash, security deposits, gold, etc.

·Non-financial: property (both residential and commercial), other movable property, etc.

 

One very important example of financial collateral is the collateral agreement. Collateral agreements comprise a set of highly liquid instruments with a certain economic value that are deposited or transferred by a counterparty in favor of another party in order to guarantee or reduce any counterparty credit risk that might arise from the portfolios of derivative transactions between the parties in which there is exposure to risk.

 

Collateral agreements vary in nature but, whichever the specific form of collateralisation may be, the ultimate aim, as with the netting technique, is to reduce counterparty risk.

 

Transactions subject to a collateral agreement are assessed periodically (normally on a daily basis). The agreed-upon parameters defined in the agreement are applied to the net balance arising from these assessments, from which the collateral amount (normally cash or securities) payable to or receivable from the counterparty is obtained.

 

For real estate collateral periodic re-appraisal processes are in place, based on the actual market values for the different types of real estate, which meet all the requirements established by the regulator.

 

Specifically, mortgage loans are secured by a real property mortgage, and threshold mitigate counterparty credit risk of derivative instruments. (See note 9 c) ii) and iii), for a detail of the impaired portfolio and non-performing loans with or without guarantee).

 

Net exposure to credit risk

 

The following chart shows the net exposure to the credit risk as of December 31, 2016.

 

As of December 31, 2016

Maximum exposure to credit risk

MCh$

Loans covered by  

Net exposure

MCh$

Mortgage guarantee

MCh$

Other

MCh$

         
Commercial loans 13,867,465 2,032,600 5,000,875 6,833,990
Mortgage loans 8,619,356 8,063,225 - 556,131
Consumer loans 4,446,803 - - 4,446,803
Total 26,933,624 10,095,825 5,000,875 11,836,924

 

Personal guarantees and credit derivatives

 

Personal guarantees are guarantees that make a third party liable for another party’s obligations to the Bank. They include, for example, security deposits and standby letters of credit. Only guarantees provided by third parties that meet the minimum requirements established by the supervisor can be recognized for capital calculation purposes.

 

Credit derivatives are financial instruments whose main purpose is to hedge credit risk by buying protection from a third party, whereby the Bank transfers the risk of the issuer of the underlying instrument. Credit derivatives are OTC instruments, i.e. they are not traded in organized markets.

 

Credit derivative hedges, mainly credit default swaps, are entered into with leading financial institutions.

 

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NOTE 37

RISK MANAGEMENT, continued

 

Assets Received in Lieu of Payment

 

Assets received or awarded in lieu of payment of loans and accounts receivable from clients are recognized at their fair value (as determined by an independent appraisal). The excess of the outstanding loan balance over the fair value is charged to net income for the period, under “Provision for loan losses”. Any excess of the fair value over the outstanding loan balance, less costs to sell of the collateral, is returned to the client. These assets are subsequently adjusted to their net realizable value less cost to sale (assuming a forced sale).

 

At December 31, 2016, assets received or awarded in lieu of payment amounted to Ch$45,935 million (gross amount: Ch$53,493 million ; allowance: Ch$7,558 million).

 

At December 31, 2015, assets received or awarded in lieu of payment amounted to Ch$24,957 million (gross amount: Ch$30,830 million ; allowance: Ch$5,873 million).

 

Liquidity risk

 

Liquidity risk is the risk that the Bank may have difficulty meeting the obligations associated with its financial obligations.

 

Liquidity risk management

 

The Bank is exposed on a daily basis to requirements for cash funds from various banking activities, such as wires from checking accounts, fixed-term deposit payments, guarantee payments, disbursements on derivatives transactions, etc. As typical in the banking industry, the Bank does not hold cash funds to cover the balance of all the positions, as experience shows that only a minimum level of these funds will be withdrawn, which can be accurately predicted with a high degree of certainty.

 

The Bank’s approach to liquidity management is to ensure-- whenever possible--to have enough liquidity on hand to fulfill its obligations at maturity, in both normal and stressed conditions, without entering into unacceptable debts or risking the Bank’s reputation. The Board establishes limits on the minimal part of available funds close to maturity to fulfill said payments as well as over a minimum level of interbank operations and other loan facilities that should be available to cover transfers at unexpected demand levels. This is constantly reviewed. Additionally, the Bank must comply with the regulation limits established by the SBIF for maturity mismatches.

 

These limits affect the mismatches of future flows of income and expenditures of the Bank on an individual basis. They are:

 

i.mismatches of up to 30 days for all currencies, up to the amount of basic capital;

 

ii.mismatches of up to 30 days for foreign currencies, up to the amount of basic capital; and

 

iii.mismatches of up to 90 days for all currencies, twice the basic capital.

 

The Bank’s treasury department (“Treasury”) receives information from all business units about the liquidity profile of its financial assets and liabilities in addition to details from other future cash flows that arise from future business transactions. Based on this information, Treasury keeps a short-term liquid assets portfolio, mainly composed of liquid investments, interbank loans, and advanced payments, to guarantee that the Bank has enough liquidity. Liquidity needs of business units are fulfilled through short-term transfers from Treasury to cover any short-term variation and long-term financing to address all structural liquidity requirements.

 

The Bank monitors its liquidity position daily to establish future flows of inflow and outflow. At each month's closing, stress tests are carried out in which a variety of scenarios are used, from normal market conditions to those that contain significant fluctuations. Liquidity policy and procedures are subjected to review and approval of the Bank’s Board. There are periodic reports which detail the Bank’s, and its subsidiaries’, liquidity position, including any exceptions and adopted correcting measures, which are also reviewed periodically by the ALCO.

 

The Bank relies on customer (retail) and institutional deposits, obligations to banks, debt instruments, and time deposits as its main sources of funding. Although most obligations to banks, debt instruments and time deposits have maturities of more than one year, customer (retail) and institutional deposits tend to have shorter maturities and a large proportion of them are payable within 90 days. The short-term nature of these deposits increases the Bank’s liquidity risk, and hence, the Bank actively manages this risk through continual supervision of the market trends and price management.

 

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NOTE 37

RISK MANAGEMENT, continued

 

Liquidity management seeks to ensure that, even under adverse conditions, we have access to the funds necessary to cover client needs, maturing liabilities and capital requirements. Liquidity risk arises in the general funding for our financing, trading and investment activities. It includes the risk of unexpected increases in the cost of funding the portfolio of assets at appropriate maturities and rates, the risk of being unable to liquidate a position in a timely manner at a reasonable price and the risk that we will be required to repay liabilities earlier than anticipated.

 

The following table sets forth the balance of our liquidity portfolio managed by our Financial Management Division in the manner in which it is presented to the Asset and Liability Committee (ALCO) and the Board. The ALCO has determined that our liquidity portfolio must be comprised of cash plus assets that can be readily convertible into cash either through the Chilean Central Bank window, overnight deposits or instruments or the local secondary market. The management of the Bank’s liquidity portfolio is performed by the Financial Management Division under rules determined by the ALCO.

 

  As of December 31,
  2016 2015
  MCh$ MCh$
Financial investments for trading 396,987 324,271
Available for sale investments 3,388,906 2,044,411
Encumbered assets (net) (1)  (205,703)  (77,647)
Net cash (2)  16,259  (315,415)
Net Interbank deposits (3) 1,335,017 1,683,208
Total liquidity portfolio 4,931,466 3,658,828

 

(1) Assets encumbered through repurchase agreements are deducted from the liquidity portfolio.

(2) Cash minus reserve requirements. As is presented in Note 4 the reserve requirements are established by the monthly average reserves that the Bank must maintain in accordance with regulation governing minimum reserves.

(3) Includes overnight deposits in Central Bank, domestic banks and foreign banks.

 

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NOTE 37

RISK MANAGEMENT, continued

 

Exposure to liquidity risk

 

A similar, yet not identical, measure is the calculation used to measure the Bank´s liquidity limit as established by the SBIF. The Bank determines a mismatch percentage for purposes of calculating such liquidity limit which is calculated by dividing its benefits (assets) by its obligations (liabilities) according to maturity based on estimated repricing. The mismatch amount permitted for the 30 day and under period is 1 times [regulatory] capital and for the 90 day and under period – 2 times [regulatory] capital.

 

The following table displays the actual derived percentages as calculated per above:

 

  As of December 31,
  2016   2015
  % %
30 days (15.00)   38.00
30 days foreign currency 21.00)   -
90 days (37.00   44.00

 

Below, is the breakdown by maturity, of the liability balances of the Bank as of December 31, 2016 and 2015:

 

  Demand Up to 1 month Between 1 and 3 months Between 3 and 12 months Subtotal up to 1 year Between 1 and 3 years Between 3 and 5 years More than 5 years Subtotal after 1 year Total
As of December 31, 2016 MM$ MM$ MM$ MM$ MM$ MM$ MM$ MM$ MM$ MM$
Obligations under repurchase agreements

212,437 

212,437 

-  

212,437

Checking accounts, time deposits and other time liabilities

7,949,315 

6,105,767 

4,193,906 

2,537,299 

 20,786,287

118,101 

13,913 

61,196 

193,210

20,979,497

Financial derivatives contracts -  92,335  122,565  263,893  478,793 494,539 346,948  971,881 1,813,368  2,292,161
Interbank borrowings  4,557  373,423  115,769  1,154,063  1,647,812  233,542  35,014 -  268,556  1,916,368
Issue debt instruments  -  43,141  185,425  922,705  1,151,271 1,168,117 1,444,593  3,562,391 6,175,101  7,326,372
Other financial liabilities  153,049  1,461  1,161 2,817  158,488  58,641  7,766  15,121  81,528 240,016
Subtotal 8,106,921 6,828,564 4,618,826 4,880,777 24,435,088 2,072,940 1,848,234 4,610,589 8,531,763 32,966,851
Contractual interest payments  2,273  56,121  170,861  537,941  767,196 1,762,884 - 987,370 2,750,254  3,517,450
Total 8,109,194 6,884,685 4,789,687 5,418,718 25,202,284 3,835,824 1,848,234 5,597,959  11,282,017 36,484,301

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NOTE 37

RISK MANAGEMENT, continued

 

As of December 31, 2016, the scheduled maturities of other commercial commitments, including accrued interest, were as follows:

 

Other Commercial Commitments Up to 1 month Between 1 and 3 months Between 3 and 12 months Between 1 and 5 years More than 5 years Total
(in millions of Ch$)
Guarantees 79,457 175,437 739,170 592,017 151,435 1,737,516
Confirmed foreign letters of credit 12,247 8,125 8,505 28,809 - 57,686
Letters of credit issued 36,662 82,342 39,768 27 - 158,799
Pledges and other commercial commitments 9,916 11,591 39,811 63,731 - 125,049
Total other commercial commitments 138,282 277,495 827,254 684,584 151,435 2,079,050

 

  Demand Up to 1 month Between 1 and 3 months Between 3 and 12 months Subtotal up to 1 year Between 1 and 3 years Between 3 and 5 years More than 5 years Subtotal after 1 year Total
As of December 31, 2015 MM$ MM$ MM$ MM$ MM$ MM$ MM$ MM$ MM$ MM$
Obligations under repurchase agreements -  143,689 -  -  143,689 -   - - 143,689
Checking accounts, time deposits and other time liabilities  7,932,619

5,707,940 

3,210,947 

2,853,761 

19,705,267 

231,272 

7,661

56,845 

295,778

20,001,045

Financial derivatives contracts -  126,643  190,409  380,158  697,210 679,133 337,598  1,148,665 2,165,396  2,862,606
Interbank borrowings  27,323  7,946  148,509  684,819  868,597  388,626 50,351 -  438,977  1,307,574
Issue debt instruments  1,953  440,500  155,821  213,928  812,202 1,590,546 1,173,536  2,380,811 5,144,893  5,957,095
Other financial liabilities  129,358  3,142  558 3,114  136,172  23,737 44,290  16,328  84,355 220,527
Subtotal 8,091,253 6,429,860 3,706,244 4,135,780  22,363,137 2,913,314 1,613,436  3,602,649 8,129,399 30,492,536
Contractual interest payments  2,075  66,964  141,529  553,736  764,304 1,814,540 - 905,460 2,720,000  3,484,304
Total 8,093,328 6,496,824 3,847,773 4,689,516 23,127,441 4,727,854

1,613,436

4,508,109  10,849,399 33,976,840

 

 

As of December 31, 2015, the scheduled maturities of other commercial commitments, including accrued interest, were as follows:

 

Other Commercial Commitments Up to 1 month Between 1 and 3 months Between 3 and 12 months Between 1 and 5 years More than 5 years Total
(in millions of Ch$)
Guarantees 89,430 142,285 714,747 709,844 28,541 1,684,847
Confirmed foreign letters of credit 16,522 12,504 6,535 34,872 - 70,433
Letters of credit issued 39,552 100,407 37,753 1,330 - 179,042
Pledges and other commercial commitments 11,935 11,179 58,629 82,212 - 163,955
Total other commercial commitments 157,439 266,375 817,664 828,258 28,541 2,098,277

 

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NOTE 37

RISK MANAGEMENT, continued

 

Market risk

 

Market risk arises as a consequence of the market activity, by means of financial instruments whose value can be affected by market variations, reflected in different assets and financial risk factors. The risk can be diminished by means of hedging through other products (assets/liabilities or derivative instruments) or terminating the open transaction/position. The objective of market risk management is to manage and control market risk exposure within acceptable parameters.

 

There are four major risk factors that affect the market prices: type of interest, type of exchange, price, and inflation. In addition and for certain positions, it is necessary to consider other risks as well, such as spread risk, base risk, commodity risk, volatility or correlation risk.

 

Market risk management

 

The Bank’s internal management measure market risk based mainly on the procedures and standards of Banco Santander Spain, which are in turn based on an analysis of three principal components:

 

-trading portfolio;

-domestic financial management portfolio;

-foreign financial management portfolio.

 

The trading portfolio is comprised mainly of investments, valued at fair value, and free of any restriction on their immediate sale, which are often bought and sold by the Bank with the intent of selling them in the short term in order to benefit from short-term price fluctuations. The financial management portfolios include all the financial investments not considered a part of trading portfolio.

 

The ALCO has the general responsibility for the market risk. The Bank’s risk/finance department is responsible for formulating detailed management policies and applying them to the Bank’s operations, in conformity with the guidelines adopted by the ALCO and the Global Risk Department of Banco Santander Spain.

 

The department’s functions in connection with trading portfolio include the following:

 

i.apply the “Value at Risk” (VaR) techniques to measure interest rate risk;

ii.adjust the trading portfolios to market and measure the daily income and loss from commercial activities;

iii.compare the real VaR with the established limits;

iv.establish procedures to prevent losses in excess of predetermined limits; and

v.furnish information on the trading activities to the ALCO, other members of the Bank’s management, and the Global Risk Department of Banco Santander Spain.

 

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NOTE 37

RISK MANAGEMENT, continued

 

The department’s functions in connection with financial management portfolios include the following:

 

i.perform sensitivity simulations (as explained below) to measure interest rate risk for activities denominated in local currency and the potential losses forecasted by these simulations; and

ii.provide daily reports thereon to the ALCO, other members of the Bank’s management, and the Global Risk Department of Banco Santander Spain.

 

Market risk - trading portfolio

 

The Bank applies VaR methods to measure the market risk of its trading portfolio. The Bank has a consolidated commercial position that is made up of fixed income investments, foreign exchange trading, and a minimum position of investments in equity shares. This portfolio is mostly made of Chilean Central Bank bonds, mortgage bonds and corporate bonds issued locally at low risk. At the closing date, the trading portfolio did not show investments in another portfolio.

 

For the Bank, the VaR estimate is done through the historical simulation method which consists of observing the behavior of profit and loss that might have taken place with the current portfolio if the market conditions at a given time had been present and, based on that information, infer maximum losses with a determined confidence level. This method has the advantage of reflecting precisely the historical distribution of market values and not requiring any distribution assumption for a specific probability. All VaR measures are designed to establish the distribution function for the value change in a given portfolio and, once this distribution is known, to calculate the percentile related to the necessary confidence level, which will match the risk value in relation to of those parameters. As calculated by the Bank, the VaR is an estimate of the maximum expected loss of market value of a given portfolio in one day, with 99.00% confidence. It is the maximum loss in one day the Bank could expect in a given portfolio with a confidence level of 99.00%. In other words, it is the loss the Bank would have to deal only 1.0% of the time. VaR provides a single estimation of the market risk that cannot be compared with other market risks. Returns are calculated using a time window of 2 years or, at least, 520 data points gathered since the reference date in the past to calculate VaR.

 

The Bank does not calculate three separate VaRs. Only one VaR is calculated for the entire trading portfolio which, in addition, is separated into risk types. The VaR program carries out a historical simulation and calculates a profit (ganancia or “G”) and loss (pérdida or “P”) G&P Statement for 520 data points (days) for each risk factor (fixed income, currency, and variable income). Each risk factor’s G&P is added and a consolidated VaR is calculated with 520 data points or days. In addition, the VaR is calculated for each risk factor based on the individual G&P calculated for each. Additionally, a weighted VaR is calculated following the above mentioned method but giving a larger weight to the 30 most recent data points. The highest VaR is reported. In 2015 and 2014, we were still using the same VaR model and the methodology has not changed.

 

The Bank uses VaR estimates to issue a warning in case the statistically estimated losses for the trading portfolio exceed the cautionary levels.

 

Limitations of the VaR model

 

When applying a calculation methodology, no assumptions are made regarding the probability distribution of the changes in the risk factors; the historically observed changes are used for the risk factors on which each position in the portfolio will be valued.

 

It is necessary to define a valuation function fj(xi) for each instrument j, preferably the same one used to calculate the market value and income of the daily position. This valuation function will be applied in each scenario to generate simulated prices for all the instruments in each scenario.

 

In addition, the VaR methodology should be interpreted taking into consideration the following limitations:

 

-Changes in market rates and prices may not be independent and identically distributed random variables, and may not have a normal distribution. In particular, the assumption of normal distribution may underestimate the probability of extreme market movements;

 

-The historical data used by the Bank may not provide the best estimate of the joint distribution of changes in the risk factors in the future, and any modification of the data may be inadequate. In particular, the use of historical data may fail to capture the risk of potential extreme and adverse market fluctuations, regardless of the time period used;

 

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RISK MANAGEMENT, continued

 

-A 1-day time horizon may not fully capture the market risk positions which cannot be liquidated or covered in a single day. It would not be possible to liquidate or cover all the positions in a single day;

 

-The VaR is calculated at the close of business, but trading positions may change substantially in the course of the trading day;

 

-The use of a 99% level of confidence does not take account of, or make any statement about, the losses that could occur outside of that degree of confidence; and

 

-A model such as the VaR does not capture all the complex effects of the risk factors over the value of the positions or portfolios, and accordingly, it could underestimate potential losses.

 

At no time in 2016 and 2015 did the Bank exceed the VaR limits in connection with the three components which comprise the trading portfolio: fixed-income investments, variable-income investments and foreign currency investments.

 

The Bank carries out back-testings on a daily basis and, generally, discovers that trading losses exceed the estimated VaR approximately one out of hundred business days. Also, a maximum VaR limit was established that can be applied over the trading portfolio. Both in 2016 and 2015, the Bank has kept within the maximum limit it established for the VaR; even when the real VaR exceeded estimations.

 

High, low and average levels for each component and year were as follows:

 

VaR

2016 

USDMM

 

2015

USDMM

Consolidated:      
High 3.95   3.61
Low 1.08   0.62
Average 2.25   1.38
       
Fixed-income investments:      
High 2.71   3.13
Low 0.55   0.61
Average 1.33   1.23
       
Variable-income investments      
High 0.03   0.19
Low 0.00   0.00
Average 0.00   0.00
       
Foreign currency investments      
High 3.83   3.43
Low 0.61   0.04
Average 1.91   0.64

 

Market risk - local and foreign financial management

 

The Bank’s financial management portfolio includes most of the Bank’s non-trading assets and liabilities, including the credit/loan portfolio. For these portfolios, investment and financing decisions are strongly influenced by the Bank’s commercial strategies.

 

The Bank uses a sensitivity analysis to measure market risk for domestic and foreign currencies (not included in the trading portfolio). The Bank carries out a simulation of scenarios that will be calculated as the difference between current flows in the chosen scenario (curve with a parallel movement of 100 basis points (“bp”) in all its sections) and its value in the base scenario (current market). All positions in domestic currency indexed to inflation (UF) are adjusted by a sensitivity factor of 0.57 which represents a change in the curve of 57bp in all real rates and 100 bp in nominal rates. The same scenario is carried out for net positions in foreign currency and interest rates in USD. In addition, the Bank has established limits regarding maximum loss this kind of movement in interest rates can have over capital and net financial income budgeted for the year.

 

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NOTE 37

RISK MANAGEMENT, continued

 

To establish the consolidated limit, we add the foreign currency limit to the domestic currency limit and multiple by 2 the sum of the multiplication of them together both for net financial loss limit as well as for the capital and reserves loss limit, using the following formula:

 

Consolidatedlimit = square root of a2 + b2 + 2ab

a:domestic currency limit

b:foreign currency limit

Since we assume the correlation is 0; 2ab = 0. 2ab = 0.

 

Limitations of the sensitivity models

 

The most important assumption is using an exchange rate of 100 bp based on yield curve (57 bp for real rates). The Bank uses a 100 bp exchange since sudden changes of this magnitude are considered realistic. Santander Spain Global Risk Department has also established comparable limits by country, so as to compare, control and consolidate market risk by country in a realistic and orderly fashion.

 

In addition, the sensitivity simulation methodology should be interpreted taking into consideration the following limitations:

 

-The simulation of scenarios assumes that the volumes remain consistent in the Bank’s Consolidated Statements of Financial Position and are always renewed at maturity, thereby omitting the fact that certain credit risk and prepayment considerations may affect the maturity of certain positions.

 

-This model assumes an identical change along the entire length of the yield curve and does not take into account the different movements for different maturities.

 

-The model does not take into account the volume sensitivity which results from interest rate changes.

 

-The limits to losses of budgeted financial income are calculated based on the financial income foreseen for the year, which may not be actually earned, meaning that the real percentage of financial income at risk may be higher than the expected one.

 

Market risk – Financial management portfolio – December 31, 2016 and 2015

 

  2016   2015
Effect on financial income Effect on capital   Effect on financial income Effect on capital
           
Financial management portfolio – local currency (MCh$)          
Loss limit 48,000 175,000   32,500 150,000
High 30,853 146,208   29,721 103,091
Low 21,978 108,249   13,882 72,104
Average 26,119 120,159   22,695 88,394
Financial management portfolio – foreign currency (Th$US)          
Loss limit 30 75   30 70
High 14 35   9 15
Low 6 13   - 5
Average 10 26   2 12
Financial management portfolio – consolidated (in MCh$)          
Loss limit 48,000 175,000   34,500 150,000
High 31,764 145,566   29,232 102,002
Low 23,088 107,959   14,129 70,741
Average 27,390 119,632   22,390 87,095

 

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RISK MANAGEMENT, continued

 

Capital risk

 

The Group defines capital risk as the risk that the Group or any of its companies may have an insufficient amount and/or quality of capital to: meet the minimum regulatory requirements in order to operate as a bank; respond to market expectations regarding its creditworthiness; and support its business growth and any strategic possibilities that might arise, in accordance with its strategic plan.

 

The objectives in this connection include most notably:

 

To meet the internal capital and capital adequacy targets

To meet the regulatory requirements

To align the Bank’s strategic plan with the capital expectations of external agents (rating agencies, shareholders and investors, customers, supervisors, etc.)

To support the growth of the businesses and any strategic opportunities that may arise

 

The Group has a capital adequacy position that surpasses the levels required by regulations.

 

Capital management seeks to optimize value creation at the Bank an at its different business segment. The Bank continuously evaluates it risk-return ratios through its basic capital, effective net equity, economic capital and return on equity. With regard to capital adequacy, the Banks conducts its internal process based on the SBIF standards which are based on Basel Capital Accord (Basel I). Economic capital is the capital required to support all the risk of the business activity with a given solvency level.

 

Capital is managed according to the risk environment, the economic performance of Chile and the business cycle. Board may modify our current equity policies to address changes in the mentioned risk environment.

 

Minimum Capital

 

Under the General Banking Law, a bank is required to have a minimum of UF800,000 (approximately Ch$21,078 million or U.S.$31.6 million as of December 31, 2016) of paid-in capital and reserves, calculated in accordance with Chilean GAAP.

 

Capital adequacy requirement

 

Chilean banks are required by the General Banking Law to maintain regulatory capital of at least 8% of risk-weighted assets, net of required loan loss allowance and deductions, and paid-in capital and reserves (“basic capital”) of at least 3% of total assets, net of required loan loss allowances. Regulatory capital and basic capital are calculated based on the consolidated financial statements prepared in accordance with the Compendium of Accounting Standards issued by the SBIF the Chilean regulatory agency. As we are the result of the merger between two predecessors with a relevant market share in the Chilean market, we are currently required to maintain a minimum regulatory capital to risk-weighted assets ratio of 11%. As of December 31, 2016, the ratio of our regulatory capital to risk-weighted assets, net of loan loss allowance and deductions, was 13.4% and our core capital ratio was 10.5%.

 

Regulatory capital is defined as the aggregate of:

 

·a bank’s paid-in capital and reserves, excluding capital attributable to subsidiaries and foreign branches or capital básico;

 

·its subordinated bonds, valued at their placement price (but decreasing by 20.0% for each year during the period commencing six years prior to maturity), for an amount up to 50.0% of its basic capital; and

 

·its voluntary allowances for loan losses for an amount of up to 1.25% of risk weighted-assets.

 

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NOTE 37

RISK MANAGEMENT, continued

 

The levels of basic capital and effective net equity at the close of each period are as follows:

 

      Ratio
  As of December 31,   As of December 31,
  2016   2015   2016   2015
  MCh$   MCh$   %   %
Basic capital 2,868,706   2,734,699   7.22   7.31
Regulatory capital 3,657,707   3,538,216   13.43   13.37

 

Risk Concentration

 

The Bank operates mainly in Chile, thus most of its financial instruments are concentrated in that country. See Note 9 of the financial statements for a detail of the concentration of the Bank’s loans and accounts receivable by industry.

 

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NOTE 38

SUBSEQUENT EVENTS

 

On January 4, 2017, the Bank placed a Senior Bond placement corresponding to its "T-9" line for an amount of 5,000,000 UF.

 

On January 5, 2017, the Bank made an assignment of credits punished to Private Investment Funds Portfolio Thirteen. The total number of loans granted amounted to 244 credits, representing eighty-two clients, totaling $3,886,015,860 pesos, as the sum of the unpaid balance of the capital of each loan. The price of the assignment was $777,203,172 pesos, which generated an effect in result for this same amount.

 

At the Extraordinary Shareholders' Meeting held on January 9, 2017, the following matters were approved in relation to the modification of corporate name, reduction of directors, updating of established capital stock, deletion of transitional clauses, adoption of agreements modification Statutes, and empowerment:

 

i.Modify the name or corporate name of the Bank, only in the sense of eliminating the possibility of using the names Banco Santander Santiago or Santander Santiago;

 

ii.Decrease the number of directors from 11 to 9 members, with the two alternate directors remaining; And consequently modify other related statutory clauses; And incorporate into the Bylaws a Transitory Provision, without being an integral part thereof, in the sense that the current directors-in-office continue in their positions up to the date of the next Ordinary Shareholders' Meeting;

 

iii.Update the capital stock to the amount of $891,302,881,691, which includes amount of $215,394,964,605, corresponding to the revaluation of the bank's capital stock, accumulated from January 1, 2002 to December 31 of the year 2008, the latter date from which the Generally Accepted Accounting Principles, which were replaced by the new Compendium of Accounting Standards established by the Superintendency of Banks and Financial Institutions in 2009, ceased to apply to the accounting of the bank, whose principles and standards, as of that year, do not establish adjustments due to inflation; and to agree on the elimination of the Second Transitory Article of the Bylaws, which relates to the composition of capital stock, which has produced all its effects and is not necessary to be maintained in the bylaws. The number of shares in which the capital stock is divided does not suffer alteration.

 

iv.Suppress the First Transitory Clause of the Bylaws, which relates to the effects of the merger by absorption of the former Banco Santander with Banco Santiago, now Banco Santander - Chile;

 

v.Modify other aspects of the By-Laws in order to bring them into line with current legal regulations, including the deletion of "General" or "General" Articles in various Articles, as they are now simply Ordinary or Extraordinary Shareholder Meetings; Modify the statutory provision on loss, theft, theft or destruction of stock certificates; To amend Article Twenty-Four concerning the operation of the Board of Directors and to amend the final paragraph of Article Forty-sixth, concerning the quorum to adopt agreements for the non-distribution of dividends at shareholders' meetings, adapting it to article 79 of Law No. 18.0456, which Is fully applicable to banks.

 

vi.Considering the amendments to the previous paragraphs, an updated consolidated text of the Bank's Articles of Association was approved.

 

vii.Provision of powers that are necessary to comply and carry out the agreements that were adopted at that meeting.

 

On January 13, 2017, the Bank placed a Senior Bond placement corresponding to its "T-13" line for an amount of 5,000,000 UF.

 

The Consolidated Financial Statements of Banco Santander Chile as of and for the period ended December 31, 2016, were approved by the Directors and Audit Committee on March 16, 2017.

  

Between January 1, 2017 and the date on which these Consolidated Financial Statements were issued (March 24, 2017), no other events have occurred which could significantly affect their interpretation.

 

     

FELIPE CONTRERAS FAJARDO

 

Chief Accounting Officer

 

 

CLAUDIO MELANDRI HINOJOSA

 

Chief Executive Officer

 

 

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Exhibit 8.1

 

Subsidiaries

 

The following table sets forth our significant subsidiaries as of December 31, 2016, including the ownership interest and, if different, percentage of voting power held by us. All of our significant subsidiaries are incorporated in Chile.

 

   

Percent ownership share

As of December 31, 

   

2016 

Name of the Subsidiary 

Main activity 

Direct 

Indirect 

Total 

    % % %
Santander Corredora de Seguros Limitada Insurance brokerage 99.75 0.01 99.76
Santander Corredores de Bolsa Limitada Financial instruments brokerage 50.59 0.41 51.00
Santander Agente de Valores Limitada Securities brokerage 99.03    — 99.03
Santander S.A. Sociedad Securitizadora Purchase of credits and issuance of debt instruments 99.64    — 99.64
Santander Servicios de Recaudación y Pagos Limitada Support business, making and receiving payments      —    —      —

 

 

 

  

Exhibit 12.1

 

CHIEF EXECUTIVE OFFICER SECTION 302 CERTIFICATION

 

I, Claudio Melandri, certify that:

 

1.I have reviewed this annual report on Form 20-F of Banco Santander-Chile;

 

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

 

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the company as of, and for, the periods presented in this report;

 

4.The company’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the company and have:

 

a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure the material information relating to the company, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

 

b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under, our supervision to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

 

c)Evaluated the effectiveness of the company’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

 

d)Disclosed in this report any change in the company’s internal control over financial reporting that occurred during the period covered by the annual report that has materially affected, or is reasonably likely to materially affect, the company’s internal control over financial reporting; and

 

5.The company’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the company’s auditors and the audit committee of the company’s board of directors (or persons performing the equivalent functions):

 

a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the company’s ability to record, process, summarize and report financial information; and

 

b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the company’s internal control over financial reporting.

 

Date: March 24, 2017

 

         /s/ Claudio Melandri
  Name: Claudio Melandri
  Title: Chief Executive Officer

 

 

 

 

 

 

 

 

   

Exhibit 12.2

 

CHIEF FINANCIAL OFFICER SECTION 302 CERTIFICATION

 

I, Emiliano Muratore, certify that:

 

1.I have reviewed this annual report on Form 20-F of Banco Santander-Chile;

 

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

 

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the company as of, and for, the periods presented in this report;

 

4.The company’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the company and have:

 

a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure the material information relating to the company, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

 

b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under, our supervision to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

 

c)Evaluated the effectiveness of the company’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

 

d)Disclosed in this report any change in the company’s internal control over financial reporting that occurred during the period covered by the annual report that has materially affected, or is reasonably likely to materially affect, the company’s internal control over financial reporting; and

 

5.The company’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the company’s auditors and the audit committee of the company’s board of directors (or persons performing the equivalent functions):

 

a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the company’s ability to record, process, summarize and report financial information; and

 

b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the company’s internal control over financial reporting.

 

Date: March 24, 2017

 

         /s/ Emiliano Muratore
  Name: Emiliano Muratore
  Title: Chief Financial Officer

 

 

 

 

 

 

 

  

Exhibit 12.3

 

FINANCIAL CONTROLLER SECTION 302 CERTIFICATION

 

I, Guillermo Sabater, certify that:

 

1.I have reviewed this annual report on Form 20-F of Banco Santander-Chile;

 

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

 

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the company as of, and for, the periods presented in this report;

 

4.The company’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the company and have:

 

a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure the material information relating to the company, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

 

b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under, our supervision to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

 

c)Evaluated the effectiveness of the company’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

 

d)Disclosed in this report any change in the company’s internal control over financial reporting that occurred during the period covered by the annual report that has materially affected, or is reasonably likely to materially affect, the company’s internal control over financial reporting; and

 

5.The company’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the company’s auditors and the audit committee of the company’s board of directors (or persons performing the equivalent functions):

 

a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the company’s ability to record, process, summarize and report financial information; and

 

b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the company’s internal control over financial reporting.

 

Date: March 24, 2017

 

         /s/ Guillermo Sabater
  Name: Guillermo Sabater
  Title: Financial Controller

 

 

 

 

 

 

 

 

 

  

Exhibit 13.1

 

Section 906 Certification

 

The certification set forth below is being submitted in connection with the Annual Report on Form 20-F for the year ended December 31, 2016 (the “Report”) for the purpose of complying with Rule 13a-14(b) or Rule 15d-14(b) of the Securities Exchange Act of 1934 (the “Exchange Act”) and Section 1350 of Chapter 63 of Title 18 of the United States Code.

 

Claudio Melandri, the Chief Executive Officer, Emiliano Muratore, the Chief Financial Officer, and Guillermo Sabater, the Financial Controller, of Banco Santander-Chile, each certifies that, to the best of his knowledge:

 

1.the Report fully complies with the requirements of Section 13(a) or 15(d) of the Exchange Act; and

 

2.the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of Banco Santander-Chile.

 

Date: March 24, 2017

 

       /s/ Claudio Melandri
Name: Claudio Melandri
Title: Chief Executive Officer
 

       /s/ Emiliano Muratore
Name: Emiliano Muratore
Title: Chief Financial Officer
 

       /s/ Guillermo Sabater
Name: Guillermo Sabater
Title: Financial Controller