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Banco Bradesco SA (ADR) (BBD): Is the Brazilian Banking Industry Growing?

Banco Bradesco SA (ADR) (NYSE:BBD)Lending in Brazil has more than doubled over the last decade amid strong economic growth. Although the pace of growth has slowed over the past two years, bank executives expect lending to grow a solid 15% this year.

The Brazilian banking industry is highly concentrated in the hands of strong local players, including the two main private-sector banks, Itau Unibanco Holding SA (ADR) (NYSE:ITUB) and Banco Bradesco SA (ADR) (NYSE:BBD), and two state-owned banks, Banco do Brasil and Caixa Economica Federal. These four banks hold almost 70% of the financial system’s assets.

There have been concerns about the Central Bank of Brazil’s target rate decisions. The Bank reduced the SELIC rate over the course of 2012, but it increased the rate by 25 basis points in April 2013 in an attempt to rein in inflation. However, this trend doesn’t seem viable, as the real problem is Brazil’s anemic growth rate.

A Brazilian state-run bank in expansion

Brazil’s state-run Banco do Brasil posted a disappointing first-quarter net profit of $1.3 billion, up 2.4% year over year (y-o-y), as declining revenue offset the effects of faster loan disbursements and the reduction of provisions expenses due to a drop in default rates. Interest income dropped sharply and return-on-equity (ROE) fell to 16.5%, the lowest level in at least four years.

The Brazilian government is using state-run banks to prompt a continued expansion of credit to fuel economic recovery. In 2012, the bank posted an expansion of almost 25% of its credit portfolio, eclipsing its major private rivals. This quarter total loans rose 25.6% to $296.4 billion.

It should be noted that the bank is focusing on overseas acquisitions. Vice-President for Finance Ivan Monteiro said recently that Latin America and the US markets are priorities within the bank’s strategy. In 2010 the bank bought control of Argentina’s fourth largest bank, and in 2012 it paid $6 million to purchase a small bank in Florida.

Private banking

Brazil’s largest private-sector bank reported a first quarter net profit of $1.7 billion, up 1.2% y-o-y. Operating revenues declined 3.6%, reflecting a lower financial margin, partially offset by elevated banking service fees and income from banking charges. The company managed to reduce provisions for loans and lease losses.

Itau Unibanco Holding SA (ADR) (NYSE:ITUB)’s credit portfolio reached $217.0 billion, up 6.9% y-o-y. ROE continue to decrease, moving from 20.0% in the year-ago quarter to 19.1%.

With the intention of expanding operations in Brazil and abroad, Itau entered into a series of transactions. In 2012, Itau acquired 49.98% of Redecard. Also in 2012, the bank received authorization from the Colombian regulatory authorities to structure wholesale and investment banking operations in Colombia.

Recently Itau Unibanco Holding SA (ADR) (NYSE:ITUB) said it has agreed to buy the local consumer finance unit of Citigroup for $1.38 billion. The deal is subject to approval by regulatory authorities.

A bank seeking growth

In the first quarter Banco Bradesco SA (ADR) (NYSE:BBD) recorded adjusted net income of $1.5 billion, up 3.2% y-o-y, matching market expectations. Net interest income rose 0.8% to $6.0 billion, and fee and commission income came in at $2.3 billion, up 13% y-o-y. ROE was 17%.

Loans rose 12% to $195.9 billion, and the bank continues to expect growth of 13%-17% in its loan portfolio in 2013.

Banco Bradesco SA (ADR) (NYSE:BBD)’s non-performing loan ratio continued its recent stabilizing trend, as loans delinquent 90 days or more accounted for 4.0% of the portfolio, compared with 4.1% in the first quarter a year earlier. This is very important, as Banco Bradesco SA (ADR) (NYSE:BBD) has been seeking expansion by offering banking services to the low and medium-income segments of the population, which tends to lower the quality of its credit portfolio and increase loan losses.

Bottom line

In spite of increasing competition and the stressed conditions in the Brazilian economy, banks’ profitability continue to grow. However, in the case of Banco do Brasil, its latest results corroborated a view among investors that the bank is sacrificing profits to gain market share. Not a good sign.

A more attractive investment is Itau. Its diversified product mix, cost control and expanded credit portfolio are encouraging. Also, Itau’s expanding operations in Brazil and abroad will definitely boost the company’s profitability.

Banco Bradesco SA (ADR) (NYSE:BBD) I like, but it comes with a price: higher risk. The bank will probably need to face higher loan losses than competitors in the near term, but it should be able to adjust its risk/reward profile and maintain its ROE around 20%.

The article Is the Brazilian Banking Industry Growing? originally appeared on Fool.com and is written by Victor Selva.

Victor Selva has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Victor is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.

Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

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