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IN 1959, WHEN Luiz Carlos Trabuco Cappi was eight years old, French author Jacques Lambert published The two Brazils. This came out two years after fellow countryman Roger Bastide’s authoritative Brazil: Land of contrasts. In 1969, when the young Trabuco joined Bradesco, these books were widely acknowledged within the country as seminal academic texts on the huge but disparate land of his birth.
For most of Trabuco’s subsequent career – 42 years and counting, which have taken him from branch cashier to bank president – the main theses of these books remained true and relevant: Brazil’s huge regional differences in poverty and wealth, education, housing and social opportunity, and mobility.
Recently, however, these have become books for students of history not economics. "They were written a long time ago now," says Trabuco, who still has copies in his office. "Their arguments are losing ground; the country is becoming more equal."
Trabuco says the nation’s shifting economics are playing to Bradesco’s advantage. Itaú and Unibanco (now merged) both focused on the wealthy south and east, as well as metropolitan areas. They seem to have been happy to leave more rural and poorer states to Bradesco – as well as state banks, such as Banco do Brasil – pursuing a strategy of attracting new customers as they become more affluent, rather than attempting to catch them before they became wealthy.
Trabuco, though, thinks today’s economic convergence is creating a shift in the wealth distribution of the country – and one that is playing to Bradesco’s wider coverage. "Bradesco is the best-prepared bank in the Brazilian banking system to seize the benefits of the convergence of regional disparity," says Trabuco. "We are the largest bank in the north and the centre of Brazil."
(Trabuco uses the word ‘seize’ regularly during the interview, in relation to opportunities deriving from the bank’s distribution strategy, from its retail and corporate banking businesses, through to its recent large investments in new technology.)
"The regions in the north-east are growing much faster than elsewhere and converging to more medium levels of income," Trabuco continues. "We are the bank that is benefiting most from this process; this growth will help us reduce the difference in size between us and Itaú."
Trabuco points to the recent example of the retailer Magazine Luiza as anecdotal evidence of Brazil’s changing economics and, thus, internal migration. He says: "The company just improved its operations in the north-east. It was able to recruit many well-qualified workers that wanted to move back to the north-east from São Paulo. It’s a very interesting process."
The example is the manifestation of what Trabuco believes is the second phase of Brazilian growth, the first phase being Brazilian population growth within its economic class. Trabuco believes he can now identify a new phase, where continued economic growth and better education is leading to greater social mobility within economic classes.
"All that social mobility in the context of our already consolidated banking system gives us a lot of opportunity," he says. "The global banks have their own problems, which gives us, the private Brazilian banks, lots of opportunities to seize these opportunities."
Greater wealth is not just being generated in the poor states’ retail banking markets, companies in these areas are also flourishing. Trabuco believes the bank’s better regional penetration will lead to better growth opportunities relative to the competition.
"An important part of the process, in terms of the mobility, is happening through companies," says Trabuco. "For decades, Brazil had about 3 million companies but now we have between 5.5 million and 6 million. We think that number needs to double in the next couple of years to produce the goods and services demanded by more than 200 million consumers."
He argues that Bradesco’s broader geographical coverage will be an advantage for both retail and corporate banking growth. "Our strategy has been to have national coverage, to be 100% present in every municipality," says Trabuco. "Presence gives us a big competitive advantage, and we want to provide to all of our clients all of the products we have on our shelves. Bradesco is transforming comparative advantages into competitive advantages."
Gone postal
But Bradesco knows it will be challenged in its nationwide strategy. In June, Bradesco lost out to Banco do Brasil for the right to offer banking services in the country’s 6,195 post offices. At first blush, the loss (Barclays Capital says Bradesco’s final bid was for R$2.25 billion ($1.3 billion) compared with Banco do Brasil’s R$2.3 billion) looked to be a spanner in the works of Bradesco’s national-reach strategy, but the bank has been operating the franchise for the past 10 years and Trabuco points out that the customers who gained during this time will remain Bradesco customers – unless they opt out.
"Ten years ago, when we went through the bidding process for Banco Postal, almost no other bank was interested, but we knew then that we wouldn’t be the owner of Banco Postal," says Trabuco. "So throughout these 10 years, we prepared the bank. We know where the best places are – the ones that give more revenue and income – and we know these municipalities, the people and the clients. The clients are our own clients. When we release back to Banco Postal at the end of the year, we will have full alternative coverage of these branches."
In a recent report, rating agency Moody’s forecast that the bank’s core earnings ratio, which was up 40 basis points to 7.24%, would be put under pressure. "[Bradesco’s] profitability will likely be affected by the additional investment to expand the scale of distribution, as the bank works to replace Banco Postal’s service outlets, to maintain market share and remain competitive," the report states.
Trabuco says the bank is not releasing the costs associated with the development of the network to mitigate the loss of Banco Postal, but does say it will be less than the value of the bid, and the extra annual costs associated with any expansion will be less than the annual tariff paid to Banco Postal.
Happy history
Trabuco recalls that in 2000 the front cover of Brazilian financial magazine Exame posed the question: Will local banks be able to survive the international competition? He says that a mix of domestic consolidation, prudential regulations and regulators, and conservative banking philosophy have led to Brazilian banks entering the second decade of this century much stronger relative to the international competition. But lucky timing was also critical. "In the beginning of the 21st century, we used to think the Brazilian banking system would be an international banking system where foreign banks would dominate because of their liquidity and capital." But that didn’t come true, he adds, because "just as Brazilian banks joined the party they stopped serving drinks".
In Trabuco’s analogy, in 2008, before Brazil could join the party, the bar closed, the music stopped and Brazil avoided the morning after. Brazil’s banks are highly capitalised and have no sub-prime investments. "The low leverage ratios, the high level of capital and the low penetration of credit are a bonus that comes from the period before the crisis when we were lagging behind. And we’ve also learned a lot from that crisis."
Not only are the banks highly capitalized, with a system-wide regulatory tier-1 capital ratio of 11% compared with 8% globally, but Brazil’s central bank also requires banks to deposit reserves with the central banks against its loans. The measure started as a monetary policy instrument, intended to cool down the growth of credit in the system, but now, standing at a total of R$420 billion, it is also a big counter-cyclical cushion that can be released back in the system if there is a need to recapitalize. Also, the central bank’s foreign currency reserves of $350 billion protect against any systemic liquidity crisis being transmitted from foreign banking systems into Brazil.
Bradesco is, then, protected by operating in a country that is relatively protected against global financial crises, but does Trabuco think Brazil’s strong domestic individual credit growth is risking an insolvency hangover? Credit growth in Brazil has been spectacular, and studies say that one-third of Brazilians’ disposable income is spent servicing debt. Bradesco’s non-performing loans in its personal loan portfolio are now at 5.7%, up from 5.4%. The bank has been increasing its reserves against bad loans. "The credit cycles are normal in Brazil – stop and go in the classical model," says Trabuco. "For many years, we have had credit growth of 30%; right now it is about 15%, a very reasonable level in terms of global comparison. The central bank released data that said NPLs were 6.7% for the system average and our models suggest it will peak in the third and fourth quarters at 7.1%, and then come down in the first half of 2012."
Brazil’s economy is slowing, though, with annualized growth figures in June of 4.2%, compared with 2010 annual growth of 7.5%. The central bank cut interest rates in mid-October by another 50bp to 11.5%, following the same size reduction in early September, citing the need to promote growth over the need to fight inflation. Trabuco, though, is confident that trend growth will be higher than that. "Bradesco has a realistic view; I wouldn’t say it’s a very opportunistic one," he explains. "What we think is that all these conditions of greater mobility, both corporate and individuals, will lead to growth. Plus there is a need to boost the gaps in infrastructure. Even if there is just a small move in that direction, we think that will boost our growth to between 4% and 5%. We don’t think that is being triumphalist."
Falling interest rates, should they continue, provide a challenge as well as an opportunity. "At some point in time in Brazil, interest rates will drop and at that time the winning Brazilian banks will be the ones that have the scale to deliver goods and products throughout the country," says Trabuco.
Will the desire for even greater scale lead to acquisitions? The Brazilian banking system is dominated by Bradesco, Itaú and Banco do Brasil, as well as foreign banks HSBC and Santander (the latter is listed on the Brazilian stock exchange), but below the top level there are few banks with scale. Many are reported to be struggling and the central bank is trying to facilitate ordered consolidation of the smaller banks. Do any interest Bradesco?
"No, we don’t see any opportunity for acquisitions right now," says Trabuco. "The small or medium-sized banks are more likely to merge among themselves. And we don’t aim to acquire retail operations abroad as we don’t want to add foreign risks to our operations here. We are going to grow retail organically in Brazil so we can control each step and reduce risk. We are increasing our distribution network and the number of branches – we are hiring new workers and we see this as an interesting opportunity."
Global acquisitions will be reserved for businesses that fit within the continuing globalization of the global economy – investment banking and securities, asset management and private banking acquisitions abroad are being looked at "to seize the benefits of globalization" and add to the bank’s foreign presence in the US, the UK, continental Europe, Asia and China.
Trabuco acknowledges that Itaú BBA, the wholesale and investment banking division of its main domestic rival, is ahead of Bradesco’s investment banking business, Bradesco BBI. However, he isn’t conceding defeat. The bank is investing in its personnel and capabilities in this area, and Trabuco hints that the lull in the international securities markets is giving the bank an opportunity to make up ground on its rivals. Bradesco BBI also has a new man in charge to oversee the challenge – Sergio Clemente, replacing Norberto Barbedo, who is, according to a bank spokesperson, leaving Bradesco for personal reasons.
Bradesco BBI has a track record, too, with the global co-ordinating role on Petrobras’ 2010 record-breaking follow-on transaction at the top of its CV. "The Petrobras deal was a very important example to our peers that we are active and competitive," says Trabuco. "We are prepared for the challenge ahead. The capital markets in the global economy are going through an uncertain period, with lots of risk aversion, but some day that will pass and by that point we will be ready to seize the benefits of new capital markets moving forward.
"There are more than 1,000 companies in Brazil that have the potential to conduct IPOs. They include many in Piauí, Ceará and Goiás, which are small states that used to be poor, but are growing and they have a lot of companies that could go through IPOs."
These theoretical IPOs would be in Bradesco’s Brazilian heartlands, creating wealth for the bank’s asset management arm and the private bank. The bank’s asset management business increased its market share by 10bp in the last quarter to 16.6%. Bradesco Asset Management now has AUM of R$310.7 billion, up 7.5% in the previous three months, despite the fierce competition in the segment and the continued entrance of new players – growth that Trabuco attributes to the bank’s decision to make the asset management an independent subsidiary with its own management.
It would be a virtuous circle of wealth and growth, but, as with Banco Postal, Bradesco can’t expect to have this growth to itself. The competition will – and is – reacting and the bank faces a fight if it is to succeed in its attempts to turn its comparative advantage into competitive advantage.
Edge
When asked, in early October, if he was short on any Brazilian banking stocks, a São Paulo-based hedge fund manager replied he was only long on one: Bradesco. When asked why he was more positive on Bradesco than the others, his response was one word: "Insurance."
Bradesco’s insurance business, Seguros, brings in about one-third of the group’s net income and Trabuco thinks it is a considerable source of competitive advantage. He makes the case for growth in this business by painting a macro-picture: "Brazil is the seventh biggest economy in the world, but the insurance market is the 18th largest, so there is huge upside potential. If you look at the 10 richest countries, they spend close to $1,000 per capita on insurance products and in Brazil we spend less than $300. There is a potential to triple revenues in the coming years."
The insurance company is being imaginative in its pursuit of this growth. It now owns 44% of OdontoPrev, the largest dental company in Brazil. Trabuco is chairman of the insurance company’s council. "If it makes sense for the insurance company to have a dental company, then why not?" says Trabuco. "It makes sense and we will benefit from the synergy from the distribution system."
It’s that distribution system again. The widest network of branches – and therefore reach – in the country could just be about to pay off as the winds of economic change blow in Bradesco’s favour.
