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CHAIRMAN'S REPORT
Fellow shareholders, The operational results of Queen City Development Bank, Inc. for the year 2008 were not what we expected. While our financial performance was strong in the first half of the year, the results in the second half were severely depressed by low credit spreads, rising costs, and the impact of the unprecedented turbulence in the financial markets. Despite the short term fallout from the so-called credit crunch, I remain confident and optimistic about our competitive position and our ability to generate positive results. The earning power of our core business activities continues to gain strength and competitiveness. We continue to deliver innovative products to our market niche, taking market share and expanding customer relationships. Our plan is to invest more in growth initiatives in 2009 than we did in 2008 and we have taken steps to build up our liquidity and capital position, enhancing our ability to take advantage of opportunities in the future. This was the first time in 28 years that our company registered a smaller bottom line. Although I take comfort in the fact that our diversity of income, tremendous scale and efficiency will help us weather this storm better than most, it has still been a difficult time for the industry in general. While the credit crunch and housing market created a recession in the United States which hit the industry hard, we offer no excuses for our performance. The onset of the credit crunch For several years, the U.S. financial markets were acting as if there were little or no risk to lending money. This led, in part, to reckless, undisciplined lending, borrowing, investing, and overall risk management across many segments of the economy. Many categories of debt became significantly overvalued. Lenders were not being paid to compensate for credit risk. Aggressive subprime mortgage lenders, many of them unregulated brokers, used “teaser” rates and “negative amortization” loans (which add to the unpaid balance) to put many people in homes they could not afford. Easy access to cheap money encouraged excessive risk taking, highly leveraged transactions and complex pools of mortgage-backed debt obligations, the riskiness of which many agencies underestimated. This feeling of invulnerability could not go on forever—something had to give. What we did right Risk management is the foundation used to measure success. There should be no tolerance for error. Our company maintained its credit risk discipline reasonably well during the years of excessive risk-taking in the industry. Unlike many of our competitors who recorded high non-performing accounts and foreclosures, we were consistent with our responsible lending principles. Due to our prudent lending practices, we maintained our single-digit past due level, our borrowers were able to pay their loans on time, and we were able to avoid the problem of going into court for litigation. Unlike some of our peers from the universal and commercial banking sectors, we did not participate to any significant degree in collateralized debt obligations (CDOs) or structured investment vehicles (SIVs). Our balance sheet strength has enabled us to take the long view. We believe we have the ability to grow internally while our credit portfolio is among those considered healthy in the industry. We have provided P4.0 million for loan loss provisions, and it is imperative that we comply with the new regulation in support with our growing portfolio base. Lending responsibility We have built a reputation as a responsible lender. Our goal is not just to help customers obtain their working capital requirements or achieve their dreams of owning a home, but to do what is right for them so that they can repay their loans. We follow the following guiding principles:
Because of these principles, our foreclosure rate is less than the industry average. Less than 1 in every 50 loans in our servicing portfolio is lodged under foreclosure. Likewise, we must safeguard the interests of investors who put in substantial amount of funds needed to keep credit flowing. By demonstrating these traits, we ensure that they receive regular dividends typical of a strong and healthy financial institution. Credit quality and capital strength Our risk management performance in 2008 was considered acceptable. Our loan offerings maintained moderate loan-to-value ratios, which are the ratio of loans to the appraised value of the property. We kept full documentation of these loans, giving full attention to the source documents while the quality of our borrowers was given priority. Our experiences from the 1997 Asian financial crisis have taught us a valuable lesson in properly evaluating loan proponents. Although it was forecasted that world trade contracted by nearly 45 percent in annual terms in the final three months of last year, and that the world economy was at a standstill with the major developed countries in deep recession, we still managed to grant loans to qualified borrowers. We believe that in every crisis, opportunity lies ahead. In addition to credit quality, another important attribute of our firm is its capital strength, or what is left for shareholders after subtracting a company’s liabilities from its assets. At Queenbank, our number one financial goal is to have a conservative financial structure as measured by asset quality, capital levels, diversity of revenue sources and dispersing risk by geography, loan size and industry. We want to maintain a strong balance sheet so that customers would confidently place their money in our bank even if there is no PDIC insurance backing us up. Capital measurements show how much a bank depends on borrowing and how much “cushion” it has to absorb losses. Queenbank’s capital ratios are among the strongest in our peer group. Our capital levels as a percentage of our tangible assets are better than those of our peers. This is the main reason we are certain that we have a strong and healthy bank. “We believe that in every crisis, opportunity lies ahead.” Our 2008 performance Despite the disappointing earnings-per-share results in 2008, the core performance of our businesses in 2008 is noteworthy. We managed to produce slight revenue growth, and this is something we are proud of. Since the price of oil rose to prohibitive levels starting in the second quarter of last year, rising costs have eaten a major chunk of our earnings. To maintain our portfolio base, a strict evaluation process of our loan portfolio paved the way for the deferral of various fast-deteriorating accounts in the consumer and retail segment and foreign-exchange dependent furniture-making firms. We added new retail accounts last year a result of our bank’s expansion plan of opening branches and automated teller machines. It was our company’s earning mix that enabled us to remain profitable despite extremely challenging conditions. And it is our continued profitability, liquidity and balance sheet strength that have enabled us to sustain our dividends even at a time when others have not. To bolster our liquidity ratios last year, we raised an average of P55.0 million by availing of a portion of our P824 million rediscounting facility with the Bangko Sentral ng Pilipinas. We could have raised more but the matching process prevented us from booking more. Putting premium on our liquidity position at this difficult time is a sure way to service withdrawals while at the same time demonstrating our strength which builds customer confidence in our company. “It is our continued profitability, liquidity and balance sheet strength that have enabled us to sustain our dividends even at a time when others have not.” Growth opportunities As we have said for years, our greatest opportunities for growth are right in front of us: satisfying customers’ financial needs and helping them to succeed financially. Despite the hard times, we continue to develop relationships company-wide. We continue to grant credit to worthy projects, after a stringent evaluation process. Rates on deposits offered to customers are within the scope of the BSP’s guidelines for safe and sound banking practices. There’s still a tremendous opportunity to do better. We want our business banking results to be as good as it was during boom times. We would also like to expand our relationship with each of our clients to at least three or four products, as well as branch out of established product lines. The key to our bottom line has always been revenue growth, but we cannot be complacent about our expenses. We need to continue to be vigilant and conservative but smart about our operational expenses. The past year has seen slower economic growth, with potentially higher credit risks and slow deposit growth, but this is a process we need regardless of the situation. We’re examining all aspects of how we dispense money, from buying goods and services to the structural expenses of our business. Making expense management a competitive advantage across our company should enable us to grow market share when many of our competitors are struggling. Looking forward Economists see 2009 as a challenging and difficult year for business. The global economy has contracted, with developed countries anticipating a deep recession. A tidal wave of unemployment has jolted the Philippines from its previous complacency. The Department of Labor and Employment has now admitted that as many as 300,000 people, in a workforce of 37 million, could be thrown out of work in the next six months. Yet the country has been described by some international risk assessment organizations as an “island of calm” amid the recession and would be “in a relatively strong position to weather the global economic downturn”. Credit will not come easy this year, and this is a reality Filipino consumers and businesses will have to deal with until the economic crisis blows over. Tell-tale signs of risk aversion are already evident, with financial institutions and investors unwilling to risk lending to many borrowers. Signs of such risk averse behavior range from tighter underwriting standards, where borrowers have to hurdle a high score of creditworthiness to qualify for a loan, to higher debt burden ratios, where the cost of amortization in relation to a borrower’s net take home pay is raised. Consumers looking to avail of bank financing for a new home may also feel the pinch of tighter credit availability as some banks may be willing to lend only up to only 60% of the house’s value, compared to 80% to 90% just a year ago. Other indications include the re-pricing of loans, with mortgages now carrying higher interest rates, as well as a cut-down in exposure to sectors vulnerable to an economic slowdown. The corporate segment, which has very good access to bank loans in times of economic prosperity, will be stressed the most during an episode of a slowdown. Of course, these risk aversions do not mean that we should not lend at all. Despite all these earlier pronouncements, the economy grew by 4.6 percent last year, down from a 30 year high of 7.2 percent in 2007, but slightly higher than the government expectations. In spite of all the difficulties ahead, we remain committed to building this franchise. Financial institutions are and will continue to be among the largest and the most important contributors to the economy. We have what it takes to be a winner in this business. As a result of our liquidity and capital strength, we will be able to convert all these proponents when others could not. Although we may pay for continuing our expansion, we remain committed to our goal. The sub-prime meltdown has refocused our decision to remain very cautious in funding of weak businesses where probable problems may later occur. Market discipline, in some form, will also come to bear at each stage of the production chain, from the originator to the packager to the seller, and each will be required to have the right amount of fortitude to play this game. We are not sure how it will change, but between the regulation and the market, we know it will. “Financial institutions are and will continue to be among the largest and the most important contributors to the economy.” How long will this slowdown last, and what will be the extent of the damage it will cause? In reality, our financial system has successfully been dealing with most of this issues I’ve discussed earlier. Losses have been taken, substantial capital has been raised and massive deleveraging has taken place in hedge funds, SIVs, financial companies, collateralized loan obligations (CLOs) and CDOs. Even if financial conditions improve, the economy could continue to erode, causing us to remain in a recessionary environment for a while. We would also like to assure our shareholders that while we are preparing for an extended financial crisis, we will never lose sight of our primary purpose of building a strong company a great franchise for the long haul. Finally, I would like to thank our board of directors for sharing their insights during this turbulent time, and our management team, composed of competent professionals for the forthright execution of bank policies. Their prudence and dedication have guided our firm down our current path. Discipline has enabled us to respond to situations unheard of in the past. These and more I attribute to the undivided loyalty of our senior officers and staff. We shall therefore strive to strengthen the foundation we have built and nurtured and strengthen the core values we have learned to embrace as we wait the break of dawn that will usher in a new business environment. Good day to all!
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