Form 6-K
Table of Contents

As filed with the Securities and Exchange Commission on March 10, 2011

 

 

 

FORM 6-K

 

 

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Report of Foreign Private Issuer

Pursuant to Rule 13a-16 or 15d-16 of

the Securities Exchange Act of 1934

Commission File Number 001-15266

 

 

BANK OF CHILE

(Translation of registrant’s name into English)

 

 

Ahumada 251

Santiago, Chile

(Address of principal executive offices)

 

 

Indicate by check mark whether the registrant files or will file annual reports under cover Form 20-F or Form 40-F.

Form 20-F  x             Form 40-F  ¨

Indicate by check mark if the registrant is submitting the Form 6-K in paper as permitted by Regulation S-T Rule 101(b)(1):     

Indicate by check mark if the registrant is submitting the Form 6-K in paper as permitted by Regulation S-T Rule 101(b)(7):     

Indicate by check mark whether by furnishing the information contained in this Form, the registrant is also thereby furnishing the information to the Commission pursuant to Rule 12g3-2(b) under the Securities Exchange Act of 1934.

Yes  ¨             No  x

If “Yes” is marked, indicate below the file number assigned to the registrant in connection with Rule 12g3-2(b): 82-                 

 

 

 


Table of Contents

BANCO DE CHILE

REPORT ON FORM 6-K

Attached is a description of Selected Statistical Information for the year ended December 31, 2010 and Results of Operations for the years ended December 31, 2010 and December 31, 2009. The following information is included for analytical purposes and should be read in conjunction with our audited consolidated financial statements as of and for the year ended December 31, 2010 included in this Report on Form 6-K.

 

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PRESENTATION OF INFORMATION

As used in this Report on Form 6-K, unless the context otherwise requires, the references to “we,” “us” or the “Company” are to Banco de Chile and its consolidated subsidiaries. All references to “Chile” are references to the Republic of Chile.

We prepare our audited consolidated financial statements in Chilean pesos and in accordance with International Financial Reporting Standards (“IFRS”) as issued by the International Accounting Standards Board (“IASB”). References in this Report on Form 6-K to IFRS mean IFRS as issued by the IASB.

Until and including our consolidated financial statements included in our annual report on Form 20-F for the year ended December 31, 2008, we prepared our audited consolidated financial statements in accordance with generally accepted accounting principles in Chile as supplemented by the applicable rules of the Superintendencia de Bancos e Instituciones Financieras de Chile (the “Superintendency of Banks”) (“Chilean GAAP”), with reconciliations to generally accepted accounting principles in the United States (“U.S. GAAP”). As required by IFRS 1—First Time Adoption of International Financial Reporting Standards, our financial position as of January 1, 2008 and December 31, 2008 and our results of operations for the year ended December 31, 2008 have been restated in accordance with IFRS 1 for comparative purposes. Reconciliations and description of the transition to IFRS, and the effects on assets, liabilities, equity, net income and cash flows are presented in Note 5 to our audited consolidated financial statements included herein. Unless otherwise indicated, the financial information included in this Report on Form 6-K with respect to 2008, 2009 and 2010 has been derived from financial statements that have been prepared in accordance with IFRS. See Note 2(a) to our audited consolidated financial statements as of and for the year ended December 31, 2010 included herein. IFRS differs in certain significant respects from Chilean GAAP. As a result, our financial information presented under IFRS is not directly comparable to our financial information presented under Chilean GAAP. Accordingly, readers should avoid such comparison.

Following our adoption of IFRS, we are no longer required to reconcile our financial statements to U.S. GAAP.

In this Report on Form 6-K, references to “$,” “U.S.$,” “U.S. dollars” and “dollars” are to United States dollars, references to “pesos” or “Ch$” are to Chilean pesos (see Note 2(f) to our audited consolidated financial statements as of and for the year ended December 31, 2010 included herein), and references to “UF” are to “Unidades de Fomento.” The UF is an inflation-indexed Chilean monetary unit of account with a value in Chilean pesos that is linked to and adjusted daily to reflect changes in the Consumer Price Index of the Instituto Nacional de Estadísticas (the “Chilean National Statistics Institute”). As of December 31, 2010, one UF equaled Ch$21,455.55.

This Report on Form 6-K contains translations of certain Chilean peso amounts into U.S. dollars at specified rates solely for your convenience. 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 our audited consolidated financial statements as of and for the year ended December 31, 2010 or could be converted into U.S. dollars at the rate indicated. Unless otherwise indicated, such U.S. dollar amounts have been translated from Chilean pesos based on the observed exchange rate reported by the Banco Central de Chile, or the Central Bank of Chile (the “Central Bank”), for December 30, 2010 (the latest practicable date, as December 31, 2010 was a banking holiday in Chile). The observed exchange rate on March 8, 2011 was Ch$473.28 = U.S.$1.00. The rate reported by the Central Bank is based on the rate for the prior business day in Chile and is the exchange rate specified by the Superintendency of Banks to be used by Chilean banks in the preparation of their financial statements. The Federal Reserve Bank of New York does not report a noon buying rate for Chilean pesos.

Unless otherwise specified, all references in this Report on Form 6-K to total loans are to loans to customers before deduction of allowances for loan losses, and they do not include loans to banks or contingent loans. In addition, all market share data and financial indicators for the Chilean banking system when compared to Banco de Chile’s financial information, presented in this Report on Form 6-K are based on information published periodically by the Superintendency of Banks, which is published under Chilean GAAP and prepared on a consolidated basis. Past-due loans include, with respect to any loan, the portion of principal or interest that is 90 or more days overdue, and do not include the installments of such loan that are not overdue or that are overdue for less than 90 days, unless legal proceedings have been commenced for the entire outstanding balance according to the terms of the loan, in which case the entire loan is considered past due within 90 days of the beginning of such proceedings. See “Item 4. Information on the Company—Selected Statistical Information—Classification of Loan Portfolio Based on the Borrower’s Payment Performance” in our annual report on Form 20-F for the year ended December 31, 2009.

 

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According to Chilean regulations, regulatory capital (“Regulatory Capital”) consists of:

 

 

basic capital, which is composed of our paid-in capital, reserves and retained earnings, excluding capital attributable to subsidiaries and foreign branches (“Basic Capital”); and

 

 

supplementary capital, which is composed of the following: (i) our subordinated bonds, considered at issue price (reduced by 20.0% for each year during the period commencing six years prior to maturity), but not exceeding 50.0% of our Basic Capital; plus (ii) our voluntary allowances for loan losses (up to 1.25% of risk-weighted assets to the extent voluntary allowances exceed those that banks are required to maintain by law or regulation); minus (iii) our goodwill and unconsolidated investments in companies.

Certain figures included in this Report on Form 6-K have been rounded for ease of presentation. Percentage figures included in this Report on Form 6-K 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, percentage amounts in this Report on Form 6-K may vary slightly from those obtained by performing the same calculations using the figures in our audited consolidated financial statements as of and for the year ended December 31, 2010. Certain other amounts that appear in this Report on Form 6-K may similarly not sum due to rounding.

Inflation figures are those reported by the Chilean National Statistics Institute, unless otherwise stated herein or required by the context.

 

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SELECTED STATISTICAL INFORMATION

The following information is included for analytical purposes and should be read in conjunction with our audited consolidated financial statements as of and for the year ended December 31, 2010, and the Results of Operations for the years ended December 31, 2010 and December 31, 2009 included in this Report on Form 6-K.

Average Balance Sheets, Interest Earned on 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 our daily balances and on the basis of monthly balances for our subsidiaries. These average balances are presented in Chilean pesos (Ch$), in UF and in foreign currencies (principally the U.S. dollar). The UF is an inflation-indexed Chilean monetary unit of account with a value in Chilean pesos which is linked to, and which is adjusted daily to reflect changes in, the consumer price index of the Chilean National Institute of Statistics.

The nominal interest rate has been calculated by dividing the amount of interest and principal readjustment gain or loss during the period by the related average balance, both amounts expressed in constant pesos. The nominal rates calculated for each period have been converted into real rates using the following formulas:

LOGO

and

LOGO

Where:

Rp = real average rate for peso-denominated assets and liabilities (in Ch$ and UF) for the period;

Rd = real average rate for foreign currency denominated assets and liabilities for the period;

Np = nominal average rate for peso-denominated assets and liabilities for the period;

Nd = nominal average rate for foreign currency denominated assets and liabilities for the period;

D = devaluation rate of the Chilean peso to the dollar for the period; and

I = inflation rate in Chile for the period (based on the variation of the Consumer Price Index).

The real interest rate can be negative for a portfolio of peso-denominated loans when the inflation rate for the period is higher than the average nominal rate of the loan portfolio for the same period. A similar effect could occur for a portfolio of foreign currency denominated loans when the inflation rate for the period is higher than the combined effect of the devaluation rate for the period and the corresponding average nominal rate of the portfolio.

The formula for the average real rate for foreign currency denominated assets and liabilities (Rd) reflects a gain or loss in purchasing power caused by the difference between the devaluation rate of the Chilean peso and the inflation rate in Chile during the period.

 

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The following example illustrates the calculation of the real interest rate for a U.S. dollar asset bearing a nominal annual interest rate of 10% (Nd = 0.10), assuming a 5% annual devaluation rate (D = 0.05) and a 12% annual inflation rate (I = 0.12):

LOGO

In the example, since the inflation rate was higher than the devaluation rate, the real rate is lower than the nominal rate in U.S. dollars. If, for example, the annual devaluation rate were 15%, using the same numbers, the real rate in Chilean pesos would be 12.9%, which is higher than the nominal rate in U.S. dollars. Using the same numbers, if the annual inflation rate were greater than 15.5%, the real rate would be negative.

The foreign exchange gains or losses on foreign currency-denominated assets and liabilities have not been included in interest revenue or expense. Similarly, interest accrued on the trading portfolio are not included in interest revenues. Interest is not recognized during periods in which loans are past due except for certain loans where 80% or more of our exposure under the loan is secured. However, interest received on past due loans includes interest on such loans from the original maturity date. For our impaired portfolio and high risk loans, we apply a conservative approach of discontinuing accrual-basis recognition of interest revenue in the income statement and they are only recorded once received.

Included in cash and due from banks are current accounts maintained in the Central Bank and overseas banks. Such assets have a distorting effect on the average interest rate earned on total interest earning assets because of balances maintained in:

 

 

the Central Bank, only the portion that is legally required to be held for liquidity purposes earns interest; and

 

 

overseas banks earn interest on certain accounts in certain countries.

Consequently, the average interest earned on such assets is comparatively low. These deposits are maintained by us in these accounts to comply with statutory requirements and to facilitate international business, rather than to earn income.

The monetary gain or loss on interest earning assets and interest bearing liabilities is not included as a component of interest revenue or interest expense because inflation effects are taken into account in the calculation of real interest rates.

 

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The following tables show under IFRS, by currency of denomination, average balances and, where applicable, interest amounts, and nominal and real rates for our assets and liabilities for the years ended December 31, 2009 and 2010:

 

     For the Year Ended December 31,  
     2009     2010  
     Average
balance
     Interest
earned(1)
     Average
nominal rate
    Average
real rate
    Average
balance
     Interest
earned(1)
     Average
nominal rate
    Average
real rate
 
     (in millions of Ch$, except percentages)  

IFRS:

  

Assets

                    

Interest earning assets

                    

Cash and due from banks

                    

Ch$

   Ch$ 462,300       Ch$ 17         —          1.40   Ch$ 559,039       Ch$ 274         0.05     (3.71 %) 

UF

     —           —           —          —          —           —           —          —     

Foreign currency

     352,163         173         0.05        (18.33     289,374         93         0.03        (10.96
                                            

Total

     814,463         190         0.02        (7.13     848,413         367         0.04        (6.18
                                            

Financial investments

                    

Ch$

     816,111         28,762         3.52        4.97        608,266         19,777         3.25        (0.62

UF

     619,451         6,086         0.98        2.40        725,734         32,351         4.46        0.54   

Foreign currency

     192,708         7,408         3.84        (15.24     185,808         2,609         1.40        (9.74
                                            

Total

     1,628,270         42,256         2.60        1.60        1,519,808         54,737         3.60        (1.18
                                            

Loans in advance to banks

                    

Ch$

     204,703         5,479         2.68        4.11        339,844         7,205         2.12        (1.71

UF

     —           —           —          —          —           —           —          —     

Foreign currency

     —           —           —          —          —           —           —          —     
                                            

Total

     204,703         5,479         2.68        4.11        339,844         7,205         2.12        (1.71
                                            

Commercial loans

                    

Ch$

     3,758,821         275,631         7.33        8.83        4,076,224         226,117         5.55        1.59   

UF

     3,239,648         76,109         2.35        3.78        3,231,121         218,776         6.77        2.76   

Foreign currency

     1,540,276         64,139         4.16        (14.97     1,555,737         41,379         2.66        (8.62
                                            

Total

     8,538,745         415,879         4.87        2.62        8,863,082         486,272         5.49        0.22   
                                            

Consumer loans

                    

Ch$

     1,831,744         378,004         20.64        22.32        1,950,497         373,264         19.14        14.66   

UF

     40,354         1,627         4.03        5.49        46,903         3,685         7.86        3.81   

Foreign currency

     —           —           —          —          —           —           —          —     
                                            

Total

     1,872,098         379,631         20.28        21.96        1,997,400         376,949         18.87        14.41   
                                            

Residential mortgage loans

                    

Ch$

     —           —           —          —          —           —           —          —     

UF

     2,359,746         57,351         2.43        3.86        2,698,384         187,363         6.94        2.93   

Foreign currency

     —           —           —          —          —           —           —          —     
                                            

Total

     2,359,746         57,351         2.43        3.86        2,698,384         187,363         6.94        2.93   
                                            

Repurchase agreement

                    

Ch$

     13,799         1,193         8.65        10.17        74,471         5,387         7.23        3.21   

UF

     28,331         —           —          —          —           —           —          —     

Foreign currency

     625         —           —          —          —           —           —          —     
                                            

Total

     42,755         1,193         2.79        3.28        74,471         5,387         7.23        3.21   
                                            

Total interest earnings assets

                 

Ch$

     7,087,478         689,086         9.72        11.26        7,608,341         632,024         8.31        4.24   

UF

     6,287,530         141,173         2.25        3.68        6,702,142         442,175         6.60        2.60   

Foreign currency

     2,085,772         71,720         3.44        (15.57     2,030,919         44,081         2.17        (9.06
                                            

Total

   Ch$  15,460,780       Ch$  901,979         5.83     4.56   Ch$ 16,341,402       Ch$  1,118,280         6.84     1.91
                                            

 

(1) Interest earned includes interest accrued on trading securities.

 

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     For the Year Ended December 31,  
     2009      2010  
     Average
balance
    Interest
earned(1)
     Average
nominal rate
     Average
real rate
     Average
balance
    Interest
earned(1)
     Average
nominal rate
     Average
real rate
 
     (in millions of Ch$, except percentages)  

IFRS:

  

Assets

                     

Non-interest earning assets

                     

Transaction in the course of collection

                     

Ch$

   Ch$ 234,486      Ch$ —           —           —         Ch$ 263,263      Ch$ —           —           —     

UF

     9        —           —           —           —          —           —           —     

Foreign currency

     149,347        —           —           —           152,592        —           —           —     
                                             

Total

     383,842        —           —           —           415,855        —           —           —     
                                             

Allowances for loan losses

                     

Ch$

     (260,879     —           —           —           (341,313     —           —           —     

UF

     —          —           —           —           —          —           —           —     

Foreign currency

     —          —           —           —           —          —           —           —     
                                             

Total

     (260,879     —           —           —           (341,313     —           —           —     
                                             

Derivatives

                     

Ch$

     604,845        —           —           —           481,674        —           —           —     

UF

     —          —           —           —           —          —           —           —     

Foreign currency

     43,429        —           —           —           44,635        —           —           —     
                                             

Total

     648,274        —           —           —           526,309        —           —           —     
                                             

Investment in other companies

                     

Ch$

     9,024        —           —           —           11,057        —           —           —     

UF

     —          —           —           —           —          —           —           —     

Foreign currency

     2        —           —           —           2        —           —           —     
                                             

Total

     9,026        —           —           —           11,059        —           —           —     
                                             

Intangible assets

                     

Ch$

     89,144        —           —           —           82,151        —           —           —     

UF

     —          —           —           —           —          —           —           —     

Foreign currency

     —          —           —           —           —          —           —           —     
                                             

Total

     89,144        —           —           —           82,151        —           —           —     
                                             

Fixed assets

                     

Ch$

     210,711        —           —           —           207,267        —           —           —     

UF

     —          —           —           —           —          —           —           —     

Foreign currency

     —          —           —           —           —          —           —           —     
                                             

Total

     210,711        —           —           —           207,267        —           —           —     
                                             

Current tax assets

                     

Ch$

     1,185        —           —           —           2,520        —           —           —     

UF

     —          —           —           —           —          —           —           —     

Foreign currency

     —          —           —           —           —          —           —           —     
                                             

Total

     1,185        —           —           —           2,520        —           —           —     
                                             

Deferred tax assets

                     

Ch$

     62,627        —           —           —           63,935        —           —           —     

UF

     —          —           —           —           —          —           —           —     

Foreign currency

     —          —           —           —           —          —           —           —     
                                             

Total

     62,627        —           —           —           63,935        —           —           —     
                                             

Other assets

                     

Ch$

     84,941        —           —           —           216,432        —           —           —     

UF

     579,991        —           —           —           40,135        —           —           —     

Foreign currency

     12,650        —           —           —           12,502        —           —           —     
                                             

Total

     677,582        —           —           —           269,069        —           —           —     
                                             

Total non-interest earning assets

                     

Ch$

     1,036,084        —           —           —           986,986        —           —           —     

UF

     580,000        —           —           —           40,135        —           —           —     

Foreign currency

     205,428        —           —           —           209,731        —           —           —     
                                             

Total

     1,821,512        —           —           —           1,236,852        —           —           —     
                                             

Total assets

                     

Ch$

     8,123,562        689,086         —           —           8,595,327        632,024         —           —     

UF

     6,867,530        141,173         —           —           6,742,277        442,175         —           —     

Foreign currency

     2,291,200        71,720         —           —           2,240,650        44,081         —           —     
                                             

Total

   Ch$ 17,282,292      Ch$ 901,979         —           —         Ch$ 17,578,254      Ch$ 1,118,280         —           —     
                                             

 

(1) Interest earned includes interest accrued on trading securities.

 

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Table of Contents
     For the Year Ended December 31,  
     2009     2010  
     Average
balance
     Interest paid      Average
nominal rate
    Average
real rate
    Average
balance
     Interest paid      Average
nominal rate
    Average
real rate
 
     (in millions of Ch$, except percentages)  

IFRS:

                    

Liabilities

                    

Interest bearing liabilities

                    

Savings accounts

                    

Ch$

   Ch$ 3,919,286       Ch$ 131,470         3.35     4.80   Ch$ 4,172,738       Ch$ 86,691         2.08     (1.75 %) 

UF

     2,434,064         7,475         0.31        1.71        2,087,299         89,517         4.29        0.37   

Foreign currency

     1,214,967         20,711         1.70        (16.98     1,122,089         14,441         1.29        (9.85
                                            

Total

     7,568,317         159,656         2.11        0.31        7,382,126         190,649         2.58        (2.38
                                            

Repurchase agreements

                    

Ch$

     239,295         5,535         2.31        3.74        167,032         1,640         0.98        (2.81

UF

     31,354         725         2.31        3.74        14,665         367         2.50        (1.34

Foreign currency

     4,409         99         2.25        (16.54     1,259         1         0.08        (10.92
                                            

Total

     275,058         6,359         2.31        3.42        182,956         2,008         1.10        (2.75
                                            

Borrowings from financial institutions

                    

Ch$

     67,314         2,479         3.68        5.13        82,313         2,138         2.60        (1.25

UF

     2,972         1         0.03        1.43        8,255         21         0.25        (3.51

Foreign currency

     1,126,865         23         —          (18.37     1,275,267         16,663         1.31        (9.83
                                            

Total

     1,197,151         2,503         0.21        (17.00     1,365,835         18,822         1.38        (9.27
                                            

Debt issued

                    

Ch$

     17,885         1,264         7.07        8.57        78,957         805         1.02        (2.77

UF

     1,565,522         26,032         1.66        3.09        1,463,769         104,641         7.15        3.13   

Foreign currency

     130,222         4,942         3.80        (15.28     117,714         4,306         3.66        (7.74
                                            

Total

     1,713,629         32,238         1.88        1.75        1,660,440         109,752         6.61        2.08   
                                            

Other financial obligations

                    

Ch$

     41,019         848         2.07        3.50        60,144         1,146         1.91        (1.92

UF

     12,242         —           —          —          29,200         1,767         6.05        2.07   

Foreign currency

     48,738         21,279         43.66        17.26        42,856         362         0.84        (10.24
                                            

Total

     101,999         22,127         21.69        9.66        132,200         3,275         2.48        (3.74
                                            

Total interest bearing liabilities

                    

Ch$

     4,284,799         141,596         3.30        4.75        4,561,184         92,420         2.03        (1.80

UF

     4,046,154         34,233         0.85        2.26        3,603,188         196,313         5.45        1.49   

Foreign currency

     2,525,201         47,054         1.86        (16.85     2,559,185         35,773         1.40        (9.75
                                            

Total

   Ch$ 10,856,154       Ch$ 222,883         2.05     (1.20 %)    Ch$ 10,723,557       Ch$ 324,506         3.03     (2.59 %) 
                                            

 

9


Table of Contents
     For the Year Ended December 31,  
     2009      2010  
     Average
balance
     Interest paid      Average
nominal rate
     Average
real rate
     Average
balance
     Interest paid      Average
nominal rate
     Average
real rate
 
       (in millions of Ch$, except percentages)  

IFRS:

                       

Liabilities

                       

Non-interest bearing liabilities

                       

Current account and demand deposits

                       

Ch$

   Ch$ 2,665,304       Ch$ —           —           —         Ch$ 3,452,445       Ch$ —           —           —     

UF

     13,117         —           —           —           107,937         —           —           —     

Foreign currency

     454,883         —           —           —           525,418         —           —           —     
                                               

Total

     3,133,304         —           —           —           4,085,800         —           —           —     
                                               

Transaction in the course of payment

                       

Ch$

     132,821         —           —           —           139,131         —           —           —     

UF

     —           —           —           —           —           —           —           —     

Foreign currency

     133,966         —           —           —           142,429         —           —           —     
                                               

Total

     266,787         —           —           —           281,560         —           —           —     
                                               

Derivatives

                       

Ch$

     610,155         —           —           —           434,521         —           —           —     

UF

     —           —           —           —           —           —           —           —     

Foreign currency

     61,940         —           —           —           77,072         —           —           —     
                                               

Total

     672,095         —           —           —           511,593         —           —           —     
                                               

Current liabilities

                       

Ch$

     15,401         —           —           —           14,143         —           —           —     

UF

     —           —           —           —           —           —           —           —     

Foreign currency

     —           —           —           —           —           —           —           —     
                                               

Total

     15,401         —           —           —           14,143         —           —           —     
                                               

Deferred tax liabilities

                       

Ch$

     37,291         —           —           —           19,052         —           —           —     

UF

     —           —           —           —           —           —           —           —     

Foreign currency

     —           —           —           —           —           —           —           —     
                                               

Total

     37,291         —           —           —           19,052         —           —           —     
                                               

Provisions

                       

Ch$

     64,697         —           —           —           49,109         —           —           —     

UF

     —           —           —           —           —           —           —           —     

Foreign currency

     —           —           —           —           —           —           —           —     
                                               

Total

     64,697         —           —           —           49,109         —           —           —     
                                               

Other liabilities

                       

Ch$

     108,883         —           —           —           206,557         —           —           —     

UF

     568,572         —           —           —           10,247         —           —           —     

Foreign currency

     5,367         —           —           —           6,223         —           —           —     
                                               

Total

     682,822         —           —           —           223,027         —           —           —     
                                               

Equity

                       

Ch$

     1,553,104         —           —           —           1,670,413         —           —           —     

UF

     —           —           —           —           —           —           —           —     

Foreign currency

     637         —           —           —           —           —           —           —     
                                               

Total

     1,553,741         —           —           —           1,670,413         —           —           —     
                                               

Total non-interest bearing liabilities and equity

                       

Ch$

     5,187,656         —           —           —           5,985,371         —           —           —     

UF

     581,689         —           —           —           118,184         —           —           —     

Foreign currency

     656,793         —           —           —           751,142         —           —           —     
                                               

Total

     6,426,138         —           —           —           6,854,697         —           —           —     
                                               

Total liabilities and equity

                       

Ch$

     9,472,455         141,596         —           —           10,546,555         92,420         —           —     

UF

     4,627,843         34,233         —           —           3,721,372         196,313         —           —     

Foreign currency

     3,181,994         47,054         —           —           3,310,327         35,773         —           —     
                                               

Total

   Ch$ 17,282,292       Ch$ 222,883         —           —         Ch$ 17,578,254       Ch$ 324,506         —           —     
                                               

 

10


Table of Contents

Interest Earning Assets and Net Interest Margin

The following table analyzes, by currency of denomination, the levels of our average interest earning assets and net interest, and illustrates the comparative margins obtained, for the years ended December 31, 2009 and 2010.

 

     For the Year Ended December 31,  
     2009     2010  
     (in millions of Ch$, except percentages)  

IFRS:

    

Total average interest earning assets

    

Ch$

   Ch$ 7,087,478      Ch$ 7,608,341   

UF

     6,287,530        6,702,142   

Foreign currency

     2,085,772        2,030,919   
                

Total

     15,460,780        16,341,402   
                

Net interest earned(1)

    

Ch$

     547,490        539,604   

UF

     106,940        245,862   

Foreign currency

     24,666        8,308   
                

Total

   Ch$ 679,096      Ch$ 793,774   
                

Net interest margin, nominal basis(2)

    

Ch$

     7.72     7.09

UF

     1.70        3.67   

Foreign currency

     1.18        0.41   
                

Total

     4.39     4.86
                

 

(1) Net interest earned is defined as interest revenue earned less interest expense incurred.
(2) Net interest margin, nominal basis is defined as net interest earned divided by average interest earning assets.

 

11


Table of Contents

Changes in Net Interest Revenue—Volume and Rate Analysis

The following tables compare, by currency of denomination, changes in our net interest revenue between 2009 and 2010 caused by (i) changes in the average volume of interest earning assets and interest bearing liabilities and (ii) changes in their respective nominal interest rates. Volume and rate variances have been calculated based on movements in average balances over the period and changes in nominal interest rate, average interest earning assets and average interest bearing liabilities. The net change attributable to changes in both volume and rate has been allocated proportionately to the change in volume and the change in rate.

 

     Increase (Decrease)
from 2009 to 2010
due to changes in
    Net change
from
2009 to 2010
 
     Volume     Rate    
     (in millions of Ch$)  

IFRS:

      

Assets

      

Interest earning assets

      

Cash and due from banks

      

Ch$

   Ch$ 4      Ch$ 253      Ch$ 257   

UF

     —          —          —     

Foreign currency

     (27     (53     (80
                        

Total

     (23     200        177   
                        

Financial investments

      

Ch$

     (6,890     (2,095     (8,985

UF

     1,215        25,050        26,265   

Foreign currency

     (256     (4,543     (4,799
                        

Total

     (5,931     18,412        12,481   
                        

Loans in advance to banks

      

Ch$

     3,045        (1,319     1,726   

UF

     —          —          —     

Foreign currency

     —          —          —     
                        

Total

     3,045        (1,319     1,726   
                        

Commercial loans

      

Ch$

     21,816        (71,330     (49,514

UF

     (201     142,868        142,667   

Foreign currency

     638        (23,398     (22,760
                        

Total

     22,253        48,140        70,393   
                        

Consumer loans

      

Ch$

     23,667        (28,407     (4,740

UF

     301        1,757        2,058   

Foreign currency

     —          —          —     
                        

Total

     23,968        (26,650     (2,682
                        

Residential mortgage loans

      

Ch$

     —          —          —     

UF

     9,327        120,685        130,012   

Foreign currency

     —          —          —     
                        

Total

     9,327        120,685        130,012   
                        

Repurchase agreement

      

Ch$

     4,419        (225     4,194   

UF

     —          —          —     

Foreign currency

     —          —          —     
                        

Total

     4,419        (225     4,194   
                        

Total interest earning assets

      

Ch$

     46,061        (103,123     (57,062

UF

     10,642        290,360        301,002   

Foreign currency

     355        (27,994     (27,639
                        

Total

   Ch$ 57,058      Ch$ 159,243      Ch$ 216,301   
                        

 

12


Table of Contents
     Increase (Decrease)
from 2009 to 2010
due to changes in
    Net change
from

2009 to 2010
 
     Volume     Rate    
     (in millions of Ch$)  

IFRS:

      

Liabilities

      

Interest bearing liabilities

      

Savings accounts and time deposits

      

Ch$

   Ch$ 8,032      Ch$ (52,811   Ch$ (44,779

UF

     (1,215     83,257        82,042   

Foreign currency

     (1,491     (4,779     (6,270
                        

Total

     5,326        25,667        30,993   
                        

Repurchase agreements

      

Ch$

     (1,340     (2,555     (3,895

UF

     (413     55        (358

Foreign currency

     (42     (56     (98
                        

Total

     (1,795     (2,556     (4,351
                        

Borrowing from financial institutions

      

Ch$

     482        (823     (341

UF

     4        16        20   

Foreign currency

     3        16,637        16,640   
                        

Total

     489        15,830        16,319   
                        

Debt issued

      

Ch$

     1,363        (1,822     (459

UF

     (1,800     80,409        78,609   

Foreign currency

     (462     (174     (636
                        

Total

     (899     78,413        77,514   
                        

Other financial obligation

      

Ch$

     369        (71     298   

UF

     —          1,767        1,767   

Foreign currency

     (2,292     (18,625     (20,917
                        

Total

     (1,923     (16,929     (18,852
                        

Total interest bearing liabilities

      

Ch$

     8,906        (58,082     (49,176

UF

     (3,424     165,504        162,080   

Foreign currency

     (4,284     (6,997     (11,281
                        

Total

   Ch$ 1,198      Ch$ 100,425      Ch$ 101,623   
                        

 

13


Table of Contents

Maturity and Interest Rate Sensitivity of Loan as of December 31, 2010

The following table sets forth an analysis by type and time remaining to maturity of our loans as of December 31, 2010:

 

     Balance as of
December 30,
2010
     Due within 1
month
     Due after 1
month but
within 6 months
     Due after 6
months but
within 12
months
     Due after 1 year
but within 3
years
     Due after 3
years but within
5 years
     Due after 5
years
 
     (in millions of Ch$)  

IFRS:

                    

Commercial loans:

                    

Commercial loans

   Ch$ 6,962,214       Ch$ 464,613       Ch$ 1,513,090       Ch$ 881,753       Ch$ 1,655,654       Ch$ 1,199,840       Ch$ 1,247,264   

Foreign trade loans

     913,658         174,831         566,223         87,949         61,299         19,413         3,943   

Current account debtors

     121,507         121,507         —           —           —           —           —     

Factoring loans

     477,132         233,189         181,744         37,524         23,505         1,170         —     

Leasing loans

     777,294         23,940         101,266         107,227         276,075         124,772         144,014   

Other loans

     39,177         36,888         1,834         171         280         4         —     
                                                              

Subtotal

     9,290,982         1,054,968         2,364,157         1,114,624         2,016,813         1,345,199         1,395,221   
                                                              

Mortgage Loans:

                    

Mortgage bonds

     165,631         4,560         8,557         10,510         40,015         35,555         66,434   

Endorsable mortgage loans

     205,260         3,203         9,044         9,941         37,508         35,299         110,265   

Residential mortgage loans

     2,556,395         21,295         54,777         66,909         276,647         288,423         1,848,344   

Other loans

     492         —           —           —           —           —           492   
                                                              

Subtotal

     2,927,778         29,058         72,378         87,360         354,170         359,277         2,025,535   
                                                              

Consumer loans:

                    

Consumer loans

     1,488,283         86,910         275,833         271,546         678,626         164,961         10,407   

Current account debtors

     229,807         229,807         —           —           —           —           —     

Credit card

     440,791         420,963         19,828         —           —           —           —     

Other loans

     354         354         —           —           —           —           —     
                                                              

Subtotal

     2,159,235         738,034         295,661         271,546         678,626         164,961         10,407   
                                                              

Total loans

   Ch$ 14,377,995       Ch$ 1,822,060       Ch$ 2,732,196       Ch$ 1,473,530       Ch$ 3,049,609       Ch$ 1,869,437       Ch$ 3,431,163   
                                                              

 

14


Table of Contents

The following table sets forth the interest rate sensitivity of our outstanding loans due after one year as of December 31, 2010:

 

     As of December 31, 2010  
     (in millions of Ch$)  

IFRS:

  

Variable rate

  

Ch$

   Ch$ 862,204   

UF

     738,552   

Foreign currency

     244,087   
        

Total

     1,844,843   
        

Fixed rate

  

Ch$

     1,733,698   

UF

     4,686,661   

Foreign currency

     85,007   
        

Total

     6,505,366   
        

Total

   Ch$ 8,350,209   

Maturity of Deposits

The following table sets forth under IFRS information regarding the currency and maturity of our deposits at December 31, 2010, expressed in percentages. UF-denominated deposits are similar to Chilean peso-denominated deposits in all aspects, except that the principal is readjusted periodically based on the value of the UF.

 

     As of December 31, 2010  
     Ch$      UF      Foreign
Currency
     Total  
     (in millions of Ch$)  

IFRS:

           

Demand deposits

     3,924,065         29,837         492,279         4,446,181   

Savings accounts

     —           173,404         —           173,404   

Time deposits:

           

Maturing within three months

     3,461,580         434,489         789,788         4,685,857   

Maturing after three but within six months

     854,781         344,495         118,760         1,318,036   

Maturing after six but within 12 months

     274,733         853,685         4,897         1,133,315   

Maturing after 12 months

     76,063         310,581         712         387,356   
                                   

Total time deposits

     4,667,157         1,943,250         914,157         7,524,564   
                                   

Total deposits

     8,591,222         2,146,491         1,406,436         12,144,149   
                                   

 

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The following table sets forth information under IFRS regarding the currency and maturity of deposits in excess of U.S.$100,000 as of December 31, 2010:

 

     As of December 31, 2010  
     Ch$     UF     Foreign
Currency
    Total  
     (in millions of Ch$)  

IFRS:

        

Demand deposits

     45.68     1.39     35.00     36.61

Savings accounts

     —          8.08        —          1.43   

Time deposits:

        

Maturing within three months

     40.29        20.24        56.16        38.59   

Maturing after three but within six months

     9.95        16.05        8.44        10.85   

Maturing after six but within 12 months

     3.20        39.77        0.35        9.33   

Maturing after 12 months

     0.88        14.47        0.05        3.19   

Total time deposits

     54.32        90.53        65.00        61.96   
                                

Total deposits

     100.00     100.00     100.00     100.00
                                

 

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RECENT RESULTS OF OPERATIONS

Introduction

The following discussion should be read in conjunction with, and is entirely qualified by reference to, our audited consolidated financial statements as of and for the years ended December 31, 2009 and 2010 included in this Report on Form 6-K and prepared in accordance with IFRS.

Until and including our consolidated financial statements included in our annual report on Form 20-F for the year ended December 31, 2009, we prepared our audited consolidated financial statements in accordance with Chilean GAAP, with reconciliations to U.S. GAAP. As required by IFRS 1—First Time Adoption of International Financial Reporting Standards, our financial position as of January 1, 2008 and December 31, 2008 and our results of operations for the year ended December 31, 2008 have been restated in accordance with IFRS 1 for comparative purposes. Reconciliations and description of the transition to IFRS, and the effects on assets, liabilities, equity, net income and cash flows are presented in Note 5 to our audited consolidated financial statements included in our annual report on Form 20-F for the year ended December 31, 2009. Unless otherwise indicated, the financial information included in this Report on Form 6-K with respect to 2008, 2009 and 2010 has been derived from financial statements that have been prepared in accordance with IFRS. See Note 2(a) to our audited consolidated financial statements as of and for the years ended December 31, 2009 and 2010 included in this Report on Form 6-K. IFRS differs in certain significant respects from Chilean GAAP. As a result, our financial information presented under IFRS is not directly comparable to our financial information presented under Chilean GAAP. Accordingly, readers should avoid such comparison.

Overview

We are a leading bank within the Chilean financial system, providing a broad range of financial products and services to individual and corporate customers who are primarily located in Chile. Accordingly, our financial condition, results of operations and our ability to achieve our strategic business goals could be adversely affected by changes in economic indicators (such as interest rates, inflation and GDP growth), modifications of non-economic policies of the Chilean government that can affect the private sector, or other political and economic developments in Chile, as well as regulatory changes or administrative practices of Chilean authorities, over which we have no control. We also face a number of other risks, such as increasing competition and changing market conditions that could impact our ability to achieve our goals. For more details, see “Item 3. Key Information—Risk Factors” of our annual report on Form 20-F for the year ended December 31, 2009 which has been incorporated by reference herein.

After a period of accelerated growth between 1985 and 1997, when Chile’s gross domestic product grew at an average annual rate of 7.2%, Chile’s economic growth slowed to an average rate of 3.8% between 2000 and 2010. Since 2008 the Chilean economy has faced extraordinarily difficult circumstances, ranging from a general worldwide economic slowdown caused by the United States subprime mortgage crisis to the worst earthquake reported in over 50 years in Chile. Nevertheless, the country has been able to successfully overcome these challenges due to its stable financial condition resulting from an earlier accumulation of international reserves and its internationally recognized sound fiscal policy.

Throughout 2009, the local Chilean economy was negatively affected by the international financial turmoil, which reduced foreign trade and fostered high volatility in the global financial markets, mainly because the Chilean economy is highly integrated in the international trading system and dependent on the export of commodities (principally copper). As a result, Chile’s mining activity shrank as demand for, and the price of, copper decreased dramatically. Other industrial sectors which rely heavily on exports, such as the cellulose and steel sectors, also suffered the negative impact caused by the global economic downturn.

In terms of domestic demand, as a result of the uncertainty caused by the global economic downturn and the increase in the Chilean unemployment rate, private consumption significantly decreased in 2009, leading to a decrease in the demand for durable goods (mainly cars and houses), which directly affected the construction sector and indirectly affected both the forestry and transportation sectors. The consumption of non-durable goods also declined and, accordingly, the retail sector was negatively affected and reported a decrease in its commercial activity.

As a result, investment (which grew by 18.8% in 2008) stagnated due to a decline in expectations of economic growth, leading companies to postpone their investment projects, which raised the unemployment rate in Chile.

All of these elements resulted in a 1.5% reduction in the Chilean GDP and an average unemployment rate of 9.7% for 2009. Also, the reduction in domestic and international consumption entailed a significant adjustment in inventory volumes and an excess of

 

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productive capacity, which resulted in a sharp decrease in prices, leading to a deflation of 1.4% as measured by the consumer price index as published by the Chilean National Statistics Institute for 2009. The absence of inflationary pressures encouraged the Central Bank to carry out monetary stimulus, which led the monetary policy annual interest rate to a historical low of 0.5% in order to ensure sufficient liquidity in the local monetary system.

Starting in the third quarter of 2009, the Chilean economy began to show signs of recovery which temporarily faded immediately after the earthquake that struck the center-south region of Chile on February 27, 2010, negatively affecting Chile’s GDP growth during the first quarter of 2010. Nevertheless, the Chilean economy recovered from the effects of the earthquake and, for the year ended December 31, 2010, the estimated GDP growth was 5.2% and the inflation rate was 3.0%, as measured by the consumer price index published by the Chilean National Statistics Institute.

Most of Chile’s GDP growth in 2010 came from domestic consumption and investment, with estimated growth rates of 8.9% and 17.6%, respectively, during the year. Private consumption was the main driver of GDP growth during the first half of 2010 while investment became increasingly important during the second half of 2010, as companies began to restart investment projects in response to a more positive business environment.

As a result of the improved economic indicators described above, the Chilean stock market has also shown significant signs of recovery. During 2010, the IPSA Index (the most important Chilean stock index composed of the 40 stocks with the highest average annual trading volume on the Santiago Stock Exchange) reached 5,000 points, well above the 3,580 reported on December 31, 2009. This increase was particularly fuelled by the recovery of stocks from companies associated with retail, commodities and banking activities, which reflected the more upbeat outlook for the domestic and global economies. In the first two months of 2011, the IPSA Index decreased by 9.8% to 4,444.57 points.

Inflation

Historically, Chile has experienced high levels of inflation that have significantly affected our financial condition and results of operations. Although inflation remained relatively low during much of the past decade, price level changes were relatively high during 2008 (7.1%), primarily as a result of the sharp increase in international oil and food prices. However, throughout 2009, we experienced deflation at a rate of 1.4% as a consequence of the global financial crisis, which affected many of Chile’s economic indicators, such as exports, employment, consumption and investment, thereby reducing purchasing power and leading to weaker aggregate demand. Nevertheless, in early 2010 and consistent with the recovery trend shown by the Chilean economy since the last quarter of 2009, inflation started to return to more normal levels and was within the long term range proposed by the Central Bank of 2.0% to 4.0% per year. During the year ended December 31, 2010, inflation was 3.0%, as measured by the consumer price index published by the Chilean National Statistics Institute. According to the Central Bank, the increase in the inflation rate is in line with higher levels of activity in the Chilean economy prompted by an increase in private consumption after a full year characterized by a deteriorated demand for goods and services as a result of the worldwide financial crisis.

An increase in inflation rates could adversely affect the Chilean economy and have an adverse effect on our business, financial condition and results of operations. Our results of operations reflect the effect of inflation in the following ways:

 

 

a substantial portion of our assets and liabilities are denominated in UFs, a unit that is indexed daily to reflect inflation recorded in the previous month, with the net gain or loss resulting from such indexation reflected in income; and

 

 

the interest rates earned and paid on peso-denominated assets and liabilities to some degree reflect inflation and expectations regarding inflation.

UF-Denominated Assets and Liabilities. The UF is revalued in monthly cycles. On each day in the period beginning the tenth day of each month through the ninth day of the next month, the nominal peso value of the UF is indexed up (or down in the event of deflation) in order to reflect each day a pro rata amount of the prior calendar month’s change in the consumer price index published by the Chilean National Statistics Institute. One UF was equal to Ch$20,942.88 as of December 31, 2009 and Ch$21,455.55 as of December 31, 2010. The effect of any changes in the nominal peso value of our UF-denominated assets and liabilities is reflected in our results of operations as an increase (or decrease, in the event of deflation) in interest revenue and expense. Our net interest income will be positively affected by inflation (and negatively affected by deflation) to the extent that our average UF-denominated assets exceed our average UF-denominated liabilities, while our net interest income will be negatively affected by inflation (and positively affected by deflation) when average UF-denominated liabilities exceed average UF-denominated assets. Our average UF-denominated assets exceeded our average UF-denominated liabilities by Ch$2,239,687 million (U.S.$4,781.88 million) during the year ended December 31, 2009 and Ch$3,020,905 million (U.S.$6,449.82 million) during the year ended December 31, 2010. These

 

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figures exclude capital, reserves and derivatives. See “Item 4. Information on the Company—Selected Statistical Information” of our annual report on Form 20-F for the year ended December 31, 2009 which has been incorporated by reference herein and “Selected Statistical Information” in this Report on Form 6-K.

Peso-Denominated Assets and Liabilities. Interest rates in Chile tend to reflect the rate of inflation during the relevant period and expectations regarding future inflation. The sensitivity of our peso-denominated interest earning assets and interest bearing liabilities to the inflation rate varies. See “—Interest Rates.” We maintain a substantial amount of non-interest bearing, peso-denominated current accounts and other demand deposits. The ratio of such deposits to average interest bearing peso-denominated liabilities was 62% during the year ended December 31, 2009 and 76% during the year ended December 31, 2010. Because a large part of such deposits are not indexed to inflation, even a slight decline in the rate of inflation may adversely affect our net interest margin on assets funded with such deposits and even a slight increase in the rate of inflation may increase the net interest margin on such assets. See “Item 4. Information on the Company—Selected Statistical Information—Interest Earning Assets and Net Interest Margin” of our annual report on Form 20-F for the year ended December 31, 2009 which has been incorporated by reference herein and “Selected Statistical Information—Interest Earning Assets and Net Interest Margin” in this Report on Form 6-K.

Interest Rates

Interest rates earned and paid on our assets and liabilities reflect in part inflation and expectations regarding future inflation, shifts in short-term interest rates related to the Central Bank’s monetary policies 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. Accordingly, due to the high inflation experienced during 2008, the Central Bank increased its reference interest rate five times during that year, resulting in a final monetary policy interest rate of 8.25% at the end of 2008. On the other hand, the sharp decrease in economic activity during 2009, as well as the decrease in inflationary pressures, led the Central Bank to reduce the monetary policy interest rate to a historical low of 0.50% in order to ensure sufficient liquidity levels and to enhance aggregate demand. However, as a consequence of strong recovery signs for the economic activity and the more normalized inflationary environment, the Central Bank began to withdraw the monetary stimulus in June 2010, when it increased the monetary policy annual interest rate to 1.00% from the 0.5% maintained during the first half of that year. Since June 2010, the Central Bank has repeatedly raised the monetary policy interest rate and, accordingly, on March 9, 2011, the Chilean monetary policy annual interest rate was 3.5%.

Since our liabilities generally re-price faster than our assets, changes in the rate of inflation or short-term interest rates are reflected in the interest rates we pay on our liabilities before they are reflected in the interest rates we earn on our assets. Accordingly, our net interest margin on assets and liabilities is usually adversely affected in the short-term by increases in inflation or short-term interest rates and benefits in the short term from decreases in inflation or short-term interest rates, although the existence of non-interest bearing peso-denominated demand deposits tends to mitigate both effects. See “—Inflation—Peso-Denominated Assets and Liabilities” above. In addition, because our peso-denominated liabilities have relatively short re-pricing periods, those liabilities generally are more sensitive to changes in inflation or short-term interest rates than our UF-denominated liabilities. As a result, during periods when current inflation exceeds the previous month’s inflation, customers often switch funds from peso-denominated deposits to more expensive UF-denominated deposits, thereby adversely affecting our net interest margin.

According to information published by the Central Bank, the average annual short-term nominal interest rate, based on the rate paid by Chilean financial institutions for 90 to 360-day Chilean peso-denominated deposits, was 2.34% in 2009 and 2.73% in 2010. The average annual long-term nominal interest rate, based on the interest rate of the Central Bank’s five-year Chilean peso-denominated bonds, was 4.65% in 2009 and 5.54% in 2010.

Foreign Currency Exchange Rates

A significant portion of our assets and liabilities are denominated in foreign currencies, principally U.S. dollars, and we have historically maintained and may continue to maintain gaps between the balances of such assets and liabilities. This gap includes assets and liabilities denominated in foreign currencies and assets and liabilities denominated in Chilean pesos that contain repayment terms linked to changes in foreign currency exchange rates. Because foreign currency denominated assets and liabilities, as well as interest earned or paid on such assets and liabilities and gains (losses) realized upon the sale of such assets, are translated into pesos in preparing our financial statements, our reported income is affected by changes in the value of the peso with respect to foreign currencies, primarily the U.S. dollar. Adjustments to U.S. dollar-indexed assets are reflected as adjustments in net interest earnings and offset results in the foreign exchange position.

 

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Critical Accounting Policies

There have been no material changes to accounting policies since December 31, 2009.

For more information on our critical accounting policies, please refer to “Item 5. Operating and Financial Review and Prospects—Operating Results—Critical Accounting Policies” of our annual report on Form 20-F for the year ended December 31, 2009 which has been incorporated by reference herein. For information on our significant accounting principles, please see Note 2 to our audited consolidated financial statements for the year ended December 31, 2010 included elsewhere in this Report on Form 6-K.

Results of Operations for the Year Ended December 31, 2009 Compared to the Year Ended December 31, 2010

The consolidated financial information presented in this section for years ended December 31, 2009 and 2010 has been audited and prepared in accordance with IFRS.

Net Income

The following table sets forth information regarding our net income for the years ended December 31, 2009 and 2010:

 

     For the Year Ended December 31,        
     2009     2010     % Increase  
     (in millions of Ch$)     (Decrease)  

IFRS:

      

Net interest income

   Ch$ 677,524      Ch$ 767,497        13.3

Net fees and commissions income

     251,855        292,262        16.0   

Other income (loss), net

     105,010        104,638        (0.4

Provisions for loan losses

     (241,345     (157,651     (34.7

Operating expenses

     (491,749     (544,227     10.7   

Income attributable to associates

     840        1,609        91.5   
                        

Income before income taxes

     302,135        464,128        53.6   

Income taxes

     (40,389     (46,513     15.2   
                        

Net income

   Ch$ 261,746      Ch$ 417,615        59.5
                        

The main factors contributing to our 59.5% annual increase in our net income were:

 

 

Higher interest income associated with a 6.2% growth in our average balances of total loans in 2010 as compared to 2009 mainly due to a more dynamic economic activity and relatively low interest rates in the local market that encouraged our customers to borrow and undertake their investment projects.

 

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Lower funding costs due to an increase of 19.6% in our year-end balances of current accounts and demand deposits in 2010 as compared to 2009.

 

 

An increase of approximately Ch$124,000 million in our results obtained from a proactive management of our balance sheet UF gap, amid a normalized inflationary scenario in 2010 as compared to 2009.

 

 

An increase of 16.0% in our net fees and commissions income in 2010 as compared to 2009 mainly due to higher lending and transactional activity, as well as greater volumes traded and managed by our stock brokerage and mutual funds subsidiaries, respectively.

 

 

A reduction of 34.7% in our provisions for loan losses in 2010 as compared to 2009, mainly due to an improved economic environment, accurate credit assessments of new borrowers and more efficient collection efforts.

The factors described above allowed us to offset a 10.7% increase in our operating expenses in 2010 as compared to 2009, mainly due to higher commercial activity and extraordinary items incurred in 2010, such as expenses related to the earthquake that struck Chile on February 27, 2010, the one-time impact of information technology projects developed during the year, the implementation of marketing plans intended to enhance our brand recognition and customer loyalty, and greater expenses related to special benefits to our staff for commemorating Chile’s bicentennial.

Net Interest Income

The following table sets forth information regarding our net interest income and net interest margin for the years ended December 31, 2009 and 2010:

 

     For the Year Ended December 31,     %  Increase
(Decrease)
 
     2009     2010    
     (in millions of Ch$)    

IFRS:

      

Interest revenue

     900,407        1,092,003        21.3

Interest expense

     (222,883     (324,506     45.6   
                        

Net interest income

     677,524        767,497        13.3
                        

Net interest margin(1)

     4.38     4.70     —     

 

(1) Net interest income divided by average interest earning assets. The average balances for interest earning assets, including interest readjustments, have been calculated on the basis of our daily balances and on the basis of monthly balances for our subsidiaries.

The main factors contributing to our 13.3% annual increase in net interest income were:

 

 

The positive inflation effect on our UF net asset position. During 2010, the inflation rate (measured as the UF variation) increased by 2.45% as compared to deflation of 2.38% recorded in 2009. This variance, along with a proactive management of our UF net asset position, increased the contribution from that exposure for an amount of approximately Ch$124,000 million in 2010.

 

 

Higher interest income related to a 6.2% growth in our average balances of total loans in 2010 as compared to 2009 mainly due to a more dynamic economic activity and relatively low interest rates in the local market. Although the annual short-term nominal interest rate increased from 2.34% in 2009 to 2.73% in 2010 and the long-term nominal interest rate rose from

 

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4.65% in 2009 to 5.54% in 2010, they still remain at low levels as compared to historical data. As a result, customers have been encouraged to borrow and undertake their investment projects. The final effect of these higher loan volumes accounted for approximately Ch$4,500 million.

 

 

An increase of 19.6% in our year-end balances of current accounts and demand deposits in 2010 as compared to 2009, which became an important funding source for us and accounted for 26.0% of our total funding structure.

The factors described above enabled us to offset the effects of lower lending spreads (aligned with improved risk profiles of individuals and companies as a result of the better economic outlook) and still low nominal interest rate that translate into a lower yield of our non-interest bearing liabilities.

As a result of all the factors described above, our net interest margin grew from 4.38% in 2009 to 4.70% in 2010.

Interest Revenue

The following table sets forth information regarding our interest revenue and average interest earning assets for the years ended December 31, 2009 and 2010:

 

     For the Year Ended December 31,     %  Increase
(Decrease)
 
     2009     2010    
     (in millions of Ch$)    

IFRS:

      

Interest revenue

   Ch$ 900,407      Ch$ 1,092,003        21.3

Average interest earning assets:

      

Commercial loans

     8,538,745        8,863,082        3.8   

Residential mortgage loans

     2,359,746        2,698,384        14.4   

Consumer loans

     1,872,098        1,997,400        6.7   
                        

Total loans

     12,770,589        13,558,866        6.2   

Cash and due from banks

     814,463        848,413        4.2   

Repurchase agreements

     42,755        74,471        74.2   

Financial investments

     1,628,270        1,519,808        (6.7

Loans and advance to banks

     204,703        339,844        66.0   
                        

Total

   Ch$  15,460,780      Ch$  16,341,402        5.7
                        

Average rates earned on total interest earning assets:

      

Average nominal rates

     5.83     6.84     —     

Average real rates

     4.56     1.91     —     

 

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The 21.3% annual increase of our interest revenue in 2010 as compared to 2009 resulted mainly from: (i) higher nominal interest rates in the local market as a consequence of a positive inflation, which resulted in a higher contribution from our interest earning UF-denominated assets (indexed to inflation), and (ii) a 5.7% increase of our average interest earning assets, mainly due to a 6.2% increase in our average balances of total loans (particularly associated with our expansion in residential mortgage loans) in 2010 as compared to 2009. These factors enabled us to increase the yield of our average interest earning assets from 5.83% in 2009 to 6.84% in 2010, in nominal terms.

Interest Expense

The following table sets forth information regarding our interest expense and average interest bearing liabilities for the years ended December 31, 2009 and 2010:

 

     For the Year Ended December 31,        
     2009     2010     % Increase  
     (in millions of Ch$)     (Decrease)  

IFRS:

      

Interest expense

   Ch$ 222,883      Ch$ 324,506        45.6

Average interest bearing liabilities:

      

Savings accounts and time deposits(1)

     7,568,317        7,382,126        (2.5

Securities under agreements to repurchase

     275,058        182,956        (33.5

Borrowings from financial institutions

     1,197,151        1,365,835        14.1   

Debt issued

     1,713,629        1,660,440        (3.1

Other financial obligations

     101,999        132,200        29.6   
                        

Total

   Ch$  10,856,154      Ch$  10,723,557        (1.2 %) 
                        

Average rates paid on total interest bearing liabilities:

      

Average nominal rates

     2.05     3.03     —     

Average real rates

     (1.20 %)      (2.59 %)      —     

Average (Chilean peso denominated) non interest bearing current account and demand deposits

     3,133,304        4,085,800        30.4

 

(1) Includes interest earning demand deposits.

 

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The 45.6% increase in our interest expense in 2010 as compared to 2009 is mostly the result of an inflation of 3.0% in 2010 compared to a deflation of 1.4% in 2009 in response to more optimistic market projections about GDP growth for the Chilean economy. The higher inflation increased the cost of our interest bearing liabilities, which was partly offset by the 1.2% annual decrease in average volumes.

Net Fees and Commissions Income

The following table sets forth certain components of our fees and commissions income (net of fees paid to third parties that provide support for those services, principally fees related to credit pre-evaluation services and receipts and collection services provided to us) for the years ended December 31, 2009 and 2010:

 

     For the Year Ended December 31,        
     2009     2010     % Increase  
     (in millions of Ch$)     (Decrease)  

IFRS:

      

Mutual funds

   Ch$  45,246      Ch$  61,476        35.9

Insurance

     46,146        49,170        6.6   

Current accounts, overdrafts, credit lines and credit cards

     64,993        72,685        11.8   

Sight accounts and ATMs

     21,072        21,225        0.7   

Stock brokerage

     12,177        23,752        95.1   

Collection of over-due loans

     16,628        17,870        7.5   

Cash management services

     12,294        13,715        11.6   

Letters of credit, guarantees, collateral and other contingent loans

     12,599        14,167        12.4   

Custody and trust services

     4,989        4,838        (3.0

Foreign trade and currency exchange

     5,085        4,760        (6.4

Financial advisory services

     7,860        4,800        (38.9

Credits and factoring

     3,912        5,932        51.6   

Collection services

     1,622        1,383        (14.7

Teller services expenses

     (2,548     (2,054     (19.4

Credit pre-evaluation services

     (481     (1,821     278.6   

Other

     261        364        39.5   
                        

Total

   Ch$  251,855      Ch$  292,262        16.0
                        

 

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The main factors contributing to our 16.0% increase in our net fees and commissions income were:

 

 

Higher commercial activity from two of our main subsidiaries which benefited from a better economic outlook for the local economy and relatively low interest rates that encouraged investors to reinvest in riskier assets, such as stocks and mutual funds during 2010. Our mutual funds subsidiary increased its assets under management by 14.3% in 2010 as compared to 2009, which translated into an increase of 35.9% (or Ch$16,230 million) in its net fees and commissions income during the same period. Similarly, the stocks trading turnover handled by our securities brokerage subsidiary rose by 26.6% in 2010 as compared to 2009 that, along with the settlement of several one-off transactions, led to an increase of 95.1% (or Ch$11,575 million) in the subsidiary’s net fees and commissions income during the same period.

 

 

Higher fees and commissions resulting from the effectiveness of our improved cross-selling strategies for core banking products, such as current accounts, overdrafts, credit lines, and credit cards. The total amount of commissions from these products reached Ch$72,685 million in 2010, which represents an increase of 11.8% (or Ch$7,692 million) as compared to the Ch$64,993 million in 2009. This is the result of specific products and marketing plans, designed and implemented by our new Credit and Debit Cards Division, intended to enhance customer loyalty and the use of our credit cards. Also, the economic rebound encouraged customers to increase their consumption and therefore the monthly amount of transactions with credit cards.

 

 

An increase of 51.6% (or Ch$2,020 million) in our net fees and commissions income from a higher demand for credits and factoring in 2010 as compared to 2009, as a result of more dynamism in the Chilean economy during 2010 as compared to 2009.

These factors were partly offset by a 38.9% (or Ch$3,080 million) decrease in fees and commissions from financial advisory activities mainly due to lower activity in connection with debt restructuring in 2010 as compared to 2009, when our financial advisory subsidiary benefited from the higher demand amid the economic downturn.

 

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Other Income (Loss), Net

Other income (loss), net, consists of net gains and losses from financial operating income, net gains and losses from foreign exchange transactions and other operating income. Financial operating income results include gains and losses realized on the sale of securities, gains and losses from the mark to market of securities and interest rate and currency derivatives at the end of the period. Net gains and losses from foreign exchange transactions include gains and losses realized upon the sale of foreign currency and foreign exchange derivatives and gains and losses arising from the period-end translation of foreign currency denominated assets and liabilities into pesos. Foreign exchange results also include net adjustments on U.S. dollar-indexed domestic currency transactions and existing interest rate differences in currency derivatives.

The following table sets forth certain components of our other income (loss), net, for the years ended December 31, 2009 and 2010:

 

     For the Year Ended December 31,     %  Increase
(Decrease)
 
     2009     2010    
     (in millions of Ch$)    

IFRS:

      

Net financial operating income

      

Interest accrued on trading securities

   Ch$ 4,518      Ch$ 9,248        104.7

Gains (losses) on sales and mark to market:

     32,758        31,536        (3.7

Gains (losses) on derivatives contracts

     (175,455     (23,342     (86.7

Gains (losses) from sales of loans

     —          (150     —     
                        

Total net financial operating income (losses)

     (138,179     17,292        —     

Foreign exchange transactions, net

     220,999        63,762        (71.1

Other operating income

     22,190        23,584        6.3   
                        

Total

   Ch$ 105,010      Ch$  104,638        (0.4 %) 
                        

The slight (0.4%) decrease in our net other income in 2010 as compared to 2009 is primarily explained by lower results from the management of derivative contracts, net of foreign exchange transactions, that decreased by 11.3% from Ch$45,544 million in 2009 to Ch$40,420 million in 2010. This decrease is the result of a combination of different market factors, such as: (i) lower trading volumes during 2010 as compared to 2009 due to lower foreign exchange rate volatility and (ii) a spread compression effect during 2010 as compared to 2009. This decrease was mostly offset by higher results from our investment portfolio, whose income from interest accrued, sales and mark-to-market increased by 9.4%, from Ch$37,276 million in 2009 to Ch$40,784 million in 2010.

 

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Provisions for Loan Losses

The following table sets forth information with respect to our provisions and allowances for loan losses and charge-offs for the years ended December 31, 2009 and 2010:

 

     For the Year Ended December 31,     %  Increase
(Decrease)
 
     2009     2010    
     (in millions of Ch$, except percentages)    

IFRS:

      

Provisions:

      

Net provisions for loan losses

   Ch$ 241,345      Ch$ 157,651        (34.7 )% 

Gross provisions for loan losses

     268,224        189,820        (29.2

Total loan loss recoveries

     26,879        32,169        19.7   

Charge-offs:

      

Total charge-offs

     181,793        149,093        (18.0

Net charge-offs

     154,914        116,924        (24.5

Other asset quality data:

      

Total loans

     13,191,256        14,377,995        9.0   

Allowances for loan losses

     312,101        348,027        11.5   

Allowances for loan losses as a percentage of total loans

     2.37     2.42     —     

Average loans

     12,770,589        13,558,866        6.2   

Provisions for loan losses as a percentage of average loans

     1.89     1.16     —     
                        

The 34.7% (or Ch$83,694 million) decrease in provisions for loan losses in 2010 as compared to 2009 is mainly the consequence of an improved local economy that increased our customers’ payment capacity. This trend was reinforced by effective credit approval processes. Thus, regarding our provisions for loan losses, particularly noteworthy are:

 

 

A decrease of 19.9% in provisions for loan losses related to our Retail Banking segment in 2010 as compared to 2009, as a result of improved economic indicators that benefited customers evaluated through grouped credit risk models.

 

 

A decrease of 38.2% in provisions for loan losses associated with our Wholesale Banking segment in 2010 as compared to 2009, as a result of both the local economy’s rebound and the ability of certain industrial sectors to partly overcome difficulties faced in 2009, which led us to improve credit risk scoring for certain sectors and corporate customers, and consequently reduce the corresponding provisions for loan losses.

These reductions in our segments’ provisions for loan losses were also fuelled by an increase of 19.7% in our recoveries from Ch$26,879 million in 2009 to Ch$32,169 million in 2010, as a result of a greater efficiency in our collection processes that were redesigned and improved during 2010.

As a result of the factors described above, our credit quality indicators improved in 2010 as compared to 2009, almost returning to pre-crisis levels. Our ratio of provisions to average loans decreased from 1.89% in 2009 to 1.16% in 2010.

 

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Operating Expenses

The following table sets forth information regarding our operating expenses for the years ended December 31, 2009 and 2010:

 

     For the Year Ended December 31,      %  Increase
(Decrease)
 
     2009      2010     
     (in millions of Ch$)     

IFRS:

        

Personnel expenses

   Ch$  256,782       Ch$  272,737         6.2

Administrative expenses:

        

Advertising

     17,943         23,182         29.2   

Building maintenance

     21,611         25,647         18.7   

Rentals and insurance

     17,905         18,419         2.9   

Office supplies

     6,818         5,735         (15.9

Other expenses

     112,721         124,686         10.6   
                          

Total administrative expenses

     176,998         197,669         11.7

Impairments

     —           1,044         —     

Depreciation and amortization

     36,447         34,964         (4.1

Other operating expenses

     21,522         37,813         75.7   
                          

Total

   Ch$ 491,749       Ch$ 544,227         10.7
                          

The main factors that explain the 10.7% (or Ch$52,478 million) increase in our operating expenses in 2010 as compared to 2009 can be summarized as follows:

 

 

An increase of approximately Ch$16,000 million in personnel expenses, mainly due to: (i) higher commercial activity during 2010 as compared to 2009 that led to a greater amount of variable compensation for our sales force, (ii) the effect of inflation on the wages of our employees, and (iii) a special bonus of approximately Ch$3,000 million granted to our employees in connection with the celebration of Chile’s 200th anniversary.

 

 

Approximately Ch$14,000 million of additional marketing and advertising expenses in 2010 as compared to 2009 associated with: (i) the enhancement of our customer loyalty program intended to reinforce the use of our credit cards (an increase of approximately Ch$8,300 million in 2010 as compared to 2009), and (ii) advertising campaigns carried out in 2010 in order to increase our brand recognition and presence in certain market segments, especially associated with retail banking (which resulted in an increase of approximately Ch$5,200 million in 2010 as compared to 2009).

 

 

Charge-offs of approximately Ch$6,440 million associated with over-accrued commissions related to current accounts.

 

 

An increase of approximately Ch$5,400 million in IT expenses mainly due to costs associated with the implementation of our new data processing systems and contingency sites.

 

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Expenses associated with the February 27, 2010 earthquake that consisted of: (i) approximately Ch$5,000 million related to fixed-assets write-offs and repairs, (ii) Ch$1,000 million associated with financial support to our employees and a cash donation in a fund-raising campaign for the post-quake reconstruction process, and (iii) reimbursements of nearly Ch$2,500 million related to insurance policies as a result of damage to infrastructure caused by the earthquake.

Income Tax

The statutory corporate income tax rate in Chile was 17% for the years ended December 31, 2009 and 2010. Under Law No. 19,396 we are permitted to deduct subordinated debt payments made to Sociedad Administradora de la Obligación Subordinada S.A. (“SAOS”) from our taxable net income. Consequently, our effective tax rate is significantly lower than the statutory corporate income tax rate because of the deduction of such subordinated debt payments from our taxable income. Additionally, but to a lesser extent, differences in the tax treatment for monetary correction, as well as provisions on individual loans and for charge-offs related to past-due loans have an impact on our effective tax rate. Also, all real estate taxes paid on properties are deductible from our taxable income.

Our income tax reached Ch$46,513 million in 2010, which corresponds to a 15.2% (or Ch$6.124 million) increase from the Ch$40,389 million reported in 2009. The income tax increase is lower than the 53.6% increase in our income before taxes, which resulted in a reduction of our effective tax rate from 13.4% in 2009 to 10.0% in 2010.

The Chilean Revenue Service permits the deduction of the inflation effect on equity from taxable net income when inflation rate is positive, but does not allow an opposite adjustment when deflation occurs. Accordingly, the decrease in our effective tax rate in 2010 is partly attributable to the inflation of 3.0% compared to the deflation of 1.4% experienced in 2009, in each case as reported by the Chilean Statistics Institute. This variance led to a decrease in our 2010 taxable base associated with the effect of a positive inflation on our equity, which did not take place in 2009, due to the previously mentioned. Additionally, the decrease in our effective tax rate is also attributable to differences between amounts previously accrued for income taxes and amounts paid during the year ended December 31, 2009.

On July 31, 2010, the Chilean congress enacted Law No. 20,455 in response to the February 27, 2010 earthquake, which temporarily increases corporate income tax rates from 17.0% to 20.0% for the fiscal year ending December 31, 2011 and 18.5% for the fiscal year ending December 31, 2012. In 2013, the income tax rate is expected to return to 17.0%.

Business Segments

To the extent that it is available and is useful in analyzing our results, we have included information on a consolidated basis by business segments, disclosed under our internal reporting policies. A summary of differences between IFRS and our internal reporting policies is presented under “—Summary of Differences between Internal Reporting Policies and IFRS.”

For management purposes, we have organized our operations and commercial strategies into four business segments, which are defined in accordance with the type of products and services offered to target customers. These business segments are currently defined as follows:

Retail: This segment is focused on individuals, as well as small and medium-sized companies with annual sales under Ch$1,500 million. The segment is primarily focused on consumer loans, commercial loans, current accounts, credit cards, credit lines and mortgage loans.

Wholesale: This segment is focused on corporate clients and large companies with annual revenues exceeding Ch$1,500 million. This segment includes products and services focused on commercial loans, current accounts, liquidity management services, debt instruments, foreign trade, derivative contracts and leases, as well as corporate finance transactions.

Treasury and money market operations: The revenue generated by this segment relates to the management of our liquidity and net positions subject to market risks. This segment also includes results of our securities portfolio, our derivatives positions and currency trading.

 

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Operations through subsidiaries: This segment corresponds to all companies controlled by us whose results are obtained individually by the respective company. As of December 31, 2010, this business segment consisted of the following companies:

 

 

Banchile Trade Services Limited;

 

 

Banchile Administradora General de Fondos S.A.;

 

 

Banchile Asesoría Financiera S.A.;

 

 

Banchile Corredores de Seguros Ltda.;

 

 

Banchile Factoring S.A.;

 

 

Banchile Corredores de Bolsa S.A.;

 

 

Banchile Securitizadora S.A.;

 

 

Socofin S.A.; and

 

 

Promarket S.A.

The accounting policies described in “Item 5. Operating and Financial Review and Prospects—Operating Results—Critical Accounting Policies” of our annual report on Form 20-F for the year ended December 31, 2009 incorporated by reference herein apply to all business segments. Matters such as the evaluation of segment performance and decision-making processes regarding goals and allocation of resources for each segment are based on a cost-benefit analysis and are aligned with our strategic goals.

In order to measure each segment’s financial performance, we use a business segment-based profitability system, which allows us to obtain information for each business segment relative to income, balances, revenues and expenses, among other indicators. This system has been internally developed in order to serve our specific requirements and we continuously work to improve it. In addition, business segment information is subject to general internal auditing procedures to ensure its integrity within management decision-making.

The financial information used to measure the performance of our business segments is not necessarily comparable with similar information from other financial institutions because it is based on our internal reporting policies. The accounting policies used to prepare our operating segment information are similar to those described in Note 2(g) to our audited consolidated financial statements as of and for the year ended December 31, 2010 included elsewhere in this Report on Form 6-K and Note 2 to our audited consolidated financial statement appearing in “Summary of Significant Accounting Principles” of our annual report on Form 20-F for the year ended December 31, 2009 incorporated by reference herein, except as noted below:

 

 

The net interest margin of loans and deposits is measured on an individual transaction and individual client basis, stemming from the difference between the effective customer rate and our related fund transfer price in terms of maturity, re-pricing and currency.

 

 

The results associated with gap management (interest rate and currency mismatches) are allocated to the business segments by considering the amount of loans and demand deposits managed by each segment.

 

 

The internal performance profitability system considers capital allocation in each segment in accordance with Basel guidelines.

 

 

In addition to direct costs (consisting mainly of labor and administrative expenses of the business segments), we allocate all of our direct and indirect operating costs of back office and support units to each business segment by utilizing the most relevant business driver to assign such costs to the specific segment.

 

 

We apply Chilean GAAP, as required by the Superintendency of Banks, when measuring and recording allowances for loan losses, assets received in lieu of payments, minimum dividend allowances and other minor items for internal reporting purposes. These accounting principles significantly differ in certain respects from IFRS. A description of these differences is presented below under “—Summary of Differences between Internal Reporting Policies and IFRS.”

 

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Net Income by Business Segment

The following table sets forth net income before tax expenses by business segment in accordance with our internal reporting policies for the years ended December 31, 2009 and 2010:

 

     For the Year Ended December 31,         
     2009      2010      %  Increase
(Decrease)
 
     (in millions of Ch$)     

BANK’S INTERNAL REPORTING POLICIES:

  

Retail banking

   Ch$  116,728       Ch$  182,114         56.0

Wholesale banking

     76,617         107,826         40.7   

Treasury and money market operations

     51,617         64,862         25.7   

Subsidiaries

     52,522         62,237         18.5   
                          

Net income before taxes

   Ch$ 297,484       Ch$ 417,039         40.2
                          

Retail Banking

The 56.0% increase in net income before taxes of our Retail Banking segment in 2010 as compared to 2009 consists of a 40.0% growth in net income before taxes of our Commercial Division and a 561.0% increase in the net income before taxes of our Consumer Finance Division. These increases were mainly driven by:

 

 

An increase of 14.1% in the year-end balance of the segment’s loan portfolio in 2010 as compared to 2009. This increase was associated with the growth posted by the loan portfolios of both our Commercial Division (an increase of 14.9%) and our Consumer Finance Division (an increase of 7.1%). Also, according to our management information system, all of the segment’s credit products reported double digit growth rates, such as the growth of 16.5% recorded by our Commercial Division in residential mortgage loans, the product with the most significant increase.

 

 

The impact of a normalized inflation rate on the segment’s UF net asset position.

 

 

A decrease of 19.9% in the segment’s provisions for loan losses in 2010 as compared to 2009. This reduction was underpinned by a decrease of 25.5% in provisions for loan losses associated with our Consumer Finance Division in 2010 as compared to 2009 and a decrease of 15.9% in provisions for loan losses related to our Commercial Division. These improving trends were in line with positive economic indicators for the local economy throughout 2010 that favored customers evaluated through grouped credit risk models.

 

 

An increase of 6.8% in the segment’s income from fees and commissions, mainly due to greater commissions from a higher activity in current accounts, credit cards and ATMs, especially in our Commercial Division.

The factors described above offset the 15.9% increase in the segment’s operating expenses in 2010 as compared to 2009, mainly due to greater infrastructure expenses associated with the February 27, 2010 earthquake, commercial initiatives intended to reinforce customer loyalty through higher use of our credit cards (an increase of approximately Ch$8,500 million in 2010 as compared to 2009) and the recognition of approximately Ch$10,000 million in the segment’s profit and loss statement related to the allocation of part of the countercyclical allowances established by our board of directors during the fourth quarter of 2010 as permitted by the new regulation described under “Recent Developments.”

 

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Wholesale Banking

The 40.7% annual increase in net income before taxes of our Wholesale Banking segment in 2010 as compared to 2009 consists of a 208.4% growth in net income before taxes of our Large Companies and Real Estate Division that offset the 27.0% decrease in net income before taxes of our Corporate Division. This net increase was mainly explained by:

 

 

A decrease of 38.2% in provisions for loan losses in 2010 as compared to 2009 due to an 84.7% decrease in provisions for loan losses of our Large Companies and Real Estate Division that offset a 103.2% increase in provisions for loan losses of our Corporate Division. The net decrease in the segment’s provisions for loan losses is mainly the result of the local economy’s rebound, our effective credit processes, the ability of certain industrial sectors to partly overcome productive and commercial difficulties faced in 2009 and the effect of the exchange rate (Ch$/U.S.$) decrease on the provisions for loan losses linked to U.S. dollar-denominated loans.

 

 

An increase of 28.5% in the segment’s net fees and commissions in 2010 as compared to 2009, mainly as a result of higher commissions from credit and factoring, as well as cash management services. This increase in the segment’s net fees and commissions includes a 61.3% increase in our Large Companies and Real Estate Division’s fees and commissions and a 6.6% rise in our Corporate Division’s fees and commissions.

 

 

An increase of 4.3% in the year-end balance of our Corporate Division’s loan portfolio in 2010 as compared to 2009 and a 3.4% rise in the year-end balance of our Large Companies and Real Estate Division’s loan portfolio for the same period.

 

 

An increase of 10.1% in the operating income of our Large Companies and Real Estate Division and a 7.0% rise in the operating income of our Corporate Division.

 

 

The effects of a normalized inflationary scenario that, along with a proactive management of the segment’s UF exposure, increased the contribution from the segment’s UF net asset position.

The factors described above offset an increase of 15.5% in the segment’s operating expenses in 2010 as compared to 2009 mainly due to a charge of approximately Ch$30,000 million in the segment’s profit and loss statement as a result of: (i) the recognition of approximately Ch$22,000 million associated with contingency provisions (accounted as other operating expenses) established by us during the fourth quarter of 2010 in order to comply with the new regulation of provisioning for individually evaluated loan portfolios (see “Recent Developments” for more information) and (ii) a charge of nearly Ch$10,000 million in the segment’s profit and loss statement related to the allocation of part of the countercyclical allowances established by our board of directors during the fourth quarter of 2010 as permitted by the new regulation described under “Recent Developments.”

Treasury and Money Market Operations

The 25.7% increase in net income before taxes of our Treasury and Money Market segment in 2010 as compared to 2009 was mainly due to:

 

 

Higher operating revenues from intraday trading and overnight positions.

 

 

Positive results associated with trading and available-for-sale securities.

The factors described above offset an increase of 52.1% (or approximately Ch$4,400 million) in the segment’s operating expenses in 2010 as compared to 2009, mainly due to higher expenses associated with: (i) the higher activity in bond issuances and foreign funding, (ii) severance payments, and (iii) increased IT related expenses in connection with the implementation of a new business platform.

Operations through Subsidiaries

The 18.5% increase in net income before taxes of our subsidiaries in 2010 as compared to 2009 was mainly driven by:

 

 

An increase of 49.6% in net income from our stock brokerage subsidiary in 2010 as compared to 2009, mainly as a result of: (i) an increase of 78.3% in fees and commissions from Ch$14,921 million in 2009 to Ch$26,600 million in 2010 associated with a 26.6% growth recorded in the stock trading turnover, and (ii) the settlement of several one-off transactions.

 

 

An increase of 78.4% in net income before taxes from our mutual funds subsidiary as a consequence of a 43.8% rise in fees and commissions from our mutual funds subsidiary in 2010 as compared to 2009, mainly as a result of the 14.3% increase in the average volume of assets under management during 2010 as compared to 2009 and due to the evolution of our portfolio mix that shifted from fixed to variable-income securities reflecting a more optimistic economic outlook. Also, worth noting is the growth observed in the number of participants in our mutual funds of 10.3% in 2010 as compared to 2009.

 

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An increase of 25.9% in the average volume of insurance policies sold by our insurance brokerage subsidiary in 2010 as compared to 2009.

The factors described above offset: (i) a decrease of Ch$2,942 million in net income from our financial advisory subsidiary in 2010 as compared to 2009 due to the lower debt restructuring activity, which had grown significantly in 2009 during the financial crisis and (ii) a decrease of Ch$6,075 million in net income from our factoring subsidiary in 2010 as compared to 2009, mainly as a result of the effects of a normalized inflationary scenario on the subsidiary’s UF net liability position.

Summary of Differences between Internal Reporting Policies and IFRS

We prepare our business segments’ financial information in accordance with our internal reporting policies, which differ in certain significant aspects from IFRS. The following table sets forth net income and equity for the years ended December 31, 2009 and 2010 in accordance with our internal reporting policies and under IFRS:

 

     As of December 31,  
     2009      2010  
     (in millions of Ch$)  

Net income before taxes (Internal Reporting Policies)

   Ch$ 297,484       Ch$ 417,039   

Reconciliation to IFRS

     4,651         47,089   

Net income before taxes (IFRS)

     302,135         464,128   

Net income (Internal Reporting Policies)

     257,887         378,530   

Net income (IFRS)

     261,746         417,615   

Equity (Internal Reporting Policies)

     1,392,748         1,404,127   

Equity (IFRS)

   Ch$ 1,600,985       Ch$ 1,694,325   

Some differences exist between our net income and equity as determined in accordance with our internal reporting policies, which are used for management reporting purposes, as presented in the segment information, and our net income and equity as determined under IFRS, as presented in our consolidated financial statements.

The most significant differences are as follows:

Under internal reporting policies, our merger with Citibank Chile was accounted for under the pooling-of-interest method, while under IFRS, and for external financial reporting purposes, the merger of the two banks was accounted for as a business combination in which we were the acquirer as required by IFRS 3 “Business Combinations.” Under IFRS 3, we recognized all acquired net assets at fair value as determined at the acquisition date, as well as the goodwill resulting from the purchase price consideration in excess of net assets recognized. As a result of these accounting policy differences, the impact on our net income under IFRS is Ch$6,450 million lower than our internally reported net income in each of 2009 and 2010.

For internal reporting purposes, allowances for loan losses are calculated based on specific guidelines set by the Superintendency of Banks based on an expected losses approach. Under IFRS, IAS 39 “Financial instruments: Recognition and Measurement,” allowances for loan losses should be adequate to cover losses in the loan portfolio at the respective balance sheet dates based on an analysis of estimated future cash flows. According to internal reporting policies, we record additional allowances related to expected losses not yet incurred, whereas under IFRS these expected losses may not be recognized. As a result of these accounting policy differences, the impact on our net income under IFRS is Ch$5,298 million and Ch$49,003 million higher than our net income internally reported in 2009 and 2010, respectively.

 

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For internal reporting purposes, assets received in lieu of payments are measured at historical cost or fair value, less cost to sell, if lower, on a portfolio basis and written off if not sold after a certain period in accordance with specific guidelines set by the Superintendency of Banks. Under IFRS, these assets are deemed non-current assets held-for-sale and their accounting treatment is set by IFRS 5 “Non-Current Assets Held for Sale and Discontinued Operations.” In accordance with IFRS 5 these assets are measured at historical cost or fair value, less cost to sell, if lower. Accordingly, under IFRS these assets are not written off unless impaired. As a result of this accounting policy difference, the impact on our net income under IFRS is Ch$3,838 million and Ch$4,099 million higher than our net income internally reported in 2009 and 2010, respectively.

Chilean banks are required to distribute at least 30% of their net income to shareholders unless the shareholders unanimously approve the retention of profits. A bank may, however, be prohibited from distributing to shareholders even this 30% of its net income if such distribution would cause the bank to violate certain statutory capital requirements. In accordance with internal reporting policies, we record a minimum dividend allowance based on our distribution policy, which requires distribution of at least 70% of the period’s net income, as permitted by the Superintendency of Banks. During 2009 and 2010, we reversed allowances of Ch$180,519 million and Ch$242,503 million, respectively. Under IFRS, only the portion of dividends that is required to be distributed by Chilean law may be recorded, i.e., 30% as required by Chilean Corporation Law. These accounting differences do not lead to differences in net income.

Liquidity and Capital Resources

Overview

A sound liquidity strategy must be focused on ensuring that funds are available to honor our financial commitments when they are due and also to take advantage of attractive business opportunities. To accomplish this, we monitor funding liquidity (i.e., the ability to raise funds when they are needed without incurring abnormal costs) and trading liquidity (i.e., the ability to easily defease debt and equity instruments held in our portfolios and/or offset price risk positions generated by derivative transactions).

Liquidity risk can be technically broken down into two types of risks: trading liquidity risk and funding liquidity risk. Trading liquidity risk deals with the inability to defease cash positions (bonds, loans, etc.) and/or offset price risks generated by derivatives transactions and funding liquidity risk is related to the Bank’s inability to raise funds. Both risks can lead to potentially adverse scenarios that might make the bank unable to meet its payment obligations and/or potential payment obligations when they become due.

These two risks are jointly managed by utilizing different tools, as detailed below.

Trading Liquidity Risk Management

Holding a stake of debt instruments with deep secondary markets ensures trading liquidity. Central Bank and government instruments and short-term banks’ time deposits show these characteristics. These kinds of instruments are held in our trading portfolio and comprise some portion of the Available-for-Sale (“AFS”) portfolio. In addition, mortgage bonds issued by banks resident in Chile and corporate bonds are also part of the AFS portfolio.

Even though mortgage and corporate bonds show much less trading liquidity than Central Bank and government instruments, the former may be sold to the Central Bank under repurchase agreements. Government instruments and short-term banks’ time deposits are also eligible to be sold to the Central Bank under repurchase agreements.

Funding Liquidity Risk Management

Diversifying funding sources and avoiding a concentration of large fund providers or funding maturity dates are means to ensure funding liquidity. Diversification is ensured through the establishment of triggers that monitor concentrations of funding sources, of maturity, of currency, etc. The aggregation of significant fund providers by currency is monitored as a percentage of our current liabilities.

In particular, our funding strategy aims to satisfy our customers’ needs and to enhance our product base offering while maintaining a prudent product diversification profile, currencies and maturities. We are focused on broadening the current core and diversified funding obtained through the retail banking business. In addition, we are continuously issuing either senior or subordinated bonds in order to match both the liquidity and the interest rate risk generated by our long-term loans.

 

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In addition to our own metrics in place to monitor liquidity, the Central Bank and the Superintendency of Banks have established regulations regarding liquidity, which include: minimum reserve requirements for deposits, minimum “technical” reserve requirements and maximum expected outflows for the following 30 and 90 days.

The Central Bank has established a minimum reserve of 9.0% for demand deposits and 3.6% for time deposits. The reserve requirement must be complied with separately by currency (pesos and foreign currencies).

We are subject to a “technical” reserve requirement applicable to all banks that operate in Chile. The daily balance of deposits and obligations payable on demand, except for obligations with other banks, may not exceed 2.5 times the amount of the bank’s Regulatory Capital. Deposits and obligations payable on demand include:

 

 

deposits in current accounts;

 

 

other demand deposits or obligations payable on demand and incurred in the ordinary course of business;

 

 

savings deposits that allow unconditional withdrawals that bear a stated maturity; and

 

 

other deposits unconditionally payable immediately.

Chilean banks are not required, however, to maintain the minimum reserves referred to above for deposits and obligations subject to this “technical” reserve.

Chilean regulations also require that the expected outflows within the following 30 days not exceed the amount of a bank’s Basic Capital and the expected outflows within the following 90 days not exceed twice the amount of a bank’s Basic Capital. Expected outflows may include behavioral assumptions. Measurements must be made by currency separately.

Mandatory metrics requested by the Superintendency of Banks and other metrics developed by us utilizing internal models are prepared daily by independent units within the Corporate/Market Risk Management. These reports are submitted daily to the corresponding Treasury areas, which are in charge of overseeing and managing our liquidity. The Country Asset Liability Committee also monitors these metrics on a monthly basis.

Given our internal metrics and policies, we believe that our working capital is sufficient to meet our present needs.

Cash Flows

The tables below set forth our principal sources of cash. Our subsidiaries are not an important source of cash for us and therefore do not significantly affect our ability to meet our cash obligations. No legal, contractual or economic restrictions exist on the ability of our subsidiaries to transfer funds to us in the form of loans or cash dividends as long as our subsidiaries abide by the regulations in the Chilean Corporations Law regarding loans to related parties and minimum dividend payments.

 

     For the Year Ended December 31,  
     2009      2010  
     (in millions of Ch$)  

IFRS:

     

Net cash provided by operating activities

   Ch$ 703,623       Ch$ (110,055
                 

The reduction of Ch$813,678 million in the net cash provided by operating activities in 2010 as compared to 2009 is mostly explained by: (i) an increase of Ch$1,538,530 million in the outflow associated with loans to customers during 2010 as compared to 2009, (ii) a net increment of Ch$440,607 million in the outflow related to take positions in financial assets held-for-trading. These cash outflows were partly offset by a greater cash inflow of Ch$1,174,388 million associated with the increase in our demand deposits balances.

 

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     For the Year Ended December 31,  
     2009     2010  
     (in millions of Ch$)  

IFRS:

    

Net cash used in investing activities

   Ch$ (414,826   Ch$ 131,239   
                

The difference between 2010 and 2009 is primarily explained by a decrease of our portfolio of financial assets available-for-sale as a result of the sale of certain fixed-income securities during 2010 with the purpose of taking advantage of a positive mark-to-market position, which resulted in a net cash flow increase. This was complemented by a lower investment in other assets during 2010 as compared to 2009.

 

     For the Year Ended December 31,  
     2009     2010  
     (in millions of Ch$)  

IFRS:

    

Net cash provided by (used in) financing activities

   Ch$ (408,168   Ch$ (67,346
                

The difference between 2010 and 2009 is mainly explained by an increase in proceeds from bond issuances by Ch$571,234 million and a lower payment of long-term foreign borrowings in an amount of Ch$532,137 million, both of which were partly offset by a decrease of Ch$357,319 million in borrowings from financial institutions, higher redemptions of bonds for a net amount of Ch$167,964 million, a decrease of Ch$99,922 million in the cash inflow from other financial obligations and lower long-term foreign borrowings for a net value of Ch$94,311 million.

Other Borrowings

Borrowings are described as short-term when they have original maturities of less than one year or are due on demand. All other borrowings are described as long-term, including the short-term portion of any long-term borrowings.

 

     As of December 31, 2009      As of December 31, 2010  
     Long-term      Short-term      Total      Long-term      Short-term      Total  

IFRS:

                 

Borrowings from financial institutions:

                 

Central Bank credit lines for renegotiation of loans

   Ch$ 114       Ch$ —         Ch$ 114       Ch$ 80       Ch$ —         Ch$ 80   

Other borrowings from the Central Bank

     155,090         —           155,090         —           —           —     

Borrowings from domestic financial institutions

     —           3,878         3,878         —           —           —     

Borrowings from foreign institutions

     —           1,209,144         1,209,144         117,299         1,163,993         1,281,292   

Debt issued:

                 

Bonds

     815,734         —           815,734         820,331         —           820,331   

Subordinated bonds

     506,683         —           506,683         744,966         —           744,966   

Mortgage finance bonds

     265,581         —           265,581         198,868         —           198,868   

Other financial obligations

     46,410         129,740         176,150         67,602         111,558         179,160   
                                                     

Total other interest bearing liabilities

   Ch$ 1,789,612       Ch$ 1,342,762       Ch$ 3,132,374       Ch$ 1,949,146       Ch$ 1,275,551       Ch$ 3,224,697   
                                                     

 

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Central Bank Borrowings

Central Bank borrowings include credit lines for the renegotiation of loans and other Central Bank borrowings. Credit lines were provided by the Central Bank for the renegotiation of mortgage loans due to the need to refinance debts as a result of the economic recession and crisis of the Chilean banking system from 1982 to 1985. The credit lines for the renegotiations of mortgage loans are linked to the UF index and carry an average real annual interest rate of 2.69% as of December 31, 2010. We repaid Ch$155,090 million to the Central Bank in 2010. The maturities of the outstanding amounts are as follows:

 

     As of December 31, 2010  
     (in millions of Ch$)  

IFRS:

  

Due within 1 year

   Ch$ 80   

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

     —     
        

Total long-term (Credit lines for renegotiation of loans)

     80   

Total short-term (Other Central Bank borrowings)

     —     
        

Total Central Bank borrowings

   Ch$ 80   
        

 

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Borrowings from Domestic Financial Institutions

Borrowings from domestic financial institutions are generally used to fund our general operations. We currently do not have any outstanding borrowings from domestic financial institutions.

Borrowings from Foreign Financial Institutions

We have short- and long-term borrowings from foreign banks. Each of these loans is denominated in foreign currency and is principally used to fund our foreign trade loans and carried an average nominal interest rate of 1.09% in the year ended December 31, 2010. The outstanding maturities of these borrowings as of December 31, 2010 were as follows:

 

     As of December 31,2010  
     (in millions of Ch$)  

IFRS:

  

Due within 1 year

   Ch$ 117,299   

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

     —     
        

Total long-term

     117,299   

Total short-term(1)

     1,163,993   
        

Total foreign borrowings

   Ch$ 1,281,292   
        

 

(1) Includes borrowings with maturities that were originally greater than one year but which as of December 31, 2010 had remaining maturities of less than one year.

Bonds

Our bonds are linked to the UF index and carried an average real annual interest rate of 3.52% as of December 31, 2010 with interest and principal payments due semi-annually. The bonds were intended to finance loans that had a maturity of greater than one year.

The maturities of bonds as of December 31, 2010 were as follows:

 

     As of December 31, 2010  
     (in millions of Ch$)  

IFRS:

  

Due within 1 year

   Ch$ 101,676   

Due after 1 year but within 2 years

     15,097   

Due after 2 years but within 3 years

     102,727   

Due after 3 years but within 4 years

     103,377   

Due after 4 years but within 5 years

     64,902   

Due after 5 years

     432,552   
        

Total bonds

   Ch$ 820,331   
        

 

 

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Subordinated Bonds

Our outstanding subordinated bonds are linked to the UF index with interest and principal payments due semi-annually. The discount on the issuance of the outstanding subordinated bonds is amortized over the life of the bond. As of December 31, 2010, the effective real interest rate was 4.88% taking into consideration the discount on issuance.

The bonds are intended to finance loans having a maturity greater than one year. As of December 31, 2010, the maturities of subordinated bonds, which are considered long-term, were as follows:

 

     As of December 31, 2010  
     (in millions of Ch$)  

IFRS:

  

Due within 1 year

   Ch$ 46,238   

Due after 1 year but within 2 years

     29,376   

Due after 2 years but within 3 years

     21,200   

Due after 3 years but within 4 years

     22,215   

Due after 4 years but within 5 years

     23,284   

Due after 5 years

     602,653   
        

Total subordinated bonds

   Ch$ 744,966   
        

During 2010, we issued subordinated bonds with a 25-year maturity term. The subordinated bonds were issued in UF for an aggregate amount of Ch$261,534 million (historic pesos). These subordinated bonds accrue interest at an annual nominal rate of 4.5%.

Subordinated bonds are considered in the calculation of Regulatory Capital for the purpose of determining our minimum capital requirements.

 

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Mortgage Finance Bonds

Mortgage finance bonds are used to finance the granting of mortgage loans. The outstanding principal amounts of the bonds are amortized on a quarterly basis. The range of maturities of these bonds is between five and thirty years. The bonds are linked to the UF index and carried a weighted average annual interest rate of 4.05% as of December 31, 2010.

The maturities of mortgage finance bonds as of December 31, 2010 were as follows:

 

     As of December 31, 2010  
     (in millions of Ch$)  

IFRS:

  

Due within 1 year

   Ch$ 38,976   

Due after 1 year but within 2 years

     29,189   

Due after 2 years but within 3 years

     25,641   

Due after 3 years but within 4 years

     23,564   

Due after 4 years but within 5 years

     19,129   

Due after 5 years

     62,369   
        

Total mortgage finance bonds

   Ch$ 198,868   
        

Other Financial Obligations

The maturities of other financial obligations as of December 31, 2009 and 2010 were as follows:

 

     As of December 31,  
     2009      2010  
     (in millions of Ch$)  

IFRS:

     

Other long-term obligations:

     

Obligations with Chilean Government

   Ch$ 46,410       Ch$ 67,602   
                 

Total other long-term obligations

     46,410         67,602   

Other short-term obligations

     129,740         111,558   
                 

Total other obligations

   Ch$ 176,150       Ch$ 179,160   
                 

As of December 31, 2010, other financial obligations had the following maturities:

 

     As of December 31, 2010  
     (in millions of Ch$)  

IFRS:

  

Due within 1 year

   Ch$ 7,069   

Due after 1 year but within 2 years

     7,004   

Due after 2 years but within 3 years

     6,737   

Due after 3 years but within 4 years

     5,830   

Due after 4 years but within 5 years

     4,072   

Due after 5 years

     36,890   
        

Total long-term

     67,602   

Total short-term(1)

     111,558   
        

Total other obligations

   Ch$ 179,160   
        

 

(1) Includes borrowings with maturities that were originally greater than one year but which as of December 31, 2010 had remaining maturities of less than one year.

 

 

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Off-Balance Sheet Arrangements

In the normal course of business, we are a party to a number of off-balance sheet activities that present credit, market and operational risks that are not reflected in our consolidated financial statements. These activities include commitments to extend credit not otherwise accounted for as contingent loans, such as overdrafts and credit card lines of credit, and long-term contractual obligations under operating leases or service contracts.

We provide customers with off-balance sheet credit support through loan commitments. Such commitments are agreements to lend to a customer at a future date, subject to compliance with the contractual terms. Since substantial portions of these commitments are expected to expire without us having to make any loans, total commitment amounts do not necessarily represent our actual future cash requirements. The amounts of these loan commitments were Ch$3,352,973 million as of December 31, 2009 and Ch$4,146,591 million as of December 31, 2010. See Note 26 to our audited consolidated financial statements as of and for the years ended December 31, 2009 and 2010 included elsewhere in this Report on Form 6-K. The amounts of subscribed leasing contracts were Ch$102,173 million and Ch$186,362 million as of December 31, 2009 and 2010, respectively.

Interest rate and cross-currency swaps, which are entered into in order to hedge the foreign investment portfolio, are recorded at their estimated fair market values. See Note 8 to our audited consolidated financial statements as of and for the years ended December 31, 2009 and 2010 included elsewhere in this Report on Form 6-K.

The credit risk of both on and off-balance sheet financial instruments varies based on many factors, including the value of collateral held and other security arrangements. To mitigate credit risk, we generally determine the need for specific covenant, guarantee and collateral requirements on a case-by-case basis, depending on the nature of the financial instrument and the customer’s creditworthiness. The amount and type of collateral held to reduce credit risk varies, but may include real estate, machinery, equipment, inventory and accounts receivable, as well as cash on deposit, stocks, bonds and other marketable securities that are generally held in our possession or at another appropriate custodian or depository. This collateral is valued and inspected on a regular basis to ensure both its existence and adequacy. Additional collateral is requested when appropriate. For further information, see Note 26 to our audited consolidated financial statements as of and for the years ended December 31, 2009 and 2010 included elsewhere in this Report on Form 6-K.

 

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Consolidated Financial Statements

BANCO DE CHILE AND SUBSIDIARIES

December 31, 2009 and 2010

Index

 

F-2    Report of Independent Registered Public Accounting Firm
F-3    Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting
F-5    Consolidated Statement of Financial Position
F-6    Consolidated Statement of Comprehensive Income
F-8    Consolidated Statement of Changes in Equity
F-9    Consolidated Statement of Cash Flows
F-10    Notes to the Consolidated Financial Statements

 

Ch$ or CLP

     =       Chilean pesos

MCh$

     =       Millions of Chilean pesos

US$ or USD

     =       U.S. dollars

ThUS$

     =       Thousands of U.S. dollars

JPY

     =       Japanese yen

EUR

     =       Euro

U.F. or CLF

     =      

Unidad de fomento

(The unidad de fomento is an inflation-indexed, Chilean peso denominated monetary unit set daily in advance on the basis of the previous month’s inflation rate).


Table of Contents

BANCO DE CHILE AND SUBSIDIARIES

INDEX

 

     Page

Report of Independent Registered Public Accounting Firm

   F-2

Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting

   F-3

Consolidated Statement of Financial Position

   F-5

Consolidated Statement of Comprehensive Income

   F-6

Consolidated Statement of Changes in Equity

   F-8

Consolidated Statement of Cash Flows

   F-9

1.      Company Information:

   F-10

2.      Summary of Significant Accounting Principles:

   F-10

3.      New and amended standards and interpretations:

   F-35

4.      Segment Reporting:

   F-36

5.      Cash and Cash Equivalents:

   F-43

6.      Financial Assets Held-for-Trading:

   F-44

7.      Repurchase Agreements and Security Lending and Borrowing:

   F-45

8.      Derivative Instruments and Accounting Hedges:

   F-46

9.      Loans and Advance to Banks:

   F-49

10.    Loans to Customers, net:

   F-50

11.    Financial Assets Available-for-sale:

   F-56

12.    Investments in Other Companies:

   F-58

13.    Intangible Assets:

   F-60

14.    Property and Equipment:

   F-63

15.    Investment Properties:

   F-65

16.    Current Taxes and Deferred Taxes:

   F-65

17.    Other Assets:

   F-69

18.    Current Accounts and Other Demand Deposits:

   F-70

19.    Saving Accounts and Time Deposits:

   F-70

20.    Borrowings from Financial Institutions:

   F-71

21.    Debt Issued:

   F-72

22.    Other Financial Obligations:

   F-73

23.    Provisions:

   F-74

24.    Employee Benefits:

   F-75

25.    Other Liabilities:

   F-77

26.    Contingencies and Commitments:

   F-78

27.    Equity:

   F-80

28.    Interest Revenue and Expenses:

   F-82

29.    Income and Expenses from Fees and Commissions:

   F-83

30.    Net Financial Operating Income:

   F-84

31.    Foreign Exchange Transaction, net:

   F-84

32.    Provisions for Loan Losses:

   F-85

33.    Personnel Expenses:

   F-88

34.    Administrative Expenses:

   F-88

35.    Other Operating Income:

   F-89

36.    Other Operating Expenses:

   F-89

37.    Related Party Transactions:

   F-90

38.    Fair Value of Financial Assets and Liabilities:

   F-94

39.    Maturity of Assets and Liabilities:

   F-101

40.    Risk Management:

   F-103

41.    New Accounting Pronouncements:

   F-132

42.    Subsequent Events:

   F-135

 

F-1


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LOGO   

Ernst & Young Chile

Presidente Riesco 5435, piso 4

Las Condes

Santiago

Tel: 56 2 676 1000

Fax: 56 2 676 1010

www.ey.com/cl

Report of Independent Registered Public Accounting Firm

To the Board of Directors and Shareholders of Banco de Chile:

We have audited the accompanying consolidated financial statements of Banco de Chile and its subsidiaries (the “Bank”) which comprise the consolidated statements of financial position as of December 31, 2010 and 2009, and the related consolidated statements of comprehensive income, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2010. These consolidated financial statements are the responsibility of the Bank’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits 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. 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, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Banco de Chile and subsidiaries at December 31, 2010 and 2009 and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2010, in conformity with International Financial Reporting Standards as issued by the International Accounting Standards Board.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Bank’s internal control over financial reporting as of December 31, 2010, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 9, 2011, expressed an unqualified opinion thereon.

ERNST & YOUNG LIMITADA

Santiago, Chile, March 9, 2011

 

F-2


Table of Contents
LOGO   

Ernst & Young Chile

Presidente Riesco 5435, piso 4

Las Condes

Santiago

Tel: 56 2 676 1000

Fax: 56 2 676 1010

www.ey.com/cl

Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting

To the Board of Directors and Shareholders of Banco de Chile:

We have audited Banco de Chile and subsidiaries’ internal control over financial reporting as of December 31, 2010, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Banco de Chile’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Annual Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the company’s internal control over financial reporting based on our 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 effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

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 (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) 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 (3) 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.

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.

In our opinion, Banco de Chile maintained, in all material respects, effective internal control over financial reporting as of December 31, 2010, based on the COSO criteria.

 

F-3


Table of Contents
LOGO   

Ernst & Young Chile

Presidente Riesco 5435, piso 4

Las Condes

Santiago

Tel: 56 2 676 1000

Fax: 56 2 676 1010

www.ey.com/cl

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the 2010 consolidated financial statements of Banco de Chile and our report dated March 9, 2011, expressed an unqualified opinion thereon.

ERNST & YOUNG LIMITADA

Santiago, Chile, March 9, 2011

 

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BANCO DE CHILE AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF FINANCIAL POSITION

As of December 31, 2009 and 2010

(Expressed in millions of Chilean pesos)

 

     Notes      2009     2010     2010  
            MCh$     MCh$     ThUS$  

ASSETS

         

Cash and due from banks

     5         727,553        772,329        1,648,972   

Transactions in the course of collection

     5         526,051        429,756        917,557   

Financial assets held-for-trading

     6         351,590        279,765        597,316   

Receivables from Repurchase Agreements and Security Borrowing

     7         79,401        82,787        176,756   

Derivative instruments

     8         565,986        488,354        1,042,667   

Loans and advance to banks

     9         448,981        349,588        746,393   

Loans to customers, net

     10         12,879,155        14,029,968        29,954,882   

Financial assets available-for-sale

     11         1,267,774        1,157,105        2,470,493   

Investments in other companies

     12         10,494        11,072        23,639   

Intangible assets

     13         88,182        87,276        186,340   

Property and equipment

     14         205,847        205,539        438,839   

Investment properties

     15         17,840        17,459        37,276   

Current tax assets

     16         —          3,363        7,180   

Deferred tax assets, net

     16         49,733        57,678        123,151   

Other assets

     17         282,872        304,425        649,967   
                           

TOTAL ASSETS

        17,501,459        18,276,464        39,021,428   
                           

LIABILITIES

         

Current accounts and other demand deposits

     18         3,718,076        4,446,181        9,492,882   

Transactions in the course of payment

     5         325,056        208,750        445,695   

Payables from Repurchase Agreements and Security Lending

     7         308,028        81,755        174,552   

Saving accounts and time deposits

     19         7,427,481        7,697,968        16,435,656   

Derivative instruments

     8         538,240        528,445        1,128,264   

Borrowings from financial institutions

     20         1,368,226        1,281,372        2,735,811   

Debt issued

     21         1,587,998        1,764,165        3,766,605   

Other financial obligations

     22         176,150        179,160        382,518   

Current tax liabilities

     16         39,018        —          —     

Provisions

     23         88,607        114,685        244,860   

Employee benefits

     24         43,202        55,433        118,353   

Other liabilities

     25         280,392        224,225        478,735   
                           

TOTAL LIABILITIES

        15,900,474        16,582,139        35,403,931   
                           

EQUITY

         

Attributable to equity holders of the parent:

         

Capital

        1,158,752        1,158,752        2,474,010   

Reserves

        185,207        158,282        337,942   

Other comprehensive income

        8,780        8,210        17,529   

Retained earnings:

         

Retained earnings from previous periods

        65,023        65,023        138,833   

Income for the year

        261,744        417,615        891,635   

Less:

         

Provision for minimum dividends

        (78,524     (113,559     (242,456

Non-controlling interest

        3        2        4   
                           

TOTAL EQUITY

     27         1,600,985        1,694,325        3,617,497   
                           

TOTAL LIABILITIES AND EQUITY

        17,501,459        18,276,464        39,021,428   
                           

 

 

The accompanying notes 1 to 42 are an

integral part of these consolidated financial statements

 

F-5


Table of Contents

BANCO DE CHILE AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME

for the years ended December 31, 2008, 2009 and 2010

(Expressed in million of Chilean pesos)

 

     Notes      2008     2009     2010     2010  
            MCh$     MCh$     MCh$     ThUS$  

A.     STATEMENT OF INCOME

           

Interest revenue

     28         1,659,350        900,407        1,092,003        2,331,496   

Interest expense

     28         (885,263     (222,883     (324,506     (692,841
                                   

Net interest income

        774,087        677,524        767,497        1,638,655   
                                   

Income from fees and commissions

     29         275,891        296,009        342,219        730,660   

Expenses from fees and commissions

     29         (41,530     (44,154     (49,957     (106,661
                                   

Net fees and commissions income

        234,361        251,855        292,262        623,999   
                                   

Net financial operating income

     30         384,836        (138,179     17,292        36,920   

Foreign exchange transaction, net

     31         (353,012     220,999        63,762        136,136   

Other operating income

     35         30,937        22,190        23,584        50,353   
                                   

Total operating revenues

        1,071,209        1,034,389        1,164,397        2,486,063   

Provisions for loan losses

     32         (149,374     (241,345     (157,651     (336,595
                                   

OPERATING REVENUES, NET OF PROVISIONS FOR LOAN LOSSES

        921,835        793,044        1,006,746        2,149,468   

Personnel expenses

     33         (305,555     (256,782     (272,737     (582,311

Administrative expenses

     34         (183,554     (176,998     (197,669     (422,036

Depreciation and amortization

     13-14-15         (39,070     (36,447     (34,964     (74,650

Impairments

     14         —          —          (1,044     (2,229

Other operating expenses

     36         (35,312     (21,522     (37,813     (80,733
                                   

TOTAL OPERATING EXPENSES

        (563,491     (491,749     (544,227     (1,161,959
                                   

NET OPERATING INCOME

        358,344        301,295        462,519        987,509   

Income attributable to associates

     12         3,564        840        1,609        3,435   
                                   

Income before income taxes

        361,908        302,135        464,128        990,944   

Income taxes

     16         (35,313     (40,389     (46,513     (99,309
                                   

NET INCOME FROM CONTINUED OPERATIONS, NET OF TAXES

        326,595        261,746        417,615        891,635   

NET INCOME FROM DISCONTINUED OPERATIONS, NET OF TAXES

        38,459        —          —          —     
                                   

NET INCOME FOR THE YEAR

        365,054        261,746        417,615        891,635   
                                   

Attributable to:

           

Equity holders of the parent

        365,052        261,744        417,614        891,633   

Non-controlling interest

        2        2        1        2   

Net income per share from continued operations attributable to equity holders of the parent:

                $                $                $                US$   

Basic net income per share

        4.04        3.18        5.06        0.011   

Diluted net income per share

        4.04        3.18        5.06        0.011   

Net income per share from discontinued operations attributable to equity holders of the parent:

           

Basic net income per share

        0.48        —          —          —     

Diluted net income per share

        0.48        —          —          —     

The accompanying notes 1 to 42 are an

integral part of these consolidated financial statements

 

F-6


Table of Contents

BANCO DE CHILE AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME

for the years ended December 31, 2008, 2009 and 2010

(Expressed in million of Chilean pesos)

 

            2008     2009     2010     2010  
            MCh$     MCh$     MCh$     ThUS$  

B.     CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME

           

NET INCOME FOR THE YEAR

        365,054        261,746        417,615        891,635   

OTHER COMPREHENSIVE INCOME

           

Net unrealized gains (losses):

           

Net change in unrealized gains (losses) on available for sale instruments

     11         (17,292     27,941        (363     (775

Cumulative translation adjustment

        4,087        (91     (45     (96
                                   

Other comprehensive income before income taxes

        (13,205     27,850        (408     (871

Income tax related to other comprehensive income

     16         2,940        (4,750     (162     (346
                                   

Total other comprehensive income items

        (10,265     23,100        (570     (1,217
                                   

TOTAL CONSOLIDATED COMPREHENSIVE INCOME

        354,789        284,846        417,045        890,418   
                                   

Attributable to:

           

Equity holders of the parent

        354,787        284,844        417,044        890,416   

Non-controlling interest

        2        2        1        2   

Comprehensive net income per share from continued operations attributable to equity holders of the parent:

              $              $              $            US$   

Basic net income per share

        4.39        3.47        5.05        0.011   

Diluted net income per share

        4.39        3.47        5.05        0.011   

Comprehensive net income per share from discontinued operations attributable to equity holders of the parent:

           

Basic net income per share

        —          —          —          —     

Diluted net income per share

        —          —          —          —     

The accompanying notes 1 to 42 are an

integral part of these consolidated financial statements

 

F-7


Table of Contents

BANCO DE CHILE AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF CHANGES IN EQUITY

for the years ended December 31, 2008, 2009 and 2010

(Expressed in million of Chilean pesos)

 

                Reserves     Other comprehensive income     Retained earnings              
    Nota    

Paid-in

Capital

   

Other

reserves

    Reserves
from
earnings
    Unrealized gains
(losses) on
available-for-sale
    Cumulative
translation
adjustment
   

Retained
earnings

from
previous
periods

   

Income

for the
year

    Provision
for
minimum
dividends
    Attributable
to equity
holders of
the parent
   

Non-

controlling
interest

    Total
equity
 
          MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$  

Balances as of January 1, 2008

      811,330        (84,738     85,914        —          (4,055     72,713        242,288        (70,874     1,052,578        1        1,052,579   

Capital increase as result of the business combinations

      277,791        83,714        —          —          —          —          22,175        —          383,680        9        383,689   

Subscription and payment of shares

      17,370        —          —          —          —          —          —          —          17,370        —          17,370   

Dividends distributions and paid

    27        —          —          —          —          —          —          (264,463     70,874        (193,589     —          (193,589

Cumulative translation adjustment

      —          —          —          —          4,087        —          —          —          4,087        —          4,087   

Valuation adjustment on available-for-sale instruments (net)

      —          —          —          (14,352     —          —          —          —          (14,352     —          (14,352

Merger of subsidiaries

      —          —          —          —          —          —          —          —          —          (4     (4

Income for the year

      —          —          —          —          —          —          365,052        —          365,052        2        365,054   

Provision for minimum dividends

      —          —          —          —          —          —          —          (109,516     (109,516     —          (109,516
                                                                                         

Balances as of December 31, 2008

      1,106,491        (1,024     85,914        (14,352     32        72,713        365,052        (109,516     1,505,310        8        1,505,318   
                                                                                         

Capitalization of retained earnings

      52,261        100,317        —          —          —          (7,690     (144,888     —          —          —          —     

Dividends distributions and paid

    27        —          —          —          —          —          —          (220,164     109,516        (110,648     —          (110,648

Cumulative translation adjustment

      —          —          —          —          (91     —          —          —          (91     —          (91

Valuation adjustment on available-for-sale instruments (net)

    11        —          —          —          23,191        —          —          —          —          23,191        —          23,191   

Merger of subsidiaries

      —          —          —          —          —          —          —          —          —          (7     (7

Income for the year

        —          —          —          —          —          261,744        —          261,744        2        261,746   

Provision for minimum dividends

    27        —          —          —          —          —          —          —          (78,524     (78,524     —          (78,524
                                                                                         

Balances as of December 31, 2009

      1,158,752        99,293        85,914        8,839     (59 )*      65,023        261,744        (78,524     1,600,982        3        1,600,985   
                                                                                         

Capitalization of retained earnings

      —          —          —          —          —          —          —          —          —          —          —     

Dividends distributions and paid

    27        —          —          (26,925     —          —          —          (261,744     78,524        (210,145     (2     (210,147

Cumulative translation adjustment

      —          —          —          —          (45     —          —          —          (45     —          (45

Valuation adjustment on available-for-sale instruments (net)

    11        —          —          —          (525     —          —          —          —          (525     —          (525

Income for the year

      —          —          —          —          —          —          417,615        —          417,615        1        417,616   

Provision for minimum dividends

    27        —          —          —          —          —          —          —          (113,559     (113,559     —          (113,559
                                                                                         

Balances as of December 31, 2010

      1,158,752        99,293        58,989        8,314     (104 )*      65,023        417,615        (113,559     1,694,323        2        1,694,325   
                                                                                         

 

* As of December 31, 2009 and 2010 total other comprehensive income is MCh$ 8,780 and MCh$8,210, respectively.

The accompanying notes 1 to 42 are an

integral part of these consolidated financial statements

 

F-8


Table of Contents

BANCO DE CHILE AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF CASH FLOWS

for the years ended December 31, 2008, 2009 and 2010

(Expressed in million of Chilean pesos)

 

            2008     2009     2010     2010  
     Notes      MCh$     MCh$     MCh$     ThUS$  

CASH FLOWS FROM OPERATING ACTIVITIES:

           

Net income for the year

        365,054        261,746        417,615        891,635   

Items that do not represent cash flows:

           

Depreciation and amortization

     13-14-15         39,070        36,447        34,964        74,650   

Impairment property and equipment

     14         —          —          1,044        2,229   

Provision for loan losses, net of recoveries

     32         189,022        268,224        189,820        405,278   

Fair value adjustment of Financial assets held-for-trading

        (2,836     5,669        (2,433     (5,195

Income attributable to associates

     12         (3,564     (840     (1,609     (3,435

Net gain on sales of assets received in lieu of payment

     35         (7,570     (5,212     (6,440     (13,750

Net gain loss on sales of property and equipment

        118        (83     (753     (1,608

Other credits which do not represent cash flows

        (91,994     (63,208     (91,814     (196,029

Net changes in interest and fee accruals

        (203,828     23,727        (164,310     (350,812

Changes in assets and liabilities that affect operating cash flows:

           

(Increase) decrease in loans and advances to banks, net

        202,577        (127,011     99,183        211,762   

(Increase) decrease in loans to customers, net

        (1,535,747     319,902        (1,218,628     (2,601,849

(Increase) decrease in Financial assets held-for-trading, net

        423,289        289,816        (150,791     (321,948

Increase in deferred taxes, net

        —          (23,907     (15,788     (33,708

Increase in current accounts and other demand deposits

        110,139        711,326        727,613        1,553,500   

Increase (decrease) in payables from repurchase agreements and security lending

        27,748        (112,602     (221,745     (473,440

Increase (decrease) in saving accounts and time deposits

        1,003,026        (880,371     294,017        627,745   
                                   

Total cash flows from operating activities

        514,504        703,623        (110,055     (234,975
                                   

CASH FLOWS FROM INVESTING ACTIVITIES:

           

(Increase) decrease in financial assets available-for-sale

        (859,655     (183,233     222,706        475,492   

Purchases of property and equipment

     14         (16,565     (15,325     (27,479     (58,669

Proceeds from sales of property and equipment

        778        326        3,130        6,683   

Payments for business combinations, net of cash acquired

        285,583        —          —          —     

Proceeds from sale of US branches

        64,596        —          —          —     

Investments in other companies

        (6,311     —          (4     (9

Proceeds from sale investment in other companies

     12         (1,785     169        —          —     

Dividends received from investments in other companies

     12         1,015        1,002        984        2,101   

Proceeds from sale of assets received in lieu of payment

        12,040        8,695        9,491        20,264   

Increase in other assets and liabilities

        (92,960     (226,460     (77,589     (165,657
                                   

Total cash flows from investing activities

        (613,264     (414,826     131,239        280,205   
                                   

CASH FLOWS FROM FINANCING ACTIVITIES:

           

Increase (decrease) in borrowings from financial institutions

        214,723        181,670        (175,649     (375,022

Increase (decrease) in other financial obligations

        (86,427     81,740        (18,182     (38,820

Borrowings from Central Bank (long-term)

        470        130        100        214   

Payment of borrowings from Central Bank (long-term)

        (769     (315     (151     (322

Long-term foreign borrowings

        1,666,426        905,831        811,520        1,732,647   

Payment of long-term foreign borrowings

        (1,176,750     (1,165,972     (633,835     (1,353,278

Other long-term borrowings

        40,970        30,201        26,797        57,213   

Payment of other long-term borrowings

        (617     (27,926     (5,656     (12,076

Increase in mortgage finance bonds

        3,487        416        —          —     

Repayment of mortgage finance bonds

        (96,439     (60,094     (53,206     (113,598

Proceeds from bond issuances

     21         211,126        21,137        592,371        1,264,750   

Redemption from bond issuances

        (21,778     (154,822     (322,786     (689,169

Subscription and payment of shares

        17,370        —          —          —     

Dividends paid

        (264,463     (220,164     (288,669     (616,327
                                   

Total cash flows from financing activities

        507,329        (408,168     (67,346     (143,788
                                   

TOTAL NET POSITIVE (NEGATIVE) CASH FLOWS FOR THE YEAR

        408,569        (119,371     (46,162     (98,558

Cash and cash equivalents at beginning of year

        798,988        1,207,557        1,088,186        2,323,347   
                                   

Cash and cash equivalents at end of year

     5         1,207,557        1,088,186        1,042,024        2,224,789   
                                   

Supplemental disclosure of cash flow information:

  

        

Cash paid during the year for:

           

Income taxes paid

        104,450        5,672        29,622        63,245   

The accompanying notes 1 to 42 are an

integral part of these consolidated financial statements

 

F-9


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

1. Company Information:

Banco de Chile, resulting from the merger of Banco Nacional de Chile, Banco Agrícola and Banco de Valparaíso, was formed on October 28, 1893 in the city of Santiago, in the presence of the Notary Eduardo Reyes Lavalle.

Banco de Chile (“Banco de Chile” or the “Bank”) is a Corporation organized under the laws of the Republic of Chile, regulated by the Superintendency of Banks and Financial Institutions (“SBIF”). Since 2001 – when the Bank was first listed on the New York Stock Exchange (“NYSE”), in the course of its American Depository Receipt (ADR) program, which is also registered at the London Stock Exchange – Banco de Chile additionally follows the regulations published by the United States Securities and Exchange Commission (“SEC”). Banco de Chile’s shares are also listed on the Latinamerican securities market of the Madrid Stock Exchange (“LATIBEX”).

Banco de Chile offers a broad range of banking services to its customers, ranging from individuals to large corporations. The services are managed in large corporate banking, middle and small corporate banking, personal banking services and retail. Additionally, the Bank offers international as well as treasury banking services. The Bank’s subsidiaries provide other services including securities brokerage, mutual fund management, factoring, insurance brokerage, financial advisory and securitization.

Banco de Chile’s legal domicile is Ahumada 251, Santiago, Chile and its Web site is www.bancochile.cl.

The consolidated financial statements of the Group for the year ended December 31, 2010 were authorized for issuance in accordance with the directors’ resolution on March 9, 2011.

 

2. Summary of Significant Accounting Principles:

 

  (a) Basis of preparation:

The Bank’s consolidated financial statements for the year 2009 and 2010 have been prepared in accordance with International Financial Reporting Standards (IFRS) as issued by the IASB.

The bank presents its statement of financial position broadly in order of liquidity. An analysis regarding recovery or settlement within 12 months after the statement of financial position date (current) and more than 12 months after the statement of financial position date (non–current) is presented in note 39.

The consolidated financial statements comprise the consolidated income statement and statement of comprehensive income, the statements of financial position, changes in equity and cash flows and the related notes. The consolidated financial statements have been prepared under the historical cost convention, except for available-for-sale financial assets, financial assets and financial liabilities designated at fair value through profit or loss and derivative contracts, which have been measured at fair value.

Banco de Chile and subsidiaries classify its expenses according to the nature of expense method.

 

F-10


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (a) Basis of preparation, continued:

 

The consolidated statement of cash flows shows the changes in cash and cash equivalents arising from operating activities, investing activities and financing activities during the period.

When compared to prior year’s IFRS financial statements minor reclassifications of certain line items have been made in order to ensure comparability of the information presented for 2010.

 

  (b) Basis of consolidation:

The financial statements of Banco de Chile as of and for the years ended December 31, 2009 and 2010 have been consolidated with those of its subsidiaries. The financial statements of the bank’s subsidiaries are prepared for the same reporting year as for Banco de Chile, using consistent accounting policies.

 

  (i) Subsidiaries

Subsidiaries are entities controlled by the Bank which is the parent of the group. The Bank controls entities when it has the power to govern the financial and operating policies of the entity, generally accompanying a shareholding, either directly or indirectly, of more than one half of the voting rights. The existence of potential voting rights that are currently exercisable or convertible are considered when assessing whether the Bank controls an entity.

The financial statements of the subsidiaries are included in the consolidated financial statements from the date control is obtained until the loss of control. The financial statements have been prepared using uniform accounting policies for similar transactions and other events under equivalent circumstances.

The following table details the entities in which the Bank - directly or indirectly – owns a controlling interest and that are therefore consolidated in these financial statements:

 

               Functional    Interest Owned  
Rut    Subsidiaries    Country    Currency    Direct      Indirect      Total  
                    2009      2010      2009      2010      2009      2010  
                    %      %      %      %      %      %  
44,000,213-7    Banchile Trade Services Limited    Hong Kong    US$      100.00         100.00         —           —           100.00         100.00   
96,767,630-6   

Banchile Administradora General de Fondos S.A.

   Chile    $      99.98         99.98         0.02         0.02         100.00         100.00   
96,543,250-7    Banchile Asesoría Financiera S.A.    Chile    $      99.96         99.96         —           —           99.96         99.96   
77,191,070-K    Banchile Corredores de Seguros Ltda.    Chile    $      99.83         99.83         0.17         0.17         100.00         100.00   
96,894,740-0    Banchile Factoring S.A.    Chile    $      99.75         99.75         0.25         0.25         100.00         100.00   
96,571,220-8    Banchile Corredores de Bolsa S.A.    Chile    $      99.70         99.70         0.30         0.30         100.00         100.00   
96,932,010-K    Banchile Securitizadora S.A.    Chile    $      99.00         99.00         1.00         1.00         100.00         100.00   
96,645,790-2    Socofin S.A.    Chile    $      99.00         99.00         1.00         1.00         100.00         100.00   
96,510,950-1    Promarket S.A.    Chile    $      99.00         99.00         1.00         1.00         100.00         100.00   

 

F-11


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (b) Basis of consolidation, continued:

 

  (i) Subsidiaries, continued

 

Significant intercompany transactions and balances between the Bank and its subsidiaries and among its subsidiaries have been eliminated for consolidation purposes. Any non-controlling interest is recognized as a separate item within the Bank’s consolidated equity.

 

  (ii) Associates

An associate is an entity over which’s operating and financial management policy decisions the Bank has significant influence, yet in which it does not hold a controlling interest. Significant influence is generally presumed when the Bank holds between 20% and 50% of the voting rights. The existence of potential voting rights that are currently exercisable or convertible are considered when assessing whether the Bank has significant influence. Investments in associates are accounted for using the equity method. Other factors considered when determining whether the Bank has significant influence over another entity are the representation on the board of directors and the existence of material intercompany transactions. The existence of these factors could require the application of the equity method for a particular investment even though the Bank’s holdings are for less than 20% of the voting stock.

According to the equity method, the Bank’s investments in associates are initially recorded at cost, and subsequently increased (or decreased) to reflect both the Bank’s prorata share of the post-acquisition net income (or loss) of the associate and other movements directly recognized in the associate’s equity. Goodwill arising on the acquisition of an associate is included in the carrying value of the investment (net of any accumulated impairment loss). Since goodwill is not reported separately associates are not tested individually for impairment. Rather, the entire investment is tested for impairment as follows.

After the application of the equity method, the Bank determines whether it is necessary to recognize an additional impairment loss on the Bank’s investment in its associates. The Bank determines at each reporting date whether there is objective evidence that the investment in the associate is impaired. If this is the case, the Bank calculates the amount of impairment as the difference between the recoverable amount of the associate and its carrying value and recognizes the amount in its income statement.

 

F-12


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (b) Basis of consolidation, continued:

 

  (iii) Special purpose entities

 

Special purpose entities (SPEs) are generally created to comply with a specific and well-defined objective, such as securitizing specific assets or carrying out a specific loan transaction. A SPE is consolidated if, based on an assessment of its relationship with the Bank and the risks and benefits of the SPE, the Bank concludes that it has control. As of December 31, 2009 and 2010, the Bank does not control any SPEs.

 

  (iv) Fund management

The Bank manages assets maintained in common investment funds and other investment products on behalf of investors. The financial statements of these entities are not included in these consolidated financial statements except when the Bank controls the entity. The Bank does not control or consolidate any of these funds.

 

  (c) Non-controlling interest:

Non-controlling interest represents the share of losses, income and net assets that the Bank does not control, neither directly nor indirectly. It is presented as a separate item in the Consolidated Statement of Comprehensive Income and the Consolidated Statement of Financial Position.

 

  (d) Use of estimates and judgment:

Preparing financial statements requires management to make judgments, estimations and assumptions that affect the application of accounting policies and the valuation of assets, liabilities, income and expenses presented. Real results could differ from these estimated amounts.

 

F-13


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (d) Use of estimates and judgment, continued:

 

Relevant estimates and assumptions are reviewed regularly by the senior management in order to quantify certain assets, liabilities, income, expenses and uncertainties. Revisions to accounting estimates are recognized in the year in which the estimate is revised and in any future period that is affected.

Some accounting matters particularly underlie uncertainties and therefore require a considerable degree of estimation and critical judgment when applying accounting policies. Details on the use of estimates and judgment and their effect on the amounts recognized in the financial statement are included in the following notes:

 

   

Impairment of non-financial assets (Note 9 and 10)

 

   

Impairment of other financial assets (Note 11)

 

   

Useful lives of property, equipment and intangible assets (Notes 13 y 14)

 

   

Goodwill valuation (Note 13)

 

   

Deferred taxes and income taxes (Note 16)

 

   

Employee benefits (Note 24)

 

   

Commitments and contingencies (Note 26)

 

   

Provisions for loan losses (Note 32)

 

   

Fair value of financial assets and liabilities (Note 38)

 

  (e) Financial asset and liability valuation criteria:

Measurement is the process of determining the monetary amounts at which the elements of the financial statements are to be recognized and carried in the Statement of Financial Position and the Comprehensive Income. This involves selecting the particular basis or method of measurement.

These bases or methods include the following:

 

  (i) Recognition

Initially, the Bank and its subsidiaries recognize loans to customers, trading and investment securities, deposits, debt issued and subordinated liabilities on the date they originated. Purchases and sales of financial assets performed on a regular basis are recognized as of the trade date on which the Bank committed to purchase or sell the asset. All other assets and liabilities (including assets and liabilities at fair value through profit and loss) are initially recognized as of the trade date on which the Bank becomes a party to the contractual provisions of the instrument.

Financial assets or liabilities are initially recognized at fair value plus transaction costs directly attributable to their purchase or issuance.

 

F-14


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (e) Financial asset and liability valuation criteria, continued:

 

  (ii) Derecognition of financial assets and liabilities

The Bank and its subsidiaries derecognize a financial asset (or where applicable, part of a financial asset) from its Statement of Financial Position when the contractual rights to the cash flows of the financial asset have expired or when the contractual rights to receive the cash flows of the financial asset are transferred during a transaction in which all ownership risks and rewards of the financial asset are transferred. Any portion of transferred financial assets that is created or retained by the Bank is recognized as a separate asset or liability. The bank does not enter into ‘pass-through’- arrangements.

When the Bank transfers a financial asset, it assesses to what extent it has retained the risks and rewards of ownership. In this case:

 

  (a) If substantially all risks and rewards of ownership of the financial asset have been transferred, it is derecognized and any rights or obligations created or retained upon transfer are recognized separately as assets or liabilities.

 

  (b) If substantially all risks and rewards of ownership of the financial asset have been retained, the Bank continues to recognize it.

 

  (c) If substantially all risks and rewards of ownership of the financial asset are neither transferred nor retained, the Bank will determine if it has retained control of the financial asset. In this case:

 

  (i) If it has not retained control, the financial asset will be derecognized and any rights or obligations created or retained upon transfer will be recognized separately as assets or liabilities.

 

  (ii) If the entity has retained control, it will continue to recognize the financial asset to the extent of its continuing involvement in the financial asset.

A financial liability is derecognized when the obligation under the liability is discharged or cancelled or expires.

If an existing financial liability is replaced by another from the same lender on substantially different terms, or the terms of the existing liability are substantially modified, such an exchange or modification is treated as a derecognition of the original liability and the recognition of a new liability, and the difference in the respective carrying amounts is recognized in the income statement.

 

F-15


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (e) Financial asset and liability valuation criteria, continued:

 

  (iii) Offsetting

Financial assets and liabilities are offset and the net amount is reported in the Statement of Financial Position if, and only if, the Bank has the legally enforceable right to set off the recognized amounts and there is an intention to settle on a net basis or to realize an asset and settle the liability simultaneously.

Income and expenses are shown net only if accounting standards allow such treatment, or in the case of gains and losses arising from a group of similar transactions such as the Bank’s trading activities.

 

  (iv) Valuation at amortized cost

Amortized cost is the amount at which a financial asset or liability is measured at initial recognition minus principal repayments, plus or minus the cumulative amortization (calculated using the effective interest rate method) of any difference between that initial amount and the maturity amount and minus any reduction for impairment.

 

  (v) Fair value measurements

Fair value is the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm’s length transaction.

When available, the Bank estimates the fair value of an instrument using quoted prices in an active market for that instrument. A market is considered active if quoted prices are readily and regularly available and represent actual and regularly occurring market transactions on an arm’s length basis.

If a market for a financial instrument is not active, the Bank establishes fair value using a valuation technique. These valuation techniques include the use of recent market transactions between knowledgeable, willing parties in an arm’s length transaction, if available, as well as references to the fair value of other instruments that are substantially the same, discounted cash flows and options pricing models.

The chosen valuation technique makes maximum use of observable market data, relies as little as possible on estimates performed by the Bank, incorporates factors that market participants would consider in setting a price and is consistent with accepted economic methodologies for pricing financial instruments. Inputs into valuation technique reasonably represent market expectations and include risk and return factors that are inherent in the financial instrument. Periodically, the Bank calibrates the valuation technique and tests it for validity using prices from observable current market transactions in the same instrument or based on any available observable market data.

 

F-16


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (e) Financial asset and liability valuation criteria, continued:

 

  (v) Fair value measurements, continued

 

The best evidence of the fair value of a financial instrument at initial recognition is the transaction price (i.e. the fair value of the consideration given or received) unless the fair value of that instrument is evidenced by comparison with other observable current market transactions in the same instrument (i.e. without modification or repackaging) or based on a valuation technique whose variables include only data from observable markets. When transaction price provides the best evidence of fair value at initial recognition, the financial instrument is initially measured at the transaction price and any difference between this price and the value initially obtained from a valuation model is subsequently recognized in income depending on the individual facts and circumstances of the transaction but not later than the valuation is supported wholly by observable market data or the transaction is closed out.

Generally, the Bank has assets and liabilities that offset each other’s market risks. In these cases, average market prices are used as a basis for establishing these values. In the case of open positions, the Bank applies the current offer or buyer price, as appropriate, for the net open position. Fair values reflect the credit risk of the instrument and include adjustments to account for the credit risk of the issuer, as appropriate.

Fair value estimates obtained from models are adjusted for any other factors, such as liquidity risk or model uncertainties; to the extent that the Bank believes that a third-party market participant would take them into account in pricing a transaction.

When the transaction price is different to the fair value from other observable current market transactions in the same instrument or based on a valuation technique whose variables include only data from observable markets, the Bank immediately recognizes the difference between the transaction price and fair value (a “Day 1” profit or loss) in “Net financial operating income”. In cases where fair value is determined using data which is not observable, the difference between the transaction price and model value is only recognized in the income statement when the inputs become observable, or when the instrument is derecognized.

The Bank’s fair value disclosures are included in Note 38.

 

  (f) Transactions in foreign currency:

 

  (i) Presentation and functional currency

The items included in the financial statements of each of the entities of Banco de Chile and its subsidiaries are valued using the currency of the primary economic environment in which it operates (functional currency). The functional currency of Banco de Chile is the Chilean peso, which is also the currency used to present the entity’s consolidated financial statements.

 

F-17


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (f) Transactions in foreign currency, continued:

 

  (ii) Transactions and balances

Transactions in currencies other than the functional currency are considered to be in foreign currency and are initially recorded at the exchange rate of the functional currency on the transaction date. Monetary assets and liabilities denominated in foreign currencies are converted using the exchange rate of the functional currency as of the date of the Statement of Financial Position. All differences are recorded as a charge or credit to income.

Assets and liabilities in foreign currencies are shown at their equivalent value in Chilean pesos, calculated using the following exchange rates as of December 31, 2009 and 2010, Ch$506.43 and Ch$468.37 to US$1, Ch$5.51 and Ch$5.74 per JPY1, Ch$727.21 and Ch$619.87 per Euro1.

The income of MCh$63,762 (MCh$220,999 in 2009) for net foreign exchange income shown in the Consolidated Statement of Comprehensive Income, includes recognition of the effects of exchange rates variations on assets and liabilities in foreign currency or indexed to exchange rates, and the result of foreign exchange transactions conducted by the Bank and its subsidiaries.

 

  (g) Segment reporting:

The Bank’s operating segments are defined based on its different business units, considering the following factors:

 

  (i) That it develops business activities from which income is obtained and expenses are incurred (including income and expenses relating to transactions with other components of the same entity).

 

  (ii) That its operating results are reviewed regularly by the entity’s highest decision-making authority for operating decisions, to decide about resource allocation for the segment and evaluate its performance; and

 

  (iii) That separate financial information is available.

 

  (h) Cash and cash equivalents:

Cash and cash equivalents correspond to the account “Cash and due from banks”, plus (minus) the net balance of transactions in the course of collection that are shown in the Consolidated Statement Financial Position, plus short-term repurchase agreements. It also includes investments in fixed-income mutual funds that are presented in “Other Assets” in the Consolidated Statement of Financial Position.

 

F-18


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (i) Financial assets held-for-trading:

Financial assets held-for-trading consist of debt instruments, including money-market paper, traded corporate and bank loans, and equity instruments, as well as financial assets with embedded derivatives acquired in order to generate profits from short-term price fluctuations or as a result of brokerage activities, or which are part of a portfolio on which a short-term profit-generating pattern exists.

Financial assets held-for-trading are stated at their fair market value as of the Statement of Financial Position date. Gains or losses from their fair market value adjustments, as well as gains or losses from trading activities, are included in “Net financial operating income” in the Consolidated Statement of Comprehensive Income. Dividends, interest and indexations are reported as “Net financial operating income”.

All purchases and sales of financial assets held-for-trading that must be executed within the period established by market regulations or conventions are recorded using the trade date, which is the date on which the purchase or sale of the asset is committed. Any other purchase or sale is treated as a derivative (forward) until settlement occurs.

 

  (j) Repurchase agreements and security lending and borrowing transactions:

The Bank engages in transactions with repurchase agreements as a form of investment. The securities purchased under these agreements are not recognized on the Bank’s Statement of Financial Position. The consideration paid is recognized under “Receivables from Repurchase Agreements and Security Lending” reflecting the transaction’s economic substance as a loan granted by the Bank. The difference between the purchase and resale price is recorded in “Net Interest Income” and is accrued over the duration of the agreement using its effective interest rate. This treatment reflects the economic substance as a loan to the Bank.

The Bank also enters into security repurchase agreements as a form of financing. The securities sold under agreement to repurchase at a specific date in the future are not derecognized from the Statement of Financial Position as the Bank retains all the risks and rewards of ownership. The corresponding cash received is recognized in the balance sheet as an asset with a corresponding obligation to return it, including accrued interest, as a liability within “Payables from Repurchase Agreements and Security Lending”. The difference between the sale and repurchase price is treated as “Interest Expense” and is accrued over the duration of the agreement using the effective interest rate.

The treatment of security lending and borrowing transactions follows the principles laid out above. Securities borrowed are not recorded on and, securities lent are not derecognized from the Statement of Financial Position.

 

F-19


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (k) Derivative instruments:

Derivative instruments, which include foreign currency and U.F. forwards, interest rate forwards, currency and interest rate swaps, currency and interest rate options and other financial derivative instruments, are recorded in the Statement of Financial Position at fair value regardless of whether they are held-for-trading or for non-trading purposes.

The fair value is obtained from market quotes, discounted cash flows models and options valuation models, as and where applicable. Derivative contracts are reported as an asset when their fair value is positive and as a liability when negative under the item “Derivative Instruments”.

Certain embedded derivatives in other financial instruments are treated as separate derivatives when their risk and characteristics are not closely related to those of the main contract and if the contract in its entirety is not recorded at its fair value with its unrealized gains and losses included in income.

At inception, a derivative contract must be designated by the Bank as a derivative instrument for trading or hedging purposes.

Changes in the fair value of derivative contracts maintained for trading purposes are included in “Net financial operating income”, in the Consolidated Statement of Comprehensive Income.

If a derivative instrument is classified as a hedging instrument, it can be:

 

  (1) A hedge of the fair value of existing assets or liabilities or firm commitments, or

 

  (2) A hedge of cash flows related to existing assets or liabilities or forecasted transactions.

A hedge relationship for hedge accounting purposes must comply with all of the following conditions:

 

  (a) at its inception, the hedge relationship has been formally documented;

 

  (b) it is expected that the hedge will be highly effective;

 

  (c) the effectiveness of the hedge can be measured in a reasonable manner; and

 

  (d) the hedge is highly effective with respect to the hedged risk on an ongoing basis and throughout the entire hedge relationship.

Certain derivatives transactions that do not qualify for hedge accounting are treated and reported as derivatives for trading purposes even though they provide an effective hedge on the risk of net positions.

 

F-20


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (k) Derivative instruments, continued:

 

Fair Value Hedges

When a derivative instrument hedges the risk of changes in the fair value of an existing asset or liability, the asset or liability is recorded at its fair value with respect to the specific hedged risk. Gains or losses from fair value adjustments, both the hedged item and the derivative instrument, are recognized in income.

Should the hedged item in a fair value hedge be a firm commitment, changes in the fair value of the commitment with respect to the hedged risk are recorded as an asset or liability against net income for the year. Gains or losses from fair value adjustments of the hedging derivative are recorded in income. When an asset or liability is acquired as a result of the commitment, the initial recognition of the asset or liability acquired is adjusted to incorporate the accumulated effect of the valuation at fair value of the firm commitment, which was previously recorded in the Statement of Financial Position.

Cash Flow Hedges

When a derivative hedges the risk of changes in the cash flows of existing assets or liabilities or forecasted transactions, the effective portion of changes in the fair value related to the hedged risk is recorded in equity net on income taxes. Any ineffective portion is directly recorded in income. The accumulated amounts recorded in equity are transferred to income at the moment that the hedged item affects income.

 

  (l) Loans to customers:

Loans to customers include originated and purchased non-derivative financial assets with fixed or determinable payments that are not quoted on an active market and which the Bank does not intend to sell immediately or in the short-term.

 

  (i) Valuation method

Loans are subsequently measured at amortized cost using the effective interest rate method.

 

  (ii) Lease contracts

Accounts receivable relating to leasing contracts, included under the caption “Loans to customers”, correspond to periodic rent installments of contracts which meet the definition to be classified as financial leases and are presented at their nominal value net of unearned interest as of each year-end.

 

  (iii) Factoring transactions

The Bank and its subsidiary Banchile Factoring S.A. carry out factoring transactions, where they receive invoices and other commercial instruments representative of credit, with or without recourse, and they advance to the assignor a percentage of the total amounts to be collected from the original debtor.

 

F-21


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (l) Loans to customers, continued:

 

  (iii) Factoring transactions, continued

 

As of December 31, 2009 and 2010, the caption “Loans to customers” includes MCh$343,057 and MCh$477,132 respectively, corresponding to the amount advanced to the assignor plus accrued interest net of payments received.

 

  (iv) Impairment of loans

At each balance sheet date, Banco de Chile and subsidiaries assess whether there is objective evidence that a loan asset or a group of loans is impaired. A loan asset or a group of loans is considered impaired and impairment losses are incurred if:

 

  (a) there is objective evidence of impairment as a result of a loss event that occurred after the initial recognition of the asset and up to the balance sheet date (“a loss event”);

 

  (b) the loss event had an impact on the estimated future cash flows of the financial asset or the group of financial assets and;

 

  (c) a reliable estimate of the loss amount can be made.

Banco de Chile and subsidiaries first assess whether objective evidence of impairment exists for loans that are individually significant. It then assesses collectively for loans that are not individually significant and loans which are significant but for which no objective evidence of impairment was observed as a result of the individual assessment.

 

  (i) Allowances for individual evaluations:

An individual analysis of debtors is applied to individuals and companies that are of such significance with respect to size, complexity or level of exposure to the bank, that they must be analyzed in detail. The cut-off amount for the individual evaluation is UF 10,000.

To allow management to determine whether a loss event has occurred on an individual basis, all significant counterparty relationships are reviewed periodically. This evaluation considers current information and events related to the counterparty, such as whether the counterparty experiencing significant financial difficulty or in breach of contract as, for example, default or delinquency in interest or principal payments.

The individual evaluation requires assigning a risk category to each debtor and its respective loans. This risk category should consider the following factors: industry or sector, group considerations and management, financial situation, payment behavior and payment capacity.

 

F-22


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (l) Loans to customers, continued:

 

  (iv) Impairment of Loans, continued:

 

  (i) Allowances for individual evaluations, continued:

 

If there is evidence of impairment leading to an impairment loss for an individual counterparty relationship, then the amount of the loss is determined as the difference between the carrying amount of the loan(s), including accrued interest, and the present value of expected future cash flows discounted at the loan’s original effective interest rate or the effective interest rate established upon reclassification to loans, including cash flows that may result from foreclosure less costs for obtaining and selling the collateral. The carrying amount of the loans is reduced by the use of an allowance account and the amount of the loss is recognized in the income statement as a component of the provision for credit losses.

 

  (ii) Allowances for group evaluations:

The collective assessment of impairment is principally to establish an allowance amount relating to loans that are either individually significant but for which there is no objective evidence of impairment, or are not individually significant but for which there is, on a portfolio basis, a loss amount that is probable of having occurred and is reasonably estimable. The loss amount has two components.

The first component is an allowance amount representing the incurred losses on the portfolio of smaller balance homogeneous loans, which are loans to individuals and small business customers of the private and retail business. The loans are grouped according to similar credit risk characteristics and the allowance for each group is determined using statistical models based on historical experience. The second component represents an estimate of incurred losses inherent in the group of loans that have not yet been individually identified or measured as part of the smaller-balance homogeneous loans. Loans that were found not to be impaired when evaluated on an individual basis are included in the scope of this component of the allowance.

Once a loan is identified as impaired, although the accrual of interest in accordance with the contractual terms of the loan is discontinued, the accretion of the net present value of the written down amount of the loan due to the passage of time is recognized as interest income based on the original effective interest rate of the loan.

At each balance sheet date, all impaired loans are reviewed for changes to the present value of expected future cash flows discounted at the loan’s original effective interest rate. Any change to the previously recognized impairment loss is recognized as a change to the allowance account and recorded in the income statement as a component of the provision for credit losses.

 

F-23


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (l) Loans to customers, continued:

 

  (iv) Impairment of Loans, continued:

 

Loans are written-off when collection efforts have been exhausted, but not later than the following maximum periods:

 

Type of Loan    Term  

Consumer loans – secured and unsecured

     6 months   

Other transactions – unsecured

     24 months   

Commercial loans – secured

     36 months   

Residential mortgage loans

     48 months   

Consumer leases

     6 months   

Other non-real estate lease transactions

     12 months   

Real estate leases (commercial or residential)

     36 months   

The term represents the time elapsed since the date on which payment of all or part of the obligation in default became due.

Cash recoveries on written-off loans are recorded directly in income, through the provision for credit losses in the Consolidated Statement of Comprehensive Income.

If in a subsequent period the amount of a previously recognized impairment loss decreases and the decrease is due to an event occurring after the impairment was recognized, the impairment loss is reversed by reducing the allowance account accordingly. Such reversal is recognized in profit or loss.

 

  (v) Renegotiated loans:

The bank attempts to restructure loans rather than to take possession of collateral. This may involve extending the payment arrangements and the agreement of new loan conditions. After having renegotiated the terms, any impairment is measured using the original effective interest rate as calculated before the modification of terms and the loan is no longer considered past due. Renegotiated loans are continuously reviewed by management to ensure that all criteria are met and that future payments are likely to occur. The loans continue to be subject to an individual or collective impairment assessment, calculated using the loan’s original effective interest rate.

 

  (vi) Provision for contingencies resulting from the loan business:

The process to determine whether to provide for such contingencies is similar to the methodology used for loans. Any resulting amounts are recognized as an allowance in the balance sheet within other liabilities and charged to the income statement as a component of the provision for credit losses.

 

F-24


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (m) Financial guarantees:

In its ordinary course of business the Bank gives financial guarantees consisting of letters of credit, guarantees and acceptances. Financial guarantees are initially recognized in the financial statements at fair value being the premium received. Subsequent to initial recognition, the Bank’s liability is measured at the higher of the amount originally recognized less, when appropriate, cumulative amortization recognized in the income statement and the best estimate of expenditure required to settle the financial obligation arising as the result of the guarantee. The premium received is recognized in the income statement in “Income from Fees and Commissions” on a straight line basis over the guarantee period.

 

  (n) Financial assets held to maturity and available-for-sale:

Financial assets held-to-maturity include only those securities for which the Bank has the ability and intention of keeping until maturity. The remaining investments are considered as financial assets available-for-sale. The Bank reassesses on an ongoing basis whether the ability and intention to sell available-for-sale instruments remains to be given.

A financial asset classified as available-for-sale is initially recognized at its fair value plus transaction costs that are directly attributable to the acquisition of the financial asset.

Financial assets available-for-sale are subsequently measured at their fair value based on market prices or valuation models. Unrealized gains or losses as result of fair value adjustments are recorded in other comprehensive income within equity. When these investments are sold, the cumulative fair value adjustments existing within equity will be recorded directly in income under “Net financial operating income”.

Financial assets held-to-maturity are recorded at their cost plus accrued interest and indexations, less impairment provisions made when the carrying amount exceeds the estimated recoverable amount.

Interest and indexations of financial assets held to maturity and available-for-sale are included in the line item “Interest revenue”. Dividends earned whilst holding available–for–sale financial investments are recognized in the income statement as ‘Other operating income’ when the right to receive the payment has been established.

Investment securities, which are subject to hedge accounting, are adjusted according to the rules for hedge accounting.

Purchases and sales of investment securities that must be delivered within a period established by market regulations or conventions are recorded using the trade date that is the date on which the purchase or sale of the asset is committed. Any other purchase or sale is treated as a derivative (forward) until liquidation occurs.

As of December 31, 2009 and 2010, the Bank does not hold held to maturity instruments.

 

F-25


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (o) Debt issued and other financial liabilities:

Financial instruments issued by the Bank, which are not designated at fair value through profit and loss, are classified under “Debt issued”, where the substance of the contractual arrangement results in the Bank having an obligation either to deliver cash or another financial asset to the holder, or to satisfy the obligation other than by the exchange of a fixed amount of cash or another financial asset for a fixed number of own equity shares.

After initial measurement, debt issued is subsequently measured at amortized cost using the effective interest rate. Amortized cost is calculated by taking into account any discount or premium on the issue and costs that are an integral part of the effective interest rate.

The Bank applies the same accounting policies for its other financial liabilities.

 

  (p) Intangible assets:

Intangible assets are identified as non-monetary assets (separated from other assets) without physical substance that arise as the result of a legal transaction or that are developed internally by the consolidated entities. They are assets whose cost can be reliably estimated and for which the consolidated entities consider that it is probable that future economic benefits will be recognized.

 

  (i) Goodwill

Goodwill arises on the acquisition of subsidiaries and associates representing the excess of the fair value of the purchase consideration and costs directly attributable to the acquisition over the net fair value of the Bank’s share of the identifiable assets acquired and the liabilities and contingent liabilities assumed on the date of the acquisition.

For the purpose of calculating goodwill, fair values of acquired assets, liabilities and contingent liabilities are determined by reference to market values or by discounting expected future cash flows to present value. This discounting is either performed using market rates or by using risk-free rates and risk-adjusted expected future cash flows.

Goodwill originating from the acquisition of subsidiaries is capitalized and reviewed for impairment annually or more frequently if there are indications that impairment may have occurred. Impairment is determined by comparing the present value of expected future cash flows from each cash generating unit with the carrying value of its net assets, including attributable goodwill. Goodwill is allocated to cash generating units for the purpose of impairment testing considering the business level at which goodwill is monitored for internal management purposes.

Impairment losses on goodwill are not reversed. Gains and losses on the disposal of an entity include the carrying amount of goodwill relating to the entity sold.

 

F-26


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (p) Intangible assets, continued:

 

  (ii) Software and computer programs

Computer software purchased by the Bank and its subsidiaries is accounted for at cost less accumulated amortization and impairment losses.

The subsequent expense in software assets is capitalized only when it increases the future economic benefit for the specific asset. All other expenses are recorded as an expense as incurred.

Amortization is recorded in income using the straight-line amortization method based on the estimated useful life of the software, from the date on which it is available for use. The estimated useful life of software is a maximum of 6 years.

Expense for internally developed software is recorded in income for each year.

 

  (iii) Other identifiable intangible assets

This item applies to identifiable intangible assets for which the cost can be reliably measured and which are likely to generate future economic benefits for the Bank. The estimated useful life of other intangible assets is a maximum of 7 years.

 

  (q) Property and equipment:

Property and equipment is stated at cost excluding servicing cost, less accumulated depreciation and accumulated impairment. Changes in the expected useful life are accounted for by changing the depreciation period or method, as appropriate, and treated as changes in accounting estimates.

This cost includes expenses that have been directly attributed to the asset’s acquisition.

Depreciation is recognized in income on a straight-line basis over the estimated useful lives of each part of an item of property and equipment.

Estimated useful lives for 2009 and 2010 are as follows:

 

Buildings

     50 years   

Installations (in general)

     10 years   

Plant and equipment

     3 years   

Supplies and accessories

     5 years   

Property and equipment is derecognized on disposal or when no future economic benefits are expected from its use. Any gain or loss arising on derecognition of the asset (calculated as the difference between the net disposal proceeds and the carrying amount of the asset) is recognized in “Impairments” in the income statement in the year the asset is derecognized.

 

F-27


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (r) Deferred taxes and income taxes:

The income tax provision of the Bank and its subsidiaries has been determined in conformity with current legal provisions.

The Bank and its subsidiaries recognize, when appropriate, deferred tax assets and liabilities for future estimates of tax effects attributable to temporary differences between the book and tax values of assets and liabilities. Deferred tax assets and liabilities are measured based on the tax rate expected to be applied, in accordance with current tax law, in the year that deferred tax assets are realized or liabilities are settled. The effects of future changes in tax legislation or tax rates are recognized in deferred taxes starting on the date of publication of the law approving such changes.

Deferred tax assets and liabilities are recorded at their book value as of the date the deferred taxes are measured. Deferred tax assets are recognized only when it is likely that future tax profits will be sufficient to recover deductions for temporary differences.

 

  (s) Assets received in lieu of payment:

Assets received in lieu of payment are classified under “Other Assets” and they are recorded at the lower of its carrying amount and fair value, less costs to sell.

 

  (t) Investment Properties:

Investment properties are real estate assets held to earn rental income or for capital appreciation or both, but are not held-for-sale in the ordinary course of business or used for administrative purposes. Investment properties are initially measured at cost, including transaction costs. Subsequent to initial recognition, they are carried at cost less accumulated depreciation and impairments using the same accounting policies as property and equipment.

 

  (u) Provisions and contingent liabilities:

Provisions are liabilities involving uncertainty about their amount or maturity. They are recorded in the Statement of Financial Position when the following requirements are jointly met:

 

  i) a present obligation has arisen from a past event and,

 

  ii) as of the date of the financial statements it is likely that the Bank or its subsidiaries have to disburse resources to settle the obligation and,

 

  iii) the amount can be reliably measured.

A contingent asset or liability is any right or obligation arisen from past events whose existence will be confirmed by one or more uncertain future events which are not within the control of the Bank. Contingent assets and liabilities are not recognized in the Statement of Financial Position.

 

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Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (v) Provision for minimum dividends:

The Bank records within liabilities the portion of net income for the year that should be distributed to comply with the Corporations Law. For these purposes, the Bank establishes a provision in a complementary equity account within retained earnings.

 

  (w) Employee benefits:

 

  (i) Staff vacations

The annual costs of vacations and staff benefits are recognized on an accruals basis.

 

  (ii) Short-term benefits

The Bank has a yearly bonus plan for its employees based on their ability to meet objectives and their individual contribution to the company’s results, consisting of a given number or portion of monthly salaries. It is provisioned for based on the estimated amount to be distributed.

 

  (iii) Staff severance indemnities

Banco de Chile has recorded a liability for long-term severance indemnities in accordance with employment contracts it has with certain employees. The liability, which results from payments to specified retiring employees with more than 30 years of service, is recorded at the present value of the accrued benefits. It is calculated by applying an equivalent discount rate to the accrued benefits. These benefits accrue over the estimated average remaining service period.

Obligations for this defined benefit plan are valued according to the projected unit credit actuarial valuation method, using inputs such as staff turnover rates, expected growth in wages and the probability that this benefit will be used, discounted at current long-term rates (4.91% as of December 31, 2009 and 5.91% as of December 31, 2010). The discount rate used corresponds to the return on bonds of the Central Bank with maturity (BCP) in 5 years.

Actuarial gains and losses are recognized as income or expense at the end of each reporting period. There is no past service costs that would have to be recognized by the Bank.

 

F-29


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (x) Equity reserves:

The equity reserves recorded in the Bank’s Statement of Financial Position include:

Reserves from Earnings:

This item includes all the reserves that were originated from earnings and that by legal or statutory dispositions, or agreements of the shareholders’ meeting, will not be distributed in the form of future dividends.

Other reserves:

This item includes all the reserves that do not come from earnings and that do not correspond to those indicated in previous items.

Unrealized gains (losses) on available-for-sale instruments:

This item comprises changes in the fair value of these instruments.

Cumulative translation adjustment:

This item is used to record exchange differences arising from the translation of the net investment in foreign operations.

 

  (y) Earnings per share:

Basic earnings per share is determined by dividing net income for the year attributable to the Bank by the average weighted number of shares in circulation during that year.

Diluted earnings per share is determined in a similar manner as basic earnings per share, but the average weighted number of shares in circulation is adjusted to account for the dilutive effect of stock options, warrants and convertible debt. As of December 31, 2009 and 2010, the Bank does not have any instruments or contracts that could cause dilutions. Therefore, no adjustments have been made.

 

  (z) Interest revenue and expense:

Interest revenue and expenses are recognized in the income statement using the effective interest rate method. The effective interest rate is the rate which exactly discounts estimated future cash payments or receipts through the expected life of the financial instrument or a shorter period, where appropriate, to the net carrying amount of the financial asset or financial liability. To calculate the effective interest rate, the Bank determines cash flows by taking into account all contractual conditions of the financial instrument, excluding future credit losses.

The effective interest rate calculation includes all fees and other amounts paid or received that form part of the effective interest rate. Transaction costs include incremental costs that are directly attributable to the purchase or issuance of a financial asset or liability.

 

F-30


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (aa) Fees and commissions:

Income and expenses from fees and commissions are recognized in income using different criteria based on the nature of the income or expense. The most significant criteria include:

 

  (i) Fees earned from an individual act are recognized once the act has taken place.

 

  (ii) Fees earned from transactions or services provided over a longer period of time are recognized over the life of the transactions or services. These fees include commissions and asset management, custody or other management and advisory fees.

Loan commitment fees for loans that are likely to be drawn down and other credit related fees are deferred (together with incremental costs) and recognized as an adjustment to the effective interest rate of the loan. When it is unlikely that a loan is drawn down the fees are recognized over the commitment period on a straight-line basis.

 

  (ab) Identifying and measuring impairment:

Financial assets (other than loans)

Financial assets are reviewed throughout each year, and especially at each reporting date, to determine whether there is objective evidence of impairment as a result of a loss event that occurred after the initial recognition of the asset and the loss event had an impact on the estimated future cash flows of the financial asset that can be reliably calculated.

A financial asset or group of financial assets is impaired and impairment losses are incurred if:

 

   

there is objective evidence of impairment as a result of a loss event that occurred after the initial recognition of the asset and up to the balance sheet date (“a loss event”);

 

   

the loss event had an impact on the estimated future cash flows of the financial asset or the group of financial assets and;

 

   

a reliable estimate of the loss amount can be made.

An impairment loss for financial assets recorded at amortized cost is calculated as the difference between the asset’s carrying amount and the present value of the estimated future cash flows, discounted using the effective interest rate.

An impairment loss for available-for-sale financial assets is calculated using its fair value considering fair value changes already recognized in other comprehensive income.

In the case of equity investments classified as available-for-sale financial assets, objective evidence includes a significant or prolonged decline in the fair value of the investment below cost. The bank considers ‘significant’ generally as 20% and ‘prolonged’ generally as greater than 6 months. In the case of debt securities classified as available-for-sale financial assets, the Bank assesses whether there exists objective evidence for impairment based on the same criteria as for loans.

 

F-31


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (ab) Identifying and measuring impairment, continued:

 

Financial assets (other than loans), continued:

 

If there is evidence of impairment, any amounts previously recognized in equity, in net gains (losses) not recognized in the income statement, is removed from equity and recognized in the income statement for the period, reported in net gains (losses) on financial assets available for sale. This amount is determined as the difference between the acquisition cost (net of any principal repayments and amortization) and current fair value of the asset less any impairment loss on that investment previously recognized in the income statement.

When the fair value of the available-for-sale debt security recovers to at least amortized cost it is no longer considered impaired and subsequent changes in fair value are reported in equity.

Individually significant financial assets are individually examined to determine impairment. Remaining financial assets are collectively evaluated in groups that share similar credit risk characteristics.

All impairment losses are recognized in the income statement. Any cumulative loss related to available-for-sale financial assets recognized previously in equity is transferred to the income statement.

An impairment loss is reversed if, in a subsequent period, the fair value of the debt instrument classified as available for sale increases and the increase can be objectively related to an event occurring after the impairment loss was recognized in profit or loss. The amount of the reversal is recognized in profit or loss up to the amount previously recognized as impairment. Impairment losses recognized in profit or loss for an investment in an equity instrument classified as available for sale are not reversed through profit or loss.

 

F-32


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (ab) Identifying and measuring impairment, continued:

 

Non-financial assets

The Bank assesses at each reporting date and on an ongoing basis whether there is an indication that an asset may be impaired. If any indication exists, or if annual impairment testing for an asset is required, the Bank estimates the asset’s recoverable amount. An asset’s recoverable amount is the higher of an asset’s or cash-generating unit’s (CGU) fair value less costs to sell and its value in use. Where the carrying amount of an asset or CGU exceeds its recoverable amount, the asset is considered impaired and is written down to its recoverable amount. In assessing value in use, the estimated cash flows are discounted to their present value using a pre-tax discount rate that reflects the current market assessments of the time value of money and risks specific to the asset. In determining fair value less costs to sell, an appropriate valuation model is used. These calculations are corroborated by valuation multiples, share prices and other available fair value indicators.

For assets, excluding goodwill, impairment losses recognized in prior years are assessed at each reporting date in search of any indication that the loss has decreased or disappeared. A previously recognized impairment is reversed only if there has been a change in the assumptions used to determine the asset’s recoverable amount since the last impairment was recognized. An impairment loss is reversed only to the extent that the book value of the asset does not exceed the carrying amount that would have been determined, net of depreciation or amortization, if no impairment loss had been recognized. Such reversal is recognized in the income statement.

Impairment losses relating to goodwill cannot be reversed in future periods.

 

  (ac) Finance and operate leases:

The determination of whether an arrangement is a lease, or it contains a lease, is based on the substance of the arrangement and requires an assessment of whether the fulfillment of the arrangement is dependent on the use of a specific asset or assets and the arrangement conveys a right to use the asset.

The Bank acting as lessor

Assets leased to customers under agreements which transfer substantially all the risks and rewards of ownership, with or without ultimate legal title, are classified as finance leases. When assets held are subject to a finance lease, the leased assets are derecognized and a receivable is recognized which is equal to the present value of the minimum lease payments, discounted at the interest rate implicit in the lease. Initial direct costs incurred in negotiating and arranging a finance lease are incorporated into the receivable through the discount rate applied to the lease. Finance lease income is recognized over the lease term based on a pattern reflecting a constant periodic rate of return on the net investment in the finance lease.

 

F-33


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

2. Summary of Significant Accounting Principles, continued:

 

  (ac) Finance and operate leases, continued:

 

The Bank acting as lessor, continued

 

Assets leased to customers under agreements which do not transfer substantially all the risks and rewards of ownership are classified as operating leases. The leased assets are included within premises and equipment on the Group’s balance sheet and depreciation is provided on the depreciable amount of these assets on a systematic basis over their estimated useful economic lives. Rental income is recognized on a straight-line basis over the period of the lease. Initial direct costs incurred in negotiating and arranging an operating lease are added to the carrying amount of the leased asset and recognized as an expense on a straight-line basis over the lease term.

The Bank acting as lessee

Assets held under finance leases are initially recognized on the balance sheet at an amount equal to the fair value of the leased property or, if lower, the present value of the minimum lease payments. The corresponding liability to the lessor is included in the balance sheet as a finance lease obligation. The discount rate used in calculating the present value of the minimum lease payments is either the interest rate implicit in the lease, if it is practicable to determine, or the incremental borrowing rate. Contingent rentals are recognized as expense in the periods in which they are incurred. As of December 31, 2009 and 2010, the Bank and its subsidiaries have not signed contracts of this nature.

Operating lease rentals payable are recognized as an expense on a straight-line basis over the lease term, which commences when the lessee controls the physical use of the property. Lease incentives are treated as a reduction of rental expense and are also recognized over the lease term on a straight-line basis. Contingent rentals arising under operating leases are recognized as an expense in the period in which they are incurred.

 

  (ad) Fiduciary activities:

The Bank provides trust and other fiduciary services that result in the holding or investing of assets on behalf of the clients. Assets held in a fiduciary capacity are not reported in the financial statements, as they are not the assets of the Bank.

 

  (ae) Customer loyalty programs:

The Bank maintains a customer loyalty programs as an incentive to its clients. The scheme grants its customers certain points depending on the value of credit card purchases they make. The so-collected points can be used to obtain services from a third party. In accordance with IFRIC 13 the costs which the Bank incurs providing this incentive are recognized at fair value when the corresponding revenue is recognized, considering the probabilities of being used by the customers to obtain the third party’s service. The points collected cannot be used to obtain services directly from the Bank.

 

F-34


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

3. New and amended standards and interpretations:

The accounting policies adopted are consistent with those of the previous financial year. Amendments resulting from Improvements to IFRSs to the following standards did not have any impact on the accounting policies, financial position or performance of the Bank:

 

   

IFRS 3 Business Combinations (Revised) and IAS 27 Consolidated and Separate Financial Statements (Amended) effective July 1, 2009, including consequential amendments to IFRS 2, IFRS 5, IFRS 7, IAS 7, IAS 21, IAS 28, IAS 31 and IAS 39.

 

   

IAS 39 Financial Instruments: Recognition and Measurement – Eligible Hedged Items effective July 1, 2009.

Issued in May 2008

 

   

IFRS 5 Non-current Assets Held for Sale and Discontinued Operations effective January 1, 2010.

Issued in April 2009

 

   

IAS 1 Presentation of Financial Statements

 

   

IAS 17 Leases

 

   

IAS 38 Intangible Assets

 

   

IAS 39 Financial Instruments: Recognition and Measurement

 

   

IFRIC 9 Reassessment of Embedded Derivatives.

 

F-35


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

4. Segment Reporting:

For management purposes, we have organized our operations and commercial strategies into four business segments, which are defined in accordance with the type of products and services offered to target customers. These business segments are currently defined as follows:

 

Retail:    This segment focuses on individuals and small and medium-sized companies with annual sales up to Ch$1,500 million, where the product offering focuses primarily on consumer loans, commercial loans, checking accounts, credit cards, credit lines and mortgage loans.
Wholesale:    This segment focused on corporate clients and large companies, whose annual revenue exceed Ch$1,500 million, where the product offering focuses primarily on commercial loans, checking accounts and liquidity management services, debt instruments, foreign trade, derivative contracts and leases.
Treasury and money market operations:
   This segment includes revenue associated with managing the Bank’s balance sheet (currencies, maturities and interest rates) and liquidity, including financial instrument and currency trading on account of the Bank itself.
   Transactions on behalf of customers carried out by the Treasury are reflected in the respective aforementioned segments. These products are highly transaction-focused such as foreign exchange transactions, derivatives and financial instruments in general.
Subsidiaries:    Corresponds to companies and corporations controlled by the Bank, where results are obtained individually by the respective subsidiary. The companies that comprise this segment are:
  

Entity

 

•      Banchile Trade Services Limited

 

•      Banchile Administradora General de Fondos S.A.

 

•      Banchile Asesoría Financiera S.A.

 

•      Banchile Corredores de Seguros Ltda.

 

•      Banchile Factoring S.A.

 

•      Banchile Corredores de Bolsa S.A.

 

•      Banchile Securitizadora S.A.

 

•      Socofin S.A.

 

•      Promarket S.A.

 

F-36


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

 

4. Segment Reporting, continued:

 

The financial information used to measure the performance of the Bank’s business segments is not necessarily comparable with similar information from other financial institutions because it is based on internal reporting policies. The accounting policies used to prepare the Bank’s operating segment information are similar as those described in Note 2 “Summary of Significant Accounting Principles”, except as noted below:

 

   

The net interest margin of loans and deposits is measured on an individual transaction and individual client basis, stemming from the difference between the effective customer rate and the related Bank’s fund transfer price in terms of maturity, re-pricing and currency.

 

   

The results associated with gap management (interest rate and currency mismatches) are allocated to the business segments by considering the amount of loans and demand deposits managed by each segment.

 

   

The internal performance profitability system considers capital allocation in each segment in accordance to the Basel guidelines.

 

   

In addition to direct costs (consisting mainly of labor and administrative expenses), the Bank allocates all of its indirect operating costs to each business segment by utilizing a different cost driver in order to allocate such costs to the specific segment.

 

   

The Bank applies local banking regulator accounting principles when measuring and recording its allowance for loan losses, assets received in lieu of payments, minimum dividend allowances and some other minor items for internal reporting purposes. These accounting policies differ in some significant aspects from IFRS.

The Bank obtains the majority of its income from: interest, indexations and fees, discounted the credit cost and expenses. Management mainly bases its evaluation of segment performance and decision-making regarding goals, allocation of resources for each unit individually on these concepts. Even though the results of the segments reconcile with those of the Bank at total level, differences exist in the single segments’ figures due to different measurement concepts indicated above.

The Bank did not enter into transactions with a particular customer or third party that exceed 10% of its total income in 2009 and 2010.

The Bank carries out its business operations in Chile.

Transfer pricing between operating segments are on an arm’s length basis in a manner similar to transactions with third parties.

Taxes are managed at a corporate level and are not allocated to business segments.

 

F-37


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

4. Segment Reporting, continued:

 

During 2010 the measurement criteria for segment reporting have been changed. In order to be comparable to the figures presented for 2010 information for 2009 and 2008 is presented using the same criteria. These changes relate to the distribution of capital and income to operating segments. Under the new criteria, the assignation of capital considers risk-weighted assets and the amounts provided by treasury. Income distribution now considers term transformation (gap management) based on the actual interest-earning assets and liabilities of each segment.

 

F-38


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

4. Segment Reporting, continued:

 

 

     As of December 31, 2008  
     Retail
MCh$
    Wholesale
MCh$
    Treasury
MCh$
    Subsidiaries
MCh$
    Other (*)
MCh$
    Subtotal
MCh$
    Reclassifications
and adjustments
to conform IFRS
MCh$
    Note     Total
MCh$
 

Net interest income

     431,698        276,297        80,789        19,379        —          808,163        (34,076       774,087   

Net fees and commissions income

     132,019        28,436        1,803        88,146        —          250,404        (16,043       234,361   

Other operating income

     26,724        38,185        (53,240     10,356        38,580        60,605        2,156          62,761   
                                                                  

Total operating revenue

     590,441        342,918        29,352        117,881        38,580        1,119,172        (47,963     (1)        1,071,209   

Provisions for loan losses

     (114,358     (39,470     —          (2,186     —          (156,014     6,640        (2)        (149,374

Depreciation and amortization

     (18,005     (8,262     (6,146     (2,237     —          (34,650     (4,420     (3)        (39,070

Other operating expenses

     (307,137     (132,050     5,862        (74,858     (44,744     (552,927     66,965        (4)        (485,962

Income attributable to associates

     2,729        665        —          170        —          3,564        —            3,564   
                                                                  

Income before income taxes

     153,670        163,801        29,068        38,770        (6,164     379,145        21,222          400,367   

Income taxes

               (31,706     (3,607     (5)        (35,313
                                    

Income after income taxes

               347,439        17,615          365,054   
                                    

Assets

     5,697,650        8,025,757        3,833,137        1,222,218          18,778,762        (172,292       18,606,470   

Current and deferred taxes

               78,629        (56,761       21,868   
                                    

Total assets

               18,857,391        (229,053     (6)        18,628,338   
                                    

Liabilities

     4,659,237        7,187,470        4,583,296        1,058,215          17,488,218        (374,251       17,113,967   

Current and deferred taxes

               47,420        (38,367       9,053   
                                    

Total liabilities

               17,535,638        (412,618     (7)        17,123,020   
                                    

 

(*) Other: In 2008 this segment was mainly composed of the merger with Citibank Chile. This segment was created in order to present the involved line-items separately, and thus not affect the results of the Bank’s business segments.

 

F-39


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

4. Segment Reporting, continued:

 

 

     As of December 31, 2009  
     Retail
MCh$
    Wholesale
MCh$
    Treasury
MCh$
    Subsidiaries
MCh$
    Subtotal
MCh$
    Reclassifications
and adjustments
to conform IFRS
MCh$
    Note     Total
MCh$
 

Net interest income

     436,035        196,314        24,704        14,039        671,092        6,432          677,524   

Net fees and commissions income

     136,068        31,861        (123     96,491        264,297        (12,442       251,855   

Other operating income

     16,270        30,852        35,491        20,567        103,180        1,830          105,010   
                                                          

Total operating revenue

     588,373        259,027        60,072        131,097        1,038,569        (4,180     (1)        1,034,389   

Provisions for loan losses

     (154,685     (68,137     —          (619     (223,441     (17,904     (2)        (241,345

Depreciation and amortization

     (16,745     (7,217     (5,529     (2,536     (32,027     (4,420     (3)        (36,447

Other operating expenses

     (300,735     (107,033     (2,926     (75,763     (486,457     31,155        (4)        (455,302

Income attributable to associates

     520        (23     —          343        840        —            840   
                                                          

Income before income taxes

     116,728        76,617        51,617        52,522        297,484        4,651          302,135   

Income taxes

             (39,597     (792     (5)        (40,389
                                  

Income after income taxes

             257,887        3,859          261,746   
                                  

Assets

     6,169,113        7,336,807        3,095,493        1,056,358        17,657,771        (206,045       17,451,726   

Current and deferred taxes

             83,012        (33,279       49,733   
                                  

Total assets

             17,740,783        (239,324     (6)        17,501,459   
                                  

Liabilities

     4,560,558        7,463,580        3,415,522        855,294        16,294,954        (433,498       15,861,456   

Current and deferred taxes

             53,081        (14,063       39,018   
                                  

Total liabilities

             16,348,035        (447,561     (7)        15,900,474   
                                  

 

F-40


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

4. Segment Reporting, continued:

 

 

     As of December 31, 2010  
     Retail
MCh$
    Wholesale
MCh$
    Treasury
MCh$
    Subsidiaries
MCh$
    Subtotal
MCh$
    Reclassifications
and adjustments
to conform IFRS
MCh$
    Note     Total
MCh$
 

Net interest income

     517,459        218,348        21,868        12,890        770,565        (3,068       767,497   

Net fees and commissions income

     145,316        40,955        (367     117,561        303,465        (11,203       292,262   

Other operating income

     9,892        22,178        56,222        19,861        108,153        (3,515       104,638   
                                                          

Total operating revenue

     672,667        281,481        77,723        150,312        1,182,183        (17,786     (1)        1,164,397   

Provisions for loan losses

     (123,944     (42,075     —          58        (165,961     8,310        (2)        (157,651

Depreciation and amortization

     (18,625     (6,630     (3,349     (1,940     (30,544     (4,420     (3)        (34,964

Other operating expenses

     (349,217     (125,338     (9,512     (86,498     (570,565     61,302        (4)        (509,263

Income attributable to associates

     1,233        388        —          305        1,926        (317       1,609   
                                                          

Income before income taxes

     182,114        107,826        64,862        62,237        417,039        47,089          464,128   

Income taxes

             (38,509     (8,004     (5)        (46,513
                                  

Income after income taxes

             378,530        39,085          417,615   
                                  

Assets

     7,204,100        7,562,661        2,902,332        845,837        18,514,930        (299,507       18,215,423   

Current and deferred taxes

             88,231        (27,190       61,041   
                                  

Total assets

             18,603,161        (326,697     (6)        18,276,464   
                                  

Liabilities

     5,464,307        7,828,002        3,277,059        629,666        17,199,034        (616,895       16,582,139   

Current and deferred taxes

             —          —            —     
                                  

Total liabilities

             17,199,034        (616,895     (7)        16,582,139   
                                  

 

F-41


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

4. Segment Reporting, continued:

 

Reclassifications and adjustments to conform IFRS

 

(1) Total effect due to reclassification to conform total operating revenue and effect of IFRS adjustments which mainly stems from reclassification of allowances for loan losses and amortization of fair value of loans acquired from Citibank Chile.
(2) Total effect relates to IFRS adjustments which represent differences in the allowance for loans losses.
(3) Total effect relates to IFRS adjustments, which are explained by the amortization of intangibles and depreciation of property and equipment acquired from Citibank Chile.
(4) Total effect due to the reclassification to conform other operating expenses and effect of IFRS adjustments which represents reversal of write-offs of assets received in lieu of payments.
(5) Total effect to conform income taxes relates to IFRS adjustments which stem from deferred taxes.
(6) Total effect due to the consolidation adjustments on assets and effect of IFRS adjustments which mainly stems from deviating allowances for loan losses, acquisition of Citibank Chile and deferred taxes effects.
(7) Total effect due to the consolidation adjustments on liabilities and effect of IFRS adjustments and reclassification in liabilities amount to which mainly stems from providing for minimum dividends and deviating allowances for loan losses.

 

F-42


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

5. Cash and Cash Equivalents:

 

  (a) Details of cash and cash equivalents and its reconciliation to the statement of cash flows at each period are as follows:

 

     2009
MCh$
     2010
MCh$
 

Cash and due from banks:

     

Cash

     257,092         309,348   

Current account with the Chilean Central Bank

     127,166         310,358   

Deposits in other domestic banks

     94,318         110,000   

Deposits abroad

     248,977         42,623   
                 

Subtotal – Cash and due from banks

     727,553         772,329   

Net transactions in the course of collection

     200,995         221,006   

Mutual funds (shown in other assets)

     80,237         28,787   

Repurchase agreements

     79,401         19,902   
                 

Total cash and cash equivalents

     1,088,186         1,042,024   
                 

Amounts in cash and Central Bank deposits are regulatory reserve deposits for which the Bank must maintain a certain monthly average.

 

  (b) Transactions in the course of collection

Transactions in the course of settlement are transactions for which the only remaining step is settlement, which will increase or decrease the funds in the Central Bank or in foreign banks, normally occurring within 12 to 24 business hours and are detailed as follows:

 

     2009
MCh$
    2010
MCh$
 

Assets

    

Documents drawn on other banks (clearing)

     195,397        231,339   

Funds receivable

     330,654        198,417   
                

Subtotal transactions in the course of collection

     526,051        429,756   
                

Liabilities

    

Funds payable

     (325,056     (208,750
                

Subtotal transactions in the course of payment

     (325,056     (208,750
                

Net transactions in the course of collection

     200,995        221,006   
                

 

F-43


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

6. Financial Assets Held-for-Trading:

 

The detail of financial instruments classified as held-for-trading is as follows:

 

     2009
MCh$
     2010
MCh$
 

Instruments issued by the Chilean Government and Central Bank of Chile:

     

Central Bank bonds

     62,477         44,687   

Central Bank promissory notes

     2,621         3,203   

Other instruments issued by the Chilean Government and Central Bank

     96,996         109,302   

Other instruments issued in Chile:

     

Mortgage bonds from domestic banks

     2,556         71   

Bonds from domestic banks

     2,732         1,740   

Deposits in domestic banks

     182,995         119,127   

Other instruments issued in Chile

     1,213         1,635   
                 

Total

     351,590         279,765   
                 

Instruments issued by the Chilean Government and Central Bank include instruments sold under agreements to repurchase to customers and financial institutions, equivalent to MCh$15,260 and MCh$3,049 as of December 31, 2009 and 2010.

“Other instruments issued in Chile” include instruments sold under agreements to repurchase to customers and financial instruments, amounting to Ch$183,135 million and Ch$107,101 million as of December 31, 2009 and December 31, 2010, respectively.

Agreements to repurchase have an average expiration of 8 days as of year-end (8 days in 2009).

Additionally, the Bank holds financial investments in mortgage finance bonds issued by itself in the amount of MCh$95,323 and MCh$76,334 as of December 31, 2009 and 2010, which are presented as a reduction of the liability line item “Debt issued”.

 

F-44


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

7. Repurchase Agreements and Security Lending and Borrowing:

 

  (a) The Bank provides financing to its customers through “Receivables from Repurchase Agreements and Security Borrowing”, in which the financial instrument serves as collateral. As of December 31, 2009 and 2010, the Bank has the following receivables resulting from such transactions:

 

    Up to 1
month
    Over 1 month and
up to 3 months
    Over 3 months and
up to 12 months
    Over 1 year and
up  to 3 years
    Over 3 years and up to
5 years
    Over 5 years     Total  
    2009     2010     2009     2010     2009     2010     2009     2010     2009     2010     2009     2010     2009     2010  
    MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$  

Transactions with other entities

                           

Agreements to resell

    8,790        12,716        3,193        68,346        67,418        1,725        —          —          —          —          —          —          79,401        82,787   
                                                                                                               

Total

    8,790        12,716        3,193        68,346        67,418        1,725        —          —          —          —          —          —          79,401        82,787   
                                                                                                               

 

  (b) The Bank obtains financing by selling financial instruments and committing to repurchase them at future dates, plus interest at a prefixed rate. As of December 31, 2009 and 2010, the Bank has the following payables resulting from such transactions:

 

    Up to 1
month
    Over 1 month and
up to 3 months
    Over 3 months and
up to 12 months
    Over 1 year and
up  to 3 years
    Over 3 years and up
to 5 years
    Over 5 years     Total  
    2009     2010     2009     2010     2009     2010     2009     2010     2009     2010     2009     2010     2009     2010  
    MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$  

Transactions with other entities

                           

Agreements to repurchase

    296,602        81,715        11,426        40        —          —          —          —          —          —          —          —          308,028        81,755   
                                                                                                               

Total

    296,602        81,715        11,426        40        —          —          —          —          —          —          —          —          308,028        81,755   
                                                                                                               

 

  (c) Securities given:

The carrying amount of securities lent and of “Payables from Repurchase Agreements and Security Lending” at December 31, 2010 is Ch$119,806 million (2009: Ch$213,419 million). The counterparty is allowed to sell or repledge those securities in the absence of default by the Bank.

 

  (d) Securities received:

As part of reverse repurchase and securities borrowing agreements the Bank has received securities that it is allowed to sell or repledge in the absence of default by the owner. At December 31, 2010 the Bank held securities with a fair value of Ch$74,895 million (2009: Ch$81,988 million) on such terms. The counterparty is allowed to sell or repledge those securities in the absence of default by the Bank. The Bank has an obligation to return the securities to its counterparties.

 

F-45


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

8. Derivative Instruments and Accounting Hedges:

 

  (a) As of December 31, 2009 and 2010, the Bank’s portfolio of derivative instruments is detailed as follows:

 

            As of December 31, 2009         
            Notional amount of contract with final expiration date in      Fair value  
     Types of
hedges
     Up to 1
month
     Over 1
month and
up to 3
months
     Over 3
months
and up to
12 months
     Over 1
year and
up to 3
years
     Over 3
years and
up to 5
years
     Over 5
years
     Asset      Liability  
       MCh$      MCh$      MCh$      MCh$      MCh$      MCh$      MCh$      MCh$  

Derivatives held for hedging

   purposes

                                                         

Forwards

     —           835         2,407         4,272         2,786         —           —           1,077         —     

Swaps

     FV         131,115         —           1,651         5,571         31,044         262,741         317         6,144   

Call options

     —           —           —           —           —           —           —           —           —     

Put options

     —           —           —           —           —           —           —           —           —     

Futures

     —           —           —           —           —           —           —           —           —     

Other

     —           —           —           —           —           —           —           —           —     
                                                                          

Total derivatives held for hedging purposes

        131,950         2,407         5,923         8,357         31,044         262,741         1,394         6,144   
                                                                          

Derivatives held-for-trading purposes

                          

Forwards

     —           2,145,119         2,785,973         3,112,803         304,839         51,368         —           193,729         179,160   

Swaps

     —           435,492         761,760         2,858,817         4,736,414         2,151,100         1,117,751         370,417         352,112   

Call options

     —           12,752         29,099         6,102         —           —           —           300         244   

Put options

     —           8,538         2,927         1,942         —           —           —           65         376   

Futures

     —           25,131         60         —           —           —           —           81         183   

Other

     —           —           —           —           —           —           631,634         —           21   
                                                                          

Total derivatives held-for-trading purposes

        2,627,032         3,579,819         5,979,664         5,041,253         2,202,468         1,749,385         564,592         532,096   
                                                                          

Total

        2,758,982         3,582,226         5,985,587         5,049,610         2,233,512         2,012,126         565,986         538,240   
                                                                          

 

F-46


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

8. Derivative Instruments and Accounting Hedges, continued:

 

            As of December 31, 2010         
            Notional amount of contract with final expiration date in      Fair value  
     Types of
hedges
     Up to 1
month
     Over 1
month and
up to 3
months
     Over 3
months
and up to
12 months
     Over 1
year and
up to 3
years
     Over 3
years and
up to 5
years
     Over 5
years
     Asset      Liability  

Derivatives held for hedging purposes

                          

Forwards

     —           —           —           —           —           —           —           —           —     

Swaps

     FV         —           —           —           43,677         46,225         223,837         2,126         11,458   

Call options

     —           —           —           —           —           —           —           —           —     

Put options

     —           —           —           —           —           —           —           —           —     

Futures

     —           —           —           —           —           —           —           —           —     

Other

     —           —           —           —           —           —           —           —           —     
                                                                          

Total derivatives held for hedging purposes

        —           —           —           43,677         46,225         223,837         2,126         11,458   
                                                                          

Derivatives held-for-trading purposes

                          

Forwards

     —           3,697,884         2,505,564         3,590,728         417,789         1,076         —           118,705         191,280   

Swaps

     —           422,949         502,456         1,879,220         4,146,815         760,736         779,058         367,390         325,148   

Call options

     —           9,836         30,725         49,436         —           —           —           133         109   

Put options

     —           468         30,725         2,084         —           —           —           —           429   

Futures

     —           —           —           —           —           —           —           —           —     

Other

     —           —           —           —           —           —           647,096         —           21   
                                                                          

Total derivatives held-for-trading purposes

        4,131,137         3,069,470         5,521,468         4,564,604         761,812         1,426,154         486,228         516,987   
                                                                          

Total

        4,131,137         3,069,470         5,521,468         4,608,281         808,037         1,649,991         488,354         528,445   
                                                                          

 

F-47


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

8. Derivative Instruments and Accounting Hedges, continued:

 

  (b) Types of hedges:

Fair values hedges (FV):

As of December 31, 2010, the Bank uses interest rate swaps to cover its exposure to interest rate risk of corporate bonds and commercial credits, classified as “Available for the sale instruments” and “Loans to customers”, respectively.

The Bank uses interest rate swaps or cross-currency swaps to hedge its position against changes in the fair value of bonds issued in US dollars.

For the year ended December 31, 2010 the Bank recognized a loss of Ch$15,725 million on the hedging instruments (loss of Ch$5,080 million in 2009). The total net gain on hedged items attributable to the hedged risks amounted to Ch$3,118 million (gain of Ch$3,543 million in 2009).

Cash flow hedges (CF):

As of December 31, 2009 and 2010, the Bank does not use cash flow hedges.

Hedges of net investments in foreign operations (FO):

As of December 31, 2009 and 2010, the Bank does not use hedges of net investments in foreign operations.

The hedges presented in the section “Derivatives held for hedging purposes” that are not classified as FV, CF or FO are not accounted for under hedge accounting rules.

 

F-48


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

9. Loans and Advance to Banks:

 

  (a) As of December 31, 2009 and 2010, amounts are detailed as follows:

 

     2009
MCh$
    2010
MCh$
 

Domestic Banks

    

Non-available Central Bank deposits

     110,000        —     

Other Central Bank credits

     —          156   

Interbank loans

     13,796        13,149   
                

Subtotal

     123,796        13,305   
                

Foreign Banks

    

Loans to foreign banks

     188,538        162,378   

Overdrafts in current accounts

     —          1   

Other credits with foreign banks

     137,824        174,514   

Provisions for loans to foreign banks

     (1,177     (610
                

Subtotal

     325,185        336,283   
                

Total

     448,981        349,588   
                

 

  (b) Provisions for loans to banks are detailed below:

 

     Bank’s Location        
Detail    Chile
MCh$
     Abroad
MCh$
    Total
MCh$
 

Balance as of January 1, 2008

     —           5        5   

Charge-offs

     —           —          —     

Provisions established

     —           311        311   

Provisions released

     —           —          —     
                         

Balance as of December 31, 2008

     —           316        316   
                         

Charge-offs

     —           —          —     

Provisions established

     —           861        861   

Provisions released

     —           —          —     
                         

Balance as of December 31, 2009

     —           1,177        1,177   
                         

Charge-offs

     —           —          —     

Provisions established

     —           —          —     

Provisions released

     —           (567     (567
                         

Balance as of December 31, 2010

     —           610        610   
                         

 

F-49


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

10. Loans to Customers, net:

 

  (a) Loans to Customers:

As of December 31, 2009 and 2010, the composition of the portfolio of loans is the following:

 

     As of December 31, 2009  
     Asset before Allowance      Allowances established        
     Normal
Porfolio
     Substandard
Loans
     Total      Individual
Provisions
    Group
Provision
    Total     Net Assets  
     MCh$      MCh$      MCh$      MCh$     MCh$     MCh$     MCh$  

Commercial loans

                 

Commercial loans

     6,421,881         271,284         6,693,165         (66,635     (46,186     (112,821     6,580,344   

Foreign trade loans

     684,999         101,875         786,874         (49,111     (196     (49,307     737,567   

Current account debtors

     130,717         4,685         135,402         (1,656     (1,777     (3,433     131,969   

Factoring transactions

     333,918         9,139         343,057         —          (5,523     (5,523     337,534   

Commercial lease transactions (1)

     661,677         34,363         696,040         (9,466     (6,054     (15,520     680,520   

Other loans and accounts receivable

     61,752         4,886         66,638         (1,086     (1,920     (3,006     63,632   
                                                           

Subtotal

     8,294,944         426,232         8,721,176         (127,954     (61,656     (189,610     8,531,566   
                                                           

Mortgage loans

                 

Mortgage bonds

     189,226         19,745         208,971         —          (1,686     (1,686     207,285   

Transferable mortgage loans

     229,509         9,366         238,875         —          (1,264     (1,264     237,611   

Other residential real estate mortgage loans

     2,038,506         39,593         2,078,099         —          (10,933     (10,933     2,067,166   

Other loans and accounts receivable

     978         83         1,061         —          (16     (16     1,045   
                                                           

Subtotal

     2,458,219         68,787         2,527,006         —          (13,899     (13,899     2,513,107   
                                                           

Consumer loans

                 

Consumer loans in installments

     1,232,424         113,764         1,346,188         —          (89,264     (89,264     1,256,924   

Current account debtors

     230,306         5,060         235,366         —          (5,658     (5,658     229,708   

Credit card debtors

     351,255         9,625         360,880         —          (13,627     (13,627     347,253   

Other loans and accounts receivable

     610         30         640         —          (43     (43     597   
                                                           

Subtotal

     1,814,595         128,479         1,943,074         —          (108,592     (108,592     1,834,482   
                                                           

Total

     12,567,758         623,498         13,191,256         (127,954     (184,147     (312,101     12,879,155   
                                                           

 

(1) In this item, the Bank finances its customers purchases of assets, including real estate and other personal property, through finance lease agreements. As of December 31, 2009, MCh$326,997 corresponds to finance leases for real estate.

 

F-50


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

10. Loans to Customers, net, continued:

 

  (a) Loans to Customers continued:

 

     As of December 31, 2010  
     Asset before Allowance      Allowances established        
     Normal
Porfolio
     Substandard
Loans
     Total      Individual
Provisions
    Group
Provision
    Total     Net Assets  
     MCh$      MCh$      MCh$      MCh$     MCh$     MCh$     MCh$  

Commercial loans

                 

Commercial loans

     6,590,176         372,038         6,962,214         (81,574     (48,147     (129,721     6,832,493   

Foreign trade loans

     783,422         130,236         913,658         (50,249     (279     (50,528     863,130   

Current account debtors

     109,282         12,225         121,507         (5,342     (1,931     (7,273     114,234   

Factoring transactions

     465,749         11,383         477,132         —          (4,502     (4,502     472,630   

Commercial lease transactions (1)

     706,707         70,587         777,294         (11,958     (5,723     (17,681     759,613   

Other loans and accounts receivable

     35,721         3,456         39,177         (363     (1,490     (1,853     37,324   
                                                           

Subtotal

     8,691,057         599,925         9,290,982         (149,486     (62,072     (211,558     9,079,424   
                                                           

Mortgage loans

                 

Mortgage bonds

     150,196         15,435         165,631         —          (1,443     (1,443     164,188   

Transferable mortgage loans

     197,745         7,515         205,260         —          (1,106     (1,106     204,154   

Other residential real estate mortgage loans

     2,508,023         48,372         2,556,395         —          (12,700     (12,700     2,543,695   

Other loans and accounts receivable

     56         436         492         —          (25     (25     467   
                                                           

Subtotal

     2,856,020         71,758         2,927,778         —          (15,274     (15,274     2,912,504   
                                                           

Consumer loans

                 

Consumer loans in installments

     1,396,114         92,169         1,488,283         —          (101,415     (101,415     1,386,868   

Current account debtors

     220,133         9,674         229,807         —          (4,261     (4,261     225,546   

Credit card debtors

     429,266         11,525         440,791         —          (15,485     (15,485     425,306   

Other loans and accounts receivable

     336         18         354         —          (34     (34     320   
                                                           

Subtotal

     2,045,849         113,386         2,159,235         —          (121,195     (121,195     2,038,040   
                                                           

Total

     13,592,926         785,069         14,377,995         (149,486     (198,541     (348,027     14,029,968   
                                                           

 

(1) In this item, the Bank finances its customers purchases of assets, including real estate and other personal property, through finance lease agreements. As of December 31, 2010, MCh$353,455 corresponds to finance leases for real estate.

 

F-51


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

10. Loans to Customers, net, continued:

 

  (b) Allowances for loan losses:

Movements in allowances for loan losses during 2008, 2009 and 2010 periods are as follows:

 

     Allowances        
     Individual
MCh$
    Group
MCh$
    Total
MCh$
 

Balance as of January 1, 2008

     69,441        60,183        129,624   

Balance from Citibank Chile

     —          20,883        20,883   

Charge-offs:

      

Commercial loans

     (29,616     (3,935     (33,551

Mortgage loans

     —          (2,820     (2,820

Consumer loans

     —          (76,618     (76,618
                        

Total charge-offs

     (29,616     (83,373     (112,989

Allowances established

     66,271        121,593        187,864   

Allowances released

     (242     (32     (274
                        

Balance as of December 31, 2008

     105,854        119,254        225,108   
                        

Balance as of January 1, 2009

     105,854        119,254        225,108   

Charge-offs:

      

Commercial loans

     (79,509     (6,521     (86,030

Mortgage loans

     —          (2,088     (2,088

Consumer loans

     —          (93,675     (93,675
                        

Total charge-offs

     (79,509     (102,284     (181,793

Allowances established

     101,609        168,696        270,305   

Allowances released

     —          (1,519     (1,519
                        

Balance as of December 31, 2009

     127,954        184,147        312,101   
                        

Balance as of January 1, 2010

     127,954        184,147        312,101   

Charge-offs:

      

Commercial loans

     (13,838     (32,581     (46,419

Mortgage loans

     —          (2,376     (2,376

Consumer loans

     —          (100,298     (100,298
                        

Total charge-offs

     (13,838     (135,255     (149,093

Allowances established

     36,304        151,226        187,530   

Allowances released

     (934     (1,577     (2,511
                        

Balance as of December 31, 2010

     149,486        198,541        348,027   
                        

 

F-52


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

10. Loans to Customers, net, continued:

 

  (c) During 2009 and 2010, the Bank and its subsidiaries presented the following allowance for loan losses associated with impaired loans and with non-impaired loans:

 

     As of December 31,  
     2009      2010  
     MCh$      MCh$  

Individual impaired

     98,719         113,705   

Group impaired

     86,198         90,550   
                 

Provision for loans impaired

     184,917         204,255   
                 

Provision for not yet identified but incurred impairment

     127,184         143,772   
                 

Total provision for loan losses

     312,101         348,027   
                 

 

F-53


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

10. Loans to Customers, net, continued:

 

  (d) Finance Lease Contracts:

The Bank’s scheduled cash flows to be received from finance leasing contracts have the following maturities:

 

     Total receivable      Unearned income     Net lease receivable (*)  
     2009
MCh$
     2010
MCh$
     2009
MCh$
    2010
MCh$
    2009
MCh$
     2010
MCh$
 

Due within one year

     232,380         261,877         (29,704     (32,363     202,676         229,514   

Due after 1 year but within 2 years

     170,337         188,469         (22,540     (24,587     147,797         163,882   

Due after 2 years but within 3 years

     110,362         129,086         (15,564     (16,910     94,798         112,176   

Due after 3 years but within 4 years

     75,162         87,809         (11,257     (11,870     63,905         75,939   

Due after 4 years but within 5 years

     56,258         57,461         (8,363     (8,635     47,895         48,826   

Due after 5 years

     158,025         163,553         (20,384     (19,535     137,641         144,018   
                                                   

Total

     802,524         888,255         (107,812     (113,900     694,712         774,355   
                                                   

 

(*) The net balance receivable does not include past-due portfolio totaling MCh$1,328 and MCh$2,939 as of December 31, 2009 and 2010, respectively.

The Bank has entered into commercial leases of real estate, industrial machinery, vehicles and computer equipment. These leases have an average life of between 3 and 8 years with no renewal option included in the contract.

 

F-54


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

10. Loans to Customers, continued:

 

  (e) Loans by industry sector:

The following table details the Bank’s loan portfolio (before allowances for loans losses) as of December 31, 2009 and 2010 by the customer’s industry sector:

 

     Location                              
     Chile      Abroad      Total  
    

2009

MCh$

    

2010

MCh$

     2009
MCh$
     2010
MCh$
    

2009

MCh$

     %     

2010

MCh$

     %  

Commercial loans:

                       

Services

     2,077,488         2,128,279         362,771         400,494         2,440,259         18.50         2,528,773         17.59   

Commerce

     1,241,840         1,514,383         2,851         1,179         1,244,691         9.44         1,515,562         10.54   

Manufacturing

     822,754         1,148,473         —           —           822,754         6.24         1,148,473         7.99   

Construction

     1,044,405         932,436         —           —           1,044,405         7.92         932,436         6.49   

Agriculture and livestock

     533,867         639,711         —           —           533,867         4.05         639,711         4.45   

Transportation

     267,267         472,043         —           —           267,267         2.02         472,043         3.28   

Mining

     174,452         104,696         —           —           174,452         1.32         104,696         0.73   

Electricity, gas and water

     164,529         133,263         —           —           164,529         1.25         133,263         0.93   

Fishing

     98,969         242,873         —           —           98,969         0.75         242,873         1.69   

Telecom

     112,799         110,585         —           —           112,799         0.85         110,585         0.77   

Forestry

     15,310         44,136         —           —           15,310         0.11         44,136         0.31   

Other

     1,801,361         1,417,958         513         473         1,801,874         13.66         1,418,431         9.85   
                                                                       

Subtotal

     8,355,041         8,888,836         366,135         402,146         8,721,176         66.11         9,290,982         64.62   
                                                                       

Residential mortgage loans

     2,527,006         2,927,778         —           —           2,527,006         19.16         2,927,778         20.36   

Consumer loans

     1,943,074         2,159,235         —           —           1,943,074         14.73         2,159,235         15.02   
                                                                       

Total

     12,825,121         13,975,849         366,135         402,146         13,191,256         100.00         14,377,995         100.00   
                                                                       

 

F-55


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

11. Financial Assets Available-for-sale:

As of December 31, 2009 and 2010, investment securities classified as available-for-sale are detailed as follows:

 

    

2009

MCh$

    

2010

MCh$

 

Instruments issued by the Chilean Government and Central Bank of Chile:

     

Bonds issued by the Chilean Government and Central Bank

     25,880         67,822   

Promissory notes issued by the Chilean Government and Central Bank

     285,486         212,816   

Other instruments

     136,923         90,849   

Other instruments issued in Chile:

     

Equity instruments valued at cost

     2,112         2,222   

Mortgage bonds from domestic banks

     79,220         70,055   

Bonds from domestic banks

     55,111         73,331   

Deposits from domestic banks

     407,432         398,789   

Bonds from other Chilean companies

     73,174         40,467   

Instruments issued by foreign institutions:

     

Other instruments issued abroad (*)

     202,436         200,754   
                 

Total

     1,267,774         1,157,105   
                 

 

(*) This item includes shares of Visa Inc and Mastercard Inc, which fair value is Ch$7,968 million.

Instruments issued by the Chilean Government and Central Bank include instruments with agreements to repurchase sold to clients and financial institutions, totaling MCh$15,024 and MCh$9,656 as of December 31, 2009 and 2010. The agreements to repurchase have an average maturity of 9 days and 12 days as of December 31, 2009 and 2010, respectively.

As of December 31, 2009 and 2010, the portfolio of financial assets available-for-sale includes a net unrealized gain of MCh$8,839 and MCh$8,314, recorded in other comprehensive income within equity.

The equity investments values at cost represent shares of servicing companies that the Bank is obliged to hold in order to benefit from these services. There is no active market for these shares and their fair value cannot be measured reliably. However, the difference between cost and fair value is not expected to be significant.

During 2009 and 2010, there is no evidence of impairment of financial assets available-for-sale.

As of December 31, 2009 and 2010, the Bank and its subsidiaries do not hold financial assets held-to-maturity.

 

F-56


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

11. Financial Assets Available-for-sale, continued:

 

Realized profits and losses are calculated as the proceeds from sales less the cost (specific identification method) of the investments identified as for sale. In addition, any unrealized profit or loss previously recorded in equity for these investments is reversed when recorded in the income statements.

Gross profits and losses realized and unrealized on the sale of available for sale investments for the years-ended December 31, 2008, 2009 and 2010 are as follows:

 

     2008
MCh$
    2009
MCh$
     2010
MCh$
 

Unrealized profits /losses

     (16,872     13,101         9,885   

Realized profits / losses (reclassified)

     (420     14,840         (10,248
                         

Total

     (17,292     27,941         (363
                         

 

F-57


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

12. Investments in Other Companies:

 

  (a) This item includes investments in other companies for an amount of MCh$10,494 and MCh$11,072, which is detailed as follows:

 

                          Investment  
            Ownership Interest      Equity      Book Value      Income (Loss)  
Company    Shareholder      2009
%
     2010
%
     2009
MCh$
     2010
MCh$
     2009
MCh$
     2010
MCh$
     2008
MCh$
     2009
MCh$
    2010
MCh$
 

Investments value at equity method:

                            

Servipag Ltda. (1)

     Banco de Chile         50.00         50.00         5,424         6,176         2,712         3,088         693         15        376   

Redbanc S.A.

     Banco de Chile         38.13         38.13         5,081         4,764         1,937         1,817         294         202        78   

Soc. Operadora de Tarjetas de Crédito Nexus S.A.

     Banco de Chile         25.81         25.81         6,412         6,412         1,655         1,655         294         188        227   

Transbank S.A.

     Banco de Chile         26.16         26.16         7,006         6,205         1,833         1,623         537         254        292   

Artikos Chile S.A. (1)

     Banco de Chile         50.00         50.00         1,397         1,840         698         920         364         353        222   

Administrador Financiero del Transantiago S.A.

     Banco de Chile         20.00         20.00         2,915         3,879         583         776         1,005         (349     193   

Soc. Operadora de la Cámara de Compensación de Pagos de Alto Valor S.A.(2)

     Banco de Chile         14.17         14.17         3,073         3,347         436         474         237         74        59   

Sociedad Interbancaria de Depósitos de Valores S.A.

     Banco de Chile         26.81         26.81         1,260         1,392         338         373         96         85        115   

Centro de Compensación Automatizado S.A.

     Banco de Chile         33.33         33.33         906         1,039         302         346         44         18        47   
                                                          

Subtotal

                    10,494         11,072         3,564         840        1,609   
                                                          

 

(1) Banco de Chile does not possess more than half of the voting rights and there are no other indicators of control. Therefore, Banco de Chile only possesses significant influence over this company.
(2) Banco de Chile has significant influence in Soc. Operadora de la Cámara de Compensación de Pagos de Alto Valor S.A. because they have the right to designate one director of the board.

 

F-58


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

12. Investments in Other Companies, continued:

 

  (b) The total carrying amount of the Bank’s associates is explained as follows:

 

     2009
MCh$
     2010
MCh$
 

Share of the associate’s statement of financial position

     

Current assets

     296,905         379,983   

Non-current assets

     236,836         56,447   

Current liabilities

     370,540         393,873   

Non-current liabilities

     130,380         7,503   

Equity

     32,821         35,054   

Share of the associate’s revenue and profit

     

Revenue

     669         10,421   

Profit

     523         6,126   

Carrying amount of the investment

     10,494         11,072   

 

  (c) The reconciliation between opening and ending balance of investments in other companies that are not consolidated in 2009 and 2010 is detailed as follows:

 

     2008
MCh$
    2009
MCh$
    2010
MCh$
 

Balance as of January 1,

     7,942        11,293        10,494   

Acquisitions (sales)

     1,785        (169     4   

Participation in net income

     3,564        840        1,609   

Dividends received

     (1,015     (1,002     (984

Other

     (983     (468     (51
                        

Balance as of December 31,

     11,293        10,494        11,072   
                        

 

  (d) As of December 31, 2009 and 2010 no impairment has incurred in these investment.

 

F-59


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

13. Intangible Assets:

 

  (a) Movements in intangible assets during the 2009 and 2010 periods are as follows:

 

     Goodwill
MCh$
     Software or
computer
programs
MCh$
    Intangible assets
arising from
business
combinations(**)
MCh$
    Other
intangible
assets
MCh$
    Total
MCh$
 

Gross Balance

           

Balance as of January 1, 2008

     —           47,452        3,581        1,179        52,212   

Acquisitions

     16,714         13,451        56,249        10        86,424   

Disposals

     —           (744     —          (557     (1,301

Other

     —           —          (3,581     —          (3,581
                                         

Balance as of December 31, 2008

     16,714         60,159        56,249        632        133,754   
                                         

Acquisitions

     —           8,346        —          23        8,369   

Disposals

     —           —          —          —          —     

Other

     —           —          —          (43     (43
                                         

Balance as of December 31, 2009

     16,714         68,505        56,249        612        142,080   
                                         

Acquisitions

     —           15,300        —          27        15,327   

Disposals

     —           (22     —          —          (22

Other

     —           (18,119     —          (557     (18,676
                                         

Balance as of December 31, 2010

     16,714         65,664        56,249        82        138,709   
                                         

Accumulated Amortization and Impairment

           

Balance as of January 1, 2008

     —           (26,687     —          (5     (26,692

Amortization for the year (*)

     —           (6,595     (9,708     (16     (16,319

Impairment loss

     —           —          —          —          —     

Foreign currency translation

     —           —          —          —          —     

Other

     —           —          3,581        —          3,581   
                                         

Balance as of December 31, 2008

     —           (33,282     (6,127     (21     (39,430
                                         

Amortization for the year (*)

     —           (8,208     (6,277     (20     (14,505

Impairment loss

     —           —          —          —          —     

Foreign currency translation

     —           —          —          —          —     

Other

     —           37        —          —          37   
                                         

Balance as of December 31, 2009

     —           (41,453     (12,404     (41     (53,898
                                         

Amortization for the year (*)

     —           (8,730     (6,277     (23     (15,030

Impairment loss

     —           —          —          —          —     

Foreign currency translation

     —           —          —          —          —     

Other

     —           17,495        —          —          17,495   
                                         

Balance as of December 31, 2010

     —           (32,688     (18,681     (64     (51,433
                                         

Net balance as of December 31, 2008

     16,714         26,877        50,122        611        94,324   
                                         

Net balance as of December 31, 2009

     16,714         27,052        43,845        571        88,182   
                                         

Net balance as of December 31, 2010

     16,714         32,976        37,568        18        87,276   
                                         

 

(*) No impairment has been identified at the end of each year.
(**) Intangible assets arising from business combinations include assets with indefinite useful lives acquired in the business combination with Citibank Chile (Brands).

On January 1, 2008, the Bank acquired all of the shares of Citibank Chile. This transaction was accounted for as a business combination under IFRS 3 with Banco de Chile being the acquirer. The goodwill arising from the acquisition of MCh$12,595 million represents the value of synergies to be generated in the combination process and the acquisition of know-how.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

13. Intangible Assets, continued:

 

  (b) Impairment testing of Goodwill

Goodwill acquired through business combinations has been allocated to 4 individual cash-generating units for impairment testing as follows:

 

Business Segments    2009
MCh$
     2010
MCh$
 

Retail

     5,928         5,928   

Wholesale

     2,135         2,135   

Treasury and money market operations

     4,512         4,512   

Subsidiaries

     4,139         4,139   
                 

Total

     16,714         16,714   
                 

Key Assumptions used in the value in use calculations for impairment testing:

The Bank determines the recoverable amount of its primary cash-generating units on the basis of value in use and employs a valuation model based on discounted cash flows (“DCF”). The DCF model employed by the Bank reflects the specifics of the banking business and its regulatory environment. The model calculates the present value of the estimated future earnings that are distributable to shareholders after fulfilling the respective regulatory capital requirements.

The DCF model uses earnings projections for a five-year period which, for purposes of the goodwill impairment test, are extrapolated to a ten-year period assuming a declining growth rate and are discounted to their present value. Estimating future earnings requires judgment, considering past and actual performance as well as expected developments in the respective markets and in the overall macro-economic environment. Earnings projections beyond the initial ten-year period are, where applicable, adjusted to derive a sustainable level and assumed to increase by or converging towards a constant long-term growth rate, which is based on expectations for the development of gross domestic product and inflation, and are captured in the terminal value.

The value in use of a cash-generating unit is sensitive to the earnings projections, to the discount rate applied and, to a much lesser extent, to the long-term growth rate. The discount rates applied have been determined based on the capital asset pricing model. Variations in the market factors might impact the calculation of the discount rates. As of December 31, 2009 and 2010 the Bank did not determine any impairment on goodwill.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

13. Intangible Assets, continued:

 

  (c) As of December 31, 2009 and 2010, the Bank has made the following commitments to purchase intangible assets, which have not been capitalized:

 

     Amount of Commitment  
     2009
MCh$
     2010
MCh$
 

Software and licenses

     3,671         5,152   

 

F-62


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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

14. Property and Equipment:

 

  (a) As of December 31, 2009 and 2010, this account and its movements are detailed as follows:

 

     Land and
Buildings
MCh$
    Equipment
MCh$
    Other
MCh$
    Total
MCh$
 

Cost

        

Balance as of January 1, 2009

     168,260        111,554        119,305        399,119   

Additions

     3,245        7,161        4,919        15,325   

Disposals/write-downs

     (82     (2,501     (1,894     (4,477

Other

     (208     (73     333        52   
                                

Total

     171,215        116,141        122,663        410,019   

Accumulated depreciation

     (30,155     (92,922     (81,095     (204,172

Impairment loss

     —          —          —          —     
                                

Balance as of December 31, 2009

     141,060        23,219        41,568        205,847   
                                

Balance as of January 1, 2010

     171,215        116,141        122,663        410,019   

Additions

     5,387        13,072        9,020        27,479   

Disposals/write-downs

     (2,506     (2,849     (499     (5,854

Transfers

     (305     (5,503     (1,825     (7,633

Other

     150        336        (288     198   
                                

Total

     173,941        121,197        129,071        424,209   

Accumulated depreciation

     (32,123     (98,464     (87,039     (217,626

Impairment loss

     (209     (284     (551     (1,044
                                

Balance as of December 31, 2010

     141,609        22,449        41,481        205,539   
                                

Accumulated Depreciation

        

Balance as of January 1, 2009

     (27,785     (89,029     (70,926     (187,740

Depreciation charges in the period

     (2,629     (6,446     (12,310     (21,385

Sales and disposals in the period

     9        2,445        2,083        4,537   

Transfers

     —          —          —          —     

Others

     250        108        58        416   
                                

Balance as of December 31, 2009

     (30,155     (92,922     (81,095     (204,172
                                

Balance as of January 1, 2010

     (30,155     (92,922     (81,095     (204,172

Depreciation charges in the period

     (2,196     (8,422     (8,935     (19,553

Sales and disposals in the period

     175        2,703        458        3,336   

Transfers

     (17     (51     2,234        2,166   

Others

     70        228        299        597   
                                

Balance as of December 31, 2010

     (32,123     (98,464     (87,039     (217,626
                                

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

14. Property and equipment, continued:

 

  (b) As of December 31, 2009 and 2010, the Bank has operating lease agreements in which it acts as lessee that cannot be terminated unilaterally; Information on future payments is detailed as follows:

 

    Expenses for
the year
    Up to 1
month
    Over 1
month and
up to 3
months
    Over 3
months and
up to 12
months
    Over 1 year
and up to 3
years
    Over 3 years
and up to 5
years
    Over 5 years     Total  
    2009
MCh$
    2010
MCh$
    2009
MCh$
    2010
MCh$
    2009
MCh$
    2010
MCh$
    2009
MCh$
    2010
MCh$
    2009
MCh$
    2010
MCh$
    2009
MCh$
    2010
MCh$
    2009
MCh$
    2010
MCh$
    2009
MCh$
    2010
MCh$
 

Lease agreements

    21,515        21,997        1,357        2,342        2,713        4,799        12,204        14,749        22,309        30,042        15,174        23,060        26,596        51,015        80,353        126,007   

As these lease agreements are operating leases under IAS 17 the leased assets are not presented in the Bank’s statement of financial position.

The Bank has entered into commercial leases of real estate. These leases have an average life of 10 years. There are no restrictions placed upon the lessee by entering into the lease.

 

  (c) As of December 31, 2009 and 2010, the Bank does not have any finance lease agreements as lessee and, therefore, there are no property and equipment balances to be reported from such transactions as of December 31, 2009 and 2010.

 

F-64


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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

15. Investment Properties:

 

     2008
MCh$
    2009
MCh$
    2010
MCh$
 

Net Balance as of January 1,

     16,459        18,397        17,840   

Additions resulting from business combinations

     2,311        —          —     

Disposals

     —          —          —     

Depreciation charges in the period

     (373     (557     (381

Impairment

     —          —          —     
                        

Net balance as of December 31,

     18,397        17,840        17,459   
                        

Estimated useful lives applied by the Bank are presented in Note 2 (q) on Property and equipment.

As of December 31, 2010 the fair value of the investment properties held by the Bank is MCh$55,041 million (December 31, 2009: MCh$20,033 million).

In 2010, the Bank earned income of MCh$4,552 million (2009: Ch$4,109 million) renting out their investment properties. In the same period it has incurred corresponding expenses of MCh$4.3 and MCh$2,038 per year in 2009 and 2010.

 

16. Current Taxes and Deferred Taxes:

 

  (a) Current Tax:

As of each year end, the Bank and its subsidiaries have established a First Category Income Tax Provision of MCh$39,018 and MCh$(3,363) as of December 31, 2009 and 2010, determined in accordance with current tax laws. This provision is presented net of recoverable taxes, detailed as follows:

 

     2009
MCh$
    2010
MCh$
 

Income taxes, 17% rate

     68,954        54,112   

Tax from previous periods

     3,052        3,052   

Tax on non-deductible expenses 35%

     2,319        1,835   

Less:

    

Monthly prepaid taxes (PPM)

     (33,660     (53,108

Credit for training expenses

     (1,328     (1,327

Other

     (319     (7,927
                

Total

     39,018        (3,363
                

 

F-65


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

16. Current and Deferred Taxes, continued:

 

  (b) Income Tax:

The Bank’s tax expense recorded for the years ended December 31, 2009 and 2010 is detailed as follows:

 

     2008
MCh$
    2009
MCh$
    2010
MCh$
 

Income tax expense:

      

Current year taxes

     (41,838     (68,954     (54,112

Tax from previous periods

     —          (1,722     1,723   
                        

Subtotal

     (41,838     (70,676     (52,389
                        

Credit (charge) for deferred taxes:

      

Origin and reversal of temporary differences

     10,713        33,945        5,042   

Effect of changes in tax rate

     —          —          2,263   

Change in unrecognized temporary differences

     —          (1,330     401   
                        

Subtotal

     10,713        32,615        7,706   
                        

Non deductible expenses (Art. 21)

     (2,485     (2,319     (1,835

Expenses for taxes abroad

     (2,866     —          —     

Other

     1,163        (9     5   
                        

Net charge to income for income taxes

     (35,313     (40,389     (46,513
                        

 

  (c) Reconciliation of effective tax rate:

The following table reconciles the income tax rate to the effective rate applied to determine the Bank’s income tax expense as of December 31, 2009 and 2010.

 

     2008     2009     2010  
     Tax rate %     MCh$     Tax rate %     MCh$     Tax rate %     MCh$  

Income tax calculated on net income before tax

     17.00        68,062        17.00        51,363        17.00        78,902   

Additions or deductions1

     (6.06     (24,257     (6.78     (20,478     (5.73     (26,602

Non-deductible expenses

     0.62        2,485        0.77        2,319        0.40        1,835   

Tax from previous years

     —          —          1.01        3,052        —          —     

Effect of changes in tax rate

     —          —          —          —          (0.49     (2,263 )* 

Tax incentives not recognized in income statement

     (1.67     (6,671     (1.09     (3,290     (0.72     (3,362

Other

     (1.08     (4,306     2.46        7,423        (0.43     (1,997
                                                

Effective rate and income tax expense

     8.81        35,313        13.37        40,389        10.03        46,513   
                                                

The effective rate for income tax for 2010 is 10.03% (8.81% and 13.37% in 2008 and 2009). The decrease between the periods is mainly due to price level restatement for tax purposes, in 2009 the price level restatement were not applied.

 

(1) The reductions of the tax rate for 2009 and 2010 mainly relate to specific adjustments from tax-exempt distribution of income to SAOS of 34.64% of the Bank’s profits as well as adjustments relating to its subsidiaries.

 

F-66


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

16. Current and Deferred Taxes, continued:

 

* According to the Law No. 20,455 issued in 2010 and the instructions of the Circular No. 63 of September 30, 2010, issued by the Chilean Internal Revenue Service (SII) is temporarily changed the tax rates of the first category according to the following :

 

Year    Tax rate  

2011

     20.0

2012

     18.5

2013 hereinafter

     17.0

The effect on deferred tax results for this rate change mean a credit to income for the year 2010 by Ch$2,263 million.

 

F-67


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

16. Current and Deferred Taxes, continued:

 

  (d) Effect of deferred taxes on income and equity:

During the year 2010, the Bank has recorded the effects of deferred taxes in accordance with IAS 12.

The effects of deferred taxes on assets, liabilities and income accounts are detailed as follows:

 

    Balance
as of
January
1, 2008
MCh$
    Balance
from
Citibank
Chile
MCh$
    Effect     Balance
as of
December
31, 2008
MCh$
    Effect     Balance
as of
December

31, 2009
MCh$
    Unrecognized
temporary
differences
MCh$
    Effect     Balance
as of
December
31, 2010
MCh$
 
      Income
MCh$
    Equity
MCh$
      Income
MCh$
    Equity
MCh$
        Income
MCh$
    Equity
MCh$
   

Debit Differences:

                       

Allowances for loan losses

    23,496        3,129        11,418        —          38,043        18,525        —          56,568        —          6,735        —          63,303   

Obligations with agreements to repurchase

    3,503        —          4,598        —          8,101        (9,194     —          (1,093     —          853        —          (240

Leasing equipment

    2,892        441        (22     —          3,311        2,665        —          5,976        —          2,918        —          8,894   

Personnel provisions

    2,510        —          1,317        —          3,827        (538     —          3,289        —          1,392        —          4,681   

Staff vacations

    2,246        544        266        —          3,056        (205     —          2,851        —          745        —          3,596   

Accrued interests and indexation adjustments from past due loans

    1,576        47        760        —          2,383        (1,266     —          1,117        —          349        —          1,466   

Staff severance indemnities provisions

    1,094        —          (200     —          894        175        —          1,069        —          49        —          1,118   

Other adjustments

    4,469        4,126        (4,463     —          4,132        (1,806     —          2,326        53        6,726        —          9,105   
                                                                                               

Total debit differences

    41,786        8,287        13,674        —          63,747        8,356        —          72,103        53        19,767        —          91,923   
                                                                                               

Credit Differences:

                       

Investments with agreements to repurchase

    4,520        —          3,323        —          7,843        (7,843     —          —          —          872        —          872   

Depreciation of property and equipment and investment properties

    12,416        (910     2,701        —          14,207        (82     —          14,125        —          (737     —          13,388   

Deferred taxes, modification of accounting method in equity

    —          557        (5     —          552        (96     —          456        —          (456     —          —     

Adjustment for valuation financial assets available-for-sale

    —          (479     —          (2,940     (3,419     —          4,750        1,331        —          —          162        1,493   

Transitory assets

    3,536        1,028        97        —          4,661        (2,826     —          1,835        —          (166     —          1,669   

Derivative instruments adjustments

    (10     —          (516     —          (526     (10,740     —          (11,266     —          12,585        —          1,319   

Other adjustments

    5,291        5,026        (2,639     10,883        18,561        (2,672     —          15,889        (348     (37     —          15,504   
                                                                                               

Total credit differences

    25,753        5,222        2,961        7,943        41,879        (24,259     4,750        22,370        (348     12,061        162        34,245   
                                                                                               

Deferred tax assets, net

    16,033        3,065        10,713        (7,943     21,868        32,615        (4,750     49,733        401        7,706        (162     57,678   
                                                                                               

 

F-68


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

16. Current and Deferred Taxes, continued:

 

  (d) Effect of deferred taxes on income and equity, continued:

Deferred tax related to items charged or credited directly to equity during the year:

 

     2008
MCh$
    2009
MCh$
    2010
MCh$
 

Adjustment for valuation financial assets available-for-sale

     2,940        (4,750     62   

Adjustment for change in the tax rate

     —          —          (224

Deferred taxes from business combination

     (10,883     —          —     
                        

Total

     (7,943     (4,750     (162
                        

 

17. Other Assets:

As of December 31, 2009 and 2010, other assets are detailed as follows:

 

     2009
MCh$
    2010
MCh$
 

Documents intermediated

     90,108        103,448   

Assets held for leasing (*)

     45,962        90,792   

Mutual funds

     80,237        28,787   

Other accounts and notes receivable

     7,705        25,440   

VAT receivable

     4,974        8,251   

Assets received or awarded as payment:

    

Assets received in lieu of payment

     8,522        10,418   

Provisions for assets received in lieu of payment

     (229     (15

Pending transactions

     16,325        5,115   

Prepaid expenses

     1,722        4,494   

Recoverable income taxes

     3,626        4,392   

Commissions receivable

     3,161        3,668   

Recovered leased assets for sale

     3,688        2,197   

Transactions in progress

     4,411        2,171   

Rental guarantees

     872        1,145   

Accounts receivable for sale of assets received in lieu of payment

     353        1,079   

Other

     11,435        13,043   
                

Total

     282,872        304,425   
                

 

(*) These correspond to property and equipment to be given under a finance lease.

 

F-69


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

18. Current Accounts and Other Demand Deposits:

As of December 31, 2009 and 2010, current accounts and other demand deposits are detailed as follows:

 

    

2009

MCh$

    

2010

MCh$

 

Current accounts

     3,127,934         3,611,894   

Other demand deposits and accounts

     251,217         318,993   

Other demand deposits

     338,925         515,294   
                 

Total

     3,718,076         4,446,181   
                 

 

19. Saving Accounts and Time Deposits:

As of December 31, 2009 and 2010, saving accounts and time deposits are detailed as follows:

 

    

2009

MCh$

    

2010

MCh$

 

Time deposits

     7,264,809         7,497,073   

Term saving accounts

     158,035         173,404   

Other term balances payable

     4,637         27,491   
                 

Total

     7,427,481         7,697,968   
                 

 

F-70


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

20. Borrowings from Financial Institutions:

As of December 31, 2009 and 2010, borrowings from financial institutions are detailed as follows:

 

    

2009

MCh$

    

2010

MCh$

 

Domestic banks

     

Interbank loans

     3,177         —     

Current account overdrafts

     701         —     
                 

Subtotal

     3,878         —     
                 

Foreign banks

     

Foreign trade financing

     

Chilean export financing

     1,194,316         1,088,766   

Chilean import financing

     14,804         16,236   

Borrowings and other obligations

     

Short-term borrowings

     —           9,426   

Current account overdrafts

     24         49,565   

Long-term borrowings

     —           117,299   
                 

Subtotal

     1,209,144         1,281,292   
                 

Chilean Central Bank

     

Borrowings and other obligations

     155,090         —     

Debt reprogramming credit lines

     114         80   
                 

Subtotal

     155,204         80   
                 

Total

     1,368,226         1,281,372   
                 

 

F-71


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

21. Debt Issued:

As of December 31, 2009 and 2010, Debt issued is detailed as follows:

 

    

2009

MCh$

    

2010

MCh$

 

Mortgage bonds

     265,581         198,868   

Bonds

     815,734         820,331   

Subordinated bonds

     506,683         744,966   
                 

Total

     1,587,998         1,764,165   
                 

During 2010, Banco de Chile issued bonds by an amount of Ch$592,371 million, of which Ch$330,837 million correspond to normal bonds and Ch$261,534 million correspond to subordinated bonds, respectively.

Bonds

 

Series

   MCh$     

Term

  

Interest rate

   Currency     

Issued date

  

Maturity date

BCHIUA0609

     80,160       5 years    1.75% annual      UF       03/10/2010    03/10/2015

BCHIUB0609

     51,928       10 years    2.50% annual      UF       06/02/2010    06/02/2020

BCHIUB0609

     26,165       10 years    2.50% annual      UF       06/03/2010    06/03/2020

BCHI-T0207

     82,091       11 years    2.70% annual      UF       07/02/2010    07/02/2021

BCHIUC0510

     41,574       5 years    2.20% annual      UF       08/23/2010    08/23/2015

BCHIUF0610

     40,897       10 years    2.70% annual      UF       08/23/2010    08/23/2020

BCHIUF0610

     8,022       10 years    2.70% annual      UF       10/07/2010    10/07/2020
                       

Total

     330,837                  
                       

Subordinated Bonds

 

Series

   MCh$     

Term

  

Interest rate

   Currency     

Issued date

  

Maturity date

UCHI-F1108

     91,672       25 years    4.50% annual      UF       04/14/2010    04/14/2035

UCHI-F1108

     22,198       25 years    4.50% annual      UF       04/15/2010    04/15/2035

UCHI-F1108

     1,563       25 years    4.50% annual      UF       04/16/2010    04/16/2035

UCHI-F1108

     92,497       25 years    4.50% annual      UF       05/11/2010    05/11/2035

UCHI-F1108

     53,604       25 years    4.50% annual      UF       05/13/2010    05/13/2035
                       

Total

     261,534                  
                       

 

F-72


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

22. Other Financial Obligations:

As of December 31, 2009 and 2010, other financial institutions are detailed as follows:

 

     2009
MCh$
     2010
MCh$
 

Public sector obligations

     46,410         67,602   

Other Chilean obligations

     129,740         111,558   
                 

Total

     176,150         179,160   
                 

 

F-73


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

23. Provisions:

 

  (a) As of December 31, 2009 and 2010, provisions are detailed as follows:

 

     2009
MCh$
     2010
MCh$
 

Provision for minimum dividends

     78,524         113,559   

Other provisions for contingencies

     10,083         1,126   
                 

Total

     88,607         114,685   
                 

 

  (b) The following table details the movements in provisions during the 2009 and 2010 periods:

 

     Minimum
dividends
MCh$
    Other
contingencies
MCh$
    Total
MCh$
 

Balances as of January 1, 2008

     70,874        8,216        79,090   

Provisions established

     109,516        10,714        120,230   

Provisions used

     (70,874     (6,899     (77,773

Provisions released

     —          (332     (332

Other movements

     —          —          —     
                        

Balances as of December 31, 2008

     109,516        11,699        121,215   
                        

Balances as of January 1, 2009

     109,516        11,699        121,215   

Provisions established

     78,524        5,045        83,569   

Provisions used

     (109,516     (6,661     (116,177

Provisions released

     —          —          —     

Other movements

     —          —          —     
                        

Balances as of December 31, 2009

     78,524        10,083        88,607   
                        

Balances as of January 1, 2010

     78,524        10,083        88,607   

Provisions established

     113,559        690        114,249   

Provisions used

     (78,524     (9,647     (88,171

Provisions released

     —          —          —     

Other movements

     —          —          —     
                        

Balances as of December 31, 2010

     113,559        1,126        114,685   
                        

 

F-74


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

24. Employee Benefits:

 

  (a) Provisions for personnel benefits and payroll:

 

     2009
MCh$
     2010
MCh$
 

Short-term personnel benefits

     18,079         25,920   

Vacation accrual

     17,168         18,774   

Pension plan – defined benefit plan (letter e)

     7,955         7,980   

Other benefits

     —           2,759   
                 

Total

     43,202         55,433   
                 

 

  (b) Pension plan – Defined benefit plan:

 

     2009
MCh$
     2010
MCh$
 

Current service cost

     507         843   

Interest cost on benefit obligation

     340         470   

Actuarial gains and losses

     1,215         (908
                 

Net benefit expense

     2,062         405   
                 

The net benefit expense is recognized under “Personnel Expenses” (Note 33).

The principal assumptions used in determining pension obligations for the Bank’s plan are shown below:

 

    

December 31,
2009

%

    

December 31,
2010

%

 

Discount rate

     4.91         5.91   

Annual salary increase

     2.00         2.00   

Payment probability

     93.00         93.00   

The most recent actuarial valuation of the present value of the benefit plan obligation was carried out at December 31, 2010.

 

F-75


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

24. Employee Benefits, continued:

 

  (b) Pension plan – Defined benefit plan, continued:

Changes in the present value of the defined benefit obligation are as follows:

 

     2008
MCh$
    2009
MCh$
    2010
MCh$
 

Opening defined benefit obligation, January 1,

     8,335        6,924        7,955   

Contributions by the employer

     1,221        507        843   

Benefits paid

     (2,269     (1,031     (379

Actuarial gains and losses

     (363     1,555        (439
                        

Closing defined benefit obligation

     6,924        7,955        7,980   
                        

 

  (c) The following table details the movements in provisions for incentive plans during the 2010 and 2009 periods:

 

     2009
MCh$
    2010
MCh$
 

Balances as of January 1,

     19,585        18,079   

Provisions established

     17,055        30,872   

Provisions used

     (16,665     (23,090

Provisions released

     (1,570     (501

Other movements

     (326     560   
                

Balances as of December 31,

     18,079        25,920   
                

 

  (d) The following table details the movements in provisions for vacation during the 2010 and 2009 periods:

 

     2009
MCh$
    2010
MCh$
 

Balances as of January 1,

     18,152        17,168   

Provisions established

     2,829        5,093   

Provisions used

     (2,907     (3,238

Provisions released

     (906     (249
                

Balances as of December 31,

     17,168        18,774   
                

 

F-76


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

24. Employee Benefits, continued:

 

  e) Provisions for share-based employee benefits:

As of December 31, 2009 and 2010, the Bank and its subsidiaries do not have a share compensation plan.

 

25. Other Liabilities:

As of December 31, 2009 and 2010, other liabilities are detailed as follows:

 

     2009
MCh$
     2010
MCh$
 

Documents intermediated

     95,440         112,924   

Accounts and notes payable (*)

     152,873         53,855   

Financial guarantees

     8,133         13,501   

VAT payable

     8,064         9,515   

Leasing deferred gains

     5,932         6,356   

Deferred income

     2,145         5,728   

Insurance payments

     —           4,357   

Pending transactions

     1,066         602   

Other

     6,739         17,387   
                 

Total

     280,392         224,225   
                 

 

(*) This item includes obligations that fall outside the Bank’s line of business such as withholding taxes, social security payments, insurance payable, balances from material purchases and provisions for expenses pending payment.

 

F-77


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

26. Contingencies and Commitments:

 

  (a) Commitments accounted for on off-balance-sheet accounts:

In order to satisfy its customers’ needs, the Bank entered into several irrevocable commitments and contingent obligations. Although these obligations are not recognized in the Statement of Financial Position, they entail credit risks and, therefore, form part of the Bank’s overall risk.

 

    

2009

MCh$

    

2010

MCh$

 

Off-balance-sheet accounts

     

Guarantees and surety bonds

     114,012         203,900   

Confirmed foreign letters of credit

     55,267         58,112   

Issued foreign letters of credit

     118,028         152,983   

Bank guarantees

     1,168,059         1,062,020   

Immediately available credit lines

     3,352,973         4,146,591   

Other commitment

     —           35,772   

Transactions on behalf of third parties

     

Collections

     474,078         497,370   

Third-party resources managed by the Bank:

     

Financial assets managed on behalf of third parties

     34,845         4,654   

Financial assets acquired on its own behalf

     8,692         22,852   
                 

Total

     5,325,954         6,184,254   
                 

 

  (b) Lawsuits and legal proceedings:

 

  (b.1) Legal contingencies within the ordinary course of business:

In the ordinary course of business, the Bank and its subsidiaries act as defendant or co-defendant in various litigation matters. Although there can be no assurances, the Bank’s management believes, based on information currently available, that the ultimate resolution of these legal proceedings are not likely to have a material adverse effect on its results of operations, financial condition, or liquidity. As of December 31, 2009 and 2010, the Bank has established provisions for this concept in the amount of MCh$667 and MCh$909, recorded within “Provisions” in the statement of financial position. The following table presents estimated date of completion of the respective litigation:

 

     As of December 31, 2010  
     2011
MCh$
     2012
MCh$
     2013
MCh$
     2014
MCh$
     2015
MCh$
     2016
MCh$
     Total
MCh$
 

Legal contingencies

     218         68         80         369         —           174         909   

 

F-78


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

26. Contingencies and Commitments, continued:

 

  (b.2)  Contingencies for significant lawsuits:

As of December 31, 2009 and 2010, the Bank is not party to any significant lawsuits that affect or may affect these consolidated financial statements.

 

  (c) Guarantees granted:

 

  i. In subsidiary Banchile Administradora General de Fondos S.A.:

In compliance with article 226 and subsequent articles of Law 18,045, Banchile Administradora General de Fondos S.A., has designated Banco de Chile as the representative of the beneficiaries of the guarantees it has established and in that character the Bank has issued bank guarantees totaling UF 2,390,000, maturing January 7, 2011.

 

  ii. In subsidiary Banchile Corredores de Bolsa S.A.:

For the purposes of ensuring correct and complete compliance with all of its obligations as broker-dealer entity, in conformity with the provisions of article 30 and subsequent articles of Law 18,045 on Securities Markets, the subsidiary established a guarantee in an insurance policy for UF 20,000, insured by Cía. de Seguros de Crédito Continental S.A., that matures April 22, 2012, whereby the Securities Exchange of the Santiago Stock Exchange was appointed as the subsidiary’s creditors representative.

The Banks has given the following guarantees in relation to this subsidiary’s business activities.

 

    

2009

MCh$

    

2010

MCh$

 

Guarantees:

     

Shares to secure short-sale transactions in:

     

Securities Exchange of the Santiago Stock Exchange

     27,071         3,426   

Securities Exchange of the Electronic Stock Exchange of Chile

     49,639         73,261   

Money Market a Pershing Division of Pershing LLC

     62         57   

Bank guarantees

     —           226   
                 

Total

     76,772         76,970   
                 

In conformity with the provisions of internal stock market regulations, and for the purpose of securing the broker’s correct performance, the company established a pledge on its share of the Santiago Stock Exchange in favor of that institution, as recorded in Public Deed on September 13, 1990, signed before Santiago public notary Mr. Raúl Perry Pefaur, and on its share in the Electronic Stock Exchange of Chile in favor of that institution, as recorded in a contract entered into by both parties on May 16, 1990.

 

F-79


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

27. Equity:

 

  i. Authorized, subscribed and paid shares:

As of December 31, 2010, the paid-in capital of Banco de Chile is represented by 82,551,699,423 registered shares (82,551,699,423 in 2009), with no par value, subscribed and fully paid, distributed in 73,834,890,472 ordinary shares and 8,716,808,951 ordinary “Banco de Chile-S” series shares.

 

   

On March 26, 2009, the Extraordinary Shareholders’ Meeting agreed to increase its capital through the capitalization of 30% of its 2008 net income. On March 30, 2009, the Bank informed its decision for the payment of total earnings in cash. Therefore, the total capitalization amounted Ch$52,261 million (historical) through issuance and distribution of 1,671,803,439 shares.

 

   

The following table shows the shares movements from December 31, 2008 to December 31, 2010:

 

    

Ordinary

shares

    

Ordinary S

Series shares

     Total shares  

December 31, 2008

     72,436,034,844         8,443,861,140         80,879,895,984   

Capitalizations of retained earnings

     1,398,855,628         272,947,811         1,671,803,439   
                          

December 31, 2009

     73,834,890,472         8,716,808,951         82,551,699,423   

Capitalizations of retained earnings

     —           —           —     
                          

December 31, 2010

     73,834,890,472         8,716,808,951         82,551,699,423   
                          

 

   

The number of authorized shares is the same as for issued shares.

 

   

As of December 31, 2010 the shareholder composition was as follows:

 

Corporate Name or Shareholder’s Name

   Shares      % of
Equity
Holding
 

Sociedad Administradora de la Obligación Subordinada SAOS S.A.

     28,593,701,789         34.64   

LQ Inversiones Financieras S.A.

     26,993,155,828         32.70   

Sociedad Matriz del Banco de Chile S.A. SM-Chile S.A.

     12,138,525,385         14.70   

Other minority shareholders

     14,826,316,421         17.96   
                 

Total

     82,551,699,423         100.00   
                 

 

F-80


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

27. Equity, continued:

 

  ii. Approval and payment of dividends:

In Ordinary Shareholders’ Meeting held on March 25, 2010 the Bank’s shareholders agreed to distribute and pay dividend N° 198 amounting to Ch$3.496813 per common share of Banco de Chile, with charge to net income for the year ended December 31, 2009.

The following dividends were declared and paid by the Bank for the year ended as of December 31, 2009 and 2010:

 

     2008    2009    2010
     MCh$    MCh$    MCh$

Dividends on ordinary shares:

   264,463    220,164    288,669

Dividends per ordinary share

   Ch$3.27    Ch$2.72    Ch$3.51

 

  iii. Provision for minimum dividends:

Chilean Corporations Law mandates a minimum distribution of 30% of distributable income. Accordingly, the Bank recorded a liability under the line item “Provisions” for an amount of MCh$113,559 (MCh$78,524 in December 31, 2009) against “Retained earnings”.

 

  iv. Other comprehensive income:

The cumulative translation adjustment is generated from the Bank’s translation of its investments in foreign companies, as it records the effects of foreign currency translation for these items in equity.

In accordance with Note 2 (n), the fair market value adjustment for available-for-sale instruments is generated by fluctuations in the fair value of that portfolio, with a charge or credit to equity, net of deferred taxes.

 

  v. Earnings per share:

Earnings per share is calculated by dividing the net profit for the year attributable to the ordinary equity holders of the Bank by the weighted average number of ordinary shares outstanding during the year.

 

F-81


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

27. Equity, continued:

 

  v. Earnings per share, continued

 

The following table shows the income and share data used in the calculation of EPS:

 

     As of December 31,  
     2009      2010  

Basic earnings per share:

     

Net profits attributable to ordinary equity holders of the Bank

     261,744         417,615   

Weighted average number of ordinary shares

     82,185,276,752         82,551,699,423   

Dividends per shares

     3.18         5.06   

Diluted earnings per share:

     

Net profits attributable to ordinary equity holders of the Bank

     261,744         417,615   

Weighted average number of ordinary shares

     82,185,276,752         82,551,699,423   

Assumed conversion of convertible debt

     —           —     

Adjusted number of shares

     82,185,276,752         82,551,699,423   

Diluted earnings per share (in pesos)

     3.18         5.06   

During the periods presented the Bank did not have any instruments that could lead to a dilution of its ordinary shares.

There have been no transactions involving ordinary shares or potential ordinary shares between the reporting date and the date of the completion of these financial statements.

 

28. Interest Revenue and Expenses:

 

  (a) As of each year end, interest revenue is detailed as follows:

 

     2008
MCh$
    2009
MCh$
    2010
MCh$
 

Commercial loans

     900,233        422,813        488,378   

Consumer loans

     374,371        373,369        370,710   

Residential mortgage loans

     300,529        56,682        186,209   

Financial investments

     33,452        35,479        43,608   

Repurchase agreements

     32,340        8,482        8,133   

Loans and advances to banks

     15,343        5,477        7,205   

Gain (loss) from accounting hedges

     (307     (2,085     (12,607

Other interest revenue

     3,389        190        367   
                        

Total

     1,659,350        900,407        1,092,003   
                        

 

F-82


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

28. Interest Revenue and Expenses, continued:

 

  (b) As of each year end, interest expenses are detailed as follows:

 

     2008
MCh$
    2009
MCh$
    2010
MCh$
 

Saving accounts and time deposits

     604,086        159,822        187,210   

Debt issued

     218,567        32,913        109,753   

Borrowings from financial institutions

     4,318        2,504        18,822   

Demand deposits

     442        318        3,439   

Other financial obligations

     23,951        22,127        2,935   

Repurchase agreements

     28,474        6,360        2,007   

Gain (loss) from accounting hedges

     (2,190     (485     —     

Other interest expenses

     7,615        (676     340   
                        

Total

     885,263        222,883        324,506   
                        

 

29. Income and Expenses from Fees and Commissions:

The income and expenses for fees and commissions shown in the Consolidated Statement of Comprehensive Income refers to the following items:

 

604,086 604,086 604,086
     2008
MCh$
    2009
MCh$
    2010
MCh$
 

Income from fees and commissions

      

Card services

     63,108        67,405        76,487   

Investments in mutual funds and other

     41,131        45,246        61,476   

Collections and payments

     50,492        52,620        51,371   

Trading and securities management

     20,140        26,541        38,724   

Lines of credit and overdrafts

     32,207        27,627        26,124   

Insurance brokerage

     18,210        18,845        22,909   

Portfolio management

     16,644        12,452        16,401   

Guarantees and letters of credit

     9,109        12,858        15,187   

Financial advisory services

     6,773        7,860        4,800   

Other fees earned

     18,077        24,555        28,740   
                        

Total income from fees and commissions

     275,891        296,009        342,219   
                        

Expenses from fees and commissions

      

Credit card transactions

     (26,502     (27,742     (29,570

Fees for collections and payments

     (7,107     (6,302     (6,507

Sale of mutual fund units

     (2,377     (2,958     (3,571

Fees for securities transactions

     (1,138     (2,628     (3,532

Other fees

     (4,406     (4,524     (6,777
                        

Total expenses from fees and commissions

     (41,530     (44,154     (49,957
                        

 

F-83


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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

30. Net Financial Operating Income:

 

The gain (losses) from trading and brokerage activities is detailed as follows:

 

     2008     2009     2010  
     MCh$     MCh$     MCh$  

Financial assets held-for-trading

     42,323        17,903        21,307   

Sale of available-for-sale instruments

     (173     19,627        19,178   

Net loss of other transactions

     113        743        485   

Derivative instruments

     342,573        (176,452     (23,678
                        

Total

     384,836        (138,179     17,292   
                        

 

31. Foreign Exchange Transaction, net:

Net foreign exchange transactions are detailed as follows:

 

     2008     2009     2010  
     MCh$     MCh$     MCh$  

Translation difference, net

     (355,387     233,620        69,538   

Indexed foreign currency

     2,375        (12,621     (5,776
                        

Total

     (353,012     220,999        63,762   
                        

 

F-84


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

32. Provisions for Loan Losses:

The movement during 2008, 2009 and 2010 is the following:

 

           Loans to customers as of December 31, 2008                    
     Loans and
advance to banks
    Commercial
loans
    Mortgage
loans
    Consumer
loans
    Total     Financial
guarantees
    Total  

Provisions established:

              

Individual provisions

     (311     (66,271     —          —          (66,271     (1,146     (67,728

Group provisions

     —          (6,964     (7,659     (106,970     (121,593     —          (121,593
                                                        

Provisions established, net

     (311     (73,235     (7,659     (106,970     (187,864     (1,146     (189,321
                                                        

Provisions released:

              

Individual provisions

     —          242        —          —          242        —          242   

Group provisions

     —          8        24        —          32        25        57   
                                                        

Provisions released, net

     —          250        24        —          274        25        299   
                                                        

Recovery of written-off assets

     —          16,653        3,391        19,604        39,648        —          39,648   
                                                        

Provisions, net allowances for credit risk

     (311     (56,332     (4,244     (87,366     (147,942     (1,121     (149,374
                                                        

 

F-85


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

32. Provisions for Loan Losses, continued:

 

           Loans to customers as of December 31, 2009                    
     Loans and
advance to
banks
    Commercial
loans
    Mortgage
loans
    Consumer
loans
    Total     Financial
Guarantees
    Total  

Provisions established:

              

Individual provisions

     (861     (101,609     —          —          (101,609     (2,157     (104,627

Group provisions

     —          (59,397     (2,712     (106,587     (168,696     (399     (169,095
                                                        

Provisions established, net

     (861     (161,006     (2,712     (106,587     (270,305     (2,556     (273,722
                                                        

Provisions released:

              

Individual provisions

     —          —          —          —          —          3,979        3,979   

Group provisions

     —          1,519        —          —          1,519        —          1,519   
                                                        

Provisions released, net

     —          1,519        —          —          1,519        3,979        5,498   
                                                        

Recovery of written-off assets

     —          23,994        2,653        232        26,879        —          26,879   
                                                        

Provisions, net allowances for credit risk

     (861     (135,493     (59     (106,355     (241,907     1,423        (241,345
                                                        

 

F-86


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

32. Provisions for Loan Losses, continued:

 

            Loans to customers as of December 31, 2010                    
     Loans and
advance to banks
     Commercial
loans
    Mortgage
loans
    Consumer
loans
    Total     Financial
guarantees
    Total  

Provisions established:

               

Individual provisions

     —           (36,304     —          —          (36,304     (5,217     (41,521

Group provisions

     —           (34,575     (3,750     (112,901     (151,226     (151     (151,377
                                                         

Provisions established, net

     —           (70,879     (3,750     (112,901     (187,530     (5,368     (192,898
                                                         

Provisions released:

               

Individual provisions

     567         934        —          —          934        —          1,501   

Group provisions

     —           1,577        —          —          1,577        —          1,577   
                                                         

Provisions released, net

     567         2,511        —          —          2,511        —          3,078   
                                                         

Recovery of written-off assets

     —           11,173        1,387        19,609        32,169        —          32,169   
                                                         

Provisions, net allowances for credit risk

     567         (57,195     (2,363     (93,292     (152,850     (5,368     (157,651
                                                         

 

F-87


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

33. Personnel Expenses:

Personnel expenses in 2009 and 2010 are detailed as follows:

 

     2008      2009      2010  
     MCh$      MCh$      MCh$  

Remuneration

     152,467         159,247         157,839   

Bonuses

     70,053         50,734         69,203   

Lunch and health benefits

     16,316         17,613         17,817   

Staff severance indemnities

     42,654         10,921         7,140   

Trading expenses

     1,886         1,251         1,380   

Other personnel expenses

     22,179         17,016         19,358   
                          

Total

     305,555         256,782         272,737   
                          

 

34. Administrative Expenses:

As of December 31, 2009 and 2010, administrative expenses are detailed as follows:

 

     2008      2009      2010  
     MCh$      MCh$      MCh$  

General administrative expenses

     133,121         127,710         136,580   

Expenses for outsourced services

     12,332         20,695         26,870   

Board of Director’s expenses

     2,749         2,485         2,358   

Marketing expenses

     26,447         17,943         23,182   

Taxes, payroll taxes and contributions

     8,905         8,165         8,679   
                          

Total

     183,554         176,998         197,669   
                          

 

F-88


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

35. Other Operating Income:

During 2009 and 2010, the Bank and its subsidiaries presented the following under other operating income:

 

     2008
MCh$
     2009
MCh$
     2010
MCh$
 

Income for assets received in lieu of payment

     7,570         5,212         6,440   

Rental income

     4,262         5,088         4,080   

Recovery from external branches

     1,188         1,152         2,656   

Expenses recovery

     1,066         1,141         2,133   

Foreign advisory services

     2,501         2,781         2,130   

Release of provisions for contingencies

     332         —           294   

Other

     14,018         6,816         5,851   
                          

Total

     30,937         22,190         23,584   
                          

 

36. Other Operating Expenses:

During 2009 and 2010, the Bank and its subsidiaries incurred the following other operating expenses:

 

     2008
MCh$
     2009
MCh$
     2010
MCh$
 

Cobranding travel club and global pass

     9,164         4,740         13,013   

Write-offs for operating risks

     4,307         3,753         10,400   

Card administration

     3,958         2,232         2,584   

Operational expenses and writes-off leasing

     —           303         2,254   

Provision for other assets

     5,047         1,039         1,704   

Provisions for contingencies

     10,714         5,043         689   

Other

     2,122         4,412         7,169   
                          

Total

     35,312         21,522         37,813   
                          

 

F-89


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

37. Related Party Transactions:

The disclosures for related party transactions follow the rules set out in IAS 24.

Article 89 of the Corporations Law, which applies to Chilean banks, indicates that any transaction with a related party must take place under arm’s length conditions similar to those prevailing in the market.

Moreover, Article 84 of the General Banking Law establishes limits on loans granted to related parties and prohibits the granting of loans to the Bank’s directors, managers and general representatives.

The Bank did not enter into any transactions with his parent company, LQ Inversiones Financieras S.A., nor with the group’s ultimate parent, Quiñenco S.A.

 

  (a) Loans to related parties:

The following table details loans and accounts receivable, contingent loans and assets related to trading and investment securities, corresponding to related entities.

 

     Production companies (*)     Investment companies (*)     Individuals (*)     Total  
     2009
MCh$
    2010
MCh$
    2009
MCh$
    2010
MCh$
    2009
MCh$
    2010
MCh$
    2009
MCh$
    2010
MCh$
 

Loans and accounts receivable

                

Commercial loans

     224,746        111,140        34,492        65,839        614        567        259,852        177,546   

Residential mortgage loans

     —          —          —          —          8,315        9,366        8,315        9,366   

Consumer loans

     —          —          —          —          2,167        2,475        2,167        2,475   
                                                                

Gross loans

     224,746        111,140        34,492        65,839        11,096        12,408        270,334        189,387   

Provision for loan losses

     (751     (573     (215     (410     (45     (59     (1,011     (1,042
                                                                

Net loans

     223,995        110,567        34,277        65,429        11,051        12,349        269,323        188,345   

Off balance sheet accounts

                

Guarantees

     10,937        15,745        —          58        —          —          10,937        15,803   

Letters of credits

     3,819        —          —          63        —          —          3,819        63   

Banks guarantees

     22,374        11,730        —          118        —          —          22,374        11,848   

Immediately available credit lines

     59,440        11,840        1,163        638        4,857        2,705        65,460        15,183   
                                                                

Total off balance sheet account

     96,570        39,315        1,163        877        4,857        2,705        102,590        42,897   

Financial guarantees

     84        102        —          1        —          —          84        103   
                                                                

Amount covered by collateral

                

Mortgage

     82,720        28,244        3,679        231        11,685        10,053        98,084        38,528   

Warrant

     —          —          —          —          —          —          —          —     

Pledge

     —          —          —          —          —          —          —          —     

Other

     2,321        2,092        14,505        21,885        —          10        16,826        23,987   
                                                                

Total collateral

     85,041        30,336        18,184        22,116        11,685        10,063        114,910        62,515   
                                                                

Acquired instruments

                

For trading purposes

     —          —          —          —          —          —          —          —     

For investment purposes(*)

     15,200        2,333        —          —          —          —          15,200        2,333   
                                                                

Total acquired instruments

     15,200        2,333        —          —          —          —          15,200        2,333   
                                                                

 

(*) The Bank has several business relationships with related parties. Transactions with such parties are made in the ordinary course of business and on substantially the same terms, including interest rates, as those prevailing at the time for comparable transactions with other parties. These transactions also did not involve more than the normal risk of collectability or present other unfavorable features. The outstanding balance and year end are unsecured.

 

F-90


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

37. Related Party Transactions, continued:

 

  (a) Loans to related parties, continued:

 

  * Production companies are legal entities which comply with the following conditions:

 

  a) they engage in productive activities and generate a separable flow of income

 

  b) less than 50% of their assets are trading securities or investments

 

  * Investment companies include those legal entities that do not comply with the conditions for production companies and are profit-oriented.

 

  * Individuals include key members of the management, who directly or indirectly posses the authority and responsibility of planning, administrating and controlling the activities of the organization, including directors. This category also includes their family members who are expected to have an influence or to be influenced by such individuals in their interactions with the organization.

 

  (b) Other assets and liabilities with related parties:

 

     2009
MCh$
     2010
MCh$
 

Assets

     

Cash and due from banks

     79,101         102,936   

Derivative instruments

     172,474         139,343   

Other assets

     2,656         2,349   
                 

Total

     254,231         244,628   
                 

Liabilities

     

Demand deposits

     50,971         62,816   

Saving accounts and time deposits

     231,171         282,487   

Derivative instruments

     128,535         124,293   

Borrowing from financial institutions

     124,319         153,678   

Other liabilities

     5,932         6,364   
                 

Total

     540,928         629,638   
                 

 

  (c) Income and expenses from related party transactions (*):

 

     2009      2010  
     Income      Expense      Income      Expense  
Type of income or expense recognized    MCh$      MCh$      MCh$      MCh$  

Interest and revenue expenses

     8,000         2,772         10,619         7,685   

Fees and commission income

     50,073         24,075         29,472         28,297   

Net financial operating income

     —           42,738         21,019         —     

Foreign currency translation

     133         8         —           —     

Provision for credit risk

     —           376         —           686   

Operating expenses

     —           59,324         —           53,378   

Other income and expenses

     768         628         770         626   
                                   

Total

     58,974         129,921         61,880         90,672   
                                   

 

(*) This detail does not constitute an Income Statement for related party transactions.

 

F-91


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

37. Related Party Transactions, continued:

 

  (d) Related party contracts:

There are not any contract entered during 2009 and 2010 which does not represent a customary transaction within the Bank’s line of business with general customers and which accounts for amounts greater than UF 1,000.

 

  (e) Payments to key management personnel:

 

     2009
MCh$
     2010
MCh$
 

Remunerations

     3,592         3,327   

Short-term benefits

     3,520         4,072   

Contract termination indemnity

     741         306   
                 

Total

     7,853         7,705   
                 

Composition of key personnel:

 

     N° of executives  

Position

     2009         2010   

CEO

     1         1   

CEOs of subsidiaries

     8         8   

Division Managers

     14         14   
                 

Total

     23         23   
                 

 

F-92


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

37. Related Party Transactions, continued:

 

  (f) Directors’ expenses and remunerations:

 

    Remunerations     Fees for attending
Board meetings
    Fees for attending
Committees and
Subsidiary Board meetings
(1)
    Consulting     Total  
Name of Directors   2008
MCh$
    2009
MCh$
    2010
MCh$
    2008
MCh$
    2009
MCh$
    2010
MCh$
    2008
MCh$
    2009
MCh$
    2010
MCh$
    2008
MCh$
    2009
MCh$
    2010
MCh$
    2008
MCh$
    2009
MCh$
    2010
MCh$
 

Pablo Granifo Lavín

    363 (*)      332 (*)      334        51        39        40        332        291        284        —          —          —          746        662        658   

Andrónico Luksic Craig

    147        140        137        9        13        5        —          —          —          —          —          —          156        153        142   

Jorge Awad Mehech

    49        47        45        25        21        19        74        63        85        —          —          —          148        131        149   

Felipe Joannon Vergara

    —          —          37        —          —          18        —          —          45        —          —          —          —          —          100   

Jacob Ergas Ergas

    49        47        46        19        17        18        47        53        52        —          —          —          115        117        116   

Jaime Estévez Valencia

    49        47        46        26        21        22        76        67        70        —          —          —          151        135        138   

Guillermo Luksic Craig

    49        47        46        13        6        12        —          —          —          —          —          —          62        53        58   

Rodrigo Manubens Moltedo

    49        47        46        25        19        22        66        55        49        —          —          —          140        121        117   

Gonzalo Menéndez Duque

    49        47        46        23        19        19        121        115        98        —          —          —          193        181        163   

Francisco Pérez Mackenna

    49        47        46        23        18        19        62        55        53        —          —          —          134        120        118   

Thomas Fürst Freiwirth

    49        47        46        21        19        17        56        49        36        —          —          —          126        115        99   

Juan Andrés Fontaine Talavera

    38        47        7        20        19        2        46        52        5        —          —          —          104        118        14   

Other subsidiary directors

    13        —          —          6        —          —          139        119        156        10        —          56        168        119        212   
                                                                                                                       

Total

    953        895        882        261        211        213        1,019        919        933        10        —          56        2,243        2,025        2,084   
                                                                                                                       

 

(1) Includes fees paid to members of the Advisory Committee of Banchile Corredores de Seguros Ltda. of MCh$22, MCh$19 and MCh$14 in 2008, 2009 and 2010.
(*) Includes a provision of MCh$216, MCh$192 and MCh$197 in 2008, 2009 and 2010 for an incentive subject to achieving the Bank’s forecasted earnings.

Fees paid for advisory services to the Board of Directors amount to MCh$ 227, MCh$233 and MCh$229 in 2008, 2009 and 2010.

Travel and other related expenses amount to MCh$ 279, MCh$227 and MCh$45 in 2008, 2009 and 2010.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

38. Fair Value of Financial Assets and Liabilities:

 

  (a) Financial instruments measured at fair value

The Bank and its subsidiaries determine the fair value of financial instruments by taking into account:

 

  1. The price of the financial instruments observed in the market, whether derived from observations or using modeling.

 

  2. The credit risk presented by the issuer of a debt instrument.

 

  3. The liquidity conditions and depth of the respective markets.

 

  4. Whether the position is an asset or liability to the Bank (in the case of derivatives, if the future cash flow is received or paid).

Based on an analysis of these factors, the Bank classifies the financial instruments in its portfolio into one of three levels:

Level 1:

   Observable prices in active markets for the specific type of instrument or transaction to be measured.

Level 2:

   Valuation techniques based on observable factors. This category includes instruments valued using: Quoted prices for similar instruments, either in active or less active markets. Other valuation techniques when all significant inputs are directly or indirectly observable based on market data.

Level 3:

   Valuation techniques that use significant unobservable factors. This category includes all instruments where the valuation technique includes factors that are not based on observable data and the unobservable factors can have a significant effect on the valuation of the instrument. This category contains instruments that are valued based on quoted prices for similar instruments that require adjustments or significant unobservable assumptions to reflect the differences between them.

Valuation of Financial Instruments

The Bank’s accounting policy for measuring fair value is discussed in Note 2(e).

The Bank has established a control framework for measuring fair values. This framework includes a Product Control Function, which is independent from key management and reports directly to the Financial Control Manager. The product control area is generally responsible for independently verifying the results of trading and investment transactions as well as all fair value measurements. These controls include: verifying factors to determine observable prices and valuation models used; a review and approval process for new models and changes to models affecting the product control (result) and the Bank’s Market Risk.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

38. Fair Value of Financial Assets and Liabilities, continued:

 

Derivatives

With the exception of currency futures, for which prices are directly observable on active market and, therefore, are classified as Level 1, the Bank classifies derivative instruments as Level 2.

Within Level 2, valuations are performed using simple net present value calculations for all instruments without options. Options are valued using well-known, widely accepted valuation models.

The most frequently applied valuation techniques include forward pricing and swap models using present value calculations. The models incorporate various inputs, including the credit quality of counterparties, foreign exchange rates and interest rate curves.

Investments in Financial Instruments

Debt instruments are valued using the internal rate of return, used to discount all cash flows of the respective instrument. The valuation calculations for debt instruments built into the Bank’s systems are those used by the Santiago Stock Exchange or Bloomberg, as appropriate.

Part of the portfolio of available-for-sale financial instruments, which are instruments that are not actively quoted, is valued using valuation techniques for which there are no relevant observable data from active markets and, therefore, they are classified as Level 3. These assets are valued based on the prices of assets with similar characteristics, taking into account the market, currency, type of instrument, liquidity, duration, issuer risk and cash flow structure, among other factors.

Valuation Techniques:

The Bank in accordance with what management believes to be best practices in the industry uses different techniques to establish the fair value of financial instruments, depending on several factors such as market activeness, liquidity and credit risk.

The base of the valuation technique is the Present Value mathematics (PV) using the appropriate discount factors and cash flows. Those instruments with options-characteristics are valued according to widely-accepted models such as Black-Scholes-Merton. For more complex or unique instruments, more sophisticated modeling techniques, assumptions and parameters are required, including correlation, prepayment speeds, default rates and loss severity. Also, the Bank, compares this fair value valuation against independent provides, and a set of limits in each market factor.

The used valuation techniques require multiple parameters as inputs. The availability of these parameters depends on the activity and liquidity level of the markets. For financial instruments traded in active and liquid markets, market quotes are used. For less liquid and active markets, market data inputs is not quoted, like in an active market, indicative broker quotes and consensus pricing information is used. In both cases, Treasury is responsible for setting the valuation parameters.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

38. Fair Value of Financial Assets and Liabilities, continued:

 

Valuation Techniques, continued:

Finally, it is necessary to verify the determined fair value in a quantitative way. To accomplish this task, the Product Control Unit Area (PCU), has settled an Independent Price Verification Process (IPVP) to compare, on a regular basis, differences in Mark-to-Market between Treasury and Independent data providers. These differences are reported by market factor and measured against limits. In case that one limit is breached, the responsible Treasury area is required to establish the support for these inputs or take a corrective action plan.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

38. Fair Value of Financial Assets and Liabilities, continued:

 

The following tables detail the classification, by level, of financial instruments measured at fair value.

 

    Level 1     Level 2     Level 3     Total  
    2009     2010     2009     2010     2009     2010     2009     2010  
    MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$  

Financial Assets

               

Financial assets held-for-trading

               

From the Chilean Government and Central Bank

    146,278        150,571        15,816        6,621        —          —          162,094        157,192   

Other instruments issued in Chile

    1,212        1,635        185,552        119,198        2,732        1,740        189,496        122,573   

Instruments issued abroad

    —          —          —          —          —          —          —          —     
                                                               

Subtotal

    147,490        152,206        201,368        125,819        2,732        1,740        351,590        279,765   
                                                               

Derivative contracts for trading purposes

               

Forwards

    —          —          193,729        118,705        —          —          193,729        118,705   

Swaps

    —          —          370,417        367,390        —          —          370,417        367,390   

Call Options

    —          —          300        133        —          —          300        133   

Put Options

    —          —          65        —          —          —          65        —     

Futures

    81        —          —          —          —          —          81        —     
                                                               

Subtotal

    81        —          564,511        486,228        —          —          564,592        486,228   
                                                               

Hedge derivative contracts

               

Swaps

    —          —          1,394        2,126        —          —          1,394        2,126   
                                                               

Subtotal

    —          —          1,394        2,126        —          —          1,394        2,126   
                                                               

Financial assets available-for-sale

               

From the Chilean Government and Central Bank

    —          —          448,289        371,487        —          —          448,289        371,487   

Other instruments issued in Chile

    —          —          488,764        471,066        128,285        113,798        617,049        584,864   

Instruments issued abroad

    —          —          —          —          202,436        200,754        202,436        200,754   
                                                               

Subtotal

    —          —          937,053        842,553        330,721        314,552        1,267,774        1,157,105   
                                                               

Other assets:

               

Mutual fund investments

    80,237        28,787        —          —          —          —          80,237        28,787   
                                                               

Subtotal

    80,237        28,787        —          —          —          —          80,237        28,787   
                                                               

Total

    227,808        180,993        1,704,326        1,456,726        333,453        316,292        2,265,587        1,954,011   
                                                               

Financial Liabilities

               

Derivative contracts for trading purposes

               

Forwards

    —          —          179,160        191,280        —          —          179,160        191,280   

Swaps

    —          —          352,112        325,148        —          —          352,112        325,148   

Call Options

    —          —          244        109        —          —          244        109   

Put Options

    —          —          376        429        —          —          376        429   

Futures

    —          —          183        —          —          —          183        —     

Other

    —          —          21        21        —          —          21        21   
                                                               

Subtotal

    —          —          532,096        516,987        —          —          532,096        516,987   
                                                               

Hedge derivative contracts

      —                 

Forwards

    —          —          —          —          —          —          —          —     

Swaps

    —          —          6,144        11,458        —          —          6,144        11,458   
                                                               

Subtotal

    —          —          6,144        11,458        —          —          6,144        11,458   
                                                               

Total

    —          —          538,240        528,445        —          —          538,240        528,445   
                                                               

During the years ended December 31, 2009 and 2010 there were no transfers between level 1 and 2 and nor between level 2 and 3.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

38. Fair Value of Financial Assets and Liabilities, continued:

 

  (b) Level 3 Reconciliation:

 

The following tables show the reconciliation between the beginning and ending balances of instruments classified as Level 3, whose fair value is reflected in the financial statements.

 

     As of December 31, 2009  
     Balance as of
January 1, 2009
     Gain (loss)
Recognized in
Income
    Gain (loss)
Recognized in
Equity
    Purchases      Sales     Agreements     Balance as of
December 31,
2009
 
     MCh$      MCh$     MCh$     MCh$      MCh$     MCh$     MCh$  

Financial Assets

                

Financial assets held-for-trading

                

Other instruments issued in Chile

     17,372         1,213        —          110,819         (126,672     —          2,732   

Instruments issued abroad

     —           —          —          —           —          —          —     
                                                          

Total

     17,372         1,213        —          110,819         (126,672     —          2,732   
                                                          

Financial assets available-for-sale

                

Other instruments issued in Chile

     112,835         (4,429     6,207        172,957         (157,121     (2,164     128,285   

Instruments issued abroad

     102,886         (5,809     21,417        94,555         (10,613     —          202,436   
                                                          

Total

     215,721         (10,238     27,624        267,512         (167,734     (2,164     330,721   
                                                          
     As of December 31, 2010  
     Balance as of
January 1, 2010
     Gain (loss)
Recognized in
Income
    Gain (loss)
Recognized in
Equity
    Purchases      Sales     Agreements     Balance as of
December 31,
2010
 
     MCh$      MCh$     MCh$     MCh$      MCh$     MCh$     MCh$  

Financial Assets

                

Financial assets held-for-trading

                

Other instruments issued in Chile

     2,732         251        —          62,837         (64,080     —          1,740   

Instruments issued abroad

     —           —          —          —           —          —          —     
                                                          

Total

     2,732         251        —          62,837         (64,080     —          1,740   
                                                          

Financial assets available-for-sale

                

Other instruments issued in Chile

     128,285         165        (1,518     104,442         (116,277     (1,300     113,798   

Instruments issued abroad

     202,436         869        (256     77,034         (79,330     —          200,754   
                                                          

Total

     330,721         1,034        (1,774     181,476         (195,607     (1,300     314,552   
                                                          

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

38. Fair Value of Financial Assets and Liabilities, continued:

 

  (c) Sensitivity of instruments classified as Level 3 to changes in key assumptions of models.

 

The following tables show the sensitivity, by type of instrument, of instruments classified as Level 3 to changes in key valuation assumptions:

 

     As of December 31, 2009      As of December 31, 2010  
     Level 3      Sensitivity to changes
in key assumptions of
models
     Level 3      Sensitivity to changes
in key assumptions of
models
 
     MCh$      MCh$      MCh$      MCh$  

Financial Assets

           

Financial assets held-for-trading

           

Other instruments issued in Chile

     2,732         3         1,740         5   
                                   

Total

     2,732         3         1,740         5   
                                   

Financial assets available-for-sale

           

Other instruments issued in Chile

     128,285         1,492         113,798         847   

Instruments issued abroad

     202,436         2,249         200,754         3,012   
                                   

Total

     330,721         3,741         314,552         3,859   
                                   

In order to determine the sensitivity of the level 3 fair value measurements to changes in the relevant input factors the Bank has carried out an alternative fair value calculation, from the rates provided by Treasury, shifting the unobservable valuation parameters. The reasonability of these shifts has been assured by using data from specialized external data providers. The instruments classified as level 3 fair value measurements as of December 31, 2009 and 2010 are fixed income securities and notes. The key valuation parameters used in the valuation of these instruments are interest rates and the specific credit risk spreads considering the market environment and the counterparty’s specific risk

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

38. Fair Value of Financial Assets and Liabilities, continued:

 

  (d) Other assets and liabilities

 

The following table summarizes the fair values of the Bank’s main financial assets and liabilities that are not recorded at fair value in the Statement of Financial Position. The values shown in this note do not attempt to estimate the value of the Bank’s income-generating assets, nor forecast their future behavior. The estimated fair value is as follows:

 

     Book Value      Fair Value  
     2009      2010      2009      2010  
     MCh$      MCh$      MCh$      MCh$  

Assets

           

Cash and due from banks

     727,553         772,329         727,553         772,329   

Transactions in the course of collection

     526,051         429,756         526,051         429,756   

Receivables from repurchase agreements and security borrowing

     79,401         82,787         79,401         82,787   
                                   

Subtotal

     1,333,005         1,284,872         1,333,005         1,284,872   
                                   

Loans and advances to banks

           

Domestic banks

     123,796         13,305         123,796         13,305   

Foreign banks

     325,185         336,283         325,185         336,283   
                                   

Subtotal

     448,981         349,588         448,981         349,588   
                                   

Loans to customers, net

           

Commercial loans

     8,531,566         9,079,424         8,508,843         9,223,767   

Residential mortgage loans

     2,513,107         2,912,504         2,645,875         3,048,071   

Consumer loans

     1,834,482         2,038,040         1,815,153         2,107,152   
                                   

Subtotal

     12,879,155         14,029,968         12,969,871         14,378,990   
                                   

Total

     14,661,141         15,664,428         14,751,857         16,013,450   
                                   

Liabilities

           

Current accounts and other demand deposits

     3,718,076         4,446,181         3,718,076         4,446,181   

Transactions in the course of payment

     325,056         208,750         325,056         208,750   

Payables from repurchase agreements and security lending

     308,028         81,755         308,028         81,755   

Saving accounts and time deposits

     7,427,481         7,697,968         7,412,045         7,653,446   

Borrowings from financial institutions

     1,368,226         1,281,372         1,359,636         1,280,759   

Other financial obligations

     176,150         179,160         176,150         179,160   
                                   

Subtotal

     13,323,017         13,895,186         13,298,991         13,850,051   
                                   

Debt issued

           

Letters of credit for residential purposes

     169,996         133,709         168,721         142,877   

Letters of credit for general purposes

     95,585         65,159         94,868         69,627   

Bonds

     815,734         820,331         797,245         809,689   

Subordinated bonds

     506,683         744,966         549,959         1,020,584   
                                   

Subtotal

     1,587,998         1,764,165         1,610,793         2,042,777   
                                   

Total

     14,911,015         15,659,351         14,909,784         15,892,828   
                                   

The fair value of assets not presented at that value in the Statement of Financial Position is derived from estimated cash flows the Bank expects to receive, discounted using the relevant market interest rate for each type of transaction.

The fair value of liabilities without market quotes is based on discounted cash flows using the interest rate for similar maturity terms.

For financial assets and liabilities that have a short term maturity (less than three months) it is assumed that the carrying amounts approximate their fair value. This assumption is also applied to demand deposits and savings accounts without specific maturity.

The Bank did not incur any “day 1” profits or losses during the reporting period.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

39. Maturity of Assets and Liabilities:

 

The table below shows the classification of assets and liabilities as current and non-current as the balance sheet is presented in the order of liquidity without indicating this information.

 

     As of December 31, 2009  
     Less than 12
months
     Over 1 year      Total  
     MCh$      MCh$      MCh$  

Assets

        

Cash and due from banks

     727,553         —           727,553   

Transactions in the course of collection

     526,051         —           526,051   

Financial assets held-for-trading

     351,590         —           351,590   

Receivables from repurchase agreements and security borrowing

     79,401         —           79,401   

Derivative instruments

     256,290         309,696         565,986   

Loans and advance to banks (*)

     423,643         26,515         450,158   

Loans to customers (*)

     5,851,975         7,339,281         13,191,256   

Financial assets available-for-sale

     717,142         550,632         1,267,774   

Investment in other companies

     —           10,494         10,494   

Property and equipment

     —           205,847         205,847   

Investment properties

     —           17,840         17,840   

Intangible assets

     —           88,182         88,182   

Current tax assets

     —           —           —     

Deferred tax assets, net

     —           49,733         49,733   

Other assets

     170,345         112,527         282,872   
                          

Total assets

     9,103,990         8,710,747         17,814,737   
                          
     As of December 31, 2010  
     Less than 12
months
     Over 1 year      Total  
     MCh$      MCh$      MCh$  

Assets

        

Cash and due from banks

     772,329         —           772,329   

Transactions in the course of collection

     429,756         —           429,756   

Financial assets held-for-trading

     279,765         —           279,765   

Receivables from repurchase agreements and security borrowing

     82,787         —           82,787   

Derivative instruments

     210,661         277,693         488,354   

Loans and advance to banks (*)

     250,401         99,797         350,198   

Loans to customers (*)

     6,407,405         7,970,590         14,377,995   

Financial assets available-for-sale

     638,460         518,645         1,157,105   

Investment in other companies

     —           11,072         11,072   

Property and equipment

     —           205,539         205,539   

Investment properties

     —           17,459         17,459   

Intangible assets

     —           87,276         87,276   

Current tax assets

     —           3,363         3,363   

Deferred tax assets, net

     —           57,678         57,678   

Other assets

     132,235         172,190         304,425   
                          

Total assets

     9,203,799         9,421,302         18,625,101   
                          

 

(*) The respective provisions, which amount MCh$312,101 and MCh$348,027 in 2009 and 2010 for loans to customers and MCh$1,177 and MCh$610 for loans and advances to bank, have not been deducted from these balances.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

39. Maturity of Assets and Liabilities, continued:

 

     As of December 31, 2009  
     Less than 12
months
     Over 1 year      Total  
     MCh$      MCh$      MCh$  

Liabilities

        

Current accounts and other demand deposits

     3,718,076         —           3,718,076   

Transactions in the course of payment

     325,056         —           325,056   

Payables from repurchase agreements and security lending

     308,028         —           308,028   

Saving accounts and time deposits

     7,230,085         197,396         7,427,481   

Derivative instruments

     278,602         259,638         538,240   

Borrowings from financial institutions

     1,226,426         141,800         1,368,226   

Debt issued

     368,058         1,219,940         1,587,998   

Other financial obligations

     144,337         31,813         176,150   

Current tax liabilities

     —           39,018         39,018   

Employee benefits

     —           43,202         43,202   

Provisions

     88,607         —           88,607   

Other liabilities

     95,440         184,952         280,392   
                          

Total liabilities

     13,782,715         2,117,759         15,900,474   
                          
     As of December 31, 2010  
     Less than 12
months
     Over 1 year      Total  
     MCh$      MCh$      MCh$  

Liabilities

        

Current accounts and other demand deposits

     4,446,181         —           4,446,181   

Transactions in the course of payment

     208,750         —           208,750   

Payables from repurchase agreements and security lending

     81,755         —           81,755   

Saving accounts and time deposits

     7,137,208         560,760         7,697,968   

Derivative instruments

     247,952         280,493         528,445   

Borrowings from financial institutions

     1,146,338         135,034         1,281,372   

Debt issued

     186,433         1,577,732         1,764,165   

Other financial obligations

     118,628         60,532         179,160   

Current tax liabilities

     —           —           —     

Employee benefits

     —           55,433         55,433   

Provisions

     114,685         —           114,685   

Other liabilities

     112,924         111,301         224,225   
                          

Total liabilities

     13,800,854         2,781,285         16,582,139   
                          

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management:

 

  (1) Introduction:

 

The Bank’s risk management is based on specialization, knowledge of the business and the experience of its teams, with professionals specifically dedicated to each different type of risks. Our policy is to maintain an integrated, forward looking approach to risk management, taking into account the current and forecasted economic environment and the risk/return ratio of all products for both the Bank and its subsidiaries.

Our credit policies and processes acknowledge the particularities of each market and segment, thus affording specialized treatment. The integrated information prepared for risk analyses is key to developing our strategic plan, the objectives which include: determining the desired risk level for each business line; aligning all strategies with the established risk level; communicating desired risk levels to the Bank’s commercial areas; developing models, processes and tools for evaluating, measuring and controlling risk throughout the different business lines and areas; informing the board of directors about risks and their evolution; proposing action plans to address important deviations in risk indicators and enforcing compliance of applicable standards and regulations.

 

  (a) Risk Management Structure

Credit and Market Risk Management takes place at different levels throughout the organization, structured in response to both the important role that risk plays and the diverse types of risks that exist.

The Bank segregates risk management into two divisions that directly report to the Chief Executive Officer: the Companies Credit Risk and Market Risk Division and the Individuals Credit Risk Division. These divisions are internally organized based on the Bank’s commercial structure and function independently. They complement the Operational Risk Area, which reports to the Operations and Technology Division.

The Companies Credit Risk and Market Risk Division is responsible for the quality of the Bank’s portfolio and giving impulses in order to optimize the risk/return ratio for all client segments, from small and medium enterprises to corporations, including Private Banking. This division is also responsible for managing the Bank’s financial and market risks. The Individuals Risk Division plays a similar role for all of the Individuals client segments, including Banco CrediChile’s portfolio. The Operational Risk Area monitors loss events stemming from operating, administrative or technical factors or fraud, verifies controls and proposes corrective measures.

 

F-103


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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (i) Board of Directors

 

Banco de Chile’s Board of Directors is continually informed of developments in the different risk areas through its Finance, Credit, Portfolio and Audit Committees, in which it reviews the status of credit and market risks. The Board of Directors participates actively in each of these risk areas, keeping abreast of the portfolio and helping to define strategies that impact portfolio quality.

 

  (ii) Finance, International and Financial Risk Committee

This committee meets monthly to review developments and the current status of financial positions and market, price and liquidity risk. It reviews estimated results from financial positions in order to measure the risk/return ratio of the Bank’s Treasury business, as well as the evolution of and forecasts regarding use of capital.

 

  (iii) Credit Committees

All loan proposals made to customers must be approved by the appropriate committee. As a general rule, this committee must include a minimum of three executives, one of which must have sufficient authority to approve the specific transaction. There are various levels of authority, differentiated by segment and applied based on exposure, risk rating, statements of uncollectability, loan charge-offs, etc. The highest of these committees is the Board of Directors’ Loan Committee, which reviews and approves the Bank’s main risk exposures. This committee is composed of at least three directors, the Chief Executive Officer and the Credit Risk Division Manager.

 

  (iv) Portfolio Committee

This committee reviews in detail any developments in key credit risk variables. It reviews indicators such as risk, default, impaired portfolio and portfolio expense indices, among others. This review includes aggregate information at portfolio level, detailed by industry sector, segment, business unit, credit rating, etc. This committee also conducts a detailed review of the Bank’s main debtors, either by exposure or impairment. This committee is composed of the Chairman of the Board of Directors, at least one director, the Chief Executive Officer and the Credit Risk Managers.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (v) Treasury

 

The Bank’s Treasury Division is responsible for managing price risks (interest rates, exchange rates and options volatility) for its Trading and Accrual Portfolios, based on limits approved by the Board of Directors. In addition, it is the sole body responsible for ensuring that the Bank maintains adequate liquidity levels in line with market conditions and the needs of its different business units.

 

  (vi) Operational Risk Committee

This committee periodically reviews the status of operational risks, analyzing reasons for losses and progress made on any corrective measures adopted. It is composed of the Chief Executive Officer, the Manager of the Operations and Technology Division, the Manager of the Financial Control and Management Division, the Controller and the Operational Risk Manager.

 

  (b) Internal Audit

Risk management processes throughout the Bank are continually audited by the Internal Audit Area, which analyzes the sufficiency of and compliance with risk management procedures, Internal Audit discusses the results of all evaluations with management and reports its findings and recommendations to the Board of Directors.

 

  (c) Measurement Methodology

In terms of Credit Risk, provision levels and portfolio expenses are the basic measurements used to determine the credit quality of our portfolio.

Each year, the Board of Directors is presented with the results of a sufficiency test for allowances for loan loss. This test shows whether the Bank’s existing level of allowances for loan loss, both for the individual and group portfolios, is sufficient, based on historic losses or impairment experienced by the portfolio. The Board of Directors must issue a formal opinion on its sufficiency.

Risk monitoring and control are performed primarily based on established limits. These limits reflect the Bank’s business and market strategy as well as the risk level it is willing to accept, with added emphasis on selected industry sectors.

The Bank’s Chief Executive Officer, on a daily basis, and the Finance, International and Market Risk Committee, on a monthly basis, receive a report detailing the evolution of the Bank’s price and liquidity risk, based on both internal and regulator-imposed metrics.

 

F-105


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (d) Mitigating Interest Rate Risk in the Accrual Portfolio using Derivatives

 

The Bank uses derivatives to manage exposure from changes in interest rates of loans and bonds in the available-for-sale portfolio.

The effectiveness of each hedge is evaluated each month by the Market Risk Control and Information area. When determined to be ineffective, a new hedge structure must be defined if the Bank wants to continue to mitigate the given risk using derivatives.

 

  (e) Use of Collateral

The Bank actively uses collateral to reduce its credit risks (see below for more details).

 

  (2) Credit Risk

Credit risk is the risk that we will incur a loss because our customers or counterparties do not comply with their contractual obligations.

This risk is managed using a global, unified and forward-looking strategy, which recognizes the current and projected economic environment of the markets and segments in which our different businesses are developing and grants appropriate credit treatment to each such market or segment by using risk limits that we are willing to accept from counterparties.

Managing credit risk is, therefore, inherent to our business and must be incorporated into each segment in which we do business: In this way, we may achieve an optimum balance between assumed risks and attained returns and properly allocate capital to each business line while complying with regulations and criteria defined by the Board of Directors, in order to ensure that the Bank has an appropriate capital base for potential losses that may arise from its credit exposure.

Counterparty limits are established by analyzing financial information, risk ratings, the nature of the exposure, documentation, guarantees, market conditions and the pertinent industry sector, among other factors. The process of monitoring credit quality also includes identifying in advance any possible changes in counterparty’s payment capacity, which enables us to evaluate the potential loss from these risks and take corrective actions.

 

F-106


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (a) Approval Process

 

Loan analysis and approval is conducted using a differentiated approach for each market segment, using three separate credit-risk models:

Automated Model: This model focuses on individuals from the mass-market segment (i.e., not business-related) and is based on the integral automation of processes, which consist of admission, approval, follow-up and recovery, using scoring and behavior-based approval systems.

The Bank has also developed a broad level of knowledge regarding selection of customers, with a significant capacity to discriminate between subjects of different credit bases. Using this model, we have developed separate segmented models for retail banking and Banco CrediChile. In the case of our Consumer Division (Banco CrediChile), there are further distinctions for employed customers, which are separated into the following five sub-segments: retired persons, employees in the public sector, employees in the private sector over 40 years of age, employees in the private sector under 40 years of age and self-employed.

In retail banking there are also sub-segments divided by activity and length of the customer’s relationship with the Bank.

Parametric Model: This model is applied to individuals and small and medium-sized companies in business. To analyze these segments, the Bank uses certain levels of automation and parameterization. Automation currently provides a fundamental pillar for the pre-approval process for small companies and support for potential evaluations of medium-sized companies.

Case-by-case Model: This model is used for the wholesale segment. It is based on individual expert evaluation on risk level, operation amounts and business complexity, among other variables.

 

  (b) Control and Follow-up

The ongoing control and follow-up of credit risk is the basis for proactive portfolio management and enables risk to be recognized opportunely, thus identifying business opportunities and detecting potential impairment before it occurs.

In the wholesale business segment, control and follow-up are realized through a combination of reviews. The most relevant are the following:

 

   

High-level structured portfolio reviews with respect to the impact of specific macroeconomic fluctuations in relevant sectors of activity, defining case-by-case actions plans.

 

   

Constant monitoring system in order to detect early on those customers that show potential risks, agreeing on specific action plans for these customers with the corresponding client servicing team.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (b) Control and Follow up, continued:

 

   

Payment arrears management, backed by predictive indicators of risk level, with follow-up and action plans in the case of our most important customers, plus management of differentiated strategies for early recovery.

 

   

Follow-up of the conditions, restrictions and covenants imposed by the credit committee to all operations requiring it due to their importance or complexity.

 

   

Control of the exposure as well as the sufficiency of guarantees granted in the form of shares, monitoring fluctuations and preparing action plans in the event of insufficient coverage.

 

   

Follow-up schemes of credit behavior variables and borrowers’ financial condition.

 

   

Risk segmentation strategies for collections processes and policies to better integrate loan approval and monitoring processes, aligned behind a single vision of customer credit fundamentals.

 

  (c) Derivative Instruments

The value of derivative financial instruments is always reflected in the Bank’s balance sheet. The risks derived from these instruments, determined using SBIF models, are controlled against lines of credit of the counterparty at the inception of each transaction.

 

  (d) Portfolio Concentration

Maximum credit risk exposure per counterparty without considering collateral or other credit enhancements as of December 31, 2009 and 2010 does not exceed 10% of the Bank’s effective equity.

 

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Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

The following tables show credit risk exposure per balance sheet item, including derivatives, detailed by both geographic region and industry sector as of December 31, 2009.

 

     Chile      United States      Brazil      Other      Total  
     MCh$      MCh$      MCh$      MCh$      MCh$  

Financial assets

              

Cash and due from banks

     478,576         222,709         —           26,268         727,553   
                                            

Financial assets held-for-trading

              

From the Chilean Government and Central Bank of Chile

     162,094         —           —           —           162,094   

Other instruments issued in Chile

     189,496         —           —           —           189,496   
                                            

Subtotal

     351,590         —           —           —           351,590   
                                            

Receivables from repurchase agreements and security borrowing

     79,401         —           —           —           79,401   
                                            

Derivative contracts for trading purposes

              

Forwards

     114,950         48,781         —           29,998         193,729   

Swaps

     178,048         165,129         —           27,240         370,417   

Call options

     300         —           —           —           300   

Put options

     65         —           —           —           65   

Futures

     —           —           —           81         81   
                                            

Subtotal

     293,363         213,910         —           57,319         564,592   
                                            

Hedge derivative contracts

              

Forwards

     1,077         —           —           —           1,077   

Swaps

     —           213         —           104         317   
                                            

Subtotal

     1,077         213         —           104         1,394   
                                            

Loans and advances to banks

              

Domestic banks

     123,796         —           —           —           123,796   

Foreign banks

     —           211         190,208         134,766         325,185   
                                            

Subtotal

     123,796         211         190,208         134,766         448,981   
                                            

Loans to customers (before allowances for loans losses)

              

Commercial loans

     8,355,043         226         191,177         174,730         8,721,176   

Residential mortgage loans

     2,527,006         —           —           —           2,527,006   

Consumer loans

     1,943,074         —           —           —           1,943,074   
                                            

Subtotal

     12,825,123         226         191,177         174,730         13,191,256   
                                            

Financial assets available-for-sale

              

From the Chilean Government and Central Bank of Chile

     448,289         —           —           —           448,289   

Other instruments issued in Chile

     617,049         —           —           —           617,049   

Instruments issued abroad

     126,693         36,426         18,753         20,564         202,436   
                                            

Subtotal

     1,192,031         36,426         18,753         20,564         1,267,774   
                                            

Financial assets held-to-maturity

     —           —           —           —           —     
                                            

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

    Financial
Services
    Government     Retail
(Individuals)
    Trade     Manufacturing     Mining    

Electricity,
Gas

and Water

    Agriculture
and
Livestock
    Forestry     Fishing    

Transportation

and Telecom

    Construction     Services     Other     Total  
    MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$     MCh$  

Financial assets

                             

Cash and due from banks

    451,473        127,166        —          —          —          —          —          —          —          —          —          —          148,914        —          727,553   
                                                                                                                       

Financial assets held-for-trading

                             

From the Chilean Government and Central Bank of Chile

    —          162,094        —          —          —          —          —          —          —          —          —          —          —          —          162,094   

Other instruments issued in Chile

    189,496        —          —          —          —          —          —          —          —          —          —          —          —          —          189,496   
                                                                                                                       

Subtotal

    189,496        162,094        —          —          —          —          —          —          —          —          —          —          —          —          351,590   
                                                                                                                       

Receivables from repurchase agreements and security borrowing

    3,844        —          —          36,463        4,710        7,600        23,272        831        —          15        2,260        19        387        —          79,401   
                                                                                                                       

Derivative contracts for trading purposes

                             

Forwards

    161,908        —          119        16,488        3,465        548        1,890        543        —          135        8,037        454        142        —          193,729   

Swaps

    318,270        —          —          3,761        1,449        479        28,037        302        —          2,446        15,405        268        —          —          370,417   

Call options

    —          —          —          15        245        —          —          2        —          2        36        —          —          —          300   

Put options

    —          —          —          64        1        —          —          —          —          —          —          —          —          —          65   

Futures

    —          —          —          —          —          —          —          —          —          —          —          81        —          —          81   
                                                                                                                       

Subtotal

    480,178        —          119        20,328        5,160        1,027        29,927        847        —          2,583        23,478        803        142        —          564,592   
                                                                                                                       

Hedge Derivative Contracts

                             

Forwards

    1,077        —          —          —          —          —          —          —          —          —          —          —          —          —          1,077   

Swaps

    317        —          —          —          —          —          —          —          —          —          —          —          —          —          317   
                                                                                                                       

Subtotal

    1,394        —          —          —          —          —          —          —          —          —          —          —          —          —          1,394   
                                                                                                                       

Loans and advances to banks

                             

Domestic banks

    13,796        110,000        —          —          —          —          —          —          —          —          —          —          —          —          123,796   

Foreign banks

    325,185        —          —          —          —          —          —          —          —          —          —          —          —          —          325,185   
                                                                                                                       

Subtotal

    338,981        110,000        —          —          —          —          —          —          —          —          —          —          —          —          448,981   
                                                                                                                       

Loans to customers

                             

Commercial loans (*)

    —          —          —          —          —          —          —          —          —          —          —          —          —          —          —     

Residential mortgage loans

    157,255        —          2,223,268        26,095        6,855        843        61        10,635        —          692        7,400        5,484        6,148        82,270        2,527,006   

Consumer loans

    79,036        —          1,762,546        17,157        5,332        558        7        14,552        —          491        5,858        3,336        2,702        51,499        1,943,074   

Financial assets available-for-sale

                             

From the Chilean Government and Central Bank of Chile

    —          448,289        —          —          —          —          —          —          —          —          —          —          —          —          448,289   

Other instruments issued in Chile

    554,558        —          —          —          5,928        —          27,776        —          —          —          10,505        2,727        13,443        2,112        617,049   

Instruments issued abroad

    79,617        26,568        —          —          49,638        4,910        36,935        —          —          —          —          —          —          4,768        202,436   
                                                                                                                       

Subtotal

    634,175        474,857        —          —          55,566        4,910        64,711        —          —          —          10,505        2,727        13,443        6,880        1,267,774   
                                                                                                                       

Financial assets held-to-maturity

    —          —          —          —          —          —          —          —          —          —          —          —          —          —          —     
                                                                                                                       

 

(*) See commercial loans by industry sector in Note 10 (e).

 

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Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

The following tables show credit risk exposure per balance sheet item, including derivatives, detailed by both geographic region and industry sector as of December 31, 2010:

 

     Chile      United
States
     Brazil      Other      Total  
     MCh$      MCh$      MCh$      MCh$      MCh$  

Financial assets

              

Cash and due from banks

     729,706         24,733         —           17,890         772,329   
                                            

Financial assets held-for-trading

              

From the Chilean Government and Central Bank of Chile

     157,192         —           —           —           157,192   

Other instruments issued in Chile

     122,573         —           —           —           122,573   
                                            

Subtotal

     279,765         —           —           —           279,765   
                                            

Receivables from repurchase agreements and security borrowing

     82,787         —           —           —           82,787   
                                            

Derivative contracts for trading purposes

              

Forwards

     95,160         18,409         —           5,136         118,705   

Swaps

     168,567         159,635         —           39,188         367,390   

Call options

     133         —           —           —           133   
                                            

Subtotal

     263,860         178,044         —           44,324         486,228   
                                            

Hedge derivative contracts

              

Forwards

     —           —           —           —           —     

Swaps

     —           1,302         —           824         2,126   
                                            

Subtotal

     —           1,302         —           824         2,126   
                                            

Loans and advances to banks

              

Domestic banks

     13,305         —           —           —           13,305   

Foreign banks

     —           —           154,509         181,774         336,283   
                                            

Subtotal

     13,305         —           154,509         181,774         349,588   
                                            

Loans to customers (before allowances for loans losses)

              

Commercial loans

     9,203,655         1,191         21,211         64,925         9,290,982   

Residential mortgage loans

     2,927,778         —           —           —           2,927,778   

Consumer loans

     2,159,235         —           —           —           2,159,235   
                                            

Subtotal

     14,290,668         1,191         21,211         64,925         14,377,995   
                                            

Financial assets available-for-sale

              

From the Chilean Government and Central Bank of Chile

     371,487         —           —           —           371,487   

Other instruments issued in Chile

     584,864         —           —           —           584,864   

Instruments issued abroad

     124,650         71,805         4,299         —           200,754   
                                            

Subtotal

     1,081,001         71,805         4,299         —           1,157,105   
                                            

Financial assets held-to-maturity

     —           —           —           —           —     
                                            

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

    Financial
Services
MCh$
    Government
MCh$
    Retail
(Individuals)
MCh$
    Trade
MCh$
    Manufacturing
MCh$
    Mining
MCh$
   

Electricity,

Gas

and Water
MCh$

   

Agriculture

and
Livestock
MCh$

    Forestry
MCh$
    Fishing
MCh$
   

Transportation

and

Telecom
MCh$

    Construction
MCh$
    Services
MCh$
    Other
MCh$
    Total
MCh$
 

Financial assets

                             

Cash and due from banks

    264,715        310,359        —          —          —          —          —          —          —          —          —          —          197,255        —          772,329   
                                                                                                                       

Financial assets held-for-trading

                             

From the Chilean Government and Central Bank of Chile

    —          157,192        —          —          —          —          —          —          —          —          —          —          —          —          157,192   

Other instruments issued in Chile

    120,938        —          —          16        —          —          256        957        —          —          —          —          —          406        122,573   
                                                                                                                       

Subtotal

    120,938        157,192        —          16        —          —          256        957        —          —          —          —          —          406        279,765   
                                                                                                                       

Receivables from repurchase agreements and security borrowing

    36,983        —          —          2,445        14,839        260        25,751        —          75        16        1,921        54        443        —          82,787   
                                                                                                                       

Derivative contracts for trading purposes

                             

Forwards

    86,080        —          117        6,279        5,952        3,501        3,083        969        2,065        652        3,145        272        6,522        68        118,705   

Swaps

    288,217        —          —          6,642        1,369        220        28,828        1,666        25        2,487        18,752        690        18,494        —          367,390   

Call options

    6        —          —          13        —          —          —          —          —          —          —          —          114        —          133   
                                                                                                                       

Subtotal

    374,303        —          117        12,934        7,321        3,721        31,911        2,635        2,090        3,139        21,897        962        25,130        68        486,228   
                                                                                                                       

Hedge derivative contracts

                             

Forwards

    —          —          —          —          —          —          —          —          —          —          —          —          —          —          —     

Swaps

    2,126        —          —          —          —          —          —          —          —          —          —          —          —          —          2,126   
                                                                                                                       

Subtotal

    2,126        —          —          —          —          —          —          —          —          —          —          —          —          —          2,126   
                                                                                                                       

Loans and advances to banks

                             

Domestic banks

    13,149        156        —          —          —          —          —          —          —          —          —          —          —          —          13,305   

Foreign banks

    336,283        —          —          —          —          —          —          —          —          —          —          —          —          —          336,283   
                                                                                                                       

Subtotal

    349,432        156        —          —          —          —          —          —          —          —          —          —          —          —          349,588   
                                                                                                                       

Loans to customers

                             

Commercial loans (*)

                             

Residential mortgage loans

    3,404        —          183,053        57,504        13,550        2,374        209        20,623        —          1,385        18,232        15,823        62,625        2,548,996        2,927,778   

Consumer loans

    1,481        —          73,682        35,176        10,118        1,470        127        26,336        —          809        13,921        8,714        26,428        1,960,973        2,159,235   

Financial assets available-for-sale

                             

From the Chilean Government and Central Bank of Chile

      —        371,487        —          —          —          —          —          —          —          —          —          —          —          —          371,487   

Other instruments issued in Chile

    551,112        —          —          —          5,457        —          8,666        —          5,146        —          —          1,545        12,938        —          584,864   

Instruments issued abroad

    105,095        7,968        —          —          39,086        4,880        36,895        —          —          —          —          —          —          6,830        200,754   
                                                                                                                       

Subtotal

    656,207        379,455        —          —          44,543        4,880        45,561        —          5,146        —          —          1,545        12,938        6.830        1,157,105   
                                                                                                                       

Financial assets held-to-maturity

    —          —          —          —          —          —          —          —          —          —          —          —          —          —          —     
                                                                                                                       

 

(*) See commercial loans by industry sector in Note 10 (e).

 

F-112


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (e) Collateral and Other Credit Enhancements

The amount and type of collateral required depends on the counterparty’s credit risk assessment. The Bank has guidelines regarding the acceptability of types of collateral and valuation parameters.

The main types of collateral obtained are:

 

   

For commercial loans: Residential and non-residential real estate, liens and inventory.

 

   

For retail loans: Mortgages on residential property.

The Bank also obtains collateral from parent companies for loans granted to their subsidiaries.

Management makes sure its collateral is acceptable according to both external standards and internal policy guidelines and parameters. The Bank has approximately 153,000 collateral assets, the majority of which consist of real estate.

The Bank also uses mitigating tactics for credit risk on derivative transactions. To date, the following mitigating tactics are used:

 

   

Accelerating transactions and net payment using market values at the date of default of one of the parties.

 

   

Option for both parties to terminate early any transactions with a counterparty at a given date, using market values as of the respective date.

 

   

Margins established with time deposits by customers that close FX forwards with subsidiary Banchile Corredores de Bolsa S.A.

 

  (f) Credit Quality by Asset Class

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.

The Bank also conducts reviews of companies in certain industry sectors that are affected by macroeconomic or sector-specific variables. Such reviews allow the Bank to timely establish any necessary allowance loan losses that are sufficient to cover losses for potentially uncollectable loans.

 

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Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (f) Credit Quality by Asset Class, continued:

The following table shows credit quality by asset class for balance sheet items, based on the Bank’s credit rating system, as of December 31, 2009 and 2010.

 

     As of December 31, 2009  
     A1
MCh$
     A2
MCh$
     A3
MCh$
     B
MCh$
     C1
MCh$
     C2
MCh$
     Impaired
Portfolio
MCh$
     Other
MCh$
     Total
MCh$
 

Financial assets

                          

Loans and advances to banks

                          

Domestic banks

     110,000         13,796         —           —           —           —           —           —           123,796   

Foreign banks

     21,530         72,192         228,412         3,051         —           —           —           —           325,185   
                                                                                

Subtotal

     131,530         85,988         228,412         3,051         —           —           —           —           448,981   
                                                                                

Loans to customers

(before allowances for loans losses)

                          

Commercial loans

     32,218         2,290,427         2,074,847         3,446,251         136,957         6,195         426,232         308,049         8,721,176   

Residential mortgage loans

     —           —           —           —           —           —           68,787         2,458,219         2,527,006   

Consumer loans

     —           —           —           —           —           —           128,479         1,814,595         1,943,074   
                                                                                

Subtotal

     32,218         2,290,427         2,074,847         3,446,251         136,957         6,195         623,498         4,580,863         13,191,256   
                                                                                

 

     As of December 31, 2010  
     A1
MCh$
     A2
MCh$
     A3
MCh$
     B
MCh$
     Impaired
Portfolio
MCh$
     Other
MCh$
     Total
MCh$
 

Financial assets

                    

Loans and advances to banks

                    

Domestic banks

     13,305         —           —           —           —           —           13,305   

Foreign banks

     10,360         255,133         70,786            —           4         336,283   
                                                              

Subtotal

     23,665         255,133         70,786         —           —           4         349,588   
                                                              

Loans to customers

(before allowances for loans losses)

                    

Commercial loans

     28,728         2,346,028         2,098,218         3,380,009         599,925         838,074         9,290,982   

Residential mortgage loans

     —           —           —           —           71,758         2,856,020         2,927,778   

Consumer loans

     —           —           —           —           113,386         2,045,849         2,159,235   
                                                              

Subtotal

     28,728         2,346,028         2,098,218         3,380,009         785,069         5,739,943         14,377,995   
                                                              

 

F-114


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (f) Credit Quality by Asset Class, continued:

Analysis of age of non-impaired, over-due loans by financial asset class:

Terms:

Default 1: 1 to 29 days

Default 2: 30 to 59 days

Default 3: 60 to 89 days

As of December 31, 2009:

 

     Default 1
MCh$
     Default 2
MCh$
     Default 3
MCh$
     Total
MCh$
 

Loans and advances to banks

     662         —           —           662   

Commercial loans

     17,375         6,526         4,193         28,094   

Import-export financing

     10,084         90         661         10,835   

Factoring transactions

     17,248         3,409         528         21,185   

Commercial lease transactions

     1,894         774         331         2,999   

Other loans and receivables

     1,236         1,213         792         3,241   

Residential mortgage loans

     389         360         17         766   

Consumer loans

     13,084         6,627         3,982         23,693   
                                   

Total

     61,972         18,999         10,504         91,475   
                                   

As of December 31, 2010:

 

     Default 1
MCh$
     Default 2
MCh$
     Default 3
MCh$
     Total
MCh$
 

Loans and advances to banks

     15,940         —           —           15,940   

Commercial loans

     15,014         4,371         2,625         22,010   

Import-export financing

     9,078         194         83         9,355   

Factoring transactions

     37,764         5,785         587         44,136   

Commercial lease transactions

     1,716         519         386         2,621   

Other loans and receivables

     13,162         729         512         14,403   

Residential mortgage loans

     399         347         10         756   

Consumer loans

     11,583         5,507         3,676         20,766   
                                   

Total

     104,656         17,452         7,879         129,987   
                                   

 

F-115


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (f) Credit Quality by Asset Class, continued:

The value of collateral maintained by the Bank for loans individually classified as impaired as of December 31, 2009 and 2010 is MCh$187,899 and MCh$191,083 respectively.

The value of collateral maintained by the Bank for loans over-due but non-impaired as of December 31, 2009 and 2010 is MCh$78,251 and MCh$2,827 respectively.

 

  (g) Assets Received in Lieu of Payment

The Bank has received assets in lieu of payment totaling MCh$8,522 and MCh$10,418 as of December 31, 2009 and 2010, respectively, the majority of which are properties. All of these assets are managed for sale.

 

F-116


Table of Contents

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (h) Renegotiated Assets

The impaired loans are considered to be renegotiated when the corresponding financial commitments are restructured and the Bank assesses the probability of recovery as sufficiently high.

The following table details the book value of loans with renegotiated terms per financial asset class:

 

     2009
MCh$
     2010
MCh$
 

Financial assets

     

Loans and advances to banks

     

Domestic banks

     —           —     

Foreign banks

     —           —     
                 

Subtotal

     —           —     
                 

Loans to customers, net

     

Commercial loans

     169,642         137,576   

Residential mortgage loans

     10,908         10,216   

Consumer loans

     176,795         180,578   
                 

Subtotal

     357,345         328,370   
                 

Total renegotiated financial assets

     357,345         328,370   
                 

The Bank evaluates allowances loan losses in two segments: individually assessed allowances loan losses and group assessed allowances loan losses, which are described in more detail in Note 2(l).

 

  (i) Impairment Testing

The main tools used to test loan impairment include an analysis of whether principal or interest payments are more than 90 days past due or if the counterparty is experiencing any known cash flow problems, reductions in credit ratings or default of the original contractual terms.

 

  (j) Off balance sheet accounts

In order to meet our customers’ financial needs, the Bank has extended several irrevocable commitments and contingent obligations. Even though these obligations are not recognized in the balance sheet, they involve credit risk and thus form part of the Bank’s general risk exposure.

Credit risk exposure generated by contingent obligations is disclosed in Note 26.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk

Market Risk is referred as to the potential loss the Bank may incur due to the scarcity of liquidity or due to an adverse change of market factors levels (such as FX rates, equity prices, interest rates, options volatility, etc,). Therefore, Market Risk for analysis purposes is separated into the following two components: Liquidity Risk and Price Risk.

 

  (a) Liquidity Risk

Liquidity Risk is the risk of a potential loss due to a partial or complete absence of liquidity in the financial markets. This scarcity may occur due to a reduction of available funds that negatively impact the Bank’s funding capacity, which is referred as to Funding Liquidity risk. In addition, a reduction in the secondary market trading volumes of the instruments held in our balance sheet (such as bonds, stocks, etc,) or a decrease in terms of tickets size, tenors or number of participants in the derivatives market might also lead to Trading Liquidity risk. In the former case the Bank is exposed to be unable to raise cash for honoring its contractual obligations; in the latter, cash raising might be jeopardized or alternatively price risk positions might be difficult to be defeased.

Liquidity Risk Measurement

The Bank measures, limits, controls and reports Trading and Funding Liquidity risk.

Trading Liquidity of debt, equity and derivative instruments is limited via explicit Greek limits: FX positions through delta FX limits; equity positions for Banchile Corredores de Bolsa SA through equity delta limits; interest rate trading liquidity via DV01 limits (the DV01 is the change in the value of a financial instrument as a result of an increase in its valuation interest rate by 0.01% or 1 bps); a vega and gamma monitoring process for FX Options is in place as well. Debt instruments booked in the Accrual book1 do not require trading liquidity restrictions since they are purchased as medium to long term investments, usually used for taking structural interest rate positions and/or hedging stable balances such as demand deposits. In any case, the Bank’s trading portfolio is mainly comprised of highly liquid debt instruments such as Central Bank bonds, Chilean government bonds and short-term time deposits issued by banks resident in Chile.

Funding Liquidity is controlled and limited using several reports. The most basic one in place is the C08 liquidity report, which is part of the set of reports requested by the banks regulator (Superintendence of Banks and Financial Institutions or “SBIF” hereafter). The C08 liquidity report includes forecasted cash flow payments over the next 30 and 90 days for the main transactional balance sheet items (excluding capital, property and equipment, etc,); reports are separated between those that include cash flows denominated in local currency (including cash flows denominated in CLP and CLF) from those in foreign currencies (mainly concentrated in USD).

 

1

The accrual book contains all instruments, contracts and other financial operations (assets and liabilities) that are not part of the trading book. Generally, all traditional banking operations such as loans, deposits and financial instruments with the intention to be held until maturity are recognized in the accrual book.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

The SBIF requests banks to comply with the following C08 Index limits (the C08 Index is computed as the result of dividing the expected cash flow for the tenor bucket under analysis by the bank’s Tier1 Capital):

Foreign Currency 1-30 days C08 Index < 1

All Currencies 1-30 days C08 Index < 1

All Currencies 1-90 days C08 Index < 2

Additionally, the SBIF allows banks to measure and report the C08 Index utilizing behavioral maturity assumptions for some specific balance sheet items (such as rollover assumptions for some proportion of the loans portfolio; some portion of the DDAs may be modeled as stable and therefore not withdrawn from the bank; etc.). When calculating the C08 Index using behavioral assumptions, it is referred as to the Adjusted C08 Index.

As of December 31, 2010, the Foreign Currency 1-30 days Adjusted C08 Index (FCY in the graph below) is slightly below 0.3 whereas the index for all currencies (LCY + FCY in the graph below) is slightly above 0.3.

LOGO

The evolution of the Adjusted C08 Indexes along the year 2010 shows a higher liquidity use compared with the values observed during 2009. In fact, financial conditions were relatively better than the previous year and therefore gapping opportunities were taken but always within a prudent pattern. In any case, the use of liquidity decreased within the fourth quarter of 2010 given the European financial crisis and some negative feelings about the recovery path of the American economy.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

The use of the Adjusted C08 1-90 days C08 Index for all currencies (LCY + FCY in the graph below) throughout 2010 is more stable than in the case of 1-30 days, fluctuating between 0.4 and 1.2. As of December 31, 2010, the value of this index is 0.5, which is significantly smaller than the limit, which is 2. In any case, this index shows the same pattern observed for the 1-30 days corresponding index, which is a gradual decrease throughout the fourth quarter of 2010.

LOGO

The maturity profile of the consolidated financial liabilities of Banco de Chile and its subsidiaries, as of 2009 and 2010 end-of-year, is detailed below:

 

     Up to 1
month
MCh$
    

Between

1 and 3
months
MCh$

     Between 3
and 12
months
MCh$
    

Between

1 and 3
years
MCh$

    

Between

3 and 5
years
MCh$

    

More than

5 years
MCh$

    

Total

MCh$

 

Liabilities as of December 31, 2009

                    

Current accounts and other demand deposits

     3,718,076         —           —           —           —           —           3,718,076   

Transactions in the course of payment

     325,056         —           —           —           —           —           325,056   

Payables from repurchase agreements and security lending

     296,594         11,434         —           —           —           —           308,028   

Saving accounts and time deposits

     3,325,777         1,719,186         2,283,694         196,260         2,093         24         7,527,034   

Derivative instruments

     352,647         227,119         237,107         16,361         16,194         —           849,428   

Borrowings from financial institutions

     201,743         200,894         823,789         —           65,836         75,964         1,368,226   

Other financial obligations

     592,672         516,183         233,963         561,186         306,911         894,639         3,105,554   
                                                              

Total undiscounted financial liabilities (excluding derivatives with offsetting agreements)

     8,812,565         2,674,816         3,578,553         773,807         391,034         970,627         17,201,402   
                                                              

Derivatives with offsetting agreements

     494,410         827,490         3,156,726         5,268,798         2,333,554         1,262,678         13,343,656   
                                                              

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

     Up to 1
month
MCh$
    

Between

1 and 3
months
MCh$

    

Between

3 and 12
months
MCh$

    

Between

1 and 3
years
MCh$

    

Between

3 and 5
years
MCh$

    

More

than

5 years
MCh$

    

Total

MCh$

 

Liabilities as of December 31, 2010

                    

Current accounts and other demand deposits

     4,446,181         —           —           —           —           —           4,446,181   

Transactions in the course of payment

     208,750         —           —           —           —           —           208,750   

Payables from repurchase agreements and security lending

     81,590         165         —           —           —           —           81,755   

Saving accounts and time deposits

     3,400,663         1,458,340         2,481,908         328,030         65,937         39         7,734,917   

Derivative instruments

     374,303         347,750         213,633         45,326         —           —           981,012   

Borrowings from financial institutions

     102,288         122,572         905,270         104,167         47,075         —           1,281,372   

Other financial obligations

     321,168         340,251         375,168         368,674         374,532         1,496,556         3,276,349   
                                                              

Total undiscounted financial liabilities (excluding derivatives with offsetting agreements)

     8,934,943         2,269,078         3,975,979         846,197         487,544         1,496,595         18,010,336   
                                                              

Derivatives with offsetting agreements

     691,096         769,277         3,052,715         4,915,709         2,112,000         1,131,751         12,672,548   
                                                              

The loans-to-deposits ratio for 2010 and 2009 is detailed below:

Loans-to-Deposit Ratio

 

     As of December 31,  
     2009      2010  

Maximum

     1.46         1.47   

Minimum

     1.30         0.99   

Average

     1.40         1.39   

The Bank establishes triggers for internal ratios, in addition to the limits imposed by local regulators, which aim to prevent significant funding sources concentration, funding maturity date concentrations in both local and foreign currency and other ratios to closely watch the evolution of the structure of the balance sheet (deposits as percentage of loans; “cold nose” fund providers as percentage of third-party liabilities, etc.). In the case that triggers are breached, the top management of the bank is immediately alerted; additionally, triggers breached are also reported in the next ALCO meeting and in the quarterly report to the Board of Directors.

 

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40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

  (b) Price Risk

Price Risk is referred as to the potential loss the Bank may incur due to an adverse change of market factors (such as FX rates, equity prices, interest rates, etc). Market factors are usually classified into the following three groups:

 

  1. Spot prices, such as foreign exchange rates, equity prices, commodity prices, precious metals or energy prices, etc. The Bank incurs foreign exchange risk and is indirectly exposed to equity prices risk through its subsidiary Banchile Corredores de Bolsa S.A.

 

  2. Interest rates inherent in debt instruments prices (usually referred as to yield-to maturity or YTM) and derivatives yield curves. This group also includes “spreads”, which are simply the mathematical difference between two interest rates or yields. These include a swap spread or arithmetic difference between the swap yield curve of a certain currency for a given tenor and the corresponding interest rate of a bullet bond issued by the government and/or central bank for the same tenor and currency. Likewise, a credit spread is the arithmetic difference between the interest rate of a bond issued by a private entity and the interest rate on a bullet bond issued by the government and/or central bank for the same tenor and currency.

 

  3. Options volatility. This is the third type of market factor and applies to options only, whose underlying asset is one or more of the market factors classified in the two aforementioned groups. The most common options transactions include foreign exchange rates and/or interest rates as underlying assets. The Bank currently has outstanding transactions in both.

In line with this market factors classification, Price Risk is classified into three groups: (a) spot price or commodity risk, (b) interest rate risk and (c) options volatility risk.

The Bank would be exposed to foreign exchange rate risk or spot price risk if its aggregate portfolio comprises more USD denominated assets than liabilities denominated in such currency. In the case that this extra amount is funded in CLP terms, the Bank would be exposed to the risk of the USD depreciating against the Chilean peso, resulting in losses.

Likewise, the Bank would be exposed to interest rates or would hold interest rate price risk if the repricing tenors of assets were unmatched with those repricing tenors of liabilities. As an example, if liabilities are repriced faster than the assets balance sheet items, the Bank is exposed to an interest rate rise. Should this occur, the Bank would incur in losses.

Finally, the Bank would be exposed to fluctuations in the volatility of the CLP/USD foreign exchange rate or options volatility price risk if the portfolio generates a vega other than zero (vega is the change in value of an option as a result of a positive fluctuation of the volatility by 1%). The Bank would be exposed to a volatility decrease if the options book generates a positive vega, resulting in losses.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

Measuring Price Risk

Price Risk is measured utilizing various reports and is separately assessed for the Trading and Accrual books.

A standardized regulatory report (SBIF C43 report) is used for the Trading book, which allows the Bank including its affiliates to measure its potential loss in the case of an adverse fluctuation, at a given confidence level, of the relevant market factors used for valuing these transactions (FX rates, interest rates, derivatives yields, equity prices, etc.). This metric is computed using tables provided by the SBIF, which are taken from the Basel Accord on standardized measurement of price risk for trading portfolios. This metric is extremely conservative and additionally volatilities of the market factors fluctuations and correlations between these fluctuations are not updated according to prevailing market conditions.

The evolution of the regulatory price risk of the Trading Portfolio throughout 2010 is illustrated in the graph below:

LOGO

The SBIF has not established a formal individual limit for the Trading Portfolio price risk, but rather an overall limit that includes Market Risk plus the Credit Risk of the assets portfolio, which is assessed as 10% of the risk-weighted assets. In the future, Operational Risk will be included in the regulatory measurement as well.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

Most of the Bank’s price risk during the period stemmed from interest rate positions, specifically those related to derivative transactions. In fact, most of the Bank’s price risk was generated by interest rate swaps denominated in CLP and CLF. Next in line were foreign exchange rate positions and then, to a much lesser extent, small positions in foreign exchange and interest rate options transactions.

In addition, the Bank has established internal limits for its Trading Book positions; in fact, limits are established for net foreign exchange rate positions (FX delta), interest rates positions (rho or DV01) and for vega positions generated by options portfolios. The Price Risk Policy call for daily stress tests for trading portfolios, including potential losses analysis versus formal triggers (“look forward analysis”) and actual losses within a calendar monitored against management action triggers (“look back analysis”). Finally, it is worth mentioning that during December 2010 the Bank has started measuring a 99%-confidence parametric VaR for the Trading portfolio. VaR will be monitored against triggers, which are expected to be in place during the first quarter of 2011.

The interest rate risk of the Accrual book is obtained using a standardized regulatory report (SBIF C40 report). This enables the Bank to estimate the potential loss due to adverse interest rate fluctuations, with a certain level of confidence. This metric is computed using tables provided by the SBIF, for standardized measurement of the accrual interest rate risk. Under current regulations, banks must establish limits for the short–term interest rate risk (including 2% of the net inflation-adjusted position) for the Accrual book as a percentage of the net interest rate margin and for the long-term interest rate risk as a percentage of the Bank’s Tier-2 Capital; current limits for Banco de Chile are 25% and 25% respectively. The evolution of these two metrics along year 2010 is the following:

LOGO

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

LOGO

In both cases, the use of risk is very stable, reflecting the stability of the Accrual book balance sheet items and an adequate leeway for potential new opportunities to open interest rate gaps. Additionally, the bank started measuring internal metrics for the Accrual book during 2010, such as interest rate repricing tenor gaps and earnings-at-risk due to forward rate fluctuations.

The following table illustrates the exposure of the Accrual Book to interest rate risk by maturity on an individual basis as of December 31, 2009 and 2010:

Accrual Book Interest Rate Exposure by Maturity

 

     Up to 1
month
MCh$
    

Between

1 and 3
months
MCh$

    

Between

3 and 12
months
MCh$

    

Between

1 and 3
years
MCh$

    

Between

3 and 5
years
MCh$

     More than
5 years
MCh$
    

Total

MCh$

 

Assets as of December 31, 2009

                    

Cash and due from banks

     696,732         —           —           —           —           —           696,732   

Transactions in the course of collection

     328,530         —           —           —           —           —           328,530   

Receivables from repurchase agreements and security borrowing

     —           —           —           —           —           —           —     

Derivative instruments

     57,877         69,732         174,303         —           —           —           301,912   

Loans and advances to banks

     212,963         59,835         147,818         12,906         15,458         —           448,980   

Loans to customers, net

     2,205,503         1,766,611         3,562,989         2,858,548         1,389,593         3,247,244         15,030,488   

Financial assets available-for-sale

     229,713         138,284         343,402         121,654         117,797         549,610         1,500,460   

Financial assets held-to-maturity

     —           —           —           —           —           —           —     
                                                              

Total assets

     3,731,318         2,034,462         4,228,512         2,993,108         1,522,848         3,796,854         18,307,102   
                                                              

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

Accrual Book Interest Rate Exposure by Maturity

 

     Up to 1
month
MCh$
    

Between

1 and 3
months
MCh$

    

Between

3 and 12
months
MCh$

    

Between

1 and 3
years
MCh$

    

Between

3 and 5
years
MCh$

     More than
5 years
MCh$
    

Total

MCh$

 

Assets as of December 31, 2010

                    

Cash and due from banks

     759,947         —           —           —           —           —           759,947   

Transactions in the course of collection

     403,208         —           —           —           —           —           403,208   

Receivables from repurchase agreements and security borrowing

     5,107         —           —           —           —           —           5,107   

Derivative instruments

     34,644         85,949         192,620         —           —           —           313,213   

Loans and advances to banks

     95,236         71,094         128,536         54,722         —           —           349,588   

Loans to customers, net

     2,236,700         2,084,812         3,936,659         3,018,469         1,718,849         3,633,320         16,628,809   

Financial assets available-for-sale

     236,329         186,498         197,401         116,278         198,449         398,807         1,333,762   

Financial assets held-to-maturity

     —           —           —           —           —           —           —     
                                                              

Total assets

     3,771,171         2,428,353         4,455,216         3,189,469         1,917,298         4,032,127         19,793,634   
                                                              
     Up to 1
month
MCh$
    

Between

1 and 3
months
MCh$

    

Between

3 and 12
months
MCh$

    

Between

1 and 3
years
MCh$

    

Between

3 and 5
years
MCh$

     More than
5 years
MCh$
    

Total

MCh$

 

Liabilities as of December 31, 2009

                    

Current accounts and demand deposits

     3,759,962         —           —           —           —           —           3,759,962   

Transactions in the course of payment

     129,379         —           —           —           —           —           129,379   

Payables from repurchase agreements and security lending

     31,693         —           —           —           —           —           31,693   

Saving accounts and time deposits

     3,328,616         1,718,100         2,285,248         197,389         2,105         24         7,531,482   

Derivative instruments

     1,228         1,019         12,841         48,748         74,473         230,020         368,329   

Borrowings from financial institutions

     446,337         498,860         419,152         —           —           —           1,364,349   

Debt issued

     10,973         191,470         113,160         539,276         290,540         859,564         2,004,983   

Other financial obligations

     237,242         55,025         48,241         14,898         12,790         24,474         392,670   
                                                              

Total liabilities

     7,945,430         2,464,474         2,878,642         800,311         379,908         1,114,082         15,582,847   
                                                              
     Up to 1
month
MCh$
    

Between

1 and 3
months
MCh$

    

Between

3 and 12
months
MCh$

    

Between

1 and 3
years
MCh$

    

Between

3 and 5
years
MCh$

     More than
5 years
MCh$
    

Total

MCh$

 

Liabilities as of December 31, 2010

                    

Current accounts and demand deposits

     4,407,773         —           —           —           —           —           4,407,773   

Transactions in the course of payment

     181,283         —           —           —           —           —           181,283   

Payables from repurchase agreements and security lending

     22,007         —           —           —           —           —           22,007   

Saving accounts and time deposits

     3,403,335         1,480,524         2,483,602         387,976         6,932         53         7,762,422   

Derivative instruments

     332         1,203         17,454         51,666         102,998         199,410         373,063   

Borrowings from financial institutions

     347,092         461,551         449,523         1,177         —           —           1,259,343   

Debt issued

     21,262         26,244         253,160         346,518         357,462         1,442,776         2,447,422   

Other financial obligations

     172,267         1,242         7,814         18,920         14,343         43,354         257,940   
                                                              

Total liabilities

     8,555,351         1,970,764         3,211,553         806,257         481,735         1,685,593         16,711,253   
                                                              

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

Price Risk Sensitivity Analysis

After the 2008 financial crisis, the Bank realized that stress tests are much more useful and reliable tools than normal (o log-normal) distribution fluctuations assessments (as the VaR). One of the main weaknesses of the VaR analysis is that they rely on normal distributions (not including the fat tails that are observed in the actual stress test environments) and probably worst than the previous, historical correlations between market factors’ fluctuations and standard defeasance periods are considered. Extreme uncoupling of market fluctuations and shallow market conditions are the most common environment observed in emerging markets under stress.

Therefore the use of stress tests has been put in place in the Bank in order to assess the best estimation of the potential loss due to adverse and extreme conditions. Separate measurements are implemented for Trading and Accrual books. Stress tests are daily executed for the Trading portfolio, computing the potential losses/gains including the root causes—e.g., position size changes, changes of market factors volatilities; uncoupling of these changes (e.g. absence of historical correlations) and the current trading liquidity to close the exposures generated by these positions. This exercise is also implemented for the accrual book on a monthly basis.

An updated database is maintained including the historical data of foreign exchange rates, debt instruments yields to maturity, derivatives swap yields, foreign exchange volatilities, etc. that enable the Bank to maintain up-to-date records of historical volatility of market factors fluctuations and correlations between these ones. Given this, the stress tests may be implemented modeling directional fluctuations but also knowing the magnitude of the modeled fluctuations relative to statistical data and also how frequent the fluctuation modeled occurred in the past (last 4 years, as a minimum data horizon).

In order to comply with IFRS 7.40, we include the following exercise illustrating an estimation of the impact of feasible but reasonable (neither stressed nor extreme) fluctuations of interest rates, swaps yields, foreign exchange rates and foreign exchange volatilities embedded in the Trading and Accrual portfolios. Given that the Bank’s portfolio includes positions denominated in nominal and real interest rates, these fluctuations must be aligned with realistic inflation changes forecast. The exercise is implemented in a very simplistic way: trading portfolios impacts are estimated by multiplying DV01s by expected interest rates shifts; accrual portfolios impacts are computed as multiplying cumulative gaps by forward interest rates modeled fluctuations. However, this methodology presents the limitation that convexity of interest rates yield curves is not captured for trading portfolios; additionally, neither convexity nor prepayments behaviors are captured in the accrual portfolio analysis. In any case, given the magnitude of the shifts, the methodology may be accurate enough for the purposes and scope of the analysis.

The following table illustrates the fluctuations of bond interest rates, derivatives yields, FX rates, FX CLP/USD volatility and inflation. Equity prices fluctuations of positions held in the Bank’s stockbrokerage house (Banchile Corredores de Bolsa SA) are not included given that are not considered material. In fact, equity positions used to be very small given that this legal vehicle is mostly focused on customer driven transactions (brokerage or equity swaps transactions closed with customers).

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

The directions of these fluctuations were chosen between four scenarios (two positive economic scenarios and two negative economic scenarios) given that they generate the worst impact within the four above mentioned:

 

     Market Factors Fluctuations: Adverse Scenario  
     CLP
Derivatives
(bps)
    CLP
Bonds
(bps)
    Spread
TAB CLP
30 / CAM

(bps)
     CLF
Derivatives
(bps)
    CLF
Bonds
(bps)
    USD
Offshore 3m
Derivatives
(bps)
    Spread USD
On/Off
Derivatives
(bps)
     Vol FX
CLP/USD
(%)
    Inflation’s Change
Period n-1 to n
(Monthly Basis)
(%)
 

1 d

     (300     (297     151         1,206        1,330        (5     862         8.0     (1.27

3 m

     (321     (199     338         418        308        (10     517         5.3     (0.53

6 m

     (309     (198     330         28        (34     (14     343         4.1     (0.05

9 m

     (306     (198     297         (6     (95     (18     348         3.6     (0.20

1 yr

     (308     (196     265         (39     (97     (21     309         3.1     (0.32

2 yrs

     (309     (170     166         (10     (6     (41     214         —         (0.15

4 yrs

     (272     (202     124         (57     (46     (59     123         —         (0.03

6 yrs

     (259     (178     165         (93     (76     (69     122         —         0.00   

10 yrs

     (229     (174     179         (98     (93     (83     127         —         (0.04

16 yrs

     (219     (174     171         (114     (107     (87     128         —         (0.04

20 yrs

     (211     (174     184         (114     (106     (88     131         —         (0.06

The impact in the bank’s Trading book is the following:

 

ESTIMATED P&L IMPACT

TRADING BOOK

ADVERSE SCENARIO

  

  

  

     (MCh$

CLP Interest Rate

     2,055   

Derivatives

     (422

Securities

     2,477   

CLF Interest Rate

     (3,175

Derivatives

     (3,154

Securities

     (21

USD, EUR, JPY Offshore Interest Rate

     (669

USD, EUR, JPY On/Off Spread

     (4,757

Total Interest Rate

     (6,546
        

Total FX

     (704
        

Total Vega FX

     5   
        

P&L Impact: Interest Rate + FX + Vega

     (7,245
        

BCh Expected P&L (12 Months)

     460,000   

BCh Tier1 Capital

     1,404,125   

P&L Impact / (Tier1 Capital + Expected P&L 12 Months)

     (0.4%

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (3) Market Risk, continued:

 

In any case, such fluctuations would not be resulting in material losses compared with either forecasted profits for the next 12 months and/or Tier-1 Capital.

The impact of such fluctuations in the Accrual portfolio, which is not necessarily a gain/loss but greater/lower net revenue from funds generation (net revenues from funds or NRFF is the net interests generation resulting from the accrual portfolio), is illustrated below:

 

MARGINAL NRFF ACCRUAL BOOK
ADVERSE SCENARIO
   
MCh$    12 MONTHS     5 YEARS  

CLP (TOTAL)

     (40,691     (274,834

CLF (TOTAL)

     3,704        192,275   

FCY (TOTAL)

     8,511        (10,536

TOTAL

     (28,476     (93,095

The main adverse impact occurs in the CLP book given that the scenario is considering a lower inflation and therefore a CLP interest rates drop negatively hitting the value of the cost-to-close of the referred book. The impact in the CLP book within the next 12 months is slightly above than 1 month of the forecasted 1-year profit and less than 1-year expected profit for the coming 5 years.

Finally, the next table illustrates the shadow mark-to-market impact (the impact on equity but not on income) in the AFS portfolio due to the referred interest rate fluctuations:

 

AVAILABLE FOR SALE PORTFOLIO IMPACT

ADVERSE SCENARIO

  

  

Instrument    DV01(+1 bps)
(USD)
    Impact due to
interest rate
change (USD)
   

Impact due to
interest rate

change
(MCh$)

 

CLP

     (131,502     23,801,914        11,138   

CLF

     (267,672     20,343,056        9,520   

USD

     (235,244     (23,759,669     (11,118
                        

Total

     —         20,385,301        9,540   
                        

It is worth to note that the stress scenario considers interest rate drops for the tenors of the CLP and CLF AFS instruments (actually this scenario forecasts CLP and CLF interest rate drops for maturity tenors longer than 6 months) and therefore the exercise generates positive shadow mark-to-market impact.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (4) Capital Requirements and Capital Management:

The Bank maintains an actively managed capital base to cover the risks inherent in its business. The adequacy of the Bank’s capital is monitored using, among other measures, the rules and ratios established by the Chilean Superintendency of Banks and Financial Institutions. During the past year as well as 2008, the Bank has fully complied with the externally imposed capital requirements.

The primary objectives of the Bank’s capital management are to ensure that the Bank complies with externally imposed capital requirements and that the Bank maintains strong credit ratings and healthy capital ratios.

The Bank manages its capital structure and makes adjustments in the light of changes in the economic conditions and the risk characteristics of its activities. In order to maintain or adjust the capital structure the Bank may adjust the amount of dividend payments, return capital to its shareholders or issue capital securities. No changes have been made to the objectives, policies and processes during the years presented.

Regulatory capital

In accordance with the Chilean General Banking Law, the Bank must maintain a minimum ratio of Effective Equity to Consolidated Risk-Weighted Assets of 8%, net of required provisions, and a minimum ratio of Basic Capital to Total Consolidated Assets of 3%, net of required provisions. However, due to the 2008 merger of Banco de Chile and Citibank Chile, the Superintendency of Banks and Financial Institutions, in Resolution N° 209 from December 26, 2007, increased the limit on the Bank’s ratio of effective equity to risk-weighted assets to 10%. In this context, the SBIF ratified the use of the 10% as minimum fixed in December 2001 when authorizing merge by absorption of Banco Edwards in Banco de Chile.

For this purpose, Effective Equity is determined based on Capital and Reserves or Basic Capital, adjusted by: (a) adding subordinated bonds up to 50% of Basic Capital, (b) adding additional loan provisions, and (c) subtracting the asset balance of goodwill or overpayments and unconsolidated investments in companies.

Assets are weighted using risk categories, which are assigned a risk percentage based on the capital needed to back each asset. There are 5 risk categories (0%, 10%, 20%, 60% and 100%). For example, cash, due from banks and financial instruments issued by the Chilean Central Bank have 0% risk, which means, in accordance with current standards, no capital is required to back these assets. Property and equipment have 100% risk, which means that minimum capital equivalent to 8% of the value of these assets is needed (10% in the case of Banco de Chile).

All derivative instruments traded off-market are taken into account to determine risk assets using conversion factors over notional values, thus calculating the value of the credit risk exposure (or “credit equivalent”). For weighting purposes, “credit equivalent” also considers off-balance sheet contingent loans.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

40. Risk Management, continued:

 

  (4) Capital Requirements and Capital Management, continued:

 

Levels of Basic Capital and Effective Equity as of December 31, 2009 and 2010 are as follows:

 

     Consolidated assets      Risk-weighted assets  
    

2009

MCh$

    

2010

MCh$

    

2009

MCh$

    

2010

MCh$

 

Balance sheet assets (net of provisions)

           

Cash and due from banks

     727,553         772,329         154         767   

Transactions in the course of collection

     526,051         429,756         224,148         60,922   

Financial assets held-for-trading

     351,590         279,765         128,806         65,540   

Receivables from repurchase agreements and security borrowing

     79,401         82,787         79,401         82,787   

Derivative instruments

     565,986         488,354         449,852         396,511   

Loans and advances to banks

     448,981         349,588         327,944         338,913   

Loans to customers, net

     12,879,155         14,029,968         11,855,716         12,841,904   

Financial assets available-for-sale

     1,267,774         1,157,105         397,656         358,740   

Investments in other companies

     10,494         11,072         12,606         13,294   

Intangible assets

     88,182         87,276         28,328         33,992   

Property and equipment

     205,847         205,539         208,335         206,513   

Investment Properties

     17,840         17,459         —           —     

Current tax assets

     —           3,363         —           565   

Deferred tax assets

     49,733         57,678         8,285         11,120   

Other assets

     282,872         304,425         216,292         286,021   
                       

Subtotal

           13,937,523         14,697,589   

Off-balance-sheet assets

           

Contingent loans

     1,447,233         2,913,689         862,550         1,748,106   
                       

Total risk-weighted assets

           14,800,073         16,445,695   
                       

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

41. New Accounting Pronouncements:

The following is a summary of new standards, interpretations and improvements to the International Financial Reporting Standards issued by the International Accounting Standards Board (IASB) but which have not come into effect as of December 31, 2010, as per the following detail:

IAS 12 Income Taxes

On December 20, 2010, the IASB issued the document “Deferred Taxes: Recovery of Underlying Assets (amendment to IAS 12)” which regulates determination of deferred taxes for entities that use fair value as a valuation model for investment properties in accordance with IAS 40 Investment Properties. In addition, the new regulation incorporates SIC-21 “Income Taxes – Recovery of Non-depreciable Assets” in the body of IAS 12. The entities are obliged to apply the amendments in annual periods beginning as of January 1, 2012. The Management of Banco de Chile and its subsidiaries believe that this regulation has no impact on their consolidated financial statements.

IAS 24 Related Party Disclosures

In November 2009, the IASB issued a revised version of IAS 24, “Related party disclosures” (IAS 24 R). The revised standard introduces a partial exemption of disclosure requirements for government-related entities. In addition, the definition of the related party is revised clarifying certain relationships that were previously not explicit in the standard. The revised standard will be in force for annual periods commencing as of January 1, 2011, and early application is allowed.

Banco de Chile and its subsidiaries are currently working on the adoption of IAS 24 R and considering the impact that this standard will have on the financial statements.

IAS 32 Financial Instruments: Presentation

In October 2009, the IASB published the document “Classification of Preferential Rights Issuances”. In the amended standard the definition of a financial liability in order to classify rights issues (and certain options or warrants) as equity instruments has been changed in cases where such rights are given pro rata to all of the existing owners of the same class of an entity’s non-derivative equity instruments, or to acquire a fixed number of the entity’s own equity instruments for a fixed amount in any currency. Its application is effective for annual periods beginning on or after February 1, 2010 and early adoption is allowed.

The Bank and its subsidiaries are currently working on the adoption of IAS 32 and considering the impact that this standard will have on the financial statements.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

41. New Accounting Pronouncements, continued:

 

IFRS 7 Financial Instruments: Disclosures

In October 2010, the IASB issued a set of amendments to help users of the financial statements assess their exposure to transfer of financial assets, analyze the effect of their risks on the entity’s financial situation and promote transparency, particularly in transactions that involve securitization of financial assets.

The entities are required to apply modifications to the annual periods commencing as of July 1, 2011. To date, Banco de Chile and its subsidiaries are evaluating the possible impact that the adoption of this standard will have on its consolidated financial statements.

IFRS 9 Financial Instruments

Financial liabilities

On October 28, 2010, the IASB incorporated into IFRS 9 the accounting treatment of financial liabilities, maintaining the classification and measurement criteria existing in IAS 39 for all liabilities with the exception of those in which the entity has used the fair value option. Entities whose liabilities are valued using the fair value option must determine the amount of variations attributable to credit risk, and record them in shareholders’ equity if they do not produce an accounting asymmetry.

Entities are required to apply the modifications in annual periods commencing as of January 1, 2013.

Financial Instruments: Recognition and Measurement

In November 2009, the IASB issued IFRS 9, “Financial Instruments,” the first step in its project to replace IAS 39, “Financial Instruments: Recognition and Measurement”. IFRS 9 introduces new requirements for classifying and measuring financial assets that are in the scope of the application of IAS 39. This new regulation requires that all financial assets be classified in function of the entity’s business model for the management of financial assets and of the characteristics of the contractual cash flows of financial assets. A financial asset shall be measured at amortized cost if two criteria are fulfilled: (a) the objective of the business model is to maintain a financial asset to receive contractual cash flows, and (b) contractual cash flows represent principal and interest payments. Should a financial asset not comply with the aforementioned conditions, it will be measured at fair value. In addition, this standard allows a financial asset that fulfills the criteria to be valued at amortized cost to be designated at fair value with changes in income under the fair value option, as long as this significantly reduces or eliminates an accounting asymmetry. Likewise, IFRS 9 eliminates the requirement of separating embedded derivatives from the host financial assets. Therefore, it requires that a hybrid contract be classified entirely in amortized cost or fair value.

IFRS 9 requires mandatory and prospective reclassifications of financial assets when the entity modifies the business model.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

41. New Accounting Pronouncements, continued:

 

Under IFRS 9, all variable income investments are measured at fair value. However, management has the option of presenting changes in fair value directly in shareholders’ equity under “Valuation Accounts”. This designation is available for initial recognition of an instrument and is irrevocable. Unearned income recorded in “Valuation Accounts” arising from changes in fair value should not be included in the statement of income.

IFRS 9 is effective for annual periods commencing as of January 1, 2013, and allows adoption prior to that date. IFRS 9 must be applied retroactively, however if it is adopted before January 1, 2012, there is no need to reformulate comparative periods.

Banco de Chile and its subsidiaries are assessing the possible impact of adoption of these changes on the financial statements, however, that impact will depend on the assets maintained by the institution as of the adoption date. It is not practicable to quantify the effect on the issuance of these financial statements.

IFRIC 14 Limit of a defined benefits asset, obligation to maintain minimum financing level and their interaction

In November 2009, the IASB issued amendments to IFRIC 14 to allow recording of prepayments as an asset when an entity is required to maintain a minimum level of financing and prepays its contributions to cover these requirements. The amendment will be applicable to annual periods commencing as of January 1, 2011.

The management of Banco de Chile and its subsidiaries believes that this regulation has no impact on its consolidated financial statements.

IFRIC 19 Payments of Financial Liabilities with Equity Instruments

In November 2009, the IASB issued IFRIC 19 to regulate in the accounting the total or partial payment of financial liabilities through issuance of equity instruments by the debtor. The regulation clarifies the accounting for these operations from the point of view of the issuer of the instruments, stating that the equity instruments issued must be valued at fair value. Should it not be possible to calculate this value, they will be valued at the fair value of the paid liability. The difference between the liability paid and the equity instruments issued will be recorded in income.

The standard will be applicable for annual periods commencing as of July 1, 2010, with early application allowed.

The management of Banco de Chile and its subsidiaries believes that this regulation has no impact on its consolidated financial statements.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, Continued

 

 

 

42. Subsequent Events:

In an extraordinary meeting held on January 20, 2011, our shareholders adopted a resolution to increase our capital by 3,385,049,365 shares of our common stock. The price of such shares will be determined by our board of directors within a period of 120 days from that date considering the market price of our shares of common stock.

In an ordinary meeting held on January 27, 2011, our board of directors decided to call an ordinary shareholders meeting to be held on March 17, 2011 with the objective of proposing, among other matters, the distribution of dividend No. 199 of $2.937587 to each of the 82,551,699,423 shares issued by Banco de Chile, which will be charged to distributable net income for the fiscal year ended December 31, 2010, corresponding to 70% of such income.

 

 

 

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

Date: March 10, 2011

 

  Banco de Chile
 

/s/ Arturo Tagle Q.

By:  

Arturo Tagle Q.

CEO