SURA Asset Management Lifted By Rising Wave of Retirement Savings in Latin America

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1 ISSUER IN-DEPTH ANALYST CONTACTS Jose Angel Montano VP-Senior Analyst Rocio Nunez Associate Analyst Robert M. Callagy VP-Senior Analyst Stephen Tu VP-Senior Analyst Marc R. Pinto, CFA Associate Managing Director Yaron Ernst MD-Managed Investments SURA Asset Management Lifted By Rising Wave of Retirement Savings in Latin America SURA Asset Management (Baa1, stable) is uniquely positioned to take advantage of growing demand for retirement savings products from Latin America s relatively young and growing population. In the next 40 years, this market is going to experience significant growth based on demographics and a large portion of it is going to be captured by SURA Asset Management. Unlike asset managers in the U.S. and Europe, where aging populations will limit growth, SURA Asset Management is entering a period of rapid expansion in assets under management (AUM) that will likely extend through the future. The company's established presence in almost every major Latin American market, with the exception of Brazil, and its efforts to diversify into new products will further enhance its growth prospects. These strengths will help boost net profit margins to 30% in 2018, from the current 20%. We began rating SURA Asset Management in April, and in August upgraded the company to Baa1, which reflected our upgrade of the sovereign country ceiling in Colombia, where SURA Asset Management is based. Latin America s young population, steady economic growth and increased formality will support SURA Asset Management's expansion. The region's formalization of employment has increased significantly in recent years. In the last five years, informal employment as a share of total employment fell to 47% in 2013 from 53% in Formal work, salary increases and voluntary savings will boost pension fund activity in the region. In Chile, Mexico, Peru, Colombia, Uruguay and El Salvador, where SURA Asset Management concentrates its business, employees are required by law to have retirement savings deducted directly from their wages, which supports continued AUM growth. SURA Asset Management projects that in five years, total AUM will rise on average 14% on a yearly basis, reaching $227 billion by SURA Asset Managemen's unmatched scale and financial strength will allow it to maintain a competitive advantage in the growing private pension fund industry. As a consequence of Grupo SURA's acquisition of ING's business in the region in 2011, SURA Asset Management is by far the largest asset manager in Latin America, and has the strongest franchise, which allows it to maintain one of the highest asset retention rates in the region. The firm is more than twice as large as its next competitor in Latin America, which gives it significant economies of scale. In addition, it is diversifying into new businesses that will support earnings stability, including life insurance, wealth

2 management and brokerage services, all of which are highly linked to the economy and middle class expansion. Downside risks stem from sensitivity to the economic cycle, and government efforts in some countries to reduce management fees. SURA Asset Management's AUM growth will continue to be tied to the region s economic performance, and remains highly dependent on base salary increases, work force creation and the incorporation of informal employees into the formal sector. Regulatory changes may also put negative pressure on profit margins. In Mexico, lawmakers are considering proposals to reduce asset management fees and in Chile a new government-owned private pension fund manager is planning to start operations with a lower fee scheme. Latin America s Favorable Demographics, Stable Economy Will Drive SURA Asset Management AM's Growth Though much of the region has experienced a sharp slowdown in growth over the past three years, Latin America's long-term economic outlook remains promising. Beyond the current weak economic cycle, government spending on large infrastructure projects will lead to faster growth of the formal work force and the middle class, benefiting SURA Asset Management's performance, especially in Chile, Mexico, Peru and Colombia. Informal employment in Latin America has fallen from almost 53% to 47% over the last 5 years, according to the International Labour Organization. As these workers join the formal economy and obtain higher real wages, it will create vast new opportunities for Latin America s private pension fund industry. Between 2003 and 2009, Latin America s middle class increased by 47% to 152 million, according to the World Bank. Though growth has slowed over the past two years, this organization predicts that by 2030 the middle class will represent close to half of the region s total population. Most importantly for asset managers like SURA Asset Management, the growth of the middle class and formal employment in the region will be led by young workers, resulting in a steady rise in the creation of individual pension accounts with defined contributions. This significant shift in the demographics in the region's economically active population will feed AUM growth for the coming four decades (see Exhibit 1). This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page on for the most updated credit rating action information and rating history. 2

3 Exhibit 1 Latin America's Formal Economy Will See An Influx Of Young Workers Latin America Population Distribution 2010 Exhibit 2 Latin America Population Distribution 2050 Source: ECLAC (Economic Commission for Latin America, the Spanish acronym is CEPAL) Latin America's Nascent Pension System Is Becoming More Developed Unlike Europe and the U.S., the Latin American private pension fund system is relatively young. SURA Asset Management's large size will allow it to capture a significant share of a growing pie of AUM as the system develops. Chile's mandatory pension system, which began in 1981, is the oldest in the region and has served as a model for other countries. In the early 1990s, Colombia and Peru adopted a similar system, followed by Mexico in As of December 2013, mandatory pension asset managers' funds in the region managed approximately US$ 430 billion in AUM. Market penetration still varies widely from country-to-country. In Chile, pension fund AUM accounted for approximately 60% of GDP, while Mexican pension fund AUM equaled 13% of GDP. Given the relatively recent establishment of the private pension funds system in the region, and the fact that most funds are in the asset accumulation phase, with the number of new entrants far surpassing retirements, total AUM will continue to grow over the next 20 to 25 years. 3

4 SURA Asset Management Is Well-Positioned To Take Advantage Of This Regional Demographic Transition Following Grupo SURA's (SURA Asset Management's parent company) 2011 acquisition of ING s business in the region, SURA Asset Management now has operations in Chile, Mexico, Peru, Colombia, Uruguay and El Salvador. In each of these countries, workers' pension fund contributions are mandatory and are based on set percentage of each employee s taxable salary. As a consequence, any increase in the formal work force and/or in real wages automatically leads to a rise in AUM for firms like SURA Asset Management, providing a stable source of revenue growth. SURA Asset Management's management has forecast that the company s AUM base will rise on average 14% on a yearly basis, reaching US$ 227 billion in The company also benefits from the strong economic and sovereign credit profiles in the countries where it operates, with more than 70% of its AUM base located in countries with the highest sovereign ratings in the region, including Chile (Aa3), Mexico (A3) and Peru (A3). More than 98% of its AUM is in countries at or above the Baa rating level (see Exhibit 3). Exhibit 3 SURA Asset Management Operates in Countries With a Record of Strong Economic Performance Real GDP Growth (% Change) Country / Rating Mexico / A3 Chile / Aa3 Peru / A3 Colombia / Baa2 Uruguay / Baa Source: Moody's Investors Service SURA Asset Management is now the largest pension fund manager in Latin America, with approximately 23% market share, which is more than twice the size of the second-largest asset manager in the region (MetLife has approximately 11% of total AUM). Though the firm is headquartered in Colombia, its revenue sources are highly diversified geographically (see Exhibits 4 and 5). 4 Exhibit 4 Exhibit 5 SURA Asset Management's Diversified Business Footprint Reduces Concentration Risks SURA Asset Management's Diversified Business Footprint Reduces Concentration Risks Breakdown of AUM by Country Breakdown of EBITDA, By Country Source: SURA Asset Management and Moody's Investors Service Source: SURA Asset Management and Moody's Investors Service

5 SURA Asset Management is also well prepared to maintain its market position. Investment guidelines set by regulators have generally led to similar returns among all funds operating in each country, reducing incentives for customers to switch between asset managers. SURA Asset Management's primary source of revenue comes from management fees charged to its pension funds. In Chile and Colombia, fees are based on the client's salary. In Mexico, fees are based on AUM, while in Peru fees are based on a combination of both methods. Chile and Mexico are the countries with the highest operating margin, at more than 27%, and make a major contribution to consolidated income. Operating margins in Uruguay exceed 50% but with modest AUM currently, that business makes only a small contribution to SURA Asset Management's bottom line. Exhibit 6 Consistent AUM Growth Contributes to Earnings Stability SURA Asset Management's Assets Under Management (US$ Million) Source: SURA Asset Management and Moody's Investors Service SURA Asset Management has also developed complementary services and products, which will allow it to increase client loyalty even after its clients begin their retirement. Through acquisitions and the development of companies offering wealth management (voluntary savings), life insurance, annuities and brokerage services, SURA Asset Management will be able to maintain long-term relationships with clients. Market penetration in these industries is low, which means there is significant growth potential if compared to developed economies (see Exhibits 7 and 8). Exhibit 7 Wealth Management Services are Relatively New to the Region, Highlighting Growth Potential Wealth Management Funds AUM as % of GDP Source: SURA Asset Management with FIAFIN and IMF. Figures as of Dec-12 5

6 Exhibit 8 Life Insurance Market Penetration in Latin America Lags Far Behind the US and Europe Life Insurance Premiums as % of GDP Source: SURA Asset Management with Swiss Re Sigma Report, Statistical Report (Figures as of 2012) A Diversified Business Model Lays the Foundation for Steady EBITDA Growth SURA Asset Management's ability to accumulate and retain AUM, and its dominant market position in Latin American countries that have promising growth prospects, will lead to higher earnings over the next five years. We expect that given its size and economies of scale, the firm's average profit margins will rise to 30% from the current 20%, and EBITDA will more than double to $914 million in 2018 from $437 million in 2013, providing ample cash flow for debt service. Following the company's issuance of a $500 million bond in April 2014, debt-to-ebitda remains below 1.9x on a pro forma basis, which is a manageable amount of leverage for a company with SURA Asset Management's strong business model, large AUM base and stable fee growth. Exhibit 9 SURA Asset Management's EBITDA Generation Adequate Capacity for Debt Service (US$ Million) Source: Moody's Investors Service 6

7 Key Risks Include Exposure To Economic Cycles And Potential Regulatory Changes Although the economic outlook in the countries where SURA Asset Management operates is positive, the company's business model is highly linked to the region s economic cycle. In Latin America, economic performance is especially sensitive to commodity prices, government spending, global financial market conditions and regulatory changes that may alter SURA Asset Management's capacity to generate revenue. We expect economic growth in Latin America in 2015 will be the strongest in Chile, Peru and Colombia. In Mexico, sweeping reforms of the country's energy, financial services and telecom sectors will boost long term economic growth and work force generation. Exhibit 10 Good Expectations for Economic Growth Real GDP Growth (% Change) Country Mexico Chile Peru Colombia Uruguay 2014F 2015F Source: Moody's Investors Service Legislative changes that may alter the industry landscape in the region include: 7 Mexico: There is strong political pressure for regulators to reduce the average fees that pension fund managers charge. Congress is considering a change in the law that would modify the current fee scheme, which is currently based only on total AUM, to incorporate fund performance. The intention is to reduce average fees to less than 1.0% of total AUM gradually over the coming years, from the current average of 1.2%. Chile: The government proposed a new pension fund manager in June 2014 that may compete with other privately run asset management firms in a bid to reduce management fees and improve client services. This may create pressure for SURA Asset Management to reduce fees to maintain its market share.

8 Moody's Related Research Credit Opinion: Sura Asset Management SA Industry Outlooks: Argentina's Bond Fund Industry Outlook Remains Stable, July 2014 (172763) Mexican Bond Fund Industry Outlook Remains Stable, June 2014 (172129) Brazilian Asset Management Industry Outlook: Economic Growth Supports Stability, April 2014 (169879) Special Comment: 8 Brazilian Asset Management: Sector Profile, April 2014 (169864)

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