Alfredo Sáenz Abad - Second Vice Chairman, Chief Executive Officer, Member of Executive Committee, Member of International Committee and Member of Technology, Productivity & Quality Committee José Antonio Álvarez - Executive Vice President of Financial and Executive Vice President of Investor Relations Division Angel Santodomingo Stephen Jones - Chief Financial Officer Alfredo Sáenz Abad: [Spanish] Good morning. We're going to begin the presentation of our -- the results for the first half of the year. And as we usually do, I will be talking about the main aspects for the first half of the results of the group, and then José Antonio Álvarez will look at the business areas in more detail. And lastly, I will close with my conclusions. The first thing that I should point out is that the economic context continues to be very difficult with a great deal of uncertainty in the global deterioration of confidence. By areas, renewed tensions in Europe and the market's lack of confidence reflected a sharp increase in the risk of -- in the risk premiums of peripheral countries such as Spain and Italy. The U.S. still performs better. Its economy is growing moderately, and Latin America remains strong despite the international context. In this context, our strategy is to strengthen the balance sheet, supported by our capacity to generate earnings. The 3 key elements of the quarter are: First, the strength of the upper part of the income statement, pre-provision profit was EUR 12.5 billion after again surpassing EUR 6.2 billion in the quarter. Second, in the quarter we made provisions for real estate in Spain of EUR 2.78 billion. Business took [ph] coverage to 46% of the total problematic real estate balances and represented more than 70% of the requirements of the Royal Decree. Third, we combined these provisions…

[Spanish] Good morning. As usual, we will now answer questions coming in through various channels. First, we'll begin with questions that have been coming in through our website. I'll divide it into themes so we can answer as many questions as possible. And the first set of questions about strategy and regulation. There are several questions about the Mexican IPO, our vision and our plans. And I'll just explain, because questions come up 2 or 3 times, that we maintain what we've said in previous quarters, is that the IPO is in our plans and that we will provide more details as the months go by. No change with regards to what we announced in previous quarters. There's another question that has come in several times, the capital gains on the insurance deal that we reported to the CNMV as a relevant event a few days ago, if that's part of the results we've posted. And the answer is no. Those capital gains have just been terminated, and therefore, they will be charged through the current quarter. Then there's a question from Juan Pablo López from Espirito Santo and Carlos Peixoto from BPI. What do we expect from the Oliver Wyman's stress tests, the evaluators in the process which begins from now, and whether our policy or our current view is to take advantage of the situation to acquire market share -- and they say in Spain, but I suppose they mean in general. Alfredo Sáenz Abad: Okay, as you know, we are now all undergoing the bottom-up stress test, which has different stages and which will conclude at the end of September. What do we expect? Well, we expect nothing different or very different from the results of the top-down stress test. In our own particular case, in the…

The second set of questions about dividends and remuneration after Telefonica's announcement yesterday. Question from Santiago Lopez, Exane, and Stanislas Behone [ph] from BNP Paribas and Daragh Quinn in Nomura. With regards to our intentions versus payout and dividends, are we going to modify our dividend policies both for cash and scrip dividends? That's the dividend for remuneration. Do we think that we should limit the remuneration to board members or executives? Would that be a positive step? Or we do think similar to Telefonica? Alfredo Sáenz Abad: Our dividend policy has been set and reported to the market. It was reported expressly in the last results presentation, and the only thing I will add now is that I can confirm that we will maintain our current payout policy. There's no change. As for remuneration to executives and board members, this is an issue that we are reviewing and will be discussing soon, and we will probably follow the approach followed by other companies. But it's not something that I can be specific about yet, because it has to be decided by the board in due course.

As for asset sales or divestments. Several questions from Britta Schmidt in Autonomous and Daragh Quinn from Nomura. First, about real estate assets. Are we interested in selling package real estate or selling larger chunks of property instead of the individual property sales we're carrying out? Has demand risen? I suppose that means for real estate assets in Spain. And are we willing to offer bigger discounts on our sale price? And how large would we be interested in selling to a bad bank? And what we think about bad bank? That's about real estate. And Marta Romero from Keefe is asking about Banesto. Will it continue to trade, buying, selling? What percent did it make? Alfredo Sáenz Abad: Okay. If you look at the numbers, you will see that in Q2, property sales were larger than entries for the first time, seen the turning point this quarter. Last quarter, as you know, it was almost flat with a very slight rise. And we announced already that the following quarter probably, but of course now it's a fact, sales would exceed new entries by EUR 200-and-some million. So that's first significant breakthrough. Foreclosed assets no longer growing. Second, sales in Q2 have been very good. We've sold EUR 1,300-and-some million in the quarter. And that's also milestone, because we sold more than in almost in the whole of 2011, so we've been very successful with our sales strategy. We have no problem with considering sales of individual properties or sets or chunks of property. Depends on offers and prices. Would we be willing to sell packages or chunks of assets? And the answer is yes, as long as the price is right. What sell price are we obtaining? Discounts between 35% and 45%, so similar to the level of provisions…

With regards to the selling of assets, there is a question from Benjie Creelan. How much are we funding the clients when we sell them our real estate assets? It's about 50%, I think it's a 56%, if I remember correctly, what is being funded through mortgages for the individuals who buy a property from Santander. There's a question from Espirito Santo and from Sergio Gamez from Merrill Lynch. How much is spending provisioning of the Royal Decrees? I remind you that the total impact was EUR 8.8 billion minus EUR 2 billion for the capital buffer, and we already said that we have more than 70%, so that's more or less what we need to provision, the difference. The charge to capital gains or some charges against the P&L. And there is another question also on the update of the timing of RBS, but no changes there. 2013 is the year in which we hope to carry out this deal. A question from Sergio Gamez and another -- and JPMorgan. On the MOU, do you see any alternatives to lower the cost of sovereign debt? Do you see an additional LTRO? Do you think that Spanish debt can be stabilized? Alfredo Sáenz Abad: Well, it's a very speculative question. So it's very difficult, really, to give you a quality opinion. We are witnessing movements which I think have a certain significance to solve the problem. And we hope that these movements will bring about results, and we hope that the spread of the debt will be reduced. And we hope that the risk premium will fall. But as I say, this is in the hands of politicians. And so that's all I can say.

To finish with this area of questions, there's another question on real estate assets, but I think it's already been answered on whether we expect to continue to sell assets in Spain in 2012, at what price and what will be the impact of the discount? We gave the discount, we said how much coverage we have for real estate assets, so I think you can come up with a conclusion with regards to the impact on the income statement. And yes, we want to continue to sell real estate assets in the second half of the year at similar prices as in the first half of the year. With regards to the financial area, there are 3 or 4 basic concepts here. I'm going to try to divide the questions into these different concepts. The first one is LTRO, the money that we have in LRTO (sic) [LTRO], our appeal to the European Central Bank size utilization. Number two, therefore, ALCO and the weight of ALCO in the financial spreads; number three, sovereign debt, breaking down the sovereign debt. These are the 3 main subjects, and we have several analysts asking questions on these things. A series of analysts have asked about the financial margin net interest income impact, et cetera. José Antonio Álvarez: Let me try to elaborate. Of the 3 that you asked about, ECB size utilization. Well, in the first half of the year, what we see is a difference with regards to previous quarters, which was the effect of the sovereign downgrades. And with correlation 1 to 1, the downgrades in the bank's rating, in the short-term rating more than the long-term rating. So what we've seen since April were some downgrades and then the sovereign downgrades, which have had 2 or 3 impacts. This…

Yes. Just to go over the questions and not -- to answer all parts of the question, there is a question from Juan Pablo López from Espirito Santo on the mark to market. How do we think it's going to evolve the balance of the debt? And with regards to that, the impact of the valuation adjustments, what impact is that going to have on BIS II and III capital ratio? And basically, those are all the questions regarding debt.

Well, the mark to market, the net one is about 2 billion negative of the whole portfolio, and the balance, I said, is relatively stable. The balance in the future of that will -- it will depend on the performance of current accounts and the hedging needs. Therefore, I think it will remain relatively stable. The impacts of Basel II, no impact, and in Basel III, it seems that there might be an impact, but it's still too soon to tell.

Net interest income. Locovare [ph] and Britta Schmidt from Autonomous asked about the net interest income. First of all, in general, by areas -- and then by areas, the Spanish one is going up. Well, there are more questions about this from other analysts. The increase of the net interest income in Spain compared to the fall in other markets. What is the effect of the exchange rate? And specifically on the net interest income at the Santander network and also at the corporate sector. José Antonio Álvarez: For the net interest income, we would have to elaborate by countries. In the Santander networks, starting there, good performance there in terms of the volumes and a slight increase in our lending spread. It has been going up consistently. With regards to other geographies, in the U.K., it's due to the liabilities. And in Brazil, which is another important element, the net interest income is increasing because of volume, because the spreads remain stable, but the volume is going up. In other countries, I don't know. In Poland, it's based on the volume. In Chile, there's a certain deterioration of the spreads because of inflation. I think these are the main units.

Talking about capital now. Francisco Riquel is asking about the organic generation of capital until the end of the year. No changes there. 10 or 10 basis points per quarter is more or less what we have been generating. Francisco Riquel also asked about the capital buffer of the EBA, what is going to happen with the sovereign buffer? Well, it's being discussed. That's being debated right now, and we'll have to wait for Q4 to learn more about that. There's a question from Carlos Peixoto. Why has the core capital fallen by EUR 850 million in Q2? That's basically because of the exchange rate. I remind you that differences by exchange rate affect the capital. On the other hand, risk-weighted assets also move along the same lines. And Frederic Trech [ph] asks about the levels of EBA in June, but we already said they are well above 9%. There's a question from Ignacio Cerezo from Credit Suisse. What would be the impact in the capital and in the positioning of a downgrade of Spanish -- of the Spanish rating of the sovereign bonds? Do we have any ideas on additional impacts of the -- on Santander? José Antonio Álvarez: Well, this time, we're just speculating here about a downgrade to non-investment grade. Well, we would have to see what the performance of prices would be. Given the levels of the bonds right now, it isn't for sure -- certain that a loss of investment grade -- well, we would have to see what the impact on the price would be in order to answer this question.

Juan Pablo López from Espirito Santo asks about the -- how are we going to use the DTAs? What will be the impact under Basel III? I remind you that there are 2 types of DTAs, those of temporary differences, which are charged against the 10% or 15%, and that will be part of the impact of Basel III in January of 2013, about 90 or 100 basis points. And then negative taxable income, that would be charged against -- well, the schedule, the timetable is going to be 20 basis points a year, half of that will be by DTAs. So you can calculate the figures. The reason why DTAs is generated, 40% comes from Brazil, 40% from Spain. Brazil, it's to deduct it from provisions. And in Spain, it's the impact of the Royal Decrees, and we hope and we wait for profits to be generated to use them. The figures are 18 billion in assets and 3 in liabilities, so net would be 14 billion to 15 billion. And then with regards to positioning, they ask about the duration of the debt, José Antonio, if you'd like to elaborate. Britta Schmidt asks about the unencumbered assets. And that's basically it for debt questions. José Antonio Álvarez: Well, the debt is related to the duration of current accounts, 3 to 4 years. The encumbered assets, I guess, it's -- he's referring to mortgage-backed securities. It's 119%, the relationship between assets and the securities backed by assets that are issued.

Ignacio Cerezo from Credit Suisse asks about the capital gain of the liability management exercise in England, if it's EUR 500 million and how is that capital gain going to be used? And Mario Loros [ph] is asking about the provisions for the Royal Decrees. Why are these done at the corporate center? Alfredo Sáenz Abad: Yes, in effect, there has been a capital gain of EUR 500 million in the U.K. for the time being. We -- its use is pending. We will decide in the future what we do with that money. But for the time being, it has been used to reinforce the balance sheet. But at the end of the year, we will decide how we will use it.

Going into risks now. There are questions -- first of all, generic questions on the performance of risk and the -- your outlook on the NPL rate. We have several questions regarding that. How do we see the performance of the NPL rates at a group level but also in the main geographies? And what has given rise to the worsening of debt everywhere? So would you like to talk about the general quality of risks? Alfredo Sáenz Abad: Well, in terms of the NPL rates, we have different situations depending on the market and also different forecasts. In the second half of the year, the NPL rate went up in Spain. It went up also in Brazil and in Chile. So these are the 3 places where the NPL rate went up in Q2. The reasons for these increases, I think, have been explained well. In Spain, I don't think I need to explain them, because it's quite obvious. In Brazil, we've had the first half of the year where the macro situation was worse, and therefore, that made the NPL rate go up, but not only at Santander but throughout the system. Private banks in Brazil have published -- have posted their quarterly results a few days ago, and you will have seen that in all of them, the NPL rate went up. And it went up for reasons -- for the same reasons that they go up for us, too. So we're being affected like everybody else. And they also goes up in Chile for what José Antonio Álvarez explained, because of the specific situation in Chile with the problem of La Polar. We have a provision for that, and that is the explanation of where we are. Now looking forward, what do we expect with the…

More questions on risks. We have 3 questions. The first one you already more or less answered on new entries. It's from Juan -- Francisco Riquel from N+1, and other analysts ask about the level of entries. Is there any reason behind this increase in the NPL rate? Although you more or less already answered that question. Then a second question that refers specifically to Spain on the NPL rate and on real estate segments, more specifically in SMEs and individuals, it improved somewhat in the second quarter, but what do you expect in the future? And finally, also referring to Spain, Matteo Ramenghi and Antonio López [ph] from UBS and Espirito Santo. Can we talk about the restructured or refinanced loans, basically mortgages in Spain? What levels are we talking about? And how could that affect you? Alfredo Sáenz Abad: Well, I think that the presentation you will find on the web deals with the NPL rate in different groups. You will find that divided into the different segments. So what do we see in those graphs that I repeat you have in the presentation itself. In -- what we see in those graphs is that for mortgages to individuals, the NPL rate remains stable. It is not growing, and that confirms what we've been saying, which is that mortgage loans to individuals are very resilient and even more so when they are concentrated in segments of the population, as it is in the case of Santander, which obviously is different to that of other institutions, which might have a different makeup of their loan portfolio. Also consumer loans, while the NPL rate is going down in consumer loan, that is very well managed. And the same thing can be said about the credit card. In the these 3…

The last part, which was restructuring, I'll remind you that a year ago, we rolled out a product of mortgages in Spain, and the volume of those who have decided to go for that product is about EUR 2 million, and the bad debt is EUR 7 billion to EUR 8 billion ever since the beginning of the crisis. And with regards to Mexico, Marta Sánchez from Keefe asks about provisions in Mexico. Is this increase for this quarter, is this a reason for that? Well, it was the first quarter that went down, but the $130 million that we provisioned this quarter, is that in line with the EUR 125 million or EUR 120 million that we had been doing in previous quarters? The risk premium is 1.5, 1.7, so nothing extraordinary to point out there. With regards to Brazil, we have questions from Marta Sánchez, Juan Pablo López and Ignacio Cerezo. Also, David Vaamonde has a question. They ask about 2 things basically. One is the guidance. Are we going to reach the target? What is our idea for our guidance? How do we see growth in the second half in Brazil? Although you said something about that when you talked about provisions. And the second question is quality in Brazil. When are we going to see the peak? How is that going to perform? But you also already mentioned that, but perhaps you'd like to elaborate, because there are several questions on that. Alfredo Sáenz Abad: Yes, I could say a bit more on that. In Brazil, clearly, the top part of the statement is really good, really good, again. Better than our competitors, which means that the bank in terms of its vitality and its retail capabilities and business growth and so on is performing really…

Right, and to finish with risks, there's a couple of questions from Britta Schmidt from Autonomous, who's asking do we expect any more PPI charges in the U.K., both in 2012 and for the future? We've said that we've provisioned everything for the PPI charge already, so we don't expect to have to provision any further than we have already. And I'm told that there have been several questions about the fully loaded Basel III effect on our capital. And again, it's 20 basis points, approximately. These are estimates, because the regulation is not enforced yet, but about 20 basis points, 15, 20 basis points a year, of which I said 3/4 could come from the DTA impact based on what we use up on coming years. As for the different business areas, specifically, other than the questions we've already answered, starting with Spain, there's a question from Alex Pelteshki from ING about the different trends in deposits in Santander and Banesto. How do we explain these different trends? And what do we think about volume growth in lending in the future? Alfredo Sáenz Abad: Well, if we -- on deposits, if it's true that in the first semester Santander grew in deposits much more than Banesto but also much more than anyone else in the system. As we said in the presentation, Q1 -- sorry, the first semester was very good for deposits for Santander for different reasons, which I won't repeat, but which have already reviewed. In Banesto's case, there's basically a problem with policies. During Q1 and even in April until May, Banesto had a funding policy that was very focused on profitability and, therefore, reducing the cost of funding. And as consequence of that, it didn't grow very much. In fact, it lost volume in that context. But since May, Banesto changed its policy, I mean [ph], May and June, speaking about Q2. But actually also in July, already Banesto has been growing its deposits strongly. But again, it's the consequence of a deliberate strategy to reduce its costs and also a very comfortable liquidity position in Banesto's case, which required no special props, and so, therefore, it was a deliberate choice. But now its strategy has changed in May, as I've said, and starting in May, we've begun to see a growth of almost EUR 800 million a month in the last 3 months.

Okay. As for lending, Matteo Ramenghi from UBS is asking about the growth in lending. There has been some growth in lending in the Santander network, a slight fall in the number of loans, but I suppose he actually means whether there's any public sector component in that growth, since at the group level, there's a EUR 5 billion growth. The group level in Spain, there's EUR 5 billion increase. Can we explain the mix behind that growth in lending, especially public sector component? And second, since we were talking about lending and deposits, Daragh Quinn is asking about the evolution of net interest income in Spain in the Santander network, the reasons for that positive trend and our outlook for the future. I think this last question has already been partly answered, but perhaps you could give an outlook on the evolution of net interest income in Spain. Alfredo Sáenz Abad: Can you ask the question again? Sorry, I was talking and I missed it.

Two parts, first about the growth or rather the drop -- the total volume of loans has dropped, but our -- there's been a rise in our exposure to the public sector. Alfredo Sáenz Abad: Right. In part, the growth in lending in part is due to the funding of suppliers for local government.

Yes. And the second was about net interest income, our outlook for the coming years, for the coming months or year, why it's been improving so much in the Santander network and in Spain in general. And the second part of the question is our outlook for the coming quarters. Alfredo Sáenz Abad: Well, I think for Santander, I explained that a little while ago. I'm not sure what the question was. But in the Santander network, you have the effect of the growth in deposits plus the improving spreads on loans, and as a result, net interest income grows significantly. In the rest of the year, the trend will continue in the same direction.

Right. And to finish Spain, the question about the rising loans to the public sector. Yes, it is a EUR 5 billion increase, and the EUR 4 billion, that's because of our program for local councils to pay their suppliers. As for the U.K., Alex Pelteshki, Ignacio Cerezo -- from ING -- Ignacio Cerezo from Credit Suisse and Francisco Riquel from N+1 are asking about net interest income in Santander U.K. Can we give some idea why it's fallen? Is there any sort of funding pressure? Can we give some outlook on the quarterly minimum and how we expect it to evolve in the next quarters? Alfredo Sáenz Abad: Right, in the U.K., net interest income in the second quarter fell. And it fell basically for 2 reasons, and I'll explain how we see it in a minute. It fell because there's been issues, issues that we are replacing short-term funding with long-term funding, and that's more expensive. And it's almost EUR 35 million in the quarter for the U.K. And a similar amount is the cost of deposits. In the U.K., there's been 2 factors, a very special ISF campaign, which always takes place in April, because it's a product -- tax product, and there's always a lot of competition for that. And this year, specifically, Santander U.K. was able to attract a lot of deposits through this campaign and some more aggressive price policy, more aggressive for 2012, because in 2011, I won't say names, but there was another very big retail bank that was aggressive and made us lose market share. We have now regained market share by being a bit more aggressive in attracting deposits in the first semester of 2012. We had the ISF campaign, which was very successful, and that has brought up the cost of deposits, that GBP 30 billion or GBP 40 billion. And looking ahead, I've explained recent developments. We feel that net interest income will probably continue to fall slightly in Q3 and will stabilize in Q4. So that's our outlook today, a higher cost of wholesale funding because we've moved EUR 25 billion from short term to medium term, plus what I said the reason for that. As for the bottom line, standard recurring profit will be somewhere between Q2 and Q3. will be improving somewhat in 2013, around then, around an amount halfway between what we made in Q2 and in Q1. And that will be in the next 2 quarters, more or less. And then after that, it will grow again. And if you remember what we said during our Investor Day in London in September, we spoke about that smile-shaped curve in the U.K. results, and that is the curve that we are seeing, a slight slump initially and then a turning point in recovery after that. And that's what we're seeing and all I can tell you for now.

Moving onto Brazil. There are 3 questions, all about net interest income. On the first is Juan Pablo López from Espirito Santo, how do you think net interest income will evolve in the next quarters? Also, Daragh Quinn from Nomura is asking whether we can give some kind of outlook for net interest income and revenues. Second question for Brazil. Alex Pelteshki from ING is asking about volumes. Can we give any guidance on growth for the rest of the year and for the industry in general? And the third is whether there's any sort of strategy, José Ignacio Cerezo from Credit Suisse, do we have any sort of hedging strategy for our Brazilian net interest income? And what time, and how do we see hedging our net interest income in Brazil? Alfredo Sáenz Abad: Well, I think I've answered in quite a lot of detail about the Brazilian net interest income, past performance and outlook, both fee income and net interest income. And I think I said most of what provisions we'll do in the coming months. So basically, I think I've already answered that question, and perhaps José Antonio Alvarez could say something about our hedges. José Antonio Álvarez: I suppose he's referring to an interest rate hedge. I said before that we had EUR 15 billion in sovereign bonds, and that's the basically the hedge. And that covers the bank again to any fall in interest rates. And that's generally up to the maturity of those bonds, which tends to be about 3 years.

Okay. Well, that concludes all the questions. I hope that we've answered all the questions that came in over the Internet. There are no questions over the phone. So again, thank you very much for your attention. See you next quarter.