Evolution in the CEE lending market
The corporate lending market in Central & Eastern Europe is experiencing a cautious recovery. Stefan Verhoeven, Head of Corporate and FI Lending for CEE at ING Commercial Banking, explains how the market is changing and why relationship lending is set to become more important for corporates.
As the storm clouds over Central & Eastern Europe (CEE) begin to recede, the region is enjoying an increase in confidence in both the corporate world and the bank lending market. However, with recovery in the European Union – CEE’s largest export market – still underwhelming, the borrowing appetite of corporates remains relatively low compared to the period before the start of the financial crisis.
This low level of activity also reflects changes in the behaviour of corporates. Companies in CEE have become resilient by necessity: having been through multiple crises in the past they are adaptable and have learned to handle external shocks well. Companies that had high capital expenditure and high leverage and that relied on short-term financing before the crisis have now changed their ways.
Many corporates subsequently de-leveraged while others successfully refinanced in 2010 and early 2011, when a number of banks were trying to boost their market share by offering lending at attractive rates. In addition, the experience of corporates during the crisis in 2008 and 2009 encouraged them to become more prudent and depend more on internal sources of funding, reducing demand for lending. At the same time some borrowers, particularly higher quality names (many of which are from Russia), have turned to the bond market as an alternative source of funds, reducing their dependence on bank lending.
It should, however, be noted that CEE – which implies the CEE lending market – is far from homogenous. Each national market has different dynamics with Turkey and Russia experiencing the strongest loan growth in the region on the back of rising GDP. At the same time, the dynamics of each market vary. Corporate lending in Russia and Ukraine tends to be dollar-based, for example. Most other markets in the region are focused on local currency lending although there is also appetite for euro-denominated loans, both in eurozone and non-eurozone countries.
Changes to lending
As the patterns of demand for borrowing change, so too is the supply of funding. CEE lending remains dominated by banks with foreign owners and the nature of many banks is changing. Pressure by regulators to retain capital in-country, for example, is prompting international banks to become more local in their approach.
Similarly, while historically there has been a relatively low level of deposits to fund assets in the majority of CEE countries – with the Czech Republic the most notable exception – dependence on cross-border funding of loan assets is now being reduced. This reduction is partly the result of regulatory restrictions on the movement of liquidity between markets and an increased regulatory focus on the deployment of local deposits. However, in many countries (such as Poland) local deposits have grown significantly as consumer savings have increased in the wake of the crisis and banks are simply putting these local currency deposits to work in the local market.
Given relatively weak demand – and multiple alternative sources of supply – competition among banks to lend is strong. Despite concerns of a knock-on effect from the crisis, most banks remained in CEE. Moreover some bank have expanded their presence in corporate lending, most notably Russian state-owned banks: last year one leading Russian bank bought the CEE operations of a Western European bank. Russian banks are generally increasingly lending, not only in Russia and Ukraine but also elsewhere in Central Europe.
Meanwhile some European banks have been forced to scale back their lending activity due to capital constraints, impending regulatory change and the need to deleverage. However, the impact of deleveraging by European banks has generally been lower than expected following ECB liquidity programmes and the postponement of the Basle III liquidity ratio. Moreover, greater competition from Russian banks – as well as some US and Japanese banks – has more than filled the gap in the current low demand environment.
Changed lending dynamics
The resilience of most existing banks and the entry of new banks into the CEE lending market have ensured that credit remains available for many companies. Moreover, given strong competition – both between banks and between bank lending and the bond market – pricing has fallen sharply in many markets (with the largest drops in markets that have enjoyed strong liquidity, such as Poland). However, there is an important caveat as attractive terms and less restrictive covenants are only available for the best quality names.
Given the constraints in funding markets, banks are now more careful regarding the currencies of the loans they grant in CEE and also differentiate more clearly between currencies in terms of costs. When a borrower wants to borrow only in dollars, a bank may offer a club loan with euro and dollar tranches with different lenders participating in each of those tranches. That means that the freedom to borrow in any currency of choice with no impact in terms of cost is a thing of the past.
Banks are generally becoming more careful about the options they offer borrowers, also in their approach to liquidity back-up lines. This is largely prompted by the impending introduction of Basel III, which will raise capital requirements for banks and introduce a leverage ratio and stricter liquidity and funding requirements. There is also less emphasis on asset-based lending and more focus on cash flow-based lending.
At the same time borrowers are also becoming more sophisticated in how they access funding. In the past, many companies simply looked at borrowing on a country-by-country basis. However, companies in CEE are increasingly expanding cross-border and are seeking to take a broader view of their overall borrowing requirements. Banks that operate across CEE can play a helpful role as companies adopt such strategies.
Relationships to the fore
As some new players have entered the CEE loan market, the changing characteristics of the market have elevated the importance of relationship lending. For banks, lending to longstanding clients makes sense: the bank understands the client’s business and credit profile and has the ability to cross-sell, which is increasingly important for allocating scarcer capital and returns on such capital. Relationship lending is also attractive for borrowers. It makes banks more willing to lend at times of uncertainty or credit scarcity. As a result, it provides greater predictability and stability in terms of certainty of funds. The period of post-crisis uncertainty – for both banks and corporates – has meant that many recent syndicated corporate deals have involved predominantly bank clubs composed of relationship banks.
ING is committed to CEE - it has extensive operations, a willingness and capacity to lend along with a strong track record and a history of capital investment in the region. The bank is strengthening its core client relationships and seizing opportunities in the market. ING expects lending to be mutually beneficial: in return for dependable lending, it wants to be part of a long-term cooperation that includes non-lending business.
When ING commits to lend to a client, over time it expects to become a core bank and reciprocates by taking the time to really understand the client and its sector so that it can become a trusted partner and advisor. ING is also eager to leverage its international network in CEE, Western Europe and globally to support clients as they become increasingly regional or global in nature. ING offers a common approach to banking relationships across multiple markets and provides guidance as they seek to broaden their sources of funding, for example by accessing the bond markets.