Jun 01

Painting yellow lines under the car..

The Back Office can party as well as any Sales Team. But at a gathering at the end of last year of Leasing Operations and Accounting folk, the festive spirit concealed dark problems and challenges to be faced in 2013. I carried out a straw poll and somewhere between a third and a half of all the bank lessors I spoke to had portfolios that had been classified Non-Core. My survey was admittedly unscientific, and not carried out on a fully representative (or sober) sample. However the Non-Core contingent of bank lessors far exceeded those that were bullish for 2013. Although the headlines at the end of the last year centred on the withdrawal of ING from the UK leasing market, the other trend I would draw was the bigger ticket portfolios have been the hardest hit.

What have we done to deserve this?

Unlike most of the business that has ended up in this new regulatory “naughty corner” these portfolios are not “Bad Bank”. These are mostly good credits -with good collateral in asset finance – and good return on equity. The assets are fully matched by funding and all of the exposures to interest rates or currency are fully hedged. But they have been found guilty of the new post-crisis sin of being illiquid.
Meanwhile regulators have just classified domestic mortgages as liquid as cash – easy to sell within a thirty day market crisis. Wasn’t the securitisation of mortgages where this whole crisis began?
Another other regulatory pitfall for bank leasing comes from risk weighting of assets required for Basle. For bigger ticket finance there is not the volume of data needed for the Internal Ratings-Based Approach, so they have to use the cruder risk bands of the Standardised approach imposed by regulators.

In short it feels like the regulators have painted double yellow lines under the parked car and it is now being towed away.

What can we do now?

Once a portfolio has been deemed as Non-Core by those who sit in judgement in Strategic Reviews, there is to be no right of appeal and no way back. For the question “What can we do now?”, the short answer would seem to be “Not a lot”.
A report by Deloittes identifies three distinct approaches for managing Non-Core Assets:

  • The Classic Bad Bank approach where toxic assets are hived off into a separate entity, which was the approach used at Northern Rock. Such an approach is less suited to good quality assets that have been made non-core because of liquidity, risk weighting or just lack of strategic fit.
  • A virtual Non-Core business where assets are moved to a separate division and managed as a distinct business. This can be seen at RBS where the Non-Core Division has its own pages in the annual report and its own web pages. This approach ensures that the non-core business is actively managed away and may achieve the best value. Managing the business separately allows for more rigorous cost control of operations as the business winds down, using contract staff and even outsourcing operations. However this can be damaging to customer relationships – it certainly doesn’t send the message that “we value your custom”.
  • Segregated Portfolios where assets are kept in situ, but with separate management reporting. This may allow the portfolios to be more easily sold as a going concern, and even continue to take on new business. However it is also less transparent and operational management may lack focus to manage away the business and may even be held harmless for the portfolio, which takes away any accountability.

The £10Bn Haircut?

According to the latest research by PwC in 2012, European banks have more than €2,500Bn of Non-Core Loan Assets, of which just over €1,000bn were Non Performing Loans. These are expected to take at least the next decade to run off or dispose of. Disposal of Non-Core Assets was expected to grow to €50bn in 2012. (Compare this to the European banking mergers and acquisitions market that averaged €70bn each year between 2003 and 2010.)My back-of-the-envelope extrapolation of the PwC Figures puts the UK Banks non-core good book assets at around £200Bn (which is the same figure as UK Building Societies total lending). If this “storm sale” realizes 95% of the good book value this would give a regulatory haircut of £10Bn (coincidentally pretty much what the Banks are paying out for PPI mis-selling).
This is before taking into account the human cost to those in the industry, and the lost opportunities for business finance. It is a big price to pay to avoid the reoccurrence of the £37Bn government bailout of the UK banks in 2008, and is largely being paid by parts of banks less to blame for the crisis.

A version of this article was published in February 2013 LeasingWorld

Permanent link to this article: http://transformingfinance.eu/painting_yellow_lines/