The last time companies were in the kind of downturn the UK now faces, their finances were trusted to a group of banks for whom relationships were all-important.
Barclays, Royal Bank of Scotland and Lloyds TSB were part of this small group and their “work-out” bankers developed a pattern of restructuring that was nicknamed the London Approach.
Under these “informal” rules, banks would work together to forge a deal and were supportive in the face of bad news. They would often extend the maturity on the debt, simply to keep the company going longer – however, insolvencies were much more common.
Times have changed. Financing is more complex and liquidity is short. Lending groups to some of the biggest companies are made up of hundreds of institutions, including hedge funds and not just banks.
Graham Rusling, head of business support and recoveries at Barclays Commercial Bank, the group that deals with the bank’s problem loans, says: “Work-out in the early ’90s was not as sophisticated as it is today and providing new money to a distressed company was much rarer than it is today. I believe most lenders with experience of the early ’90s understand that insolvency destroys value in most cases.”
Instead, banks have learnt that one of the best ways to recover their money is to cut the debt but share in the company’s turnround by taking a stake in it.
Duncan Parkes, head of business support at Lloyds TSB, agrees: “In previous downturns, the raising of interest charges and support fees could exacerbate the cost burden on a company when it could least afford it.
“We are better able to offer support that aligns our risk and reward with the company, postponing part of the costs until the business is restored to health, taking our reward through equity stakes.”
Like Lloyds, RBS’s work-out team is a profit centre, generating returns on their business.
Derek Sach, head of specialised lending services at RBS, says the bank has a distinctive way of dealing with problem loans.
“While some banks have the philosophy of just trying to get their money back as soon as they can, we take longer. We decide if a business is viable and then if so we keep it for years possibly, and take an equity stake,” he says.
However, the way banks tackle their problem loans and corporate customers does differ.
Mr Rusling’s Barclays’ team is technically a cost centre but also looks to generate an income, which it passes back to the team that originated the loan.
“Some banks run their support operations as profit centres as a means of monitoring and managing performance,” Mr Rusling says. “My view and experience is that this can be become a barrier to cases being referred into the team on a timely basis. It’s just a barrier that does not need to be there.”
However, those that do operate their teams as profit centres disagree.
“Business support is a ‘profit centre’ and our shareholders expect us to achieve appropriate reward for supporting our customers through their difficulties,” says Lloyds’ Mr Parkes.
“However, any income and costs are returned to our colleagues in mainstream [lending] to encourage them to transfer relationships as soon as difficulties emerge.”
In recent years, when times were good and debt cheap, these work-out teams shrank. But over the past year, many have been rebuilt.
Lloyds has been recruiting from the private equity industry to bolster its team that deals with company equity stakes the bank ends up with as a result of debt restructuring.
With banks’ new approach to restructuring, based on a greater inclination to take stakes in exchange for writing off debt, the amount of equity stakes they hold is set to increase.
“One issue that is coming to the fore is the less favourable treatment that clearing banks receive when they hold equity on their balance sheet compared with private equity firms,” Mr Parkes says.
Banks have to hold more capital against these equity positions than private equity funds.
While Mr Parkes believes there are good reasons for this, he feels there is a risk that it may discourage the “rescue culture” among clearing banks and he plans to lobby regulators and government about this issue.
Moreover, government stakes in banks are not expected to affect these bankers’ approach to restructuring.
Barclays’ Mr Rusling adds that companies that end up in his department are much more leveraged then they were in the early 1990s.
“Some businesses could hit problems more quickly this time because of the specific market conditions …the first quarter of 2009 could be difficult for businesses closest to the consumer,” he says.
“With so much expected distress, banks will have to focus their energy on businesses they think will have the best chance to recovery.”
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