Funding Drought for Corporates?
24 November 2008 · Steffen Pohl · London · Yang Liu · Frankfurt am Main

Funding drought for corporates It is a recurring pattern: despite the banking crises in full swing and a recession looming, many corporates were hoping for the good old days of cheap and plentiful funding resources to return - just to wake up to the fact that reality has even taken a turn for the worse. Last week Daimler sold €1bn of three-year bonds at a spread of 600 basis points above the interbank rate. These were distressed levels just a couple of months ago and are un-precedented given Daimler’s external debt ratings of single A. More corporate bond issuances are expected in the next few weeks and months which will increase the funding cost (spreads) by a factor north of ten compared to mid-2007.

Other corporates, being even less fortunate as having no access to capital markets, will need to rely primarily on bank funding. Despite all assurances by banks and politicians (e.g. Deutsche Bank have just announced that they have even increased lending to mid-cap corporates in Germany year-over-year) bank funding is likely to become harder to obtain and if so, then at a higher cost and under more onerous conditions. It is not that banks will not want to lend, they just will have less capacity to do so. A shrinking capital base has eroded their ability to lend. This problem is even compounded by the fact that corporate default rates are anticipated to rise which may lead to a downward spiral. We would not want to paint a doomsday scenario and surely governments will try to step in and help to ease the situation but there will be situations where it is not a matter of paying the higher margin for the loan but the desired loan simply not being made available. This in particular for larger investments and acquisitions scenarios and/or for corporates with a medium to low credit score.

It is imperative for a corporate to act now and to review the entire funding arrangements, including counterparty risk, their access to external funding as well as optimisation of internal funding through working capital optimisation and to take according measures. Maravon has the right toolbox and experienced consultant to quickly respond to your needs. See also Maravon's Financial Resilience Analysis Package.

QUO VADIS STRUCTURING?
24 November 2008 · Jörg Hörster · Frankfurt am Main

Structurers as Advisors to Clients
In the early nineties financial engineers or structurers visited their institution’s corporate and investor clients, analysed their capital needs and financial risk exposures and interviewed them about their risk appetite. Back in the trading room they had developed then tailor-made financial products that matched their clients’ financing and risk transfer needs. Structurers were intimate and highly reputable advisors to their clients. Their expertise helped to build and fortify the brands of investment banks and was the backbone of client loyalty to these investment banks.

From Advisor to Product Manager
In the late nineties investment banking began to become industrialised. Since then the tasks of a 'structurer' have changed completely, and so have the relationships between investment banks and clients. Structurers were not supposed any longer to visit clients and solve clients' financing and risk management needs. Instead, they were to produce standardized 'structured products'. Their job was to invent products with new future payoff-structures linked to uncertain market rates. That means that clients could gain exposure to those market rates subject to exactly the payoff-formula logic behind the product. These 'structured products' were off-the-shelf products without any pre-analysed reference to the clients' underlying business. In addition, the new generation of structurers created persuasive product-application storylines for various prospect segments. The storylines were then used to support product campaigns run by dedicated sales people. Pricing and risk management issues were de-coupled from product development in a good division of work. Quantitatively educated people, so-called “Quants”, contributed to find price proxies by developing formulas or algorithms for the discounted expected values of the future payoff-structures of the products. Quantitatively skilled traders in co-operation with their Quants developed portfolios of more basic financial instruments that were able to hedge the risk of the institution’s own positions in the products sold.

With this development a new investment banking technology, possibly even a new investment banking era was born. The processes were standardised and easy to replicate. The role-play was: Structurers – product management; Quants – pricing models; Sales – distribution; Trading – position and risk management. Such a business model was scalable and, indeed, grew with incredible speed. Side effects: The roles of structurers and others became uniform, thus interchangeable. Competition for the highly rewarded structurer job positions increased tremendously; however, the level of striving to match concrete needs of single clients decreased at the same time.

Quo Vadis Structuring?
With the collapse of the credit product market also the desks for 'structured products' of other asset classes such as rates, foreign exchange, equities and commodities are affected. The 'flight to non-complexity' of corporate and investor clients, thus the rapidly decreasing demand for structured products made many banks decide to close their 'structured products business' – the business with the so far highest margins – completely. Investment banking, especially structuring is forced to reinvent itself.

Diagnosis: Trust in structurers as advisors – gone. Clients' reaction to new structured product campaigns – highly cautious. Clients' risk aversion – immensely high.

Key question: How to re-build an effective structured product business?

Obviously, banks need to identify client preferences and classify the clients into a group of clients that still seek standardized structured products to gain a specific, e.g. leveraged, exposure to markets, and into another client group that seeks structuring capability rather than structured products.

The latter group wants independent advice for financing (debt and equity) and hedging programmes. "Outsourcing" structuring in the "good old way" to consultants specialising in finance such as Maravon is a smart way also to regain trust in co-operation and advisory skills by investment banks. For example, Maravon is able to pre-simulate in a 'before and after analysis' the effects of financial products on a company's or a fund's financials. The Maravon-platform, therefore, is now regarded as the bridge that (re-) establishes the relationship between client and bank.

In summary, re-building structuring as part of a fast scalable business model will remain a challenge. Inevitably, the clients’ attitude toward structuring and structured products will determine whether it will revive or not, and if yes, how fast.

WORK IT OUT!
11 November 2008 · Steffen Pohl · London

Over the last few years investment banks and to some degree also commercial banks have become increasingly complacent with regard to their own ability to actively participate in debt restructurings and turn-around management for distressed corporates with whom they have exposures. Historically low default rates and a secondary market that had became increasingly liquid played their part. Since 2005–2007, a small number of banks have selectively hired teams for their proprietary distressed debt desks – on balance most of those have lost money. It is high time that banks wake up to the fact that default rates across all debt classes will rise to levels not seen in recent history. The secondary market may not be a viable alternative anymore given drying up liquidity and not the least because a number of banks could not afford to cope with a further massive erosion of their equity base in case large asset sales were executed at fire-sale (current market) prices.

If recessionary fears come true, banks will need to prepare themselves for a wave of defaults with an increasing complexity. Debt-to-equity swaps will be mounting. To cope with this banks will need experienced work-out staff with a broad credit and restructuring skill set, including turn-around management. First hires are taking place in the London market whereby banks are recruiting experienced private equity staff to address this need.

It is high time for banks to review the situation and face the challenge. A properly functioning qualified work-out setup can not be established overnight.

HORSES FOR COURSES
6 November 2008 · Steffen Pohl · London

During the bull market investment banks have been increasingly focussing on pushing products whilst their broader coverage set-up within their markets business was rather underweight or even neglected. “Product ruled.”

Corporate clients are facing mounting challenges to successfully navigate through current choppy markets. Confidence in highly sophisticated products has eroded. Quite often banking relationships are now strained for a variety of reasons (reduced risk appetite, inadequately sold products or advice in the past etc). As such clients have become more cautious and demanding when it comes to the quality and product offerings of their banking partners. Holistic solutions or approaches across all products that address clients’ requirements will be the important for long-term success. Key differentiating factors will be amongst others the simulation of products’ impact on P&L and balance sheet under their respective accounting standards and the visualisation of the actual risk reduction in accordance with clients’ benchmarking methods.

Either banks address this demand by re-inventing their coverage model to cater for this trend immediately or more and more emerging independent advisors will fill the void. Quite possibly, banks will need to get more and more used to also facing corporates’ independent advisors when pitching for business.