Something new to bank on?
The British comedy actor, Tony Hancock, observed half a century ago that blood banks were like any other sort of bank. “Bang it in when you’re flush, draw it out when you need it.” It’s as good enough a definition as any other. Banks are there for investing surplus funds and then to provide credit when their customers need it.
On the other side of the coin, the job of corporate treasurers is to use their excess liquidity to best effect and to try to fund themselves at a reasonable cost. This can be a difficult proposition when the banks are seeking to bolster their revenues and repair their balance sheets. All the evidence points to companies not getting a great deal at the moment.
So along comes an initiative called the Corporate Funding Association (CFA), the interim project name for a new bank for corporates that will be owned by corporates. The CFA is planning to apply for a Eurozone bank licence under the French banking commission, to fund international mid-cap, blue chip and privately held companies (as long as they are not financial institutions). Operating as a co-operative it aims to reduce the cost of funding for companies who are members and have subscribed equity capital according to their rating. A plain vanilla bank, its objective is to simply borrow in the inter-bank and capital markets as well as from select banks to lend to investment grade corporates.
It raises a number of questions about why and how corporates use their existing banks (something we are taking an in-depth look at in next month’s issue). For everyday cash management, there is no choice and huge piles of coins and banknotes do nobody, except prospective burglars, any good.
But lending and borrowing are different matters. Banks will say that they require judgment and the skills of asset and liability management. But for the banks’ customers there is a more obvious distinction and that is cost. Banks live on margins even though fee income (commissions, bancassurance) can also be lucrative.
The difference between lending and borrowing in terms of interest rates can therefore be quite big but for two different reasons. One is simple and variable: banks charge more interest for lending to companies that are riskier. So do the investors in the capital markets, both bond investors and shareholders. But the banks also charge a lot for their own corporate lifestyles: bonuses have attracted a lot of attention recently but the really big expenses for them are the marble halls, numerous staff, huge technology investments and acres of back offices. Those largely fixed costs add up to around half or more of what the bank actually makes in lending and fee income.
The CFA’s objective is to get that cost/income ratio to less than 8%. This would cut a huge amount from the corporate borrowing bill. So the attractions of the CFA are obvious. But the technical details remain and, as always, the devil is in the detail. The banks would argue that the hidden factor in their costs is their absorption of losses. A corporate can go bankrupt (administration or Chapter 11) but the sheer size and diversity of a bank’s balance sheet is such that it can factor in default risk.
This project is just getting into its formal study phase. The founding members should be applauded for their ambition – but we will have to wait and see. We will provide more analysis on this next month.