Accession to the European Union has fuelled a boom in the Baltics and the leading banks are slugging it out to shore up their market positions. The domestic banks are well established but the competition from foreign-backed rivals is driving down margins close to zero in some products. The weapons in this battle are local knowledge versus the foreigners’ deep pockets and the outcome is still unclear, but Baltic consumers and businesses are already the real winners.
Despite their proximity and tiny size – the collective population of the Baltic republics is slightly less than that of London – the three countries are remarkably different, which has stymied the obvious advantages of rapid regional integration.
“The Baltics are three very different countries and [regional integration] is a sensitive issue,” says Ingrid Bluma, CEO of Hansabanka, Latvia, a group that has operations in all the Baltic countries and is majority-owned by Swedbank.
Following independence in 1990, Estonia was quickest to implement liberal market reforms and its banking system is probably the most advanced of the three countries, says Salvatore Candido, senior banker in charge of the Baltics at the European Bank for Reconstruction and Development (EBRD). Latvia is the most fragmented with the most banks, while Lithuania is somewhere in between.
Taking control
Banks from Scandinavia and Germany have followed their customers into the Baltics and bought into local banks. After being pleasantly surprised by their profitability, they have been upping their stakes to take full control.
The most significant deal was Swedbank’s bid in February to buy the 40% of Estonia’s Hansapank (the group has its headquarters in Estonia where it is known by its Estonian name) that it didn’t already own. Despite initial resistance from shareholders it owned 90% of Hansapank group by May and is continuing its expansion.
The EBRD sold its 4.8% stake in Hansapank to Swedbank, earning over $200m profit on an initial investment of $20m – as much as the bank usually makes a year from all its operations in central and eastern Europe.
“We entered into Hansapank when it was small and helped with advice and financing. Swedbank made its offer at the right time for us as Hansapank has grown into a vital business and there was not much more we could offer so it was time to exit,” says the EBRD’s Mr Candido.
Parex bank is the biggest bank in Latvia and, like Hansapank, it was set up at the start of the 1990s by two local entrepreneurs. However, unlike Hansapank, it remains a domestically owned bank that boosted capital by selling stakes to foreign financial investors such as Julius Baer and the Stockholm-based East Capital Baltic fund, which collectively own 15% of the bank.
Lacking the financial resources of its foreign-backed Baltic rivals, Parex prides itself on its local knowledge and remaining fleet of foot. Parex’s vice-president Gene Zolotarev boasts that it is the only bank in the Baltics to have never made a loss, year on year, despite the various crises that have swept the region.
“Foreign competition is a challenge but, year to year, we can stay on top as we are good at anticipating trends. We have no Soviet baggage and never developed any bad habits.
“On the other hand, the foreign banks are trying to adapt their international products to the local market which doesn’t always work,” says Mr Zolotarev.
Retail growth
All the big commercial banks made their money from servicing the needs of corporate clients, but the game has changed in the last few years and retail has become the fastest growing business line across the region.
Hansabanka has one of the largest networks after it bought out the Soviet-era savings banks in Estonia and Lithuania, but Latvia has yet to privatise the old savings bank and Hansabanka has been forced to build new branches.
“Hansapank bought the local savings bank, Houipank, in 1996 and the Lithuanian savings bank in 2001, so we have the biggest branch networks in both Estonia and Lithuania. Latvia has still not privatised the old savings bank. We have bought two other banks here but we are still building branches in Latvia, while we are closing them down in Estonia and Lithuania,” says Ms Bluma.
Lithuania’s Snoras, the third biggest bank in the country by assets, was slower off the mark and has only 10 buildings, but over the last four years it has made use of a high-tech solution by setting up more than 200 banking kiosks around the country. Now one of the biggest retail banks in the country, Snoras has connected each kiosk to its head office by a high-speed hard wire and can offer all the bank’s services – bar personal loans larger than $500. The bank is about to launch operations in Latvia and hopes to move into Estonia next year.
“If we tried to enter these markets in the traditional way we would stand no chance, but with this technology we can move very quickly,” says Naglis Stancikas, deputy chairman of Snoras’ board of directors.
Naglis Stancikas: ‘New players are coming into the market and are backed by strong financial groups’
Lending market
The development of retail banking in the transitional countries typically goes through three stages: basic deposit and savings accounts; personal and car loans that grow into mortgage loans; and sophisticated savings, investment and pension products. Estonia has already moved into the third phase, while Latvia and Lithuania are still in the second stage, but the difference between the three countries is getting smaller all the time.
Another innovation is the rapid growth of leasing as an alternative to consumer loans. Snoras launched its leasing operations in 2001 and has seen exponential growth. By the start of this year the bank had signed 450,000 contracts to lease items like televisions worth up to $300 and about one Lithuanian in five is leasing something from Snoras.
“It is a very profitable business, but the point is that we are able to handle nearly half a million contracts with only 30 staff members; the process is highly automated and it is still growing very rapidly,” says Mr Stancikas.
But the real battle is being fought over mortgages, which already makes up three-quarters of Hansagroup’s lending. The foreign-backed banks have started a price war that has driven margins down close to zero in an effort to capture market share and effectively driven the domestically owned banks out of this niche.
“New players are coming into the market and are backed by strong financial groups. The competition is high and they have pushed the prices down to a low level. We didn’t want to compete in a below-cost market as they battle for market share,” says Mr Stancikas.
Parex’s Mr Zolotarev echoes a widely held sentiment, saying that the domestic banks do not try to compete on price but try to offer services more closely tailored to the needs of the local population.
“Competition among the Baltic banks is now a fact of life and the days of high margins are well and truly over,” says the EBRD’s Mr Candido.
East & the EU
Since the Baltic states joined the EU last May, exports have soared, fuelling the already crackling pace of growth. The three republics are proving to be an attractive investment destination as they enjoy very low taxes and light bureaucracy. Accession also opened the doors to cheap funds on the European capital markets and makes setting up office in the other member states easy.
“Joining the EU and Nato has put the stamp of approval on the bank. We no longer have to go knocking on closed doors. Now we can simply say we are the largest bank in an EU country,” says Mr Zolotarev. “The effect of accession can be felt across the board. A number of businesses were sitting on the sidelines waiting for accession, the increased transparency and harmonisation. And some western European companies are moving their headquarters here to take advantage of the favourable business environment.”
The easygoing financial regimes have also attracted banks to the east of the Baltics, which have long tried to sell themselves as the equivalent of Hong Kong – as an obvious transit point on the trade routes between eastern and western Europe.
For example, Snoras is 49%-owned by Russia’s Konversbank and was originally intended as a bridge between Russia and the EU. Russians also own the Baltic Transit Bank and Russia’s top commercial bank MDM owns Baltic Business Bank. There are also several Ukrainian banks in the Baltics, including Privatbank, one of Ukraine’s three biggest commercial banks.
Web Invest, a young Russian bank that specialises in trading securities and one of the fastest growing in the country, is the latest to set up shop in the Baltics. It was granted Estonian banking licences in April for a 100% subsidiary, Aurora Access Securities, that will form a bridge between Russia and the rest of the world for corporate clients that want to buy securities on the international market, as well as being a gateway for international investors wanting to invest in Russia.
“The bank is concentrating on institutional sales and trading, as Russian clients need reliable and clear access to European and US markets. Also, it will help investors from outside Russia to trade Russian securities,” says Web Invest’s chairman Alexander Vinokurov.
The move was driven by demand from Web Invest’s corporate clients, which generated more than €30bn of trading turnover last year and are looking to diversify and cut costs.
The bank chose Estonia as its regulation is fully in line with the rest of the EU and it is physically close to St Petersburg, where Web Invest has its headquarters.
“We needed services that are transparent and reliable, that is why we chose an EU country with investment grade rather than an offshore haven,” says Mr Vinokurov.
Russian involvement
However, despite the superficial cultural similarities – Russian is widely spoken in all three countries – lingering animosities and political uncertainties have stymied pan-regional integration.
“There is more and more cross- ownership. Russian clients come as we are the obvious alternative to setting up in Germany, while we offer the same access to European capital markets. But they are coming for the market advantages, such as the lower overheads, rather than for cultural reasons,” says Mr Zolotarev.
Latvia has been particularly successful in attracting money from its old master, Russia. Latvia is the fourth-largest dealer in dollar currency transactions and analysts estimate that more than half the cash on deposit in Riga comes from eastern Europe, Russia in particular.
This wash of Russian money is making the international financial community nervous and Latvia has been dogged by money laundering charges.
At the start of May the US warned Latvia that it was on a money laundering black list and a dozen unnamed banks were threatened with sanctions if action was not taken. Commercial banks in New York like Deutsche Bank and ABN AMRO have closed a raft of correspondent accounts. Latvia’s prime minister, Aigars Kalvitis, admitted that his country has been warned several times to clean up its act since the 9/11 terrorist attacks on New York and the warnings have become more strident in recent months. But locals say only a few bad apples have spoiled the barrel and banks like Hansabanka and Parex have been unaffected.
“There are a number of misunderstandings and we are not coping well with the US regulations. At the same time the commercial banks, like Deutsche Bank, are very cautious,” says Mr Zolotarev.
The EBRD’s Mr Candido is sure that the bulk of Latvia’s banks are not involved in any dodgy dealing, but increasing competition has pushed a handful of smaller banks towards the dark end of the spectrum in an effort to maintain their profitability.
“Most of Latvia’s banks are operating legitimately and have introduced their own rules to be sure they know who they are dealing with. However, a few banks have a question mark hanging over them and they are damaging the country’s image,” says Mr Candido.
Baltics move out
While the Russians are moving in, the leading Baltic banks are moving out. Despite Russia’s problems, the three tiny countries are finding it hard to ignore its spectacular economic growth in recent years and have bought banks or opened offices to cater to the growing demand from their customers.
The most recent was Hansabanka’s acquisition of Kvest (Quest) – a small Russian bank that is overseen by Hansabanka’s Latvian office – in May for €2.5m. Kvest will offer corporate banking and trade finance services in Moscow, St Petersburg and Kaliningrad, concentrating on serving Baltic, Scandinavian and existing Russian corporate customers. However, Ms Bluma says that Kvest will initially make no attempt to find local customers and none of the Baltic banks with Russian operations intend to offer credit to Russian businesses.
Parex is another Baltic bank that has moved into eastern Europe, buying several leasing companies this year in Russia, Ukraine, Belarus and Azerbaijan, which neatly sidesteps the shortcomings of property rights in these countries.
In the meantime Parex has opened offices in Stockholm and Berlin, which have also become important trade centres for the Baltics. Both Hansabanka and Parex chose to buy existing financial companies simply because it was easier than ploughing through Russia’s onerous registration regime. Likewise, Snoras abandoned plans to share its high-tech kiosk branches with its sister bank, Konversbank, in Russia because of the incompatibility of Lithuanian and Russian rules.
However, thanks to the EU passport system opening offices in Berlin and Stockholm is simple. There is no need to apply for separate bank licences in EU member countries and Parex had to do little more than inform the relevant central bank it was setting up stall. Now it is eyeing the large Russian-speaking community in Germany, which currently have no bank of their own.
