In the past two years, the performance of Russia’s consumer lending industry has been nothing short of extraordinary. Among banks with Tier 1 capital of more than $50m, seven of the top 10 banks for return on assets in 2011 were specialists in consumer lending. Total retail lending grew about 40% in 2012, with unsecured consumer lending rising by about 60% depending on how the term is defined.
Editor's choice
Credit card balances grew by more than 80% according to analysis by Tinkoff Credit Systems. Lenders including Tinkoff, Svyaznoy Bank, Alfa Bank, National Bank Trust and even Sberbank, the country’s largest, more than doubled their credit card portfolios in 2012.
Such expansion is prompting concerns about overheating, but Holger Laubenthal, chief executive of GE Money Russia, believes Russian consumers are still relatively under-banked. He estimates consumer lending at 13% of gross domestic product and credit card usage at 17% of the economically active population of about 100 million in Russia, compared with rates of more than 30% in many EU members in the central and eastern Europe region.
Even so, the Credit Health Index of delinquency rates for consumer loans, compiled by credit analytics company Fico and the Russian National Bureau of Credit Histories (NBKI), fell to 109 points in January 2013, from 115 points a year earlier.
“We are seeing more requests from banks for enhanced data by region, segment and vintage. Risk managers want to find out what is causing the deterioration – is it close to the bottom or not, are the indicators for existing customers getting worse, or are new customers becoming riskier?” says Elena Koneva, international director for Fico.
Regulatory scrutiny
The Central Bank of Russia (CBR) is beginning to take notice, raising minimum provisioning rates on impaired consumer loans from January 2013. From July 2013, new capital requirements will apply, with the risk-weighting of consumer loans based on their interest rates. The government is also discussing adjusting bank contributions to the country’s deposit insurance scheme based on the interest rates paid on deposits.
Many consumer lenders say they exceed the new requirements already. Provisioning is often above 100% of non-performing loans (NPLs), and Renaissance Credit chief executive Alexey Levchenko says the CBR’s change eliminates an obvious anomaly in bank reporting.
“Under the old regulations, consumer credits could be delinquent for up to five years yet still only partially provisioned. Clearly after such a long period of non-payment, the recovery rates would be close to zero, so this is a positive change that should make lending behaviour more responsible,” says Mr Levchenko.
As for the capital requirements, banks such as Home Credit and Finance, Renaissance Credit, Russian Standard, OTP Russia and Credit Europe Bank Russia all have Basel total capital adequacy ratios well above 15%. However, some of the more recent entrants that have not yet had the chance to lay down retained earnings are feeling the pinch.
Capital needed
Maxim Nogotkov, the founder of Russia’s largest mobile retail chain, Svyaznoy Group, set up a bank in 2010 which began nationwide operations in 2011. During 2012, it was the fastest growing credit card lender and moved into profit, but Mr Nogotkov is now seeking additional investors to meet the new capital requirements. Svyaznoy Bank deputy chairman Sergey Sulimov says the grandfathering provisions of the new regulations are unfavourable to credit card lenders, because new balances from existing customers count as new loans and will face higher risk weights.
“A credit card portfolio turns over very quickly, so we are talking about a 3% capital ratio adjustment in eight to 12 months, compared with about 1% capital increases per year expected to meet Basel III requirements. You can see why we call this new Russian requirement ‘Basel on steroids’. We have had to slow growth to fit and we are working hard to increase capital,” says Mr Sulimov.
Mr Nogotkov wants to keep at least 51% of the shares, so he is inviting institutional investors to commit about $200m by mid to late 2013, which will be enough to allow expansion for the next few years.
There is concern that the regulations are more suited to the requirements of state-owned Sberbank and VTB than to the rest of the market. State ownership and large customer deposit bases give them much lower funding costs than other Russian banks. Consequently, asset risk weights and deposit insurance fees calibrated to each bank’s lending and deposit rates naturally favour these two banks.
Second tier squeeze
Both Sberbank and VTB (through its retail subsidiary VTB24) are seeking to step up their consumer lending. In 2012, Sberbank bought a 70% share of BNP Paribas consumer lending unit Cetelem, which is led by former Home Credit executive Andrey Lykov. VTB24 established a new subsidiary in October 2012 entitled Leto Bank (literally 'summer bank'), under former Russian Standard executive Dmitry Rudenko.
It remains to be seen how these two entities will operate, but in Sberbank’s case, as Mr Laubenthal puts it, “the sleeping elephant in consumer banking already woke up at least 18 months ago”. Privately owned banks are making the assumption that Sberbank’s share of the consumer lending market – already exceeding 20% for credit cards – will continue to grow, given its 50% share of household deposits and 17,000 branch network.
That still leaves at least half of a fast-growing Russian market to be shared by the sharpest of the private banks. Alexander Vikulin, chief executive of NBKI, says the bureau receives the records of 800,000 new customers every month at present. Little wonder that many new players are fighting to enter the market, especially closely held banks that previously relied on corporate and high-net-worth clients.
These late arrivals could be the main victims of the decline in asset quality, if they are forced to pick up the customers that were rejected by risk management processes at more entrenched consumer banks. Most of the established lenders have been able to tighten underwriting standards, lower credit limits and maintain pricing in 2012 without losing market share. Tinkoff reports NPLs of just 5%, while Credit Europe even cut its NPL ratio slightly in 2012, to about 3%. Mr Levchenko at Renaissance Credit suggests the real challenge for second-tier universal banks is more about business model than credit quality.
“If there will be a crisis in Russian banking in the next two years or so, it is more likely to be a margin crisis than a credit crisis. Margins on corporate lending are falling, so second-tier banks are trying to enter consumer banking but they are caught between the size of Sberbank and the sophistication of the specialised lenders such as ourselves. These new entrants are desperate to acquire customers, but they may not have the sales networks and technology to control acquisition costs and maintain effectiveness,” he says.
New strategies
At the top of the second tier is Rosbank, majority-owned by France’s Société Générale and formed by a four-way merger in 2010 with Bank Société Générale Vostok, mortgage specialist Delta Credit and automobile lending firm RosFinans. The combined group has 690 branches, and the potential to be a force in consumer lending.
Igor Antonov, head of retail banking at Rosbank, says auto lending is stable and mortgage origination is above target, running just behind the state-owned banks. But the higher margin cash loan businesses are underperforming in terms of new production.
“What is on my mind day and night is how to source new clients. Our big project for 2012 focused on training relationship managers to handle their own portfolio of about 2000 mass-market and 300 mass-affluent customers each, to think about them in a client-oriented rather than a product-oriented way. That is increasing branch efficiency and allowing relationship managers to focus more on sales activities,” says Mr Antonov.
Although it offers significantly cheaper cash loans than competitors such as Home Credit, at the moment Rosbank does so only through branches, not points of sale. And the bank is finding cross-selling through corporate client payroll lending difficult. Most corporate clients are now multi-banked, making use of at least one of the state-owned banks that can offer cheaper personal loans to staff.
Mr Antonov says the bank is undertaking a project to improve cross-selling from its healthy mortgage and auto lending franchises. It is also looking at using call centres for pre-sales calls – effectively seeking to guide customers into the branch-based lending process.
Corporate cross-sell
A cardboard cut-out of actor Bruce Willis stands behind the reception desk at National Bank Trust. One of the leading closely held banks in Russia, Trust has put the Hollywood action hero at the centre of a marketing drive to shift it from corporate into consumer banking, and retail loans now account for more than 70% of its total portfolio.
Approximately 60% of those loans are to new customers, but Trust is drawing on its existing corporate customer base for certain products. Most of its white-collar and some of its blue-collar customer segments are drawn from the management and staff of corporate clients or from sales agent visits to company premises. Between them, these categories accounted for about Rbs800m ($25.4m) of Rbs4.6bn in new lending in March 2013. In addition, credit cards are issued mainly to existing customers. The bank is drawing in new mass-market and blue-collar customers purely via cash loans sold through 220 branches, the internet, and 4000 points of sale including 350 express loan kiosks established during 2012.
Eugene Tutkevich, first deputy chairman of the management board at Trust, says this approach has enabled rapid growth without jeopardising risk management. The bank’s risk cost on credit cards is 7%, bettered only by the top white-collar portfolio (at 6.6%), and much lower than the open market point-of-sale risk cost of 14.5%. He is sceptical of the low NPL numbers reported by some of the dedicated credit card lenders.
“I do not accept this false consensus that credit cards have to be the main source of customer growth today. Credit cards are useful but not simple products, many bankers in Russia struggle to understand grace periods, minimum repayment amounts and the difference between cash and non-cash transactions, to say nothing of their customers. That is certain to lead to people getting into arrears. We are actively growing our credit card portfolio, but we offer cards mainly to good existing customers and some trustworthy new customers,” says Mr Tutkevich.
Ratings agencies appear to agree with that assessment. In a September 2012 report, Moody’s analyst Maxim Bogdashkin identified the banks with the fastest growing mass-market credit card portfolios such as Tinkoff and Svyaznoy as the highest risk category among consumer lenders.
Data-driven models
But this perhaps underestimates the growing sophistication of data and risk management at the most specialised credit card lenders, ably assisted by a credit bureau industry that has surged forward since its inception through legislation in 2004. The earlier practice of leading retail banks such as Sberbank and Russian Standard running 'captive' credit bureaus that did not share information with the rest of the sector has ended. Sberbank formed the United Credit Bureau joint venture with Experian and Interfax in late 2009.
NBKI, the only independent bureau, now holds the records for about 800 banks. Its latest innovation is real-time analysis of social networks as a predictor of at-risk loans – not specifically social media sites, but family, workplace and social links that can be tracked online.
“Our research shows that people in the social network of someone who defaults are three times more likely to default themselves than the general population. That is partly because customers in financial difficulty often begin borrowing from family or friends before they default on bank loans,” explains Mr Vikulin.
The leading consumer banks use bureau data as a foundation for in-house systems that go well beyond bureau capabilities. Haluk Aydinoglu, chief executive of Turkish-owned Credit Europe Bank, says the quality and timeliness of bank reporting to the bureaus can vary. His bank has drawn on advanced techniques from Turkey and developed its own systems, including automated monitoring of social media sites such as Facebook, especially for express decisions on its automobile lending business.
“Our auto loan decisions are 75% to 80% automated. The evidence suggests that more human involvement does not lead to better credit underwriting decisions, and it adds time and cost. That is important, because the bank that offers the fastest underwriting time can win the best customers,” says Mr Aydinoglu.
Quality concerns
One of the challenges as the market grows is that customers seek multiple loans from less rigorous providers. Mr Laubenthal says GE Money adheres to a strict debt-to-income (DTI) ratio cap for new loans, but this cannot prevent borrowers going to other banks subsequently. GE Money automatically shifts customers on to lower priced credit if they improve their credit metrics, as an incentive to encourage responsible borrowing.
“We are seeing customers in certain segments who will take on as many as five loans from different banks, and our analysis shows that once their total DTI exceeds a 50% threshold, then 57% of borrowers will fall into delinquency. Through the Association of Russian Banks we have proposed adopting a regulatory limit similar to that in Poland, to cool the market and avoid over-indebtedness,” says GE Money board member Elman Mekhtiyev.
Tinkoff initially controlled the quality of credit card customers by choosing known targets from its mail-order catalogue partners, creating a portfolio of mainly female customers aged 35 to 50 in smaller provincial cities. As the bank has grown through internet sales channels, online requests have now reached 65% of new customers, and the risk of fraud is greater. Chief executive Oliver Hughes, a former Visa executive, says IT teams account for about 250 of the 350 staff at head office, and Tinkoff is competing for new hires with technology companies such as Russian search engine Yandex or payments software producer Qiwi rather than other banks.
“When we started in 2008, we were consciously borrowing concepts from Western banking or my experience at Visa, but these days we are developing new techniques in house. We have pre-scoring algorithms that monitor browser activity and e-mail addresses, dwell time and the number of pages viewed, and install cookies, then we follow up with a verification call,” says Mr Hughes.
Building brand loyalty
Mr Hughes notes that technology investment feeds not only into risk controls, but also into management decisions on target customers and acquisition spending. Tinkoff now has about 150 different internet channels including partners, receiving some 500,000 applications a month of which about 140,000 are approved. Its latest initiatives are to step into the online purchasing space, working with about 400 to 500 online retailers, as well as providing the card services behind electronic wallets for Yandex and Russian e-mail provider Mail.ru.
As so many banks enter the consumer market and with the state-owned banks holding a pricing advantage, this type of innovation in customer service is the vital competitive edge. Ivan Svitek, chief executive of Home Credit, says younger customers in particular are difficult to retain.
“People may feel brand loyalty toward their car, their mobile phone, their clothing or their perfume, but not toward their bank, and especially not for credit cards,” he says.
Co-branded cards are still in their infancy. Credit Europe provides branded cards for furniture retailer Ikea and supermarket chain Auchan and is now building out broader banking joint ventures with them. Home Credit launched a cashback card in 2012, and Svyaznoy Bank pioneered the first loyalty programme.
Mr Svitek says consumer banks increasingly need to push into wider transaction services, not just to generate higher fees but also to build customer relationships. Home Credit is moving into virtual card-to-card and card-to-cash transactions as well as international transfers, and he wants it to be able to adopt the Western model of customers using one bank for all their retail banking needs.
In this context, it is little wonder that technology-driven service companies are increasingly joining the push into consumer banking – not only Svyaznoy, but also mobile operator MTS and payments terminal firm Qiwi, which has now formed an electronic payments joint venture with Visa.
Mr Sulimov says 1.5 million people walk into Svyaznoy branches every day, and this is likely to remain by far the group’s most efficient distribution channel for at least another two years. Svyaznoy Bank is launching a broader mobile and internet banking brand, IQ Bank, in 2013, via an app that will be uploaded onto all smartphones sold through Svyaznoy stores – a 30% share of the total smartphone market. It is also testing a small ‘bank-in-shop’ concept in some of its stores.
Funding conundrums
The move into transaction banking not only fits the technology-driven model of these new consumer players, it is also a way of securing funding via customer deposits. The pioneers of consumer banking, such as Home Credit and Russian Standard, were largely dependent on international wholesale funding that dried up after the financial crisis in 2008. They have shifted rapidly to deposit-taking, and most consumer banks now exceed 50% retail deposit funding.
With no branches and finding no reliable courier service to fulfil applications for savings accounts and debit cards, Tinkoff established its own service that now employs 1300 couriers across 500 cities. The couriers can go to customers’ homes or workplaces and complete the account opening process with documentation signing, know-your-client checks and an identity photo.
Even cheaper funding is available from corporate deposits, which foreign-owned banks such as Credit Europe, GE Money and Hungarian-owned OTP Russia are already set up to collect. OTP began to offer broader corporate transaction services in 2011, including cash management and treasury, precisely to attract more deposits. These business lines entered profit in 2012, and the bank is about 24% funded by corporate deposits after a dramatic 75% increase in 2012.
“Corporate transaction banking is an OTP strength elsewhere, but there was a lot of internal debate about whether we could do it here in Russia, where companies are used to placing their deposits with big corporate lending banks. Once we showed that we can do services such as cash management and exchange-rate hedging very well, the hit ratio soared,” says OTP Russia's chief executive, Zoltan Illes.
Corporate transfers with other countries in OTP’s central and eastern European network, including same-day transfers to EU member Hungary, have proved especially attractive. If other consumer finance specialists follow suit in turning their superior payments technology onto the corporate space, the environment for traditional Russian second-tier universal banks could become even more challenging.
