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Hurdles still to jump on the track into Europe

Bulgaria’s foreign-owned banks are attempting to speed up the transition to EU accession, bringing a huge growth in retail banking. But there are still problems to resolve, Tom Blass reports.
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Bulgarian bank headquarters tend to be discreetly located in well-tended backstreets, as if trying not to draw attention to themselves. The Bulbank Building is a notable exception: it is a Sofia landmark. And, from his capacious offices, management board chairman Levon Hampartzoumian has a bird’s eye view of the nation’s capital.

Bulbank is big and about to become bigger in the wake of the merger between its parent company, UniCredit, and Austrian HVB. In Bulgaria, that means three-way nuptials between Bulbank, HVB subsidiaries HVB Biochim and Hebros that will be, by any standards, a substantial exercise in rebranding and consolidation and one that competitors will watch closely.

Strong demand suggests that Bulbank will be one of the most interesting entities emerging from the HVB/UniCredit merger.

Established as Bulgaria’s foreign trade bank in 1964 (and privatised in 2000), Bulbank has “always been outward facing”, according to Mr Hampartzoumian, who suggests that its origins lend it perfectly to its role as a commercially-focused domestic bank with strong regional ties.

By 2007, the merger, which Mr Hampartzoumian describes as “a grand opportunity… a marriage of complementary operations”, should be complete, with leadership shared between himself as chairman and Peter Harald, who is currently CEO of HVB Biochim.

Strategic synergies

Under Bulgarian banking regulations, Mr Harald and Mr Hampartzoumian are able to sit on the boards of each other’s banks – a right they take full advantage of and that will assist in developing synergies between the various entities in the future, says Mr Hampartzoumian. (Hebros Bank was bought by HVB in early 2005.

UniCredit’s acquisition of HVB postponed the rebranding of Hebros.) The resulting entity will retain the Bulbank brand under UniCredit’s policy of maintaining strong domestic brand names within its spheres of operations, says Mr Hampartzoumian.

In terms of ownership of the total market’s assets, the merger will catapult Bulbank into the top spot. As of March the bank ranked second; squeezed between DSK Bank (owned by the Hungarian OTP Bank) and the United Bulgarian Bank (owned by NBG). But competitors say that they are not unduly worried. Despite Mr Hampartzoumian’s insistence that the new bank should prove a largely pain-free process, they predict that Bulbank management will have to take its eye off the ball, losing a move or two in doing so.

Expanding prospects

It may not prove critical either way. In recent years, the banking market has been growing fast: in 2005, the system as a whole grew by 32%, with profits rising by 34.6%. Loans and credits rose about 34% in 2005 –not as spectacular as 2004’s figure of 40%. Nonetheless, all the signs suggest that although the cake may not grow quite so fast in the future, it is still sizeable.

With Romania, Bulgaria is next in line for EU accession. There are still boxes to tick before it joins. Concerns remain over the size of the shadow economy, corruption and governance but these are not insurmountable problems.

Bulgaria’s largely foreign-owned banks think they can speed up the transition process, luring money from under the nation’s mattresses into deposit accounts, and bringing businesses out of the shadows. The speed and pace of market expansion suggests they are doing just that, illustrating that this pre-accession country could be an appetising prospect for regional players.

In macroeconomic terms, Bulgaria is a transition success story. It was recently praised by the IMF’s representative in Sofia for having had eight years of “solid growth, low inflation, improving living standards and falling unemployment”. He also noted, however, that exuberant consumerism has gnawed away at the country’s external account deficit: it was less than 6% of gross domestic product (GDP) in 2002 but represented 15% of GDP in 2005.

Credit bubble

The rapid growth of credit is a concern not only of the Bulgarian National Bank (the central bank) but also of the IMF. Predictably (under IMF guidance), the central bank has introduced a number of ‘speed bumps’ in the form of strengthened reserve, provisioning and capital requirements, guidelines on credit issuing for banks and intensified supervisory activity. The result is that the Bulgarian banking sector now has what the IMF describes as “one of the most stringent regulatory requirements in the world”.

Banking wrath

These arguably prudent measures have not been received with any great warmth by the banks themselves. At the beginning of 2005, the national bank imposed penalty reserve requirements on banks whose loan portfolios grew in excess of set limits. The result is that credit growth in 2006 is not expected to exceed 20%.

But critics say that the rules are easily circumvented. Several foreign-owned banks have moved deposits from outside Bulgaria into their Bulgarian subsidiaries, for example, or have shifted loan portfolios to parent companies. And recently, under pressure from the combined clamourings of Bulgaria’s commercial banks, the central bank has scaled back restrictions.

Consumer-driven boom

Soaring demand for credit is not the worst problem that a banking sector could have: it is the market’s underlying instinct to grow that makes it attractive. Driving the boom is the Bulgarian consumer, who increasingly has lifestyle and earnings expectations in line with those further west in Europe. Regional variation is still considerable. GDP in Sofia is on a par with Slovenian GDP, which indicates the extent to which other areas of the country must catch up with economic hotspots.

The banks think that they can speed up the catch-up process in the retail segment. For example, understanding that the retail sector is most critical to ultimate market share, Raiffeissen Bulgaria Bank has launched an initiative to take the bank to the consumer in the form of a fleet of mobile bankers operating in 13 Bulgarian cities – customers book an appointment by telephone.

It is a surprisingly personal modus operandi but it reflects the fact that not all of Bulgaria is yet up to speed with an international businesses and services culture that increasingly regards the internet, and call centres, as their very lifeblood.

Arguably, as the only greenfield operation in the sector (and largest ever, in Bulgaria), Raiffeissen has had to work harder to build and maintain its position. The fact that it has done so proves that buying a slot in the market is not the only way in. Currently number four in the market by percentage of total assets (8.54% of the banking system’s total,) and sixth by percentage of loans (7.32%), Raiffeissen has grown from scratch, the largest ever greenfield operation in the country. Two years ago, it had just 1% of market share.

Momchil Andreev, chairman of the management board of Raiffeissen Bulgaria, says that it is the strong macroeconomics that have enabled Raiffeissen to grow so fast. Last year, the bank became the largest financier to Bulgarian municipalities and ministries, and a manager of instrument for structural policies for pre-accession funds, he says.

Market diversification

Raiffeissen Bulgaria took on 500 new staff at the beginning of 2006, 25% of whom were graduates. Mr Andreev insists that Raiffeissen’s core capability is retail lending, but he also knows that it is necessary to diversify if he is to keep market share in a competitive market.

Drawing on existing real estate expertise, the bank has established spin-offs offering property evaluation services and construction supervision. Another first for Bulgaria was the launch of Raiffeissen’s asset management company in March, offering a choice of four local and eight foreign funds. The bank also boasts having structured and placed three bond transactions in the first quarter of 2006; a 64% market share in the total volume of new debt instruments.

Saving graces

DSK Bank, currently the largest bank in Bulgaria, acknowledges that the business lending sector is beginning to flourish. In the all-important retail sector, it gained tempo early on. In the communist era, DSK was the people’s savings bank – a domestic counterpart to Bulbank. Its purchase by Hungarian OTP was roundly seen as a good fit: prior to their privatisation, they played similar roles in their respective jurisdictions.

DSK CEO Viola Marinova insists she is only being honest when she describes the bank as the “pearl in the [OTP] crown”. “We are the largest bank in Bulgaria. We have the highest market share in terms of lending, assets and funds from non-financial institutions. We have 16% of the market’s assets and 15% of liabilities.”

Ms Marinova says the Bulbank merger will not steal all DSK’s thunder. In large part thanks to its beginnings as a state savings bank, DSK now has “370 banking units and 1000 offices… even after [the merger] we will boast the best developed bank network. And, according to our analysis, we will remain retail banking champions.”

She acknowledges that DSK started life as a corporate financier later than the others. Until 1999, the bank was tied to retail banking by legislation defining its role and mandate. In a recent speech, Ms Marinova said that her strategic goal of affirming the bank’s “position of being the indisputable leader in the retail banking sector” had been fulfilled, by a 38% market share, a loan portfolio of over Lv2.3bn (€1.17bn), representing “almost half of all consumer loans in the banking system”.

DSK increased its commercial loan portfolio in 2005 by 30% on the previous year. And it invested heavily in remote banking, offering call centre, SMS messaging and internet banking services at the end of last year.

Progress and hurdles

Bulgaria has made strong economic headway on its own account, but there is little doubt in bankers’ minds that much of the retail sector’s exuberance is owed to expectations of what EU accession will bring. In this respect, Bulgaria has never had the unwieldy baggage hampering Serbia and Croatia, or Turkey’s strategic aims.

However, a European Commission report says that, although the country is making headway, it still has much to do before EU accession. Politically, Bulgaria “fulfils the criteria of EU membership”, it says. On the economic front, the continuation of current reforms “should enable [Bulgaria] to cope with competitive pressure and market forces in the near term”. Nonetheless, much in the report will be of concern to businesses operating or considering operating in the country.

Little is being done, the report says, to tackle “high level corruption”. Judicial reform needs to be accelerated if its quality, transparency and accountability are to be assured. The labour market remains “rigid and inflexible”, and the business environment, including procedures for enforcement of judgments, also requires substantial reform, says the commission.

These kinds of issues will persuade some banks and businesses to take a wait-and-see approach to Bulgaria. For others, there are still details to resolve. The Bulgarian credit growth bubble may be starting to plateau but it has not burst yet.

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Read more about:  Central & Eastern Europe , Bulgaria