Few markets can match central and eastern Europe (CEE) for the speed of growth in consumer finance. The resources boom in Russia helped fuel domestic credit growth of more than 50% in the country in 2007, according to estimates by rating agency Standard & Poor’s (S&P), while the convergence in living standards among new and aspiring EU entrants is driving similar rates of credit growth. There is only one problem – banks can hardly keep up with demand.
Indeed, financial sector ownership in the new EU states is often concentrated in the hands of a few large foreign players, who are themselves subject to the global squeeze in credit conditions. This pressure, combined with fears of economic overheating and property market bubbles, has provoked some foreign banks to pull on the leash. S&P is forecasting credit growth to fall sharply in 2008 – and more than halve in the Baltic states. Even in Russia, tighter conditions for local banks mean credit growth is forecast to slow to 30% this year, despite continued high energy prices.
However, the travails of cash-strapped banks are an opportunity for those who still have strong capitalisation. PPF Group, which was founded in a small Czech town near Austerlitz a decade ago, is a foreign investor with a local flavour. And the owner of the Home Credit brand, which is incorporated in five CEE countries in addition to the Czech Republic itself and active in others, now has the luxury of a significant capital cushion.
In 2007, the parent group injected an extra €500m in equity into Home Credit, and PPF itself unlocked €1.1bn in April 2007 by rolling its insurance assets into a CEE joint venture with Italy’s Generali.
Most recently, in June 2008, despite difficult global capital-raising conditions for financial institutions in particular, the Russian subsidiary Home Credit & Finance Bank raised a €500m Eurobond, and PPF chairman Tomás Spurny emphasises that the Russian market is the primary focus for growth at present. “About 70% of our business today comes from the Russia franchise, which is a very strong operation, being number two in the market there and offering a wide spectrum of consumer finance products,” he says.
Rising russian revenues
The bank has more than 30,000 points of sale already, and outstanding balances have grown by an average 57% per year over the past five years in Russia, from €395m in 2002 to €2.4bn at the end of 2007. Over the same period, revenues have risen by 85% to reach close to €670m, according to the bank’s consolidated International Financial Reporting Standards (IFRS) numbers.
Mr Spurny says the bank targets similar growth rates for the next 18 to 24 months, and emphasises that figures alone do not tell the whole story. “Our position in the market has been reinforced more dramatically than the numbers indicate in Russia. In the past six months, what we have seen is that, due to the overall shape of debt markets, some competitors find it difficult to raise sufficient liquidity to support growth.”
While other foreign owners tightened belts, PPF has used its war chest to raise the equity of Home Credit & Finance, bringing Tier 1 capital to the equivalent of $609m at the end of 2007 – a move that allowed it to enter the top 25 CEE banks in The Banker’s Top 1000 Global Banks rankings for the first time this year, jumping 255 places in the overall listings.
Squeezing the competition
Not that PPF is neglecting the central European region, looking to fill any remaining gaps in its home markets even though growth prospects are restrained by the much more competitive landscape. In Slovakia, the customer base has doubled in recent years to 400,000, and Mr Spurny believes they can attain “critical mass” after eliminating some of their competitors.
“We were successful in acquiring business from GE Money, Citi has effectively withdrawn its consumer finance activities about 12 months ago, and other competitors such as Beneficial Finance have abandoned the market,” he says.
This leaves Home Credit locked in battle for dominance in Slovakia – primarily with Intesa SanPaolo – while the group’s first-mover advantage in the Czech Republic has helped it maintain a strong position in the face of stiff competition from GE Money and Société Générale.
Meanwhile, the banking arm of the group is only just beginning to tap into the cross-selling potential from its insurance joint venture with Generali, which covers 12 countries. “We are in the process of expanding our operations into Romania, where we will focus on the cross-selling of credit cards to both existing life and PPL [personal premises liability] insurance customers,” says Mr Spurny. PPF is also evaluating two other CEE markets where it has a strong insurance presence, he says – although he does not identify them, emphasising: “We will not enter unless we see the cross-selling benefits, because we feel it is very difficult to establish a greenfield operation without access to a predetermined client portfolio.”
Managing the risks in house
While the opportunities are clear, the risks are also growing in the region. Central banks in countries such as Romania and Russia are already tightening monetary policy, in the face of rising inflation and rampant consumer demand driven partly by cheap credit.
The boom time cannot last for ever, and Mr Spurny acknowledges that Home Credit has focused on the high-risk, high-margin end of the market, providing convenient consumer goods financing for a mass audience. The higher margins permit the bank to tolerate loan losses of about 10%, falling to 6% in the more developed markets, but the rates can be much heavier for the first two to three years of a new operation. “This is not a business for someone who is not willing to lose money up front to learn the specifics of a given market, but after three years you have to be able to learn and implement appropriate lessons,” he says.
Those lessons have led Home Credit to build a risk monitoring system that he considers “advanced even by developed market standards”, in some markets where credit history information is comparatively underdeveloped. A centralised system enables fraud protection staff to track main client and provider indicators, such as down-payment histories, down to a single merchant. The group hopes to bring all this data online for instant internal access by end-2008.
Risk management is also facilitated by the step-up approach to lending, enabling each customer to build a clear credit history with the bank – from consumer durables financing through third-party merchants, up to auto loans, credit cards or cash loans, and even mortgages in a growing number of cases. “We don’t just buy prefabricated scorecards, this is a significant part of our cost base, and in Russia as in any market, as the landscape becomes more competitive, risk-cost management becomes even more important to meet targets,” Mr Spurny notes. This has enabled the bank to build in-house credit history of about 15 million customers, of which 12 million are in Russia.
Scorecard venture
The sophistication of the scorecards that Home Credit can produce from its own data in the CEE region is sufficiently market-leading that Equifax, the leading US consumer credit analysis provider, has established a joint venture with the bank, and Mr Spurny is proud of this “benchmark of our capacity to develop risk management systems”.
The bank has also invested in what he calls a “Ford-like” industrial production line of past-due receivables collection, which has permitted recovery rates as high as 40% to 50% in Russia. This system was prefabricated at the group level, but must be adapted to meet specific legislative frameworks in each country.
Such an adaptation underscores the importance of relationships with regulatory authorities, in a sector that can quickly become politically charged if default and repossession rates rise during a downturn. In particular, foreign currency lending has grown markedly in recent years in the CEE region, averaging about 47% of credit to the private sector (excluding Russia), as borrowers took advantage of lower interest rates on offer, and the long-term appreciating trend of local currencies.
Forex loans rare
As foreign exchange trends have become more volatile in recent months, some customers may be hit with unexpectedly higher repayments in local currency terms. But in contrast with many competitors, such as Intesa and Hungary’s OTP, Home Credit rarely offers foreign currency loans – only to a few mortgage customers in Russia and Ukraine, who make higher initial down payments. “We feel the customer often doesn’t understand the risks they are getting into, and we want to be a local player in each market, lending in local currency. We are by our nature a high interest rate lender, and we don’t want to add other risks to the customer,” says Mr Spurny.
Even so, the group is closely watching other general and regulatory developments that could affect their business, including renewed interest in consumer protection in Russia, and a new civil code on lending in the Czech Republic, which he says the industry “may need to discuss” before it comes onto the statute book. Home Credit & Finance became the first Russian bank voluntarily to draw up its own code of responsible lending and it has restructured products to eliminate certain types of commission that were causing concern.
The rising local market risks in Kazakhstan and Ukraine, including higher inflation and the sharp decline of the Kazakh property market, have also forced the group to reconsider the ambitious growth targets it set when it moved into those markets in 2005 and 2006, respectively. But Mr Spurny observes that the newest markets are not always the most risky. In Belarus, Home Credit bought and renamed Lorobank in late 2006, and only began offering its own products from November 2007, but has already enjoyed striking success in attracting clients and assigning providers.
“We are experiencing not only growth in the product we are able to underwrite, but also positive results in terms of credit risk charges in that country, which is quite extraordinary,” says Mr Spurny. “What we find is a legal framework and the ability of consumers to behave responsibly in terms of settling their obligations that is better than in many other CEE countries.”
HOME CREDIT GROUP
Founded: 1997 by Czech entrepreneur Petr Kellner, majority owner of PPF group
Tier 1 capital: €758m (end-2006. An additional €500m was injected by PPF Group in 2007)
Countries of incorporation: Belarus, Czech Republic, Kazakhstan, Russia, Slovak Republic, Ukraine
Customers:5 million
Points of sale50,000
Employees20,000
Strategic cooperationIn April 2007, PPF Group merged its insurance assets into a joint venture Italy’s Generali, keeping a 49% stake in the new entity, Generali PPF, which is the largest insurer in the CEE region. In return for its 51% stake, Generali paid €1.1bn to PPF.
