Don’t discount demand in flat bank lending market

Posted on 16 Sep 2009 by The Manufacturer

The Royal Bank of Scotland addresses issues raised about the supply of credit to business and the willingness of banks to lend.

The business media continue to feature comment about the role UK banks should be playing in helping UK businesses through the recession – particularly those banks which are in receipt of support from the UK government. As one of the banks in the middle of this debate, the Royal Bank of Scotland is keen to ensure that the facts are well understood and even more determined that UK businesses recognise that this institution, for one, is very much open for business. This can be quite challenging when every day seems to bring a new survey, which is quickly turned into commentary of all types, not all of which serves to illuminate the key issues.

But let’s start with a survey because it takes us right to the biggest of those issues, namely the vexed question of supply and demand. Deloitte’s second quarter CFO Survey, titled ‘No return to business as usual’. The findings suggest that UK CFOs believe the UK economy may be at a turning point, though that upturn, when it comes, will be one marked by ‘sluggish growth, a strong focus on cost control and tight lending conditions’. In other words, respondents are pointing towards issues of underlying demand for their products and services and to issues relating to the supply of credit, which they consider to be ‘scarce and expensive’.

It’s no wonder CFOs are citing demand as one of the culprits. The UK economy shrank by 2.4% in Q1, as much as during the whole of the 1990s recession, and 0.8% in Q2. This has been felt throughout the UK corporate sector, hitting construction and property early in the cycle as well as the service sector, which makes up the bulk of the UK economy. In Q2 industrial production fell 0.7% in line with already published data and as expected there was a disproportionate drag from energy output with manufacturing down a more modest 0.3%. In our travels among our corporate clients, the dialogue over the last six to nine months reflects this environment with the comments from our customers focusing on cost cutting, curtailing capital investment, shelving investment plans and putting M&A activity firmly on the back burner (the latter has been a major driver of lending activity in recent years and effectively dried up in the first half of 2009 – although there are signs now that appetite is recovering).

Companies appear to be hunkering down and determined to reduce debt levels and strengthen balance sheets. The same is happening in the consumer segment – the whole economy has woken up to the fact that we all need to save more and borrow less. Banks are therefore facing a material downturn in demand for credit (though it is worth noting that, compared to previous downturns of this magnitude, business lending remains, in fact, relatively strong).

The Bank of England’s July ‘Trends in Lending’ picks this theme up, pointing to a steady downward march in lending to UK businesses by the major British banks, shrinking by an annualised 5.4% in the three months to May. It goes on to say that its regional agents are reporting very weak business investment intentions, which in turn reflected the outlook for demand.

At RBS, we have attempted to get under the skin of the demand issue by speaking directly to our customers regarding their investment plans for the near future.

When we asked our mid-corporate customers in May, we found that two thirds of them were not expecting to borrow any more money in 2009.

Addressing the unwillingness to lend

So what will cause this picture to change? One of the issues to consider is the confidence factor. Banks are facing the contention that weak levels of credit demand are associated with the perception that banks are unwilling to supply it. UK banks all recognise their role (and indeed responsibility) in stimulating growth, not only by being open for business but by being seen to be open. Indeed, the banks that are enjoying the support of the government have entered into specific commitments with the government to increase their lending to both the business and personal segments, with RBS to make £16bn and Lloyds Banking Group £11bn available to UK businesses. Taken together, this amounts to more than total market net lending in 2008 and should, in theory, comfortably address the supply issue. The key is, of course, turning this availability into drawn borrowing in a responsible way, which serves the interests of both customers and shareholders of the banks.

To date at RBS we have led the field, for instance, in taking applications for the Enterprise Finance Guarantee (EFG) scheme, with over £213m worth of loans already agreed or in the pipeline at the time of writing. We have also confirmed receipt of £250m European Investment Bank funding, currently being passed on to UK business customers as part of £3bn of additional lending distributed via 12 regionally-managed funds of £250m.

We have seen a significant level of demand for EFG loans from the manufacturing sector, particularly in North West England, North Wales and the Midlands, where it has accounted for approximately one-third of all the EFG loans we have provided to date.

As we talk to our customers, we are making it clear, wherever we can, that we are willing to lend more; we are finding that this can help build confidence and encourage those customers to bring forward business investment or corporate activity which they might otherwise have held back from. We are openly advising our credit appetite to customers to engage this debate. There also continues to be a debate around whether banks have simply changed their lending criteria. The fundamentals of our approach to assessing lending propositions in the manufacturing sector has not changed at RBS and the principle that we (and, I believe, most other major British banks) work to is one of long-term partnership, seeking to provide consistent support based upon a deep understanding of a company’s business strategy and management. This is not to say that banks do not need to ensure their risk management disciplines are world-class; they do and it is only right that lending decisions are made with all the thoroughness and diligence that the external risk environment demands.

What next?

We operate in challenging times, where soundbites dominate the headlines and where it is sometimes difficult to discern what is really going on. Certainly, at this institution, we are very much open for business and indeed actively out hunting for it! Indeed, one example of our lending activity is a £17.1m funding package the bank provided earlier this year to support the development of a joint venture recycling plant between MBA Polymers, Inc and Warrington-based European Metals Recycling Ltd (EMR).

The plastics processing facility was being developed in Worksop, Nottinghamshire and is expected to process 80,000 tonnes of waste per annum. Work on the plant has begun and is scheduled to complete early next year. A new joint venture company — MBA Polymers UK — has been established to run the operation.

The plant will specialise in the recovery of plastics from upgraded shredder residue. The upgraded shredder residue is a complex plastics-rich material, which is available after recycling metals from cars and consumer electronic devices.

It is estimated that more than 12 million tons of plastics from just end-of-life automobiles and electrical and electronics equipment are disposed of each year around the world. These plastics are commonly land-filled or incinerated at high economic and environmental costs because it is considered too complicated or expensive to recover and to separate them.

California-based MBA Polymers Inc is a world leader in recycling high value plastics from complex waste streams and end-of-life durable goods such as computers and business equipment. The company was established in 1994 and has designed and built two of the most advanced plastics recycling facilities in the world: one in Guangzhou, China and the other in Kematen, Austria.

Headquartered in Warrington, European Metal Recycling (EMR) has grown to become the UK’s largest metal recycling company, handling more than 10 million tonnes of materials from consumers, industry and demolition works per year. The company, founded in 1994, has made several acquisitions to grow the business and now operates from over 100 locations worldwide.

Dr. Michael Biddle, MBA’s founder and President, says: “The MBA Polymers UK facility is an exciting development, as it expands our company’s global ability to deliver high quality resins from recycled plastic with a very small carbon footprint. With this expansion we are furthering our company’s goal of providing highperformance sustainable plastics on a global scale so that manufacturers can meet the consumer imperative for greater sustainability and environmental responsibility.”

Steve Lewis, senior director at RBS, says: “Both MBA and EMR are leaders in their respective markets and will bring considerable expertise to this venture. We are very pleased to provide the funding for the Worksop site and look forward to seeing it fully operational.”