As large segments of the world's banking system flirt with insolvency and require unprecedented bailouts, treasury staffs are operating on high alert and maneuvering delicately to test relationships on which they depend. Those relationships may be of long standing, but these days they're anything but familiar.
"This turmoil is worse than I ever thought it would get," says Greg Weigard, assistant treasurer at $10 billion Air Products & Chemicals Inc. in Allentown, Pa., and a 25-year treasury veteran. "I think bankers are trying to figure out what banks will look like going forward, what lines of business they will keep or sell, who will own them."
Geopolitics and macroeconomics have collided with routine treasury operations. The bailouts worry Rick Moss, treasurer of $4.5 billion Hanesbrands Inc. in Winston-Salem, N.C. "You have to wonder how high levels of government ownership will impact how banks function; they're subject to enormous oversight–called to appear before Congress, criticized for golf tournaments and jet purchases.
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"How far will Congress and the administration go in micromanaging?" Moss wonders. "Will Congress or Treasury tell banks how to run their business? Will they tell them who to lend to? Will they tell them to take less risk to protect government holdings or take more risk to advance social policy? We're not cutting ties to any banks, but we're watching closely to see what the long-term effects will be from government ownership."
While government rescues have eased immediate fears about bank defaults, they have done little to inspire long-term confidence. "You have to be concerned about the government's ability to manage the banking system, and they're off to a poor start," says James Haddad, vice president of finance at $1 billion Cadence Design Systems Inc. in San Jose, Calif. "The original TARP program seems to be ill-conceived and has been poorly executed. We can only hope that Treasury Secretary [Timothy] Geithner, Fed Chairman [Ben] Bernanke and the new administration will do a better job, but that remains to be seen."
As banks and treasury staffs move to build new relationships, credit is a top concern. Banks are just not open for business in some segments of the credit market, Weigard reports. "If you're looking for an overdraft facility or letters of credit, a lot of banks are not interested. Fortunately, we increased our credit facility last September, just before things got so bad. We like to do multiyear facilities, but if we had to renew today, the most we could expect would probably be 364 days."
The biggest problems have involved the renewal of credit agreements or the modification of current agreements, says Mike Gallanis, a partner and head of the corporate practice at Chicago-based Treasury Strategies Inc. "Banks have backed off, and some corporations have had problems renewing credit lines."
With credit tight, treasurers should review all existing lines with an eye toward eliminating those they don't need, freeing that credit up for where it is needed more, says Jim Colby, assistant treasurer for the Americas at $38 billion Honeywell International Inc. in Morristown, N.J. "It's not unusual to have uncommitted lines you don't pay for and never use, but that still ties up some of a bank's capacity to lend," he explains.
Ironically, the weaker banks get, the stronger their position becomes in dictating the terms of credit, Hanesbrands' Moss points out, because other sources of credit–like commercial paper and corporate bonds–are even further out of reach. Banks are making something of a comeback as "the primary credit providers," he says. "With the cheaper alternatives gone, borrowers are coming back to banks for their core borrowing. It's like the old days."
The power shift is evident in covenant strategy, says Craig Jeffery, managing director of Strategic Treasurer LLC in Atlanta. Historically, covenants were requested or required by lenders. Now borrowers are proposing covenants as part of their courtship of bank lenders, he notes. "The banks with enough capital to expand lending can be selective, so corporations are offering covenants as a way to get their attention."
Disappearing covenants can be a sign of weakness and more costly borrowing. When 10-Q filings report instances in which corporations and banks have renegotiated credit agreements and dropped covenants, it's often because there was a covenant violation and the borrower had to pay substantially higher rates to get it removed, Jeffery says.
Differentiating funding sources is very much in vogue these days, he reports. "You don't want to be totally dependent on commercial paper in case that market fails." And treasuries are laddering their term loans to spread maturity dates, even though it costs more to do so.
Cadence has not been a bank borrower, but that might change. "We've successfully raised money in the convertible debt market, but that market is effectively shut for now," Haddad reports. So he is reviewing Cadence's treasury services banks and preparing to ask them if they are willing to consider a credit commitment when Cadence seeks credit. "When we review all our banks this year, we'll look at how well they are performing the services we use but also ask if they're willing to lend to us," he says. "Where we award fee business, we will expect to be considered for credit if we need it and if we qualify for it."
If banks are backing away from the credit side of their corporate business, they're putting a higher value on fee-based treasury services. "Treasury services are a bright spot for banks today," says Anthony J. Carfang, founding partner of Treasury Strategies. Boards at all the major banks have recognized how important this business has become, he notes, which means treasury services have been sheltered from draconian cost cuts. "Some banks that have cut bonuses 50% to 75% have actually increased the bonus pool for their treasury services people," he says. "That attests to their importance."
That doesn't mean there isn't concern around funding for new products, however. You have to investigate a bank's plans for a line of business you count on, Haddad says. "They may be planning to sell or exit a particular line of business, or, worse yet, stay in it with mediocre service and not invest to keep it leading-edge. Slow deterioration is worse than a sale or exit."
If funds are not flowing to new product development, that doesn't necessarily mean banks are being stingy. "Concern about the future regulatory structure has created great uncertainty," Carfang says. "Paul Volcker has floated a proposal that money-market mutual funds operate under bank charters. That would have a huge impact on sweep accounts. If you're a product manager looking at an upgrade to your sweep account platform, you'd want to wait for the regulatory fog to clear. The funds may be there, but bankers are uncertain about what would be a good investment."
Some banks are clearly spending. "Last year we announced a $1 billion investment in our treasury services business," reports Sue Webb, executive vice president and head of cash management products at JPMorgan Chase & Co., "and we're still on that track." Most of the investment will go to international services, where growth expectations are strongest, she says.
As fee-based business drives more banking relationships, bankers are rethinking what to charge. "Custody is a good example," says Randy White, managing director of JPMorgan's liquidity solutions business. "We've been giving it away, but now that the value of other business connected to custody is not so great, we're rethinking what we should charge."
As treasuries and banks work to recreate relationships, communication becomes critical, and a break in communication is a problem. Treasurers have to wonder if their bank contacts are still there and if they are responsive, Haddad says, and if they're gone, why no one told the treasurer. "That has happened, and it says a lot about what the bank thinks of the relationship," he notes.
"At some banks, we call our relationship manager and learn that he or she is gone and we don't know who to talk to," Moss reports. "We're feeling the effects of bank downsizing. I don't recall having seen this much turnover in my 25 years in this business."
"I could rattle off eight to 10 names of people we've worked for many years who are no longer with their old banks, mostly due to consolidation," says Weigard.
Not getting a call back is probably a bad sign, Jeffery says, but it could mean several things: that the bank has bad news it doesn't want to share, that your relationship manager has been laid off, that people at the bank are very busy or that you're no longer very important to that bank.
Banks are well aware of the need to keep in touch. "One real change is that we're more attentive and proactive in communicating with clients," Webb says. And the communication is not just about treasury services but about the financial condition of the bank. "We brief our sales force so they can answer questions about our capital position, analysts expectations and our outlook," she says. "That wasn't part of the dialog 18 months ago."
"We're having more granular discussions with clients," says Michael Gallagher, executive vice president and head of payments and cash management for North America at HSBC. "Cash management has become a top-of-mind activity at many companies."
Don't expect banks to let you know that their loan losses are mounting and their capital is nearly exhausted. For treasurers or CFOs looking for a single indicator to show the rising or falling credit quality of their banks, the credit default swap rate is a good proxy, Jeffery says. "You still have to watch the credit ratings and be alert to downgrades, but the CDS rate is a pretty reliable metric," he explains. "There's enough of a CDS market still functioning to provide daily rates."
For other signs of a bank's creditworthiness, look at tier one capital ratios, the loan-to-deposit ratio (a sign of how much a bank relies on purchased deposits) and the rate the bank is offering on certificates of deposit, says Bill Booth, senior vice president for large corporate and institutional business at PNC Bank. "If they're paying a lot for deposits, they probably need them," he observes.
With relationships in jeopardy, there's evidence that treasury staffs want to loosen some of the infrastructure ties that bind them to particular banks and make banking relationships more portable. "Clients are pushing us to move to industry standards such as Swift for corporates," HSBC's Gallagher reports.
At the same time, proprietary technology is staging a comeback, says Wolfgang Koester, CEO of FiREapps, a Phoenix-based financial technology company specializing in foreign exchange. Stronger banks like JPMorgan Chase and HSBC have money to invest and are putting capital into building better technology as a way to widen the competitive gap and capture more business. He's skeptical that banks will move to industry standards. "We've seen a move away from common platforms like FXall to individual platforms," Koester says.
Global corporations that have relied more on non-U.S. banks should be especially alert to bailouts those banks receive because foreign governments are going to expect the banks to focus on reviving their national economies instead of investing in global expansion, Carfang advises. "If Country A is bailing out its banks, it won't want them investing in Country B and providing jobs there. Imagine the reaction if a U.S. bank took billions in TARP funds and then outsourced an operations center and hundreds of jobs to Mumbai."
When change is rampant, you have to plan for change, which means every treasurer needs to have a formal relationship management plan, Jeffery insists. "Treasurers have always had one, but sometimes they kept it in their heads. Now it needs to be written and well understood by all parties. If your CEO and CFO haven't historically met with your banks, they need to start now. You need to know who is important to you, who you want to be important to and how you're going to get there."
It's more important than ever to understand how valuable your company is to your banks, says Honeywell's Colby. Honeywell goes so far as to generate an estimated risk-adjusted return on capital (RAROC) score so it can negotiate with more confidence and anticipate bank moves. "These are hard times for banks and for many corporations," he sums up. "We should work together to get through them, not look for ways to take advantage."
A New Version of 'The Rules' Is Due Soon
Surviving the financial devastation of the current economic crisis is one challenge. Surviving the worldwide financial reregulation that is sure to follow is quite another challenge. Global reregulation will change the entire playing field and how banks and corporations work together by "controlling how banks are structured and what products they are permitted to offer," states Anthony J. Carfang, founding partner of Treasury Strategies Inc. in Chicago.
The crisis is "a regulator's dream come true," Carfang says. "If you can say, 'We can't let this happen again,' you can justify a lot of things. There will be a push for a global regulatory framework. Individual nations will tighten regulation and increase capital requirements for their banks as safety measures. And selected governments will try to exploit the regulatory tightening to create havens of lower regulation to attract business."
The result could be a Glass-Steagall kind of separation of financial providers, but dividing consumer banks from corporate and institutional banks instead of commercial banks from investment banks, Carfang suggests.
Where regulations tighten, it will absolutely drive up the cost of doing business for banks, he says. "Financial institutions will be required to operate with more capital, and private capital has to earn a competitive return, so that will push up prices."
Any new regulatory regime is likely to impose restrictions on global connectivity, since that has been blamed for the spread of the current crisis, he explains. Financial institutions may be required to maintain capital at the jurisdictional level, not just at the enterprise level. That could reduce the incentive for banks to operate globally and make it necessary for global corporations to use more banks.
Strong Suitors Look for New Conquests
The financial meltdown that has crippled many banks is creating opportunities for others via a modest flight to quality. Companies that had been settled in long-time banking relationships are reviewing their options, "sometimes with real urgency," says Michael Gallagher, executive vice president and head of payments and cash management for North America at HSBC. "We're getting a lot more calls because of our financial strength."
Bank of New York Mellon reports a surge of interest from treasury managers concerned about operating services. "They want to get their processing where they know it will be a priority and where they know the provider will keep investing in that business," says Ben Phillips, managing director for treasury services sales in the corporate and not-for-profit group. He cites trade services as an example.
PNC Bank is "aggressively going after market share," says Bill Booth, senior vice president for large corporate and institutional business. "We have significantly increased lending–up 8% over the past three months at a time when loan demand is weak."
In spite of a fairly strong balance sheet, BoNY Mellon is not extending more credit to gain market share. "We're prudent in how we allocate capital," Phillips says. "Our loan portfolio is a little smaller than it was a year ago. We haven't taken any new lead bank positions" in syndicated credits.
Wells Fargo is also keeping a tight grip on its lending. "We're picky about who we do business with," says Danny Peltz, executive vice president for wholesale Internet and treasury solutions. "We'll take our fair share in syndications, but our appetite for lending is limited." Overall, both deposits and loans grew significantly in the fourth quarter of 2007, he reports.
While strong banks are bidding to increase market share at the expense of weak rivals, it's a muted campaign so far. "We're not getting many cold calls," says James Haddad, vice president of finance at Cadence Design Systems Inc. in San Jose, Calif. "I don't think banks are doing a lot of traveling these days." When Haddad meets with bankers, they're likely to ask for more business, but they're not aggressively coming after it, he notes.
Strong banks are trying not to gloat. "The system works best when there are many healthy competitors," says Sue Webb, executive vice president and head of cash management products at JPMorgan Chase & Co. "Unfortunately, that's not the case today."
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