THE NEW ERA OF GLOBAL BANK
RELATIONSHIP MANAGEMENT
James Gilligan, CTP, FP&A – Great Plains Energy, Inc. (Kansas City)
Stephan Ireland -- Redbridge Debt & Treasury Advisory (Houston)
Every component of the banking relationship can strengthen it or weaken it
Banking relationships are complex and subtle
• HISTORICAL and LONG STANDING relationship
• HUMAN based relationship
• Evolved with MUTUAL TRUST and CONFIDENCE
• Sometimes (often?) POLITICAL
• ADMINISTRATIVE …
• A CHOSEN…
• …or ENDURED relationship
• ALL of it?
2
But it is ALWAYS a relationship based on performance, risk and profitability KPIs
3
AGENDA
3
• 1 Regulatory background
• 2 Bank reactions
• 3 RAROC & economic capital
• 4 Taking advantage of the new rules
• 5 Questions
Basel III changed banks forever
• Basel III establishes a minimum Common Equity Tier 1 (“CET1”) ratio
• Rules require more stringent adjustments to the calculation of CET1
• Non-cumulative perpetual preferred stock classified as Tier 1 capital
• Subordinated debt classified as Tier II capital
• Minority interests receive significantly reduced capital treatment
Capital requirements for banks were substantially increased
• Banks will be required to hold 2.5% of risk-weighted assets (RWA) in Common Equity Tier 1, above the
minimum ratios, to satisfy this requirement and avoid restrictions on discretionary capital distributions
Basel II
Minimum
Basel III
Minimum
(Effective Jan
2015)
Capital
Conservation
Buffer
(Effective Jan
2019)
Total
Minimum
Ratios
Maximum
G-SIB Buffer
(if applies)
Potential Minimum
Ratios for
Large Banks
Common
Equity
Tier 1
(“CET1”)
2.0% 4.5% + 2.5% = 7.0% + 2.5% = 9.5%
Tier 1
Capital4.0% 6.0% + 2.5% = 8.5% + 2.5% = 11.0%
Total
Capital6.0% 8.0% + 2.5% = 10.5% + 2.5% = 13.0%
Common
Equity
Tier 1
Non-Common
Regulatory
Capital
Capital
Conservation
Buffer
4
G-SIB surcharges
• Systemically important banks are viewed as being
riskier
• Global Systemically Important Banks (G-SIBs) are
allocated to surcharge buckets corresponding to the
higher loss absorbency requirements they would be
required to hold
• Systemic importance is determined by computing a
score based on the equal weighting of 5 factors:
• Cross-jurisdictional activity (Banks with significant
global operations)
• Size (Banks with large balance sheet assets and/or
exposure)
• Interconnectedness (Banks with significant exposure
to wholesale funding and counterparty exposure to
other financial institutions)
• Substitutability (Banks with large custody, clearing
and/or underwriting operations)
• Complexity (Banks with significant capital markets
exposures and illiquid investments)
Surcharge
Bucket
G-SIBs(effective Jan 2017)
G-SIBs(effective Jan 2018)
3.5% (Empty) (Empty)
2.5%HSBC
JP Morgan Chase
Citigroup
JP Morgan Chase
2.0%
Barclays
BNP Paribas
Citigroup
Deutsche Bank
Bank of America
BNP Paribas
Deutsche Bank
HSBC
1.5%
Bank of America
Credit Suisse
Goldman Sachs
Mitsubishi UFJ FG
Morgan Stanley
Barclays
Credit Suisse
Goldman Sachs
Industrial and Commercial Bank of
China Limited
Mitsubishi UFJ FG
Wells Fargo
1.0%
Agricultural Bank of China
Bank of China
Bank of New York Mellon
China Construction Bank
Groupe BPCE
Groupe Credit Agricole
Industrial and Commercial
Bank of China Limited
ING Bank
Mizuho FG
Nordea
Royal Bank of Scotland
Santander
Societe Generale
Standard Chartered
State Street
Sumitomo Mitsui FG
UBS
Unicredit Group
Wells Fargo
Agricultural Bank of China
Bank of China
Bank of New York Mellon
China Construction Bank
Groupe BPCE
Groupe Credit Agricole
ING Bank
Mizuho FG
Morgan Stanley
Nordea
Royal Bank of Scotland
Santander
Societe Generale
Standard Chartered
State Street
Sumitomo Mitsui FG
UBS
Unicredit Group
G-SIBs have even higher capital requirements
U.S. Banks highlighted in red
5
Basel III also seeks to limit leverage
Basel III pressures RWAs and lending capacities
6
CCF Commitment Type
100%
• Standby Letters of Credit serving as financial guarantees for loans
and securities
• Sale and repurchase agreements and asset sales with recourse
• Lending of banks’ securities or the posting of securities as
collateral by banks
• Forward asset purchases, forward deposits and partly-paid shares
and securities
50%
• Commitments with an original maturity > one year
• Certain transaction-related contingent items (e.g.: performance
bonds, bid bonds, warranties)
• Note issuance facilities (NIFs) and revolving underwriting facilities
(RUFs)
20%• Commitments with an original maturity up to one year
• Short-term self liquidating trade letters of credit arising from the
movement of goods
10% • Commitments that are unconditionally cancellable
• Basel III establishes a minimum 3% Leverage Ratio:
• Exposure calculation utilizes Credit Conversion Factors (CCF) to
convert undrawn commitments to a measure of exposure
* U.S. G-SIBS subject to a 5% minimum
3% Minimum*: Tier 1 Capital / Total Exposure
(Effective January 2018)
4% U.S. Minimum: Tier 1 Capital / Avg on-balance sheet assets
(Currently Effective)
• United States has more stringent Leverage Ratio
• Basel III minimum still applies as “supplementary”
• U.S. rules also have Liquidity Coverage Ratio (LCR) test
High Quality Liquid Assets (“HQLA”)
Total Net Cash Outflows Over the Stress Horizon
(Currently Effective)
LCR = > 100%
• Applies in full to depository institutions and holding
companies with > $250 billion in assets or $10 billion in
international exposure
• Net Cash Outflows defined as the highest daily cumulative
net outflow occurring over a 30 day period
Basel III effect is passed on by banks to their clients
Banks may no longer find your business profitable
7
Risk-Based Capital
Ratio (%)
Regulatory Capital
Risk-Weighted Assets
=
“The Shrinking Bank Portfolio Teepee”
Possible
investment
banking
portfolios
Liquidity
Basel 3: LCR / NSFR
8
AGENDA
8
• 1 Regulatory background
• 2 Bank reactions
• 3 RAROC & economic capital
• 4 Taking advantage of the new rules
• 5 Questions
Banking industry is adapting its business model to the new environment
BANK REACTIONSCONSEQUENCES FOR
CORPORATES
Increase in bank fees
Unsustainable funding policy
Core Clients
Service Quality & Coverage
Rethink your bank relationship?
Targeting the AAAs?
Funding Scarcity?
• Re-pricing credit facilities
• Increasing pricing on side Businesses
• More Stringent documentation
• Reducing credit exposure & concentration limits
• Stricter credit approval processes
• Less flexibility
• Redefining Core clients list
• Devoting more or fewer resources to clients at specific levels of size or profitability
• Rationalization of branch structures
• Product rationalization
• Reducing resources (Improving C/I ratios)
Pricing
Optimization
Effective Customer
Management
Strategic Cost
Reduction
Effective Risk
Management
Consequences for corporates can be dramatic
Many factors can explain why your business might not be attractive to a particular bank at a specific time
10
Client’s Attraction
Bank Core capabilities
Capital constraints
Liquidity constraints
Business Sector
Risk Profile
Global Profitability
What makes your business attractive OR NOT to banks?
Global
Transaction
Services
Medium
Long term
Financing
Asset
Management
Capital
Markets &
Advisory
Trading
activities
Co
mm
erc
ial
Ba
nkin
g
Inve
stm
en
t
Ba
nkin
g
• Short term lending
• Trade Finance
• Cash Management
• Credit or Liquidity Facilities
• Leasing & Asset Based Credit
• Structured & receivable Finance
• Custody (administrative)
• Short & Long term Investments
• Debt Capital Market
• Equities Capital Market
• M&A / Advisory
• Rates / FX
• Equity
• Commodities
Historical averages collected over the last 15 years
Study based on 15 companies in the Global Fortune 1000
11
320
6
78
-
100
200
300
400
Bank fees (in $m)
Average
86%
40%
57%
0%
20%
40%
60%
80%
100%
Efficiency Ratio (%)
Average
30%
5%
14%
0%
10%
20%
30%
40%
RAROC (%)
Average
104
13
44
0
50
100
150
# of Banks per company
Average
How many banks do you need?
Bank Concentration
12
0%
10%
20%
30%
40%
50%
60%
70%
80%
A B C D E F G H I J K L M N O
Top 5 Banks vs. Total RevenuesTop 5 banks
represent
59% of total
business
0%
10%
20%
30%
40%
50%
60%
70%
80%
C B A F J D I N M H K L E G O
Top 5 Banks vs. Total Economic Capital
Top 5 banks
represent
50% of
total EC
13
AGENDA
1
3
• 1 Regulatory background
• 2 Bank reactions
• 3 RAROC & economic capital
• 4 Taking advantage of the new rules
• 5 Questions
RAROC is a tool used by banks to create and protect value based upon their IRR requirements
14
Revenues – Operating Costs – Liquidity Costs - Expected Loss
Economic Capital
Risk-adjusted performance measurements encompass multiple sets of concepts
• Revenues (Credit
margin, arrangement
fees, side business…)
• Revenues on Economic
Capital
• Cost to Income Ratio
• Refinancing costs
• Depend on maturity
• LCR & NSFR Costs
• Cost of Risk
• EAD x LGD x PD
• Ex-ante loan loss
impairments
RAROC =
• Unexpected Loss, capital required to absorb losses up to a chosen probability of failure (usually 95% to 99%)
• EC = Basel III Advanced Approaches Risk Weight (K%) x EAD
• Function of EAD, PD, LGD & M
• We can add Operational & Market risk too (not chosen in our methodology)
Four major risk parameters are key in assessing Economic Capital and the bank’s profitability
RAROC: Behind the words are risk parameters
15
Exposure
Less:
Collateral
Loss
Counterparty
Risk
Internal
Rating
Probability of
default over
next year
Bank
Exposures
Maturity
On/Off Balance
Sheet (CCF)
Exposure at Default: What is
the Bank’s Actual Exposure a
the time of default?
Loss Given Default: How much
will the Bank actually lose if
you default? (Will the bank
recover some of it?)
M
PD
EAD
LGD
Maturity: What is the
duration of the Bank’s
commitments?
Data collected over the last 15 years
Have You Heard About The Business Case?
16
Infinite
41% 36%
20%
6%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
AssetManagement
Advisory andCapitalMarket
Tradingactivities
Short TermFinancing
GlobalTransaction
Banking
Long termFinancing
Average RAROC per product category
46%
54%
Revenue Distribution
Credit
Side business
87%
13%
Revenue Distribution
Recurrent revenues
Nonrecurrent revenues
74%
26%
Revenues distribution by BU
Commercialbanking
Investment banking
Analyze the impact of banking services on profitability
Understand What Matters
17
6,1%
13,7%17.5%
32.4%
24.2%
3066%
Infinite
0,0%
2,0%
4,0%
6,0%
8,0%
10,0%
12,0%
14,0%
Long term Financing Short TermFinancing
Trading activities Global TransactionBanking
Advisory and CapitalMarket
Asset Management Total
6.1%
7.7%
8.7%
11.2%
13.2%13.7%
RAROC can help corporates more accurately price financial operations and adequately measure side business amounts
And the sensitivity to all risk parameters
18
7,41%
10,46%
14,50%
19,63%
25,79%
0%
5%
10%
15%
20%
25%
30%
BBB- BBB BBB+ A- A
RA
RO
C
Rating
28,58%
19,60%
14,50%
11,29%9,12%
0%
5%
10%
15%
20%
25%
30%
35%
3 4 5 6 7
RA
RO
C
Initial Maturity (years)
13,99%
14,25%
14,50%
14,76%
15,02%
13%
14%
14%
14%
14%
14%
15%
15%
15%
15%
100 110 120 130 140
RA
RO
C
Spread (bp)
15,02%
14,50%
13,99%
13,47%
12,5%
13,0%
13,5%
14,0%
14,5%
15,0%
15,5%
#N/A 10 bp 20 bp 30 bp 40 bp
RA
RO
C
Cost of Liquidity
Banks use Economic Capital & RAROC in different ways to create value for their shareholders
RAROC & Economic Capital are strategic tools for banks
• Depending on existing Capital & RWA,
banks can calculate their maximum risk
budget (Economic Capital)
Defining Risk Budget
• Allocation of EC per Business Unit, Desks,
Products, Transactions…
• Allocating per Counterparty (PD)
Allocating Risk Budget
• Used in approval processes (yearly
analysis / transaction request)
• Subject to business judgment
Decision Making
• Use selectively in pricing
• Link To EVA: If RAROC > Cost of CapitalPerformance
19
20
AGENDA
2
0
• 1 Regulatory background
• 2 Bank reactions
• 3 RAROC & economic capital
• 4 Taking advantage of the new rules
• 5 Questions
Transparency is the foundation of a fair and long standing relationship
21
If your bank tells you “We are not meeting our rate of return, We need more business! »
• Ask for bank fee reporting
• Always compare with the
market and your peers
• Check how compares to other
banks
• BUT: How and what to
accurately compare?
• Be aware that each business /
transaction has its own EBIT
structure (Efficiency ratio)
• ASK your bank for average
cost/Income ratios
• Check annual reports (cost to
income ratios)
• Is your bank using an internal
rating process?
• What is your rating?
• Check what financial ratios
your bank uses to assess
your company
• What qualitative information
does your bank assess?
(Management, Industry, etc.)
• Sell your credit: organize annual bank meetings and sell your risk profile! Ask your bank to share their Internal rating in return
• Optimize bank capital by using less greedy economic capital instruments (securitization, factoring, receivables), by implementing a commercial paper
program or issuing Private Placements.
Cash or receivable collateral reduce significantly RWAs. Make sure you benefit from the reduction in your pricing / margin!
• Be careful when assessing the amount of liquidity lines. They tend to be the highest cost of capital to the bank. Do you have a liquidity policy? How
often do you review it?
• Typically the longer the maturity, the better for your company (not for your banks)! Longer = expensive! Diversify your liquidity profile by issuing several
bilateral credit lines with different maturities instead of a global RCF. You might even have better rates!
• Ask what is your bank’s hurdle
rate (RAROC / RoRWA) ?
• Does your bank have a
profitability issue, fee issue, or
both ?
If you don’t ask, you don’t get!
Rank your banks to decide how to distribute business
Measure & quantify revenues, Economic Capital & RAROC
22
Revenues 2013 Revenues 2012 EC 2013 EC 2012
(in M EUR) (in M EUR) (in M EUR) (in M EUR)
BNP Paribas 32,8 26,1 24,8 23,1 39% 33%
HSBC 20,1 15,0 12,4 12,6 40% 9%
Société Générale 14,3 9,1 16,0 19,5 26% 13%
Société Générale 14,2 9,1 16,0 19,5 26% 13%
Crédit du nord 0,1 0,0 0,0 0,0 25% -
BPCE 12,0 21,3 7,1 10,0 25% 38%
Bred 4,2 11,4 0,2 0,5 -207% 229%
Natixis 7,8 9,9 6,9 9,4 31% 28%
Intesa Sanpaolo 11,5 9,7 15,4 19,4 20% 14%
Crédit Agricole 10,1 5,7 16,4 14,6 21% 13%
RBS 9,7 4,6 8,9 11,8 24% 10%
CITI Bank 9,6 2,0 4,2 4,3 62% 12%
Morgan Stanley 6,3 9,7 2,5 3,6 63% 58%
Barclays 6,0 4,6 9,6 14,0 15% 8%
Goldman Sachs 5,8 2,7 3,6 4,4 39% 14%
Crédit Suisse 4,9 2,3 3,5 4,1 37% 14%
Deutsche Bank 4,7 6,2 4,8 2,8 23% 50%
Lloyds 4,7 1,8 4,7 5,9 30% 9%
Bank of America 4,0 1,7 7,0 6,7 16% 8%
Nomura 3,4 1,5 2,2 2,6 40% 13%
Santander 3,1 1,7 6,7 5,7 15% 10%
CM-CIC 2,7 2,9 5,1 5,5 21% 20%
ING 2,6 1,9 6,7 6,1 14% 10%
Unicredit 2,3 2,0 11,1 10,5 6% 6%
La Banque Postale 2,1 3,8 2,0 2,6 47% 76%
Commerzbank 1,8 1,2 5,4 4,9 11% 9%
BoTM 1,4 1,3 7,7 7,6 7% 6%
Royal Bank of Canada 1,4 0,2 4,8 2,6 8% 3%
Mizuho 1,3 0,2 4,5 4,1 9% 2%
SMBC 0,7 0,3 2,3 2,7 10% 3%
JP Morgan 0,6 1,4 0,9 1,0 18% 41%
Wells Fargo 0,3 0,2 0,0 0,0 Infini Infini
ANZ 0,1 0,3 0,1 0,3 15% 17%
Nordea 0,1 0,3 0,0 0,0 323% 142%
Total 180,5 141,8 200,5 212,6 24,45% 16,70%
2013 RAROC 2012 RAROC
Identify which banking relationships are profitable
Bank Fees are not enough
23
Hurdle rate
Opportunistic or Banks in danger
You are in danger!
24
AGENDA
2
4
• 1 Regulatory background
• 2 Bank reactions
• 3 RAROC & economic capital
• 4 Taking advantage of the new rules
• 5 Questions
Stephan Ireland – Managing Director
Redbridge Debt & Treasury Advisory
Houston, TX
832-321-2754
James Gilligan, CTP, FP&A – Assistant Treasurer
Great Plains Energy, Inc.
Kansas City, MO
816-556-2084
THE NEW ERA OF GLOBAL BANK
RELATIONSHIP MANAGEMENT