The time for private equity may have come for banking transactions – heard in the streets
By Rochelle Toplensky
Even as optimism about a vaccine-induced recovery spreads in global markets, European banks remain valued for a deeply uncertain future. There are no easy answers, but going private could be a solution for the little ones.
Shares of the region’s lenders have risen 20% this year, but still trade at less than two-thirds of forward book value, on average, with some only a quarter of book value. One would expect these stubbornly low valuations to attract cash-rich private equity investors looking to cut costs, consolidate companies or even liquidate assets.
So far, buyout companies have taken hold of non-performing loans, but have generally avoided entire banks, mostly due to regulatory concerns. Still, officials may be sensitive to the idea that private equity has a role to play in the next wave of industry consolidation.
Despite high capital levels, some banks are likely to be strained by loan degradation once government support programs are canceled in the wake of the pandemic. This will add to a host of existing problems that have plagued the profits of European lenders over the past decade, including rock bottom interest rates, fierce competition and underutilized banking networks.
One lingering hope is that the mergers could improve the industry’s profits. Cross-border transactions remain unlikely without long-standing reform at EU level, but there have been a few domestic transactions recently: Italian Intesa Sanpaolo bought UBI last year and Spain’s CaixaBank acquires Bankia. However, few involve the biggest European banks. Rather, most of the giants focus on cutting costs, investing in computer systems and cross-selling services to increase returns.
The lack of industry buyers leaves European banking regulators in need of other options to strengthen weak lenders. This could open the door to the special mix of private equity and cost cutting, which has always been frowned upon by bank officials. There are early signs of action: HSBC is speaking with a private equity buyer about its retail operations in France in what appears to be a test for the strategy.
The European Central Bank’s decision to allow buyers to create negative goodwill if they buy below book value is an example of regulation encouraging transactions, a tool that was used successfully in the United States after the crisis. from 2008. This badwill can be added to capital to offset restructuring costs or non-performing loans.
There is no shortage of possible targets, even before any tightening of NPLs. For example, the UK has many mid-sized “challenger” banks that have themselves been challenged, including the Cooperative Bank, Virgin Money, Metro Bank, Monzo and the banking units of retailers Sainsburys and Tesco.
Transactions will always be tricky, as many regulatory concerns remain. Cerberus Capital Management took an interest in Cooperative Bank last year, but the merger fell apart. One apparent concern was with so-called mortgage prisoners – borrowers had to pay high-interest mortgages to the private equity firm for years, unlike comparable bank customers whose loans were refinanced at lower rates. Debt levels could be another barrier to transactions, given the heavy reliance on debt financing by buyout companies and lenders.
Yet European regulators want a more robust banking system and have few options. Unconventional thinking will be needed.
Write to Rochelle Toplensky at [email protected]
(END) Dow Jones Newswires