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Banking – See how we’ve changed

Banking consolidation should make mid-cap corporate business a seller’s market. Fewer banks in the field give the remaining players greater leverage over pricing, or so the argument goes. In reality, the trend has been just the opposite. In 1999 about 28% of UK mid-cap corporates had multi-bank relationships. By last year that figure had risen to 35%. Companies are in fact spreading their business around, turning to foreign as well as domestic banks for products and services.

Nevertheless, mid-caps remain the most lucrative segment of the UK corporate banking market. Small- and medium-size enterprises require little more than basic lending and their business is generally too small to attract any of the highly lucrative “follow up” services that, from the bank’s perspective, add value to the relationship. This could be in the form of corporate finance advisory work, treasury and risk management or capital raising in the international debt markets. The FTSE-100 companies, on the other hand, would typically have the in-house capacity and sophistication to carry out these tasks on their own. Mid-cap corporates fall somewhere in-between: they are generally large enough to need sophisticated products and services to fund their expansion or manage their treasury, but they lack the in-house resources to manage these affairs.

“One trend has been an increasing demand from mid-cap corporates for interest rate and currency risk management products,” says John Thornton, managing director, corporate and commercial banking, at Royal Bank of Scotland. Since Royal Bank’s takeover last year of NatWest, the combined group arguably ranks as the top player in the mid-cap corporate field, acting as principal relationship bank to about 29% of the UK market.

“We’ve seen this business double in the past two years,” Thornton says. “This reflects the increasing sophistication of mid-market companies and a willingness to consider risk management strategies as a core part of their business strategy. We are making a significant commitment to this area of the business by providing SMEs as well as mid-caps with greater access to the tools and people required to manage foreign exchange and interest rate risk. This service is delivered locally through six regional treasury operations and the relationship manager, to ensure the customers benefit from all the expertise they require and from people who understand their business.”

Thornton says the bank also has a service called the Agency Treasury Agreement through which it will act as a customer’s in-house treasury operation. “We will manage a company’s cash, ask them how much risk they want to take, what their objectives are and when they need the cash to make sure it’s liquid,” he says. “There is increasing specialisation in dealing with mid-cap corporates.”

Part of the task is to segment the marketplace – and bankers are increasingly reluctant to define a mid-cap company by turnover. “The boundaries are blurred between large SMEs and mid-cap corporates,” says Thornton. “It’s much more to do with the needs and sophistication of the customer’s financial management than merely the size of the business. This also entails management’s ambitions and the pace of growth rather than just current turnover. The mid-market arena presents tremendous opportunities to add value and to work together with our customers because the needs are clearly there.”

Peter Harvey, deputy CEO at Barclays business banking, says his bank also takes a bespoke approach to its definition of mid-caps. “We’re looking for businesses with ambition, those with a financial function and a complexity of requirements,” he says. “All this comes into play in the definition, but broadly if you ignore the FTSE-100 we would say we’re looking to provide that sort of tailored relationship for companies with a turnover of #10m-plus. But this can be useless in some cases without adding other factors. Basically, we’re looking for management teams with ambition.”

Straight lending is still the bread-and-butter business providing the foot in the door to value-added capital markets products. Despite a slowing economy, the indications are that corporates are still looking to raise cash in the markets. Figures for June from the British Bankers’ Association show a considerable weakening in lending to the UK private sector, while lending to industry held up against a backdrop of volatile markets and uncertainty over recession. “It was not just the property sector where demand was strong,” says Ian Mullen, the BBA’s chief executive. “Hotels and restaurants, transport and communications and retailers all increased their borrowing.”

It looks like the old economy is back in favour with the banks following last year’s debacle in the telecoms sector. The squeeze meant that nuts and bolts companies were unable to raise money and saw their valuations drop considerably. A few months ago a lot of mid-caps were saying to themselves that they couldn’t sustain these valuations and they were looking at alternatives, from taking themselves private to consolidating. Now, with the rebound of the valuations of some of them, analysts have been forced to admit that perhaps the market got it wrong.

Banks are beginning to learn that the way to a corporate’s heart is through the relationship manager, and that a happy staff is vital to ensuring a happy customer relationship. A recent US business study claims that a 5% increase in staff satisfaction leads to a 3% increase in customer satisfaction, which in turn leads to a 1% increase in pre-tax profits.

“In the last two years we have focused more on our own people than in the last 20 years,” says Barclays’ Harvey. “We realise that to produce a superior customer service you need motivated people. Customers want a strong relationship point to conduct the Barclays orchestra on their behalf. This contains the whole of the Barclays Capital product range, as well as the more traditional products and services we provide. Customers want the relationship manager to be around for several years, as it takes at least a year for them to understand the company’s business.”

Harvey says that all mid-cap customers are asking for relationship banking. He defines the essence of relationship banking as being with the customer through good times as well as bad. “That works both ways,” he says. “It means ensuring that you always leave something on the table for the other person. It’s a win-win situation. You don’t negotiate down to the last basis point or the last pound, but rather look for what is fair for both sides. It’s also about no surprises. If the company is having difficulties we would expect to be amongst the first to know, and if we have a change in policy our customers should be the first to know. That’s effectively how we define relationships. This leads to a solutions-based approach rather than merely selling products.”

This is becoming an increasingly across-the-board commitment on the part of major players in the mid-cap corporate arena. Royal Bank’s Thornton also emphasises the bank’s dedication to relationship management. “Every one of our customers has a dedicated relationship management team, not just a relationship manager. We’re committed to this on the ground and where it’s appropriate as close as possible to the customer,” he says.

The “on the ground” concept is taking on a broader interpretation these days with the growing expansion of mid-cap UK corporates into foreign markets. The challenge for UK banks is to provide the customers with services and expertise on the ground in Spain and Hong Kong, as well as Bristol and Manchester.

At the same time, foreign banks are starting to give the UK corporates’ traditional bankers a run for their money, in the domestic market as well as abroad. Many UK corporates are using German or Dutch banks because they are more advanced than their British rivals in this business, and because the shareholders of these banks are more used to the lower returns generated by investment banking. For many European banks corporate banking represents nearly half their business and they do it well, so there is good reason for a UK corporate to take this part of its business abroad.

Players like Citibank are also making a determined pitch for UK business in trade finance and on the currency side, ABN Amro holds a challenging position in cash management, while Fortis is a strong competitor in the transactional approach. UK banks are still the main port of call for domestic corporates but there is a whole range of foreign banks looking to cherry pick. Focusing on the true mid-market, foreign banks tend to address it from a product perspective. This might be the leveraged finance market to do a buyout, or a specific cash management product or a bit of foreign exchange, while some have set up asset finance businesses to service this sector.

One of the reasons Lloyds TSB is actively seeking to line up a partner in Europe is to meet the overseas requirements of corporate customers, as well as keep up with the competition that has largely stolen a march on the third largest UK bank. Nobody doubts the global credentials of HSBC, while Barclays has a physical presence in nine European countries and Royal Bank is well placed in Europe through its relationship with Spain’s BSCH and in the US through Citizens Financial and the recently-acquired retail arm of Mellon.

“One of the reasons we have so many physical locations in Europe is because our customers have increasingly been looking there as well as in the US where we also have a presence,” says Barclays’ Harvey. “We have to match our customers’ aspirations to help them realise their ambitions. In those countries where we are not represented we’ve signed up with partner banks.”

Banks are increasingly offering their mid-cap corporate customers online services. Later this year, Barclays is introducing a business internet banking service and it has signed up more than 50 companies to use an e-tender service. The rationale is that instead of asking for tenders, the customer can ask its normal six or so suppliers to put in their bids via the net. “We’ve found that it cuts down a huge amount of hassle for suppliers, and our customers have found the prices to be a good deal cheaper as well,” says Harvey.

Banks have also been making a pitch for a variety of outsourcing services. As already mentioned, Royal Bank of Scotland is offering treasury management, while Lloyds TSB, Barclays and IT group Unisys have formed a company to outsource their customers’ cheque processing. Outsourcing is a possibility for Barclays, too, but Harvey says the thinking at the moment is more along the lines of joint ventures and alliances than on straight outsourcing functions. The bank has set up Proponix with the US technology firm AMS, Bank of Montreal and ANZ. The joint venture has opened centres in Canada and Australia in which it processes all documents for the three banks.

“The important thing is that the customer still wants to deal with Barclays and expects us to sort out the documentation,” says Harvey. “The servicing side is still undertaken by the individual banks.”

Banks are constantly bringing new products to the corporate marketplace. Factoring and invoice discounting are on offer from the big players and many of those products are online. There is also increasing specialisation.

In asset finance, for instance, Royal Bank has been developing its capabilities around the aircraft and aviation arena. Another large UK institution has put together a team looking at mid-caps when they go through an MBO or an acquisition. It looks at where money comes in and goes out of a company, and the process of what happens in the interim. It then looks to provide better solutions for the customer, using treasury management and risk hedging.

Given the low returns generated by big ticket business and the limited needs of SMEs, the mid-cap corporate market can be expected to keep the banks’ relationship managers on their toes to come up with ever more sophisticated and competitive products.

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