Product innovation: Berne Union members have responded to the dramatically changed financing climate to continue meeting client needs

With banks still mired in a deleveraging process, Berne Union members have responded to the dramatically changed financing climate to continue meeting client needs, writes Kevin Godier.

This article is taken from the Berne Union 2013, our annual publication published by Exporta Publishing & Events Ltd on behalf of the Berne Union.

Setting the scene that currently confronts export credit agencies (ECAs), Johan Schrijver, director at Atradius Dutch State Business (DSB) and president of the Berne Union, explains that bank funding has become a key issue for medium and long-term credits, leading to an overall lessening of bank capacity for long-term export financing at competitive rates. “Due to the credit crisis, bank capital has evaporated and banks have more difficulty attracting long-term funding at competitive prices, in particular for dollar funding. Also, the new Basel III regulations will lead to higher capital requirements for banks. As a consequence, trade and export finance will have to compete more with other bank product lines,” he says.

“The problem we see is currently more on the demand side,” adds Hans Janus, a board member at Germany’s Euler Hermes Deutschland and a former Berne Union president. “There is a reducing number of medium and long-term transactions because some infrastructure or large investment projects are cancelled or postponed. We have a significant number of project finance or structured finance deals in the pipeline but financial closing of these deals needs an extremely long time. The consequence is a clear shift in our business to short-term transactions.”

Raoul Ascari, chief operating officer of SACE and president of short-term insurer SACE BT, believes that the market changes are unlikely to be temporary. “The world of plentiful liquidity, low borrowing spreads, and high risk appetite that we experienced until 2007 will not come back any time soon,” he underlines. “The forces that make the return to the past impossible are multiple: the global crisis will continue to affect the asset quality of banks; the new Basel III regulations will limit the traditional role of maturity transformation played by banks; national regulations will introduce a bias against cross-border activities; and the corporate reforms in the banking industry are still resisted by management and shareholders.”

Ascari contends that banks’ export credit business has been “mostly immune” to the distortions that have affected other business lines, aided by their underpinning of real economic assets and creditworthy borrowers. “But not totally immune. Funding the sales of aircraft in the commercial paper market carries a maturity mismatch issue; and financing the sales of ships through loans with large balloon payments after a few years implies a refinancing risk,” he says.

The Berne Union’s private sector insurers also face challenges, stresses Dan Riordan, chief executive of Zurich Global Corporate in North America. “The situation is different to 2007/08, but we are not operating in a vacuum. The risk issues include the eurozone crisis and the US fiscal cliff, Middle East tensions that have come back on the front burner, and the constant requirements for regulatory comfort. But the key issue is that there is not enough financing and so ECAs and multilaterals are constrained as they leverage on private money and banks.”

Capacity and innovation rising

One response that Riordan has seen from official and private medium to long-term (MLT) insurers is an increase in capacity. “Customers undoubtedly appreciate the additional capacity, some of which has come from new players in the market. You can never be certain whether the new players have staying power, but they present an opportunity for the Berne Union to expand its membership beyond the current five private members.”

Schrijver says that Atradius DSB has seen an increased demand for export credit cover since the height of the credit crisis in 2009, enabling the ECA to increase its cover commitments by a third. “Looking at the first two months of 2013, the volumes at Atradius DSB continue to grow rapidly, in particular in the offshore oil and gas business and the shipbuilding industry.”

He says that product innovation and close co-operation with insured exporters and banks have helped Atradius DSB meet market demand – and that “product innovation is regularly discussed between Berne Union members”.

Ascari affirms that “states have developed a new range of tools aimed at providing liquidity to the export credit business”. He remarks: “The tools can be very different, both in nature and in organisational setup. In some cases, a single ECA can offer both insurance and lending products; in other cases, the ECA is twinning with other public lending entities. Providing lending – directly to the buyer or in other forms – has been the most effective answer to the crisis.”

Schrijver cites guarantees to funders of export loans, such as pension funds, insurance companies or other institutional investors. “Atradius DSB is now working on a number of larger applications from institutional investors under a scheme whereby they receive an unconditional 100% guarantee from the Dutch state,” he notes.

Given the decrease in working capital availability for exporters, many ECAs have also begun to offer working capital cover to banks. “This product is now well-used in the Netherlands, in particular in the shipbuilding industry,” notes Schrijver, adding that Atradius DSB covered working capital worth more than €500mn in 2012. Other product innovations have included local currency financing cover and cover for advance payment bonds and performance bonds.

Furthermore, with the relaxation of the rules for foreign content, some ECAs have introduced ‘national interest’ as an underwriting criterion. Atradius DSB now requires a Dutch content of only 20% for export transactions, Schrijver emphasises.

At Euler Hermes Deutschland, Janus says the agency’s modified securitisation guarantee is its most efficient response to banks’ funding side problems. “A buyer’s credit guarantee upgraded with a securitisation guarantee is a perfect means for banks to tap the covered bond market for funding if the bank has a covered bond vehicle. If that is not the case, the respective bank can use the KfW funding scheme which offers refinancing on market terms for long-term export loans including those in US dollars,” he says.

Riordan says Zurich is constantly looking at ways to enhance the product line. These include a recent supply chain product that includes political risk insurance, trade credit insurance, property and other coverages. “Our package supports multinational corporates against supply chain interruptions of any kind that stop them providing products to clients.” Another new product is also available to cover parts of what Riordan calls “the growing challenge of cyber risk, which can precipitate political risk events through hacking or financial sector intrusion”.

He continues: “Moreover within the trade area, we see more and more banks providing unfunded trade loans or trade participation. Banks want partnerships for unfunded trade – and we are stepping that up to support a new method of financing trade receivables.”

Public-private co-operation

Can public-private co-operation be further developed to help exporters and investors? Janus believes so, offering the example of the new regime of the European Commission for short-term trade credit insurance. “If the capacity provided by the private insurers is insufficient the public ECAs can be entitled to step in again. In the case of Greece we are doing exactly this. Our provision of additional capacity is appreciated by exporters, industry associations and by private insurers. Other areas are transaction-specific reinsurance agreements where we are collecting first experience,” he says.

“Co-operation between ECAs and the private sector is important, particularly in transactions or projects that exceed either the capacity of private insurers or the capacity of ECAs,” argues Schrijver. He observes that Atradius DSB has good experience in co-operating with the private insurance market for transactions that exceed its country limits, referring to Indonesia, where the Dutch ECA has had a huge concentration of risks for which it allocated reinsurance in the private market. “We would also be open for co-operation with international financial institutions such as, but not limited to, the International Finance Corporation (IFC),” he says.

Riordan believes that private insurers and their public counterparts often need to collaborate on terms of coverage or capacity, across many lines, allowing individual carriers to diversify their portfolios. “IFC is very important now in political risk and export credit – and the same goes for the Asian Development Bank and other IFIs. There will be some big opportunities here in the next 5-10 years,” he says.

Risk management

Does risk management need further tightening? Janus notes that Euler Hermes Deutschland is constantly improving its risk management knowledge and respective internal processes. He comments: “This includes the setting up of a better ‘know-your-customer’ process including both foreign and domestic buyer risks. During the financial crisis the risk awareness of exporters and banks has dramatically changed, to the extent that covering export risks against possible non-payment has become an indispensable risk management measure for our customers. In the first phase of the financial crisis our risk taking has been a counter-cyclical remedy to maintain trade and investment flows open. Today the use of export credit cover has acquired a more permanent character.”

According to Schrijver, it is essential to have the most up-to-date business information available to cover underwriting risks. “Financial statements of more than a year old are simply no longer good enough. The fortunes of, and consequently risks on, private buyers, banks and entire countries can change very quickly, for instance in the Middle East and North Africa in the aftermath of the Arab Spring. Another example in a particular sector in Europe is construction and related industries, where we have seen quite a rise in short-term claims.” Atradius DSB monitors its portfolio more closely now, “in order to adjust our country or underwriting policy timely when circumstances change”, he says.

Riordan underscores that “there has not been much change in our approach over the past 15 years”, with Zurich’s underwriters remaining focused on risk at a number of levels. “For us, the first priority is to understand our clients and their business, and how they operate in emerging markets. Then to study the deal and ask what is sold, whether it benefits the local economy, and how the challenges will be managed. Then we will think about country risk, looking backwards and forwards via predictive modelling. Due to the multi-year nature of our policies, our team also has to manage aggregations of risk, such as sectoral and country risk,” he says.

However, Ascari believes that some risk management models may be too complicated. “By reducing complexity, accuracy may improve. Risk management in the export credit business is relatively easy: it is a business with large and concentrated exposures. Monitoring requires simple tools, but protecting it requires a lot of reserves and capital if the business is run on a separate budget from the state,” he concludes.

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