Companies Shoring Up For Tougher Times

30th November 2005

Finance Companies Shoring Up For Tougher Times

FundSource’s ongoing research into over 30 non-bank finance companies has found that a number of better-managed companies have been taking action over the last year to position themselves for tougher times ahead. Some companies have restructured their capitalisation by raising shareholders’ equity and improving their leverage ratios.

A few have also decided not to grow their assets in the short to medium term to ensure there is not excess liquidity, which will be a drag on interest earned. This trend is already evidenced by the fall in advertisements for debentures in recent months.

Leading up to this point though, company performance has been strong. Assets continued to see healthy growth rates of about 15% to 18% per annum, similar to what has been seen over the last few years and at around $13 billion, over 80% of these assets have been funded by the investing public via secured debentures or unsecured deposits.

Average profitability margins are around 15%, but growth in profit margins has been mixed, with some companies seeing profit margins grow up to 5% while a few saw a contraction in profit margins.

Although FundSource have found diversity in the quality of companies, interest rates continue to remain in a tight margin of around 7% to 9% before tax for 1 year debentures.

This clearly indicates that some investors are not being compensated in line with the underlying risks.

The stresses from an economic slowdown will have varying degrees of impact on companies based primarily on the credit quality of who they lend to and the quality of the management.

FundSource believes that the prospect for individual companies will be vastly different Website: www.fundsource.co.nz from one to the other and that there is potential for some investors to be disappointed in the medium term.

However, some generalisations are possible. Companies lending to property-related sectors are expected to find it increasingly difficult to identify good quality lending opportunities. Numerous new operators have emerged but the pool of borrowers is shrinking, so competition for good opportunities will increase.

A greater focus on costs due to tighter monetary conditions will put increased stress on those companies with a small asset base. We expect that at least some of the many small companies will merge with the bigger ones to benefit from economies of scale.

Although attention has tended to focus on the impact of a slowdown in the property market on NBFCs lending to property and related areas, high market interest rates and any form of slowdown will potentially also impact companies focussed on consumer lending, and may impact other lending entities like banks too.

It is important that the more prudent investors who are invested with the better quality companies ensure that they do not get caught up in any knee-jerk reaction to possible stresses within the sector and not follow ‘irrational’ behaviour which may and typically does involve a lack of confidence in the sector as a whole and hence an outflow of funds.

In fact, one of the emerging concerns within the industry is the possible impact that the failure of one of the weaker companies may have on the industry as a whole.

Key Findings from FundSource’s Research into Non-Bank Finance Companies

- Assets continued to see healthy growth rates of about 15% to 18% per annum, similar to what has been seen over the last few years.

- At around $13 billion, over 80% of these assets have been funded by the investing public via secured debentures or unsecured deposits.

- With average profitability margins around 15% NBFC’\s have had mixed results, with some companies seeing profit margin growth at 5% and over, even as a few saw a contraction in profit margins.

- Healthy prospects in the non-bank finance market have also led to the emergence of numerous start-ups in the past few years with an estimate of up to 100 companies in the sector today. Around a third of these companies make up for well over 80% of the assets.

- Paradoxically though, even as there exists a diversity in the quality of companies, as evidenced by FundSource’s analysis of over 30 key criteria across more than 30 companies, the interest rates offered continue to remain in a tight margin of around 7% to 9% before tax for 1 year debentures. This clearly indicates that some investors are not being compensated in line with the underlying risks.

ENDS

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