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At the start of the decade, the sweet spot for Turkey’s banks was unquestionably retail lending. Margins were high, growth was stellar and consumer appetite seemingly insatiable. Then in 2013, alarmed by rising household leverage, the Turkish government clamped down hard on the segment, bringing the party to an end and leaving banks searching frantically for a new source of growth and profits.
With limited opportunities in the highly competitive corporate segment, attention turned to small and medium-sized enterprises, a large and under-banked sector. In 2012, SMEs made up 99% of all corporate entities in Turkey, employed three quarters of the country’s workforce and produced 55% of total revenues. Nearly 40%, however, had no bank debt of any kind, an enticing prospect for lenders with ample access to liquidity.
Lending to smaller companies also offered much more attractive returns than were available from their larger counterparts, as well as the opportunity to grow other lucrative business lines. “Underlying spreads on SME loans are at least 200 basis points to 300bp higher than those on commercial and corporate loans,” says Bulent Sengonul, head of research at Turkish investment bank Is Yatirim. “There are also cross-selling opportunities for banks to market their point-of-sale (POS) and other retail banking-related products, as well as the potential to attract SME deposits.”
What is more, he adds, the SME segment has benefited from increasing support from the Turkish authorities in recent years. “Regulators are willing to encourage SME lending to promote rebalancing in the economy, help employment and boost exports,” he says. “General provisions imposed on SME loans have been eliminated as part of a drive to shift banks towards SME lending and away from consumer loans in particular.”
To start with, at least, these efforts were extremely successful. Leading lenders such as Akbank and Garanti Bank grew their SME loan books by as much as 30% last year while slashing credit card and consumer exposures. By the end of September, SMEs accounted for around 30% of total lending in Turkey, up from 19% in 2009.
Sengonul says that figure could have been even higher, however, had the push into SMEs not coincided with what he describes as “very turbulent times”. By that, he means the toxic combination of rising political instability, weak domestic demand and flagging international appetite for emerging-market risk that is threatening to derail Turkey’s economic progress.
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Our clients are not asking for more credit because they can see that growth is slowing and they are waiting for more clarity Turgut Boz, Turk Economi Bankasi |
The country’s GDP will grow by just 2.9% this year and 3.0% in 2016, according to the IMF – a far cry from the 8% to 9% consumer-driven expansion seen at the start of the decade. Meanwhile, the reluctance of the Turkish central bank to raise interest rates to battle rising inflation – in the face of strong government opposition to such a move – has wreaked havoc on the country’s currency. In the 12 months to mid-October, the lira lost nearly a quarter of its value against the dollar, making it one of the worst performers in the developing markets.
What is more, there is still ample room for both the economic and political situation to worsen. A rise in US interest rates remains a potent – if temporarily receding – threat for a country heavily dependent on foreign financing. Regional conflicts loom large in Turkish domestic politics, while hopes that a second round of parliamentary elections on November 1 will produce a more decisive result than those in June may yet be dashed.
Whether banks can maintain their appetite for SME lending in this febrile atmosphere must be open to question. Inevitably, the sector has been affected by the convulsions shaking the wider economy.
SMEs have largely avoided the burden of rising foreign currency debt repayments, thanks to most banks’ reluctance to grant such loans to firms without hard currency revenues, but many are exposed to the rising cost of imports.
Rising costs
They are also very vulnerable to rising funding costs, according to Mike Harris, head of research and head of Turkey product at Renaissance Capital. “Most SME lending is in Turkish lira and reprices frequently, exposing SMEs to refinancing risk during periods of pressure on Turkish rates,” he says.
This has been an issue since January, when the central bank finally implemented a long-awaited rate hike in a bid to curb inflation and defend the lira. This has pushed the average cost of funding for the wider corporate sector above 9%, while many small and mid-sized companies have seen rates rise by several percentage points – an effect that has been exacerbated by higher risk premiums on the segment.
So far, the impact on asset quality has been limited. Non-performing loans still account for less than 5% of total SME lending, compared with around 10% in 2008, and ratios have remained relatively stable this year. “To date, NPLs have shown no signs of creeping up,” says Turgut Boz, assistant general manager of SME banking at Turk Economi Bankasi (TEB).
That could change in the coming months, says Harris. “Upward pressure on funding costs in Turkey hasn’t yet filtered through to the economy. That will happen over the next couple of quarters as corporates start cutting costs, which will in turn impact the SME sector through rising unemployment.” Even then, he adds, deterioration in asset quality will likely be “marginal”.
Turkey’s travails have, however, affected SMEs’ appetite for taking on bank debt, particularly for investment purposes. Demand is “sluggish”, says Boz. “Our clients are not asking for more credit because they can see that growth is slowing and they are waiting for more clarity on the macroeconomic outlook and the political situation.”
He insists that appetite for SME lending among Turkish banks remains as strong as ever. Others are less convinced. “Banks closely monitor metrics such as economic growth and the duration of payments and receivables when setting lending criteria for SMEs,” says Sengonul. “These metrics have all been deteriorating recently, and as a result banks’ willingness to pursue aggressive expansion in the segment has been declining.”
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Turkey is not a country that needs a lot of structural change in order to grow, but it does need sentiment stabilization
Mike Harris, |
Harris agrees that, at least in the short term, SMEs are becoming higher-risk and less attractive for banks. Longer term, however, it remains a sector with “huge potential”, he adds. As he notes, even after three years of aggressive lending growth, Turkey’s SMEs are still massively under-banked. At the end of August, the sector accounted for just 26% of the TL1.46 trillion ($504 billion) of loans outstanding in Turkey and 38% of total corporate loans.
“Structurally it is still an area where banks see more opportunities than in large-scale project finance, where they are competing with the large multinational banks, and retail lending where the government is working to limit growth and profitability,” adds Harris.
Bankers warn, however, that low penetration rates will not equate to easy pickings in a sector that has become increasingly competitive. As has become apparent over the past few years, larger banks’ branch networks, economies of scale and lower cost of funding inevitably give them an edge over smaller lenders when it comes to attracting SME customers. Private-sector banks also have to measure up to the large state-owned lenders, Ziraat Bank and Halkbank, which have access to subsidized funding for SME loans.
Sengonul notes that the segment could yet become still more competitive if Turkey’s Islamic banks – known locally as participation banks – get more involved in what he describes as their “natural playground”. He says: “Participation banks’ main customer base is SMEs but they have been very slow to develop the sector. Islamic bank assets still account for just 6% of the total in Turkey because the bank products are not yet sufficiently evolved to address the needs of their clients.”
Even without the participation banks, however, the fight for SME business has been sufficiently fierce to force banks to look for more innovative ways to differentiate themselves from the crowd. As Bulent Oguz, head of SME banking at Akbank, notes: “The intensifying competition in the highly profitable SME banking segment has meant that products and pricing have become increasingly standardized. As a result, relationship banking has started to play a major role.”
Nafiz Karadere, executive vice-president in SME banking at Garanti Bank, agrees that non-financial services look set to be the new battleground. “Banks will be competing with each other in the foreseeable future not only on the lending front but also in consultancy services,” he says.
Training and development have also emerged as focus areas for some of Turkey’s leading banks – perhaps unsurprisingly, given that they allow lenders to improve customers’ financial literacy and target a new generation of entrepreneurs while at the same time enhancing their corporate and social responsibility credentials.
Value-added services
Akbank, Garanti and TEB have launched a variety of training programmes for SMEs and entrepreneurs, often in conjunction with Turkish universities, while start-up platforms and incubators have also proved popular. TEB has even gone so far as to introduce a dedicated online TV channel for SMEs, as well as a membership-based loyalty scheme that offers hefty discounts on procurement costs.
This focus on value-added services has already paid handsome dividends for TEB, enabling the bank to carve out a niche as a specialist player in a sector dominated by larger lenders. Despite being a second-tier lender, the BNP Paribas subsidiary has made substantial inroads into the SME market over the past decade and today gets nearly two-thirds of its revenues and profits from the segment.
“SMEs have traditionally been underserved by most banks in Turkey because the segment was perceived as difficult and expensive,” says TEB’s Boz. “It is true that SME banking is not easy but we have shown that if you get it right it is possible to make good profits as well as providing a vital social service. Supporting SMEs also provides additional benefits in terms of reputation and governmental support.”
TEB’s tie-ups with the state sector have included a collaboration with the ministry of agriculture to provide banking services to farmers. Other banks have also homed in on specific industries and sub-segments, offering targeted programmes and tailor-made products. Akbank recently launched a suite of new products aimed at Turkey’s large artisan community, while Garanti is one of several banks looking to attract and encourage female entrepreneurs. Sole-traders have also recently become a focus for lenders, notes Karadere.
He adds that technology is also an opportunity to gain market share, particularly now that – after a very slow start – e-commerce finally seems to be gaining traction in Turkey. “Banks are looking to develop their relationships with SMEs by targeting better service delivery through alternative distribution channels and helping firms to benefit from technology in the digital age,” Karadere says. “In future, payment systems and e-commerce will likely also be seen as areas where banks can differentiate themselves through innovation.”
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We expect SME banking to grow further in Turkey over the coming years, but the growth rate will mainly depend on the performance of the economy
Bulent Oguz, |
Despite intense competition in the sector, however, there are still several areas in which Turkey’s SMEs are underserved and for which banks have so far shown little enthusiasm. Microfinance, for example, has yet to spark much interest and remains the preserve of multilaterals and a few specialist lenders.
There are also holes in banks’ coverage of the segment in terms of geography, according to Jean-Patrick Marquet, director for Turkey at the European Bank for Reconstruction and Development. “SME banking in Turkey is very regionally focused,” he says. “There are large areas of the country outside the major cities that are not well-covered and where access to financing is more challenging.”
Encouraging banks to expand their lending to regions that are currently underserved is one of the main aims of the EBRD’s extensive SME funding programme in Turkey, adds Marquet. Other priorities for the fund – which has invested around €2 billion in SMEs since starting activities in Turkey in 2009 – include promoting energy efficiency, financing renewables and encouraging female business participation.
Marquet also identifies access to funding for investment as a key area where Turkish banks could do more to support SMEs. “Finding financing for longer-term investment is much harder for firms than obtaining short-term working capital loans,” he says. “There is less funding available, and to obtain it companies have to accept a heavy security package, usually involving personal guarantees. This can make it very challenging to finance capital-expenditure projects.”
The Turkish government has recently taken steps to address this issue by inaugurating a guarantee fund for SMEs. Sengonul says this is a step in the right direction but more needs to be done. “The guarantee fund should be increased as collateral and limit issues are the major hurdles faced by SMEs in accessing credit,” he says.
Bankers themselves vehemently deny that there are any big restrictions on longer-term financing for smaller firms. Boz, for example, points out that TEB provides working-capital loans with tenors up to four years and investment lending facilities out to seven years. As Harris notes, however, the fact that such loans tend to reprice regularly makes them less attractive for SMEs. “Anyone who can crack longer-duration, fixed-rate lending in Turkish lira would likely be able to gain decent market share,” he adds.
For the moment, that is less of a problem, given the headwinds facing Turkey and firms’ lack of appetite for investment. Local bankers are confident, however, that the country’s SMEs will be able to cope with the current upheavals in the wider economy. As Boz points out: “Turkey has the advantage of having weathered many crises over the past 30 years, so our businesspeople have plenty of experience of how to cope with difficult environments.”
While noting that SMEs’ thin equity bases make them vulnerable to economic pressures, Sengonul says the sector will remain the “rising star of Turkish lending. Given the regulatory support for the segment and the potential for growth and profitability, SMEs will likely be the favourite segment for Turkish banks for at least the next two or three years,” he adds.
Oguz at Akbank agrees, but strikes a note of caution. “We expect SME banking to grow further in Turkey over the coming years,” he says, “but the growth rate will mainly depend on the performance of the economy. Economic developments will be the main determinants of the sector’s potential for the next few years.”
As Harris at Renaissance Capital notes, what Turkey needs above all at the moment is a bit of good news. “Turkey is not a country that needs a lot of structural change in order to grow, but it does need sentiment stabilization, and that’s what is lacking at the moment,” he says. “The actual result of the upcoming election will be less important than whether political equilibrium can be achieved.”
For Turkey’s SMEs and the banks fighting for their custom, the next month should provide some useful indicators of just how valuable that business is likely to be.
