European SMEs: Doing banking well is not so complicated

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By:
Dominic O’Neill
Published on:

Rather than super-CEOs and messianic technology, European banks might find salvation simply in small-business lending by empowered staff. As some of the best-performing banks recognize, keeping to the basics offers good long-term returns.

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Funding small business investment should be core to banking’s function in society, but for many banks these are unattractive borrowers – risky, small and idiosyncratic. As the chief executive of one of Europe’s biggest banks tells Euromoney, it is much harder to lend to the shop around the corner than to BP. So why bother?

Up to now Europe’s biggest listed banks have not bothered much with small and medium-sized enterprises, compared with the continent’s mutual and savings banks. In France, the biggest banks for SMEs are all mutual groups, according to research from Kantar TNS. In Germany, the public-sector Sparkasse have a market share in SME financing of 70%, according to Boston Consulting Group’s Centre for Public Impact. 

This poses a problem for listed lenders, which have to worry more about return on equity – especially as international competition is growing for corporate business.

Increasingly, technology brings new ways to do SME lending, using basic data to analyze the risk with algorithms and deploy funding faster. UK-based Iwoca is an example, although mainly in the micro-SME segment. 

Site visits

Yet in reality, as long as banks can afford it, there will still be an advantage in actually meeting SME owners and making site visits – and far more so than in the mortgage market. The unlisted banks might therefore have even more of an advantage over listed peers in the future because they are relatively free from the growing stock market pressure to cut costs and close branches. 

Mutual group Crédit Agricole has about five times more branches than BNP Paribas – and a better efficiency ratio – while the Sparkasse collectively have about 15 times more branches than Commerzbank. Banks like BNP Paribas and Commerzbank might be better able to serve SMEs’ international ambitions, but this is generally more relevant for mid-caps. 

And even branch-heavy SME banking can produce attractive returns. Italy has given SME borrowers a bad name, largely due to its exceptionally slow judicial system. In Spain, Banco Popular, recently bought by Santander, has long enjoyed interest margins above other big Spanish banks thanks to a branch-led SME focus. It got into trouble when it strayed into big real estate deals in the mid 2000s. 

SMEs might offer a better return than mortgage or corporate borrowers because competition is more intense in those sectors. Big corporates can borrow for next to nothing in the bond markets, but most SMEs are too small to issue bonds. In parts of Europe, pension funds and insurers are beginning to extend mortgages independently of banks, but those funds are looking for longer-term maturities than SMEs typically offer. 

Beyond simply distributing insurance and other white-labelled products, it might not be going too far to suggest SMEs will give European retail banks a role in the digital age. This could even be the case for listed lenders, at least in countries where they face less competition from the public sector and mutual banks. 


Handelsbanken is the only UK SME account provider that a majority of its clients would recommend 

Handelsbanken makes a return on equity roughly in line with its Swedish peers, about 12%, although it has cut branches far less and tops Swedish customer satisfaction surveys. Its UK entry, too, comes with a slogan: ‘The branch is the bank’. According to the government-backed Business Banking Insight, Handelsbanken is the only UK SME account provider that a majority of its clients would recommend.

What matters, however, is not only the number of branches but also their decision-making ability. 

“Trust your employees; they often know best,” is how Berenberg sums up Handelsbanken’s attitude. Refreshingly, this goes against the grain of bureaucratic micro-management, which makes even competent staff little better than the automata that will soon replace them, much to the annoyance of customers.

Popular’s SMEs business is based on branch-based decision making – even on loans of half a million euros – along with company visits and strong relationships between small business owners and branch managers. This has allowed Banco Popular, says an insider, to compete on more than just price.

Contrast that with a multinational like Santander, grounded in corporate banking in Spain and in mortgages in the UK. 

What is interesting is that Santander’s C-suite recognizes the strengths of Popular’s approach, even though preserving the value of its SME franchise will limit the short-term cost savings it can make after its bargain-basement acquisition last summer. 

True, it is probably also easier to manage a decentralized operation in a relatively small countries like Sweden. Even so, there are examples of much bigger retail-focused banks in Europe, such as Crédit Agricole, that try to strike a balance between economies of scale in areas like IT and delegation of power to the provinces. 

Concentration risk

Small countries bring other problems, namely concentration risk. Handlesbanken’s UK expansion has not been perfect either, with loan losses to construction firm Carillion weighing on group results in the fourth quarter. But Carillion was not an SME.

This is not specific to Europe. The lesson from the crisis, and from all these examples, is that banks should worry a lot less about branch costs and small-business risk and a lot more about structured finance and jumbo loans to bigger companies, especially in real estate. Straying from the basics can tear holes not just in the balance sheet but, more damagingly, in the organization. 

If you have a cohesive and effective workforce – with the right mix of personal and collective ambition, and the right ethics – long-term outperformance in revenues and profit will follow.