Money without bankers

As the reporting season gathers momentum, it is already evident that there has been a transformational change in the way the bigger corporates are financing themselves. This week's update from Westpac on its first quarter performance underscores both the magnitude of the shifts occurring and their motivation.

The Westpac disclosures, as discussed yesterday, showed a dramatic fall in the bank's lending to corporates and larger businesses over the past year, from about $150 billion to $128 billion. Within that the bank revealed that it had cut its exposure to commercial property by more than $10 billion.

Earlier this month, CBA's accounts showed a reduction of close to $10 billion in its corporate and business lending.

The banks' reshaping of their loan book provides a matching insight to comments by Stockland's Matthew Quinn in a KGB TV interview last week, where he referred to his concern about the prospects for continued credit rationing and/or higher interest rates and desire to position itself so that banks were no longer his group's marginal pricer or supplier of debt.

It would appear from the results now pouring into the ASX that Quinn isn't the only one trying to distance himself from his bankers. All the larger corporates are busily reducing their leverage, retaining more of their free cash flows and where possible trying to lengthen the maturities of their remaining debt.

A more macro perspective of what's occurring was provided by the Reserve Bank's assistant governor, financial markets, Guy Debelle, in a luncheon speech yesterday. Debelle made the point that Australian companies had raised almost $100 billion of new equity last year (after raising more than $60 billion in 2008) while business credit had fallen more than 5 per cent. There had also been modest issues of non-intermediated debt.

In effect, businesses have been raising equity – and to some degree, debt – directly from markets in order to displace debt and reduce their reliance on the banks. That would be partly from an obvious desire to reduce their leverage and risk levels after the experience of the crisis and partly, perhaps largely, imposed by the banks' desire to do the same by slashing their exposures to higher-risk lending to business.

The Westpac and CBA disclosures have provided a better and more tangible sense of the extent to which the major banks have been withdrawing credit from business than the broad credit aggregates, while the individual corporate responses are reflected in their earnings presentations.

Westfield's filings today, for instance, showed its borrowings have fallen from $22.2 billion to $17 billion after it raised $3.6 billion of equity last year. Along with most of the listed property and infrastructure groups that have been most vulnerable to the banks' risk aversion, Westfield changed its distribution policy last year to between 70 and 75 per cent of its operational earnings, effectively generating an extra $500 million of equity a year.

CSL, while it has yet to complete its buyback of capital, has reduced its debt from $718 million to an inconsequential $459 million. Brambles, like many companies (including Telstra) has carved into its capital expenditures to boost free cash flow and has reduced its gearing from 60 per cent to 50 per cent. Coca-Cola Amatil lopped $300 million off its net debt after nearly trebling free cash flow.

Apart from raising equity and improving cash flows to pay down debt, the bigger companies are trying to tap into non-bank sources of debt funding.

There has been a trickle of prospectus-based bond issues by some of the larger corporates within the US. Previously those companies that tapped the US debt markets did so with limited offerings that didn't require a prospectus.

The prospectus issues are obviously an attempt to tap into a larger potential investor base to diversify funding sources and reduce their reliance on the banks, as was the Tabcorp retail bond issue last year. While successful, that issue did highlight how difficult and expensive the current regime for retail debt issues is in this market.

Having seen how abruptly the cost of bank credit can rise and access to it be shut off in an emergency, it is improbable that companies will return to pre-crisis funding models in the foreseeable future.

Debt markets remain volatile, the public sector demands on them from the US, UK and Europe will be massive and banks in those regions remained scarred, cautious and face a raft of new prudential regulation that will almost certainly lead to changes in their optimal loan portfolios that tilt them further away from corporate lending.

That signals a greater reliance on equity and retained earnings and a continuing and probably intensifying search for non-bank sources of long-term funding both from domestic institutions and, perhaps, retail investors and offshore markets.