After a heavy blow from the global economic crisis, the Baltic states have transformed their economies – with a lot of help from major Scandinavian banks. Although small in comparison to larger European economies, leasing in the three countries tells a story of promising growth, as Paul Golden explains
Despite the considerable impact of the global financial crisis as well as local challenges, the leasing industry has maintained its key role in the economies of the Baltic states.
The White Clarke Group Global Leasing Report 2013 ranks Estonia and Latvia – which together with Lithuania constitute the Baltic states – as the 41st and 46th largest markets worldwide with market penetration of 25.8% and 13% respectively (Lithuania doesn’t make the top 50).
But when leasing volumes as a percentage of GDP are considered, the value of the leasing industry in these countries can be fully appreciated.
Estonia’s 5.13% is by far the highest of any country surveyed, while Latvia is ranked a clear third with leasing accounting for 2.89% of total output.
Leaseurope data from the Association of Lithuanian Banks, which joined the federation in February, values new leasing volumes in Lithuania at 680m last year compared to 585m for the previous 12 months.
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Based on countryeconomy.com’s estimate of 2012 GDP (32.8bn), leasing represents about 2% of total output.
A report on the importance of leasing for small enterprises published in August 2012 by the European Investment Fund further underlines the importance of leasing to the economies of the Baltic states.
It found that 57.6% of small to medium-sized Estonian businesses had availed of leasing, hire purchase or factoring over the preceding six months.
The figures for Latvia and Lithuania were 47.4% and 38% respectively, compared to just 35.7% in the UK.
Reet Hääl, managing director of the Estonian Leasing Association says the market in her country has recovered well from the turmoil of the global financial crisis (last year’s growth was the highest among all EU member states).
In common with its neighbours, leasing activity in Estonia is dominated by the major Scandinavian leasing companies (SEB, Swedbank, DNB, Danske Bank and Nordea) as well as UniCredit.
Exclusively serviced by bank-owned lessors, Estonia recorded impressive growth in new sales between 2011 and 2012, rising from 740m to 950m. The overall lease portfolio rose from 1.68bn in 2011 to 1.8bn last year and is expected to rise further to 1.89bn by the end of this year.
"The commercial vehicles segment has been buoyant, while other segments have been relatively stable," explains Hääl.
"Last year was an exceptional period for big-ticket leases, in particular trains which accounted for 13% of new sales."
Finance lease and operating lease continue to dominate new sales, accounting for 60% and 32% of the market respectively. More than 40% of leased assets were cars and other small vehicles, followed by machinery and equipment (27%) and commercial vehicles (17%).
As Hääl points out, railway rolling stock – along with ships and aircraft – was the biggest mover last year, more than doubling its share of assets by value.
Almost three quarters of the lease portfolio has a maturity of between three and five years, with 14% having a 1-3 year maturity and 10% extending for between five and 10 years.
Hääl adds that Estonia is a liberal economy where leasing is a concept that is well understood. Most vehicles are leased rather than purchased through car loans.
Her counterpart at the Latvian Lessor Association, Jevgenijs Belezjaks, describes growth in the Latvian leasing market as perhaps the healthiest in Europe, partly because it fell so far from pre-global financial crisis levels.
"We experienced a massive drop in business during 2009 and 2010, which meant that by the end of 2010 businesses were investing just a fraction of the amount required to keep fixed assets on track.
Investment levels have not yet recovered but we expect that to happen over the next 12-24 months."
He draws optimism from economic growth and improvements in the country’s credit rating but also expresses concern that the state revenue service is focused on collecting as much tax as possible without regard to economic or even legal principles.
"What this means is that if a leasing company buys an asset which has had tax issues in the past, this penalty is posted to the leasing company which can be penalised for the past actions of the seller.
"We have been trying to address this issue since the height of the economic crisis and the majority of leasing companies are now in court proceedings with the state revenue service, which will take some time to resolve."
Belezjaks suggests that market growth would have been higher over the past five years if not for these disputes and a wider lack of support for the leasing industry from government. But he remains confident that the Latvian market will grow by 10-15% over the next 12 months.
There are some independent Baltic manufacturer captives, but due to the market size the majority of car and equipment manufacturers and distributors have chosen to form alliances with bank-owned finance companies, explains Ivars mits, head of sales finance at Baltic Nordea Finance, adding that around 70% of leasing volumes are controlled by Nordic capital financing companies.
Last year marked the end of a four-year decline in the leasing market portfolio across the Baltic countries, observes mits, who says that from a regulatory perspective these countries are favourable markets for leasing products, with regular legislative developments driven by the industry associations.
"The main challenges lie in the influence of upcoming Basel III regulations on the finance industry, with its increasing influence on funding cost and risk aspects.
"The other aspect is specific to the post-crisis period, when the leasing industry and the finance industry in general face lower customer confidence."
The 16% growth in new sales volumes experienced across the Baltic region over the last 12 months was powered mainly by car leasing, agricultural machinery and truck and trailer leasing along with an increasing trend for rolling stock financing since 2010.
The weakest segment was ICT leasing, which is underdeveloped but offers considerable growth potential over the next decade.
"Car and light commercial vehicle leasing demand is driven mainly by the corporate segment – companies which have car fleets of five vehicles and more," mits continues.
"Agriculture in the Baltic countries is one of the core industries, supported by national as well as EU subsidies which drive demand for tractors, combine harvesters and other equipment."
Renewing and expanding truck and trailer fleets has been a common trend across all three countries over the last two years, but especially in Lithuania, mits adds.
He says: "The transportation fleet in the Baltics has reached its optimal level, so renewal of the fleet is expected over the coming years. Governments and municipalities of the three countries are using leasing as a means of financing for the governmental and municipal purchase of transportation and equipment."
His prediction for 2013 is modest new sales growth (1-2%) due to high levels of investment in truck and trailer fleets in 2011 and 2012, a drop in rolling stock financing from last year’s extraordinarily high volumes and stagnation in the construction sector.
According to Ainar Leppänen, executive director of SEB Leasing, the global financial crisis prompted Baltic leasing companies to re-evaluate their business models.
"Before the crisis, bank-owned leasing companies in the Baltic states acted more or less as independent companies with their own structural set-up, client portfolio and client ownership, sales network, support units, credits and decision-making powers.
"There were overlapping functions with the bank – double, parallel and separate client relations and other inefficiencies."
Single point of client contact and an advisory approach that took all the clients’ financing needs into account were the core principles adopted post-2008. The support units’ services were integrated into the bank’s networks, which started to offer services to the leasing companies.
"The downside was that the banks’ front line staff had to cope with greater leasing-specific information and processes," Leppänen continues.
"It worked rather well in the beginning when volumes were low, but as soon as volumes started to grow the weaknesses of this set-up appeared, especially in the car leasing sector where lead times are important.
"The processes were simply too slow and cumbersome for both clients and car dealers."
Further refinement of the business model means the banks’ client executives are now supported by dedicated leasing teams who take full responsibility for vendor relations.
Other changes to the market include outsourcing of ancillary services such as insurance brokerage and mergers with parent companies.
Leppänen suggests these decisions have been proved to be correct.
"In my opinion, the vendor and customer experience and perception is better now than before the global financial crisis and Baltic leasing companies operate more efficiently."
Aivar Rehe, chief executive of Danske Bank Estonia observes that Estonian banks generally follow the business and risk management structures and models of Scandinavian banking groups.
"Leasing products are used by active local clients. The dominant type is the capital lease, which forms approximately 60% of the portfolio.
"The volume of the Estonian leasing portfolio (1.62bn as of December 2012) forms just over 10% of the credit portfolio of the entire banking industry [in Estonia]."
According to Rehe, the last decade of the Estonian leasing market has been characterised by four periods of development:
- Commercial growth upon the opening of markets during the period after Estonia joined the EU (2004-2005)
- Extremely rapid growth in 2006 and 2007, albeit at the expense of robust risk management
- Firm risk restructuring from 2008-2011
- Risk-aware growth in sales volumes in 2012 & 2013
"In the current period, important credit risks are being managed and it’s the right time to plan the growth of business volumes in an environment of managed risks," says Rehe.
"The aftermath of the global financial crisis has also altered the risk awareness of clients and, upon leasing assets, great attention is being paid to the cash flow of the company in order to ensure the performance of fixed-term obligations."
Over recent years the Estonian leasing market has been strong in terms of leasing commercial vehicles to private and business clients – the proportion of these assets in the portfolio just exceeds 40%.
Estonian leasing companies prefer equipment and/or production line leasing possibilities for production equipment in industries aimed at exports. The proportion of the respective assets in the leasing portfolio comprises 27%.
In the past, real estate was also subject to leasing in Estonia, but this has now practically ceased. Financing of such assets is now conducted by means of loans.
"The dominant leasing period in Estonia is up to five years with the proportion of such leasing in the portfolio comprising 73%," says Rehe.
"This is a recurring practice for the leasing of vehicles and production equipment."
The leasing divisions of Scandinavian banking groups are the dominant players in the Estonian leasing market, accounting for more than 95% of total business volumes.
Readiness to accept credit risks in the leasing and business/personal sector depends on the reliability of the economic environment, the firmness of domestic consumption and developments in export markets, Rehe concludes.
"This depends on factors that allow business entities to forecast the volumes and stability of cash flow – caution upon accepting risks is prevalent," he says.
"However, regardless of the weaker economic outlook, we are forecasting an increase in the risk portfolio of the leasing sector of approximately 13-15% for 2013. The main drivers of this increase will continue to be stable demand for the leasing of commercial vehicles and increased willingness of clients to accept risks."
The Lithuanian leasing portfolio comprised 1.39bn in the first quarter of 2013 and currently accounts for 9% of total lending portfolio, says Gintautas Galvanauskas, general manager Danske Bank Lithuania.
"Lithuanian companies remain no more than cautiously optimistic, which reduces demand for financing.
"However, gross domestic product is expected to grow 3.5% in 2013, so business sentiment is improving.
"This is expected to have a positive effect on the leasing market."
New sales reached 632m last year, mainly driven by exporters and a strong logistics sector. The majority of these sales were generated by trucks (36%), new cars (20%) and industrial equipment (16%).