Problem Debt Management – What is at Stake?
In light of the current market conditions FCG met with Jaan Jaanimägi, Nordea’s Head of High Risk Workout, and Hubert Roslund, senior expert within Risk & Finance at FCG, both with long experience from business and risk management in periods of stress. We discussed their views on the current market situation and how companies can improve their resilience in order to survive these events.
We are surrounded by news about war, inflation and a potential recession. How severe is the situation?
Jaan Jaanimägi: It is a delicate situation. Overall, the starting point is strong in the Nordic region, with fairly good public finances, high savings rates and manageable unemployment rates. The risk of recession in Europe – in combination with high inflation and increasing interest rates – is going to challenge finances of households and companies.
Already this autumn, there has been a shift in quite a few companies’ expectations. As they start to factor in all relevant uncertainties into their budgets for coming years, companies realise the need to take measures involving their shareholders, creditors and other stakeholders.
For some companies it’s being proactive to make their liquidity, capital, costs, etc. recession-proof and it reflects their ambition to come out of recession stronger, but for the others it’s a very real need for restructuring to survive a double whammy of drop of demand and increase of costs.
What can we learn from previous downturns?
Hubert Roslund: All downturns differ, some are almost entirely caused by financial speculation whereas others – including this one – are the result of a mix of issues emanating from both the financial and real economy. The wider the mix of issues, the more challenging it becomes.
I think it is important to emphasise that few market participants in Sweden have been through a really severe downturn. The post-Lehman crisis, for example, did not impact Sweden in the way that it hit a number of other countries. In Sweden, the crisis was short and sharp and there was in many cases a possibility to survive the downturn through a policy of “amend and extend” – also known as “extend and pretend” – until the market returned. In many other countries this was simply not the case and extend and pretend policies ended up in very negative scenarios for all stakeholders.
Why is this important?
Hubert Roslund: Put simply, learning from the Swedish post-Lehman experience could be very dangerous if the market turbulence results in a more severe and prolonged downturn. It is my firm belief that a much stronger focus on early action and contingency planning is required in order to protect all stakeholders, i.e. borrower, lender, employees and the society at large.
What differentiates the current downturn from previous ones?
Hubert Roslund: One major difference compared to many of our previous downturns is that we already had ultra-low interest rates, high debt levels and large central bank balance sheets when entering the crisis. This makes traditional policy responses difficult to implement. In addition, there’s a lot of stress in the real economy, with shortages and rapid inflation in energy and commodities markets.
Jaan Jaanimägi: Besides these differences in monetary and economic environment, we need to acknowledge that we are just out of the Covid crisis. Some companies that had been impacted by the pandemic simply did not have time to bounce back to the extent needed. Indeed, there was a post-lockdown release of pent-up demand i.e. within travel, leisure, entertainment, etc and their top line grew, but so did the costs.
Imagine a situation when your operating cash flow has improved, perhaps to the extent required to service debt, but not to make some of postponed investments and you are now facing a mix of increasing interest rates and weakening consumer confidence.
Jaan Jaanimägi – Nordea’s Head of High Risk Workout. His teams in the Nordic countries are driving workout and restructuring of high risk corporates and institutions across Nordea Group.
20 years in finance and banking, of which 15 years as decision maker in different credit committees. Prior to stepping into his current role, Jaan held multiple leadership and risk management roles, with responsibilities for cross border teams, different geographies, segments of corporates, institutions and sovereigns. This has led to a continuous involvement with workout and restructuring of a wide range of counterparts in different countries both hands-on and with a steering/oversight responsibility.
Hubert Roslund – 24 years experience from both the Business and Risk Management side at sophisticated international financial institutions prior to joining FCG.
His experience covers the entire value chain, from origination and portfolio management to problem debt management, including both hands-on restructuring and high-level problem debt strategy in Europe, Asia-Pacific and the US.
Some of his previous roles include those of Global Head of Strategic Portfolio Management at RBS Non-Core Division and Head of Russian Desk at Nordea.
How about the industrial sector?
Jaan Jaanimägi: It is well known that supply chains were impacted by Covid induced change of demand and lockdowns in Asia – both increasing the cost of logistics, delivery times and availability of supply. To manage these risks, quite a few industrials started to shift from the just-in-time to the just-in-case philosophy, thereby tying up their working capital into increased inventory.
Now, those that have limited possibilities to pass on higher energy costs and other inflationary pressures to their customers will see varied degrees of profitability erosion. Obviously, those few that had Russia and/or Ukraine in their value chains face additional headwinds. With recessionary moods, the visibility of companies order books usually gets reduced and this is not an optimal moment to have a large working capital and related financing.
How should organisations behave in order to survive a severe downturn?
Hubert Roslund: The single best recipe is to be prepared. Being prepared means having the right staff, a flexible organisation and – importantly – having prepared exit routes. If, for example, your back-up options include being able to off load problem loans, then there needs to be both securitisation and loan sales teams set-up and – ideally – already present in the market. Valuable first mover advantage is lost if a company needs to scramble to investigate, staff-up and set up procedures well into a crisis.
In terms of staffing, there is a need for a mix of personalities, both people with a proven track record of making it happen, and also people with sufficient experience and intellectual capacity to be able to think through potential ramifications of the various options available. I have, unfortunately, seen to many cases of seemingly intelligent but logically incoherent plans that have a very strong risk of leading to a lose-lose outcome, i.e. a result that is bad for both the lender, the borrower and society at large. As it happens, the team I just described is also agile enough to be easy to move to deal origination or portfolio management in good times.
Jaan Jaanimägi: To add to the staffing angle, one needs to ensure that complacency doesn’t set in. A problem debt management team needs to have the stamina to work tirelessly through a whole raft of issues and be fully prepared to engage in difficult negotiations with constructive mindset. Problems don’t follow a nine-to-five schedule, always appear at the worst possible time and it is very important that the team working with problems is not understaffed. This is not an area to save on during crisis.
Hubert Roslund: For a company it is also important to stay close to the market and seek different information sources. Generally speaking, by the time an event shows up in macro-economic statistics, or even in the newspapers, it could be late to address the situation.
What does a successful problem debt management look like?
Jaan Jaanimägi: A really successful problem debt management is one where the issues are identified early and dealt with, relevant stakeholders such as management, owners and lenders are engaged in a transparent dialogue – all clearly understanding the situation. Parties cooperate, measures are agreed, executed and monitored, and the company leaves the situation stronger, leaner, better and more competitive.
Hubert Roslund: I agree, swift action makes everything so much simpler. It is much easier to find common interest if there are still funds in the business and any asset values have not reached a point of no return. The road leading to sub optimisation and a misalignment of interests between borrower and lender starts with a failure to take prompt action. I have of course completed restructurings of loans and assets that have deteriorated over a longer period of time, but they all require more time and creativity.
Finally, what is at stake if problems are not dealt with swiftly and efficiently?
Jaan Jaanimägi: As discussed earlier, waking up too late means there will be less – or in some cases no – solutions. Each downturn will produce winners and losers and it is obviously important to support your clients to survive the downturn and come out of it even stronger. That way your organisation will ensure its place on the winning team through your clients and together with your clients. In addition, and as a society, it is important to avoid permanent damage to the economy, for instance through otherwise viable companies being broken up, with activities unnecessarily relocated elsewhere.
Hubert Roslund: If problems aren’t dealt with, they will continue to grow. Allowing problems to fester means entering each downturn in a worse state than the previous one. That is true in both the public and the private sector. As a society, we need to foster a greater emphasis on dealing with the root cause of issues as opposed to focusing on more superficial and peripheral issues.