Financing the Commodity Sector ARA 2012 - AFRICAN REFINERS ASSOCIATION March 2012 Matthieu LACAZE Deputy Global Head of E&C Finance
A New Paradigm: a growing sector which must explore new fuelling sources Increased financing needs of the Commodity sector A New Paradigm a new market with new rules New constraints on financing imposed to banking industry 2
1. Increased financing needs of the Commodity industry 3
Increased financing needs of the Commodity industry The Commodity Market grows on the back of strong market fundamentals Population levels and growth (in millions) 10 000 8333 6840 7 500 Demography o Very important increase of worldwide population o From 2.5bn in 1950 to 9bn by 2050! 5 000 2 500 3337 Non-OECD World OECD Increased consumption of commodities per capita o Change of living standard & habits o o New technologies Growing size of middle-class 0 1965 2009 2030 Sources: United Nations figures Oil consumption (in 000bopd) and prices (in $ /bbl) 100 000 100 Historically high commodity prices o Tensions on the market o o Stable futures Commodity extraction costs on the rise 80 000 60 000 40 000 Europe & Eurasia Africa Asia Pacific Middle East 80 60 40 Mostly driven by Emerging Markets growth 20 000 20 North America 0 S. & Cent. America 0 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 Sources: IEA World Energy Outlook 2011, BNP Paribas Larger Volumes x High Prices = Fast growing E&C sector 4
A Global Growing Market Current and Long-Term Trends for Regional Crude Oil Demand (IEA New Policies Scenario) (million barrels per day) OECD Americas OECD Europe E. Europe & Eurasia China 2010 2020 2035 0 5 10 15 20 25 2010 2020 2035 0 5 10 15 2010 2020 2035 0 5 10 2010 2020 2035 0 5 10 15 Middle East India Other Asia Latin America Africa 2010 2020 2035 0 5 10 2010 2020 2035 0 5 10 2010 2020 2035 0 5 10 2010 2020 2035 2010 2020 2035 0 5 10 0 5 10 OECD Asia Oceania 2010 2020 Main Consumption in the Developed Countries, but Growth in the Emerging Countries Total World 2010 86.7 2020 92.4 2035 99.4 2035 0 5 10 Sources: IEA World Energy Outlook 2011, BNP Paribas 5
The various players of the commodity chain and their respective financing requirements Upstream Midstream Downstream Traders Small traders Large trading companies Trading groups of large companies Mainly Bank Debt Structurally highly leveraged No fixed assets Mostly ST financing Producers Oil producers Mining companies Transformers Refineries Smelters Distributors Bunkering Wholesale Terminals Capital Markets + Bank Debt Important fixed assets (LT) Capital intensive LT financing for Capex ST financing for Opex Transportation Logistics Bank Debt + Capital Markets Fixed assets with MT financing needs Each category of players needs specific set of financing products. Financing mainly provided by banks but also by Capital Markets The mix between those 2 sources of financing will change. 6
2. New constraints on financing volumes available from banking industry 7
New constraints on financing volumes available from banking industry Banks are facing 2 sets of challenges: I. A STRUCTURAL ELEMENT: the implementation of Basel 3 Increasingly stringent Quicker implementation than originally planned Aimed at reinforcing the robustness of financial institutions AND II. A CONJONCTURAL ELEMENT: US Money Market Funds have drastically reduced their exposure to European banking sector since mid-2011 Resulting in a greater difficulty for European Banks to access US Dollars funding, and Directly impacts the Energy and Commodity sectors which are massively dollarized. 8
2. New constraints on financing volumes available from banking industry I. A STRUCTURAL ELEMENT: the implementation of Basel 3 for banks II. A CONJONCTURAL ELEMENT: US Money Market Funds have reduced their exposure since July 2011 9
Various institutions develop proposals for regulatory changes Key role in financial regulations Where do we stand? G20 FSB High-level guidelines of policy direction Develops high-level guidelines which are typically endorsed by G20 Far-reaching regulatory guidelines provided, e.g., Pittsburgh declaration and December 2009 "Basel III" proposal Basel Committee Policy recommendations to internationally active banks Regional level (European Union only) For EU members, provides binding directives and guidelines US with substantial regulatory activity EU Commission has been fast in transforming guidance into directives (CRD 3 and 4, EMIR) National level Political coordination / guidelines Sets laws and regulations for financial institutions Supervises financial activities in domestic system Most European countries wait for EU directives while some have been "front-running" (French rules on compensations, FSA liquidity regime) Some countries with significant consumer protection activity (Germany, France) Ultimate responsibility in respective jurisdiction 10
Basel level Regulation on banks: from Basel II to Basel III Basel II Basel III and other reforms post-crisis Participants 13 countries 27 countries Implementation U.S.: never applied Uncertain/differentiated application of recommendations Expected Outcome Credit Risksensitive approach for capital Less capital for banks with highquality portfolios Securitisation Market Risk Capital requirements: Risk-sensitive approach confirmed BUT - More capital base, of better quality - Additional capital charges and capital buffers Much more capital for all banks New constraints on: - Size (Leverage ratio) - Liquidity (LCR 1 & NSFR 2 ) - Incitation for banks to use clearing houses - Banking resolution (e.g. bail-in proposals) - Financial taxes - Specific activities (e.g. proprietary trading) - Accounting Some non-coordinated efforts of supervisors 1 LCR: Liquidity Coverage Ratio 2 NSFR: Net Stable Funding Ratio Basel 2.5 Basel 3 11
Focus on Basel III framework Basel Committee documents are based on the lessons of the crisis At a micro-prudential level 1. Banking sectors of many countries have built up excessive on- and off-balance sheet leverage 2. The level and quality of the bank capital base has been gradually eroded 3. Banks were holding insufficient liquidity buffers At a macro-prudential level 4. The crisis was amplified by a procyclical deleveraging process 5. And the interconnectedness of systemic institutions through an array of complex transactions To prevent future crises, 5 key actions are considered 1. Leverage Promote a leverage ratio based on gross exposures 2. Capital Better quality, higher level, more consistency and transparency of the capital base 3. Liquidity Implementation of 2 liquidity ratios 4. Risk coverage (counterparty & credit risks) Strengthen the capital requirements against counterparty risk Raise the risk weight on exposure to financial sector 5. Procyclicality Reduce procyclicality Promote countercyclical capital buffers Implement dynamic provisioning based on expected loss 12
Basel 3 Impact on Banks Capital Structure Higher minimum requirements (Basel Committee) 4% Tier 2 2% 1,5% 0-3,5% 0-2,5% 2,5% Tier 2 (gone concern) Additional T1 (going concern) Systemic buffer (CET1 or equivalent) Countercyclical buffer (CET1 or equivalent) Conservation buffer (CET1) To bear losses and respect the leverage ratio To reduce systemic risk To reduce procyclicality To limit distribution when losses occur 2% 2% Tier 1 Common Equity Tier 1 4,5% Common Equity Tier 1 (CET 1) Minimum CET 1 7%-13% to distribute dividends depending on banks and cycle From Basel II to Basel III 13
Key Take-aways on the new regulatory framework Regulatory costs to increase for all banking products in the coming years Some products more impacted: unsecured vs. secured financials vs. corporates back-up vs. other purposes Several banks, particularly in Europe are already implementing changes 14
2. New constraints on financing volumes available from banking industry I. A STRUCTURAL ELEMENT: the implementation of Basel 3 for banks II. A CONJONCTURAL ELEMENT: US Money Market Funds have reduced their exposure since July 2011 15
A deteriorated environment for Euro area banks 5-year CDS for Selected European Sovereign Source: Bloomberg, March 2012. Market sentiment regarding Euro area Sovereign Debt slightly improved since December 2011 Continued uncertainty in financial markets relating to sustainability of public finances in some eurozone economies + fear of contagion affecting core euro area countries but some improvement already observed in 2012 Some reopening of interbank market observed, especially for shorter tenors; Increased cost of funding was only partially passed on to borrowers at this stage. 16
3. A New Paradigm : a growing market which must explore new financing sources 17
A New Paradigm: How to adjust to this new world? Banks: increase the distribution of loans particularly to the non-banking sector. Allow your banks to bring new comers which cannot finance your activities directly, As potential investors have already shown a strong apetite for Oil & gas transactions, But their yield requirements might differ from banks. Clients: optimize utilization of credit lines (economic cycles, funded/unfunded,...) Need to better manage through-the-cycle processes in order to limit financing requirements o o Minimize inventory, and adjust terms of payments to economic cycles, and improve payment performance Is the Commodity Sector too dependant on US Dollars? 18
A New Paradigm: The new parameters which will impact financing costs KYC, Payment risk and loans performance will be under close scrutiny New financiers requirements on Return on Assets may differ from historical lenders Basel 3 impacts on banks costs of funding Greater importance of side business (eg cash mgmt and hedging) Financing costs for Borrowers Access to US Dollars for USD denominated facilities 19
A New Paradigm: How will your historical partners will help you to adapt? Despite the difficulties, one shall keep in mind that: European institutions have played a prominent role for decades in financing the commodity business in Europe, Middle East and Africa and can still boast of: Excellent track record of operations with key industrial counterparts involved in strategic transformation or import/export transactions; Very strong know-how in structuring, and arranging deals in the most efficient way; In-depth knowledge of the countries and counterpart s activities which was acquired through years of local due diligences and daily communications with our clients Teams dedicated to the Oil & Gas sector to better address the sector s specifics Unrivalled syndication capabilities expected to further expand to new financing products. New challenges for all commodity players and banks to keep on working in a sustainable way. Banks proven track record in serving commodity players needs. 20
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