Thursday 17 January 2019

Richard Curran: AIB's equity investments raise questions about role and scale of State-backed bank

AIB’s investment in companies brings it into potential competition with other State-backed ventures. Photo: Bloomberg
AIB’s investment in companies brings it into potential competition with other State-backed ventures. Photo: Bloomberg
Richard Curran

Richard Curran

TV advertisements for AIB say the bank is "backing brave". The ads are very well made, but always left themselves open to criticism from small business owners who failed to get a loan.

The message of the ad is that the bank is behind entrepreneurs who are building companies or simply making a reasonable living by getting up early in the morning and having to do a lot of tough stuff to keep going or to expand.

The assumption is that because AIB is a bank, it is backing brave by lending money. However, AIB seems to have decided there are lots of ways of backing those it believes are brave enough or bankable enough to be supported.

In recent months the bank has been taking equity stakes in growing Irish companies. The most recent was the 25pc equity stake it has taken in snack bar maker Fulfil.

This is an excellent business and, unfortunately, had been the subject of a shareholders dispute. AIB is reported to have taken an equity stake worth around €10m for a 25pc shareholding.

Fulfil isn't alone in attracting the AIB chequebook when it comes to investing in the business for equity. It is an investor in Reit Yew Grove and Green Coat Renewables. Last year it invested €30m in payment firm TransferMate.

If you are an entrepreneur looking to sell, it adds another potential buyer of your equity. If you are seeking to raise some kind of private equity as you grow, the bank can become another source of capital. So, good news for entrepreneurs.

But it does raise a number of issues. Many SMEs will feel frustrated that they cannot get a loan or are being charged excessive interest rates on small business loans to create profits which are being used in this way.

A bank is perfectly entitled to invest some of its money in equity but perhaps it doesn't say much for the future growth potential of the core banking market in Ireland when it is getting into private equity in this way.

It obviously believes the millions it puts into these firms will yield a better return than lending money to other companies in these sectors.

AIB declined to comment on the Fulfil investment when asked by the Sunday Independent, but a spokesman did say: "AIB wholesale, institutional and corporate banking offers a wide range of innovative financing solutions to our customers."

Perhaps the bank sees its equity investments as part of a wider banking relationship it may have with client companies rather than simply taking a punt. And the details of the shareholder's agreement entitled to remain private.

There is also an issue around those AIB is competing against to invest in these companies for equity positions. The Irish market is relatively small, and well-run solid companies with real growth potential can be thin on the ground.

AIB is more than 70pc owned by the state, yet could find itself competing against the state's Irish Strategic Investment Fund (ISIF) for suitable investees. This is a €6bn fund charged by government, through the NTMA and ultimately the Department of Finance, with investing in Irish firms.

In order for ISIF to get access to the best companies and tap into a wider funding pool, it has set up investment funds in conjunction with private equity operators, who invest together in Irish companies.

They have to identify suitable investee firms which meet their investment criteria and which represent a good bet.

Enterprise Ireland is another arm of the state investing in Irish client companies. The state agency has built up an excellent portfolio of investments and regularly sells down some of its equity in client firms.

By getting in at the very start, Enterprise Ireland really is backing brave.

The proceeds of the sales of shareholdings held by Enterprise Ireland are used to re-invest in other growing Irish firms. AIB is in a totally different situation to these other state-backed ventures. First of all, it is a bank. Of course it is entitled to make money from funding equity stakes in Irish companies, but its relationships with the state, makes the move seem a little more contradictory.

As a bank which made a profit of €1.3bn last year, smaller private equity players cannot compete with it when it comes to private equity. Secondly, the companies it may buy into are most likely its banking clients. This gives it a clear advantage. Many client companies might want to be careful about spurning an investment offer from their bank in order to go off and take somebody else's cheque.

There is nothing wrong with it having an advantage - that is the market. But perhaps the minor issue of equity stakes gets to the heart of the relationship between AIB and the State.

Is AIB a state company? The answer is no it is not. It was bailed out by the State and later floated on the stock market. It is a publicly-traded company in which it just so happens that the state owns 72pc of the equity.

It doesn't have to consult with the Department of Finance on everything it does. It has obligations to all of its shareholders, so it operates on a fully commercial basis.

The decision to begin taking equity stakes in Irish companies wouldn't even have to be approved by the Department of Finance because it constitutes part of its everyday business.

So, what are the advantages for the state of having a 72pc stake in the bank? This isn't at all clear. There are financial advantages, namely that it can grow profits and eventually return the full €22bn of bailout funds to taxpayers.

But the "control" the state has as a 72pc shareholder is somewhat restricted by the fact the rest of the shares are traded on the stock market.

AIB management themselves urged the Government to sell down more of the stock while the share price was high. The value of the state's holding in the bank has fallen by €1.6bn this year.

AIB chief executive Bernard Byrne can at least say, "I told you so", especially since the fall is due to wider investment sentiment internationally rather than anything the bank has or hasn't done.

During the recession, the 100pc ownership exercised by the State meant it had greater control over the bank. It could influence it to take a more generous attitude on cutting variable mortgage rates for example, which it did. The Government could influence it to do actual mortgage debt write-offs for some of those in trouble, which is did, unlike some of its competitors.

The State is technically still the majority controller of the bank, but with its shares listed on the stock market, the goalposts have moved a lot. The State cannot exercise that 72pc control by intervening in any way it wants.

The policy advantages of holding on to such a large stake in AIB are greatly diminished, when the State's hands are so tied. One option for the State was to hedge its bets by selling another chunk of AIB when the price was high but retaining 51pc.

With the fall in the share price, it looks like that boat has sailed.

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