Excess liquidity can lead to sloppy banking

The head of BNP ParibasÆ energy and commodities group in Sydney says when markets become heated, proper risk assessment is needed to avoid disaster.
Prema Balakrishnan runs BNP ParibasÆ energy and commodities export project (ECEP) in Sydney û a division of the bank that provides project and trade finance solutions along the export value chain.

While BNP Paribas has ECEP divisions dotted around the world, including Singapore in Asia, the Australian office has become the Asia-Pacific regional hub for the bankÆs mining and resources activities. These include providing finance to small-to-medium mining companies but also providing commodity price risk management and making evaluations for companies with a cross-border acquisition strategy.

Here, Balakrishnan discusses the idea behind the ECEP group and how she plans to expand the mining franchise in Australia and the region. She also discusses what can happen when credit becomes too readily available to project sponsors.

How does your ECEP division differ from supply chain offerings being set up by trade finance banks around the world?

Balakrishnan: We came to the realisation four years ago that it made sense for us to bring the parts of the bank involved with project finance and structured trade finance solutions together. So I suppose we were a first mover in this trend. The supply chain offerings of other banks often donÆt extend to the production phase. They tend to focus on the financing of transactions once a product has been produced, whereas we get involved in the development stage û the stage where a company is still mining for or harvesting a particular commodity. Our involvement might come in the form of development finance, risk management or hybrid funding. We also have a global fund that invests directly in energy and commodities companies, so we are ready to take a stake in these businesses.

Has that fund made any investments in Australian companies?

Not as yet, though we engage with the managers of the fund regularly and talk about opportunities in Australia. The fund is based in New York and has a global mandate with most of the investments so far happening in the US and Latin America. At the moment it has an investment program of $250 million and there are plans to launch another fund.

What about your activities as a commodities trader?

I think our ability to take a position on a commodity is key to building strong relationships with clients. We are members of the LME, NYMEX and IPE which enables us to act as a principal in transactions. As long as there is a terminal market or an exchange tradable market in the commodity, we can trade it. In Australia we have extended structured trade solutions for skim milk powder, coal and steel, and we are looking at iron ore, copper and nickel. Because we are prepared to take a position, we can buy a commodity from an intermediary, like steel for example, and then sell it on to our client on a just-in-time basis or via a repurchase facility.

You say that the mining sector is a key focus of the ECEP group in Australia, what are you doing in this space?

The mining initiative taking place here is part of a global initiative and the Sydney based team is at the centre of expertise for the Asia-Pacific region. This means trying to co-ordinate deals with our teams in Latin American, Africa and Asia. We are doing everything from providing development finance, facilitating trade flows, investing directly in mining projects and trading in the commodities that are produced in the mines. Our team includes two mining engineers and one geologist which gives us the power to independently assess the viability of our clientsÆ businesses. Not only do we have this technical expertise but we have a strong understanding of emerging markets too which means we are aware of local issues and know how the local regime operates. This appreciation really helps us in the mining business.

What about corporate advisory in the mining sector?

Having clients dotted around the world means that we can bring them together and foster cross-border M&A activity. We get a lot of enquiries from clients offshore who want to invest in Australian resources businesses, so we spend considerable time conducting business reviews and feasibility studies. This requires dedicated team of staff that has the ability to assess a business properly and we are looking to expand this team.

When it comes to providing project or structured finance, do you like to club together with other banks?

Last year we were a lead arranger in financing Hancock ProspectingÆs investment in the Hope Downs iron ore project, and National Australia Bank and Royal Bank of Scotland were also on this deal. Our preference is not to do club deals. Sometimes we are brought together with other banks because a client wants it that way, but we would prefer to act as the sole arranger financier and then either syndicate the risk out or hold it ourselves. Club transactions can be tricky when one of the banks in the group doesnÆt know enough about the mining or resources sector to evaluate the risk properly.

Has this become a problem in the structured finance arena û the evaluation of risk?

Yes. I think that the high level of liquidity in the market place at the moment is affecting the process of risk assessment and due diligence. A herd mentality means that discipline has gone out the door. There are very high valuations being placed on assets at the moment, and we have to remember, that it wasnÆt very long ago when some of these assets were in the slumps. You have to ask whether a business or a project can survive a downward cycle, because when a cycle turns, it can turn very fast.

So what is your strategy for surviving dips in the cycle?

First you have to have the right technical people on your team who can evaluate a project or a business, and second, you need to be prepared to walk away from a deal. And we are prepared to do this. When the project financing for the Cross-City Tunnel in Sydney was being put together a few years ago, we couldnÆt make the traffic numbers stack up so we declined to be part of a consortium that funded the deal. We were criticised for the decision at the time because 16 other banks went in, but now our decision has been vindicated. (The tunnel went into receivership last year with A$560 million in debt.)

What new services are on the horizon?

We are looking around the globe to see what is being done by other ECEP divisions and what might be applied here. In the US, the bank is looking at transport to and from oil fields as a new business û acquiring or chartering the planes that service the oil rigs. This might have application here in Australia in the mining sector where a lot of the mines are in remote outback locations. We are also looking at the possibility of trading some obscure commodities. The bankÆs various divisions are already doing this. Like in Geneva they trade orange juice and olive oil, while the Dublin office has traded in glass bottles. We like to drive innovation and put products in front of our clients that they havenÆt seen before. The tricky thing is that each deal is unique and structured differently which means it is multi-faceted, so it can take some time to get these deals done.
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