Finance groups under spotlight as economy slows

The cash-fattened finance company sector is vulnerable and is under close scrutiny for signs of weakness that could point to tougher times for the entire financial services sector, accounting giant KPMG says.

"Never have so many eyes been focused on the finance company sector," Godfrey Boyce, deputy chairman of KPMG's financial services division, said in the company's 2006 Financial Institutions Performance Survey released yesterday.

"What we've seen raises questions about the sustainability of so many players, particularly if the long-forecast economic slowdown takes hold," said Boyce. "The slowing economy and slowing property market is likely to lead to loan defaults."

The KPMG survey detailed the astounding growth experienced by finance companies during the country's property-led economic spurt which is now showing signs of grinding to a halt.

The survey, which covered 49 finance companies whose assets exceeded $50 million, found there had been growth of almost 30 per cent in lending for property development and commercial finance and almost 20 per cent for consumer finance, compared with just 4 per cent for motor vehicle finance.

Boyce said KPMG was aware of credit issues being reported by some finance companies, notably in the consumer finance and motor vehicle finance areas. Some companies would find it difficult to maintain profitability if credit losses increased.

That had implications for the wider financial services sector including banks.

"When we go back historically we've seen that if the finance companies start to hit some difficulties then that generally has a knock-on into some parts of business lending, and the personal unsecured end of the market - credit cards, personal loans.

"Normally if you see that happening with the finance companies there's sort of a 12-month lag and you start seeing the banks have some issues."

However, Boyce said that although banks would probably suffer some problems, they would be of a lesser magnitude than those experienced by finance companies, thanks to their size and diversification.

Nevertheless the finance company sector was a lead indicator.

"That's why I'm interested to see how the next four or five months pan out as the finance companies report. If we're starting to see the credit issues there, then that tells me the banks could expect ... some issues that they'll start reporting in early to mid-07."

Boyce also said there were concerns that a failure by a single finance company could trigger a "flight of capital" that would put many other players under "extreme pressure".

David Chaston, publisher of interest.co.nz website, agreed that the finance company sector was under unprecedented scrutiny. He said that with the economy set to slow, finance companies would face different pressures and reduced opportunities over the next two years.

Meanwhile, the lack of regulation of finance companies also came under fire in the KPMG survey.

KPMG financial services chairman Andrew Dinsdale called for a number of measures to protect finance company investors and consumers, including: minimum capital ratios; comparable standard ratings; greater consistency and transparency for the trustee companies that manage and review finance companies; and the establishment of a financial reporting surveillance programme for finance companies.

Although at least some of these measures were being investigated in reviews of the financial services industry, Dinsdale said any resulting changes to the current regime were unlikely to be in place in time to prevent or alleviate problems arising in the present economic cycle.