IN JULY 2009, I approached a leading accounting firm with the following concept: I suggested to the accountants that in my view, Cypriot banks have the following dilemma when faced with large corporate clients:
- When a client starts having problems servicing their loans, the bank has two choices; either to continue giving them money/ extending credit, or to push them towards administration/ recoveries.
- In the first case, the bank is simply taking a “one way bet” with the particular client, as they are increasing their exposure to what is now a more “risky” client.In the second case, the bank is choosing to enter into a long-winded and costly legal process, whereby it hopes to recover its money.
- There is a third way, I felt; banks could send a team of experts to audit the client and suggest ways to improve the way their business is run so as to improve their ability of servicing their loans. In this way the bank would take a calculated risk/ choice and the client stood a better chance of “surviving”.
- The accountants agreed. We duly organised a team and went out to approach various banks and large corporations with our “new service”. We failed miserably. We didn’t get even one client.
Three years later we all find ourselves in the middle of the crisis, with banks having (even larger) exposures to corporates and yet stubbornly refusing to take advice. The way I rationalised it in 2009 was that the economy was (at the time) still doing “OK” hence the potential clients couldn’t see the benefit of what we were offering. Now however this is not applicable as the economy is not doing well but they are still refusing to take advice, which means that clearly my deduction was wrong.
I think I finally cracked it. Let’s say you are a 25 year old Cypriot who has finished university and who has worked overseas (probably in London) for a couple of years. You decide to come back to Cyprus and enter the private sector.
The year is 1976 and Cyprus is still in a state of shock from the 1974 invasion; 200,000 people are living in makeshift refugee camps (tents), the main commercial port is gone and there is no international airport. You decide to start your own business with help from your family and friends.
Over the next 34 years, until 2008, Cyprus’ economy (GDP) grew from $490m to $25.3bn; a staggering 5,000%. Over the same period, the UK’s grew from $236bn to $2.6tln; an increase of 1,000%.
Your choices as a young man were all profitable; land and property values kept rising throughout that period, share prices rose and banks gave handsome dividends annually, tourism had consecutive record years, and “anything you touched turned to gold.”
The year is 2009 and you are 58. You are now running a major corporation or are in senior management of an organisation. A “kid” walks into your office and suggests that you should be more prudent with how you manage your clients and that you need to consider issues like procedures, productivity levels, liquidity of collateral, downside risk, etc.
Obviously, you laugh at them because nothing like that ever happens (or, to be exact, has never happened during your working life). Of course, even if the “kid” happened to be right, you would know what to do as you have successfully steered the company for more than three decades.
Think about the above. Pause. Think of the people you deal with on a day to day basis. Pause. Smile.
The attitude outlined above stems from a great economic environment and from a general lack of risk taking by Cypriots. The latter is mainly due to societal reasons (think of how many people who know who they and their kids are in government or work for a bank) and the general ‘fear of failure’ (or rather, of what people will say if you fail). Low risk taking means a low chance of failure, which also means low chance of knowing what to do if you do fail. Americans have a saying that a business person who hasn’t gone bankrupt at least three times hasn’t taken on enough risk.
So, what actions and mistakes have I done and what business lessons have I learned?
- In 2007 I quit my fund analyst job in the City (London) to start a niche real estate consulting (brokerage) firm in Bucharest. My partner and I knew nothing about Romania, but we worked like crazy and within a year we made the company a success. When the downturn came, we switched our focus to rentals and then closed down the office. This experience taught me to have low fixed overheads and to be able to enter and exit a particular market/ business quickly and easily.
- In 2009, I moved to Nicosia and used my savings to buy a small plot in Ayios Dometios. The idea was to build a small three storey building and rent out the units. Being naïve, I did a thorough due diligence only after I bought the plot. I then found out that architecturally the building could accommodate no more than two large units (the plot had a narrow “face” abutting the road which made parking for more units a mess). This affected significantly the value of the land.
When the bank decided to raise the interest rate on the development loan by increasing its spread, I decided to sell at a loss as they had shifted the playing field midway through the same. No level playing field meant that I would end up being a bigger looser (and soon). This experience taught me to take the time and to pay to do thorough due diligence. Also, to be willing to “take my losses” rather than stubbornly wish that things were different than they actually are.
[NB: Interest is typically calculated as the sum of a base rate plus a spread you agree with the bank. In 2009, the base (euribor) was decreasing which meant that my interest rate was also increasing down. The bank decided to increase my spread (even though this was not in the contract) in order to ensure that it received the same income from me.]
- In 2010, I made two choices.
- The first was that I bought a small number of bank shares, even though I had repeatedly said to myself never to deal with anything I do not understand. It’s needless to say where share prices are now and what I learned.
- As the economic, banking and later sovereign crisis started unravelling the property market in Cyprus started feeling the brunt of its implications. Many people started to pay more attention to the market but few had the tools and expertise to examine and analyse it.
When I noted this gap in the market, I was duly told that “we have been fine all this time. No one wants to examine the property market or pay someone to undertake cash flow modelling for their investments”. Taking heart from my experience with the accountants, I teamed up with an economist who has banking experience and set up a niche real estate and financial modelling consulting firm – Leaf Research. Best thing I ever did. I learned that sometimes, you have to listen to your gut feeling despite of what people say.
I hope to be able to make more mistakes in the future and to keep learning from them. If I ever stop making them, it means that I am not trying hard enough.
In the mean time, I have at least found a way to rationalise how and why some of the people around me think the way they do. Time will tell if they see the error of their ways, or if they go down with their sinking ships.
Pavlos Loizou MRCIS
Lead Consultant, Leaf Research