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Consumer credit in 2003 _Annual Report 2003 ... - Banque de France

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Consumer credit in 2003 _Annual Report 2003 ... - Banque de France Powered By Docstoc
					Consumer credit



INTRODUCTION

        Consumer credit is playing a growing role in the French economy.                 Consumer credit has played a
Sustained demand for consumer loans over the last five years can be attributed to        growing role in the French
several factors, including the relative buoyancy of household consumption, keen          economy in recent years.
competition between credit institutions in this market, diversification of the range
of financial products and services on offer, and falling interest rates. Yet this type
of borrowing still represents a relatively modest share of households’ gross
disposable income in France, compared to other European countries.

         In economic terms, consumer credit can be defined as financing provided
by credit institutions to individuals for household expenditures (appliances, cars,
etc.), other than loans for real-estate purchases or business purposes. Consumer
loans come in many diverse forms, depending on whether they are granted for
specific purchases of goods and services. In recent years, innovative new forms of
credit have been added to the traditional range of products, which includes
instalment credit, consumer leases, personal loans and revolving credit. The new
products help to broaden the range of credit facilities available to consumers.

       A more diverse range of distribution channels, including the increasingly
widespread use of online services, has been added to the usual distribution
channels for consumer lending, which are bank branches or partners' sales outlets.
The new channels have promoted growth of distance selling of loans.

        The consumer credit market has seen increasing concentration and intense         The market is characterised by
competition. Even though generalist institutions have been increasingly active in        intense competition…
this market, institutions specialising in consumer credit have maintained majority
share of the production of loans over the past five years.

         Specialisation has long been a widely recognised advantage in this market.      … and the expertise of the key
Specialist institutions have developed many partnerships with generalist credit          players.
institutions, supermarket groups, chain stores and insurance groups, thus preserving
their leadership in this market. They have advanced technical skills in the use of
computerised credit scoring and expert systems, which enable them to measure and
supervise their exposure to borrowers properly. The professionalism of such
institutions can also be seen in their ability to process large numbers of loan
applications for their own account or on behalf of other institutions by using an
industrial approach in their management methods.

       Under these conditions, generalist institutions and specialist institutions       The main consumer credit
have managed to forge special relationships, even though they are competitors.           specialists are backed by
Many of the specialists are now backed by or partners with major banking groups.         major French banking groups
In some cases, they have even taken over management of the parent groups’ own            and make a significant
                                                                                         contribution to their earnings
consumer loan businesses. The consumer credit business has made a significant
                                                                                         performance.




                                                                                                                 167
                                  contribution to the strong earnings performance of retail banking in France.
                                  However, a trend towards higher risk costs and thinner margins has been observed
                                  on the domestic market.

                                           The sophisticated technology and ruthless competition that characterise the
                                  French consumer credit market have made it hard for new players, such a foreign
                                  credit institutions, to gain a toehold, to develop their business and earn decent
                                  returns.

     International operations,             Furthermore, France is considered to be a mature market and specialist
  particularly in the European    institutions have sought new outlets by developing their foreign operations,
  Union, are a source of fresh    especially in other European Union (EU) countries, as well as in other areas around
                        growth.   the world. This geographical diversification of their business means that
                                  international operations are making a growing contribution to specialist
                                  institutions’ earnings.

     The legal and regulatory              The legal and regulatory environment for consumer credit is changing.
    environment for consumer      More specifically, the new prudential requirements contained in the new Basel
           credit is changing.    Accord on the future international capital standard should apply to credit
                                  institutions as of the end of 2006. Institutions specialising in consumer credit are
                                  gearing up for the change. The largest institutions are opting for the internal rating-
                                  based approach to credit risk measurement. At the same time, the legal framework
                                  for consumer information and protection has recently been strengthened and could
                                  undergo further changes with the adoption of a new EU directive on consumer
                                  credit.

                                           This paper is based on the data from the periodic reporting by credit
                                  institutions under the supervision of the Commission Bancaire, statistics from the
                                  Banque de France and data published by the institutions concerned.


                                  1. CONSUMER CREDIT AND THE FRENCH
                                     ECONOMY

                                  1.1. A role that is growing, but still limited
Consumer credit expanded as a             The role of consumer credit in France was estimated on the basis of
  share of GDP between 1999       outstanding cash loans to households as recorded in the statistics published by the
      and 2003, but in limited    Banque de France. The figures exclude non-performing loans and include
                  proportions.    securitised loans. The amount of outstanding consumer loans rose from
                                   92.5 billion at the end of 1999 to 113.4 billion at the end of 2003, representing
                                  7.3% of GDP at the end of 2003, versus 6.8% in 1999.

                                          The trend data show that outstanding consumer credit grew at a higher
                                  year-on-year rate than the French economy did between the end of 1999 and the
                                  last quarter of 2000, when the trend started to reverse. The growth of outstanding
                                  consumer credit slowed steadily until 2002, trailing economic growth. In 2003, the
                                  growth rate of consumer credit seemed to show signs of picking up again.




   168
                 GDP and outstanding consumer credit growth rates
 % change on year ago                                                                 % change on year ago
   14                                                                                                          6

   12                                                                                                          5

   10
                                                                                                               4
    8
                                                                                                               3
    6
                                                                                                               2
    4

    2                                                                                                          1


    0              June-00                  June-01                June-02                June-03
                                                                                                               0
        Dec-99                 Dec-00                   Dec-01               Dec-02                   Dec-03

                        Growth of outstanding consumer loans (*)               GDP growth

(*) includes securitised loans
                              Source: Banque de France, national accounts

       Outstanding cash loans surged by 11.9% in 1999 and were boosted by the                                      Growth rates for cash loans to
buoyancy of France’s economy in 2000, even though the growth rate slipped to                                       individuals generally depend
8.3%. As the economy slowed in 2001, the growth rate dropped sharply to 5.1%. In                                   on economic conditions.
2002, in a sluggish economy, outstanding consumer loans posted their weakest
growth in five years at 2.8%. The growth rate picked up again in 2003 to reach
4.8%, which was close to the growth seen in 2001.

         Supply factors, such as a highly competitive market, a broader range of
products and lower interest rates, account for some of the growth of consumer
credit in the French economy.

       The continuing firmness of household consumption, which is the main                                         The continuing firmness of
engine of economic growth, helped to sustain the demand for credit. Household                                      household consumption
consumption grew steadily from 1999 to 2003, posting strong growth rates of 3.5%                                   underpinned demand for
in 1999, 3% in 2000 and 2.7% in 2001. Then, as the economy slowed down, the                                        consumer credit…
growth of household consumption fell back to 1.4% in 2002, before posting a slight
recovery to 1.6% in 2003.

         The demand for credit also grew, against the backdrop of contrasting                                      … as the cost of borrowing fell.
developments in borrowing costs. The chart below plots the change in average
annual percentage interest rates between 1999 and 2003. The cost of borrowing
rose from the end of 1999 to the first half of 2001. Despite this increase,
outstanding consumer loans continued to grow over the same period. The level of
the annual percentage interest rate then stabilised, and the break seen at the end of
first-half 2002 stems from a change in the way it is calculated. The cost of
borrowing declined steadily from the third quarter of 2002 until 2003, which
helped to sustain demand for credit.




                                                                                                                                           169
                                           Annual percentage interest rates between 1999 and 2003
                                %

                               18



                               16



                               14



                               12



                               10



                                8



                                6
                                    Dec-99 March- June- Sept-00 Dec-00 March- June- Sept-01 Dec-01 March- June- Sept-02 Dec-02 March- June- Sept-03 Dec-03
                                            00     00                   01     01                   02     02                   03     03
                                                            Cash loans up to EUR 1,524
                                                            Cash loans: overdrafts, open-ended loans, instalment loans over EUR 1,524
                                                            Cash loans: personal loans over EUR 1,524


                                                                           Source: Banque de France

                                       Consumer borrowing is gradually increasing in France. The 2002 report of
                               the Household Debt Unit shows that more than half of French households were in
                               debt at the end of 2002: 22.1% had cash loans, 17.2% had housing loans and 12%
                               had both types of debt.

  The propensity of French              However, the propensity of French households to borrow is relatively weak
   households to borrow is     compared with households in other European countries. According to the report on
  weaker than in the rest of   European households’ debt between 1995 and 2002 compiled by the European
                   Europe.     Savings Institute for the advisory committee of the National Credit and Securities
                               Council, France stands out for its low level of household debt and also shows one
                               of the slowest rates of increase as well.

                                       The overall debt level of French households is less than 60% of gross
                               disposable income, which means they are carrying little debt compared with
                               households in other European countries. Household debt burdens are much higher
                               in the United Kingdom and Germany, where the European Savings Institute’s
                               estimates put the levels at 120.2% and 111.5% respectively in 2002. This is about
                               twice as high as the debt levels of French households, as the following table shows.




170
                                                             Overall debt levels

                                                                     Debt per head in 2002        Outstanding debt in 2002
                                                                              ( )              (% of gross disposable income)

 Germany ...........................................                      18,507                          111.5
 Belgium .............................................                     9,812                           60.6
 Spain .................................................                   9,422                           86.4
 France ...............................................                    9,592                           59.4
 Italy....................................................                 5,254                           34.1
 Netherlands.......................................                       28,301                          198.2
 Portugal (2001) .................................                         8,025                          105.2
 United Kingdom ................................                          23,186                          120.2
 Europe...............................................                    17,963                          109.6

                                                Source: European Savings Institute


        According to the Institute, the debt level of French households is also much
lower than that of American households, which stands at 32,867 per head.

        This situation seems to stem from a lower level of borrowing for housing.
In fact, in terms of consumer credit, France ranks in the middle, with a level of
12.4% of gross disposable income.

              Consumer credit in the main European countries in 2001

                                                                               Outstanding consumer credit
                                                                            as a % of gross disposable income

                Germany....................................                             16.4
                Belgium......................................                            8.1
                France........................................                          12.4
                Spain..........................................                         15.1
                Italy ............................................                       4.8
                Netherlands ...............................                              6.4
                Portugal .....................................                           9.8
                United Kingdom.........................                                 20.6

                                                Source: European Savings Institute


1.2. Consumer credit shrank as a proportion
     of total lending to individuals between 1999
     and 2003 as housing loans took off
        Aggregate outstanding loans to individuals residing in metropolitan France
came to 439.5 billion at the end of 2003, versus 333.2 billion at the end of 1999.
Cash loans accounted for slightly more than 23% of the aggregate outstanding
loans to individuals at the end of 2003. Housing loans represented the greatest
share of lending at 73% at the end of 2003, versus 71% at the end of 1999, as the
following table shows.




                                                                                                                                171
          Outstanding loans to individuals residing in metropolitan France
                              by all credit institutions

                            %                               1999      2000       2001       2002    2003

       Cash loans ..................................         24.8       25.1      24.9       23.9    23.1
       Housing loans .............................           71.0       71.0      71.1       72.1    73.1
       Overdrafts ...................................         1.7        1.7          1.6     1.5     1.4
       Consumer leases and similar                            0.4        0.4          0.5     0.5     0.5
       operations ...................................
       Other customer loans .................                 0.6        0.5          0.5     0.5     0.5
       Non-performing loans .................                 1.5        1.4          1.4     1.5     1.5
       TOTAL* (%).................................          100.0      100.0     100.0      100.0   100.0
       TOTAL* ( billion) ........................           333.2      357.1     378.4      404.1   439.5
       Annual growth rate ...................               +8%       +7.2%      +6.0%      +6.8%   +8.7%
       (*) excludes securitised loans

                                                        Source: Commission Bancaire


             After posting 8% growth in 1999, loans to individuals grew at a slower rate
      of 7.2% in 2000 and then at 6% in 2001. The growth rate picked up after 2002 and
      reached 8.7% in 2003.

              However, the overall trend encompasses contrasting changes for various
      categories of credit.

              The share of cash loans (excluding non-performing loans) in lending to
      individuals shrank in 2003 for the fourth year in a row. At the same time, housing
      loans (excluding non-performing loans) posted strong growth between 1999 and
      2003, rising from 236.6 billion to 321.1 billion.

              The share of overdrafts on ordinary accounts also continued to shrink
      steadily from 1.7% of outstanding loans at the end of 1999 to 1.4% at the end of
      2003. Overdrafts stood at slightly less than EUR 6 billion at the end of 2003. The
      share of consumer leases increased from 0.4% at the end of 1999 to 0.5% at the end
      of 2003, with outstanding lease amounts standing at slightly more than
      EUR 2 billion at the end of 2003.

              The increase in outstanding loans to individuals does not seem to have
      entailed a decline in the overall quality of credit risk. The share of non-performing
      loans remained steady at 1.5% of aggregate outstanding loans from 1999 to 2003.




172
2. MARKET PLAYERS
   AND DEVELOPMENT STRATEGIES

2.1. Competition between generalist institutions
     and specialist institutions is paralleled
     by close links
         The French consumer credit market is split up between generalist                                                   Excluding securitised loans,
institutions1 and institutions where the main business is distributing loans to                                             more than half the
individuals, other than loans for real-estate purchases2. In 2003, generalist                                               outstanding consumer loans
institutions held 51.5% of performing loans, marking a one-percentage point                                                 in France were held by
                                                                                                                            generalist institutions at end-
increase in their market share since 1999. However, it should be noted that this
                                                                                                                            2003.
estimate is based on balance sheet data, which do not include securitised loans,
thus understating the market share of specialist institutions, which make greater use
of securitisation.

                     Performing consumer loans – Metropolitan France

                           %                             1999     2000             2001        2002           2003

    Specialist institutions ........................      49.7      49.2            49.1         47.8           48.5
    Generalist institutions .......................       50.4      50.8            50.9         52.2           51.5
    All credit institutions ..........................   100.0     100.0           100.0        100.0          100.0

                                                 Source: Commission Bancaire

        Securitisation does not affect market shares if we look at loan production                                          But in terms of annual
             3
figures . From this angle, we see that specialist institutions distributed                                                  consumer credit production,
                                                                                                                            specialist institutions account
EUR 34.5 billion in new consumer loans in metropolitan France in 2003, versus                                               for the largest share, despite a
EUR 31 billion at the end of 1999, accounting for slightly more than 59% of loan                                            downtrend over the past five
production by all credit institutions4. However, specialist institutions’ share of loan                                     years.
production by all credit institutions has shown a decline over the last five years.




1
    Generalist institutions are primarily commercial banks, mutual and cooperative banks, savings banks and
    municipal savings banks.
2
    The survey is based on data from a sample of specialist credit institutions.
3
    Loan production is estimated from returns providing details about the various categories of consumer loans
    granted to individuals in metropolitan France. These returns are filed by institutions with outstanding consumer
    loans of more than EUR 60 million.
4
    In addition to the effects of securitisation and non-performing loans, the difference in the loan production
    structure of the two types of institutions means that the specialist institutions’ share of loan production is larger
    than its share of outstanding loans.




                                                                                                                                                      173
                                                       Consumer loan production – Metropolitan France

                                                         %                              1999      2000       2001    2002    2003

                                    Specialist institutions....................          62.2       62.4      59.4    59.9    59.1
                                    Generalist institutions...................           37.8       37.6      40.6    40.1    40.9
                                    All credit institutions .....................       100.0      100.0     100.0   100.0   100.0

                                                                                    Source: Commission Bancaire

 The downtrend is due to fierce             For a long time, generalist institutions were not very active in the consumer
   competition from generalist      credit business. In the second half of the 1980s, they started to focus on this
   institutions, but this has not   business and won a growing share of the market. Business growth resulted from
    ruled out partnerships with     supplying consumer credit to existing customers and winning new customers.
        specialist institutions…    However, generalist institutions often relied on partnership agreements with
                                    specialist institutions. Generalist institutions later bought out the leading consumer
                                    credit companies as they recognised the advantages of specialisation when it comes
                                    to making more profit from a broader customer base.

      … which have extensive                Specialist institutions have undeniable technical expertise in managing
         technical expertise in     loans and credit risk. This is based on their marketing skills, credit scoring and
managing loans and credit risk.     expert systems, computer and accounting systems. Specialist institutions have also
                                    diversified their product range. The have refined their marketing techniques,
                                    combining targeted publicity campaigns and customer loyalty programmes to
                                    stimulate new business from current customers. Specialist institutions have also
                                    taken part in the recent development of distance selling of banking products over
                                    the Internet.


                                    2.2. Specialist institutions rely on partnerships
                                            In addition to their business on their own account, specialist institutions
                                    expanded their business in the past through partnerships with non-bank players,
                                    such as chain stores and supermarket groups. They then entered partnerships with
                                    generalist credit institutions and insurance companies.

                                            Partnerships make it possible to pool resources. The specialist institution
                                    provides its know-how and industrialised approach to consumer loan management,
                                    while its partner provides its customers, its sales outlets or its branch network.

         Partnerships between                The closeness of partnerships can vary. In a preliminary stage, a partnership
    specialised institutions and    may involve nothing more than marketing agreements, under which the specialist
      other banks, commercial       institution offers a range of loans that are distributed through its partner’s sales
   companies or insurers are a      outlets. The partner acts merely as a loan adviser and receives a commission on
    way of pooling resources…       loans granted. Under such an arrangement, the specialist institution may then make
                                    further offers to the customers acquired in this way in an attempt to build loyalty.
                                    On the other hand, there is no guarantee that such agreements will be lasting ones,
                                    since they can easily be ended. Consequently, such agreements may later be
                                    replaced by closer partnerships, under which the parties set up jointly held entities
                                    to share risks and rewards. Under such arrangements, the specialist institution may
                                    be responsible for some or all of the steps in a loan transaction, including
                                    application, approval, management, collection and enforcement. The specialist may
                                    adapt its computer and accounting systems, along with its risk selection and
                                    monitoring system, to the specific features of its partner’s customers, or it may
                                    merely make its techniques available to its partner, which then sets up its own



   174
teams. The specialist institutions can build up very solid partnerships under such
arrangements. On the other hand, it no longer has direct access to the borrowers,
whose subsequent transactions are handled by the jointly held entity.

        These entities are very often set up as an undeclared partnership (société en      … and take a variety of forms,
participation). Undeclared partnerships are governed by Article 1871 of France’s           ranging from simple marketing
Civil Code. They are a flexible legal vehicle for pooling resources and sharing            agreements to the formation of
income. They are not legal entities per se and the partners are free to agree on the       joint entities.
purpose and operating conditions of their partnership. Only the credit institution is
authorised to conduct banking transactions. Consequently, it holds the outstanding
loans and can finance them when necessary. The partners may also agree to set up
a subsidiary to be authorised as a credit institution.


2.3. Specialist institutions form
     a broadly diverse group
         Most specialist institutions are authorised as finance companies, or, more
rarely, as banks. For example, the sample of 62 specialist institutions selected for
this report contains 45 finance companies, 14 banks, two branches of credit
institutions with their head offices in other European Union countries and a
subsidiary of a municipal credit bank.

2.3.1. Subsidiaries of major banking groups

         The two market leaders in France, Cetelem and Sofinco, are subsidiaries of
banking groups. These two specialist institutions were founded in the early 1950s.
Cetelem has been part of the BNP-Paribas group since BNP took over Paribas at
the end of 1999 and Sofinco has been part of the Crédit Agricole group since 1999.
In addition to lending on their own account and for non-bank partners, both
institutions have become more involved in managing the consumer loans
distributed by their parent companies. For example, Cetelem is about to take over
the management of revolving credit for holders of payment cards distributed by the
BNP-Paribas network. Following the takeover of the Crédit Lyonnais group by the
Crédit Agricole group, Sofinco took over the management of personal loans
distributed by Crédit Lyonnais branches and, in early 2004, it took over Finalion,
the specialist subsidiary of the Crédit Lyonnais group. At the end of 2002,
takeovers by the BNP-Paribas group and the Crédit Agricole group increased their
presence in the consumer credit market even more. The former took over Facet and
the latter took over Finaref, the two specialist institutions that made up the financial
services arm of the Pinault Printemps Redoute group.

        Other banking groups set up their own specialist credit institutions. For          The main specialists in
example, Société Générale bought the companies from the financial arm of the               consumer credit are
Thomson group in 1983 and then merged them into Franfinance in 1989.                       subsidiaries of banking
Franfinance manages the revolving credit linked to payment cards issued by the             groups…
parent company, along with the personal loans granted to its branches’ customers.
The Crédit Mutuel group has set up several more modestly sized subsidiaries to
distribute loans primarily through in-store loan advisers. These subsidiaries are
Financo, owned by Crédit Mutuel Arkea, Sofemo, owned by Crédit Mutuel Centre
Est Europe and CIC, and Crefidis, a finance company set up by Crédit Mutuel
Nord Europe in partnership with Cofidis in 2003.




                                                                                                                     175
                                      Other banking groups have opted for partnerships with outside specialists
                               to develop the distribution of consumer loans through their branch networks.
                               Examples include Caisses d’Épargne and Banques Populaires, which have a
                               longstanding partnership with Cetelem, under which they have set up the finance
                               companies, Caisse d’Épargne Financement and Novacrédit.

                                     At the end of 1999, Crédit Commercial de France set up an Internet-based
                               consumer credit subsidiary called Netvalor.

                               2.3.2. Subsidiaries of retail groups

 … or subsidiaries of retail           Retail groups are natural partners for consumer credit institutions. In most
                 groups…       cases, retailers have set up their own credit institutions to finance their customers’
                               purchases, thus facilitating the growth of consumption and households’ expenditure
                               on durable goods. In the space of a few years, some retailers have created fully-
                               fledged banking businesses based on revolving credit linked to their own charge
                               cards.

… who have become major                Examples include Cofinoga and Finaref, which were founded respectively
    players in this sector.    by Galeries Lafayette and Printemps, two department stores, in the late 1960s. Both
                               have become major players in the consumer credit market. Mail-order groups have
                               also set up consumer credit subsidiaries. In the 1980s, the Trois Suisses
                               International group set up Cofidis and the Camif group set up Camif C2C.
                               Supermarket chains followed suit, as Carrefour set up S2P in 1980, Auchan set up
                               Banque Accord in 1987 and Casino-Guichard set up Banque du Groupe Casino.

                                       Amongst furniture and appliance retailers, But and Ikea have formed
                               partnerships with Cetelem, while Darty, Castorama and Décathlon have joined
                               forces with Sofinco by setting up dedicated finance companies.

                                       The longest-established players have grown increasingly independent from
                               their specialist partner institutions. For example, Galeries Lafayette originally had
                               Cetelem manage its charge card and the associated revolving credit. Once it had
                               acquired the necessary skills, the retailer took over the joint subsidiary Cofinoga, in
                               which Cetelem continues to hold a share but no longer plays an operational role.
                               S2P also uses credit-scoring procedures that it developed with the help of Cetelem
                               and adapted to the profile of Carrefour customers. Cofidis also benefited from
                               Cetelem’s know-how in credit scoring and expert systems.

                                        Some institutions conduct credit transactions solely for customers of their
                               parent group, while others have diversified their customer base. For example,
                               Cofidis was originally set up to finance mail-order purchases from its own group,
                               but it has since expanded its business to personal loans and revolving credit granted
                               directly to individual borrowers. Today, lending for purchases from the Trois
                               Suisses International group now accounts for less than half of Cofidis’ total
                               outstanding loans. Some retail groups have set up dedicated subsidiaries to develop
                               distance selling of loans. Examples include Mediatis, set up by the Cofinoga group,
                               or Banque Covefi, set up by the Trois Suisses International group.




176
2.3.3. Other players

        Carmakers have also set up their own specialist subsidiaries to finance car    Most of the other players are
purchases. These captive finance companies are very closely linked to their parent     specialised subsidiaries of
companies. They have developed their own know-how with regard to loan                  carmakers…
management and risk control. In addition to the Renault group’s subsidiary Diac
and the Peugeot group’s subsidiary Credipar, there are also companies dedicated to
financing cars sold by the main foreign manufacturers present in the French car
market, such as Fiat, BMW and Volkswagen. However, competition between the
manufacturers’ captive finance companies and a few independent specialists that
distribute car loans in dealers’ showrooms seems to be very keen.

        Whereas generalist institutions set up their own insurance subsidiaries a      … while some insurance
long time ago, some insurance groups have recently diversified their business and      companies have recently
are now distributing banking and financial products, primarily to their own            moved into ‘retail banking’…
insurance customers. These products are package offers including basic banking
services, loans and savings products. For example, since 2000, the Allianz group
has been developing a ‘retail bank’ out of Banque AGF, the group’s bank. In 2002,
with the purchase of Banque Direct, a former subsidiary of the BNP-Paribas group,
the Axa group acquired a structure that was already operational. Taking an
opposite tack, the insurer Groupama opted to join forces with Société Générale to
create Groupama Banque in 2002. Products are primarily distributed through the
insurers’ networks, but they usually rely on the services of specialist institutions
that manage consumer loans.

        The French consumer credit market has seen the arrival of foreign players      … and some foreign
in recent years. A handful of such institutions have substantial financial resources   institutions specialised in
and use techniques that have proven their worth on their home markets. However,        consumer credit in their home
they seem to have trouble expanding their French business. The few instances           markets are having trouble
where they have set up establishments in France through takeovers of specialist        expanding their French
                                                                                       business.
players or by opening branches have proven to be disappointing so far.

        The market shares shown in the chart below have been estimated on the
basis of outstanding performing consumer loans, not including securitised loans.




                                                                                                               177
                                                Market shares of specialist institutions by sector
                                                            in metropolitan France

                                                                          1999
                                                                                             Chain stores,
                                                                                              supermarket
                                                                                            groups and mail
                                                                                                 order
                                                                                                 31%
                                        Banking groups
                                             53%




                                                                                                       Automobile
                                                                  Insurance groups                    manufacturers
                                                                         4%                               12%



                                                                          2003
                                                                                        Chain stores,
                                                                                     supermarket groups
                                                                                       and mail order
                                                                                            20%



                                                                                                               Automobile
                                                                                                              manufacturers
                                                                                                                   8%




                                          Banking groups                               Insurance groups
                                               68%                                            4%


                                                              Source: Commission Bancaire

                                           With the takeover of Finaref by the Crédit Agricole group and the takeover
Banks' specialised subsidiaries    of FACET by BNP-Paribas, banking groups’ subsidiaries dominated the consumer
have played a dominant role in     credit market in 2003, with a market share of slightly more than 67%, which marks
    the consumer credit market     a big increase from their 52% share in 1999. On the other hand, subsidiaries of
     since 1999. This has taken    supermarket groups, chain stores and mail-order firms had a 20% market share in
   market share away from the      2003, which was smaller than their share in 1999.
    subsidiaries of commercial
companies and carmakers. The              Subsidiaries of carmakers held an 8.2% share of the consumer credit
           market shares of the    market in 2003, down from 12.3% in 1999.
       subsidiaries of insurance
companies and mutual insurers
                                           The market share of insurers’ subsidiaries may look small at 4% in 2003,
  is modest but set to increase.
                                   but these players’ ambitions indicate that they are likely to increase their market
                                   share.

                                            Over the last five years, the population of specialist consumer credit
                                   institutions shrank from 71 to 62.



   178
        The sector has seen some internal restructuring, particularly in the car loan
business, following implementation of a process to simplify internal organisational
structures, rationalise activity and reduce operating costs. Furthermore, the
takeover of the Crédit Lyonnais group by the Crédit Agricole group led to the
absorption of Finalion, the specialist subsidiary of the Crédit Lyonnais group, by
Sofinco in early 2004. Some partnerships produced disappointing results and were
later undone.

        On the other hand, consolidation of some partnerships or the forging of
new ones led to the creation of new specialist institutions. The latest one was set up
in early 2004 by Cetelem and the electricity utility EDF, which joined forces to
create Domofinance to finance electrical installations and improvements made by
EDF customers.


2.4. Diversified distribution channels
        Generalist institutions market their products through their own extensive          Generalist institutions market
branch networks. According to Banque de France statistics, banks had 10,081 fully          consumer credit through their
operational permanent branches in metropolitan France at the end of 2003. Mutual           own extensive branch
                                                                                           networks…
and co-operative institutions had 15,167 branches.

        Even though some specialist institutions have sizeable branch networks,            …while specialised institutions
they cannot be compared to those of generalist institutions. Under these conditions,       recruit their customers at the
specialist institutions mainly sign up their customers at their partners’ sales outlets,   point of sale via partners…
as is shown in the various examples given above.

         Direct marketing methods also play an important role in the business of
both generalist institutions and specialist institutions. These methods may be used
at every stage of the business relationship, including prospecting, winning new
customers and building loyalty amongst existing customers. Most credit institutions        … or by direct marketing
have set up dedicated facilities for customer relationship management over the             methods, which are also used
telephone and vocal servers that facilitate contact with prospects, provide                by generalist institutions.
information for customers and offer new products. Furthermore, generalist
institutions often mail out their customers’ statements with enclosures providing
information promoting loan offers. Specialist institutions, particularly subsidiaries
of mail-order groups, promote their loan offers in print and television advertising,
as well as in direct marketing campaigns using the customer databases of their
parent companies. In this way, specialist institutions can use customer base
segmentation techniques for targeted direct mail or e-mail campaigns.

        The use of the Internet, which can be used as a showcase and a distribution        The Internet has also become a
channel, is becoming increasingly widespread. As a general rule, most institutions         distribution channel for
have set up their own websites, which offer many functions. They provide web               consumer credit and is
users with information about the various types of credit available and provide             increasingly widely used.
downloadable offers. They can also run loan simulations according to the
customers’ needs and enable them to enter the data required to apply for a loan. At
this stage, however, the online services still do not eliminate the need to send loan
application documents through the post. Some websites can also offer restricted
access to customers, enabling them to apply for a credit card on line, for example.

        The increasingly widespread use of online services has encouraged                  It supplements the array of
“distance selling” of financial products. This new channel can be a useful                 online methods used for
supplement to existing distribution channels. Institutions can combine the distance        “distance selling” of financial
                                                                                           products.



                                                                                                                    179
                                 selling of their products with customer contacts at their branches. Both generalist
                                 institutions and some specialist institutions use this ‘multichannel’ approach. For
                                 other institutions, distance selling may be their only channel for distributing loans.


                                 2.5. France’s consumer credit market shows
                                      a moderate degree of concentration
                                        Market concentration can be measured by the proportion of outstanding
                                 performing consumer loans held by the largest credit institutions, compared to total
                                 lending by all credit institutions in metropolitan France, as shown in the following
                                 table.

                                                   Concentration of the consumer credit market in
                                                    Metropolitan France – All credit institutions

                                                                                                            Variation
                                                   % of total                       1999            2003
                                                                                                           1999/2003

                                     Top five lenders .........................      24.2           28.8    + 4.6 pp
                                     Top ten lenders ..........................      38.6           41.4    + 2.8 pp
                                     Top twenty lenders ....................         54.0           54.5    + 0.5 pp

                                                                           Source: Commission Bancaire

Concentration in the consumer            The table shows that the top five credit institutions held slightly less than
      credit market increased    30% of the outstanding consumer loans in metropolitan France and that the top
     between 1999 and 2003.      twenty held slightly more than 50%. The table also shows a trend towards
                                 increasing concentration since 1999. The share of the top five institutions rose by
                                 4.6 percentage points and the share of the top ten increased by 2.8 percentage
                                 points to 41.4% at the end of 2003. The share of the top twenty remained stable.

                                        Market concentration is more pronounced amongst specialist institutions,
                                 as shown in the table below.

                                                   Concentration of the consumer credit market in
                                                    Metropolitan France – Specialist institutions

                                                                                                            Variation
                                                   % of total                       1999            2003
                                                                                                           1999/2003

                                     Top five lenders .........................      41.8           50.7    + 8.9 pp
                                     Top ten lenders ..........................      63.5           67.9    + 4.4 pp
                                     Top twenty lenders ....................         84.1           88.0    + 3.9 pp

                                                                           Source: Commission Bancaire

     The trend was even more             The table shows that, at the end of 2003, the top five specialist institutions
   pronounced for specialised    held more than half of the outstanding consumer loans and that the top twenty held
                 institutions.   more than 88%. Furthermore, the already high degree of concentration seems to
                                 have increased still further over the last five years. The share of the top five
                                 specialists increased by 8.9 percentage points and was echoed by smaller increases
                                 in the shares of the top ten and top twenty.




  180
2.6. International expansion to sustain growth
        The French consumer credit market seems to have reached a degree of                 International expansion is a
maturity. Consequently, the main specialist credit institutions are pursuing                way for specialised institutions
international expansion to tap new sources of business growth.                              to tap new sources of growth.

        The move in this direction started in 1980 and has accelerated in recent
years. For example, the Cetelem group, which was one of the first to look abroad,
was present in twenty countries in 2003, compared to five countries in 1995. The
other specialist institutions started their international diversification later, but they
soon built up their presence in other markets and the leading specialists each had an       The trend has accelerated in
international network covering between five and ten countries at the end of 2003.           recent years…
The carmakers’ captive finance companies provide financing for purchasers of the
manufacturers’ vehicles in most of the countries where the parent companies have
locations. At the end of 2003, French car manufacturers’ consumer credit
subsidiaries had locations in over 15 countries.

        The international expansion of specialist institutions has concentrated             …with specialised institutions
primarily on Europe, with a preference for Southern Europe (Italy, Spain, Portugal          making their presence felt in
and, more recently, Greece). French specialists have also opened up locations in            the European Union.
Belgium and the Netherlands, and, to a lesser extent, in the United Kingdom and
Germany. In most of these countries, the institutions seem to have succeeded in
breaking into the new markets and are now applying strategies to consolidate their
market share.

        The enlargement of the European Union to the East and the opening up of             EU enlargement to the east
Eastern European countries to the market economy has provided new opportunities             could provide new growth
for growth in markets that are seen as offering vast potential for the consumer             opportunities.
credit business. Banque PSA Finance opened branches in Poland in 2001, in the
Czech Republic and Slovakia in 2002 and then in Hungary in 2003. Banque
Accord, which has had operations in Poland since 2001, alongside Cofinoga,
opened up for business in Hungary in 2003.

         On the other hand, only a handful of institutions have a presence in the
emerging countries of Latin America and Asia. Not a single French specialist
institution has opened a branch in the USA.

         As the general rule, the development of French specialist institutions in          International expansion
other countries builds on know-how acquired in their home market, but the risks             requires faultless risk
involved are still substantial. International expansion may expose them to country          management.
risk, as can be seen in the problems encountered in emerging markets like South
Korea and Thailand, or in the closure of some entities in Argentina. More generally
speaking, the problems involve management and control of credit risk cost, which
requires consideration of the specific features of each national market, particularly
with regard to consumer behaviour.

2.6.1. Diverse methods for international expansion

        Specialist institutions rely on various methods to enter foreign markets.

        The may build up their business gradually by opening branches or by                 Specialised institutions are
setting up subsidiaries. This is the approach that Cetelem used in Spain, Portugal          setting up outside France by
and, more recently, Greece. Sofinco developed Créditplus in Germany by taking               opening branches, forming
                                                                                            subsidiaries…



                                                                                                                      181
                                   over an ‘empty shell’. Similarly, Cofinoga set up branches in Spain and the United
                                   Kingdom through its subsidiary, Sygma Banque. RCI Banque has branches in
                                   Germany, Argentina, Italy and Portugal.

   …or taking over local firms.           Other French specialist institutions opted to take over entities that were
                                   already national market leaders. Cofinoga bought up 60% of Primeline, the Dutch
                                   market leader for store charge cards. In Poland, the Crédit Agricole group took
                                   over the market leader, Lukas Bank, but Sofinco is bound to contribute its know-
                                   how to the company.

    Local branches of specialist           The local branches of specialist institutions belonging to manufacturing and
       institutions belonging to   retail groups support the international expansion of their parent groups. This is
       manufacturing and retail    particularly true of French carmakers’ captive finance companies. In the mail order
             groups support the    market, the international branches of Cofidis are intended to provide loans to
international expansion of their   customers of the entities in the Trois Suisses International group. In the
                        parents.   supermarket sector, Banque Accord is backing the Auchan group in the charge card
                                   business.

Gradual construction of foreign            The specialist institutions’ construction of extensive networks of
           networks offers new     subsidiaries and branches places them in a strong position for entering new
 opportunities for partnerships    partnership agreements with an international dimension. For example, Cetelem
     with international firms…     recently announced its partnership with the US computer manufacturer Dell in an
                                   agreement covering several European countries.

      …and with major French                France’s specialist institutions’ international expansion has also relied on
   groups with a strong foreign    their French retail sector partners, who may help them gain access to the target
                      presence.    markets. For example, Cetelem extended its longstanding partnership with
                                   Carrefour in France to many other countries. Cofinoga has built on the
                                   international network of chain stores that are partners with the Galeries Lafayette
                                   group to expand its store charge card business. These relationships help to
                                   supplement and strengthen the network of merchants accepting cards and increase
                                   the distribution of loans.

    International development               Specialist institutions have also been opting for partnerships with local
    relies on partnerships with    credit institutions. In Italy, for example, Cetelem holds a 50% stake in Findomestic
            local institutions…    alongside the Florence savings bank. Cetelem also has partnerships with Halifax in
                                   the United Kingdom and with Fortis and KBC in Belgium.

…or on agreements with major               Sofinco has been concentrating more on developing relationships with
      French banking groups.       European credit institutions in which the Crédit Agricole group holds equity
                                   interests. For example, in Italy, Agos Itafinco has managed the loans of IntesaBCI,
                                   which is partly owned by Crédit Agricole, since 2002. Crédit Agricole’s stake in
                                   Commercial Bank of Greece (CBG) enabled Sofinco to set up a joint subsidiary
                                   with CBG in Greece that specialises in consumer credit.

                                           Cofinoga has partnerships with the Popular Banks in Italy, the Dexia group
                                   in Belgium and Bank Slaski in Poland.




   182
2.6.2. International markets account for a substantial
       share of business

       The leading specialist institutions have expanded their international            International business
business rapidly in recent years. According to their 2002 annual reports, Banque        accounts for a growing and
Accord won more new customers in international markets than it did in France and        significant portion of
Cofinoga’s Belgian subsidiary was the second-ranking issuer of store charge cards       specialised institutions'
                                                                                        activities…
in Belgium. In 2003, Cetelem announced that its loan production on international
markets outstripped its French loan production for the first time.

        The total outstanding loans held by foreign subsidiaries consolidated under     … both through foreign
full or proportionally consolidation accounted for 30.1% of total consolidated          subsidiaries…
outstanding loans at 31 December 2002, versus 26.2% in 1999. The amount of such
loans was up by 44% over 1999.

          Outstanding loans of international subsidiaries compared
         to consolidated outstanding loans of specialist institutions
 EUR bn.
    70


    60


    50


    40


    30


    20


    10


     0
              1999               2000                      2001                 2 002

                       International subsidiaries' loans   Consolidated loans


                             Source: Commission Bancaire

        Furthermore, the share of specialist institutions’ overall business             …and through foreign
represented by customer transactions conducted by their foreign subsidiaries rose       branches.
substantially from 8.1% at the end of 1999 to 12.9% at the end of 2003. This
change was mainly due to the development of international business by the captive
finance companies belonging to automotive manufacturers, which usually expand
into foreign markets by opening new branches.




                                                                                                                 183
                                            Foreign branches' customer transactions as a proportion
                                                   of specialist institutions’ overall business
                                  EUR bn.
                                      70


                                      60


                                      50


                                      40


                                      30


                                      20


                                      10


                                      0
                                                1999              2000                        2001          2002

                                                                Foreign subsidiaries' loans     All loans


                                                               Source: Commission Bancaire

French specialist institutions’           In this context, the French specialist institutions’ subsidiaries hold leading
    subsidiaries hold leading     positions in many foreign markets, according to the published market information.
    positions in many foreign
                      markets.             In Italy, the Cetelem subsidiary ranks first and the Sofinco subsidiary ranks
                                  third in this sector. Fimestic, a Cetelem subsidiary is one of the top three specialist
                                  institutions in Spain, where direct competition from major banks and savings banks
                                  is strong. The Belgian subsidiary of Cofidis is also one of the top players in the
                                  field, which seems to be dominated by the major banks.

                                           In Eastern Europe, the Cetelem group reports that it ranks first in Hungary
                                  and in the top three in the Czech Republic. The Sofinco subsidiary in Hungary and
                                  the Cofinoga subsidiary in Poland are also on their way to becoming market
                                  leaders.

                                          According to their own disclosures, carmakers’ banking subsidiaries are
                                  financing an estimated one quarter to slightly more than a third of the vehicles that
                                  they sell through their foreign locations. The proportion of vehicles financed in this
                                  way seems to be even greater than in France in some countries. This is true in
                                  Germany, Spain and Italy for RCI Banque, and in Germany, Portugal and
                                  Switzerland for Banque PSA Finance.




  184
3. CONSUMER LOANS COME IN A WIDE VARIETY
   OF FORMS TO MEET CONSUMERS’ NEEDS

3.1. Consumer loans are traditionally classified
     according to whether they are made to finance
     specific consumer goods and services
        The provisions of Article 311-3 of the Consumer Code define consumer
loans as loans granted to households for amounts up to 21,500 and for terms of
more than three months that are not intended to finance real-estate purchases or
business activities. However, credit institutions can also offer consumer loans for
amounts greater than 21,500, but such loans are not covered by the provisions of
the Consumer Code.

        In addition to bank accounts offering overdraft facilities or advances         There is a wide variety of
against securities, which are forms of cash loans to households that are only          consumer loans.
available from the credit institutions where the accounts are held, there is a wide
range of consumer financing available. Loans intended to finance the purchase of
specific goods and services are usually distinguished from loans with no specified
purpose.

        The general-purpose loans can be used freely and may cover a wide variety      General-purpose loans can be
of purchases. They are mainly granted in the form of personal loans or revolving       used freely for goods and
credit.                                                                                services…

        Personal loans are granted to individuals under the terms of a specific loan   … with personal loans…
contract to suit the amount and regularity of their income. The loan term can run
for several years and loan payments are usually made monthly. Customers do not
have to specify a purpose to apply for these loans, but credit institutions do offer
personal loans that are called ‘car loans’, ‘home improvement loans’, etc.

         Unlike a personal loan, which is a single transaction, revolving credit       … revolving credit…
enables customers to borrow funds again and again up to the maximum limit of
their line of credit. The borrowing is governed by a contract between the lender and
the borrower, which has an initial term of up to one year, but can be renewed for
each successive year, as long as both parties agree. The loan payments are made
monthly and until the maximum line of credit is reconstituted. Revolving credit
lines may be linked to the use of a credit card.

        The lag between payment card purchases and payments is another form of         … and deferred repayments on
credit, but for very short terms between 15 and 40 days. This type of credit is        credit card purchases…
widely used by cardholders who opt for ‘deferred debit’ of the amounts paid using
a card.

        Loans to finance purchases that use instalment credit techniques are
contractually linked to the purchase of specific goods and services. They were the     … or special-purpose loans to
most widely used form of consumer credit for many years, enabling households to        finance the acquisition of goods
buy durable goods. They were also widely used for car purchases. These loans are       and services.
usually offered where the goods and services are sold. The loan arrangement may




                                                                                                                185
                                 require the borrower to make a down payment or it may cover the entire purchase
                                 cost. The loan terms vary according to the type of goods being financed. The credit
                                 may be in the form of easy payment terms spread over a few months (free credit).

    Specific-purpose loans are           This type of lending holds several attractions for borrowers: the loan
  widely used to finance motor   application can be made at the point of sale, without requiring a separate procedure
                     vehicles…   and the amount of the loan is limited to the price of the goods financed. In addition,
                                 the link between the contract of sale and the loan contract provides protection for
                                 the borrower (see below). The specification of the purpose of the loan enables the
                                 lender to obtain a loan guarantee, for car loans in particular, and provides assurance
                                 that the borrower is using funds for the intended purpose.

    … as are consumer leases.            Consumer leases are also used to finance purchases, mainly of cars, but
                                 other types of durable goods as well. In compliance with Article 313-1 of the
                                 Monetary and Financial Code, consumer leases are considered to be banking
                                 transactions and are thus covered by the provisions of the French Consumer
                                 Protection Act. Consumer leases may include a clause requiring a security deposit
                                 from the lessee, who has to make lease payments until the purchase option is
                                 exercised at the price (residual value) set out in the initial lease. Consumer leases
                                 also specify the terms and costs to be paid if the purchase option is not exercised.


                                 3.2. Loan production and outstanding loan figures
                                      show the preponderance
                                      of general purpose loans
General purpose loans account             The consumer credit1 business of credit institutions can be measured in
   for a major share of annual   terms of the annual production of new loans to customers. This measurement
 consumer credit production…     shows that the proportions of general purpose loans and specific purpose loans in
                                 total loan production were stable for all credit institutions between 1999 and 2003,
                                 at 71.5% and 28.5% respectively in 2003.




                                 1
                                     Data from returns providing details about the various categories of consumer loans and filed by institutions with
                                     outstanding consumer loans of more than EUR 60 million.




   186
                            Consumer loan production by specialist and
                              generalist institutions in 1999 and 2003

                  40 000
                  35 000
                                  1999                                               2003
   EUR millions




                  30 000
                  25 000
                  1999,00
                  20 000
                  15 000
                  10 000
                   5 000
                        0
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                                         Specialist institutions   Generalist institutions



                                         Source: Commission Bancaire


        In the general-purpose loan market, specialist institutions hold a                   … with substantial
preponderant share of revolving credit, with a market share of 83.5% in 2003. On             contributions from specialised
the other hand, generalist institutions hold a stronger position in the production of        institutions for revolving
personal loans, with a large and growing market share, which increased from                  credits and from generalist
56.5% in 1999 to 64.3% in 2003. Overall, the specialist institutions’ share of               institutions for personal loans.
general-purpose loan production shrank from 61% in 1999 to 57.2% in 2003.

        Specialist institutions continued to dominate the specific purpose loan              Specialised institutions are
market for both car loans (including consumer leases), as a result of the strong             playing a growing role in
presence of the finance subsidiaries of major French and European carmakers, and             specific-purpose lending,
appliance loans, as a result of partnerships with retailers that enable them to offer        notably for financing.
loans at the point of sale. Their aggregate market share measured in terms of
specific purpose loan production was nonetheless down slightly at 63.8% in 2003.

        The structure of outstanding loans shows that the share of general-purpose
loans increased over the period. However, it is a delicate matter to analyse changes
in outstanding consumer loans on the basis of institutions’ financial statements,
because of the loan securitisation transactions carried out by specialist institutions
between 1999 and 2003.




                                                                                                                      187
                                                Structure of net outstanding consumer loans in %
                                                 for all credit institutions in Metropolitan France
                                                                                 1999
                                                             Appliance loans
                                                                  2.9%            Other specific
                                                                                  purpose loans
                                                                                      3.4%
                                           Used car loans                                             Personal loans
                                               8.8%                                                       44.3%

                                         New car loans
                                            12.9%




                                                            Revolving credit
                                                                27.7%


                                                                                 2003
                                                               Appliance loans
                                                                                     Other specific
                                                                    3.1%
                                                                                     purpose loans
                                                                                         2.6%
                                           Used car loans
                                                                                                       Personal loans
                                               9.3%
                                                                                                           49.1%
                                       New car loans
                                          10.5%




                                                         Revolving credit
                                                             25.4%


                                                                   Source: Commission Bancaire

Trends in personal lending and              The substantial increase in the share of personal loans in aggregate net
   financing for car purchases     outstanding loans must be kept in perspective, since the largest securitisation
   between 1999 and 2003 are       transactions involving personal loans took place in 1999. Similarly, major
       linked to securitisation.   securitisation transactions involving car loans contributed to a decrease in the share
                                   of this loan category between 2001 and 2003.


                                   3.3. Consumer credit is increasingly one element
                                        in a complete range of financial products
                                        and services
 The range of consumer credit              In recent years, credit institutions have tried to broaden their range of
   products has broadened in       consumer products, putting the emphasis on more flexible procedures with regard
                 recent years.     to the use and repayment of loans. Some of the most frequently offered flexible
                                   features include reducing, increasing or delaying monthly payments, changing
                                   standing debit order dates, early repayments with no penalties and term extensions.




   188
        Consumer loans can be covered by various types of insurance at the              Loans may be covered by
discretion of the borrower. The most common types of insurance cover death,             various types of “borrower”
disability, illness and unemployment. Some institutions also offer coverage against     insurance.
credit card fraud.

        Specialist institutions in the consumer credit market have long offered store   In addition to issuance of store
charge cards with revolving credit that are accepted only by the partners of the        charge cards with revolving
issuing institution, such as chain stores, department stores and mail order houses.     credit…
These cards promote customer loyalty in the consumer goods market. Cardholders
regularly receive special offers such as discounts and promotional gifts, depending
on the size and frequency of their purchases.

         These store cards are only accepted by the retailers that issue them, but      … specialised institutions have
specialist institutions are developing universal cards that combine the features of     recently developed universal
bankcards and credit cards. These cards can be used for purchases from all              cards…
merchants in the Visa or MasterCard networks. The payment possibilities include
immediate debit of amounts paid from bank or post office accounts, a “deferred
debit” option or a credit line option. These cards are offered by specialist
institutions, including subsidiaries of banking groups, and, more recently, by
supermarkets, insurers and generalist institutions. The card contracts may include
insurance against theft and damage to the goods purchased using the card. They are
also sold as cards offering special advantages for leisure spending.

        The arrival of new players from foreign groups on the French consumer           … sometimes offering cash-
credit market has changed the features offered by credit cards. One example is the      back facilities, a technique
recent introduction of the cash-back system to France.                                  recently imported from
                                                                                        English-speaking countries.
        Under the cash-back system, cardholders receive a cash rebate for a
fraction of the purchases paid for with the card. The rebates are paid on a regular
basis, which could be once a year. The percentage rate of the cash-back rebate, or
discount, may vary depending on whether the purchases are made in stores or
online. Higher rebates may be offered to promote online purchases. Cash-back
cards are a means of winning new customers and the rebates may be offered with
other traditional credit card services, such as credit lines and insurance.

         The range of car loans has also been expanded in recent years. Specialist      Innovations in car loans
institutions affiliated with carmakers now offer package deals including financing,     include package deals…
maintenance contracts and car insurance policies.

        A car purchase may also be financed using a ‘balloon loan’. This type of        … as well as balloon loans and
loan was first developed in the USA and then in Europe, particularly in the United      balloon leases.
Kingdom. Balloon loans are short-term loans that usually run for 2 to 3 years. The
monthly payments are lower than a normal loan, but the final payment is for a
larger amount (the “balloon”), based on the estimated residual value of the car at
the end of the loan term. At the end of the loan term, the borrower usually has three
options: selling the car back to the dealer, selling the car to someone else or
keeping the car and refinancing the final loan payment over a period of up to three
years. This type of financing helps to build customer loyalty for carmakers and it
can be adapted to leasing arrangements in the form of a “balloon lease”.

       Another new development can be seen in the offer of loans enabling               Another development is the
individuals to restructure their bank debt. For a long time, this business was the      offer of debt restructuring
preserve of a handful of specialist institutions, but a number of more diversified      loans…
new players have recently entered the market for debt restructuring loans.



                                                                                                                   189
                                       This type of loan enables highly indebted customers to consolidate several
                               consumer loans, and even real-estate loans, from other institutions. The
                               consolidated loans are then paid off with the new loan and the customer ends up
                               with a single loan to repay.

… which are usually secured             Restructuring of bank debts, which is sometimes extended to households’
by a mortgage in view of the   other debts, such as rent and tax arrears, reduces the amount of monthly payments
         high risk involved.   by extending the term of the restructured debt still to be paid off up to ten years or
                               more. In view of the high risk involved, debt-restructuring loans are usually
                               secured by a mortgage. If the borrower does not own property, the lending
                               institution may call on the services of a guarantee body.

                                       In some countries, such as the United Kingdom, household debt
                               restructuring loans are common practice. They are becoming more common in
                               France as interest rates fall, the value of homes put up as collateral rises and more
                               households incur excessive debt. This type of loan provides a solution for
                               households in financial difficulty by enabling them to adapt payments to their
                               monthly income level, but it carries substantial risks for both lenders, which are
                               exposed to the risk that their customers will get further into debt during the
                               extended term of the loan, and for borrowers who mortgage their homes.

                                                                    Mortgage Equity Withdrawal
                                   Mortgage equity withdrawal (MEW) enables households to ‘withdraw’ cash from a
                               real-estate asset and use it for consumption or saving. When house prices rise, it is possible
                               to increase borrowing capacities on the basis of the available mortgage equity, even though
                               no actual real-estate transaction takes place.
                                  In macro-economic terms, MEW is measured in the USA and the UK as the surplus of
                               households’ mortgage borrowing to their actual investment in house purchases or home
                               improvements.
                                   MEW can stem from various micro-economic sources, corresponding to cash made
                               available for non-housing purchases. In economic literature, this notion is mainly linked to
                               the practice of mortgage refinancing in English-speaking countries.
                                                Survey conducted by the Bank for International Settlements
                                                            (Quarterly Review, March 2004)
                                                                                       Borrowing possibilities linked to real-estate equity
                                                                                                Mortgage equity withdrawal
                                      Germany ..............................................                    No
                                      Australia ..............................................                  Yes
                                      Belgium................................................                   No
                                      Canada ................................................                  Unused
                                      Denmark ..............................................                    Yes
                                      Spain....................................................                Unused
                                      United States........................................                     Yes
                                      Finland ................................................                  Yes
                                      France .................................................                  No
                                      Ireland .................................................                 Yes
                                      Italy......................................................               No
                                      Japan ...................................................                 Yes
                                      Norway ................................................                   Yes
                                      Netherlands .........................................                     Yes
                                      United Kingdom ..................................                         Yes
                                      Sweden.................................................                   Yes
                                      Switzerland ..........................................                    No




 190
    The funds withdrawn can be used to finance additional consumption or for savings in
the form of purchases of financial assets, for example. Mortgage rates are lower than
interest rates on consumer loans.
    This has clearly been a factor in some English-speaking countries when housing prices
rise sharply, as in the United Kingdom in the 1980s. It also seems to be a factor in the
current period of rising house prices. According to the Bank of England, MEW reached a
record-breaking GBP 16.2 billion in the fourth quarter of 2003. This represents some 8.3%
of households’ disposable post-tax income, which is the highest level since the peak of 7.7%
reached in mid-1988.
    In the USA, the Federal Reserve estimated the amount of cash withdrawn from
households’ housing equity in 2002 at USD 700 billion (after tax and transaction costs),
including USD 200 billion raised through refinancing of existing mortgages1. The resulting
boost to American households’ consumption was substantial: in 2001, when mortgage
refinancing led to equity withdrawals in the region of USD 150 billion, the extra cash is
estimated to have boosted consumption by 10% to 25%.
    In the euro area, this technique is used only in the Netherlands and Portugal. In
Portugal, MEW is not based on rapid increases in house prices. The Netherlands, after
seeing consumption boosted by 1% in 2000, registered a drop of 0.5% per year in
consumption as house prices stabilised.
                         Source: Commission Bancaire and Banque de France



4. RISK CONTROL

4.1. Credit risk

4.1.1. The quality of specialist institutions’ credit risks
       has declined in the last five years

        Specialist institutions’ total gross non-performing loans grew at a faster rate                                The rising proportion of non-
than their total gross outstanding loans between 1999 and 2003. The ratio of non-                                      performing loans has
performing loans to total gross outstanding loans increased from 7.6% in 1999 to                                       undermined the quality of
10.8% in 2003. Personal loans and revolving credit, which make up the bulk of                                          credit risk…
consumer loans, accounted for 82% of gross non-performing loans at the end of
2003, versus 74% in 1999. This development needs to be seen in the light of
periodic securitisation transactions, since such transactions involve performing
loans only and automatically increase the proportion of non-performing loans
shown on balance sheets.

         Nevertheless, specialist institutions were still affected by the rise in the                                  … as the number of households
number of households with excessive debt and slower economic growth. For                                               with excessive debt increases
example, statistics published by the Banque de France show that the number of                                          and economic growth slows.
cases referred to the commission for excessive household debt rose from 142,000
in 1999 to slightly more than 165,000 in 2003. Cases of excessive debt arising after
‘life events’, such as unemployment, family break-ups and financial and personal
difficulties accounted for 64% of the cases referred to the commission, according



1
    See “Home Mortgage Market”, Remarks by Chairman Alan Greenspan, March 4, 2003. The Federal Reserve’s
    estimate clearly includes the reduction in fixed assets relating to lower interest charges, whereas the standard
    definition of MEW, according to British methodology, only counts the increase in net lending.




                                                                                                                                               191
                                  to a survey conducted by the Banque de France in 2001. Bank loans were involved
                                  in 94% of the cases referred to the commission. More specifically, 80% of the
                                  cases involved revolving credit and 60% of them involved personal loans1.

The increase in the proportion           The increase in the proportion of non-performing loans can be seen to
 of non-performing loans has      varying degrees in all consumer credit categories. It was particularly pronounced
  been particularly strong for    for general-purpose loans, where the ratio of non-performing loans increased from
    general-purpose loans, …      8.3% in 1999 to 12.2% in 2003. The ratio rised at a slightly lower path from 6.2%
                                  in 1999 to 7.1% in 2003 for specific-purpose loans.
                                                                   Non-performing loans
                                                       Specialist institutions in metropolitan France
                                               %
                                                14



                                                12



                                                10



                                                   8



                                                   6



                                                   4



                                                   2
                                                         1999                 2000                2001                 2002              2003

                                                                         General purpose loans     Specific purpose loans     Total

                                                                            Source: Commission Bancaire

                                           More specifically, revolving credit shows the highest ratio of non-
       … with revolving credit
showing the biggest increase in   performing loans, standing at 12.4% at the end of 2003. The ratio of non-
  non-performing loans at end-    performing loans granted for purchases of household appliances showed only a
                         2003.    slight rise to 8.5% in 2003. The lowest ratio of non-performing loans was seen in
                                  car loans, even though it increased to 6.5% at the end of 2003. The ratios at end of
                                  2003 show that used car loans (7.7%) are still riskier than new car loans (5.7%).
                                                         Non-performing consumer loans by type
                                               %
                                                       Specialist institutions in metropolitan France
                                               14


                                               12


                                               10


                                                8


                                                6


                                                4


                                                2
                                                         1999                 2000                2001                 2002              2003

                                                        Personal loans                 Revolving credit                Véhicules
                                                        o/w new cars                   o/w used cars                   Appliance loans
                                                        Other specific purpose loans

                                                                            Source: Commission Bancaire

                                  1
                                      Banque de France Bulletin, July 2003.




   192
4.1.2. The level of provisions for non-performing loans
       declined between 1999 and 2003

       The amount of provisions set aside from gross assets increased                        The amount of provisions of
substantially between 1999 and 2003, but the amount of net non-performing loans              non-performing loans
showed an even greater increase over the same period.                                        increased substantially between
                                                                                             1999 and 2003…
                              Non-performing loans
                  Specialist institutions in Metropolitan France
   EUR millions

    6,000



    5,000



    4,000



    3,000



    2,000



    1,000



        0
                  1999         2000                 2001                   2002       2003

                                 Gross loans      Provisions   Net loans

                               Source: Commission Bancaire

        Between 1999 and 2003, the overall ratio of provisions to gross non-                 … with a provisioning ratio of
performing loans rose at first, but then fell sharply in 2002, and showed a further          nearly 60% at end-2003.
slight decrease in 2003 to 60%.

                  Ratio of provisions to non-performing loans
                             by consumer credit type
                  Specialist institutions in metropolitan France

      70.0%


      60.0%


      50.0%


      40.0%


      30.0%


      20.0%


      10.0%


       0.0%
                   1999         2000                 2001               2002          2003

                          General purpose loans     Specific purpose loans    Total


                               Source: Commission Bancaire




                                                                                                                     193
                                           An examination of provisions for each major consumer credit category
                                   shows that provision ratios for general-purpose loans and, more specifically, for
                                   revolving credit, were high and relatively stable between 1999 and 2003. On the
                                   other hand, the provision ratio for specific purpose loans decreased sharply from
                                   63.3% in 1999 to 51.8% in 2003. This development is mainly the result of changes
                                   in the provisioning ratios for appliance loans and used car loans.

                                                        Ratio of provisions to non-performing loans
                                                        Specialist institutions in metropolitan France
                                    80.0%


                                    70.0%


                                    60.0%


                                    50.0%


                                    40.0%


                                    30.0%


                                    20.0%


                                    10.0%


                                     0.0%
                                            Personal loans Revolving credit    Car loans          o/w new cars     o/w used cars   Appliance loans   Other specific
                                                                                                                                                     purpose loans

                                                                                1999       2000     2001    2002     2003

                                                                              Source: Commission Bancaire


                                   4.2. Systems for selecting, measuring
                                        and monitoring credit risk
                                          Under the terms of Comité de la Réglementation Bancaire et Financière
 The consumer credit business
calls for risk measurement and
                                   Regulation 97-02, as amended, on internal control, credit institutions are required
   monitoring systems that are     to have risk measurement and monitoring systems that are officially defined and
      capable of handling large    updated on a regular basis. The consumer credit business calls for information
            volumes of loans, …    systems that are capable of handling large volumes of loan files, which may
                                   number in the millions for the largest institutions.

  … since the main challenge is            Controlling credit risk, meaning the risk that the customers will default on
controlling the risk of borrower   their loans, is a critical challenge for institutions in the consumer credit business.
                        default…   The extreme diversification of risk contributes to the stability of its cost, but the
                                   effectiveness of risk selection and collection processes must be measured at all
                                   times so that an immediate response to any decline in quality is possible. In the
                                   absence of remedial action, problems may quickly snowball.

  … and the quality of the risks           Specialist institutions working with loan advisers must also monitor the
  presented by loan-producing      quality of credit risks proposed by their retail partners very closely. Institutions
    partners must be carefully     must be able to tell when loan advisers are presenting them with poor credit risks
                    monitored.     so that they can caution their partners or reconsider their business relationships
                                   with them if necessary. The financial soundness of loan producers themselves must
                                   be analysed, as well the lending to their customers, as in the case of car dealers,




   194
who borrow to finance their stock of cars and spare parts. A default by a partner
can expose an institution to a loss of loan production, as well as to loan losses in
the case of instalment credit, when the defaulting partner fails to provide goods and
services financed through lending.

4.2.1. Consumer credit requires rigorous customer selection
       procedures to ensure proper management of credit risk

        Institutions use automated customer selection and loan management                 Optimal management of credit
systems to achieve the best possible control of credit risk in consumer credit            risk requires the use of
transactions. The decision-making aids that institutions commonly use include             automated customer selection
scoring systems and expert systems, along with the databases run by the Banque de         and loan processing systems…
France.

4.2.1.1. National databases maintained by the Banque de France
         As part of the approval procedures for consumer loan applications,               … backed by national
institutions may consult three databases maintained by the Banque de France: the          databases maintained by the
central cheque database (FCC), the national database on household credit                  Banque de France.
repayment incidents (FICP) and the national database on irregular cheques (FNCI).

        The central cheque database was set up in 1955 under the terms of Article         The central cheque database
L 131-84 of the Monetary and Financial Code to provide a central record of                centralises information about
payment incidents involving bad cheques, bank imposed bans on the holders of the          bad cheques, …
accounts on which bad cheques have been written and court-ordered cheque-
writing bans. Since 1987, the database also tracks bank cards that have been
cancelled for misuse by members of the bank card consortium (Groupement des
Cartes Bancaires), under the terms of an agreement signed with the consortium.

        The Banque de France centralises records of repayment incidents involving         … and the national database
loans to individuals for non-business purposes, including incidents involving             on household credit repayment
overdraft facilities, housing loans, hire-purchase transactions and consumer leases.      incidents, …
The records contain details about the borrowers’ identity and the type of credit
based on information supplied by credit institutions. These centralised records are
entered into the national database on household credit repayment incidents.

         CRBF Regulation 2004-01 recently amended the definition of the incidents         … which has just been
recorded in the database by reducing the reporting thresholds. Payment incidents          extended by the new personal
are now defined as arrears that are at least double the latest payment due from the       workout procedure for
borrower (as opposed to triple previously), in the case of loans with monthly             households with excessive debt.
payments, or payments that are more than 60 days overdue for other types of loans
(instead of 90 days previously). Defaults must automatically be reported if the
institution instigates legal proceedings or calls in the loan. Information about
payment incidents is gathered and kept on record for five years, but it is removed if
credit institutions later report, as they are required to, that the sums owed have been
paid in full. Information about households with excessive debt is also entered into
the database, including information about cases being examined by the commission
for excessive household debt. This information is entered as soon as a case is
referred to the commission, whereas before, it was not entered until the
commission decided to take up a case. Finally, as part of the introduction of the
court procedure for personal workout plans under the Act of 1 August 2003, final
court rulings are entered into the database and kept on record for eight years.




                                                                                                                  195
                                          The information that the Banque de France provides from its databases is
                                  for the exclusive use of the recipient credit institutions. This information can only
                                  be used for transactions concerned with granting or managing loans.

                                          The national database on irregular cheques was established by the Act of 30
                                  December 1991 on cheque and payment card security. Under the terms of Article
                                  L 131-86 of the Monetary and Financial Code, this database centralises information
                                  on the details of all bank accounts opened in the name of anyone who has been
                                  banned from writing cheques, reports of lost or stolen cheques, closed accounts and
                                  details about forged cheques. This database is used mainly by merchants accepting
                                  cheques from customers, but it may also be consulted by credit institutions.

                                          An Internet banking portal has been open since January 2004 to facilitate
                                  access to the Banque de France databases. The central cheque database is now
                                  accessible through this portal and the other two databases should be put online in
                                  2004 as well.

 Institutions are tightening up            Institutions pay very special attention to consumer credit fraud, which
monitoring of consumer credit     mainly takes the form of applications containing false information or forged
                         fraud.   documents and fraudulent use of payment cards. Institutions have acted to prevent
                                  these risks by providing special training for their personnel in charge of approving
                                  loan applications and by setting up internal systems for detecting fraud and
                                  centralising information about it. The scale of the problem has led to local
                                  initiatives to deal with it, such as the independent National Fraud Database set up
                                  in the USA.

                                  4.2.1.2. Scoring systems
      Consumer loan approval               Credit scoring systems are developed in-house or by specialised companies
           procedures rely on     to assess the creditworthiness of each customer by assigning a score that
computerised decision-making      corresponds to the probability of default. Credit institutions use this technique to
aids based on credit scoring…     accept or reject loan applications from customers. The rejection rates vary
                                  according to the type of consumer credit. The rejection rates may be high, for
                                  example, when new customers are being recruited through a broadly based
                                  advertising campaign. Institutions may also decide to override credit scoring results
                                  on the basis of information that is not incorporated into the score or for business
                                  reasons when the scores should have resulted in the rejection of an application.
                                  Such decisions should be rare, or else the credit scoring system would become
                                  totally ineffective. Overrides should also be subject to a separate risk assessment
                                  after the fact to ensure that they are kept under control.

                                          The credit scoring methodology is based on the principle of a multiple
                                  discriminant analysis function that weights the most predictive variables for
                                  separating good credit risks from bad credit risks. It requires enough significant
                                  historical data on customer defaults in order to establish relevant correlations
                                  between observed defaults and the descriptive variables relating to the customers.
                                  The most commonly used variables for credit scores, which can incorporate up to
                                  twenty variables, relate to the customer’s personal details (age, marital status,
                                  occupation and job tenure), income, existing credit accounts, down payment
                                  amounts and time with present bank. The cut-off scores for approving loan
                                  applications are set according to the institutions’ predetermined profitability levels.




  196
        Cut-off scores may be set according to the loan distribution channel, for
example, with different cut-off scores for loans distributed through the institutions’
own branches and for loans granted at the point of sale, or different scores
depending on the type of credit being sought, such as personal loans, revolving
credit or car loans.

        Behaviour scoring may also be used to ensure optimum customer                    … and behaviour scoring to
relationship management. This system is used to offer targeted customers new             target marketing efforts…
products or increases in their existing revolving credit lines.

        Credit scoring systems may be provided to in-store loan advisers, who must
then comply with the loan approval procedures defined by the lending institutions.
On the other hand, behaviour-scoring systems are usually managed at the head
office.

      Scoring techniques may also be used to select the customers and prospects
who are most likely to respond to a given offer in order to target marketing
campaigns more accurately.

        Specialist consumer credit groups are striving to make the use of scoring
standard practice in their foreign locations. However, when starting up in a new
market, institutions lack the historical data needed to validate their cut-off scores
prior to commencing loan production. This means they have to adapt existing cut-
off scores to the local market and validate them after the fact, which can be a
delicate procedure.

4.2.1.3. Expert systems
        Unlike credit scoring systems, expert systems can be developed as                … and by expert systems used
decision-making aids without requiring historical data on loans. The expert system       as additional decision-support
models a human loan approval expert’s reasoning process. It is a rules-based             tools.
reasoning process for selecting credit risks, in the case of a loan approval expert
system, or for targeting marketing campaigns, in the case of a behaviour expert
system. Expert systems can be tailored to different types of consumer credit or to
different distribution channels.

       Credit scoring systems and expert systems are decision-making aids that           These tools need to be tested
can be used to complement each other for selecting credit risks and managing             regularly and updated as risks
loans. These tools need to be tested before use and, once they have been                 change.
implemented, they need to be assessed on a very regular basis with regard to
changes in observed payment incidents, so that the necessary adjustments can be
made.

       Examination of loan applications and loan decisions are usually handled at
the branch level, with the specific decision-making powers of each level of
management defined on the basis of various criteria, but credit risk policies, such
as approval rules and risk monitoring procedures are set by specialised staff who
are independent from marketing staff. This staff usually works in the ‘Risk
Department’.




                                                                                                                 197
                                     4.2.2. Lending rates for consumer credit vary according to the
                                            type of loan, the risks incurred and profitability targets

    Consumer loans need to be                Under the terms of CRBF Regulation 97-02, as amended, on internal
     selected according to their     control, loan approval procedures must consider the profitability of the loans.
 profitability, as measured by a     Credit institutions are required to carry out a complete forward-looking analysis of
     thorough analysis of all of     the direct and indirect costs and income, including operational and financing costs,
      expenses and income, and       allowances for estimated risks of customer default on the loan and return on equity.
according to institutions’ profit
                                     In addition, the institutions’ executive bodies are required to conduct a review of
                         targets.
                                     the profitability of loan transactions at least every six months.

Specialist institutions have long             This approach has long been well established in specialist consumer credit
     used this approach, which       institutions, which set the price for each type of product on the basis of an accurate
 makes it possible to price each     and regular assessment of the various costs involved, including production and
                  type of product.   management costs, and risk costs, and the institutions’ profit targets. Lending rates
                                     schedules are adjusted periodically to adapt to changing circumstances.

   Keen competition has led to                However, keen competition has led to the development of short-lived, but
frequent promotional offers for      fairly frequent marketing campaigns for “all-purpose” short-term personal loans or
                short periods.       car loans. These special loan offers, which may come with much lower rates than
                                     usual, are intended to win new customers in the hope that they will become
                                     profitable customers in the longer term.

 Consumer credit lending rates               The lending rate offered to a consumer credit customer is expressed as an
   are expressed as an annual        annual percentage rate of charge (APR). This rate includes application costs, which
    percentage rate of charge,       are about 1% of the loan amount in most cases, management fees and compulsory
   which enables consumers to        insurance premiums, which are about 0.5% of the loan amount. This reference rate
             compare offers…         makes it possible to compare lending offers. Lending institutions are also required
                                     to disclose the total cost of the credit and the amount of the monthly payments.

                                                        Average annual percentage rates of charge
                                                  by consumer loan category in the fourth quarter of 2003

                                                                                                                                     Overdrafts, revolving credit
                                                             %                                       Personal loans
                                                                                                                                       and instalment credit

                                      Loan amounts up to EUR 1,524 ......                                   11.43                               16.11
                                      Loan amounts over EUR 1,524 .......                                     7.20                              12.39

                                                                                      Source: Banque de France

… and which must comply with                 Consumer lending rates must also comply with usury laws, which limit the
           the laws on usury.        APR that institutions can charge to one third more than the average annual interest
                                     rate charged by credit institutions for similar loans incurring similar risks during
                                     the previous quarter. The Banque de France calculates the average annual
                                     percentage rate of charge on loans from a sample of credit institutions and breaks it
                                     down according to the type of loans granted to households.

                                                                           Usury rate for consumer loans

                                                                                  %                                                 Applicable at 1 January 2004

                                      Loans up to EUR 1,524......................................................................              20.85
                                      Overdrafts, revolving credit and instalment credit over EUR 1,524                                        16.52
                                      Personal loans and other loans over EUR 1,524..............................                               9.60

                                                                                      Source: Banque de France



    198
        The differences between the rates charged for larger and smaller loans can
be explained by the fixed costs per loan, which substantially increase the APR for
smaller loans. A similar difference is seen between longer and shorter loan terms.

4.2.3. Like good credit risk selection, effective collection is
       an important factor in the ultimate profitability of lending

        Institutions have automated collection procedures, since most consumer            Collection of loan payments,
loans are repaid in monthly instalments and because very large numbers of loans           which are usually made
are involved. The performance of the procedures is assessed in terms of the               monthly, requires automated
collection rate for delinquent accounts.                                                  procedures…

        The commonest organisational structure for collection is a set of specialised
units handling different phases in the collection process. These units are sometimes
grouped together in agencies to cover different regions or even set up as a separate
subsidiary. The collection process phases usually break down into the informal            … and action by specialised
collection procedures for missed payments and formal collection procedures when           units at each phase of the
non-performing loans are called in. At this point the total amount that the customer      collection process…
owes is calculated, including delinquent payments, outstanding principal, penalty
fees, costs and various fees. The informal collection phase is part of ordinary loan
management and takes the form of reminders by letter or by telephone. It includes
proposals to settle delinquent payments by drawing up a new repayment schedule,
for example. On the other hand, the formal collection phase involves legal
proceedings, including the use of bailiffs and, when necessary, taking delinquent
borrowers to court. Cases where borrowers have excessive debt are usually given
special treatment.

        Institutions strive to optimise their collection activity, which often occupies   … and such units can
a very large proportion of their staff. This proportion can be 20% or more in the         sometimes handle collection
case of specialist institutions. Some institutions have partnership agreements under      for other credit institutions.
which they handle formal collection procedures for other lenders in an effort to
reduce the cost of their own collection activity.

        Scoring systems and expert systems are also used in managing collection.          Institutions use scoring systems
Behaviour scoring systems use information about loan approvals and payment                and expert systems in this
histories to guide institutions in their decision-making about the most appropriate       phase…
actions to take.

        It should be noted that effective collection requires rapid responses and         … and must make sure to avoid
frequent action. The procedures need to be supervised very closely to prevent             any practices that could be
practices that could be deemed to be invasions of borrowers’ privacy, such as             deemed to be an invasion of
actions involving third parties or harassment.                                            borrowers’ privacy.


4.3. Refinancing, liquidity and interest rate risks

4.3.1. Different refinancing sources, including securitisation

       Refinancing of specialist institutions’ consumer lending takes various
forms to suit the nature of the loans. The table below shows how the overall
balance sheet of specialist institutions in metropolitan France changed between
1999 and 2003.




                                                                                                                    199
                                                                    Asset and liability structure of
                                                             specialist institutions in Metropolitan France

                                                                                                                                                         1999    2003

                                                                                 ASSETS (%)
                              Interbank loans ..................................................................................................          19.9    20.0
                              Customer loans..................................................................................................            62.0    64.0
                              Securities and other transactions.......................................................................                     3.5     4.0
                              Capital assets .....................................................................................................        14.6    12.0
                              Of which shares in affiliates, equity interests and other financial fixed assets                                             3.0     3.8
                              Shareholders and partners .................................................................................                 NA      NA
                              Total...................................................................................................................   100.0   100.0
                              ( billion)............................................................................................................      73.7    88.4
                                                                             LIABILITIES (%)
                              Interbank borrowing..........................................................................................               54.6    59.2
                              Customer deposits .............................................................................................              4.4     6.3
                              – of which credit balances on ordinary accounts..............................................                                1.2     0.9
                              – of which savings accounts subject to special rules........................................                                 0.1     1.2
                              – of which credit balances on term accounts ....................................................                             2.5     3.8
                              Securities and other transactions.......................................................................                    30.0    24.5
                              – of which money market securities .................................................................                        17.0    11.7
                              – of which bonds and other debt securities.......................................................                            8.5     8.3
                              Provisions, equity and long-term debt ..............................................................                         9.0     8.4
                              – of which miscellaneous provisions ................................................................                         0.8     0.7
                              – of which subordinated debt ............................................................................                    1.3     1.6
                              – of which equity, reserves and fund for general banking risks.......................                                        6.9     6.0
                              Miscellaneous....................................................................................................            2.0     1.6
                              Total...................................................................................................................   100.0   100.0
                              ( billion)............................................................................................................      73.7    88.4
                                               OFF-BALANCE SHEET ITEMS (as a % of total assets)
                              Financing commitments
                              – commitments given in favour of credit institutions.......................................                                  2.6     0.9
                              – commitments given in favour of customers...................................................                               61.9    77.5
                              – commitments received from credit institutions .............................................                                9.4     7.4
                              Guarantees
                              – guarantees given to credit institutions ...........................................................                        0.6     2.6
                              – guarantees given to customers .......................................................................                      0.7     0.2
                              – guarantees received from credit institutions ..................................................                            2.0     0.9
                              – guarantees received from customers..............................................................                           0.1     0.3
                              Commitments in respect of financial futures....................................................                             36.8    49.3
                              – of which interest rate futures..........................................................................                  36.4    49.2
                              Other commitments...........................................................................................                 2.0     0.1

                                                                                        Source: Commission Bancaire

Customer loans are mainly            Institutions mainly rely on bank borrowing to finance their lending, as well
   refinanced through bank    as issuing money market securities and bonds. These forms of borrowing
 borrowing and the issue of   accounted for 59.2%, 11.7% and 8.3% of their liabilities respectively at
money market securities, …    31 December 2003. The overall proportion of borrowing stood at nearly 80%,
                              which was virtually the same proportion as at 31 December 1999.




200
         Specialist consumer credit institutions do not usually take deposits from        … since specialist consumer
customers and such deposits account for a small share of the their total liabilities      credit institutions do not
(6.3% at 31 December 2003, versus 4.4% at 31 December 1999). The increase in              usually take deposits from
customer deposits stems mainly from refinancing transactions conducted with               customers to finance their
                                                                                          lending.
related companies that are not authorised credit institutions. Furthermore, customer
deposits on savings accounts subject to special rules increased as a result of new
passbook savings accounts paying attractive interest rates, which were offered by a
few institutions in the sector in recent years. The share of such deposits in total
liabilities increased from 0.1% in 1999 to 1.2% in 2003.

         Many specialist institutions in the consumer credit sector belong to             Refinancing from other
corporate groups and are refinanced by other companies from their groups. This            companies in the group may
type of refinancing is estimated to represent nearly 50% of their total liabilities.      account for a major share of
Liabilities denominated in foreign currencies account for a minor share of such           the liabilities of institutions
institutions’ refinancing, and most of their borrowing is contracted from resident        belonging to large groups.
lenders, but borrowing from non-resident lenders increased from nearly 6% of total
liabilities in 1999 to nearly 10% in 2003. However, only a handful of institutions
are concerned by this type of refinancing.

         In addition to borrowing and issuing securities, specialist consumer credit      In recent years, specialist
institutions securitise their assets to diversify their refinancing sources.              institutions have diversified
Securitisation transactions started to develop rapidly in 2000. Prior to that, there      their liabilities by securitising
had been a very small number of securitisation transactions and Cetelem had been          consumer loans, …
the only major player involved in them. For example, between 1999 and 2003,
some twenty new securitisation vehicles were set up, but the number dropped
sharply in 2003, when only one new securitisation vehicle was set up for revolving
credit loans.

         During this period, nine or so specialist consumer credit institutions           … especially in the case of
initiated securitisation transactions, including some resulted in the creation of sub-    captive subsidiaries of
funds within existing special purpose vehicles. The cumulative total amount of            carmakers.
securitisation, not including reloading of sub-funds, stood at around 6.8 billion for
metropolitan France. The strong growth of securitisation results mainly from three
transactions initiated in 2001 and 2002 by the captive consumer credit institutions
of automobile manufacturers, which accounted for nearly 55% of the cumulative
amount.

        In aggregate, car loans account for 63% of the cumulative total of
securitised assets in France during the period under review. The other major
categories of securitised assets were personal loans and revolving credit, which
accounted for 26% and 11% respectively. The unit amount of securitisation
transactions varies greatly from one institution to the next, ranging from EUR 100
million to more than 1.6 billion.

4.3.2. Managing liquidity risk

         Specialist consumer credit institutions use extremely rigorous procedures to     Specialist consumer credit
manage liquidity risk. As structural borrowers, such institutions need to prevent         institutions use extremely
any risk that threatens their refinancing, since it could jeopardise their ability to     rigorous procedures to
continue doing business. In particular, they make sure that confirmed and undrawn         manage liquidity risk…
lines of credit are available in sufficient amounts to remain in business, even it they
are unable to raise market financing for periods of up to six months, in most cases.




                                                                                                                     201
      … striving to match the              These institutions’ approach consists of trying to maintain a fairly close
   maturities of liabilities and   maturity match between assets and liabilities. The table below show the
                       assets…     distribution of assets and liabilities by residual maturities at 31 December 2003.

                                                          %                           Up to 1 year        1 to 5 years     5 years or more

                                       Assets ..................................         41.2                 52.4               6.4
                                       Liabilities ..............................        52.9                 43.7               3.4

                                                                                    Source: Commission Bancaire

                                          Funds to finance consumer loans are usually borrowed as new loans are
                                   produced, in the case of personal loans and specified purpose loans, or as
                                   outstanding loan amounts vary, in the case of revolving credit.

      … and monitoring cash                 In most cases, refinancing is obtained by drawing on confirmed lines of
requirements on a daily basis.     credit that provide short-term and medium-term financing from credit institutions
                                   that is indexed on the Eonia or the Euribor. Or else, institutions issue bonds and
                                   money market securities, such as negotiable medium-term notes or certificates of
                                   deposit. Cash requirements are monitored on a daily basis and covered by
                                   overnight borrowing or very short-term loans.

                                   4.3.3. Managing interest rate risk

  Specialist institutions mainly           Interest rate risk management is closely linked to liquidity risk management
borrow at adjustable rates and     for specialist consumer credit institutions, which try to match assets and liabilities
 manage interest rate risk with    in terms of both maturities and interest rates. The primary goal is to maintain the
    the aim of preserving their    lending spread if an increase in market interest rates causes refinancing costs to rise
              lending margin…      and to maintain a degree of stability in the lending rates offered to customers.

   … since personal loans and               As a general rule, personal loans and specific purpose loans carry a fixed
specific-purpose loans usually     rate of interest, while revolving credit carries an adjustable rate. The bulk of
carry fixed rates and revolving    refinancing carries an adjustable rate. The nature of their asset and liability
   credit carries an adjustable    structure means that specialist consumer credit institutions are not usually exposed
                          rate.    to interest rate risk on revolving credit, as long as their lending rates are adjusted to
                                   changes in the adjustable-rate borrowing used to finance it.


                                   4.4. Money laundering risk
    The internal procedures of             Like all other credit institutions, consumer credit specialists are subject to
    specialist consumer credit     the laws and regulations on preventing money laundering and terrorist financing.
     institutions to fight money   For this purpose, they are required to have internal procedures to comply with their
                   laundering…     obligation to maintain vigilance and to report suspicious activities to the French
                                   financial intelligence unit, Tracfin1.

                                           Due diligence includes customer identification, which is part of the internal
                                   loan approval procedures. Customer identification is carried out for new customers
                                   on the basis of identification documents and documents establishing the customer’s
                                   address, occupation and income, along with documents establishing the customer’s
                                   banking details, such as account details or a cancelled cheque.


                                   1
                                       Traitement du renseignement et action contre les circuits financiers clandestins.




   202
        Customer identification procedures need to be particularly strict and closely     … need to be very rigorous
supervised in cases where there is no direct contact between the lending institution      when there is no direct contact
and the customer during the loan application process. This is particularly true when      between the lending institution
transactions are handled through loan producing intermediaries or when institutions       and the customer, …
distribute loans through the marketing network of their parent group.

        Similarly, institutions engaging in “online banking” to develop their             … as is the case for “online
consumer credit business have to apply specific customer identification procedures.       banking” institutions.
Online institutions need to obtain copies of documents establishing the identity and
address of their customers and send a registered letter with acknowledgement of
receipt to the customer’s address. They also need to ascertain the truthfulness of the
information provided before opening any accounts for new customers.

        It is also important for institutions to assess their customers’ profiles. This   Specialist institutions need to
analysis is required for better knowledge of customers and to prevent money               assess their customers’
laundering. In the consumer credit business, the loan contract procedures largely         profiles…
determine the form this analysis takes. Consumer credit institutions have developed
systems for detecting unusual customer transactions that are based on preset
thresholds. Unusual transactions include cash or cheque payments when the
customer has opted for automatic debits, or frequent early repayments, especially
when early repayments are made soon after loans are granted.

       In view of the huge numbers of individual transactions, effective detection        … so that they can detect
of unusual financial transactions requires an advanced computerised supervision           unusual customer transactions
system. Automated procedures for detecting suspicious activities are also critical        using automated systems.
for complying with restrictive measures, such as asset freezes, taken against
individuals and organisations suspected of links with organised crime. The list of
such measures is updated on a regular basis.

        In addition, the main French consumer credit institutions conduct a               Specialist institutions operating
growing share of their business in other countries. This means that their vigilance       in other countries incur
obligations with regard to money laundering extend to their foreign branches and          vigilance obligations with
subsidiaries.                                                                             regard to money laundering
                                                                                          that extend to their foreign
                                                                                          branches and subsidiaries.
        Consumer credit institutions are bound to be less exposed to money
laundering risks than other institutions are, but many of them file suspicious
activity reports with Tracfin and the number of reports that they file has increased
substantially over the last three years.


5. PROFITABILITY OF SPECIALIST CREDIT
   INSTITUTIONS

5.1. Profit levels remain satisfactory
     on domestic lending, despite narrower
     margins and higher risk costs
                                                                                          The domestic business of
        The table below shows changes in the main solo income statement items             specialist consumer credit
for specialist consumer credit institutions between 1999 and 2003.                        institutions produces
                                                                                          satisfactory earnings…




                                                                                                                    203
                                                                   Income statement balances
                                                          Specialist institutions in metropolitan France

                                                                                                                                               Variation Variation
                                               (EUR millions)                          1999       2000       2001       2002       2003       2003/1999 2003/1999
                                                                                                                                                 (%)     (amount)

                               BANKING INCOME ..........................               9,393      10,957     12,276     13,254     13,573         44.5    4,181
                               – Money market and interbank
                                 transactions .................................        1,060       1,883      2,252       840       1,767         66.6      706
                               – - Customer transactions...............                4,579       5,016      5,558      5,385      5,344         16.7      765
                               – Securities transactions.................                190        159        199        264        368          94.1      179
                                    o/w repurchase agreements ........                    14             6          4          2          3      - 77.7     - 11
                               – Leasing transactions....................              2,247       2,429      2,725      3,087      3,337         48.5    1,090
                               –    Off-balance sheet transactions....                   223        309        442       1,015       992         345.4      769
                               – Financial services ........................             200        247        281        309        336          68.1      136
                               – Others .........................................        894        913        820       1,354      1,429         59.9      535
                               BANKING CHARGES .......................                 5,128       6,652      7,888      8,321      8,415         64.1    3,287
                               – Money market and interbank
                                 transactions .................................        1,454       2,287      2,868      2,462      2,359         62.2      905
                               – - Customer transactions...............                  292        331        347        266        302            3.4      10
                               – Securities transactions.................              1,087       1,415      1,556      1,410      1,320         21.4      233
                                   o/w repurchase agreements .........                        0          0          0          1          1     4,430.0       1
                               – Leasing transactions....................              1,831       2,001      2,236      2,616      2,892         58.0    1,061
                               – Off-balance sheet transactions.....                     181        231        449       1,067      1,014        461.4      834
                               – Financial services ........................              75         79         83         88         96          29.1       22
                               – Others .........................................        209        307        349        411        432         106.6      223
                               NET AUXILIARY AND
                               MISCELLANEOUS INCOME.............                         347        375        459        396        375            7.9      28
                               NET BANKING INCOME ..................                   4,611       4,680      4,847      5,329      5,533         20.0      921
                               OVERHEADS ...................................           2,520       2,601      2,840      2,962      3,077         22.1      558
                               – Staff costs......................................       858        839        906        938        973          13.4      115
                               – Other overheads ............................          1,662       1,762      1,934      2,024      2,105         26.6      443
                               Depreciation and provisions for
                               tangible and intangible fixed assets ...
                                                                                          51         60         56         66         71          39.6       20
                               GROSS OPERATING INCOME                                  2,041       2,020      1,951      2,301      2,384         16.8      343
                               Net allocations to provisions..............               168        372        388        307        372         121.1      204
                               Net allocations to provisions for risks
                               and liabilities .....................................     - 24       - 11       - 36        59        - 50        107.1      - 26
                               Net loan losses .................................
                                                                                         508        418        461        576        631          24.1      123
                               Interest on non-performing loans.......                   156        200        236        234        358         129.0      201
                               OPERATING INCOME......................                  1,545       1,441      1,374      1,593      1,789         15.8      244
                               Net capital gains on fixed assets .......                  78        146        - 94       773       - 129       - 266.3    - 207
                               ORDINARY PRETAX INCOME.........
                                                                                       1,622       1,587      1,280      2,366      1,660           2.3      37
                               NET INCOME ...................................          1,181       1,174       901       1,819      1,177         - 0.3      -4

                                                                                  Source: Commission Bancaire
… but growth of net banking            Net banking income increased by 20% between 1999 and 2003. This
 income trailed the increase   increase was slightly less than the 22.1% increase in overheads. The latter increase
 in overheads between 1999     was mainly due to a 26.6% rise operating costs, other than staff costs, which
                 and 2003…     increased by a more modest 13.4%.




204
        Gross operating income increased by 16.8% over the period and the cost-                                     … and the cost-income ratio
income ratio was practically unchanged at 57% at the end of 2003, as opposed to                                     stood at 57% at end-2003.
56.7% at the end of 1999. The cost-income ratio did rise, however, in 2000 and
2001 as a result of a 9.2% increase in overheads, which outstripped the 3.6%
increase in net banking income.

                                   Cost-income ratio
                     Specialist institutions in metropolitan France


    61.0%

                                                          59.8%
    60.0%


    59.0%


    58.0%
                                        56.9%                               57.1%             57.0%
                     56.7%
    57.0%


    56.0%


    55.0%


    54.0%
                  1999              2000               2001              2002               2003

                                      Source: Commission Bancaire


5.1.1. The cost of credit risk showed an increasing trend

         The cost of credit risk is the sum of net allocations to provisions and loan                               The substantial increase in the
losses posted to the solo income statement for its business in metropolitan France1.                                cost of credit risk eroded the
This cost rose by 48.4% between 1999 and 2003. The increase needs to be looked                                      gross operating income of
at in the context of the declining quality of credit risk seen in the rising proportion                             specialist institutions.
of non-performing loans shown on the balance sheets of specialist consumer credit
institutions.




1
    The cost of credit risk encompasses the cost of transactions other than those relating to consumer loans (for
    example, loans to dealers from subsidiaries of automobile manufacturers).




                                                                                                                                            205
                                       Provisioning level compared to gross operating income
                                            Specialist institutions in metropolitan France
                             EUR millions
                              1,200                                                                                                           50.0%
                                                                                       43.5%                                    42.1%         45.0%
                                                                    39.1%                                  38.4%
                              1,000
                                                                                                                                              40.0%
                                               33.1%                                                                            1 003
                                                                                                                                              35.0%
                               800                                                                          883
                                                                                       849
                                                                                                                                              30.0%
                                                                   790
                               600             676                                                                                            25.0%

                                                                                                                                              20.0%
                               400
                                                                                                                                              15.0%

                                                                                                                                              10.0%
                               200
                                                                                                                                              5.0%

                                 0                                                                                                            0.0%
                                              1999                 2000                2001                2002                 2003

                                            Net loan loss provisions and loan losses (excluding net provisions for liabilities and charges)
                                            Credit risk cost as a % of gross operating income


                                                                      Source: Commission Bancaire

                                     Much of the large increase in the cost of risk seen in 2000 can be explained
                             by sizeable write-backs of provisions in 1999 by one institution after a series of
                             one-off transactions, but the cost of risk still rose throughout the period under
                             review.

                                    Against this backdrop, the cost of credit risk increased as a proportion of
                             gross operating income to reach 42.1% in 2003.

  In aggregate, net income           The operating income of specialist consumer credit institutions posted
   in 2003 was practically   growth of 15.8% between 1999 and 2003, after deducting the cost of credit risk, net
      the same as in 1999.   provisions for risks and liabilities and interest on non-performing loans. On the
                             other hand, the ordinary net pre-tax income in 2003 was at practically the same
                             level as that reached in 1999, because of the impact of transactions involving
                             investments in subsidiaries.




206
5.1.2. Narrower margins

              Average cost of liabilities and average return on assets
               Specialist credit institutions in metropolitan France

                                      %                                            1999    2000    2001    2002    2003

1. Customer transactions
    Average cost of borrowing (including money market
    securities) ................................................................    4.32    5.09    4.85    3.77    3.32
    Average return on loans..........................................              10.81   10.56   10.74    9.81    9.18

2. Securities transactions
    Debt securities (other than money market
    securities) ................................................................    5.89    6.38    5.74    4.92    4.46
    Subordinated debt ...................................................           4.08    5.35    5.26    4.48    3.72
    Return on securities portfolio
    and subordinated loans...........................................              16.39   14.38    9.38   11.77   10.78

3. Money market transactions
    Average cost of borrowing ......................................                3.88    4.98    5.44    4.23    3.66
    Average return on loans..........................................               4.27    5.99    6.01    4.34    3.75

4. Overall lending margin .........................................                 5.81    5.09    4.64    4.65    4.41

                                                  Source: Commission Bancaire


         The overall lending margin narrowed sharply between 1999 and 2001, as                                             Margins are being squeezed…
interest rates rose, increasing refinancing costs, and the average return on loans was
largely unchanged. In 2002, the situation stabilised, as interest rates fell. In 2003,
the overall lending margin shrank again, but to a lesser degree.

        Of course, the aggregate figures fail to show the disparities between                                              … and are thinner for personal
specialist institutions or that the lending margins vary substantially, depending on                                       loans and specific-purpose
the type of consumer credit involved. The individual data disclosed by some                                                loans than for revolving credit.
specialist institutions show that personal loans and specific purpose loans,
especially car loans, carry margins that are usually much thinner than the margins
on revolving credit. The difference in lending rates between these types of loans
explains much of the difference in lending margins.

        Ultimately, the overall lending margin fell by 1.4% from 5.81% to 4.41%                                            The overall lending margin
between 1999 and 2003. As margins narrowed on their lending in France, major                                               shrank by 1.4% in aggregate
                                                                                                                           between 1999 and 2003.
groups of specialist consumer credit institutions continued to develop their business
in other countries.


5.2. The earnings of foreign subsidiaries
      grew rapidly between 1999 and 2002
        The table below shows changes in the income statement items of foreign
subsidiaries consolidated under full or proportionality consolidation. The balances
were calculated from the consolidated income statements of a sample of specialist
consumer credit institutions between 1999 and 2002.




                                                                                                                                                    207
                                             Income statement items of consolidated foreign subsidiaries
                                                                Specialist institutions

                                                                                                                                             Change
                                                              million                              1999     2000    2001          2002
                                                                                                                                            2002/1999

                                    Net banking income ..................................           611.3   739.6   1,044.5       1,174.7    +92.2%
                                    Overheads and depreciation.....................                 320.0   428.6    566.0         655.0    +104.7%
                                    Gross operating income............................              291.3   311.0    437.8         519.7     +78.4%
                                    Net allocations to provisions
                                    and loan losses .........................................        97.9   128.6    143.6         198.2    +102.5%
                                    Operating income......................................          193.4   182.5    294.2         321.5     +66.2%
                                    Ordinary pre-tax income ...........................             205.4   198.7    302.3         342.7     +66.8%
                                    Net income ................................................     130.1   120.6    167.8         201.5     +54.9%
                                    Net income attributable to group ..............                 115.6   108.4    152.1         181.4     +56.9%

                                                                                    Source: Commission Bancaire
International subsidiaries have            These data show strong growth in the various income statement items and
        posted strong earnings     an increase in net income attributable to the group of more than 50% over the
                      growth…      period.

                                          The contribution that international subsidiaries make to consolidated
                                   income is reaching a substantial level.

                                        Contribution of consolidated foreign subsidiaries to consolidated
                                                         income – Specialist institutions

                                                             %                                    1999       2000          2001             2002

                                   Net banking income.............................                15.2       16.3          21.5             22.6
                                   Overheads and depreciation ...............                     14.2       16.2          20.5             22.6
                                   Gross operating income ......................                  16.6       16.3          21.0             22.7
                                   Net allocations to provisions
                                   and loan losses....................................            17.4       18.0          16.7             19.2
                                   Operating income ................................              16.2       15.2          24.0             25.5
                                   Ordinary pre-tax income......................                  17.0       14.4          23.0             16.2
                                   Net income...........................................          16.8       13.5          17.6             13.4
                                   Net income attributable to group.........                      15.7       12.6          16.9             12.5

                                                                                    Source: Commission Bancaire

     … and are contributing a             The contribution of international subsidiaries to gross operating income and
growing share of the operating     consolidated operating income increased substantially between 1999 and 2002 to
          income of specialist     reach more than 20%. The level of foreign locations’ contributions to net income
                 institutions…     was affected by large extraordinary items in the parent companies’ financial
                                   statements for 2002.

     … but the situation varies            The situations vary greatly depending on the categories of players and the
depending on the categories of     countries involved. For example, specialist subsidiaries of automobile car
     institutions, the countries   manufacturers make more than half of their income from lending in other
where they do business and the     countries. The international contributions to the income of Cetelem and Sofinco are
    length of their presence in    much smaller, but they are growing steadily. On the other hand, the contribution
               those countries.    from foreign subsidiaries may be negative for institutions that undertook the
                                   international development of their business more recently. The biggest earnings




   208
come from countries where the subsidiaries and branches have been open for a
long time, as is the case in Italy and Spain. Germany also made a large contribution
to the earnings of automobile manufacturers’ subsidiaries.


6. LEGAL, ACCOUNTING AND PRUDENTIAL
   ENVIRONMENT AND THE OUTLOOK
   FOR CHANGES

6.1. The legal environment for consumer credit
     is changing

6.1.1. French consumer credit laws
       and regulations are highly comprehensive

        The consumer credit legislation laid down in the Scrivener Act 78-22 of
19 January 1978 on Consumer Information and Protection, which has now been
incorporated into the Consumer Code under Articles L 311-1 to L 311-37, provides
protection that was reinforced by the Emergency Economic and Financial
Measures Act of 2001 and the Financial Security Act of 2003.

        The scope of laws and regulations on consumer credit is vast since they           Extended scope.
cover every credit transaction, along with any guarantees provided, granted as a
regular business for free or for valuable consideration by any person, including
non-credit institutions, to finance non-business activities for amounts up to
 21,500. The notion of credit transactions is a particularly extensive one that
encompasses hire-purchase, consumer leases, lines of credit opened for more than
three months and leasing.

        Decrees 2002-927 and 2002-928 of 10 June 2002 amend the method for                Information for consumers
calculating the annual percentage rate of charge for consumer credit in order to          about the APR and in
transpose the provisions of European Directive 98/7/EC of 16 February 1998 into           advertising must be more
French law. The APR is now an annual rate, calculated in arrears, expressed as a          accurate and easier to
                                                                                          understand.
percentage of monetary units using an equation expressing the equivalence of loans
on the one hand and repayments and charges on the other. The new formula does
not change the actual cost of borrowing at all, since the APR still includes all of the
direct and indirect costs of connected to the loan, but it does result in a slightly
higher rate than the previous calculation method.

         To ensure that the quality of consumer information is no longer hampered
by compliance with the letter of laws and regulations, the Financial Security Act
2003-706 of 1 August 2003 requires credit institutions to make their marketing
offers easier to understand as of 1 February 2004. Print advertisements can only
mention the APR and they are not allowed to mention any other interest rate.
Furthermore, print advertisements in any media, including web pages, are required
to print information about the nature of the transaction, the APR, the term, whether
the rate is fixed or adjustable, the amount of the instalments and, when the rate is a
special promotional rate, the term during which the special rate applies using the
same font size as that used to print any other information about the loan
characteristics and they are required to include all this information in the body
copy of the advertisement.



                                                                                                                 209
                                        In order to prevent consumers from being misled, advertisements in all
                                 media are not allowed to indicate that a loan may be granted without information
                                 about the borrower’s situation or to suggest that a loan will entail an increase in
                                 assets or grant an automatic cash reserve without any identifiable financial
                                 counterpart in exchange. The law also requires preliminary loan offers be separate
                                 from any advertising medium or document.

                                         The Emergency Economic and Financial Measures Act of 2001 stiffened
                                 the disclosure requirements for banking intermediaries1 advertising offers. Such
                                 intermediaries must clearly indicate that individuals cannot be required to make
                                 any payments until one or more loans are granted. Furthermore, all advertisements
                                 must give the name and address of the credit institution that the intermediary works
                                 for.

    Rules on preliminary loan            The preliminary loan offer must be made in writing using one of the
     offers and loan contracts   standard forms defined by the Banking and Financial Regulation Committee.
          protect consumers…     It must contain specific information for the consumer about the loan being offered,
                                 including the amount, purpose, nature and procedures. The preliminary loan offer
                                 must be valid for two weeks from its date of issue, according to Article L 311-8 of
                                 the Consumer Code.

                                         The Financial Security Act requires better information for consumers about
                                 the obligatory or optional nature of insurance policies and about the nature of the
                                 risks covered during the execution of the contract. It also requires that the borrower
                                 be informed of his freedom to choose an insurer when the insurance is obligatory.

… and entitle them to withdraw           There is a seven-day cooling-off period for both the borrower and the
                   acceptance.   guarantor that starts the day after the preliminary loan offer is accepted. During this
                                 period, no payments of any kind can be made between the lender and the borrower.
                                 In its ruling of 2 February 1994, the French court of cassation agreed that a
                                 consumer can exercise his right to withdraw acceptance of a loan agreement during
                                 the cooling-off period by other means than the form attached to the loan offer.
                                 Withdrawal of acceptance automatically annuls the loan contract.

   Rules on contract execution          The borrower’s obligations may be suspended by a court order during a
       also protect borrowers.   grace period lasting up to two years under the procedures stipulated in Articles
                                 1244-1 to 1244-3 of the French Civil Code.

                                          Furthermore, early repayment of consumer loans can always be made in
                                 part or in full with no penalties for the borrower.

                                         If the borrower defaults, the lender can demand immediate repayment of
                                 the outstanding principal, plus unpaid accrued interest. The lender can also require
                                 the defaulting borrower to pay a penalty of up to 8% of the outstanding principal
                                 on the default date.

                                          The Emergency Economic and Financial Measures Act overturned the case
                                 law that applied a two-year limit on initiating proceedings arising from consumer
                                 credit transactions to both parties. The application of this limit is now restricted to



                                 1
                                     Defined under the terms of Article L 519-1 as persons who bring together parties interested in concluding a
                                     banking transaction.




   210
proceedings to obtain payment from a defaulting debtor, which means that the
borrower is the sole beneficiary of the two-year limit. Proceedings against the
lender are now subject to the ordinary statute of limitations.

       The borrower is protected by the rules governing specific purpose loans             Specific-purpose loans offer
when the preliminary loan offer stipulates the good or service being financed and          greater protection for
when the contract of sale or service contract stipulates that the price paid is            borrowers.
financed in full or in part by a loan.

        The law makes the validity of the main contract subject to the approval of
the loan, thus protecting the borrower if the loan application is rejected.

        The law also makes execution of the loan contract subject to execution of
the main contract. This means that the borrower’s obligations do not apply until
delivery of the goods or provision of the services has started. If the seller interrupts
delivery, the buyer can suspend his repayments. If there is a dispute about the
execution of a contract, the court may, until the dispute is settled, suspend
performance of the credit agreement. If the main contract is legally cancelled or
annulled by the vendor, the latter may, at the lender’s request, be ordered to
guarantee the repayment of the loan to the borrower, according to the Articles
L 311-21 and L 311-22 of the Consumer Code.

        The Financial Security Act includes provisions to prevent excessive debt           The new rules on revolving
through better regulation of information on revolving credit and increased                 credit are now in force.
disclosure requirements. More specifically, the Financial Security Act introduces
new rules on renewing loan contracts and disclosures during the execution of the
contract.

         Article L 311-19 of the Consumer Code already required the lending
institution to make a new loan offer, including any changes, three months before
the renewal date. The Financial Security Act increased the protection for borrowers
by giving the borrower the right to oppose any changes by sending back the reply
coupon attached to the information on the changes provided by the lender 20 days
before the date on which the changes come into force.

        Disclosure requirements applying during the execution of the contract
include a monthly statement to be provided on the execution of a revolving credit
contract. The statement must specify the date on which it is drawn up and the
payment date. It should also provide a recap of the all of the characteristics of the
loan, including the available principal, the amount of the monthly payment and a
breakdown of interest and insurance charges, the total amount payable and the
amount of repayments already received since the last renewal of the loan contract,
with a breakdown of principal and interest payments.

        All of the legal provisions are public order measures that cannot be waived        These rules carry penalties.
by the borrower. They carry criminal and civil penalties. In addition to fines, a
lender who grants a loan without providing a preliminary loan offer that complies
with the requirements of the Consumer Code shall be deprived of the right to
charge interest, which means the borrower gets an interest-free loan. The Financial
Security Act also gives the commissions for excessive household debt the right to
refer cases where the lender has obviously failed to fulfil its obligations to the
courts in order to have the interest and debts officially cancelled.




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                                  6.1.2. French and European legislation in preparation

A bill on setting up a national           Proposals for a positive database have regularly been put forward for about
          database on loans to    ten years now. There is no denying that such a database could provide more
 individuals for non-business     accurate information to credit institutions about prospective borrowers and thus
             purposes is under    decrease lending to individuals with excessive debt, but indebtedness alone is not
                 consideration.   always a sufficient gauge of an individual borrower’s ability to repay a loan.
                                  Lenders also have to consider the borrowers’ rent and any alimony payments. It
                                  also seems to be difficult to include all lending in such a database. This is
                                  especially true for overdrafts and the cash reserves that come with retailers’ cards
                                  that many cardholders never use.

Another bill aims to establish            Another proposal aims to introduce new disclosure requirements for lenders
new disclosure requirements       concerning the terms of revolving credit contracts that are renewed tacitly and a
 about the terms of contracts     requirement that the consumer must expressly accept the renewal of the contract at
    that are renewed by tacit     least 20 days before it expires. The industry opposes the latter proposal vigorously,
                  agreement.      arguing that the consequences of cancelling the overdraft facility of a customer
                                  who fails to respond in time could be very harmful if it leads to dishonoured
                                  cheques or transfer orders.

The latest developments in the
                                           French legislation constitutes the bulk of consumer law, but European
 proposed Directive on Credit     legislation on consumer protection has been developing since the early nineteen
   for Consumers constitute a     eighties, under the direction of the European Commission. For example, Directive
        move towards optimal      87/102/EEC of December 1986 on consumer credit, which was amended in 1990
               harmonisation.     and 1998, set a minimum level of protection for consumers without seeking to
                                  harmonise the Member States’ laws. On 11 September 2002, the European
                                  Commission proposed an ambitious new Directive to take account of the strong
                                  growth of the consumer credit market. The aim of the proposed Directive is to
                                  secure ‘maximum’ harmonisation of national laws that would eliminate all national
                                  specificities (except in a few special areas) and combine the most protective
                                  provisions of each country’s existing laws. The Commission’s proposals covered a
                                  vast scope of transactions. They increased the lenders’ duties with regard to
                                  consumer information, advice and prudence. They increased the lenders’ liability
                                  when they deal through retailers acting as credit intermediaries. They increased the
                                  cooling-off period to fourteen days, provided an extensive definition of credit
                                  intermediaries and instituted supervision of such intermediaries. The proposals also
                                  called for bodies to be set up to provide mediation, information and advice for
                                  borrowers.

                                          The plenary session of the Parliament adopted the proposal in principle on
                                  5 November 2003, but it still referred the proposal to its Legal Affairs and Internal
                                  Market Committee. At its session of 16 March 2004, the Parliament passed more
                                  than 150 amendments that significantly changed the European Commission’s
                                  original proposal, which the industry opposed on many points.

                                          At its plenary session of 20 April 2004, the Parliament also voted in favour
                                  of optimal harmonisation of protection for borrowers, following the proposals of its
                                  Legal Affairs Committee, even though the consensus arrived at tends to be in line
                                  with the original proposal on a number of very specific points.

                                          The scope of transactions covered by the amended proposal is much
                                  narrower compared to the original proposal. The Parliament excluded many types
                                  of transactions from the scope of the Directive, including hiring agreements,
                                  leasing agreements, loans provided by employers to employees as a secondary



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activity, loan contracts that require the consumer to repay the loan in up to four
payments over a maximum of 12 months, loans granted as ‘advances on current
accounts or debit accounts, where the total amount has to be repaid within three
months or on demand’. Furthermore, the Directive does not cover loans for less
than 500 or more than 100,000, thus excluding overdrafts under the 500
threshold. Unlike the European Commission’s original proposal, the amended
version does not cover guarantors.

        In the original proposal, the credit institutions’ duty to provide information
was combined with a “general duty to provide advice” stipulating that “the creditor
or, where applicable, the credit intermediary shall seek to establish, among the
credit agreements they usually offer or arrange, the most appropriate type and total
amount of credit taking into account the financial situation of the consumer”. The
European Parliament limited this duty to providing basic information about the
amount, the repayment term, the total cost of the loan, the annual percentage rate of
charge to be specified in the preliminary loan offer and in the contract, as well as in
any advertising about the loan.

         The “responsible lending” principle advocated by the European
Commission states that the creditor “is assumed to have previously assessed, by
any means at his disposal, whether the consumer (…) can reasonably be expected
to discharge (his) obligations under the agreement”. The Parliament has replaced
this principle with that of responsible lending and borrowing, which states that both
parties should be entitled to full and truthful information.

       On the other hand, the fourteen-day cooling off period in the European
Commission’s original proposal has been maintained. This is longer than the
seven-day cooling-off period imposed by French law.

        The European Parliament’s proposal also calls for harmonised rules for
determining the annual percentage rate of charge to ensure full comparability of
loan offers throughout the European Union.

        Like the rules applying to specific purpose loans under French law under
the terms of Article L 311-20 and subsequent articles of the French Consumer
Code, the European Parliament adopted the principle of linkage between the main
contract and the credit contract, which replaced the joint and several liability
advocated by the European Commission.

         The provisions aimed at registration of credit intermediaries were
eliminated, along with the ban on door-to-door selling. The Parliament merely
stipulated that intermediaries should be subject to inspection or monitoring by an
institution or an independent body, thus eliminating the provisions about setting up
bodies for mediation and bodies providing consumer information and advice.

        Before the final version of the Directive is passed, the versions proposed by
the Commission and the Parliament will be submitted to the European Council for
reconciliation on the subjects where major divergences persist. It will take several
more years for the provisions of the Directive to be transposed into the national
laws of the European Union countries.




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                                   6.2. The accounting and prudential
                                        framework will also change

                                   6.2.1. Specific features of the accounting treatment
                                          of consumer loans

                                            In France, consumer loans are subject to the rules generally applied to all
                                   credit transactions. These rules combine the valuation of principal at its amortised
                                   cost and the recognition of interests on an accrual basis.

                                           However, special valuation rules are used to determine provisions for credit
                                   risk.

   French accounting rules on               French rules on provisions for credit risk are set out in Regulation of the
               credit risks…       Accounting Regulatory Committee (CRC) 2002-03 on the accounting treatment of
                                   credit risk. Under these rules, when a loan is deemed to be doubtful, the lending
                                   institution must set aside a provision against the corresponding outstanding loans
                                   for the amount of the likely loss (with some exceptions). The provisions must cover
                                   the present value of the aggregate foreseeable losses incurred by the institution on
                                   doubtful loans and doubtful compromised loans.

  … allow the use of statistical            The amount of provisions for doubtful loans is calculated, in principle, on
        models for calculating     the basis of individual assessments of loans. These assessments consider the
provisions for consumer loans.     economic outlook for each counterparty and the guarantees that have been enforced
                                   or that can be enforced. However, in practice, consumer credit institutions are
                                   allowed to use methods that base provisions on a statistical assessment of the loan
                                   portfolio, as long as they are dealing with large numbers of small loans of a similar
                                   type. This practice is upheld by the terms of Article 14 of the Regulation
                                   mentioned above, which allows institutions to make a statistical estimate of future
                                   losses, instead of conducting an individual analysis for each borrower, as long as
                                   the outstanding amounts consist of small loans with similar characteristics. The
                                   estimate must be based on a sound statistical model that can be used to validate the
                                   provisions set aside accurately. As a general rule, the statistical model incorporates
                                   historical data on loan losses and observed or foreseeable changes that are likely to
                                   alter the probability of actual losses.

                                            The provisions of International Accounting Standard 39 on provisions for
                                   credit risks on assets carried at amortised cost are more restrictive than the French
                                   rules. The loss events to be taken into consideration must not occur before the
                                   initial recognition of the loans and they must not relate to events, however likely,
                                   that have not occurred as of the reporting date.

  IAS 39 allows provisions for             IAS 39 calls for evidence of impairment to be assessed on an individual
         consumer loans to be      basis at first for assets where the individual amount is significant or when the
    calculated on a collective     individual amount is not significant, but an individual analysis of the asset was
                        basis.     wanted nonetheless. Then, assets can be grouped with other assets to seek evidence
                                   of loss events affecting groups of assets that have not been analysed on an
                                   individual basis because they are not of significant size, and groups of assets that
                                   have been analysed individually but not recognised as individually impaired. The
                                   assets in such groups must have similar credit risk characteristics. The impairment
                                   is recognised in accounting terms by a direct reduction in the carrying amount of
                                   the asset or an allocation to provisions.




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         IAS 18 and IAS 39 stipulate that certain initial costs should be incorporated
into the effective interest rate of a loan, which is the rate at which the interest
income or charges on a financial instrument carried at amortised cost must be
calculated. This means that the incremental costs and commissions related to
granting consumer loans must be included in the calculation of the effective
interest rate and in the initial carrying amount of the loan.

6.2.2. The future prudential rules could reduce
       capital requirements for consumer credit institutions

        With the introduction of new rules for calculating capital requirements
between now and 2006, the “Basel II” ratio, and its European offshoot, will have
a major impact on the consumer credit business, which is likely to lead to changes
in the offer of consumer credit and an increase in consumer borrowing.

         The current capital adequacy ratio for credit institutions, regardless of their   Whether institutions choose the
products and market segments, stands at 8% for outstanding consumer loans                  standard method or the IRB
(100% × 8%). The future capital adequacy ratio is to be more risk sensitive and            method,…
bring regulatory capital requirements more closely into line with institutions’
assessments of their economic capital requirements for their management needs.
The resulting requirements will vary according to the calculation methods used by
the institution in question, but there will be a substantial across-the-board decrease
reflecting the relatively low degree of risk in the consumer credit business.
Institutions will be able to choose between:

− a “standard” method under which outstanding consumer loans carry a 75% risk
  weighting, which will lead to a 25% reduction in the capital requirement from
  8% now to 6% (75% × 8%);

− or an “internal rating based” method, subject to authorisation by the banking
  supervisor. Under the IRB method, outstanding consumer loans are grouped
  into homogeneous pools and the institutions should be able to calculate
  parameters representing the risks for each pool. The parameters are “probability
  of default” (PD), “loss given default” (LGD) and “exposure at default” (EAD).
  Estimates of PD and LGD could be replaced by a direct estimate of “expected
  loss” (EL), which can be obtained by multiplying PD by LGD.

        The reduction in capital requirements under the IRB method is also bound           … capital charges for consumer
to be substantial. A survey conducted by Price Waterhouse Coopers on behalf of             loans are bound to be lower.
the European Commission showed that the portfolio of consumer loans will
contribute 19% to the reduction in capital requirements for credit institutions that
use the IRB method.

        The regulatory portfolio of consumer loans includes a sub-category made
up of revolving credit lines linked to credit cards. The specific nature of this
lending, which rarely produces unexpected losses and where expected losses are
generally covered by interest margins, means that the capital requirement for this
sub-category of lending will be lower.

        The right to use the IRB method depends on compliance with several                 Specialist consumer credit
minimum requirements, such as access to historical data covering at least five             institutions already have the
years. Specialist consumer credit institutions usually have fairly comprehensive           means to adopt the more
and detailed historical data compared to institutions dealing in other asset classes.      advanced IRB method.




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      Loan approval and pricing decisions often rely primarily on credit scores assessed
      on the basis of the institutions’ past experience. Consumer credit institutions have a
      head start in implementing the quantitative practices promoted by the new capital
      adequacy ratio in comparison to institutions engaged in other types of lending.
      Nevertheless, consumer credit institutions will have to adapt and strengthen their
      risk management procedures. More specifically, they will have to expand their
      information systems to increase their capacity for data storage. They will also have
      to officialise their standards and procedures. They may have to adapt their scoring
      systems and implement stress tests to assess how well their loan portfolio would
      withstand shocks, such as business-cycle shocks.

              In theory, the reduction in capital requirements could have two
      consequences: increased profitability and/or a narrowing of lending margins in an
      attempt to defend or win market share. The ultimate consequences will actually
      depend on the level of competition in the industry. The PricewaterhouseCoopers
      report stresses that growing demand for consumer credit and the ensuing increase
      in household debt levels could enable banks to hang on to some of the savings
      produced by the reduction in capital requirements, while bringing benefits to
      consumers too.


      CONCLUSION

             Consumer credit is a profitable business that makes a regular and
      substantial contribution to the earnings of the large groups that own specialist
      consumer credit institutions.

              The French consumer credit market seems to hold out prospects for further
      growth, since households’ use of consumer credit is still relatively modest, but
      competition is keen and profit margins are being squeezed. The main players in the
      consumer credit sector are pursuing an international expansion policy to sustain
      their growth.

               Under these conditions, specialist consumer credit institutions must strive
      to reconcile business imperatives with the critical task of ensuring the quality of
      their credit risks. The recent increase in the cost of risk is a further incentive for
      institutions to improve their risk measurement and monitoring systems, which are
      already acknowledged to be of very high quality. The work that these institutions
      have undertaken to prepare for the implementation of the future capital adequacy
      ratio is bound to provide them with an opportunity for refining their assessment of
      credit risks still further.




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