Accounting Fundamentals for Financial Institutions Midterm
usaggwp
FinanceCompanies.pptxAsset and Liability Management
Fin6102
Ferriter – Winter 2019
Overview
This chapter discusses finance companies
Services provided by finance companies
Competitive/financial environment
Size, structure, and composition
Regulation
Global issues
Ch 3-2
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Historical Perspective
First major finance company originated during the Great Depression
Installment credit
General Electric Capital Corporation
Competition from banks increased during 1950s
Expansion of product lines
GMAC
Ch 3-3
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GMAC
Controversial approval by the Fed of GMAC as a bank holding company in December 2008
Allowed access to $6 billion in government bailout money
Fed required GM to reduce its holdings in GMAC to less than 10 percent, from 49 percent
Ch 3-4
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Finance Companies
Activities similar to banks, but no depository function
May specialize in installment loans (e.g. automobile loans) or may be diversified, providing consumer loans and financing to corporations, especially through factoring
Commercial paper is key source of funds
Ch 3-5
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Finance Companies (continued)
Captive Finance Companies: e.g., Ford Motor Credit Corp.
Highly concentrated
Largest 20 firms: 65 percent of assets
Ch 3-6
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Major Types of Finance Companies
Sales finance institutions:
Ford Motor Credit and Sears Roebuck Acceptance Corp.
Personal credit institutions:
HSBC Finance and AIG American General
Business credit institutions:
CIT Group and U.S. Bancorp Equipment Finance
Equipment leasing and factoring
Ch 3-7
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Web Resources
For information on finance companies, visit:
GE www.ge.com
Ally www.ally.com
Ford Credit www.credit.ford.com
HSBC www.us.hsbc.com
Citigroup www.citigroup.com
Ch 3-8
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Ch 3-9
Largest Finance Companies
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Balance Sheet and Trends
Business and consumer loans are the major assets
61.2% of total assets, 2015
Reduced from 95.1% in 1977
Increases in real estate loans and other assets
Growth in leasing and business lending
Finance companies face credit risk, interest rate risk, and liquidity risk
Ch 3-10
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Consumer Loans
Consumer loans
Primarily motor vehicle loans and leases, other consumer loans, and securitized loans
Historically charged higher rates than for auto loans than commercial banks
Low auto finance company rates
Following 9/11 attacks
Attempts to boost new vehicle sales via 0.0% loans lasting into 2005
By 2002, finance company rates were more than 3% less than banks on new vehicles
Ch 3-11
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Consumer Loans (continued)
Generally attract riskier customers than commercial banks
Subprime lender finance companies
Jayhawk Acceptance Corp.
From auto loans to tummy tucks and hair transplants
“Loan shark” firms with rates as high as 30% or more
Ch 3-12
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Finance companies are more willing to offer mortgages to risky borrows than commercial banks because they aren’t regulated as stringently.
Payday Loans
Payday loans
390 percent APR
Regulated by states
As of 2015, payday lending effectively banned in 15 states
Controlled in other states via usury limits
Evaded bans by forming relationships with nationally chartered banks, based in states that do not have usury limits (e.g., South Dakota, Delaware)
Ch 3-13
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Mortgages
Mortgages have become a major component of finance company assets
Both residential and commercial
May be direct mortgages or securitized mortgage assets
Ch 3-14
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Home Equity Loans
Growth in home equity loans following passage of Tax Reform Act of 1986
Tax deductibility issue
Defaults in subprime and even relatively strong credit mortgages in 2007-2008
Root cause of the financial crisis of 2008-2009
Ch 3-15
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Web Resources
For information on home equity loans, visit:
Consumer Bankers Association www.cbanet.org
Ch 3-16
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Business Loans
Business loans comprise largest portion of finance company loans (28.5%)
Advantages over commercial banks:
Fewer regulatory impediments to types of products and services
Not depository institutions hence less regulatory scrutiny and lower overheads
Often have substantial expertise and greater willingness to accept riskier clients
Ch 3-17
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Business Loans Continued
Major subcategories:
Retail and wholesale motor vehicle loans and leases
Equipment loans
Tax and other associated advantages when finance company leases the equipment directly to the customer as opposed to financing the purchase
Other business loans and securitized business assets
Ch 3-18
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Liabilities
Major liabilities: Commercial paper and other debt (longer-term notes and bonds)
Finance firms are largest issuers of short-term commercial paper (frequently through direct sale programs)
Management of liquidity risk differs from commercial banks
Ch 3-19
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Industry Performance
Strong loan demand and solid profits for the largest firms in the early 2000s
Effects of low interest rates
Not surprisingly, the most successful became takeover targets
Citigroup/Associates First Capital
AIG/American General
HSBC Holdings/Household International
Ch 3-20
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Industry Performance Continued
Mid 2000s problems arose
2005, 2006: falling home prices and rising interest rates
Sharp pullback from subprime mortgage lending
End of 2009: National all time high for mortgage delinquencies 6.89%
Countrywide Financial and CIT Group failures
Ch 3-21
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Regulation of Finance Companies
Federal Reserve’s definition of finance company
A firm, other than a depository institution, whose primary assets are loans to individuals and businesses
Subject to state-imposed usury ceilings
Lower regulatory burden than DIs
Not subject to Community Reinvestment Act of 1977
Ch 3-22
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Impact of nonbank FIs, including finance companies, on the U.S. economy resulted in greater scrutiny
Fed rescue of several finance companies was a factor
2010 Wall Street Reform and Consumer Protection Act
Ch 3-23
Regulation of Finance Companies Continued
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Regulation Concluded
With less regulatory scrutiny, finance companies must signal safety and soundness to capital markets in order to obtain funds
Lower leverage than banks (12.8% capital-assets versus 11.3% for commercial banks in 2015)
Captive finance companies may employ default protection guarantees from parent company or other protection such as letters of credit
Ch 3-24
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Global Issues
In foreign countries, finance companies are generally subsidiaries of commercial banks or industrial firms
Importance of nonbank FIs has been increasing over the past decade
Latin America and Europe
New Zealand: consolidation, collapse, and restructuring of finance companies
Ch 3-25
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Pertinent Websites
American General
Federal Reserve
Consumer Bankers Association
Ford Motor Credit
General Electric Capital Corp.
Ally
HSBC Finance
Ch 3-26
www.federalreserve.gov
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