August 3, 2021

Trouble in Paradise: Inside Canadian banks’ billion-dollar Caribbean struggle

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image-9By Tim Kiladze From The Globe and Mail

They arrived in droves starting at 5:30 a.m., desperate to secure a steady pay cheque. By midmorning, the anxious mob totalled 5,000 people.

Sandals, a Caribbean hotel chain, was hosting a job fair in Barbados to hire staff for a brand new resort. Because thousands of people showed up for 600 jobs on the October morning last year, scores of applicants were forced to wait outside under the blistering sun. Things went from testy to unruly as the temperature neared 32 degrees; Sandals had no choice but to call the cops.

The chaos is one face of the ugly downturn sweeping through the Caribbean. Though the global financial crisis technically ended a few years ago, its punishing aftershocks are still being felt—and they’re amplified on island states that depend on tourist dollars for support. Countries like the Bahamas and Barbados are marketed as idyllic vacation spots with white sand beaches, but their local economies are anything but serene.

image-8In the Bahamas, the unemployment rate was 15.7% at the start of February—higher than in Portugal, one of Europe’s worst-hit economies, and well over double Canada’s rate. The situation is even worse in Barbados—and arguably even more surprising, since the loyalty of British tourists to “Little England” had seemed to be bred in the bone.

The colonial tie meant little during the financial crisis, and the resulting downturn drove Barbados’s debt load to nearly 100% of its gross domestic product. Struggling to pay the bills, the government fired 3,000 public servants last year. It’s also gone cap in hand to hotel developers, offering major tax concessions to spur investment—hence the scene at Sandals.

iBanksmageFinancial institutions are, of course, at the epicentre of this storm. Take the case of Sagicor Financial Corp., a leading regional life insurer, based in Barbados. Because the country’s sovereign debt has been downgraded several times, Sagicor’s corporate debt rating has also suffered. In January, the company abruptly announced it was relocating its head office outside of Barbados, shocking the island’s 290,000 citizens.

Canadian lenders have it even worse. Our banks are often praised for sidestepping the U.S. mortgage crisis and for avoiding the ugly economic woes that still wreak havoc in Europe, but the truth is, they’ve hit trouble in paradise. Royal Bank of Canada, Bank of Nova Scotia and Canadian Imperial Bank of Commerce are by far the Caribbean’s three largest lenders, dominating both personal and commercial banking. Combined, they’ve written off more than $1 billion in the region since the Great Recession.

To stanch the bleeding, the banks have been restructuring their regional operations by shrinking their footprints and by leaning on specific countries, such as energy-rich Trinidad and Tobago, to drive growth. At first it seemed like a smart plan, but then energy prices plummeted. Some 45% of Trinidad’s GDP comes from the energy industry, as do 80% of its exports.

Shareholders barely noticed when Canada’s banks started suffering from this tropical malaise five years ago. Because the Big Six lenders were on a tear, many of their mistakes were glossed over. Bank CEOs, however, have warned that the bull run is waning. Spooked by spiralling writeoffs, investors repeatedly asked bank chiefs about the region at a major industry conference in January. More than anything, they simply want to know what the hell is happening in the backyard of Canadian banking.

Canada’s commercial ties to the Caribbean

Canada’s commercial ties to the Caribbean run deep. Starting in 1864, the group that founded Merchant’s Bank in Halifax financed trade with British-owned islands in the Antilles. Ships leaving Canada packed with timber and flour returned home with sugar, rum and cotton.

image-7Scotiabank planted roots in the British West Indies, as they were then known, by opening a branch in Jamaica in 1889. RBC began its Caribbean foray even earlier, in 1882, and CIBC set up shop in Barbados and Jamaica in 1920. Canadians were so enamoured with the region that Prime Minister Robert Borden talked to his British counterpart, David Lloyd George, about taking over some islands in 1919 (or so legend has it).

For all that history, our banks are sometimes still chided for being from afar. “Everybody always talks about these ‘foreign banks,’” says Anya Schnoor, a Jamaican who runs Scotiabank Trinidad. “I always say to everybody: If you’ve been in a region 125 years, we’ve kind of gone beyond” that line of reasoning.

The Canadian banks used to face tough competition from the likes of Barclays and Citibank, but that started to change at the turn of the century. In 2001, CIBC combined its regional operations with Barclays’ to form FirstCaribbean International Bank; five years later, CIBC bought out Barclays’ remaining stake for just over $1 billion (U.S.). It was the largest deal of CEO Gerry McCaughey’s era.

While Scotiabank largely opted for organic growth, investing in its local wealth and insurance arms, RBC inked its own acquisition in 2007, buying back Trinidad’s RBTT Financial Group for $2.2 billion (U.S.). (RBC originally owned RBTT, but sold it to public shareholders in the late ’80s.)

Each of these investments seemed promising at the time. With tourism booming and energy prices soaring, economic growth was robust—between 2000 and 2007, Trinidad and Tobago’s averaged slightly over 8% annually. The region’s profit margins were also fat, particularly in lending.

By 2008, the three Canadian banks had $42 billion in assets across the English Caribbean—2.5% of their combined total assets, but more than four times those held by the 40-odd locally owned banks. With such a dominant footprint, RBC, Scotiabank and CIBC hardly had to spend to build brand awareness—they could milk money just by being there. In 2007 CIBC FirstCaribbean made $256 million (U.S.), contributing 7% of the bank’s total profit.

Then the financial crisis hit.

At first, the pain wasn’t too severe because Brits, Canadians and Americans didn’t cancel the vacations they had booked before the crash. But in 2010, Jamaica became the first to blink, turning to the International Monetary Fund for assistance. Almost four years later, Barbados did the same when its central bank nearly ran out of its precious foreign exchange reserves. The government is now working on a restructuring plan with the IMF, which means two of the region’s three traditional economic powerhouses can’t support themselves.

Scotiabank was the first financial institution to acknowledge the pain. As the lead lender to a developer that bought resorts on Cable Beach in the Bahamas, the bank suffered a $75-million hit on its $200-million loan in 2010. Through a complex restructuring, a Chinese bank stepped in to bail out the developer, ultimately financing a project comprising six hotels, a 100,000-square-foot casino, 200,000 square feet of convention facilities and an 18-hole golf course. A year later, CIBC wrote down its investment in FirstCaribbean by $203 million.

It was then largely quiet until January, 2014, when RBC shocked its peers with plans to sell its Jamaican operations to Sagicor, incurring a $100-million loss. The year since has been chock full of charges and pullbacks, including another $420-million writedown of FirstCaribbean’s goodwill; the closing of RBC’s Caribbean wealth management business; and scores of loan-loss provisions from all three lenders.

Today, more than half of CIBC’s total gross impaired loans—or loans that show any signs of trouble—originate in the Caribbean. At Scotiabank, the equivalent share is 35%. In other words, this tiny cluster of islands has the potential to generate bigger writeoffs than both banks’ monstrous Canadian lending portfolios. As for RBC, 11% of its Caribbean lending portfolio is impaired, versus just 0.33% of its equivalent Canadian business. Now we know why Caribbean loan margins were so fat: The outsized returns reflected higher risk. In finance, after all, there is no free lunch.

Corporate lending problem

What started as a corporate lending problem has morphed into a mortgage-market meltdown. Consumer credit is also suffering. Just before Christmas, RBC took another $50-million charge related to its Caribbean residential mortgage book, while CIBC has warned that further FirstCaribbean writedowns could come.

Before the crisis, foreigners piled into Barbados, buying up properties on the island’s west coast. The boom was so fierce that a luxury mall—Limegrove Lifestyle Centre—was built, attracting tenants such as Cartier and Louis Vuitton. Developments like the Port Ferdinand luxury marina, which can house 120 vessels up to 18 metres long each, also sprung up. Today, however, both are surrounded by properties with “For Sale” signs. The situation is eerily similar in the Bahamas, where it would take more than a decade to unload all the foreclosed properties at the average annual rate of home sales.

Much of this mess dates back to practices put in place years ago—in some cases, before the Canadian banks made their Caribbean acquisitions. “The credit adjudication of RBTT left a lot to be desired,” says Richard Young, the former head of Scotiabank Trinidad, who retired in 2012. “I used to compete with them, so I knew the type of stuff they were doing.” If, for example, a client had a good relationship with a branch manager, he or she could simply call up and get extra credit, regardless of their banking profile. “The customers loved it.”

FirstCaribbean, meanwhile, was happy to lend during a property boom. There was a belief in Barbados that real estate prices would go up by 10% a year. Believing the hype was bad enough, but once the bubble popped, CIBC was left holding bad loans tied to houses and land.

Although each bank now has its own restructuring plan, the common denominator is the need to lower costs. Since revenues aren’t growing, savings have to come from slashing expenses. That’s easier said than done. RBC, for example, operates in 18 countries and territories in the region. It is governed by 17 regulators and deals in eight currencies. Negotiating layoffs and centralizing back-office functions is a nightmare.

Independence Square in Trinidad. Kibwe Brathwaite
The Trinidian capital, Port of Spain. Kibwe Brathwaite
Banker Terrence Farrell says Trinidad should have used its strength in energy to save more for a rainy day. Kibwe Brathwaite

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