Understanding Debanking Risk for a Corporate Treasurer

In today's financial landscape, the concept of "debanking" has become increasingly pertinent, particularly for corporate treasurers who are responsible for managing the financial activities and risks of their organizations. Debanking risk refers to the threat that a corporate entity may face the termination or restriction of its banking services by financial institutions and banks. This risk can arise from a variety of factors and can have significant implications for the operational and financial stability of a corporation. It is true too that being on-boarded by a bank may become a challenge, especially for SME’s, Private Equity Funds or Family Offices. If you have good bankers, respect them and satisfy them to maintain this relationship as long as possible.

How could we define this financial “debanking” risk for corporates?

Debanking risk occurs when a bank decides to sever its relationship with a corporate client, either by closing accounts, limiting access to services or financing, or imposing (more) stringent conditions that effectively restrict the client's banking capabilities or that increase cost of funding. The reasons of these changes are multiple. A bank can decide to ban some sector, to refuse too small customers, to mitigate its risks and exposures, to remove from some territories, etc.… This can also be a result of regulatory pressures, perceived reputational risks, or strategic decisions by the bank to de-risk its portfolio and to refocus on other businesses. For a corporate treasurer, understanding and mitigating this risk is crucial to ensuring continued access to essential banking services. Let’s keep in mind that often the first supplier of a corporate can be its banks (especially when the client is significantly “short”).

Key Factors Contributing to Debanking Risk

As already mentioned, there are different reasons for pushing banks to de-risk their portfolios of customers.

Regulatory Compliance

Banks are subject to strict regulatory frameworks and capital adequacy rules that require them to monitor and report on their clients' activities. If a corporation is perceived to be at high risk of non-compliance with regulations such as Anti-Money Laundering (AML) or Counter-Terrorism Financing (CTF) laws or EU regulations, banks may choose to terminate their relationship to avoid potential penalties. We saw so many institutions fined by supervisors.

Reputational Concerns and financial health and stability of clients

Financial institutions are highly sensitive to reputational risks. If a corporation is involved in activities that could harm a bank's reputation, such as environmental violations, ethical breaches, or legal controversies, the bank may decide to distance itself to protect its own standing in the market.

Banks must continuously assess the financial health of their corporate clients (not only – also retails’). Corporations facing financial instability, declining revenues, or significant debt levels may be viewed as higher-risk clients, prompting banks to reevaluate and possibly terminate their banking relationships. Because of huge fines received, some financial institutions prefer to play it safely and exclude a potential risky customer.

Consequences for a treasurer of being “debanked”

Operational Disruption: The sudden loss of banking services can disrupt a corporation's daily (financial) operations, affecting cash management, payroll processing, and payment transactions and suppliers. This can lead to delays, increased costs, and operational inefficiencies and eventually lead to unsatisfied clients.

Access to bank financing (and potentially capital markets): Debanking can hinder a corporation's ability to secure financing and credit facilities. Without a stable banking relationship, accessing loans, lines of credit, and other financial instruments becomes increasingly challenging. A corporate must develop longstanding relationships, trust, business flows and potential for additional businesses to get faith from its banking partners.

Reputational damage: Being debanked can tarnish a corporation's reputation, raising concerns among stakeholders, investors, and partners about the company's financial health and governance practices (if it is an individual decision on one specific customer). In case, a bank decides to stop a business, it may hit several clients (e.g. RBS stopping cash management couple of years ago). In this case, the reputation is not altered.

How to mitigate such a risk is aa key question for treasurers

Diversify banking relationships: Maintaining relationships with multiple banks can reduce the impact of debanking by ensuring that the corporation is not overly reliant on a single financial institution. This provides alternative options in case one bank decides to sever ties. Several banks mean back-up solutions in case of changes. We know how long it may take to be on-boarded by a new bank these days.

Strengthen compliance and governance: Implementing robust compliance and governance frameworks can help demonstrate to banks that the corporation is committed to adhering to regulatory requirements and ethical standards. Regular audits, transparent reporting, and proactive risk management are essential components of this strategy. Obviously, the better the credit rating, the more solid the relationship. A too low rating or sub-investment grade can alter the relationship (and/or increase cost of funding).

Enhance financial stability: Ensuring the corporation's financial health and stability is critical. This can involve prudent financial planning, maintaining healthy cash reserves and buffers, and cautiously managing debt levels (e.g. straight-forward and open-book approach, quality reporting, respect of covenants, …). A strong financial position makes the corporation a more attractive and lower-risk client for banks. The track record is key to consolidate the relationship.

Engage in open communication: Building strong relationships with banking partners through open and transparent communication can help address potential concerns before they escalate. Regular (in person) meetings, updates on business activities and forecasts, and discussions on risk mitigation measures can also foster trust and collaboration. A relationship should be built over time.

Treasurers should more carefully consider this increasing risk

For corporate treasurers, understanding and managing debanking risk is an essential and increasing aspect of their role. By recognizing the factors that contribute to this risk and implementing couple of strategies to mitigate its impact, treasurers can safeguard their organizations' access to crucial banking services, even if we are in a world of shadow banking and competition with new emerging players (e.g. credit card providers, payment institutions, fintech’s, private debt and PP’s…). In an ever-evolving financial landscape, proactive risk management and strong banking relationships are key to ensuring long-term operational and financial stability. The selection of core bank partners and the proper wallet sharing are essential ways to preserve longstanding relationships. A good and profitable customers are seldom kicked-out by a bank. Better to be prepared and to have enough back-ups (without multiplying too many partnerships) to face this growing risk. It should unfortunately intensify further in the coming years.

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Fran?ois Masquelier, CEO of Simply Treasury and Chair of ATEL & EACT – Luxembourg – September 2024.