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Corporate Bonds

Adding financial steel to Italy’s economic backbone

Italy’s large companies had a bumper 2017 in the bond markets but they are well known names with investment grade ratings. What about the backbone of the Italian economy — how are the SMEs that form the supply chains of larger companies finding finance as the country emerges from its long economic winter and seeks out stable growth? By Nigel Owen.

Small and medium sized companies make up 99.9% of the businesses in Italy and employ 79.6% of the workforce — way above the European average of 66.9%. These businesses drive the Italian economy, and for years have dictated whether the country is booming or in decline.

Medium sized Italian companies are world leaders in several areas. “The US has Silicon Valley, we have Food Valley!” exclaims Alessandro Marchesini, senior banker at Crédit Agricole in Milan. The area northwest of Bologna has been famous for producing prosciutto, parmesan cheese and tortellini pasta for centuries. However, it is the businesses that have grown up around these traditional industries that highlight how the SME sector in Italy can flourish.

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Alongside Food Valley, Packaging Valley has grown. “Ima is a world leader in specialist packaging,” says Marchesini. “But there are lots of other smaller companies contributing to Ima’s success and creating their own. And Italy is not just about food. It is a high tech country, with companies like Leonardo [formerly Finmeccanica].”

However, the picture has not always been so bright. The credit crisis killed off a lot of small companies, and although Italy was not alone in this respect, the effect was felt especially deeply, because of the very high share of SMEs in the economy. 

Finding funding solutions for these companies, therefore, is even more critical than in other countries.

Banks on the case

Italians often blame the banks for shutting down lending to SMEs after the crisis, and being very slow to re-open the taps. Accurate data are hard to come by, but the weakness of Italy’s banking system, which has become apparent only in the later post-crisis period, cannot have helped.

“After the crisis, banking became more selective and smaller companies suffered the cost from banks,” admits Marchesini at Crédit Agricole.

But the banks insist they have gone a long way to cleaning up their balance sheets and are proactively trying to stimulate SME financing. “Banks like Crédit Agricole are helping these companies now,” Marchesini says. “These companies can now get what they need in terms of financing.”

UniCredit has set up a dedicated platform to integrate its traditional banking offer for SMEs with a wider range of investment banking products, including M&A, capital markets, and financial risk and liquidity management. “One year in, there has been a notable pick-up in dealflow across all products, with client relationships deepening,” says Luca Milanesi, head of the bank’s platform in Italy. 

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Crédit Agricole Group helped finance the acquisition of Pioneer Investments by the bank’s affiliate Amundi in 2016. It has bought three regional banks that were in default and, via Indosuez Wealth Management, took a majority stake in the private bank Banca Leonardo in 2017. 

“This has allowed the group to provide an additional €1bn of funding to SMEs in 2017, on top of the €10bn of funding already in place,” says Marchesini. “In the last couple of years the EIB has provided significant funding in Italy, but it is more linked to local communities. Crédit Agricole has made a concerted effort to finance small and mid-caps that are not known internationally, but which could, with the right financing, become the champions of the future.”

Marchesini argues that the appetite of banks is strong. “They could be more aggressive, but, due to regulation, they are being held back,” he says. “To avoid losses, the regulators are putting in place regulation that is not good for the SMEs.”

Giulio Baratta, head of investment grade finance and investment grade bonds at BNP Paribas in London, agrees that SMEs have enough access to funding, but warns that they need to plan ahead, for the next crisis or further volatility.

“They have had enough access and have enough access today,” he argues. “The problem has been a willingness to gain further access when conditions are good. Rather than relying on vanilla loan funding, they need to look at further diversifying their sources of funding, and not only seeking those forms of finance when traditional sources are not available.”

New instruments for change

Securitization is one area seen as having a role to play in financing Italian SMEs.

Companies that cannot take on any more debt, due to the cost historically, and banking regulations in more recent times, have to look at other options, including optimising working capital. For companies with weaker credit profiles, factoring and securitizing receivables are two ways of doing this.

“Securitization is a fantastic way to support the economy,” says Marchesini. “It is a really useful product to improve the financial profile of corporates.”

Once companies have started to improve their credit strength, one way for them to approach the capital markets is through private placements. The smaller size of these deals suits midcaps well.

“For midcaps we believe the right balance of funding is roughly 50-50 between bank debt and capital markets,” says Marchesini. “Within that, it could be a mix of short term borrowing, bank debt and private placements, with clips of between €20m and €50m.”

Baratta also sees private placements as a key step for SMEs: “Investors need to see continued use of funding channels other than bank borrowing. In the last couple of years we have seen many types of lenders and investors being open to investing in Italian companies. It has just been about measuring the value of the investment.”

Milanesi also highlights the mini-bond market. “In Italy, an important moment for SMEs was the arrival of so-called ‘mini-bonds’, which allowed unlisted SMEs to issue debt even for a few million euros and to trade it on the ExtraMot Pro platform,” he says.

Baratta believes the improving legal framework will help make private placement funding easier for SMEs. “Finally, in the last 12-24 months, we can say that the legal framework is no longer a barrier to entry for investors in unlisted companies,” he argues. 

Milanesi also points to local initiatives. “There has been an attempt to rebuild the positive connection between finance and the real economy through the Individual Savings Plans,” he says. “These offer tax incentives and enable people to save by investing in Italian SMEs. Stakeholders such as Borsa Italiana have addressed this issue by establishing the ExtraMot Pro segment dedicated to SMEs for the listing of bonds, commercial paper and project bonds.”

The Individual Savings Plans, called locally Piani Individuali di Risparmio (PIR), were introduced in December 2016. At least 70% of the invested amount must go to businesses which have a considerable stake in Italy and 30% to securities issued by companies not listed on the FTSE MIB. These investments are exempt from capital gains tax and inheritance tax if held for at least five years. In the PIR’s first year of operation more than €7.5bn was invested in the plans.

“We could even argue there has never been a scarcity of money,” concludes Baratta. “It has been based on the quality of midcap companies. Investors have money to invest in companies seen as solid credits.”

Importing investment

A willingness to develop and maintain new financial relationships beyond national borders has been another barrier to SME financing historically, but this is starting to change. “This makes sense,” says Baratta. “Italian SMEs are, by their nature, very international-looking because they tend to be exporters.”

With the financing tools being offered to them, and the optimism around the Italian economy, to which they contribute so much, Italian SMEs may never have been better placed to achieve sustainable growth and produce the next Ima or Finmeccanica.

And for investors who feel they might have missed the best of the Italian investment opportunities, scratching below the surface could open up a world of untapped prospects. Italian SMEs are alive and well, and keen to succeed.   

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