Ben Aris in Moscow -

Marek Forysiak is no stranger to consumer finance. He was a pioneer in Poland running AIG's consumer operation, where he met the young Russian Roustam Tariko, who was then thinking of founding a consumer bank - Russky Standart.

Forysiak spent six months trying to persuade Tariko to do a deal with AIG, without success. However, within two years Forysiak had followed Tariko back to Moscow to head up Commercial Bank Renaissance Capital LLC - branded as Renaissance Credit - a retail and consumer credit bank that is a subsidiary of the better known investment bank Renaissance Capital.

After Tariko blazed the trail of consumer finance in Russia with the hugely successful Russky Standart in 2001, it only took the CEO of the Renaissance Capital Group, Stephen Jennings, about a year and half to buy a bank and go into the same game. Renaissance Credit was launched in May 2003 when Russky Standart was the only game in town.

Jennings bought Kaznachey Bank, a small bank, in December of the same year and brought Forysiak in to run it. Since then, the group has spent heavily to create an international standard consumer loans business that has quadrupled in size in just the last year. (There is also a sister bank in Ukraine, which is still being set up). After making its first loan in 2004, the loan portfolio quickly grew to $500m at the end of 2006 and is on course to end this year with a loan book worth $2bn.

The model is straightforward: "transparent and simple - wholesale-funded lending to private individuals and no other banking business," the group says of the bank.

High margins, not-so-high profits

Consumer lenders in Russia have come in for a certain amount of flak recently. While the headline rates are in the mid-20s to 30s, the real effective rates that punters actually have to pay can be more than 100% once all the hidden charges are tallied up. Indeed, the practise of tucking a few extra charges in has become so widespread that the Central Bank of Russia (CBR) ordered all lenders to reveal their true cost of borrowing earlier this year, worried that too many average Russians would borrow too much and get into trouble.

Russky Standart was one of the first banks to be visited by CBR inspectors, which eventually gave it a clean bill of health - although Tariko "voluntarily" ended some of the hidden charges at the same time. However, Forysiak argues that the interest rates are not excessive, as all these banks are in start-up mode and are investing heavily in things like IT and people, which eats into the high margins.

"This isn't an easy business which just prints money," says Forysiak. "We are working in a high-margin market, but that doesn't necessarily mean it is also a high-profit business. As it's also a high-risk market - one needs to build a very sophisticated infrastructure to do this type of consumer finance business, which makes it also very expensive to operate. As a result, our margins are not that dissimilar to margins in the more developed markets in western Europe."

Forysiak says that even though the bank is about to quadruple its loan portfolio, over the first six months of this year Renaissance Credit has made no profits at all.

Part of the problem is that by law the bank has to make provisions for all the loans it extends upfront. What this means in effect is that fast-growing banks end up squirreling vast amounts of money away to cover potential bad debts. It is only once the growth slows and your loan portfolio stays more or less the same size that you can actually tap your profits instead of using them to cover your prudential obligations.

"From an accounting point of view, [provisions] have a big impact on results. The revenues [from the loans] come in over three years, but the provisions must be made upfront. As a result it has a negative impact on your profit and losses. Looking at it longer term, the acquisition of new assets creates a lot of value," says Forysiak.

Room to grow

Despite the hype surrounding the consumer credit business, there is still a lot of room left to grow as Russians are not very indebted: the volume of consumer loans in Russia is equivalent of 7% of GDP compared with 25% in the Czech Republic, 45% in Spain and 115% in Germany.

While the business model is simple, the implementation of a retail loans strategy is actually fairly complex. The main problem these banks face is how do you know that you will get your money back?

Offering people express credits means you can know very little about them. At the same time, criminal groups have been actively targeting the consumer creditors. The main tool that banks use to judge if a consumer is not a crook or at least creditworthy, is scoring systems. Russky Standart bought a scoring system from banks in Central Europe and has adapted them to Russia. Renaissance Credit has done it the expensive way by building its own scoring system from scratch. It's a trade-off: although building your own system is a lot more expensive, it will also be much better at selecting good customers and so the bank will lose less to bad debt and fraud.

"Russians are very responsible borrowers, but you need to be able to distinguish between good and bad customers," says Forysiak. "But good or bad is not distinguished on the basis of payment behaviour, but based on fraud. Fraud is committed every day. The most common form of fraud is ID fraud, so therefore ID fraud tools are critical."

Judging from what Forysiak says, the problem is a tricky one, but there are few statistics available on just how bad the problem is. Most banks look for red flags that emerge in the statistics: too many people with the same age applying for loans; lots of people using the same address; consumers that have travelled a long way from their registered address to apply for a loan; and so on.

One of the big advantages the fraudsters have is that consumer crediting is still so new. In the West, the problem with fraud is much less pronounced, partly because getting a fake identity is so much harder to do, but mainly because credit bureaus are so widespread and so complete - nearly everyone in the West has some sort of loan and so their details are on record. Russia is still in the process of setting up credit bureaus and the leaders in the sector with the best and most complete information are understandably very reluctant to share this information with their rivals. This means the market leaders have a natural advantage: someone like Russky Standart has made between 20m and 30m loans, building up a massive database of reliable clients and so can afford to be more fussy about who they lend to. The later entries into the market are much more vulnerable, partly because they are also exactly the banks that the fraudsters target.

Renaissance Credit is already moving out of the start-up phase into what Forysiak calls the "significant volumes" stage of growth. Although the bank only has a 1-2% market share, this still makes it the fourth-biggest consumer lender amongst the dedicated companies and as it gets bigger, the problems with things like fraud will naturally diminish. The plan is to take a 10% market share by 2010.

The key to maintaining this sort of growth levels will be raising enough funding to fuel the expanding loan portfolio. But despite the recent brouhaha on the international credit markets, investors have not left the market; they have just got more fussy about who they lend to.

Renaissance Credit issued a $350m Eurobond in June as part of $1.5bn funding programme running over three years. The bond was well oversubscribed so the bank upped the amount to $420m just before the worst of the international collywobbles hit and is now well funded until next year. Forysiak has no fears about raising more money next year.

"All investors continuously assess return versus risk and we are already seeing a flight to quality," says Forysiak. "The sub-prime market and high-yield markets are practically speaking closed in the US, so the emerging markets are currently the only markets offering attractive opportunities and returns. This is the result of a growing economy, rising incomes and an underleveraged population, whereas in the US you have the almost exact opposite."

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