FINANCE COMPANIES IN SINGAPORE : STRUCTURE AND PROFITABILITY

Abstract

Finance companies sprang to prominence after the Second World War to cater to the growing demand for consumer financing. The enaction of the Finance Companies Act 1967 witnessed the exit from the finance industry, of those finance companies which did not meet the legislative requirements of the Act. This exercise attempts to investigate the structure and profitability of the finance industry for the 13-year period from 1974 to 1991. Heightened competition for loans and deposits both within and without (POSB and commercial banks) the finance industry in the late eighties instigated rapid restructuring which increased its concentration (based on total assets) and reduced the number of firms in it. Important changes in the financial structure were also observed. The robust loan demand, partly attributable to the 1979 economic restructuring policy pursued by the Singapore government, fuelled the growth of total assets (a large proportion of which is loans) and total liabilities (mainly fixed deposits) in the early eighties. As expected, this spectacular growth in loans / deposits is accompanied by an impressive performance of the industry. A comparative study of the annual average growth of total assets and deposits revealed that the finance industry's performance even superceded that of the commercial banks and the financial sector as a whole. The profitability then took a tum as its loans / deposits declined tremendously during the severe 1985 recession. Despite the economic recovery after the recession, the industry registered significantly lower growth and profitability than in the pre-recessionary period. The encroachment of the commercial banks into the traditional areas of financing of the finance firms led to an erosion of the latter's share of loans (particularly housing loans) and deposits. The stiff competition also resulted in a narrower interest margin. In view of that, those finance companies which have the required resources and expertise diversified into the new areas of trade and industrial financing. Others channelled considerable resources to the financing of SMEs (Small and Medium-sized Enterprises). The firms in the industry have been grouped by type (bank-affiliated or independent) and size (large or small). Important structural and profitability differences exist between the bank-affiliated and independent firms on one hand, and large and small firms on the other. Although the number of bank-affiliated firms has been rather close to that of independent firms throughout the period, the asset / liability growth of the former group is generally higher, particularly in the late eighties. This is because they were more active in effecting mergers and takeovers. With regards to profitability, no clear conclusions about the comparative performance of the two groups can be reached; the profitability of the bank-related group is higher based on the measure of return on average total net worth. If the other profitability measure, return on average total assets were used instead, the reverse is true ! By supplementing the profitability study with some structural characteristics of the two groups, it becomes plausible that higher profitability accrued to the bank-affiliated firms. Large firms were obviously superior to the small ones in terms of quantity and growth of assets, liabilities and net worth. Predictably, their profitability was also generally higher except during the recession. Due to a larger decline in the post-recessionary profitability, the disparity between the profitability of the different-sized firms narrowed during that period. Differences in the structure, management and the economies of scale enjoyed by the large firms are attributable to the superior performance of the large firms. The weight of each of these factors is however indeterminate, but the degree of economies of scale in the finance industry is speculated to be small. This is affirmed by the coexistence of small finance firms in the industry. Based on the comparative study of the finance companies and commercial banks, the future outlook of the finance industry seems rather bleak. However, the larger and more efficient firms emerging from the consolidation process which is envisaged to continue, should be better placed to capitalise on their existing niches and to identify new ones. Finance companies should continue to deepen the comparative advantage in small-scale financing (to individual, small businesses and SMEs) they presently enjoy. To meet the challenges in the 1990s, efforts in the areas of product and service development and marketing, human resource development md computerisation must not slacken. To the extent that the fewer but larger firms in the industry are able to compete effectively in the increasingly competitive environment, the finance companies will not be phased out in the near future. They must however contend with a lower profitability than in the "golden years" of the early 1980s.