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Lenders involved in a structured trade finance loan to Brazil’s ailing Banco Santos claim that Brazil’s central bank has ignored its own regulations, throwing into doubt the validity of traditional security structures for pre-export lending.

The central bank intervened at Santos in November last year when Santos failed to raise sufficient funds to make a required deposit to the central bank linked to a series of defaulted loans. Surrounded by allegations of fraud and financial irregularity, the bank faces either liquidation or a negotiated restructuring process with support from its creditors, various Brazilian observers – including Moody’s Investors Service – have said.

For lenders involved in a US$35mn revolving syndicated loan extended to Santos in June 2004, the collapse has thrown a spotlight on the robustness of the Brazilian government’s official export incentive programmes for smaller exporters, in particular the adiantamentos sobre contratos de cambio (ACC) programme, which is governed by central bank circulars 2632 and 2919.

The ACC facility has been drawn upon widely for many years by pre-export lending syndicates to tap into the credit and sovereign risk mitigation inherent in the programme.  Lenders have regularly advanced pre-export credits to Brazilian banks, which on-lend the proceeds to exporting clients under the ACC programme.  Proceeds from export sales are then paid into a dollar-denominated offshore account and are used to repay the loan to the local bank which in turn pays the foreign lenders thereby mitigating the credit risk of the Brazilian bank and several aspects of Brazilian sovereign risk. 

For international banks, what has distinguished the ACC programme thus far is its threat of stiff penalties for borrowing exporting companies which fail to export. This has added a layer of extra security and comfort, and, for the US$35mn loan – arranged by Orix Trade Capital – was believed to have been instrumental in attracting lenders who might otherwise not have participated in unsecured Banco Santos credit risk, or may have participated for smaller amounts (ITF 452/3). 

The structure attracted a diverse group of lenders, some of these new to Banco Santos, increased from an original US$25mn target due to a 40% demand over-subscription. 

Orix was joined by Wachovia Bank and RZB Finance as arrangers, and BayernLB was the lead manager. Other participants were Natexis Banques Populaires, Banco Latinoamericano de Exportaciones, Banco Comercial Portugus and the Export-Import Bank of China.

However the central bank’s actions – as well as its inactions – since its November intervention have apparently left the loan’s providers facing the probable loss of substantial amounts of the funds that they lent in reliance on the enforcement of the loan structure. All the remaining deposits have been frozen, and unsecured euro-notes are trading at less than 50 cents to the dollar, according to one participant.

The head of the central bank’s supervision department, Vanio Cesar Aguiar, was appointed to run Santos – whose assets are valued at about R6.3bn (US$2.48bn) – while a 60-day “inspection “was carried out.

But whereas previous Brazilian central bank interventions have rapidly led to takeovers by other banks, no such interest has been forthcoming for Santos, which analysts have attributed to the lack of any strong retail franchise or deposit base at an institution which is ranked 21st among Brazil’s banks and serves mainly small to medium-sized exporters (SMEs).

Although creditors representing some 70% of Santos “debts have reportedly accepted a restructuring plan proposed by Aguiar that will avoid the liquidation of the bank, many observers are predicting that Santos will be liquidated.

However, what has disappointed the pre-export lending group even more is the central bank’s lack of ACC rule enforcement on the borrowing exporters. “We were convinced that no Brazilian exporter would ever muck around with the central bank, but the central bank has seemed unwilling to enforce its own regulations,” says the loan participant.

“The view from outside the market is that the central bank recognises that many of the borrowing exporters are SMEs, and fears that any financial penalties might bring about insolvency in some cases.  “It is in a difficult position – but rules are rules. All of the lenders in this syndicate were relying on the sanctity of the ACC programme,” he adds.

Banco Santos “lending stance has been an instrumental factor here, he argues. “We learned that Santos was making ACC loans to Brazilian exporters, but on the condition that a portion of the loan, sometimes as much as 100%, had to be re-deposited with Santos. What then happened was that some exporters began shipping only a portion of what was financed, or shipping nothing at all.”

While the US$35mn loan represents only a tiny percentage of the billions of lending dollars that are secured on Brazilian receivables, the central bank should now be leaning on the defaulting exporters for payment, said another lender involved in the syndicate.  “After Argentina went down, there was lots of press about how a variety of well-secured deals continued to be paid.  If the central bank wants to ensure that Brazil’s receivables-based deals continue to flow, this should be dealt with immediately.”