LONDON Private equity firms see only limited scope to invest in Europe's under-capitalized banks, as they could run the risk of losing their shirts and face political resistance.
Since the start of the financial crisis, some buyout firms with a sharp focus on financial services have been eyeing deals in Europe's bank sector. Spanish "cajas," or savings banks, and Irish lenders have been among the institutions in their sights.
More recently, Italy has come into focus: Italian firm Clessidra is considering an investment of up to 200 million euros ($272 million) in mutual Banca Popolare di Milano, a source close to the matter said last week.
Rival investor Investindustrial, backed by the Bonomi family, could put in a similar amount, reports have said.
"There are concerns around the macro situation in a number of countries and one needs to be careful when one gets into the market, but if you take the medium term view it's probably not a bad time to invest," said Max Belingheri, a partner at Apax focused on financial services.
Low valuations and the prospect of taking part in market consolidation are definite draws for buyout houses.
But very few investments have come close to fruition because bloated bank balance sheets are difficult and time-consuming to assess, raising the threat of a big black hole for investors.
"You know they are underprovided but you don't know the exact valuation of all the assets. Each small mistake in that assumption basically wipes you clean because the numbers are so huge," a second private equity executive said.
"Assets are hard to value. Even banks and governments can't value them," a third senior private equity executive said.
As a result, firms want to be indemnified if values turn out to be worse than expected. But the banks and authorities standing behind them have been unwilling to offer those guarantees.
Politicians are also concerned they could become unpopular with voters if buyout firms make millions off their nations' banks. In some cases, the state would rather put in more money now than risk a private equity firm being seen to make a fast buck, the third private equity executive said.
For many private equity firms, the complexity of investing in banks is too great, limiting their interest in the sector to services like payments processing, fee-based businesses including asset management, or insurance.
"The subset of private equity firms willing to do balance sheet businesses with that kind of regulatory control is limited. There are those that will look at it, but there are very few who have done it," said Steve Conway, head of Financial Entrepreneurs Group, EMEA, at Citi.
In Britain, Aldermore is the only bank in private equity hands, controlled by mid-market specialist AnaCap.
Firms like Apax APAX.UL, TPG TPG.UL, Carlyle Group CYL.UL and Cerberus CBS.UL are among those interested in the sector, alongside financial services specialist JC Flowers.
Others like Apollo (APO.N), Oaktree OAKCP.UL and Blackstone (BX.N) are potential buyers of portfolios of loans, both good and bad.
Blackstone struck a 1.4 billion pound ($2.2 billion) deal in July to take troubled Royal Bank of Scotland (RBS.L) loans, which was touted as a potential template for more deals. But that deal has hit trouble as funding markets have worsened, sources told Reuters.
Buyout firms have their financial limits, rarely putting more than $1 billion in equity into any one investment to limit risk and create a diversified portfolio.
Convincing investors about a small investment in a large listed institution can be tricky too.
"The minority investment is not what many firms are designed to do... while they have done that from time to time, it has not been received very well," Conway said.
Some do have that flexibility. But most agree that any deal would need to give a 15-20 percent stake and bring governance rights.
That, and the mammoth task of due diligence, limits the potential for investing in Europe's largest banks.
"For most of these institutions, there is only one obvious buyer -- that's the taxpayer," said a second banker. ($1 = 0.733 Euros)
(Reporting by Simon Meads. Editing by Jane Merriman)