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Thoroughbreds Back in Bankers’ Good Graces

By Katheran Wasson

American Pharoah’s 2015 Triple Crown is credited with increasing interest in horse racing.

Ask anyone who lives and breathes horses how things are going these days, and they’ll tell you they feel roughly the same way: cautiously optimistic. Signs of a rebound – or at least, stabilization – since the Great Recession are starting to appear, especially at the high end of the market.

“The foal crop (size) has stabilized, auction numbers have improved considerably, and supply and demand seem to be in equilibrium this year,” said Tim Capps, director of the equine business program at the University of Louisville. “The equine industry in Kentucky definitely took a hit in every way imaginable, but if you look across the board at all breeds and disciplines, it’s stabilized and is starting to show some growth.”

That also includes lending to Thoroughbred breeders and owners.

Thriving in a niche

“PBI Bank has a positive outlook and a positive opinion of the Thoroughbred industry and is looking to grow its equine lending portfolio,” said Peter Costich, who specializes in equine lending for the bank. “As a bank, we are actively lending in the Thoroughbred space.”

That may be surprising to those who remember when in 2010 banks were making headlines for pulling out of the equine business entirely. Collectively, banks were lending the Thoroughbred industry less than half what they had three years earlier.

Ted Berge has been lending money to horse farms for 25 years, the last eight of them at Chase Bank in Lexington. The Kentucky native has seen the industry’s ups and downs firsthand – including the Great Recession.

In 2008-09, lending to the Thoroughbred sector plunged from about $1 billion to less than $400 million. It was painful for banks and breeders alike.

“Banks try to react to growth in industries and opportunities, and unfortunately sometimes the result is they buy high and sell low, so to speak,” Berge said. “Banks got into Thoroughbred lending when times were good, and as the value of horses dropped, it made it tough for people to stay in it.”

As banks left, Chase was among the banks that picked up their clients and actually grew its portfolio “pretty considerably” during those lean years, Berge said.

“One of the advantages of being in the business for a long time is that Chase didn’t drop into the industry when it was super great, so when things dropped, our clients were able to withstand it,” he said.

Chase has remained successful in Thoroughbred lending by ensuring careful client selection, Berge said. The bank looks for operations that are well-managed, have a history of profitability and thoughtful and achievable business plans.

Most of Berge’s clients are established large commercial breeders or stallion farms that have strong reputations and plenty of capital to weather the ups and downs in the market. There are some smaller clients in Chase’s portfolio as well. Some are owner breeders, driven by a desire to accumulate assets – in this case, more valuable horses – than to turn a profit.

“When we underwrite those clients, we look at other sources of repayment,” Berge said, adding that such careful work on the front end has allowed Chase continued success and continued portfolio growth.

“This is a boutique sort of lending. We are the only (geographic) market in Chase Commercial that does this, because we realize how important this is to the local economy. It’s been a good business for us, so they let us continue to do this despite the occasional unique aspects of it.”

Costich, of PBI Bank, has been in equine lending since 2006. He previously worked at Fifth Third Bank until 2015, when he joined PBI.

“Fifth Third definitely contracted its business as the overall industry contracted,” he said. “PBI got into equine lending in 2011 when PNC bought National City and started exiting the equine lending business. PBI started picking up some of those clients.”

National City had been the second largest equine lender.

Costich’s clients today “run the gamut from small mom-and-pop operations to some of the largest horse farms around.” Like Berge, he said PBI’s underwriters carefully consider the underlying financial condition of the operation, its past performance and available collateral. It’s not unlike lending to other types of business, Costich said.

“The overall fundamentals of lending haven’t changed, but since the recession the banking industry is more conservative across the board; that’s not exclusive to equine,” he said. “But the one way that we have an advantage is that it is a relatively small industry, and you do tend to know who all the players are, whether through business or reputation.”

The cycle repeats

This isn’t the first time equine lending has contracted and slowly rebounded in Kentucky, Capps said.

“Back in the ’80s, the Thoroughbred industry was blowing up,” Capps said. “A lot of banks got into equine lending because their existing clients wanted it, but they didn’t do much due diligence.”

At the time, banks were offering 100 percent financing to some folks – no collateral required.

“They knew them and trusted them, but then when the industry went through a downturn, banks realized it wasn’t the best thing to do,” Capps said. “There were several fairly significant defaults, and the banks learned that horseracing is a business like any other. It may be glamorous and cool, but at the end of the day, the client may come back and say, ‘I can’t pay my bill.’ ”

Banks eased back into equine lending in the 1990s and early 2000s, Capps said, and this time around they paid more attention to collateral and appraisals. Just before the recession, banks were lending about half a horse’s appraised value.

But the recession cut demand – people just weren’t buying as many horses, and so they weren’t borrowing as much, either.

“Many banks in the area still have equine lending officers so they can offer that service to their clients,” Capps said. “The difference is that now we don’t see many banks waving a flag and saying, ‘Call us for your next horse loan.’ ”

Other signs of recovery

“It’s been interesting to watch it play out,” Capps said. “The industry has been through cycles over the years – a big boom and then it would settle back – but this is the first time since the 1930s that the recession was driven by the economy at large.”

Capps, a self-proclaimed numbers guy, said economists can point to several statistics to support the Thoroughbred industry’s stabilization in recent years.

The first year of the recession, 2007, started a series of declines in both gross yearling sales and average sales price. The trend continued until 2011, and both figures have been on the upswing since, according to statistics from The Jockey Club. Gross yearling sales in 2015 reached $437 million, still about $100 million shy of pre-recession levels.

Average sales price hit $66,000 in 2015, a full $10,000 more than in 2005, emphasizing faster recovery at the high end of the Thoroughbred market.

Additionally, racing appears to be stabilizing, Capps said. Kentucky saw a gradual decline in the number of Thoroughbred races over the decade that followed the start of the recession. (The lone exception was 2011, which saw a slight uptick.) In 2015, the number of races increased once more to 1,823.

Last year, betting eclipsed $1 billion for the first time since 2006, and nearly 400,000 spectators attended the Kentucky Derby, Kentucky Oaks and the Breeders’ Cup at Keeneland.

And then there’s the foal crop. Since a pre-recession high of 10,514 foals in 2007, Kentucky saw declines for five consecutive years to a low of 7,137. Since 2013, the state’s foal crop has started ticking slightly upward.

Perhaps even more interesting is Kentucky’s share of the national foal crop. Although the number of Kentucky foals declined significantly from 2005 to 2014, in that same time span, Kentucky grew from producing 28.6 percent of the national foal crop to 36.4 percent.

Next in the rankings is Florida, with just over 10 percent.

“It’s an interesting story because macroeconomically, when you look at downturns, the strong end up not only surviving, but gaining market share,” Capps said. “The Thoroughbred industry in Kentucky has tightened up, but at the same time, Kentucky has gained market share nationally in terms of foal crop.”

Other signs are more qualitative. Capps has noticed broader media coverage for horseracing in general – no longer is it limited to trade journals and local publications.

“On the racing side, we’ve seen more public interest in the sport driven by the Triple Crown win,” Capps said. “Major FEI (Fédération Equestre Internationale) events are now covered on TV, which was unheard of four or five years ago.”

In part, Capps attributes this rebound to the fact that Kentucky’s interest in horses never waned. Although many in the industry took a step back, they didn’t call it quits.

“People said, ‘We can’t keep doing this at the same level,’” Capps said. “In a sense, it really mirrored the broader economy – luxury goods are the first to go when things tighten up.”

Kentucky stallions take center stage

Another sign that things are improving: Kentucky’s stallions are leading the pack.

Chauncey Morris, executive director of the Kentucky Thoroughbred Association, said the 248 stallions that stand in Kentucky cover half the broodmares in the United States.

“That means half of the mares in the nation are coming here to Kentucky to be bred, and that is something that has never been that high before,” Morris said. “That’s really quite big, and it tells us that the most profitable place to stand a stallion is here in Kentucky.”

Morris attributes that to this: If money is tighter, but you still want to indulge your horse habit, you’re going to choose the best place to do it. And that’s Kentucky.

“We have the best equine veterinarians in the world right here in Lexington, and everyone from the groom to the farm manager is at the top of their field,” Morris said. “It’s really important for us not to lose sight that this is something we do better than everyone else. The rest of the world looks to Kentucky as that which defines excellence in the sport, and we need to do everything we can to maintain that.” ν

Katheran Wasson is a correspondent for The Lane Report. She can be reached at [email protected].