The NeuGroup and Standard Chartered Bank recently partnered to offer a series of one-day roundtable sessions to discuss topics most relevant to RMB internationalization and solutions for your RMB needs. The final stop was Menlo Park.
The Path to Bolder RMB Implementation Roundtable Series wrapped up its US tour with a final stop in Menlo Park on March 5, 2015. As was the case with our two previous stops in Chicago and New York, many meeting attendees were from companies who have been in China for 20-plus years. We also had one company who is brand new to the Chinese market with plans to launch their business there very soon. These treasurers and senior finance professionals have appreciated the timeliness of the RMB discussions and have walked away with a better understanding of what’s possible in China as they continue to refine their global liquidity management strategies and roll RMB into their global planning.
To Boldly go
The recurring theme of “Be Bold, but Cautious” played out again in Menlo Park as we heard from Tina Kobetsky, Corporate Treasurer at VMware, on her company’s successful project to redenominate all trade activity to RMB, starting first with sales contracts in 2013 and moving to intercompany invoices in 2014 and then on to sales contracts thereafter. VMware has now completed its first full year of invoicing and receiving payments in CNH/CNY (offshore and onshore RMB respectively) and it has experienced smooth invoicing, efficient revenue recognition and payment remittance with no major collection issues.
We hear many MNCs comment that “we settle in USD, so there’s no exposure for us in China.” This may not really be the case, since most Chinese companies that are accepting USD as a form of payment have already built a currency component into the contract. By changing the USD invoice to an RMB invoice, MNCs have the immediate ability to more closely monitor and manage the currency exposure. Based on Tina’s presentation, by changing their in-country price list to RMB they were able to compete more effectively in China.
The RMB is the future. Set yourself up to win by redenominating your trade now. You can take it slow and test transactions along the way, but you are strongly encouraged to begin as soon as possible.
— Tina Kobetsky, Corporate Treasurer, VMWare
“This is the future,” Tina said. “Set yourself up to win by redenominating your trade now. You can take it slow and test transactions along the way, but you are strongly encouraged to begin as soon as possible.” She also warned about the risks of waiting. While you may not see Chinese companies clamoring now to switch to being invoiced in RMB, this could change quickly if the government acts (most likely via state-owned enterprises) to push up RMB usage statistics, in your sector or just in general.
“Treasury needs to be proactive and ready so that when your sales team calls and wants to invoice locally to support a bigger book of business in China, you are ready. It is a project that takes months to implement and takes a cross-functional team of IT, Accounting, Treasury, Tax, and Sales support to get it right.”
china Macro outlook
As part of our session on economic and market updates, Becky Liu, Director and Senior Rates Strategies-Hong Kong, from Standard Chartered Bank walked the group through a summary of the macroeconomic outlook for China with growth projects expected to be around 7 percent for the near term. She explained the new interest-rate framework being used in China whereby the regulators are working to establish a new policy framework, launch a deposit insurance scheme, launch a CD program, raise the cap on benchmark deposit rates and remove the current cap on long-dated retail term deposits.
China’s future policy framework is likely to create a short-term interest rate corridor that sets the upper and lower band of secondary short-term money market rates, along with a medium-term rate guidance that will give investors an indicative view of appropriate rates. Roundtable attendee comments suggested that all of these moves are very positive for them as it will make the local onshore deposit market more competitive for the cash balances that must remain in-country.
Becky also emphasized to the group that foreign holdings of the onshore RMB assets exceeded CNY 4.5tn as of December 2014, with the majority of those holdings in deposits at CNY 2.4tn, or 54 percent of the total. Loans account for 18 percent at 819bn, bonds make up 15 percent of the market at 672bn and equities account for 13 percent of the overall total at 556bn. In comparison, the CNY 4.5tn is equivalent to 40 percent of the Canadian bond market and 70 percent of the Australian bond market. These statistics confirm the rapidly growing cash levels by foreigners onshore in China.
More than One Way to Use RMB
With the continuation of the RMB internationalization, there are more ways RMB can be used outside of China. Based on a presentation by Standard Chartered Bank, here are several alternatives to consider. See chart below.
As was the case in the New York roundtable session, attendees were encouraged to learn of the significant expansion of the Free Trade Zones with the launch of three additional zones in Fujian, Guangdong and Tianjin, along with the expansion of the exiting Shanghai Free Trade Zone.
This expansion more than quadruples the original size and allows for much more integration of the pilot reforms first introduced in Shanghai. Many US MNCs are doing business in multiple regions and with the rollout of these new Free Trade Zones, they can now take advantage of the liberalization guidelines across more of the Chinese business.
clearly an issue
Based on a presentation from Caroline Owen, Regional Head of RMB Solutions, Americas for Standard Chartered Bank, titled “All You Need to Know About RMB Internationalization,” the very obvious absence of the US from the global map of clearing banks is seen as a political move and does not have an impact on the globalization of the RMB. “US MNCs are encouraged to get on board with these changes even if the US decides not to act as a clearing bank. Europe and Asia have plenty of options for clearing banks for US MNCs to effectively manage their global trades,” said Caroline. There are currently 15 global clearing banks with 10 more expected during 2015.
US MNCs’ legal and tax structures are very important when establishing the movement of funds in a cross-border cash pool. Subpart F rules become very important and understanding the proper structure is critical so as to not kick off any 956 deemed dividend tax issues. Members discussed the importance of “getting it right” and agreed that once the structure was approved by internal tax and legal departments, it was then critical to review the structure with the People’s Bank of China (PBOC) to ensure its understanding and agreement prior to the kick-off of any flow of funds.
As a result of the day’s updates many roundtable attendees agreed that a cross-border lending program in China should be considered a part of the basic foundation for future liquidity enhancements. It was also something several said they will move up their treasury priority list. There are a few strategies to pick from depending on the needs of the business. The one-way program is a great way to use trapped cash by lending it offshore to an entity that needs cash. The two-way program allows Chinese entities to borrow funds from offshore for working capital purposes without affecting the foreign debt quota.
A major component of any cross-border pooling or lending program is the transfer-pricing policy that defines interest rates and other payment details to ensure the structure is treated as ”arm’s-length.” Roundtable attendees were very engaged in this discussion as it is a critical first step toward the setup of any type of liquidity structure.
Transfer-Pricing Considerations
Based on a presentation by PwC as part of the session titled “Tax Implications of RMB Cross-Border Payments,” there are several important transfer pricing considerations for cash pooling arrangements that include tax optimization, complete documentation, and rate consideration, participant benefits and pool-leader benefits. It is important to take the time to address each of these components to be sure you get things set up correctly. Mistakes or omissions in any of these areas can cause headaches down the road.
keep an eye on thin cap rule
Based on group discussions in a part of the session, “Tax Implications of RMB Cross-Border Payments,” Larry Weinblatt, Senior Managing Director-International Bank Tax Practice at PwC, advised attendees that when setting the interest rate on cross-border loans they needed to observe China’s thin cap rule of 2:1; however, if they exceeded that ratio, they would need to justify a rate as one associated with a longer-term maturity. Attendees were encouraged to speak to their tax departments to get further guidance on setting cross-border lending rates. Caroline from Standard Chartered summed it up this way. “Think about trapped cash in China. Be aware of the potential tax friction on cross-boarder arrangements and determine the best use of the cash offset against the risk of potential tax and balance those two objectives.”
In wrapping up our day, attendees agreed that although there are complexities in setting up any new cross border program, it is important to keep the RMB at the top of their priority list so that they take advantage of the changing regulations and set the stage for more efficient liquidity management for the RMB activity.
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