Treasurers face several growing risks, while more practical issues continue to fill their days.
The T30-3 met in November at MUFG’s San Francisco office to discuss major risks unfolding in both the cyber and real worlds. Members were especially interested in exchanging information about a range of practical issues.
1) Treasury Vulnerabilities to Cyber Threats and Mitigating That Risk. Cyber-attacks are only becoming more sophisticated, often supported by rival state governments. Companies must demonstrate they recognize the threat, from IT up to the C-suite and board level, and even then insurance coverage won’t be cheap.
2) M&A Playbook – Get Ready for a Busy Season. Financial markets such as high-yield bonds have been volatile, so companies are opting for financing structures that provide more flexibility than traditional bridge-to-bond loans.
3) When Cash Was King. Keep a close eye on your banks: some no longer want your deposits, and others are exiting even traditional businesses such as syndicated loans.
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M&A Playbook, and Financing Alternatives
Takeover deal announcements are on pace to reach $4.58 trillion this year, which would eclipse the $4.29 trillion notched in 2007, according to Dealogic. Robert Smock, MUFG’s head of corporate advisory, led the session and was joined by other MUFG bankers, including Kevin Cronin, Head of US Wholesale Banking.
- Status of T30-3 members. More than half of members are seeking acquisitions, while 50 percent had recently acquired other companies. A fifth are under pressure from investors to make a strategic move; one member is being acquired.
- M&A blow out. Fewer M&A deals this year than last but they will be significantly larger, and volume will almost certainly surpass the 2007 record. Up until six months ago, however, acquirers’ stock prices popped 4 percent on average—no longer. Because of high market valuations—15 to 18 times EBITDA—LBO sponsors have been sidelined by strategic buyers. The M&A volume is pressuring bank lending capacity, so expect aggressive bank solicitations to sell ancillary products.
- Will it never end? Activist investors are pressuring larger and larger companies, with GE and American Express as just a couple of examples. Their strategies in Q3, however, underperformed the broader hedge fund indices as well as the S&P 500, and trends tend to end when strategies stop working. No such demise is in sight for corporate inversions.
Investor pressure to pursue M&A isn’t going away anytime soon. Recent deals, including those by Avago and Computer Sciences, have opted for term loan B institutional loans rather than bridge-to-bond financings, because of the additional flexibility they provide.
Assessing Treasury Vulnerabilities to Cybersecurity Threats
Cybersecurity has quickly risen to be a top concern of multinational companies and their treasury departments, in light of the numerous breaches of major corporates and banks over the last two years. Presentations by representatives from the FBI, NICE Actimize, AON Risk Solutions, and T30-3 host MUFG addressed the cybersecurity vulnerabilities that treasury faces concerning the systems, data, networks and interfaces in its purview, and the non-tech ways that cybercriminals will seek to influence illegitimate transactions. It also addressed the latest risk-mitigation methods and available insurance coverage.
Key Takeaways
1) Who to call. When companies suspect a cyber-intruder, they can call the FBI, Department of Homeland Security, Treasury, among other crime-focused government agencies, since they all work together, said Jamil Hassani, special agent at the FBI. He added that agents will scan the company’s network, locate any malware, and explain how to clean it up and bolster defenses. One member recalled forwarding a fake wire-transfer request from his CEO to the FBI and being very disappointed by the response. Mr. Hassani said certain FBI offices are not all up to snuff, particularly those in New Orleans and Las Vegas, and the correct approach would have been to look at the actual domain and find out if the government already has a case on it.
2) Botnets and the new normal. The new normal is scary, and not just because of botnet attacks, which gather credentials to sell on the “dark” web and may also screen-scrape to collect additional information while they’re in an account. Mary Anne Miller from NICE Actimize, which provides platform solutions to combat cyber-threats, also pointed to automated scripted fraud attacks, in which the malware aims to create an account and wire money. She said solutions now are focusing on convergence, bringing previously siloed data together to detect breaches at an early stage and make decisions such as stepped-up authentication or delaying a payment. Progress sometimes helps the cyber- criminals, however. Ms. Miller noted that Singapore, Australia and the UK are all implementing new payment systems that are much faster. That benefits corporates but also the hackers. “Crooks love speed; once the money moves, it’s gone,” she said.
3) The social media curse. Ken Palla, who manages online security for MUFG’s retail and commercial customers, said “social engineering” has become even more important than the malware itself. Social engineering refers to the highly sophisticated ruses cybercriminals create—gleaning personal details about them from social media—to manipulate employees into releasing malicious software into the company’s network. “Spear-phishing” emails directed at specific individuals are better known, but watch out for “drive-by websites,” in which fraudsters have injected malware that is released when the website is accessed. MUFG has alerted clients about suspicious-looking transactions appearing to be requested by a senior executive, but the companies’ executives are so convinced the email is legitimate that they brush off the warning. “Invariably over the next day or two they’ll call us and ask us to try to retrieve the funds,” Mr. Palla said.
4) Protective measures. Even IT people at times fall for malware. One treasurer attendee asked whether restricting administrative access to just a few people in IT—his company’s approach—stops malware from being downloaded onto the network. He added that even most of his IT staff don’t have admin access to their own machines and require a one-time admin code that expires within 24 hours to install software. Mr. Hassani at the FBI responded, “That’s fantastic.” One member said his firm’s cyber committee comprises top executives including the CEO, CFO, and treasurer, and it’s chaired by the head of audit. Most others mentioned cyber committees at the board level and said cybersecurity was still very much controlled by IT.
Outlook
Corporate losses, especially among Fortune 1000 companies, keep growing and insurers’ cyber policies simply aren’t profitable, so rates are skyrocketing. Cybersecurity responsibilities at most companies are just starting to expand outside of IT to legal, treasury and other departments.
When Cash was King
Banks are discouraging deposits and treasurers must find ways to optimize their investment returns. In this roundtable session, members discussed how they are managing this challenge and what alternatives they are using or considering in lieu of traditional bank deposits.
- JPM’s deposit aversion. Members noted that J.P. Morgan (JPM) was especially aggressive in its efforts to reduce corporate deposits. One peer-group member said JPM asked the company to reduce its cash held at the bank, but “we managed to improve the rate on our sweep and the remainder of the cash deposits to compensate for that.” He added, “I wasn’t worried, because there are still many banks out there willing to take that cash and give sufficient yield, including MUFG.” Other members reported little pressure to reduce deposits from Citibank and Bank of America.
- Corporate investment trends. MUFG foresees corporates shifting away from the deposit products in vogue over the last years to internally and externally managed portfolios as the Fed raises rates. A trend accelerating in the last few months is companies having an asset management firm buy their debt in the open market.
Banks’ product mixes are shifting as new regulations, especially Basel III’s capital requirements for short-term assets, become effective. The syndicated loan market, nevertheless, favors borrowers, and several corporates have extended terms and reduced fees.
Member Showcase – Dynamic Supply-Chain Finance
The treasurer of a member manufacturer gave a detailed description of the company’s “dynamic discounting” supply-chain finance (SCF) program, including insights gained so far and the savings it has realized.
Key Takeaways
1) SCF Programs are still not common. Most NeuGroup peers, 65 percent, reported not having a SCF program, with 18 percent saying they did through a bank, 6 percent through a nonbank provider, and 12 percent saying they are planning to implement one in the next 12 months. Skepticism remains; one member has researched and elected not to implement such a program for three years in a row; another found its supplier base was inappropriate and stopped its program after six months.
2) Auctioning supply contracts. The manufacturer, running its program on C2FO’s platform, sponsors a daily auction of its invoices, setting a minimum discount translated into an annual percentage rate (APR) for paying early, and its desired APR. Suppliers learn nothing about other bidders. The process is risk-free for the buyer, because it plans to pay either way—the issue is when. By paying early, it can take advantage of the arbitrage between its cost of credit and the suppliers.’
3) The weaker the better. The lowest bid gets a green light, the others a red light and the option to bid in the future. The process works best when suppliers have lower credit ratings or none at all, and so a higher cost of funds. If the final APR is lower than the supplier’s cost of funds, it wins; the manufacturer is borrowing funds to pay early, so if its cost of funds is lower than the final, it also wins, bumping up its EBITDA.
4) Gaming the bank programs. A concern about bank SCF programs that gives the manufacturer’s treasurer “heartburn” is that the bank buys the receivables at a fixed discount that is translated into an APR. After taking its cut, the bank gives the buyer additional days to pay, equivalent to the difference between the APR and the buyer’s cost of funds. The supplier is getting paid early at a lower cost of funds than normal, but the discount is fixed and it knows how much is taken out by the bank each time. “Purchasing people are afraid suppliers will ultimately price that back in,” he said.
Outlook
Members noted later in the meeting that they were intrigued by the presentation, but corporates still appear to have a ways to go before becoming comfortable with dynamic discounting.
Moving to a new town and BEPS blues.
Document existing processes and know where that documentation is — That was the general advice T30-3 members gave to the treasurer of a company that is moving its headquarters across country, requiring it to replace 70 percent of its treasury staff. NeuGroup Senior Director Bryan Richardson noted eBay’s split, in which it thoroughly documented its processes, then provided that documentation to the new organizations which were keeping the same systems. Another member advised structuring the documentation, prioritizing areas with the most risk exposure. “Make sure you get your transitions mapped out,” he said.
China – Old Normal vs. New Normal
With the recent turmoil in the currency markets as a result of China’s unexpected devaluation and government interventions in its financial markets, many are left wondering if this is the first of many distress signals from Beijing or was it a “one-and-done” move? In contact with many of the movers and shakers, Cliff Tan, MUFG’s head of east Asian global markets research, provided the group with insight—much of it gloomy—about China’s economic prospects over the next several years, as well as factors impacting MNCs doing business there.
Key Takeaways
1) The plague of overcapacity. China’s growth is slowing faster than officially recognized—MUFG anticipates 6.5 percent growth this year compared to the government’s official projection of 7 percent. The most important factor is production overcapacity. The good news is that it is concentrated in a handful of industries, including steel, aluminum, ship building and coal; the bad news: China has done little to reduce capacity there. One state-owned coal company employing 700,000 people was still increasing capacity on borrowed money in 2013. “It is a train wreck that has to happen sooner or later,” Tan said.
2) No quick turnarounds in sight. Unsurprisingly, asset investment—mostly in infrastructure—has dramatically slowed, to 10.3 percent this year compared to 15.7 percent last year and more than 25 percent four years ago. Some slowdown has been deliberate, as China seeks to shift to a consumer-led economy, but no longer. Like much of Wall Street, Mr. Tan said, “we’ve been telling clients China is going to reflate later this year, but we’ve changed our view,” adding that troublesome debt has reached a point where “the banking system is starting to malfunction.”
3) Revolt of the banks. Overcapacity has resulted in many state-owned companies’ debt running into problems, resulting in the Chinese financial system serving local governments nearly breaking down recently when the central government sought to swap banks’ bad debt for bonds paying a lower coupon. “There must have been something wrong with these projects, so the banks have been asked to take on this risk without being properly compensated,” and the banks resisted, Mr. Tan said.
4) Restructure or bust. Mr. Tan noted that China’s collateralized lending and mortgage lending markets are healthier, but the larger financial system may suffer in another 12 to 18 months unless China restructures bad debt. “All the government has done is to refinance this debt; the notion of restructuring has never come up,” Mr. Tan said
5) Capital flight continues. Several indicators point to Chinese capital continuing to flow offshore, and MUFG doesn’t see that halting until domestic expectations about the economy are stabilized—unlikely to be soon. MNCs have been cautious but don’t feel the safety of their funds is at risk, so their capital flight is unlikely, Mr. Tan said.
Conclusion
The presentations on China and cybersecurity clearly hit home. “Cybersecurity still scares the crap out of me,” noted one member. And given the economic importance of China, it was clear why members were intrigued by Cliff Tan’s mixture of political, financial and economic insight into the country’s future. Peer group participants relished the “lots of little tidbits to take away,” ranging from a presentation about dynamic supply-chain finance, to offline conversations about Australian dollar funding, to advice on managing bank accounts and relocating staff across country.