By Geralyn Frances
Canadian company FINCAD helps companies reduce the burdens and risks created by hedge accounting.
Since Enron, companies have dealt with stricter valuation rules for derivatives, including hedge effectiveness and the accounting treatment of financial transactions. Accountability for derivative instruments certainly is not new, but rule modifications and changing standards require practitioners to pay more attention. For the treasury groups still inundated with spreadsheets or otherwise manually calculating hedge relationships, there is a smarter and easier solution.
The web-based FINCAD (FinancialCAD Corporation) product, Hedge Accounting Insight, is one such solution that promises to simplify a company’s hedge accounting and ensure operational continuity. It does so by alleviating the manual effort involved in error-prone spreadsheets and in-house solutions, and replaces them with an easy-to-use, online application. And dependency on consultants’ expertise is also reduced, saving time and money.
Simply put, “spreadsheets are not safe,” said Gurpreet Banwait, director of insight solutions, product management at FINCAD. The amount of data, and the manual maneuvering of it, increases the risk of error, he explains. Additionally, he points out, typically one to two people are managing the spreadsheets so full understanding of the underlying calculations is limited to only a few. This raises continuity concerns and increases operational risk. Reducing complexity as well as freeing up one’s staff’s time can be accomplished with the Hedge Accounting Insight product.
A mix of customers
FINCAD is a 20-year-old Canadian company with offices in Vancouver and Dublin, and with over 4,000 clients worldwide. The company has a mix of customers to which it provides financial analytics. This mix of clients includes domestic companies, audit firms, governments, commodity producers and financial institutions.
FINCAD was already well-known to hardcore users of derivative pricing and analytics such as hedge funds and banks. So when a new tool was needed that would help firms calculate fair value and, later, comply with hedge accounting rules, FINCAD’s answer was the development of a web-based derivatives valuation product.
Mr. Banwait explains that treasurers “are not blazing a trail” in regards to being quick to implement new guidelines from the International Accounting Standards Board or the Financial Accounting Standards Board, the accounting practice watchdogs. Often it is corporate auditors that need to push out the revised guidelines first and hence, the reason why FINCAD is so closely aligned with audit firms in the development and testing of its hedging products.
As such, FINCAD knew that this partnering was the key to keeping up with the ever-changing world of financial regulation and accounting standards. And it has done a good job so far. For example, each of the Big Four is not only its client utilizing its products; they also are key partners in product development. As partners, they have developed white label versions of the Fair Value Insight product, the precursor to Hedge Accounting Insight, years before FINCAD introduced it to the wider market.
Simplify and Save
FINCAD offers two different solutions to assist with the valuation and risk management of portfolios in an automated way by using one of its web-based systems.
The first product released, the aforementioned Fair Value Insight, is a simple and affordable way for organizations to comply with risk regulations, specifically mark-to-market valuations of derivatives positions that do not qualify for hedge accounting treatment.
Applying hedge accounting is optional in some cases, but when undertaken needs to closely managed. The hedge must be tested for effectiveness. This entails documenting the relationship between the two instruments—the hedging instrument and the asset, liability or forecasted transaction—and measuring their response to market value movements. For treasury practitioners engaging in hedge accounting today, this sounds all too painfully familiar. Quarterly evaluations and mandatory reporting, both external and internal, add to the work and using a sound web-based system to help with the process makes sense.
HEDGE ACCOUNTING INSIGHT
FINCAD boasts that Hedge Accounting Insight is one of the easiest to use derivatives valuation and hedge accounting disclosure tools on the market. It’s a software as a service (SaaS) solution that can generate the necessary valuations and hedge accounting documentation to satisfy auditors, regulators and stakeholders. Hedge Accounting Insight also supports the reconciliation, confirmation, data storage and strategies employed in hedge accounting, ensuring operational continuity and understanding by multiple persons within the organization.
One valuable benefit is that clients need only provide their daily trade information. This can be manually entered into the system or, preferably, uploaded from a template. Links can be created to internal systems to achieve straight-through processing. With little to no implementation time for new clients and training provided at the outset, it makes compliance easy for the practitioner.
“With Hedge Accounting Insight, the users find the system is very flexible underneath and they can set their own boundaries,” said Mr. Banwait, which is beneficial from a corporate application perspective. As one customer said, “we get what we want, when we need it, as we need it.”
This particular European client was hedging the interest-rate risk that exists due to the long term funding requirements of its company projects. Consultants added cost and time, and there was previously an additional concern over lack of control and understanding. The company also noted that its spreadsheets were not conducive to retrospective calculations and future scenario testing. Market data was not fed in automatically as in the web-based solution. So it looked to change its process with Hedge Accounting Insight.
FINCAD’s target market for this product is companies that typically do not have enough trading to employ a full-fledged treasury management system. These firms were being underserved by the marketplace and many were using the Fair Value product when they asked the question, How do I do hedge accounting? Beta tested in March of 2011 (the pilot was a New Zealand bank dealing with Asia-Pacific risks), Hedge Accounting Insight was officially released in September 2011.
Standard reports are automatically generated. The standardization does limit the users in terms of customization. However, users can toggle items to be excluded on the reports. Reports were designed with stakeholders in mind, and have been developed with the input of FINCAD’s customers and will meet most auditor requirements. Keeping reports standard has allowed FINCAD to keep product costs low to its clients as compared to its competitors. Costs include a fixed one-year subscription fee and a per-position transaction fee (hedge item and instrument equals two positions).
Full documentation is included to show how information is arrived at and all supporting calculations. The hedge document template is customizable to ensure all corporate auditors’ questions are covered.
Ongoing Challenges
One of the biggest challenges for FINCAD as it pertains to Hedge Accounting Insight is one that all practitioners, banks and corporates alike, face in today’s highly regulated financial world: keeping current with the “reams of regulations facing financial institutions and companies today,” Mr. Banwait said. Most enhancements to its web-based derivative products are client-driven. Particularly, as mentioned, audit firms will bring new ideas and needed changes based on regulatory revisions, both US GAAP and ISB-driven.
As demand for global compliance grows, so too does the need for web-based products such as Hedge Accounting Insight. For instance, FINCAD has seen recent market growth in Latin America, notably Chile (for commodities), India (new hedging accounting standards released) and Asia (particularly in China, no surprise here).
FINCAD’s key competitor is Reval, which also offers a SaaS solution. Reval also last year added treasury management services, which adds some depth. Mr. Banwait said that the difference between his company and Reval is that FINCAD’s focuses on being “implementation light.” So after only a couple hours of training at the start, he said, all users are able to handle the software on their own. In addition, to reduce implementation time, Hedge Accounting Insight focuses on the most common cases where hedge accounting could apply.
According to Ann-Marie Fleming, senior product marketing manager at FINCAD, that focus “is based on our target market which is really organizations that are at or near the bottom end of the Fortune 500 or smaller.”
Web-based derivative solutions make sense for those organizations that are calculating derivative valuations and measuring hedge effectiveness manually. There is too much room for error and too much at stake to not address the operational and financial risk of continuing a manual process. Looking into SaaS solutions to meet one’s compliance needs and improve control over the process, as shown here with FINCAD’s latest product, is a smart move to consider.