Cash is the focus for treasurers of MNCs in Europe. Visibility, mobilization and optimization the key themes.
When members of The NeuGroup’s European Treasurers’ Peer Group met in November of 2014, the underlying theme of their projects was cash: visibility, mobilization and optimization. Key goals included centralized control of all cash movements via initiatives like pay- and receive-on-behalf-of. Further highlights from the meeting included:
1) Eliminating obstacles by streamlining bank connectivity. Reval’s Dan Beames gave an overview of bank connectivity options to enable better cash visibility, and highlighted Fides, a SWIFT service bureau and Reval partner. One takeaway: with its financial institution BIC status, Fides may have an advantage over other service bureaus when it comes to delivering data over SWIFT.
2) Treasury in the aftermath of M&A transactions. Recent notable acquisitions in the group served as a basis for the discussion on treasury integration and snags to avoid. This included making certain to take careful stock of the exposures, processes and resources of both entities and to truly understand both the changes required and what can remain as it is (at least for a while), before settling on an integration plan.
3) Designing and implementing an in-house bank and achieving pay-on-behalf-of and electronic bank account management (eBAM). Treasuries that combine POBO/ROBO with an IHB may find that they no longer require bank pooling structures (and vice versa).
4) Money market reform and low interest-rate environment. In a low interest-rate environment, companies should consider bucketing cash for short- and longer-term needs and reassess the investment policy to allow more flexibility, especially in investing the longer-term portion.
Better Bank Connectivity
Reval gave members a good overview of bank connectivity options to enable better cash visibility, which contained valuable information about Fides, a service bureau and Reval partner as well as subsidiary of Credit Suisse, which means it has a bank BIC (as opposed to a corporate BIC), an advantage in balance reporting, for example.
KEY TAKEAWAYS
1) Taking out working capital. A significant reason for a heightened focus on access to cash and working capital is to re-institute halted dividend payments or share buybacks, or pay back loans in efforts to reach a target capital structure in order to achieve a certain credit rating. Several members noted substantial success with reducing the cash levels required to run the business and using the reduction in working capital to justify returning cash to shareholders or retiring the debt with the worst covenants. Supply-chain financing and dynamic discounting to accelerate collections are both tools in this process. This all begins with higher visibility throughout the supply chain and into cash accounts to identify where cash builds up.
2) Higher cash visibility. Related to the next-generation liquidity structures and bank account rationalization is increasing cash visibility to 90 percent or above levels and automating the cash-reporting process; this is with a view to shift from calculating daily or even intra-day cash positions to taking decisions and actions based on those positions.
This increased cash visibility is an important part of efforts to reduce working capital needs and increasingly a means to manage pushback by banks not wanting to see unexpected balances of over $100 million left on deposit in jurisdictions where they don’t need or want the added liability.
3) Leveraging ERPs for better forecasting. Several members noted progress in improving the cash forecasting baseline by tapping SAP for actual cash position information (along with cash visibility with banks) and utilizing the liquidity planning tool within SAP (which some have discovered is included in their SAP license) to build out their cash forecast.
OUTLOOK
As more corporates require connectivity to the banking system while preferring to no longer be tied too closely to any one bank in particular, bank portals and host-to-host arrangements are falling by the wayside and SWIFT solutions proliferate. SWIFT for corporates accessed via the service bureau route is gaining traction, and there are several to choose from. With its FI BIC status, Fides, a Reval partner, may have an advantage over others in smoothing out the information superhighway between your far-flung banks and treasury back at HQ.
How to connect?
Meeting sponsor Reval’s presentation on their link-up with Fides showed members the alternatives to direct SWIFT connection and how each might impact their cash visibility (and pave the way for STP on the payments side as well, the other aspect of the connectivity equation). Here are some pros and cons of the key ways to connect:
- Bank portal or portals. OK when you only have a few banks.
- Host-to-host connections. Also OK when dealing with few banks, but as soon as you want to send bulk payments or SEPA credit transfers, banks will not entertain host-to-host. Some banks in the Nordics may do it if you do a lot of business with them, but generally, at this stage, banks will push toward SWIFT.
- SWIFT Alliance Lite. It is proliferating rapidly but requires a bank investment and contracts with all the banks you are using, and some banks may not have all their branches on SWIFT.
- SWIFT Service Bureau. Fides is one of several service bureaus and it offers solutions for connectivity by sitting in between the company and the banks, and addresses some of the shortfalls of Alliance Lite. Services include: account statement validation; payment validation; conversion services; pre-market sanction filtering service; and outsourced SWIFT for Corporates onboarding (where required). Because Fides is a subsidiary of Credit Suisse, it has a FI BIC code, which helps in making bank reporting more smooth and turnkey.
Managing Treasury in the Aftermath of an M&A
One member led this session highlighting his company’s fairly recent acquisition and aspects of its treasury integration. The acquirer is roughly twice the size of its acquisition, with operations in about the same number of countries (though their footprints are somewhat different, regionally), and about the same number of employees. The number-one goal was to close the transaction without any disruption to the operations. However, the integration teams were tasked with value capture/synergy savings of nearly a billion dollars over just a few years.
KEY TAKEAWAYS
1) M&A integration increasingly involves treasury compare and contrast. Several members’ experience with recently closed or pending acquisitions with similarly sized companies indicated how they were leveraging the opportunity as part of the integration to compare and contrast treasury org structures, treasury IT, and process approach to treasury activities. This aspect of M&A integration provided the ultimate in benchmarking. In the presenting company’s case, it is putting a lot of effort on treasury-activity mapping to ensure a full understanding of who does what and how treasury is organized; another key item is the shared service center, which is much larger at the acquired company, and where to locate the combined one.
2) What to integrate and not? A merger is also an opportunity to take a hard look at the philosophy of integration: how much is enough integration? Which process integrations add value and which processes are better left alone? What should be done in a shared environment and what is better performed separately? Bottom line: If it ain’t broke, don’t fix it. For example, netting may be a big task to integrate. In the presentation, the acquirer showed it has an SAP-powered netting process for in-house cash, intercompany loans, royalties, dividends, and maturing hedges. The acquired company outsources netting.
OUTLOOK
Mergers, acquisitions, divestitures and spin-offs are the “treasury professionals’ full employment act,” as some put it. Though situations differ, there are lessons to be learned from each of them, and they can be shared when the next phase of transactions comes around. Best practices include taking careful stock of the exposures, processes and resources of both entities and truly understanding both the changes required and what can remain as it is (at least for a while), before settling on an integration plan. What may be right for treasury may not be right for the business and minimal operational disruption is paramount.
Money Market Reform and Low Interest Rates
Members got an overview of the state of play in the short-term asset management space, a timely update given the amount of cash many companies have on their balance sheets combined with the challenging interest-rate environment generally and certainly more pronounced in the eurozone.
KEY TAKEAWAYS
- High-quality liquid assets (HQLA) supply is shrinking; demand is rising. Several factors in the current investment environment will contribute to increased demand for, but decreased supply of, the type of high-quality liquid assets that most corporate investment policies insist on. The 2008 crisis dried up the plentiful liquidity that enables access to cash or investments without impacting the market one way or the other much. Additional factors are:
- Direct regulations. MMF reforms in the US and Europe change the way funds will be valued.
- Indirect regulations. Basel III and securities regs surrounding derivatives, collateral and their impact on your broker-dealers’ balance sheets.
- Negative rates in Europe. It is a psycho-logical rather than economic barrier, noted the speaker, a liquidity management expert who dialed in from London. On the investment side, will you take a lower-rated credit to get a positive return rather than a negative one? And if banks are charging hedge funds and the like now for depositing cash, how long before corporates will have to pay, too?
- Bucket the cash for short- and longer-term needs. Most corporates are responding to the low-yield, and in Europe, negative short-term rate environment, by bucketing out something like half their cash for longer-duration (and lower-credit) investment mandates. This puts more pressure on treasurers to be certain about their liquidity needs for the other half of their cash, which again puts the meeting in its cash-centered context.
- Consider separately managed accounts. With money-market reforms taking shape in the US and Europe (a bit behind), a shift to floating NAV may also prompt a look at separately managed accounts (SMAs); factors to consider there are policy adaptation to allow them, choice of custodian and asset manager, and an extension of horizon to at least a year to make an SMA worthwhile.
OUTLOOK
The problem with low and negative rates is not just the investment economics, it is the effect it has on the economy as a whole. Money is the lubrication for the economy and without it, it grinds to a much slower pace. But, the banking system is not uniform and there are peripheral-Europe banks that pay more for deposits. However, that may not suit your risk profile.
Designing and Implementing an In-House Bank
Members explored the considerations of setting up an in-house bank, and compared notes on how to achieve eBAM, pay-on-behalf-of (POBO) and receive-on-behalf-of (ROBO).
KEY TAKEAWAY
1) How much cash and working capital is required to run the company? Peak and trough working capital may differ enormously for seasonal companies (e.g., toy companies), and less so for non-seasonal ones in the B2B space, for example. One member explained that he looks at how the company is run to understand the minimum level of cash and working capital. What are the lowest points? Then, there is an intercompany lending opportunity to even out the troughs.
2) Bring liquidity management structures to next level. Several companies noted updates to pooling structures at the country level and on a regional level with several speaking to updates to euro pools and globally, for example, using one bank as a gateway bank or moving to a more consolidated global pool with another bank. Bringing global pools to the next level now involves linking up China, either directly, or for companies that set up the intercompany lending structure using that to on-lend cash to the global pool. As part of one member’s effort, legal entities have been put under a holding company structure to bring cash up to that level. A financing company associated with the holdco is also being considered. Another member noted that her treasury follows its founder’s culture of independence and seeks independence from banks wherever possible (including mirror bank/payments setups with two banks, with frequent testing to ensure they both work). Accordingly, it is exploring the extent to which ROBO will allow it to centralize global liquidity in one place without the need for a complex global pooling structure. Treasuries that combine POBO/ROBO with an IHB may find that they no longer require bank pooling structures.
3) From intercompany lending and netting structures to the full IHB. Members discussed how far to take an intercompany lending program to the full structure of an in-house bank. If a company already has a robust netting and intercompany lending program to shift liquidity, the business case for a full IHB may be diminished. This is the counterpoint to one member’s vision of the full-scope IHB obviating cash pools. Another consideration is the extent to which pooling and other bank liquidity management structures will be impacted by Basel III and related LCR (liquidity coverage ratio) regulations. Banks’ reluctance to accept large deposits may require greater intermediation by an in-house bank. While all agreed that an IHB offered the most flexibility and structure to add a payment and collection factory with POBO/ROBO, the additional benefit had to be considered carefully before going to tax and legal to get clearance for the IHB.
Scrutiny of intercompany lending structures also has had an impact. One member described a project undertaken with a bank using Moody’s approach to rating 15 different entities in Europe and using that rating to set the intercompany loan rate with each entity. Several members also noted the benefits of leading and lagging, which calls for treasury intervention in the global netting or intercompany lending cycle to delay, accelerate or partially settle intercompany payments to keep liquidity out of regulated jurisdictions or in response to currency risk.
OUTLOOK
Netting, pooling, ROBO, POBO and in-house banks all exist along a spectrum of liquidity-enhancing treasury management techniques that members across The NeuGroup Network are focusing on improving. In some respects, one or a combination of them negates the need for another, e.g., a combined POBO/ROBO with an IHB does not require cash pooling, while a cash pool can essentially function as an in-house bank, if structured right.
CONCLUSION & NEXT STEPS
This meeting focused on cash and access to or control over it in all its forms. As the regulatory environment pushes banks to more carefully consider what type of business they do with what customers, corporates are under increasing pressure to manage their cash and working capital in ways where they themselves exert more control and drive for changes. This may serve to reduce the need for credit from banks (or increasingly from capital markets instead) and push the much-talked-about trend of fewer, but closer bank relationships. Meanwhile, treasury departments are tasked to do ever more with the same or fewer resources, and are looking to maximize what their existing systems can do for them, or which ones should replace their old ones as they are phased out. We look forward to learning how our members’ projects progress during 2015.